UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
Commission File Number 0-15572
FIRST BANCORP
(Exact Name of Registrant as Specified in its Charter)
| North Carolina | 56-1421916 | |
| (State of Incorporation) | (I.R.S. Employer Identification Number) | |
| 300 SW Broad Street, Southern Pines, North Carolina | 28387 | |
| (Address of Principal Executive Offices) | (Zip Code) | |
| Registrant’s telephone number, including area code: | (910) 246-2500 | |
| Securities Registered Pursuant to Section 12(b) of the Act: | ||
| Title of each class | Name of each exchange on which registered | |
| Common Stock, No Par Value | The Nasdaq Global Select Market | |
Securities Registered Pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act of 1933. x YES o NO
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of 1934. o YES x NO
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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. x YES o NO
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). x YES o NO
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of the Form 10-K or any amendment to the Form 10-K. 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 the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
x Large Accelerated Filer o Accelerated Filer o Non-Accelerated Filer
o Smaller Reporting Company o Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o YES x NO
The aggregate market value of the Common Stock, no par value, held by non-affiliates of the registrant, based on the closing price of the Common Stock as of June 30, 2018 as reported by The NASDAQ Global Select Market, was approximately $1,188,000,000.
The number of shares of the registrant’s Common Stock outstanding on February 28, 2019 was 29,723,682.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant’s Proxy Statement to be filed pursuant to Regulation 14A are incorporated herein by reference into Part III.
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| * | Information called for by Part III (Items 10 through 14) is incorporated herein by reference to the Registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Shareholders to be filed with the Securities and Exchange Commission on or before April 30, 2019. |
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This report contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform Act of 1995, which statements are inherently subject to risks and uncertainties. Forward-looking statements are statements that include projections, predictions, expectations or beliefs about future events or results or otherwise are not statements of historical fact. Further, forward-looking statements are intended to speak only as of the date made. Such statements are often characterized by the use of qualifying words (and their derivatives) such as “expect,” “believe,” “estimate,” “plan,” “project,” or other statements concerning our opinions or judgment about future events. Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control. Factors that could influence the accuracy of such forward-looking statements include, but are not limited to, the financial success or changing strategies of our customers, our level of success in integrating acquisitions, actions of government regulators, the level of market interest rates, and general economic conditions. For additional information about factors that could affect the matters discussed in this paragraph, see the “Risk Factors” section in Item 1A of this report.
General Description
First Bancorp (the “Company”) is the fourth largest bank holding company headquartered in North Carolina. At December 31, 2018, the Company had total consolidated assets of $5.9 billion, total loans of $4.2 billion, total deposits of $4.7 billion, and shareholders’ equity of $0.8 billion. Our principal activity is the ownership and operation of First Bank (the “Bank”), a state-chartered bank with its main office in Southern Pines, North Carolina.
The Company was incorporated in North Carolina on December 8, 1983, as Montgomery Bancorp, for the purpose of acquiring 100% of the outstanding common stock of the Bank through a stock-for-stock exchange. On December 31, 1986, the Company changed its name to First Bancorp to conform its name to the name of the Bank, which had changed its name from Bank of Montgomery to First Bank in 1985.
The Bank was organized in 1934 and began banking operations in 1935 as the Bank of Montgomery, named for the county in which it operated. Until September 2013, the Bank’s main office was in Troy, North Carolina, located in the center of Montgomery County. In September 2013, the Company and the Bank moved their main offices approximately 45 miles to Southern Pines, North Carolina, in Moore County. As of December 31, 2018, we conducted business from 101 branches covering a geographical area from Florence, South Carolina to the south, to Wilmington, North Carolina to the east, to Kill Devil Hills, North Carolina to the northeast, to Mayodan, North Carolina to the north, and to Asheville, North Carolina to the west. Of the Bank’s 101 branches, 95 branches are in North Carolina and six branches are in South Carolina. Ranked by assets, the Bank was the fourth largest bank headquartered in North Carolina as of December 31, 2018 and the only one with total assets between $4 billion and $35 billion.
As of December 31, 2018, the Bank had three wholly owned subsidiaries, First Bank Insurance Services, Inc. (“First Bank Insurance”), SBA Complete, Inc. (“SBA Complete”), and First Troy SPE, LLC. First Bank Insurance’s primary business activity is the placement of property and casualty insurance coverage. SBA Complete specializes in providing consulting services for financial institutions across the country related to Small Business Administration (“SBA”) loan origination and servicing. First Troy SPE, LLC, which was organized in December 2009, is a holding entity for certain foreclosed properties.
Our principal executive offices are located at 300 SW Broad Street, Southern Pines, North Carolina, 28387, and our telephone number is (910) 246-2500. Unless the context requires otherwise, references to the “Company,” “we,” “our,” or “us” in this annual report on Form 10-K shall mean collectively First Bancorp and its consolidated subsidiaries.
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General Business
We engage in a full range of banking activities, with the acceptance of deposits and the making of loans being our most basic activities. We offer deposit products such as checking, savings, and money market accounts, as well as time deposits, including various types of certificates of deposits (“CDs”) and individual retirement accounts (“IRAs”). We provide loans for a wide range of consumer and commercial purposes, including loans for business, real estate, personal uses, home improvement and automobiles. We offer residential mortgages through our Mortgage Banking Division, and we offer SBA loans to small business owners across the nation through our SBA Lending Division. We also offer credit cards, debit cards, letters of credit, safe deposit box rentals and electronic funds transfer services, including wire transfers. In addition, we offer internet banking, mobile banking, cash management and bank-by-phone capabilities to our customers, and are affiliated with ATM networks that give our customers access to thousands of ATMs across the country, with no surcharge fee. We also offer a mobile check deposit feature for our mobile banking customers that allows them to securely deposit checks via their smartphone. For our business customers, we offer remote deposit capture, which provides them with a method to electronically transmit checks received from customers into their bank account without having to visit a branch. We are a member of the Certificate of Deposit Account Registry Service (“CDARS”), which gives our customers the ability to obtain Federal Deposit Insurance Corporation (“FDIC”) insurance on deposits of up to $50 million, while continuing to work directly with their local First Bank branch.
Because the majority of our customers are individuals and small to medium-sized businesses located in the markets we serve, management does not believe that the loss of a single customer or group of customers would have a material adverse impact on the Bank. There are no seasonal factors that tend to have any material effect on the Bank’s business, and we do not rely on foreign sources of funds or income. Because we operate primarily within North Carolina and northeastern South Carolina, the economic conditions of these areas could have a material impact on the Company. See additional discussion below in the section entitled “Territory Served and Competition.”
We also offer various ancillary services as part of our commitment to customer service. Through First Bank Insurance, we offer the placement of property and casualty insurance. We also offer non-FDIC insured investment and insurance products, including mutual funds, annuities, long-term care insurance, life insurance, and company retirement plans, as well as financial planning services through our investments division called FB Wealth Management Services.
First Bank also offers SBA loans to small business owners throughout the nation, which is supported by First Bank’s subsidiary, SBA Complete. SBA Complete specializes in providing consulting services for financial institutions across the country related to SBA loan origination and servicing.
The Company is also the parent to a series of statutory business trusts organized for the purpose of issuing trust preferred debt securities that qualify as regulatory capital. See additional discussion below in the section entitled “Borrowings.”
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Territory Served and Competition
Our headquarters are located in Southern Pines, Moore County, North Carolina, where we have a significant concentration of deposits. At the end of 2018, we served regions spread across North Carolina, with additional operations in northeastern South Carolina. The following table presents, for each county where we operated as of December 31, 2018, the number of bank branches operated by the Bank within the county, the approximate amount of deposits with the Bank in the county as of December 31, 2018, our approximate deposit market share at June 30, 2018, and the number of bank competitors located in the county at June 30, 2018.
| County | Number of Branches | Deposits (in millions) | Market Share | Number of Competitors | ||||||||
| Alamance, NC | 1 | $ | 53 | 2.5% | 15 | |||||||
| Beaufort, NC | 2 | 66 | 9.4% | 7 | ||||||||
| Bladen, NC | 1 | 31 | 10.2% | 4 | ||||||||
| Brunswick, NC | 4 | 187 | 8.6% | 11 | ||||||||
| Buncombe, NC | 8 | 538 | 10.3% | 16 | ||||||||
| Cabarrus, NC | 2 | 52 | 2.0% | 11 | ||||||||
| Carteret, NC | 2 | 52 | 3.8% | 8 | ||||||||
| Chatham, NC | 2 | 47 | 6.8% | 9 | ||||||||
| Chesterfield, SC | 1 | 44 | 10.7% | 6 | ||||||||
| Columbus, NC | 2 | 50 | 6.2% | 5 | ||||||||
| Cumberland, NC | 1 | 25 | 0.6% | 14 | ||||||||
| Dare, NC | 1 | 23 | 1.6% | 8 | ||||||||
| Davidson, NC | 2 | 133 | 5.0% | 10 | ||||||||
| Dillon, SC | 3 | 65 | 22.3% | 4 | ||||||||
| Duplin, NC | 3 | 171 | 21.1% | 6 | ||||||||
| Florence, SC | 2 | 57 | 2.4% | 12 | ||||||||
| Forsyth, NC | 4 | 61 | 0.2% | 15 | ||||||||
| Guilford, NC | 6 | 414 | 4.3% | 17 | ||||||||
| Harnett, NC | 3 | 130 | 12.8% | 9 | ||||||||
| Henderson, NC | 2 | 66 | 3.5% | 12 | ||||||||
| Iredell, NC | 3 | 70 | 2.4% | 19 | ||||||||
| Lee, NC | 3 | 209 | 23.4% | 9 | ||||||||
| Madison, NC | 1 | 41 | 41.2% | 1 | ||||||||
| McDowell, NC | 1 | 58 | 17.4% | 5 | ||||||||
| Mecklenburg, NC | 2 | 51 | 0.0% | 24 | ||||||||
| Montgomery, NC | 2 | 137 | 43.5% | 2 | ||||||||
| Moore, NC | 10 | 481 | 35.7% | 9 | ||||||||
| New Hanover, NC | 5 | 215 | 2.2% | 19 | ||||||||
| Onslow, NC | 2 | 100 | 6.8% | 10 | ||||||||
| Pitt, NC | 1 | 22 | 0.7% | 14 | ||||||||
| Randolph, NC | 3 | 143 | 9.4% | 11 | ||||||||
| Richmond, NC | 1 | 62 | 12.6% | 5 | ||||||||
| Robeson, NC | 4 | 204 | 18.8% | 8 | ||||||||
| Rockingham, NC | 1 | 24 | 2.4% | 10 | ||||||||
| Rowan, NC | 1 | 58 | 4.1% | 13 | ||||||||
| Scotland, NC | 1 | 82 | 22.6% | 6 | ||||||||
| Stanly, NC | 4 | 111 | 11.2% | 6 | ||||||||
| Transylvania, NC | 1 | 24 | 4.7% | 6 | ||||||||
| Wake, NC | 3 | 62 | 0.2% | 31 | ||||||||
| Brokered Deposits | — | 240 | ||||||||||
| Total | 101 | $ | 4,659 | |||||||||
Historically, our branches and facilities have been primarily located in small to medium-sized communities, whose economies are based primarily on a variety of industries, including services and manufacturing. Leading producers of lumber and rugs are located in Montgomery County, North Carolina. The Pinehurst area within Moore County, North Carolina, is a widely known golf resort and retirement area. The High Point, North Carolina area is widely known for its furniture market. New Hanover and Brunswick Counties, located in the southeastern coastal region of North Carolina, are popular with tourists and have significant retirement populations. Buncombe County, located in the western region of North Carolina, is a highly diverse area with industries in manufacturing, service, and tourism. Additionally, several of the communities served by the Bank are “bedroom” communities of large cities like Charlotte, Raleigh and Greensboro, while several branches are located in medium-sized cities such as Albemarle, Asheboro, Fayetteville, Greenville, Jacksonville, High Point, Southern Pines, and Sanford.
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In recent years, we have implemented a branch strategy of expansion into larger, higher growth markets. In 2016, this expansion continued with additional investments in Charlotte, Raleigh and the Triad region of North Carolina. Several seasoned bankers joined the Bank and have led our expansion efforts in these markets. We opened our first full service branch in Charlotte in August 2016, after opening a loan production office there in 2015. In Raleigh, we opened a loan production office early in 2016 and upgraded that location to a full service branch in April 2017. In the Triad region, experienced bankers joined us in early 2016 as we opened our first loan production office in Greensboro. Our expansion into higher growth markets was significantly enhanced by three strategic transactions that we implemented in 2016 and 2017. See discussion below in the section entitled “Mergers and Acquisitions.”
We have three counties that hold significant shares of our deposit base. Buncombe County, the former headquarters of one of our 2017 acquisitions (Asheville Savings Bank), holds 12% of our total deposit base. Moore County, the headquarters of the Company, has total deposits comprising approximately 10% of our deposit base, while Guilford County, the former headquarters of another 2017 acquisition (Carolina Bank), also holds 10% of our deposit base. Accordingly, material changes in competition, the economy or the population of these counties could materially impact the Company. No other county comprises more than 10% of our deposit base.
We compete in our various market areas with, among others, several large interstate bank holding companies. These large competitors have substantially greater resources than our Company, including broader geographic markets, higher lending limits and the ability to make greater use of large-scale advertising and promotions. A significant number of interstate banking acquisitions have taken place in the past few years, thus further increasing the size and financial resources of some of our competitors, some of which are among the largest bank holding companies in the nation. In many of our markets, we also compete against smaller, local banks. With banks of all sizes attempting to maximize yields on earning assets, the competition for high-quality loans remains intense. Accordingly, loan rates in our markets continue to be under competitive pressure. Also, with the continued interest rate increases initiated by the Board of Governors of the Federal Reserve System (“Federal Reserve”), the competitive pressure on increasing rates on deposits has intensified. Many of the markets we operate in are particularly competitive markets, with at least ten other financial institutions having a physical presence within those markets.
We compete not only against banking organizations, but also against a wide range of financial service providers, including federally and state-chartered thrift institutions, credit unions, investment and brokerage firms and small-loan or consumer finance companies. One of the credit unions in our market area is among the largest in the nation. Competition among financial institutions of all types is virtually unlimited with respect to legal ability and authority to provide most financial services. We also experience competition from internet loan providers, especially for mortgage loans, and from internet banks, particularly in the area of time deposits.
Despite the competitive market, we believe we have certain advantages over our competition in the areas we serve. We are large enough to be able to more easily absorb higher costs being experienced in the banking industry, particularly regulatory costs and technology costs, than the smaller banks with which we compete. We are also able to originate significantly larger loans than many of our smaller bank competitors. At the same time, we attempt to maintain a banking culture associated with smaller banks – a culture that has a personal and local flavor that appeals to many retail and small business customers. Specifically, we seek to maintain a distinct local identity in each of the communities we serve and we actively sponsor and participate in local civic affairs. Most lending and other customer-related business decisions can be made without the delays often associated with larger institutions. Additionally, employment of local managers and personnel in various offices and low turnover of personnel enable us to establish and maintain long-term relationships with individual and corporate customers. Also, due to acquisitions of other banks headquartered in North Carolina and South Carolina, we are the only bank headquartered in North Carolina with total assets between $4 billion and $35 billion and the only bank headquartered in either state with total assets between $4 billion and $14 billion. We believe that enhances several of our competitive advantages discussed above, as well as provides scarcity value from an investor viewpoint.
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Lending Policy and Procedures
Conservative lending policies and procedures and appropriate underwriting standards are high priorities of the Bank. Loans are approved under our written loan policy, which provides that lending officers, principally branch managers, have authority to approve loans of various amounts up to $350,000 with lending limits varying depending upon the experience of the lending officer and whether the loan is secured or unsecured. We have seven senior lending officers who have authority to approve secured loans up to $500,000 and each of our five Regional Presidents has authority to approve secured loans up to $1,000,000. Loans up to $5,000,000 are approved by the Bank’s Regional Credit Officers through our Credit Administration Department. The Bank’s President and Chief Credit Officer have authority to approve loans up to $10,000,000, while the President and the Chief Credit Officer have joint authority to approve loans up to $25,000,000. The Bank’s Board of Directors maintains loan authority in excess of the Bank’s in-house limit, currently $25,000,000, and generally approves loans through its Executive Loan Committee. All lending authorities are based on the borrower’s Total Credit Exposure (“TCE”), which is an aggregate of the Bank’s lending relationship to the borrower. TCE is based on the borrower’s total credit exposure with the Bank either directly or indirectly through loan guarantees or other borrowing entities related to the borrower through control or ownership.
The Executive Loan Committee reviews and approves loans that exceed the Bank’s in-house limit, loans to executive officers, directors, and their affiliates and, in certain instances, other types of loans. New credit extensions are reviewed daily by our senior management and the Credit Administration Department.
We continually monitor our loan portfolio to identify areas of concern and to enable us to take corrective action. Lending and credit administration officers and the board of directors meet periodically to review past due loans and portfolio quality, while assuring that the Bank is appropriately meeting the credit needs of the communities it serves. Individual lending officers are responsible for monitoring any changes in the financial status of borrowers and pursuing collection of early-stage past due amounts. For certain types of loans that exceed our established parameters of past due status, the Bank’s Asset Resolution Group assumes the management of the loan, and in some cases we engage a third-party firm to assist in collection efforts.
The Bank has an internal Loan Review Department that conducts on-going and targeted reviews of the Bank’s loan portfolio and assesses the Bank’s adherence to loan policies, risk grading and accrual policies. Reports are generated for management based on these activities and findings are used to adjust risk grades as deemed appropriate. In addition, these reports are shared with the Bank’s Board of Directors. The Loan Review Department also provides training assistance to the Bank’s Training and Credit Administration departments.
To further assess the Bank’s loan portfolio and as a secondary review of the Bank’s Loan Review Department, we also contract with an independent consulting firm to review new loan originations meeting certain criteria, as well as to assign risk grades to existing credits meeting certain thresholds. The consulting firm’s observations, comments, and risk grades, including variances with the Bank’s risk grades, are shared with the audit committee of the Company’s board of directors and are considered by management in setting Bank policy, as well as in evaluating the adequacy of our allowance for loan losses. For additional information, see “Allowance for Loan Losses and Loan Loss Experience” under Item 7 below.
Investment Policy and Procedures
We have adopted an investment policy designed to maximize our income from funds not needed to meet loan demand, in a manner consistent with appropriate liquidity and risk objectives. Pursuant to this policy, we may invest in U.S. government and government-sponsored enterprises, mortgage-backed securities, state and municipal obligations, public housing authority bonds, and, to a limited extent, corporate bonds. We may also invest up to $60 million in time deposits with other financial institutions. Time deposit purchases from any one financial institution exceeding FDIC insurance coverage limits are evaluated as a corporate bond and are subject to the same due diligence requirements as corporate bonds (described below).
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In making investment decisions, we do not solely rely on credit ratings to determine the credit-worthiness of an issuer of securities, but we use credit ratings in conjunction with other information when performing due diligence prior to the purchase of a security. Securities that are not rated investment grade will not be purchased. Securities rated below Moody’s BAA or Standard and Poor’s BBB generally will not be purchased. Securities rated below A are periodically reviewed for credit-worthiness. We may purchase non-rated municipal bonds only if such bonds are in our general market area and we determine these bonds have a credit risk no greater than the minimum ratings referred to above. We are also authorized by our Board of Directors to invest a portion of our securities portfolio in high quality corporate bonds, with the amount of such bonds not to exceed 15% of the entire securities portfolio. Prior to purchasing a corporate bond, the Company’s management performs due diligence on the issuer of the bond, and the purchase is not made unless we believe that the purchase of the bond bears no more risk to the Company than would an unsecured loan to the same company. On a quarterly basis, we review the financial statements for the corporate bond issuers that we own for any signs of deterioration so that we can take timely action if deemed necessary.
Our Chief Investment Officer implements the investment policy, monitors the investment portfolio, recommends portfolio strategies and reports to the Company’s Investment Committee. The Investment Committee generally meets on a quarterly basis to review investment activity and to assess the overall position of the securities portfolio. The Investment Committee compares our securities portfolio with portfolios of other companies of comparable size. In addition, reports of all purchases, sales, issuer calls, net profits or losses and market appreciation or depreciation of the securities portfolio are reviewed by our Board of Directors. Once a quarter, our interest rate risk exposure is evaluated by our Board of Directors. Each year, the written investment policy is approved by the board of directors.
Mergers and Acquisitions
As part of our operations, we have pursued an acquisition strategy over the years to augment our organic growth. We regularly evaluate the potential acquisition of various financial institutions. Our acquisitions have generally fallen into one of three categories: 1) an acquisition of a financial institution or branch thereof within a market in which we operate, 2) an acquisition of a financial institution or branch thereof in a market contiguous or nearly contiguous to a market in which we operate, or 3) an acquisition of a company that has products or services that we do not currently offer. Historically, we have paid for our acquisitions with cash and/or common stock and any operating income or loss has been fully borne by the Company beginning on the closing date of the acquisition.
Since becoming a public company in 1987, we have completed numerous acquisitions in each of the three categories described above. We have completed several whole-bank traditional acquisitions in our existing and contiguous markets; we have purchased a number of bank branches from other banks (both in existing market areas and in contiguous/nearly contiguous markets); and we have acquired several insurance agencies, which has provided us with the ability to offer property and casualty insurance coverage.
In 2009, FDIC-assisted acquisitions began to occur frequently as banking regulators closed problem banks. In FDIC-assisted transactions, the acquiring bank often does not pay any consideration for the failed bank, and in some cases receives cash from the FDIC as part of the transaction. In addition, the acquiring bank usually enters into one or more loss share agreements with the FDIC, which affords the acquiring bank significant loss protection. In both 2009 and 2011 we acquired the operations of failed banks in FDIC-assisted transactions. See the Company’s Annual Reports on Form 10-K for those years for more information on these acquisitions.
The following paragraphs describe the other acquisitions that we have completed in the past three years.
In January 2016, we acquired Bankingport, Inc., an insurance agency based in Sanford, North Carolina. Although not material to the Company’s consolidated operations, the acquisition provided us with the opportunity to enhance our product offerings, as well as expand our insurance agency operations into a significant banking market for our Company. Also, this acquisition provides us a larger platform for leveraging insurance services throughout our bank branch network.
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In May 2016, we completed the acquisition of SBA Complete. SBA Complete specializes in consulting with financial institutions across the country related to SBA loan origination and servicing. Many community banks do not have the in-house capability to comprehensively originate and service those types of loans, so they contract with SBA Complete for assistance. To learn more about this subsidiary of the Bank, please visit www.sbacomplete.com. Information included on our Internet site is not incorporated by reference into this annual report.
Soon after the acquisition of SBA Complete, we leveraged its capabilities by launching our own SBA Lending Division. Through a network of specialized First Bank loan officers, this Division offers SBA loans to small business owners throughout the United States. We typically sell the portion of each loan that is guaranteed by the SBA at a premium and record the non-guaranteed portion to our balance sheet. To learn more about our SBA Lending Division, please visit www.firstbanksba.com. Information included on our Internet site is not incorporated by reference into this annual report.
In March 2016, we announced an agreement to exchange our seven Virginia branches, with approximately $151 million in loans and $134 million in deposits, for six North Carolina branches of a community bank with a large Virginia presence that included approximately $152 million in loans and $111 million in deposits. Four of the six branches we assumed were in Winston-Salem, with the other two branches located in the Charlotte-metro markets of Mooresville and Huntersville. The Winston-Salem branches we assumed improved the Triad expansion initiative, while the Mooresville and Huntersville branches increased our Charlotte market expansion. This transaction, which was completed in July 2016, resulted in our exit from western Virginia. The opportunity to assume what is essentially a banking franchise in markets where we had recently invested in human capital was the primary factor we considered in entering into the exchange agreement.
In March 2017, we acquired Carolina Bank Holdings, Inc. (“Carolina Bank”), the parent company of Carolina Bank. Carolina Bank was a community bank headquartered in Greensboro with $682 million in assets, with eight branches located in Greensboro, Winston-Salem, Burlington and Asheboro. This acquisition built on the Winston-Salem expansion previously discussed and significantly accelerated our recent expansion initiative in the Greensboro market.
In September 2017, we acquired Bear Insurance Services, an insurance agency based in Albemarle, North Carolina. This acquisition provided us a larger platform for leveraging insurance services throughout our bank branch network and more than doubled our insurance agency revenue.
In October 2017, we acquired ASB Bancorp, Inc. (“Asheville Savings Bank”), the parent company of Asheville Savings Bank, SSB. Asheville Savings Bank operated in the attractive and high-growth market of Asheville, North Carolina, with $798 million in assets and 13 branches located throughout the Asheville market area.
There are many factors that we consider when evaluating how much to offer for potential acquisition candidates, with a few of the more significant factors being projected impact on earnings per share, projected impact on capital, and projected impact on book value and tangible book value. Significant assumptions that affect this analysis include the estimated future earnings stream of the acquisition candidate, estimated credit and other losses to be incurred, the amount of cost efficiencies that can be realized, and the interest rate earned/lost on the cash received/paid. In addition to these primary factors, we also consider other factors including (but not limited to) marketplace acquisition statistics, location of the candidate in relation to our expansion strategy, market growth potential, management of the candidate, potential integration issues (including corporate culture), and the size of the acquisition candidate.
We plan to continue to evaluate acquisition opportunities that could potentially benefit the Company and its shareholders. These opportunities may include acquisitions that do not fit the categories discussed above.
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Employees
As of December 31, 2018, we had 1,054 full-time and 44 part-time employees. We are not a party to any collective bargaining agreements, and we consider our employee relations to be good.
Supervision and Regulation
As a bank holding company, we are subject to supervision, examination and regulation by the Federal Reserve and the North Carolina Office of the Commissioner of Banks (the “Commissioner”). The Bank is also subject to supervision and examination by the Federal Reserve and the Commissioner. For additional information, see Note 16 to the consolidated financial statements.
Supervision and Regulation of the Company
The Company is a bank holding company within the meaning of the Bank Holding Company Act of 1956, as amended. The Company is also regulated by the Commissioner under the North Carolina banking laws.
A bank holding company is required to file quarterly reports and other information regarding its business operations and those of its subsidiaries with the Federal Reserve. It is also subject to examination by the Federal Reserve and is required to obtain Federal Reserve approval prior to making certain acquisitions of other institutions or voting securities. The Federal Reserve requires the Company to maintain certain levels of capital - see “Capital Resources and Shareholders’ Equity” under Item 7 below. The Federal Reserve also has the authority to take enforcement action against any bank holding company that commits any unsafe or unsound practice, or violates certain laws, regulations or conditions imposed in writing by the Federal Reserve. The Federal Reserve generally prohibits a bank holding company from declaring or paying a cash dividend that would impose undue pressure on the capital of subsidiary banks or would be funded only through borrowing or other arrangements which might adversely affect a bank holding company’s financial position. Under the Federal Reserve policy, a bank holding company is not permitted to continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition.
The Commissioner is empowered to regulate certain acquisitions of North Carolina banks and bank holding companies, issue cease and desist orders for violations of North Carolina banking laws, and promulgate rules necessary to effectuate the purposes of those banking laws.
Regulatory authorities have cease and desist powers over bank holding companies and their nonbank subsidiaries where their actions would constitute a serious threat to the safety, soundness or stability of a subsidiary bank. Those authorities may compel holding companies to invest additional capital into banking subsidiaries upon acquisitions or in the event of significant loan losses or rapid growth of loans or deposits.
The U.S. Congress and the North Carolina General Assembly have periodically considered and adopted legislation that has impacted the Company.
Supervision and Regulation of the Bank
Federal banking regulations applicable to all depository financial institutions, among other things: (i) provide federal bank regulatory agencies with powers to prevent unsafe and unsound banking practices; (ii) restrict preferential loans by banks to “insiders” of banks; (iii) require banks to keep information on loans to major shareholders and executive officers; and (iv) bar certain director and officer interlocks between financial institutions.
As a state-chartered bank, the Bank is subject to the provisions of the North Carolina banking statutes and to regulation by the Commissioner. The Commissioner has a wide range of regulatory authority over the activities and operations of the Bank, and the Commissioner’s staff conducts periodic examinations of the Bank and its affiliates to ensure compliance with state banking laws and regulations and to assess the safety and soundness of the Bank. Among other things, the Commissioner regulates the merger of state-chartered banks, the payment of dividends, loans to officers and directors, recordkeeping, types and amounts of loans and investments, and the establishment of branches. The Commissioner also has cease and desist powers over state-chartered banks for violations of state banking laws or regulations and for unsafe or unsound conduct that is likely to jeopardize the interest of depositors.
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The dividends that may be paid by the Bank to the Company are subject to legal limitations under North Carolina law. In addition, under Federal Reserve regulations, a dividend cannot be paid by the Bank if it would be less than well-capitalized after the dividend. The Federal Reserve may also prevent the payment of a dividend by the Bank if it determines that the payment would be an unsafe and unsound banking practice. The ability of the Company to pay dividends to its shareholders is largely dependent on the dividends paid to the Company by the Bank.
The Federal Reserve is authorized to approve conversions, mergers, and assumptions of deposit liability transactions between insured banks and uninsured banks or institutions, and to prevent capital or surplus diminution in such transactions if the resulting, continuing, or assumed bank is an insured member bank. First Bank is a member of the Federal Reserve System, and accordingly the Federal Reserve also conducts periodic examinations of the Bank to assess its safety and soundness and its compliance with banking laws and regulations, and it has the power to implement changes to, or restrictions on, the Bank’s operations if it finds that a violation is occurring or is threatened. In addition, the Federal Reserve monitors the Bank’s compliance with several banking statutes, such as the Depository Institution Management Interlocks Act and the Community Reinvestment Act of 1977.
FDIC Insurance
As a member of the FDIC, our deposits are insured up to applicable limits by the FDIC, and such insurance is backed by the full faith and credit of the United States Government. The basic deposit insurance level is generally $250,000, as specified in FDIC regulations. For this protection, each insured bank pays a quarterly statutory assessment and is subject to the rules and regulations of the FDIC.
The FDIC insurance premium is based on an institution’s total assets minus its Tier 1 capital. An institution’s premiums are determined based on its capital, supervisory ratings and other factors. Premium rates generally may increase if the FDIC deposit insurance fund is strained due to the cost of bank failures and the number of troubled banks. In addition, if the Bank experiences financial distress or operates in an unsafe or unsound manner, its deposit premiums may increase.
We recognized approximately $2.3 million, $2.4 million, and $2.0 million in FDIC insurance expense in 2018, 2017, and 2016, respectively. In November 2018, the FDIC announced that the Deposit Insurance Fund (“DIF”) reserve ratio exceeded the statutory minimum of 1.35% as of September 30, 2018. Among other things, this resulted in the FDIC awarding assessment credits for banks with less than $10 billion in total assets that had contributed to the DIF in prior years. We were notified in January 2019 that we had received $1.35 million in credits that could be used to offset deposit insurance assessments in the future. When the DIF reaches 1.38%, the FDIC will begin to apply the Bank’s credits against our quarterly deposit insurance assessments. The DIF was 1.36% at December 31, 2018.
The FDIC may conduct examinations of and require reporting by FDIC-insured institutions. It may also prohibit an institution from engaging in any activity that it determines by regulation or order to pose a serious risk to the deposit insurance fund and may terminate the Bank’s deposit insurance if it determines that the institution has engaged in unsafe or unsound practices or is in an unsafe or unsound condition.
Legislative and Regulatory Guidance and Developments
In addition to the regulations that are described above, new legislation is introduced from time to time in the U.S. Congress that may affect our operations. In addition, the regulations governing the Company and the Bank may be amended from time to time by the Federal Reserve, the FDIC, the Securities and Exchange Commission (the “SEC”), or other agencies, as appropriate. Any legislative or regulatory changes, or changes to accounting standards, in the future could adversely affect our operations and financial condition.
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Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
On July 21, 2010, the Dodd-Frank Act became law. The Dodd-Frank Act has had and will continue to have a broad impact on the financial services industry, including significant regulatory and compliance changes including, among other things,
| · | enhanced authority over troubled and failing banks and their holding companies; |
| · | increased capital and liquidity requirements; |
| · | increased regulatory examination fees; and |
| · | specific provisions designed to improve supervision and safety and soundness by imposing restrictions and limitations on the scope and type of banking and financial activities. |
While much of the original provisions of the Dodd-Frank Act were not directly applicable to us due to size thresholds, many of the requirements of the Dodd-Frank Act remain subject to implementation over the course of several years. While we do not currently expect the final requirements of the Dodd-Frank Act to have a material adverse impact on the Company, we do expect them to negatively impact our profitability, require changes to certain of our business practices, including limitations on fee income opportunities, and impose more stringent capital, liquidity and leverage requirements upon the Company. These changes may also require us to invest significant management attention and resources to evaluate and make any changes necessary to comply with the new statutory and regulatory requirements.
In May 2018, the Economic Growth, Regulatory Relief and Consumer Protection Act (the “Economic Growth Act”), was enacted to modify or remove certain financial reform rules and regulations, including some of those implemented under the Dodd-Frank Act. While the Economic Growth Act maintains most of the regulatory structure established by the Dodd-Frank Act, it amends certain aspects of the regulatory framework for small depository institutions with assets less than $10 billion and for large banks with assets of more than $50 billion. Many of these changes could result in meaningful regulatory changes for banks and their holding companies.
The Economic Growth Act, among other matters, expands the definition of qualified mortgages which may be held by a financial institution and provides for an alternative capital rule for financial institutions and their holding companies with total consolidated assets of less than $10 billion. The Economic Growth Act instructed the federal banking regulators to establish a single “Community Bank Leverage Ratio” of between 8% and 10%, which has been proposed to be 9% by the federal regulators. The Community Bank Leverage Ratio provides for a simpler calculation of a bank’s capital ratio than the Basel III provisions currently in place (see below). Any qualifying depository institution or its holding company that exceeds the Community Bank Leverage Ratio will be considered to have met generally applicable leverage and risk-based regulatory capital requirements and any qualifying depository institution that exceeds the new ratio will be considered to be “well capitalized” under the prompt corrective action rules. In addition, the Economic Growth Act includes regulatory relief for community banks of certain sizes regarding regulatory examination cycles, call reports, the Volcker Rule (proprietary trading prohibitions), mortgage disclosures and risk weights for certain high-risk commercial real estate loans. We continue to evaluate the impact that the rules issued thus far under the Economic Growth Act will have on the bank, but we currently do not believe that it will be significant. At this time, we do not expect to opt-in to the ability to utilize the Community Bank Leverage Ratio and will instead continue to use the Basel III standards.
It is difficult at this time to predict when or how any new standards under the Economic Growth Act will ultimately be applied to, or what specific impact the Economic Growth Act and the yet-to-be-written implementing rules and regulations will have on us.
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Regulatory Capital Requirement under Basel III
Effective January 1, 2015, the Company and the Bank became subject to new regulatory capital rules agreed to by the Basel Committee on Banking Supervision in the accord referred to as “Basel III.” Under the Basel III Capital Rules, the following were the initial minimum capital ratios applicable to the Company and the Bank as of January 1, 2015:
| · | 4.5% CET1 to risk-weighted assets; |
| · | 6.0% Tier I capital (that is, CET1 plus Additional Tier I capital) to risk-weighted assets; |
| · | 8.0% total capital (that is, Tier I capital plus Tier II capital) to risk-weighted assets; and |
| · | 4.0% Tier I leverage ratio (that is Tier I capital) to quarterly average total assets. |
Common Equity Tier I capital (“CET1”) is comprised of common stock and related surplus, plus retained earnings, and is reduced by goodwill and other intangible assets, net of associated deferred tax liabilities. Tier I capital is comprised of CET1 capital plus Additional Tier I capital, which for the Company includes non-cumulative perpetual preferred stock and trust preferred securities. Total capital is comprised of Tier I capital plus certain adjustments, the largest of which for the Company and the Bank is the allowance for loan losses. Risk-weighted assets refer to the on- and off-balance sheet exposures of the Company and the Bank, adjusted for their related risk levels using formulas set forth in Federal Reserve regulations
The Basel III Capital Rules include a “capital conservation buffer,” composed entirely of CET1, on top of these minimum risk-weighted asset ratios. The capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the capital conservation buffer will face constraints on dividends, equity repurchases and compensation based on the amount of the shortfall. The implementation of the capital conservation buffer began on January 1, 2016 at 0.625% and is being phased in over a four-year period (increasing by that amount on each subsequent January 1, until it reaches 2.5% on January 1, 2019). Thus, effective as of January 1, 2019, the Company and the Bank are required to maintain this additional capital conservation buffer of 2.5% of CET1, resulting in the following minimum capital ratios:
| · | 4.5% CET1 to risk-weighted assets, plus the capital conservation buffer, effectively resulting in a minimum ratio of CET1 to risk-weighted assets of at least 7%; |
| · | 6.0% Tier I capital to risk-weighted assets, plus the capital conservation buffer, effectively resulting in a minimum Tier I capital ratio of at least 8.5%; |
| · | 8.0% total capital to risk-weighted assets, plus the capital conservation buffer, effectively resulting in a minimum total capital ratio of at least 10.5%; and |
| · | 4.0% Tier I leverage ratio |
In addition to the minimum capital requirements described above, the regulatory framework for prompt corrective action also contains specific capital guidelines for a bank’s classification as “well capitalized.” The current specific guidelines are as follows:
| · | CET1 Capital Ratio of at least 6.50%; |
| · | Tier I Capital Ratio of at least 8.00%; |
| · | Total Capital Ratio of at least 10.00%; and a |
| · | Leverage Ratio of at least 5.00%. |
If a bank falls below “well capitalized” status in any of these three ratios, it must ask for FDIC permission to originate or renew brokered deposits. First Bank is well-capitalized under all capital guidelines.
Current Expected Credit Loss Accounting Standard
The Financial Accounting Standards Board (“FASB”) has adopted a new accounting standard that will be effective for the Company on January 1, 2020. This standard, referred to as Current Expected Credit Loss (or “CECL”), requires FDIC-insured institutions and their holding companies (banking organizations) to recognize credit losses expected over the life of certain financial assets. CECL covers a broader range of assets than the current method of recognizing credit losses and generally results in earlier recognition of credit losses. Upon adoption of CECL, a banking organization must record a one-time adjustment to its allowance for loan losses as of the beginning of the fiscal year of adoption equal to the difference, if any, between the amount of credit loss allowances under the current methodology and the amount required under CECL. For a banking organization, implementation of CECL is generally likely to reduce retained earnings, and to affect other items, in a manner that reduces its regulatory capital. We continue our ongoing analysis on the impact of this guidance on our consolidated financial statements.
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The Federal Reserve and the FDIC have adopted a rule that provides a banking organization the option to phase-in over a three-year period the effects of CECL on its regulatory capital upon the adoption of the standard.
Liquidity Requirements
Historically, the regulation and monitoring of bank and bank holding company liquidity has been addressed as a supervisory matter, without required formulaic measures. Liquidity risk management has become increasingly important since the financial crisis. The Basel III liquidity framework requires banks and bank holding companies to measure their liquidity against specific liquidity tests that, although similar in some respects to liquidity measures historically applied by banks and regulators for management and supervisory purposes, going forward would be required by regulation. One test, referred to as the liquidity coverage ratio (“LCR”), is designed to ensure that the banking entity maintains an adequate level of unencumbered high-quality liquid assets equal to the entity’s expected net cash outflow for a 30-day time horizon (or, if greater, 25% of its expected total cash outflow) under an acute liquidity stress scenario. The other test, referred to as the net stable funding ratio (“NSFR”), is designed to promote more medium- and long-term funding of the assets and activities of banking entities over a one-year time horizon. These requirements will incent banking entities to increase their holdings of Treasury securities and other sovereign debt as a component of assets and increase the use of long-term debt as a funding source.
In September 2014, the federal bank regulators approved final rules implementing the LCR for advanced approaches banking organizations (i.e., banking organizations with $250 billion or more in total consolidated assets or $10 billion or more in total on-balance sheet foreign exposure) and a modified version of the LCR for bank holding companies with at least $50 billion in total consolidated assets that are not advanced approach banking organizations, neither of which would apply to the Company or the Bank. The federal bank regulators have not yet proposed rules to implement the NSFR or addressed the scope of bank organizations to which it will apply.
Following the enactment of the Economic Growth Act in May 2018, the Federal Reserve stated that it would no longer require bank holding companies with less than $100 billion in total consolidated assets to comply with the modified version of the LCR. In addition, in October 2018, the federal bank regulators proposed to revise their liquidity requirements so that banking organizations that are not global systematically important banks and have less than $250 billion in total consolidated assets and less than $75 billion in each of off-balance sheet exposure, nonbank assets, cross-jurisdictional activity and short-term wholesale funding would not be subject to any LCR or NSFR requirements.
Financial Privacy and Cybersecurity
The federal banking regulators have adopted rules that limit the ability of banks and other financial institutions to disclose non-public information about consumers to non-affiliated third parties. These limitations require disclosure of privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to a non-affiliated third party. These regulations affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors. In addition, consumers may also prevent disclosure of certain information among affiliated companies that is assembled or used to determine eligibility for a product or service, such as that shown on consumer credit reports and asset and income information from applications. Consumers also have the option to direct banks and other financial institutions not to share information about transactions and experiences with affiliated companies for the purpose of marketing products or services.
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In March 2015, federal regulators issued two related statements regarding cybersecurity. One statement indicates that financial institutions should design multiple layers of security controls to establish lines of defense and to ensure that their risk management processes also address the risk posed by compromised customer credentials, including security measures to reliably authenticate customers accessing Internet-based services of the financial institution. The other statement indicates that a financial institution’s management is expected to maintain sufficient business continuity planning processes to ensure the rapid recovery, resumption and maintenance of the institution’s operations after a cyber-attack involving destructive malware. A financial institution is also expected to develop appropriate processes to enable recovery of data and business operations and address rebuilding network capabilities and restoring data if the institution or its critical service providers fall victim to this type of cyber-attack. The Company has multiple Information Security Programs that reflect the requirements of this guidance. If, however, we fail to observe the regulatory guidance in the future, we could be subject to various regulatory sanctions, including financial penalties.
In the ordinary course of business, we rely on electronic communications and information systems to conduct our operations and to store sensitive data. We employ an in-depth, layered, defensive approach that leverages people, processes and technology to manage and maintain cybersecurity controls. We employ a variety of preventative and detective tools to monitor, block, and provide alerts regarding suspicious activity, as well as to report on any suspected advanced persistent threats. Notwithstanding the strength of our defensive measures, the threat from cyber-attacks is severe, attacks are sophisticated and increasing in volume, and attackers respond rapidly to changes in defensive measures. While to date we have not detected a significant compromise, significant data loss or any material financial losses related to cybersecurity attacks, our systems and those of our customers and third-party service providers are under constant threat and it is possible that we could experience a significant event in the future. Risks and exposures related to cybersecurity attacks are expected to remain high for the foreseeable future due to the rapidly evolving nature and sophistication of these threats, as well as due to the expanding use of Internet banking, mobile banking and other technology-based products and services by us and our customers. See Item 1A. Risk Factors for a further discussion of risks related to cybersecurity.
Anti-Money Laundering and the USA Patriot Act
A major focus of governmental policy on financial institutions in recent years has been aimed at combating money laundering and terrorist financing. The USA PATRIOT Act of 2001 (the “USA Patriot Act”) substantially broadened the scope of United States anti-money laundering laws and regulations by imposing significant new compliance and due diligence obligations on financial institutions, creating new crimes and penalties and expanding the extra-territorial jurisdiction of the United States.
On May 11, 2016, the Financial Crimes Enforcement Network (“FinCEN”) issued new anti-money laundering (“AML”) rules governing corporate entities doing business with banks and other financial institutions that are subject to the requirements of the USA Patriot Act. The AML rules impose significant due diligence obligations on financial institutions with respect to opening of new accounts and the monitoring of existing accounts. Under the AML rules, a financial institution must identify persons owning or controlling 25% or more of a “legal entity,” whenever the legal entity opens a new account at the bank. The financial institution must also identify an individual who has substantial management authority at the legal entity, such as a CEO, CFO, or managing partner. These new AML rules became effective in May 2018.
The AML rules codify within the FinCEN regulations the “pillars” that must be included in a financial institutions AML compliance program. Regulators previously communicated their expectations with respect to four of these pillars: (1) the development of internal policies, procedures, and control; (2) the designation of a compliance officer; (3) the establishment of an ongoing employee training program; and (4) the implementation of an independent audit function to test programs. The new beneficial ownership requirement establishes a fifth pillar. Among other things, this new pillar includes the necessity to monitor and update the beneficial ownership of a legal entity, including the need to subject corporate borrowers to due diligence requests from financial institutions for certifications with respect to their beneficial owners. Failure of a financial institution to maintain and implement adequate programs to combat money laundering and terrorist financing, or to comply with all of the relevant laws or regulations, could have serious legal and reputational consequences for the institution, including causing applicable bank regulatory authorities not to approve merger or acquisition transactions when regulatory approval is required or to prohibit such transactions even if approval is not required.
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Office of Foreign Assets Control Regulation
The United States has imposed economic sanctions that affect transactions with designated foreign countries, nationals and others which are administered by the U.S. Treasury Department Office of Foreign Assets Control (“OFAC”). Failure to comply with these sanctions could have serious legal and reputational consequences, including causing applicable bank regulatory authorities not to approve merger or acquisition transactions when regulatory approval is required or to prohibit such transactions even if approval is not required.
Community Reinvestment Act
The Community Reinvestment Act of 1977 (“CRA”) requires depository institutions to assist in meeting the credit needs of their market areas consistent with safe and sound banking practice. Under the CRA, each depository institution is required to help meet the credit needs of its market areas by, among other things, providing credit to low- and moderate- income individuals and communities. Depository institutions are periodically examined for compliance with the CRA and are assigned ratings. In order for a financial holding company to commence any new activity permitted by the BHC Act, or to acquire any company engaged in any new activity permitted by the BHC Act, each insured depository institution subsidiary of the financial holding company must have received a rating of at least “satisfactory” in its most recent examination under the CRA. Furthermore, banking regulators take into account CRA ratings when considering a request for an approval of a proposed transaction. First Bank received a rating of “satisfactory” in its most recent CRA examination. In April 2018, the U.S. Department of Treasury issued a memorandum to the federal banking regulators with recommended changes to the CRA’s implementing regulations to reduce their complexity and associated burden on banks. We will continue to evaluate the impact of any changes to the regulations implementing the CRA.
Federal Securities Laws
The common stock of the Company is registered with the SEC under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Therefore, the Company is subject to the reporting, information disclosure, proxy solicitation, insider trading limits and other requirements imposed on public companies by the SEC under the Exchange Act. This includes limits on sales of stock by certain insiders and the filing of insider ownership reports with the SEC. The SEC and Nasdaq have adopted regulations under the Sarbanes-Oxley Act of 2002 and the Dodd Frank Act that apply to the Company as a Nasdaq-traded, public company, which seek to improve corporate governance, provide enhanced penalties for financial reporting improprieties and improve the reliability of disclosures in SEC filings.
Tax Cuts and Jobs Act
U.S. tax reform legislation was signed into law on December 22, 2017 and made broad and complex changes to the U.S. Internal Revenue Code, including reducing the U.S. statutory tax rate from 35% to 21% beginning on January 1, 2018. With the adoption of this tax reform, our deferred tax balances were reduced as of December 31, 2017 to reflect the new 21% statutory tax rate.
Beginning January 1, 2018, we applied the federal tax rate of 21% to our taxable earnings. Other provisions of U.S. tax reform that we adopted on January 1, 2018, include, but are not limited to: 1) provisions reducing the dividends received deduction; 2) essentially eliminating U.S. federal income taxes on dividends from foreign subsidiaries; 3) retaining an element of current inclusion of certain earnings of controlled foreign corporations; 4) eliminating the corporate alternative minimum tax ("AMT") and 5) changing how existing AMT credits will be realized.
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Available Information
We maintain a corporate Internet site at www.LocalFirstBank.com, which contains a link within the “Investor Relations” section of the site to each of our filings with the SEC, including our annual reports on Form 10-K, our quarterly reports on Form 10-Q, our current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act. These filings are available, free of charge, as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. These filings can also be accessed at the SEC’s website located at www.sec.gov. Information included on our Internet site is not incorporated by reference into this annual report.
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An investment in our common stock involves certain risks. Before you invest in our common stock, you should be aware that there are various risks, including those described below, which could affect the value of your investment in the future. The trading price of our common stock could decline due to any of these risks, and you may lose all or part of your investment. The risk factors described in this section, as well as any cautionary language in this report, provide examples of risks, uncertainties and events that could have a material adverse effect on our business, including our operating results and financial condition. In addition to the risks and uncertainties described below, other risks and uncertainties not currently known to us, or that we currently deem to be immaterial, also may materially or adversely affect our business, financial condition, and results of operations. The value or market price of our common stock could decline due to any of these identified or other unidentified risks.
Risks Related to Our Business
Unfavorable economic conditions could adversely affect our business.
Our business is subject to periodic fluctuations based on national, regional and local economic conditions. These fluctuations are not predictable, cannot be controlled, and may have a material adverse impact on our operations and financial condition. Our banking operations are primarily locally oriented and community-based. Our retail and commercial banking activities are primarily concentrated within the same geographic footprint. Our markets include most of North Carolina and parts of South Carolina. Worsening economic conditions within our markets could have a material adverse effect on our financial condition, results of operations and cash flows. Accordingly, we expect to continue to be dependent upon local business conditions as well as conditions in the local residential and commercial real estate markets we serve. Unfavorable changes in unemployment, real estate values, interest rates and other factors could weaken the economies of the communities we serve. In recent years, economic growth and business activity across a wide range of industries has been slow and uneven and there can be no assurance that economic conditions will continue to improve, and these conditions could worsen. In addition, oil price volatility, the level of U.S. debt and global economic conditions have had a destabilizing effect on financial markets. Weakness in any of our market areas could have an adverse impact on our earnings, and consequently our financial condition and capital adequacy.
Cybersecurity incidents could disrupt business operations, result in the loss of critical and confidential information, and adversely impact our reputation and results of operations.
Global cybersecurity threats and incidents can range from uncoordinated individual attempts to gain unauthorized access to information technology (IT) systems to sophisticated and targeted measures known as advanced persistent threats, directed at the Company and/or its third party service providers. While we have experienced, and expect to continue to experience, these types of threats and incidents, none of them to date have been material to the Company. Although we employ comprehensive measures to prevent, detect, address and mitigate these threats (including access controls, employee training, data encryption, vulnerability assessments, continuous monitoring of our IT networks and systems and maintenance of backup and protective systems), cybersecurity incidents, depending on their nature and scope, could potentially result in the misappropriation, destruction, corruption or unavailability of critical data and confidential or proprietary information (our own or that of third parties) and the disruption of business operations. The potential consequences of a material cybersecurity incident include reputational damage, litigation with third parties and increased cybersecurity protection and remediation costs, which in turn could materially adversely affect our results of operations.
Our allowance for loan losses may not be adequate to cover actual losses; we may need to materially increase our allowance for loan losses under CECL.
Like all financial institutions, we maintain an allowance for loan losses to provide for probable losses caused by customer loan defaults. The allowance for loan losses may not be adequate to cover actual loan losses, and in this case additional and larger provisions for loan losses would be required to replenish the allowance. Provisions for loan losses are a direct charge against income.
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We establish the amount of the allowance for loan losses based on historical loss rates, as well as estimates and assumptions about future events. Because of the extensive use of estimates and assumptions, our actual loan losses could differ, possibly significantly, from our estimate. We believe that our allowance for loan losses is adequate to provide for probable losses, but it is possible that the allowance for loan losses will need to be increased for credit reasons or that regulators will require us to increase this allowance. Either of these occurrences could materially and adversely affect our earnings and profitability.
In addition, the measure of our allowance for loan losses is dependent on the adoption of new accounting standards. The FASB issued an Accounting Standards Update related to CECL, the new credit impairment model, which will become effective on January 1, 2020 for the Company. This new model requires financial institutions to estimate and develop a provision for credit losses at origination for the lifetime of the loan, as opposed to reserving for probable incurred losses up to the balance sheet date. Under the CECL model, credit deterioration will be reflected in the income statement in the period of origination or acquisition of the loan, with changes in expected credit losses due to further credit deterioration or improvement reflected in the periods in which the expectation changes. Accordingly, the CECL model will likely require financial institutions like the Company to increase their allowances for loan losses. Moreover, the CECL model will likely create more volatility in our level of allowance for loan losses in the periods after adoption.
We are subject to extensive regulation, which could have an adverse effect on our operations.
We are subject to extensive regulation and supervision from the Commissioner and the Federal Reserve. This regulation and supervision is intended primarily to enhance the safe and sound operation of the Bank and for the protection of the FDIC insurance fund and our depositors and borrowers, rather than for holders of our equity securities. In the past, our business has been materially affected by these regulations. This trend is likely to continue in the future.
Regulatory authorities have extensive discretion in their supervisory and enforcement activities, including the imposition of restrictions on operations, the classification of our assets and the determination of the level of allowance for loan losses. Changes in the regulations that apply to us, or changes in our compliance with regulations, could have a material impact on our operations.
We face a risk of noncompliance and enforcement action with the Bank Secrecy Act and other anti-money laundering statutes and regulations.
The federal Bank Secrecy Act, the Patriot Act and other laws and regulations require financial institutions, among other duties, to institute and maintain effective anti-money laundering programs and file suspicious activity and currency transaction reports as appropriate. The FINCEN, established by the Treasury to administer the Bank Secrecy Act, is authorized to impose significant civil money penalties for violations of those requirements and has recently engaged in coordinated enforcement efforts with the individual federal banking regulators, as well as the U.S. Department of Justice, Drug Enforcement Administration and Internal Revenue Service. There is also increased scrutiny of compliance with the rules enforced by the OFAC. Federal and state bank regulators also have begun to focus on compliance with Bank Secrecy Act and AML regulations. If our policies, procedures and systems are deemed deficient or the policies, procedures and systems of the financial institutions that we have already acquired or may acquire in the future are deficient, we would be subject to liability, including fines and regulatory actions such as restrictions on our ability to pay dividends and the necessity to obtain regulatory approvals to proceed with certain aspects of our business plan, including our acquisition plans, which would negatively impact our business, financial condition and results of operations. Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could also have serious reputational consequences for us.
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Consumers may decide not to use banks to complete their financial transactions.
Technology and other changes are allowing parties to complete financial transactions through alternative methods that historically have involved banks. For example, consumers can now maintain funds that would have historically been held as bank deposits in brokerage accounts, mutual funds or general-purpose reloadable prepaid cards. Consumers can also complete transactions such as paying bills and/or transferring funds directly without the assistance of banks. The process of eliminating banks as intermediaries, known as “disintermediation,” could result in the loss of fee income, as well as the loss of customer deposits and the related income generated from those deposits. The loss of these revenue streams and the lower cost of deposits as a source of funds could have a material adverse effect on our financial condition and results of operations.
Negative public opinion regarding our Company and the financial services industry in general, could damage our reputation and adversely impact our earnings.
Reputation risk, or the risk to our business, earnings and capital from negative public opinion regarding our Company and the financial services industry in general, is inherent in our business. Negative public opinion can result from actual or alleged conduct in any number of activities, including lending practices, corporate governance and acquisitions, and from actions taken by government regulators and community organizations in response to those activities. Negative public opinion can adversely affect our ability to keep and attract clients and employees and can expose us to litigation and regulatory action. Although we have taken steps to minimize reputation risk in dealing with our clients and communities, this risk will always be present given the nature of our business.
We may make future acquisitions, which could dilute current shareholders’ stock ownership and expose us to additional risks.
In accordance with our strategic plan, we evaluate opportunities to acquire other banks and branch locations to expand the Company. As a result, we may engage in acquisitions and other transactions that could have a material effect on our operating results and financial condition, including short and long-term liquidity. Our acquisition activities could require us to issue a significant number of shares of common stock or other securities and/or to use a substantial amount of cash, other liquid assets, and/or incur debt. In addition, if goodwill recorded in connection with our potential future acquisitions were determined to be impaired, then we would be required to recognize a charge against our earnings, which could materially and adversely affect our results of operations during the period in which the impairment was recognized.
Our acquisition activities could involve a number of additional risks, some of which are described in more detail elsewhere in this report and include:
| · | the possibility that expected benefits may not materialize in the timeframe expected or at all, or may be more costly to achieve; | ||
| · | incurring the time and expense associated with identifying and evaluating potential acquisitions and merger partners and negotiating potential transactions, resulting in management’s attention being diverted from the operation of our existing business; | ||
| · | using inaccurate estimates and judgments to evaluate credit, operations, management, and market risks with respect to the target institution or assets; | ||
| · | incurring the time and expense required to integrate the operations and personnel of the combined businesses; | ||
| · | the possibility that we will be unable to successfully implement integration strategies, due to challenges associated with integrating complex systems, technology, banking centers, and other assets of the acquired bank in a manner that minimizes any adverse effect on customers, suppliers, employees, and other constituencies; |
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| · | the possibility of regulatory approval for the acquisition being delayed, impeded, restrictively conditioned or denied due to existing or new regulatory issues surrounding the Company, the target institution or the proposed combined entity as a result of, among other things, issues related to AML and Bank Secrecy Act compliance, fair lending laws, fair housing laws, consumer protection laws, unfair, deceptive, or abusive acts or practices regulations, or CRA requirements, and the possibility that any such issues associated with the target institution, which we may or may not be aware of at the time of the acquisition, could impact the combined entity after completion of the acquisition; | ||
| · | the possibility that the acquisition may not be timely completed, if at all; | ||
| · | creating an adverse short-term effect on our results of operations; and | ||
| · | losing key employees and customers as a result of an acquisition that is poorly received. |
If we do not successfully manage these risks, our acquisition activities could have a material adverse effect on our operating results and financial condition, including short- and long-term liquidity.
The soundness of other financial institutions could adversely affect us.
Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services companies are interrelated as a result of trading, clearing, counterparty or other relationships. We have exposure to many different industries and counterparties, and we routinely execute transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, and investment banks. Defaults by, or even rumors or questions about, one or more financial services companies, or the financial services industry generally, have led to market-wide liquidity problems and could lead to losses or defaults by us or by other institutions. We can make no assurance that any such losses would not materially and adversely affect our business, financial condition or results of operations.
We are subject to interest rate risk, which could negatively impact earnings.
Net interest income is the most significant component of our earnings. Our net interest income results from the difference between the yields we earn on our interest-earning assets, primarily loans and investments, and the rates that we pay on our interest-bearing liabilities, primarily deposits and borrowings. When interest rates change, the yields we earn on our interest-earning assets and the rates we pay on our interest-bearing liabilities do not necessarily move in tandem with each other because of the difference between their maturities and repricing characteristics. This mismatch can negatively impact net interest income if the margin between yields earned and rates paid narrows. Interest rate environment changes can occur at any time and are affected by many factors that are outside our control, including inflation, recession, unemployment trends, the Federal Reserve’s monetary policy, domestic and international disorder and instability in domestic and foreign financial markets.
In the normal course of business, we process large volumes of transactions involving millions of dollars. If our internal controls fail to work as expected, if our systems are used in an unauthorized manner, or if our employees subvert our internal controls, we could experience significant losses.
We process large volumes of transactions on a daily basis involving millions of dollars and are exposed to numerous types of operational risk. Operational risk includes the risk of fraud by persons inside or outside the Company, the execution of unauthorized transactions by employees, errors relating to transaction processing and systems and breaches of the internal control system and compliance requirements. This risk also includes potential legal actions that could arise as a result of an operational deficiency or as a result of noncompliance with applicable regulatory standards.
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We establish and maintain systems of internal operational controls that provide us with timely and accurate information about our level of operational risk. Although not foolproof, these systems have been designed to manage operational risk at appropriate, cost-effective levels. Procedures exist that are designed to ensure that policies relating to conduct, ethics, and business practices are followed. From time to time, losses from operational risk may occur, including the effects of operational errors. We continually monitor and improve our internal controls, data processing systems, and corporate-wide processes and procedures, but there can be no assurance that future losses will not occur.
Liquidity risk could impair our ability to fund operations and jeopardize our financial condition.
Liquidity is essential to our business. We rely on a number of different sources in order to meet our potential liquidity demands. Our primary sources of liquidity are increases in deposit accounts, cash flows from loan payments and our securities portfolio. Borrowings also provide us with a source of funds to meet liquidity demands. An inability to raise funds through deposits, borrowings, the sale of loans and other sources could have a substantial negative effect on our liquidity.
Our access to funding sources in amounts adequate to finance our activities or on terms which are acceptable to us could be impaired by factors that affect us specifically, or the financial services industry or economy in general. Factors that could detrimentally impact our access to liquidity sources include adverse regulatory action against us or a decrease in the level of our business activity as a result of a downturn in the markets in which our loans are concentrated. Our ability to borrow could also be impaired by factors that are not specific to us, such as a disruption in the financial markets or negative views and expectations about the prospects for the financial services industry in light of the recent turmoil faced by banking organizations or deterioration in credit markets.
If our goodwill becomes impaired, we may be required to record a significant charge to earnings.
We have goodwill recorded on our balance sheet as an asset with a carrying value as of December 31, 2018 of $234.4 million. Under generally accepted accounting principles, goodwill is required to be tested for impairment at least annually and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The test for goodwill impairment involves comparing the fair value of a company’s reporting units to their respective carrying values. We have three reporting units – 1) First Bank with $222.7 million in goodwill, 2) First Bank Insurance with $7.4 million in goodwill, and 3) SBA activities, including SBA Complete and our SBA Lending Division, with $4.3 million in goodwill. The price of our common stock is one of several factors available for estimating the fair value of our reporting units and is most closely associated with our First Bank reporting unit. Subject to the results of other valuation techniques, if the price of our common stock falls below book value, it could indicate that a portion of our goodwill is impaired. Accordingly, for this reason or other reasons that indicate that the goodwill at any of our reporting units is impaired, we may be required to record a significant charge to earnings in our financial statements during the period in which any impairment of our goodwill is determined, which could have a negative impact on our results of operations.
We might be required to raise additional capital in the future, but that capital may not be available or may not be available on terms acceptable to us when it is needed.
We are required to maintain adequate capital levels to support our operations. In the future, we might need to raise additional capital to support growth, absorb loan losses, or meet more stringent capital requirements. Our ability to raise additional capital will depend on conditions in the capital markets at that time, which are outside our control, and on our financial performance. Accordingly, we cannot be certain of our ability to raise additional capital in the future if needed or on terms acceptable to us. If we cannot raise additional capital when needed, our ability to conduct our business could be materially impaired.
We may issue additional shares of stock or equity derivative securities that will dilute the percentage ownership interest of existing shareholders and may dilute the book value per share of our common stock and adversely affect the terms on which we may obtain additional capital.
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Our authorized capital includes 40,000,000 shares of common stock and 5,000,000 shares of preferred stock. As of December 31, 2018, we had 29,724,874 shares of common stock outstanding and had reserved for issuance 9,000 shares underlying options that are or may become exercisable at an average price of $14.35 per share. In addition, as of December 31, 2018, we had the ability to issue 750,707 shares of common stock pursuant to options and restricted stock under our existing equity compensation plans and 53,496 contingently issuable shares that are tied to performance goals associated with a corporate acquisition.
Subject to applicable NASDAQ rules, our board generally has the authority, without action by or vote of the shareholders, to issue all or part of any authorized but unissued shares of stock for any corporate purpose. Such corporate purposes could include, among other things, issuances of equity-based incentives under or outside of our equity compensation plans, issuances of equity in business combination transactions, and issuances of equity to raise additional capital to support growth or to otherwise strengthen our balance sheet. Any issuance of additional shares of stock or equity derivative securities will dilute the percentage ownership interest of our shareholders and may dilute the book value per share of our common stock. Shares we issue in connection with any such offering will increase the total number of outstanding shares and may dilute the economic and voting ownership interest of our existing shareholders.
We may be adversely impacted by the transition from LIBOR as a reference rate.
In 2017, the United Kingdom’s Financial Conduct Authority announced that after 2021 it would no longer compel banks to submit the rates required to calculate the London Interbank Offered Rate (“LIBOR”). This announcement indicated that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021. Consequently, at this time, it is not possible to predict whether and to what extent banks will continue to provide submissions for the calculation of LIBOR. Similarly, it is not possible to predict whether LIBOR will continue to be viewed as an acceptable market benchmark, what rate or rates may become accepted alternatives to LIBOR, or what the effect of any such changes in views or alternatives may be on the markets for LIBOR-indexed financial instruments.
We have a significant number of loans and borrowings with attributes that are either directly or indirectly dependent on LIBOR. The transition from LIBOR could create considerable costs and additional risk. Furthermore, failure to adequately manage this transition process with our customers could adversely impact our reputation. Although we are currently unable to assess what the ultimate impact of the transition from LIBOR will be, failure to adequately manage the transition could have a material adverse effect on our business, financial condition and results of operations.
Future acquisitions may be delayed, impeded, or prohibited due to regulatory issues.
Future acquisitions by the Company, particularly those of financial institutions, are subject to approval by a variety of federal and state regulatory agencies. The process for obtaining these required regulatory approvals has become substantially more difficult in recent years. Regulatory approvals could be delayed, impeded, restrictively conditioned or denied due to existing or new regulatory issues we have, or may have, with regulatory agencies, including, without limitation, issues related to AML and Bank Secrecy Act compliance, fair lending laws, fair housing laws, consumer protection laws, unfair, deceptive, or abusive acts or practices regulations, CRA issues, and other similar laws and regulations. We may fail to pursue, evaluate or complete strategic and competitively significant acquisition opportunities as a result of our inability, or perceived or anticipated inability, to obtain regulatory approvals in a timely manner, under reasonable conditions or at all. Difficulties associated with potential acquisitions that may result from these factors could have a material adverse effect on our business, and, in turn, our financial condition and results of operations.
We may be exposed to difficulties in combining the operations of acquired businesses into our own operations, which may prevent us from achieving the expected benefits from our acquisition activities.
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We may not be able to fully achieve the strategic objectives and operating efficiencies that we anticipate in our acquisition activities. Inherent uncertainties exist in integrating the operations of an acquired business. In addition, the markets and industries in which the Company and our potential acquisition targets operate are highly competitive. We may lose customers or the customers of acquired entities as a result of an acquisition. We also may lose key personnel from the acquired entity as a result of an acquisition. We may not discover all known and unknown factors when examining a company for acquisition during the due diligence period. These factors could produce unintended and unexpected consequences for us. Undiscovered factors as a result of acquisition, pursued by non-related third party entities, could bring civil, criminal, and financial liabilities against us, our management, and the management of those entities acquired. These factors could contribute to the Company not achieving the expected benefits from its acquisitions within desired time frames.
We are subject to federal and state fair lending laws, and failure to comply with these laws could lead to material penalties.
Federal and state fair lending laws and regulations, such as the Equal Credit Opportunity Act and the Fair Housing Act, impose nondiscriminatory lending requirements on financial institutions. The Department of Justice, the Consumer Finance Protection Bureau and other federal and state agencies are responsible for enforcing these laws and regulations. Private parties may also have the ability to challenge an institution’s performance under fair lending laws in private class action litigation. A successful challenge to our performance under the fair lending laws and regulations could adversely impact our CRA rating and result in a wide variety of sanctions, including the required payment of damages and civil money penalties, injunctive relief, imposition of restrictions on or delays in approving merger and acquisition activity and restrictions on expansion activity, which could negatively impact our reputation, business, financial condition and results of operations.
We could experience losses due to competition with other financial institutions.
We face substantial competition in all areas of our operations from a variety of different competitors, both within and beyond our principal markets, many of which are larger and may have more financial resources. Such competitors primarily include national, regional and internet banks within the various markets in which we operate. We also face competition from many other types of financial institutions, including, without limitation, thrifts, credit unions, finance companies, brokerage firms, insurance companies and other financial intermediaries, such as online lenders and banks. The financial services industry could become even more competitive as a result of legislative and regulatory changes and continued consolidation. In addition, as customer preferences and expectations continue to evolve, technology has lowered barriers to entry and made it possible for nonbanks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting) and merchant banking. Many of our competitors have fewer regulatory constraints and may have lower cost structures. Additionally, due to their size, many competitors may be able to achieve economies of scale and, as a result, may offer a broader range of products and services as well as better pricing for those products and services than we can.
Our ability to compete successfully depends on a number of factors, including, among other things:
| · | the ability to develop, maintain, and build upon long-term customer relationships based on top quality service, high ethical standards, and safe, sound assets; |
| · | the ability to expand our market position; |
| · | the scope, relevance, and pricing of products and services offered to meet customer needs and demands; |
| · | the rate at which we introduce new products and services relative to our competitors; |
| · | customer satisfaction with our level of service; and |
| · | industry and general economic trends. |
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Failure to perform in any of these areas could significantly weaken our competitive position, which could adversely affect our growth and profitability, which, in turn, could have a material adverse effect on our financial condition and results of operations.
Failure to keep pace with technological change could adversely affect our business.
The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and to reduce costs. Our future success depends, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our customers. Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse impact on our business and, in turn, our financial condition and results of operations.
New lines of business or new products and services may subject us to additional risk.
From time to time, we may implement new lines of business or offer new products and services within existing lines of business. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and/or new products and services, we may invest significant time and resources. Initial timetables for the introduction and development of new lines of business and/or new products or services may not be achieved and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives, and shifting market preferences, may also impact the successful implementation of a new line of business and/or a new product or service. Furthermore, any new line of business and/or new product or service could have a significant impact on the effectiveness of our system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business and/or new products or services could have a material adverse effect on our business and, in turn, our financial condition and results of operations.
In May 2016, we completed the acquisition of SBA Complete. SBA Complete specializes in consulting with financial institutions across the country related to SBA loan origination and servicing. We leveraged the expertise assumed in the acquisition of SBA Complete to launch our own SBA Lending Division in the third quarter of 2016. These are both relatively new lines of business for the Bank with unique operational, control and accounting risks, which if not properly managed, could result in losses for our Company.
Our reported financial results are impacted by management’s selection of accounting methods and certain assumptions and estimates.
Our accounting policies and methods are fundamental to the way we record and report our financial condition and results of operations. Our management must exercise judgment in selecting and applying many of these accounting policies and methods so they comply with generally accepted accounting principles and reflect management’s judgment of the most appropriate manner to report our financial condition and results. In some cases, management must select the accounting policy or method to apply from two or more alternatives, any of which may be reasonable under the circumstances, yet may result in reporting materially different results than would have been reported under a different alternative.
Certain accounting policies are critical to presenting our financial condition and results. They require management to make difficult, subjective or complex judgments about matters that are uncertain. Materially different amounts could be reported under different conditions or using different assumptions or estimates. These critical accounting policies include: the allowance for loan losses; intangible assets; and the fair value and discount accretion of acquired loans.
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Changes in accounting standards could materially impact our financial statements.
From time to time accounting standards setters change the financial accounting and reporting standards that govern the preparation of our financial statements. These changes can be difficult to predict and can materially impact how we record and report our financial condition and results of operations. In some cases, we could be required to apply a new or revised standard retroactively, resulting in changes to previously reported financial results or a cumulative charge to retained earnings. See Note 1(v) – Recent Accounting Pronouncements in the notes to consolidated financial statements included in Item 8. Financial Statements.
Our business continuity plans or data security systems could prove to be inadequate, resulting in a material interruption in, or disruption to, our business and a negative impact on our results of operations.
We rely heavily on communications and information systems to conduct our business. Our daily operations depend on the operational effectiveness of our technology. We rely on our systems to accurately track and record our assets and liabilities. Any failure, interruption or breach in security of our computer systems or outside technology, whether due to severe weather, natural disasters, acts of war or terrorism, criminal activity, cyber attacks or other factors, could result in failures or disruptions in general ledger, deposit, loan, customer relationship management, and other systems leading to inaccurate financial records. This could materially affect our business operations and financial condition. While we have disaster recovery and other policies and procedures designed to prevent or limit the effect of any failure, interruption or security breach of our information systems, there can be no assurance that any such failures, interruptions, or security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any failures, interruptions or security breaches of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on our results of operations.
In addition, the Bank provides its customers the ability to bank online and through mobile banking. The secure transmission of confidential information over the Internet is a critical element of online and mobile banking. While we use qualified third party vendors to test and audit our network, our network could become vulnerable to unauthorized access, computer viruses, phishing schemes and other security issues. The Bank may be required to spend significant capital and other resources to alleviate problems caused by security breaches or computer viruses. To the extent that the Bank’s activities or the activities of its customers involve the storage and transmission of confidential information, security breaches and viruses could expose the Bank to claims, litigation, and other potential liabilities. Any inability to prevent security breaches or computer viruses could also cause existing customers to lose confidence in the Bank’s systems and could adversely affect its reputation and its ability to generate deposits.
Additionally, we outsource the processing of our core data system, as well as other systems such as online banking, to third party vendors. Prior to establishing an outsourcing relationship, and on an ongoing basis thereafter, management monitors key vendor controls and procedures related to information technology, which includes reviewing reports of service auditor’s examinations. If our third party provider encounters difficulties or if we have difficulty in communicating with such third party, it will significantly affect our ability to adequately process and account for customer transactions, which would significantly affect our business operations.
We rely on certain external vendors.
We are reliant upon certain external vendors to provide products and services necessary to maintain our day-to-day operations. Accordingly, our operations are exposed to risk that these vendors will not perform in accordance with applicable contractual arrangements or service level agreements. We maintain a system of policies and procedures designed to monitor vendor risks including, among other things, (i) changes in the vendor’s organizational structure, (ii) changes in the vendor’s financial condition and (iii) changes in the vendor’s support for existing products and services. While we believe these policies and procedures help to mitigate risk, and our vendors are not the sole source of service, the failure of an external vendor to perform in accordance with applicable contractual arrangements or the service level agreements could be disruptive to our operations, which could have a material adverse impact on our business and its financial condition and results of operations.
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We are subject to losses due to errors, omissions or fraudulent behavior by our employees, clients, counterparties or other third parties.
We are exposed to many types of operational risk, including the risk of fraud by employees and third parties, clerical recordkeeping errors and transactional errors. Our business is dependent on our employees as well as third-party service providers to process a large number of increasingly complex transactions. We could be materially and adversely affected if employees, clients, counterparties or other third parties caused an operational breakdown or failure, either as a result of human error, fraudulent manipulation or purposeful damage to any of our operations or systems.
In deciding whether to extend credit or to enter into other transactions with clients and counterparties, we may rely on information furnished to us by or on behalf of clients and counterparties, including financial statements and other financial information, which we do not independently verify. We also may rely on representations of clients and counterparties as to the accuracy and completeness of that information and, with respect to financial statements, on reports of independent auditors. For example, in deciding whether to extend credit to a client, we may assume that the client’s audited financial statements conform with U.S. Generally Accepted Accounting Principles (“GAAP”) and present fairly, in all material respects, the financial condition, results of operations and cash flows of the client. Our financial condition and results of operations could be negatively affected to the extent we rely on financial statements that do not comply with GAAP or are materially misleading, any of which could be caused by errors, omissions, or fraudulent behavior by our employees, clients, counterparties, or other third parties.
Risks Related to the Company’s Common Stock
There can be no assurance that we will continue to pay cash dividends.
Although we have historically paid cash dividends, there is no assurance that we will continue to pay cash dividends. Future payment of cash dividends, if any, will be at the discretion of our board of directors and will be dependent upon our financial condition, results of operations, capital requirements, economic conditions, and such other factors as the board may deem relevant.
Future sales of our stock by our shareholders or the perception that those sales could occur may cause our stock price to decline.
Although our common stock is listed for trading in The NASDAQ Global Select Market under the symbol “FBNC”, the trading volume in our common stock is lower than that of other larger financial services companies. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of our common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control. Given the relatively low trading volume of our common stock, significant sales of our common stock in the public market, or the perception that those sales may occur, could cause the trading price of our common stock to decline or to be lower than it otherwise might be in the absence of those sales or perceptions.
Our stock price can be volatile.
Stock price volatility may make it more difficult for you to resell your common stock when you want and at prices you find attractive. Our stock price can fluctuate significantly in response to a variety of factors including the risk factors discussed elsewhere in this report that are outside of our control and which may occur regardless of our operating results.
An investment in the Company’s common stock is not an insured deposit.
The Company’s common stock is not a bank deposit and, therefore, is not insured against loss by the FDIC, any other deposit insurance fund or by any other public or private entity. Investment in the Company’s common stock is inherently risky for the reasons described in this “Risk Factors” section and elsewhere in this report and is subject to the same market forces that affect the price of common stock in any company. As a result, if you acquire the Company’s common stock, you could lose some or all of your investment.
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Item 1B. Unresolved Staff Comments
None
The main offices of the Company and the Bank are located in a three-story building in the central business district of Southern Pines, North Carolina and is owned by the Bank. The building houses administrative facilities. The Bank’s Operations Division, including customer accounting functions, offices for information technology operations, and offices for loan operations, are primarily housed in two one-story steel frame buildings in Troy, North Carolina. Both of these buildings are owned by the Bank. At December 31, 2018, the Company operated 101 bank branches. The Company owned all of its bank branch premises except eight branch offices for which the land and buildings are leased and nine branch offices for which the land is leased but the building is owned. The Bank also leases one loan production office and five other office locations for administrative functions. The Bank also leases 10 locations for our SBA related activities and leases three properties for our insurance subsidiary. There are no options to purchase or lease additional properties. The Company considers its facilities adequate to meet current needs and believes that lease renewals or replacement properties can be acquired as necessary to meet future needs.
Various legal proceedings may arise in the ordinary course of business and may be pending or threatened against the Company and its subsidiaries. Neither the Company nor any of its subsidiaries is involved in any pending legal proceedings that management believes are material to the Company or its consolidated financial position. If an exposure were to be identified, it is the Company’s policy to establish and accrue appropriate reserves during the accounting period in which a loss is deemed to be probable and the amount is determinable.
Item 4. Mine Safety Disclosure
Not applicable.
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Item 5. Market for the Registrant’s Common Stock, Related Shareholder Matters, and Issuer Purchases of Equity Securities
Our common stock trades on The NASDAQ Global Select Market under the trading symbol “FBNC”. Tables 1 and 22 included in “Management’s Discussion and Analysis” below provide historic information on the market price for the Company’s common stock. As of December 31, 2018, there were approximately 1,700 shareholders of record and another 7,100 shareholders whose stock is held in “street name.”
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Performance Graph
The performance graph shown below compares the Company’s cumulative total return to shareholders for the five-year period commencing December 31, 2013 and ending December 31, 2018, with the cumulative total return of the Russell 2000 Index (reflecting overall stock market performance of small-capitalization companies), an index of banks with between $1 billion and $5 billion in assets, and an index of banks with between $5 billion and $10 billion in assets, both as constructed by SNL Securities, LP (reflecting changes in banking industry stocks). In 2017, the Company’s total assets increased above $5 billion due to acquisition transactions. The graph and table assume that $100 was invested on December 31, 2013 in each of the Company’s common stock, the Russell 2000 Index, and the SNL Bank Indexes, and that all dividends were reinvested.
First Bancorp
Comparison of Five-Year Total Return Performances (1)
Five Years Ending December 31, 2018
| Total Return Index Values (1) December 31, | ||||||||||||||||||||||||
| 2013 | 2014 | 2015 | 2016 | 2017 | 2018 | |||||||||||||||||||
| First Bancorp | $ | 100.00 | 113.12 | 116.87 | 171.94 | 225.92 | 211.23 | |||||||||||||||||
| Russell 2000 | 100.00 | 104.89 | 100.26 | 121.63 | 139.44 | 124.09 | ||||||||||||||||||
| SNL Index-Banks between $1 billion and $5 billion | 100.00 | 104.56 | 117.04 | 168.38 | 179.51 | 157.27 | ||||||||||||||||||
| SNL Index-Banks between $5 billion and $10 billion | 100.00 | 103.01 | 117.34 | 168.11 | 167.48 | 151.57 | ||||||||||||||||||
_____________
| (1) | Total return indices were provided from an independent source, SNL Securities LP, Charlottesville, Virginia, and assume initial investment of $100 on December 31, 2013, reinvestment of dividends, and changes in market values. Total return index numerical values used in this example are for illustrative purposes only. |
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Issuer Purchases of Equity Securities
Pursuant to authorizations by the Company’s Board of Directors, the Company has from time to time repurchased shares of common stock in private transactions and in open-market purchases. The Company did not repurchase any shares of its common stock during the quarter ended December 31, 2018.
| Issuer Purchases of Equity Securities | ||||||||||||||||
| Period | Total Number of Shares Purchased (2) | Average Price Paid Per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) | Maximum Number of Shares That May Yet Be Purchased Under the Plans or Programs (1) | ||||||||||||
| Month #1 (October 1, 2018 to October 31, 2018) | — | $ | — | — | 214,241 | |||||||||||
| Month #2 (November 1, 2018 to November 30, 2018) | — | — | — | 214,241 | ||||||||||||
| Month #3 (December 1, 2018 to December 31, 2018) | — | — | — | 214,241 | ||||||||||||
| Total | — | $ | — | — | 214,241 | |||||||||||
___________________
| (1) | All shares available for repurchase are pursuant to publicly announced share repurchase authorizations. As of December 31, 2018, the Company had the authorization to repurchase up to 375,000 shares of the Company’s stock (per July 30, 2004 authorization). On February 5, 2019, the Company announced that its Board of Directors had approved the authorization to repurchase up to $25,000,000 of the Company’s common stock, which replaces the share authorization noted above. The repurchase authorization has an expiration date of December 31, 2019. |
| (2) | The table above does not include shares that were used by option holders to satisfy the exercise price of the options issued by the Company to its employees and directors pursuant to the Company’s stock option plans. There were no such transactions in the three months ended December 31, 2018. |
Also see “Additional Information Regarding the Registrant’s Equity Compensation Plans” in Item 12.
Item 6. Selected Consolidated Financial Data
Table 1 on page 63 of this report sets forth the selected consolidated financial data for the Company.
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s Discussion and Analysis is intended to assist readers in understanding our results of operations and changes in financial position for the past three years. This discussion should be read in conjunction with the consolidated financial statements and accompanying notes beginning on page 81 of this report and the supplemental financial data contained in Tables 1 through 22 beginning on page 68 of this report. This discussion may contain forward-looking statements that involve risks and uncertainties. Our actual results could differ significantly from those anticipated in forward-looking statements as a result of various factors. The following discussion is intended to assist in understanding the financial condition and results of operations of the Company.
Overview - 2018 Compared to 2017
We reported net income per diluted common share of $3.01 in 2018, a 65.4% increase compared to 2017.
| Financial Highlights | ||||||||||||
| ($ in thousands except per share data) | 2018 | 2017 | Change | |||||||||
| Earnings | ||||||||||||
| Net interest income | $ | 207,430 | 164,711 | 25.9% | ||||||||
| Provision (reversal) for loan losses | (3,589 | ) | 723 | n/m | ||||||||
| Noninterest income | 61,834 | 48,908 | 26.4% | |||||||||
| Noninterest expenses | 159,375 | 145,157 | 9.8% | |||||||||
| Income before income taxes | 113,478 | 67,739 | 67.5% | |||||||||
| Income tax expense | 24,189 | 21,767 | 11.1% | |||||||||
| Net income available to common shareholders | $ | 89,289 | 45,972 | 94.2% | ||||||||
| Net income per common share | ||||||||||||
| Basic | $ | 3.02 | 1.82 | 65.9% | ||||||||
| Diluted | 3.01 | 1.82 | 65.4% | |||||||||
| Balances At Year End | ||||||||||||
| Assets | $ | 5,864,116 | 5,547,037 | 5.7% | ||||||||
| Loans | 4,249,064 | 4,042,369 | 5.1% | |||||||||
| Deposits | 4,659,339 | 4,406,955 | 5.7% | |||||||||
| Ratios | ||||||||||||
| Return on average assets | 1.57% | 1.00% | ||||||||||
| Return on average common equity | 12.27% | 8.62% | ||||||||||
| Net interest margin (taxable-equivalent) | 4.12% | 4.08% | ||||||||||
| n/m – not meaningful | ||||||||||||
For the year ended December 31, 2018, we recorded net income available to common shareholders of $89.3 million, or $3.01 per diluted common share, an increase of 65.4% in earnings per share from the $46.0 million, or $1.82 per diluted common share, for 2017. The higher earnings in 2018 were primarily due to the acquisitions of Carolina Bank on March 3, 2017 and Asheville Savings Bank on October 1, 2017. The assets, liabilities and earnings for the acquisitions were recorded beginning on their respective acquisition dates. Therefore, the year 2018 includes twelve months of earnings from the acquisition compared to only a partial year in 2017. Earnings and earnings per share for 2018 also benefitted from operational efficiencies that were realized in the integration of the acquisitions that became fully realized in the final three quarters of 2018.
Net interest income for the year ended December 31, 2018 amounted to $207.4 million, a 25.9% increase from the $164.7 million recorded in 2017. The increase in net interest income was due to a higher net interest margin realized in 2018 as well growth in interest-earning assets, which for the twelve month period was impacted by assets acquired in the Carolina Bank and Asheville Savings Bank acquisitions. Also, see the section entitled “Net Interest Income” for additional information.
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Our net interest margin (tax-equivalent net interest income divided by average earning assets) was 4.12% for 2018 compared to 4.08% for 2017. The increase in the net interest margin realized in 2018 were a result of asset yields increasing slightly more than liability costs. Interest income for the year ended December 31, 2018 was also positively impacted by approximately $0.8 million in interest recoveries received in the first quarter, which primarily related to the same loans that experienced significant allowance for loan loss recoveries discussed below in “Provisions for Loan Losses and Asset Quality.”
We recorded a negative provision for loan losses of $3.6 million (reduction of the allowance for loan losses) in 2018 compared to a provision for loan losses of $0.7 million in 2017. The negative provision for 2018 was due primarily to several large loan recoveries realized in the first quarter of 2018 totaling $3.7 million. Generally, our provisions for loan losses have been low over the past several years due to strong asset quality, including low loan charge-offs.
For the year ended December 31, 2018, noninterest income amounted to $61.8 million compared to $48.9 million for 2017. The primary reasons for the increase in core noninterest income in 2018 were the previously discussed bank acquisitions and an insurance agency acquisition completed late in 2017, as well as higher income derived from the Company’s SBA consulting fees and SBA loan sale gains. See the section entitled “Noninterest Income” for additional information.
Noninterest expenses for the year ended December 31, 2018 amounted to $159.4 million compared to $145.2 million in 2017. Most categories of noninterest expense experienced general increases in 2018 due to our growth, primarily due to the previously noted acquisitions. Also impacting expenses were other growth initiatives, including continued growth of SBA Complete and the SBA Lending Division. See the section entitled “Noninterest Expense” for additional information.
For the years ended December 31, 2018 and 2017, our effective tax rates were 21.3% and 32.1%, respectively. The lower effective tax rate in 2018 was due to the Tax Cuts and Jobs Act, which was signed into law in December 2017 and reduced the federal corporate tax rate from 35% to 21%.
Total assets at December 31, 2018 amounted to $5.9 billion, a 5.7% increase from a year earlier. Loan growth for the year ended December 31, 2018 amounted to $207 million, or 5.1%, and deposit growth amounted to $252.4 million, or 5.7%.
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Overview - 2017 Compared to 2016
We reported net income per diluted common share of $1.82 in 2017, a 36.8% increase compared to 2016. The increased earnings were primarily due to the Company’s acquisitions of Carolina Bank and Asheville Savings Bank, with loans increasing 49.1% and deposits increasing 49.5% year over year.
| Financial Highlights | ||||||||||||
| ($ in thousands except per share data) | 2017 | 2016 | Change | |||||||||
| Earnings | ||||||||||||
| Net interest income | $ | 164,711 | 123,380 | 33.5% | ||||||||
| Provision for loan losses - non-covered | 723 | (23 | ) | n/m | ||||||||
| Noninterest income | 48,908 | 25,551 | 91.4% | |||||||||
| Noninterest expenses | 145,157 | 106,821 | 35.9% | |||||||||
| Income before income taxes | 67,739 | 42,133 | 60.8% | |||||||||
| Income tax expense | 21,767 | 14,624 | 48.8% | |||||||||
| Net income | 45,972 | 27,509 | 67.1% | |||||||||
| Preferred stock dividends | — | (175 | ) | |||||||||
| Net income available to common shareholders | $ | 45,972 | 27,334 | 68.2% | ||||||||
| Net income per common share | ||||||||||||
| Basic | $ | 1.82 | 1.37 | 32.8% | ||||||||
| Diluted | 1.82 | 1.33 | 36.8% | |||||||||
| Balances At Year End | ||||||||||||
| Assets | $ | 5,547,037 | 3,614,862 | 53.5% | ||||||||
| Loans | 4,042,369 | 2,710,712 | 49.1% | |||||||||
| Deposits | 4,406,955 | 2,947,353 | 49.5% | |||||||||
| Ratios | ||||||||||||
| Return on average assets | 1.00% | 0.80% | ||||||||||
| Return on average common equity | 8.62% | 7.73% | ||||||||||
| Net interest margin (taxable-equivalent) | 4.08% | 4.03% | ||||||||||
| n/m – not meaningful | ||||||||||||
For the year ended December 31, 2017, we reported net income available to common shareholders of $46.0 million, or $1.82 per diluted common share, an increase of 36.8% in earnings per share from the $27.3 million, or $1.33 per diluted common share, in 2016. The higher earnings in 2017 were primarily the result of the growth of the Company, including two acquisitions completed in 2017, as well as other initiatives that increased profitability.
On March 3, 2017, we acquired Carolina Bank, which operated eight branches and three mortgage loan offices, primarily in the Triad region of North Carolina. As of the acquisition date, Carolina Bank had total assets of $682 million, including $497 million in loans and $585 million in deposits.
On October 1, 2017, we acquired Asheville Savings Bank, which operated through 13 branches in the Asheville area. As of the acquisition date, Asheville Savings Bank reported total assets of approximately $798 million, including $606 million in loans and $679 million in deposits.
Net interest income for the year ended December 31, 2017 amounted to $164.7 million, a 33.5% increase from the $123.4 million recorded in 2016. The increase in net interest income was primarily due to the acquisitions of Carolina Bank and Asheville Savings Bank, as well as higher amounts of loans outstanding as a result of organic growth. Also, see the section entitled “Net Interest Income” for additional information.
Our net interest margin was 4.08% for 2017 compared to 4.03% for 2016. Asset yields increased primarily as a result of three Federal Reserve interest rate increases in 2017. Funding costs also increased in 2017, but to a slightly lesser degree.
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We recorded a provision for loan losses of $0.7 million in 2017 compared to a negative provision for loan losses (reduction of the allowance for loan losses) of $23,000 in 2016. The low level of provision for loan losses in both years was primarily due to stable and improving loan quality. Our nonperforming assets to total assets ratio was 0.96% at December 31, 2017 compared to 1.64% at December 31, 2016. We experienced net loan charge-offs of $1.2 million in 2017, compared to $3.7 million in 2016. Annualized net charge-offs to average loans for the year ended December 31, 2017 amounted to 0.04%, compared to 0.14% for 2016.
For the year ended December 31, 2017, noninterest income amounted to $48.9 million compared to $25.6 million for 2016. The primary reasons for the increase in core noninterest income in 2017 were the acquisitions of Carolina Bank and Asheville Savings Bank, as well as income derived from the Company’s SBA consulting fees and SBA loan sale gains, which began during the middle of 2016. See the section entitled “Noninterest Income” for additional information.
Noninterest expenses for the year ended December 31, 2017 amounted to $145.2 million compared to $106.8 million in 2016. The increase in noninterest expenses in 2017 related primarily to the Company’s acquisition of Carolina Bank and Asheville Savings Bank. Also impacting expenses were other growth initiatives, including continued growth of SBA Complete and the SBA Lending Division, as well as the acquisition of an insurance agency during the third quarter of 2017. See the section entitled “Noninterest Expense” for additional information.
Our effective tax rate for 2017 was 32.1% compared to 34.7% in 2016. The lower effective tax rate was due to the 2017 Tax Cuts and Jobs Act, which was signed into law in December 2017, and required us to revalue our deferred tax assets and liabilities at the new rate. The impact of revaluing our net deferred tax liability was to reduce income tax expense by approximately $1.3 million in the fourth quarter of 2017.
Total assets at December 31, 2017 amounted to $5.5 billion, a 53.5% increase from a year earlier. Total loans at December 31, 2017 amounted to $4.0 billion, a 49.1% increase from a year earlier, and total deposits amounted to $4.4 billion at December 31, 2017, a 49.5% increase from a year earlier.
In addition to the growth realized from the acquisitions of Carolina Bank and Asheville Savings Bank, the Company experienced strong organic loan and deposit growth during 2017. For 2017, organic loan growth (i.e. excluding loan balances assumed from Carolina Bank and Asheville Savings Bank) amounted to $228.0 million, or 8.4%. For 2017, organic deposit growth amounted to $195.1 million, or 6.6%. The strong growth was a result of ongoing internal initiatives to enhance loan and deposit growth, including the Company’s recent expansion into higher growth markets. The organic loan growth noted above was driven by Bank’s entrance into the North Carolina markets of Charlotte, Raleigh, and the Triad.
We generally believe that the outlook for 2019 is favorable. We expect the national economy, as well as our local economies, to continue to be strong, with unemployment rates remaining at low levels.
The Federal Reserve has increased short-term interest rates by 225 basis points since late 2015. While long-term interest rates have also increased, they have increased less than short-term interest rates. Generally, our interest-earning assets have longer terms than our funding costs, and therefore this is potentially an unfavorable rate scenario for our company because it may result in our asset yields increasing less than our funding costs. Thus far, we have been able to control the rise in our deposit costs and therefore our net interest margin has been stable, and even expanded slightly. But due to competitive pressures, this may not be possible in the future, and we expect that maintaining our recently realized net interest margin will be challenging.
With several consecutive years of low levels of nonperforming assets and low loan charge-offs, we’ve recorded minimal provisions for loan losses over the past four years and our allowance for loan loss level has trended downward to a low level by historical standards. While we do not currently anticipate a significant rise in delinquencies or loan losses, we believe it is likely that we will need to record higher levels of provisions for loan losses than recent years to provide for loan growth and more normal levels of losses. Any credit deterioration would result in further increases.
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We experienced solid organic loan and deposit growth in 2018. Our local economies are strong, and we continue to experience positive results from our expansion into the larger and higher growth markets in North Carolina. With our positioning in high growth markets and other strategic initiatives, we expect to experience continued loan and deposit growth in 2019.
The accounting principles we follow and our methods of applying these principles conform with accounting principles generally accepted in the United States of America and with general practices followed by the banking industry. Certain of these principles involve a significant amount of judgment and may involve the use of estimates based on our best assumptions at the time of the estimation. The allowance for loan losses, intangible assets, and the fair value and discount accretion of acquired loans are three policies we have identified as being more sensitive in terms of judgments and estimates, taking into account their overall potential impact to our consolidated financial statements.
Allowance for Loan Losses
Due to the estimation process and the potential materiality of the amounts involved, we have identified the accounting for the allowance for loan losses and the related provision for loan losses as an accounting policy critical to our consolidated financial statements. The provision for loan losses charged to operations is an amount sufficient to bring the allowance for loan losses to an estimated balance considered adequate to absorb losses inherent in the portfolio.
Our determination of the adequacy of the allowance is based primarily on a mathematical model that estimates the appropriate allowance for loan losses. This model has two components. The first component involves the estimation of losses on individually evaluated “impaired loans.” A loan is considered to be impaired when, based on current information and events, it is probable we will be unable to collect all amounts due according to the contractual terms of the original loan agreement. A loan is specifically evaluated for an appropriate valuation allowance if the loan balance is above a prescribed evaluation threshold (which varies based on credit quality, accruing status, troubled debt restructured status, purchased credit impaired status, and type of collateral) and the loan is determined to be impaired. The estimated valuation allowance is the difference, if any, between the loan balance outstanding and the value of the impaired loan as determined by either 1) an estimate of the cash flows that we expect to receive from the borrower discounted at the loan’s effective rate, or 2) in the case of a collateral-dependent loan, the fair value of the collateral.
The second component of the allowance model is an estimate of losses for all loans not considered to be impaired loans (“general reserve loans”). General reserve loans are segregated into pools by loan type and risk grade and estimated loss percentages are assigned to each loan pool based on historical losses. The historical loss percentages are then adjusted for any environmental factors used to reflect changes in the collectability of the portfolio not captured by historical data.
The reserves estimated for individually evaluated impaired loans are then added to the reserve estimated for general reserve loans. This becomes our “allocated allowance.” The allocated allowance is compared to the actual allowance for loan losses recorded on our books and any adjustment necessary for the recorded allowance to absorb losses inherent in the portfolio is recorded as a provision for loan losses. The provision for loan losses is a direct charge to earnings in the period recorded. Any remaining difference between the allocated allowance and the actual allowance for loan losses recorded on our books is our “unallocated allowance.”
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Purchased loans are recorded at fair value at the acquisition date. Therefore, amounts deemed uncollectible at the acquisition date represent a discount to the loan value and become a part of the fair value calculation. Subsequent decreases in the amount expected to be collected result in a provision for loan losses with a corresponding increase in the allowance for loan losses. Subsequent increases in the amount expected to be collected are accreted into income over the life of the loan and this accretion is referred to as “loan discount accretion.”
Within the purchased loan portfolio, loans are deemed purchased credit impaired at acquisition if the bank believes it will not be able to collect all contractual cash flows. Performing loans with an unamortized discount or premium that are not deemed purchased credit impaired are considered to be purchased performing loans. Purchased credit impaired loans are individually evaluated as impaired loans, as described above, while purchased performing loans are evaluated as general reserve loans. For purchased performing loan pools, any computed allowance that is in excess of remaining net discounts is a component of the allocated allowance.
Although we use the best information available to make evaluations, future material adjustments may be necessary if economic, operational, or other conditions change. In addition, various regulatory agencies, as an integral part of their examination process, periodically review our allowance for loan losses. Such agencies may require us to recognize additions to the allowance based on the examiners’ judgment about information available to them at the time of their examinations.
For further discussion, see “Nonperforming Assets” and “Summary of Loan Loss Experience” below.
Intangible Assets
Due to the estimation process and the potential materiality of the amounts involved, we have also identified the accounting for intangible assets as an accounting policy critical to our consolidated financial statements.
When we complete an acquisition transaction, the excess of the purchase price over the amount by which the fair market value of assets acquired exceeds the fair market value of liabilities assumed represents an intangible asset. We must then determine the identifiable portions of the intangible asset, with any remaining amount classified as goodwill. Identifiable intangible assets associated with these acquisitions are generally amortized over the estimated life of the related asset, whereas goodwill is tested annually for impairment, but not systematically amortized. Assuming no goodwill impairment, it is beneficial to our future earnings to have a lower amount assigned to identifiable intangible assets and higher amount of goodwill as opposed to having a higher amount considered to be identifiable intangible assets and a lower amount classified as goodwill.
The primary identifiable intangible asset we typically record in connection with a whole bank or bank branch acquisition is the value of the core deposit intangible, whereas when we acquire an insurance agency or a consulting firm, as we did in 2016 and 2017, the primary identifiable intangible asset is the value of the acquired customer list. Determining the amount of identifiable intangible assets and their average lives involves multiple assumptions and estimates and is typically determined by performing a discounted cash flow analysis, which involves a combination of any or all of the following assumptions: customer attrition/runoff, alternative funding costs, deposit servicing costs, and discount rates. We typically engage a third party consultant to assist in each analysis. For the whole bank and bank branch transactions recorded to date, the core deposit intangibles have generally been estimated to have a life ranging from seven to ten years, with an accelerated rate of amortization. For insurance agency acquisitions, the identifiable intangible assets related to the customer lists were determined to have a life of ten to fifteen years, with amortization occurring on a straight-line basis. For SBA Complete, the consulting firm we acquired in 2016, the identifiable intangible asset related to the customer list was determined to have a life of approximately seven years, with amortization occurring on a straight-line basis.
Subsequent to the initial recording of the identifiable intangible assets and goodwill, we amortize the identifiable intangible assets over their estimated average lives, as discussed above. In addition, on at least an annual basis, goodwill is evaluated for impairment by comparing the fair value of our reporting units to their related carrying value, including goodwill. We have three reporting units – 1) First Bank with $222.7 million in goodwill, 2) First Bank Insurance with $7.4 million in goodwill, and 3) SBA activities, including SBA Complete and our SBA Lending Division, with $4.3 million in goodwill. If the carrying value of a reporting unit were ever to exceed its fair value, we would determine whether the implied fair value of the goodwill, using a discounted cash flow analysis, exceeded the carrying value of the goodwill. If the carrying value of the goodwill exceeded the implied fair value of the goodwill, an impairment loss would be recorded in an amount equal to that excess. Performing such a discounted cash flow analysis would involve the significant use of estimates and assumptions.
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In our 2018 goodwill impairment evaluation, we concluded that the goodwill for each of our reporting units was not impaired.
We review identifiable intangible assets for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Our policy is that an impairment loss is recognized, equal to the difference between the asset’s carrying amount and its fair value, if the sum of the expected undiscounted future cash flows is less than the carrying amount of the asset. Estimating future cash flows involves the use of multiple estimates and assumptions, such as those listed above.
Fair Value and Discount Accretion of Acquired Loans
We consider the determination of the initial fair value of acquired loans and the subsequent discount accretion of the purchased loans to involve a high degree of judgment and complexity.
We determine fair value accounting estimates of newly assumed assets and liabilities in accordance with relevant accounting guidance. However, the amount that we realize on these assets could differ materially from the carrying value reflected in our financial statements, based upon the timing of collections on the acquired loans in future periods. Because of inherent credit losses and interest rate marks associated with acquired loans, the amount that we record as the fair values for the loans is generally less than the contractual unpaid principal balance due from the borrowers, with the difference being referred to as the “discount” on the acquired loans. For non-impaired purchased loans, we accrete the discount over the lives of the loans in a manner consistent with the guidance for accounting for loan origination fees and costs.
For purchased credit-impaired (“PCI”) loans, the excess of the cash flows initially expected to be collected over the fair value of the loans at the acquisition date (i.e., the accretable yield) is accreted into interest income over the estimated remaining life of the loans using the effective yield method, provided that the timing and the amount of future cash flows is reasonably estimable. Accordingly, such loans are not classified as nonaccrual and they are considered to be accruing because their interest income relates to the accretable yield recognized under accounting for PCI loans and not to contractual interest payments. The difference between the contractually required payments and the cash flows expected to be collected at acquisition, considering the impact of prepayments, is referred to as the nonaccretable difference.
Subsequent to an acquisition, estimates of cash flows expected to be collected are updated periodically based on updated assumptions regarding default rates, loss severities, and other factors that are reflective of current market conditions. If there is a decrease in cash flows expected to be collected, the provision for loan losses is charged, resulting in an increase to the allowance for loan losses. If the Company has a probable increase in cash flows expected to be collected, we will first reverse any previously established allowance for loan losses and then increase interest income as a prospective yield adjustment over the remaining life of the loan. The impact of changes in variable interest rates is recognized prospectively as adjustments to interest income.
Merger and Acquisition Activity
As previously discussed, in January 2016, we acquired an insurance agency in Sanford, North Carolina, and in May 2016, we acquired SBA Complete, a firm specializing in origination and servicing of SBA loans. In July 2016, we exchanged our seven bank branches located in Virginia to another community bank in return for six of their North Carolina branches. In 2017, we completed two full-bank acquisitions – Carolina Bank and Asheville Savings Bank. Also in 2017, we completed the acquisition of another insurance agency headquartered in Albemarle, North Carolina.
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See Note 2 to the consolidated financial statements for additional information regarding these acquisitions.
As previously discussed, in 2009 and 2011, we acquired substantially all of the assets and liabilities of two failed banks in FDIC-assisted transactions. For each transaction, we entered into two loss share agreements with the FDIC, which provided the Bank significant loss protection from losses experienced on the loans and foreclosed real estate. One of these loss share agreements expired in July 2014 and one agreement expired in April 2016. On September 22, 2016, we reached a mutual agreement with the FDIC to terminate all loss share agreements, with all future losses and recoveries associated with these failed bank assets being fully borne by the Bank. We recorded a write-off of the remaining indemnification asset of $5.7 million upon the termination of the loss share agreements in the third quarter of 2016.
ANALYSIS OF RESULTS OF OPERATIONS
Net interest income, the “spread” between earnings on interest-earning assets and the interest paid on interest-bearing liabilities, constitutes the largest source of our earnings. Other factors that significantly affect operating results are the provision for loan losses, noninterest income such as service fees and noninterest expenses such as salaries, occupancy expense, equipment expense and other overhead costs, as well as the effects of income taxes.
Net interest income on a reported basis amounted to $207.4 million in 2018, $164.7 million in 2017, and $123.4 million in 2016. For internal purposes and in the discussion that follows, we evaluate our net interest income on a tax-equivalent basis by adding the tax benefit realized from tax-exempt loans and securities to reported interest income. Net interest income on a tax-equivalent basis amounted to $209.0 million in 2018, $167.3 million in 2017, and $125.4 million in 2016. Management believes that analysis of net interest income on a tax-equivalent basis is useful and appropriate because it allows a comparison of net interest amounts in different periods without taking into account the different mix of taxable versus non-taxable loans and investments that may have existed during those periods. The following is a reconciliation of reported net interest income to tax-equivalent net interest income.
| Year ended December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Net interest income, as reported | $ | 207,430 | 164,711 | 123,380 | ||||||||
| Tax-equivalent adjustment | 1,594 | 2,590 | 2,054 | |||||||||
| Net interest income, tax-equivalent | $ | 209,024 | 167,301 | 125,434 | ||||||||
Table 2 analyzes net interest income on a tax-equivalent basis. Our net interest income on a tax-equivalent basis increased by 24.9% in 2018 and increased by 33.4% in 2017. There are two primary factors that cause changes in the amount of net interest income we record – 1) changes in our loans and deposits balances and 2) our net interest margin. “Net interest margin” is a ratio we use to measure the spread between the yield on our earning assets and the cost of our funding and is calculated by dividing tax-equivalent net interest income by average earning assets.
The increase in net interest income in 2018 compared to 2017 was primarily due to growth in our loans outstanding, with a four basis point increase in our net interest margin also contributing to the increase.
For 2018, average loans increased $740.9 million, or 21.7%, while average deposits increased by $820.1 million, or 22.2%. Most of increases in average loans and deposits were due to the acquisitions of Asheville Savings Bank and Carolina Bank during 2017.
Our net interest margin increased from 4.08% in 2017 to 4.12% in 2018. Asset yields increased by 23 basis points, from 4.32% to 4.55% during 2018, primarily as a result of four Federal Reserve interest rate increases during the year. Funding costs also increased, but to a lesser degree, with the average funding cost increasing by only 16 basis points in 2018, from 0.32% in 2017 to 0.48% in 2018. Interest recoveries totaling $750,000 received in the first quarter of 2018 also contributed slightly to the higher net interest margin.
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The increase in net interest income in 2017 compared to 2016 was also primarily due to growth in our loans outstanding, with most of the growth coming from our Carolina Bank and Asheville Savings Bank acquisitions. For 2017, average loans increased $817.6 million, or 31.4%, while average deposits increased by $869.2 million, or 30.7%.
Our net interest margin increased from 4.03% in 2016 to 4.08% in 2017. Asset yields increased by 11 basis points, from 4.21% to 4.32% during 2017, primarily as a result of three Federal Reserve interest rate increases during the year. Funding costs also increased, but to a lesser degree, with the average funding cost increasing by only 7 basis points in 2017, from 0.25% in 2016 to 0.32% in 2017.
The net interest margin for all periods benefited, by varying amounts, from the net accretion of purchase accounting premiums/discounts associated with acquisitions. As can be seen in the table below, we recorded $7.1 million in 2018, $7.1 million in 2017, and $4.5 million in 2016 in net accretion of purchase accounting premiums/discounts that increased net interest income.
| ($ in thousands) | Year Ended December 31, 2018 | Year Ended December 31, 2017 | Year Ended December 31, 2016 | |||||||||
| Interest income – increased by accretion of loan discount on acquired loans | $ | 6,951 | 6,842 | 4,447 | ||||||||
| Interest expense – reduced by premium amortization of deposits | 372 | 384 | 77 | |||||||||
| Interest expense – increased by discount accretion of borrowings | (181 | ) | (148 | ) | — | |||||||
| Impact on net interest income | $ | 7,142 | 7,078 | 4,524 | ||||||||
The biggest component of the purchase accounting adjustments in each year was loan discount accretion, which amounted to $7.0 million in 2018, $6.8 million in 2017, and $4.4 million in 2016. In 2018 and 2017, the increase in loan discount accretion was primarily due to the loan discounts recorded in the acquisitions of Carolina Bank and Asheville Savings Bank. During 2017, we recorded an additional $20.7 million in loan discounts related to these acquisitions. Unaccreted loan discount on acquired loans declined from $24.3 million at December 31, 2017 to $17.3 million at December 31, 2018. We expect loan discount accretion on acquired loans to decrease in 2019 as a result of the expected, normal pay downs on loans within the acquired loan portfolios. In addition to the loan discount accretion recorded on acquired loans, we recorded loan discount accretion of $0.9 million, $0.2 million and $0 in 2018, 2017, and 2016, respectively, on the discounts associated with the retained unguaranteed portions of SBA loans sold in the secondary market. At December 31, 2018, 2017, and 2016, unaccreted loan discount on these loans amounted to $5.7 million, $2.6 million, and $0.6 million, respectively. See Note 1(i) to the Consolidated Financial Statements for additional information.
Table 3 presents additional detail regarding the estimated impact that changes in loan and deposit volumes and changes in the interest rates we earned/paid had on our net interest income in 2017 and 2018. In 2017, we acquired Carolina Bank and Asheville Savings Bank, which significantly increased our average volumes for loans and deposits in 2017 and 2018. For 2018, higher loan volume positively impacted interest income by $36.3 million, and higher loan interest rates positively impacted interest income by $8.6 million, with the combined effect driving the increase in total interest income of $53.8 million. Higher volumes and higher rates paid on deposits drove an increase of $6.9 million in interest expense. Slightly higher levels of borrowings and higher rates paid on those borrowings in 2018 also contributed to the $11.1 million increase in total interest expense. Overall, as Table 3 indicates, net interest income grew $42.7 million in 2018, with higher volumes comprising $37.6 million of the increase and higher interest rates resulting in $5.2 million of the increase.
For 2017, higher loan volume positively impacted interest income by $38.6 million, and higher loan interest rates positively impacted interest income by $3.8 million, with the combined effect driving the increase in total interest income of $46.4 million. Higher volumes and higher rates paid on deposits drove an increase of $2.4 million in interest expense. A higher level of borrowings and higher rates paid on those borrowings in 2017 also contributed to the $5.1 million increase in total interest expense. The higher level of borrowings was necessary in 2017 in order to fund our organic loan growth, which outpaced deposit growth. Overall, as Table 3 indicates, net interest income grew $41.3 million in 2017, with higher volumes comprising $38.2 million of the increase and higher interest rates causing $3.1 million of the increase.
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See additional information regarding net interest income in the section entitled “Interest Rate Risk.”
The provision for loan losses charged to operations is an amount sufficient to bring the allowance for loan losses to an estimated balance considered appropriate to absorb probable losses inherent in our loan portfolio. Management’s determination of the adequacy of the allowance is based on our level of loan growth, an evaluation of the loan portfolio, current economic conditions, historical loan loss experience and other risk factors.
For 2018, we recorded total negative provisions for loan losses (reduction of allowance for loan losses) of $3,589,000. For 2017, we recorded total provision for loan losses of $723,000. In 2016, we recorded total negative provisions for loan losses (reduction of allowance for loan losses) of $23,000.
For periods prior to the third quarter 2016 termination of our loss share agreements, we computed and presented the provision for loan losses related to covered loans separately from that of our non-covered loans. Generally, we recorded provisions for loan losses on non-covered loans as a result of net charge-offs and loan growth, while significant recoveries in our previously covered loan portfolios resulted in negative provisions for loan losses. Upon the termination of the loss share agreements, all loans became classified as non-covered and the allowance for loan losses balances were combined into a single amount and no longer presented separately.
For the years ended December 31, 2018, 2017, and 2016, as it relates to non-covered loans, we recorded a negative provision for loan losses of $3.6 million, a provision for loan losses of $0.7 million, and a provision for loan losses of $2.1 million, respectively. The negative provision for 2018 was due primarily to several large loan recoveries realized in the first quarter of 2018 totaling $3.7 million. The generally low levels of provision for loan losses recorded in recent years were primarily the result of a sustained period of stable and improving loan quality trends, which resulted in lower amounts of provision needed to adjust our allowance for loan losses to the appropriate amount. This was because our allowance for loan loss model utilizes the net charge-offs experienced in the most recent years as a significant component of estimating the current allowance for loan losses that is necessary. Thus, older years (and parts thereof) systematically age out and are excluded from the analysis as time goes on. For the last three years, the new periods being added into the model continue to have significantly lower net charge-offs/recoveries than the older periods rolling out of the model. This has resulted in a lower required amount of allowance for loan losses in our modeling. Thus, the low level of net-charge offs (or net recoveries) experienced over the past three years has been the primary reason for the low (or negative) provisions for loan losses recorded.
As it relates to covered loans, we recorded a negative provision for loan losses (reduction of allowance for loan losses) of $2.1 million in 2016. The negative provision in 2016 resulted from improved asset quality and net loan recoveries (recoveries, net of charge-offs) that totaled $1.7 million in 2016.
As shown in Table 14, total net charge-offs (recoveries) for the years ended December 31, 2018, 2017, and 2016, were ($1.3 million), $1.2 million, and $3.7 million, respectively. The declining amount of non-covered net-charge offs in recent years is reflective of improving economic conditions and lower levels of our highest-risk loans.
In 2018, we completed a loan sale of approximately $5.2 million in smaller balance nonperforming loans that resulted in loan charge-offs of $2.2 million. However, this was more than offset by full payoffs on four loans received in the first quarter of 2018 that resulted in recoveries to the allowance for loan losses of $3.3 million
See “Nonperforming Assets” below for further discussion of our asset quality, which impacts our provisions for loan losses.
See the section entitled “Allowance for Loan Losses and Loan Loss Experience” below for a more detailed discussion of the allowance for loan losses. The allowance is monitored and analyzed regularly in conjunction with our loan analysis and grading program, and adjustments are made to maintain an adequate allowance for loan losses.
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Our noninterest income amounted to $61.8 million in 2018, $48.9 million in 2017, and $25.6 million in 2016.
Management evaluates noninterest income on a core and non-core basis. As shown in Table 4, core noninterest income excludes gains from acquisitions, foreclosed property write-downs and losses, indemnification asset income (expense), securities gains or losses, and other miscellaneous gains and losses. Core noninterest income amounted to $61.7 million in 2018, a 25.1% increase from the $49.3 million recorded in 2017. The 2017 core noninterest income of $49.3 million was a 40.9% increase from the $35.0 million recorded in 2016.
See Table 4 and the following discussion for an understanding of the components of noninterest income.
For most categories of noninterest income, our 2017 acquisitions of Carolina Bank and Asheville Savings Bank had the effect of increasing noninterest income in 2017 in comparison to 2016 and in 2018 in comparison to 2017, due to the impact of a full year of income being realized.
Service charges on deposit accounts amounted to $12.7 million, $11.9 million, and $10.6 million in 2018, 2017, and 2016, respectively. In 2018 and 2017, the increase is primarily due to the aforementioned acquisitions.
Other service charges, commissions and fees amounted to $19.9 million in 2018, a 36.5% increase from the $14.6 million in 2017. The 2017 amount of $14.6 million was 22.6% higher than the $11.9 million earned in 2016. This category of noninterest income includes items such as electronic payment processing revenue (which includes fees related to credit card transactions by merchants and customers and fees earned from debit card transactions), ATM charges, safety deposit box rentals, fees from sales of personalized checks, and check cashing fees. The increases in this line item in 2018 and 2017 were due to a combination of the Carolina Bank and Asheville Savings Bank acquisitions, as well as growth in interchange fees from debit and credit cards. In both 2018 and 2017, increased debit and credit card usage by our customers increased this income component, as we earn a small fee each time our customers make a card transaction. We believe the growth in card usage by our customers is due to customer payment preferences, as well as a result of the continued promotion of these products.
Fees from presold mortgages amounted to $2.7 million in 2018, $5.7 million in 2017, and $2.0 million in 2016. In 2018, the declines were primarily due to: i) overall lower volumes in the mortgage industry, ii) our Mortgage Loan Divsision originating a higher percentage of loans with construction components that are held in our loan portfolio and not sold, and iii) mortgage origination employees who left the Company in 2018. In 2017, the higher fees were primarily due to the acquisition of Carolina Bank in March 2017, which had a significant mortgage loan operation.
Commissions from sales of insurance and financial products amounted to $8.7 million in 2018, $5.3 million in 2017, and $3.8 million in 2016. This line item includes commissions we receive from two primary sources – 1) commissions from the sales of investment, annuity, and long term care insurance products, and 2) commissions from the sale of property and casualty insurance. The following table presents the contribution of each source to the total amount recognized in this line item:
| For the year ended December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Commissions earned from: | ||||||||||||
| Sales of investments, annuities, and long term care insurance | $ | 2,693 | 2,152 | 2,027 | ||||||||
| Sales of property and casualty insurance | 6,038 | 3,148 | 1,763 | |||||||||
| Total | $ | 8,731 | 5,300 | 3,790 | ||||||||
As can be seen in the above table, sales of property and casualty insurance increased significantly in 2017 and again in 2018, which was due to our September 1, 2017 acquisition of Bear Insurance Services (see Note 2 to the consolidated financial statements for additional information). Sales of investments, annuities and long term care insurance increased in 2018 due to the acquisitions of Asheville Savings Bank and Carolina Bank, each of which had wealth management divisions.
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Another primary reason for the increases in core noninterest income in 2018 and 2017 was the addition of SBA consulting fees and SBA loan sale gains that we began to realize in the last half of 2016. As previously discussed, in 2016, we completed the acquisition of SBA Complete, a firm that specializes in consulting with financial institutions across the country related to SBA loan origination and servicing (see Note 2 to the consolidated financial statements for additional information). We recorded $3.2 million in SBA consulting fees related to this business from the date of the acquisition through December 31, 2016. For the full year of 2017, we recorded $4.0 million in SBA consulting fees, and this amount grew to $4.7 million in 2018.
Additionally, in the third quarter of 2016, we leveraged the expertise we gained from personnel assumed in the SBA Complete acquisition and launched our SBA Lending Division, which offers SBA loans to small business owners throughout the United States. Our SBA Lending Division originated $24.8 million in loans in 2016 and earned $1.4 million from gains on the sales of the guaranteed portions of these loans for 2016. In 2017, we originated $95.4 million in loans and recorded $5.5 million in gains from sales. And in 2018, this division originated $196.8 million in SBA loans and recorded $10.4 million in gains from sales.
Table 4 shows earnings from bank-owned life insurance income were $2.5 million in 2018, $2.3 million in 2017, and $2.1 million in 2016. In 2017, we acquired approximately $23 million in bank-owned life insurance from Carolina Bank and Asheville Savings Bank, increasing our income for this line item in 2017 and 2018.
Noninterest income not considered to be “core” resulted in net increases (reductions) to total noninterest income of $0.2 million in 2018, ($0.4 million) in 2017, and ($9.4 million) in 2016. The components of non-core noninterest income are shown in Table 4 and the significant components thereof are discussed below.
We recorded net losses on foreclosed properties of $0.6 million in 2018, $0.5 million in 2017, and $0.6 million in 2016.
For the year ended December 31, 2016, FDIC indemnification asset expense amounted to $10.3 million, which included the write-off of the remaining indemnification asset of $5.7 million when we terminated the FDIC loss share agreements.
In 2016, the Company recorded a net gain of $1.5 million as a result of a branch exchange transaction with another community bank (see Note 2 of the consolidated financial statements for additional discussion).
“Other gains (losses), net” for the 2018, 2017, and 2016 periods represent the net effects of miscellaneous gains and losses that are non-routine in nature. In 2018, we recorded other gains of $0.7 million, which primarily related to a gain on the sale of a previously closed branch building.
Total noninterest expenses totaled $159.4 million, $145.2 million, and $106.8 million for 2018, 2017 and 2016, respectively. Table 5 presents the components of our noninterest expense during the past three years. The primary reason for the increase in noninterest expense in 2018 and 2017 was associated with our growth initiatives, including several acquisitions, including Carolina Bank and Asheville Savings Bank, and market expansion. Line items with the largest fluctuations are further discussed below.
Total personnel expense increased from $82.1 million in 2017 to $92.0 million in 2018, an increase of $9.9 million, or 12.0%. Within personnel expense, salaries expense increased by $8.3 million in 2018 and employee benefits expense increased by $1.6 million in 2018. The primary reason for these increases in personnel expense is due to having a full year of expense for the additional personnel assumed in the 2017 acquisitions of Carolina Bank, Asheville Savings Bank, and Bear Insurance Services. Also, approximately $1.3 million of the increase in personnel expense in 2018 can be attributed to increases in salaries expense related to our SBA lending activities. Also impacting personnel expense was an increase in the 401(k) match offered by the Company to employees that was effective January 1, 2018, which increased from a 100% match up to 4% of an employee’s salary contribution to a 100% match up to 6% of an employee’s salary contribution.
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In 2017, total personnel expense increased to $82.1 million from $62.8 million in 2016, an increase of $19.3 million, or 30.7%. Within personnel expense, salaries expense increased by $15.5 million in 2017 and employee benefits expense increased by $3.7 million in 2017. The primary reason for these increases in personnel expense was due to the additional personnel assumed in the Carolina Bank and Asheville Savings Bank acquisitions. Also, in 2017, we added personnel due to the continued growth of SBA Complete and our SBA Lending Division. Additionally, salary expense for the fourth quarter of 2017 was also impacted by approximately $1.1 million related to one-time bonuses granted to a majority of the Company’s employees.
Net occupancy expenses amounted to $10.8 million in 2018, $9.7 million in 2017, and $7.8 million in 2016. The increases in 2018 and 2017 were related to the aforementioned acquisitions and expansion initiatives. Equipment related expenses increased for the same reasons, amounting to $5.6 million, $4.5 million, and $3.6 million, in 2018, 2017, and 2016, respectively.
Merger and acquisition expenses amounted to $2.4 million in 2018, $8.1 million in 2017, and $1.4 million in 2016. The 2018 amount was primarily comprised of severance costs and data processing conversion expenses related to the acquisition of Asheville Savings Bank. The 2017 amount was primarily comprised of professional fees and severance costs incurred in our acquisitions of Carolina Bank and Asheville Savings Bank. In 2016, the amount was comprised of professional fees incurred for our various acquisitions, including Bankingport, SBA Complete, our branch exchange, and our agreement to acquire Carolina Bank, which was announced in 2016.
Intangible amortization expense increased from $1.2 million in 2016 to $4.2 million in 2017 to $6.8 million in 2018, due to the addition of $22.5 million in amortizable intangible assets recorded in connection with the 2017 acquisitions of Carolina Bank, Asheville Savings Bank, and Bear Insurance Services.
FDIC insurance expense amounted to $2.3 million in 2018, $2.4 million in 2017, and $2.0 million in 2016. As discussed previously in the section “FDIC Insurance”, in 2019, we received an assessment credit of $1.3 million that will be used to offset future FDIC insurance expense once the DIF reaches 1.38%.
Outside consultant expense amounted to $1.8 million in 2018, $2.5 million in 2017, and $1.7 million in 2016. The increase in 2017 related to various operational activities.
Data processing expenses amounted to $3.2 million, $2.9 million, and $2.0 million, in 2018, 2017, and 2016, respectively. The 2018 and 2017 increases were due primarily to the acquisitions of Carolina Bank and Asheville Savings Bank.
Marketing expense amounted to $3.1 million in 2018, $2.5 million in 2017 and $2.0 million in 2016. In 2018 and 2017, we increased our promotional efforts, primarily in our new and expanded market areas.
Non-credit losses amounted to $1.0 million in 2018, $0.9 million in 2017, and $1.2 million in 2016. These losses primarily related to debit card and credit card fraud losses.
Table 6 presents the components of income tax expense and the related effective tax rates. We recorded income tax expense of $24.2 million in 2018, $21.8 million in 2017, and $14.6 million in 2016. Our effective tax rates were 21.3% for 2018, 32.1% for 2017, and 34.7% for 2016. The lower effective rates in 2017 and 2018 compared to 2016 were as a result of the Tax Cuts and Jobs Act that was signed into law on December 22, 2017, which reduced the federal statutory income tax rate from 35% to 21%. At December 31, 2017, we revalued our net deferred tax liability, which reduced income tax expense by $1.3 million for 2017, while in 2018, the new income tax rate of 21% reduced our effective tax rate.
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Also, our effective tax rate has partially declined in recent years due lower statutory income tax rates in North Carolina. North Carolina reduced the state income tax rate for corporations from 4.0% in 2016 to 3.0% beginning in 2017. We expect our effective tax rate to be approximately 21.0% in 2019.
We recorded stock-based compensation expense of $1.6 million, $1.1 million, and $0.7 million, for the years ended December 31, 2018, 2017, and 2016, respectively. The increases in this expense were due to retention-based restricted stock grants made to certain officers during the years presented. See Note 15 to the consolidated financial statements for more information regarding stock-based compensation.
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ANALYSIS OF FINANCIAL CONDITION AND CHANGES IN FINANCIAL CONDITION
Overview
At December 31, 2018, our total assets amounted to $5.9 billion, a 5.7% increase from 2017. The following table presents detailed information regarding the nature of changes in our loans and deposits in 2017 and 2018:
| ($ in thousands) | Balance at beginning of period | Internal growth, net | Growth from Acquisitions (1) | Balance at end of period | Total percentage growth | Internal percentage growth (1) | ||||||||||||||||||
| 2018 | ||||||||||||||||||||||||
| Loans outstanding | $ | 4,042,369 | 206,695 | — | 4,249,064 | 5.1% | 5.1% | |||||||||||||||||
| Deposits – Noninterest-bearing | 1,196,161 | 123,970 | — | 1,320,131 | 10.4% | 10.4% | ||||||||||||||||||
| Deposits – Interest-bearing checking | 884,254 | 32,120 | — | 916,374 | 3.6% | 3.6% | ||||||||||||||||||
| Deposits – Money market | 982,822 | 52,701 | — | 1,035,523 | 5.4% | 5.4% | ||||||||||||||||||
| Deposits – Savings | 454,860 | (22,471 | ) | — | 432,389 | -4.9% | -4.9% | |||||||||||||||||
| Deposits – Brokered time | 239,659 | 216 | — | 239,875 | 0.1% | 0.1% | ||||||||||||||||||
| Deposits – Internet time | 7,995 | (4,567 | ) | — | 3,428 | -57.1% | -57.1% | |||||||||||||||||
| Deposits – Time >$100,000 – retail | 347,862 | 99,757 | — | 447,619 | 28.7% | 28.7% | ||||||||||||||||||
| Deposits – Time <$100,000 – retail | 293,342 | (29,342 | ) | — | 264,000 | -10.0% | -10.0% | |||||||||||||||||
| Total deposits | $ | 4,406,955 | 252,384 | — | 4,659,339 | 5.7% | 5.7% | |||||||||||||||||
| 2017 | ||||||||||||||||||||||||
| Loans outstanding | $ | 2,710,712 | 227,955 | 1,103,702 | 4,042,369 | 49.1% | 8.4% | |||||||||||||||||
| Deposits – Noninterest-bearing | 756,003 | 159,493 | 280,665 | 1,196,161 | 58.2% | 21.1% | ||||||||||||||||||
| Deposits – Interest-bearing checking | 635,431 | 13,847 | 234,976 | 884,254 | 39.2% | 2.2% | ||||||||||||||||||
| Deposits – Money market | 683,680 | 23,013 | 276,129 | 982,822 | 43.8% | 3.4% | ||||||||||||||||||
| Deposits – Savings | 209,074 | (5,174 | ) | 250,960 | 454,860 | 117.6% | -2.5% | |||||||||||||||||
| Deposits – Brokered time | 136,466 | 57,554 | 45,639 | 239,659 | 75.6% | 42.2% | ||||||||||||||||||
| Deposits – Internet Time | — | (3,253 | ) | 11,248 | 7,995 | n/m | n/m | |||||||||||||||||
| Deposits – Time >$100,000 – retail | 287,939 | (12,631 | ) | 72,554 | 347,862 | 20.8% | -4.4% | |||||||||||||||||
| Deposits – Time <$100,000 – retail | 238,760 | (37,765 | ) | 92,347 | 293,342 | 22.9% | -15.8% | |||||||||||||||||
| Total deposits | $ | 2,947,353 | 195,084 | 1,264,518 | 4,406,955 | 49.5% | 6.6% | |||||||||||||||||
| (1) | In 2017, we acquired Carolina Bank, which had $497.5 million in loans and $585.4 million in deposits, and Asheville Savings Bank, which had $606.2 million in loans and $679.1 million in deposits. |
n/m – not meaningful
As shown in the table above, in 2018, our total loans outstanding increased $206.7 million, or 5.1%. Internal loan growth has been primarily driven by our expansion in high-growth markets, hiring of experienced bankers, and our emphasis on SBA lending. We expect continued growth in our loan portfolio for 2019.
In 2017, our total loans outstanding increased $1.3 billion, or 49.1%. The loan growth from acquisitions is due to our acquisition of Carolina Bank in March 2017, which had $497.5 million in loans on the date of acquisition, and our acquisition of Asheville Savings Bank in October 2017, which had $606.2 million in loans on the date of acquisition. Carolina Bank operated through eight branches predominately in the Triad region of North Carolina, and Asheville Savings Bank operated through 13 branches in the Asheville area of North Carolina. Internal growth in our loan portfolio amounted to $228.0 million, or 8.4%. Internal loan growth was primarily driven by our recent expansion into high-growth markets and the hiring of experienced bankers in these areas.
During 2018, we experienced an increase in total deposits of $252.4 million, or 5.7%. We experienced internal growth of $186.3 million in our core deposit accounts (checking, money market and savings), and increases of $70.4 million in our retail time deposits, excluding brokered and internet deposits. Total brokered and internet deposits remained consistent from the year earlier. We have generally experienced higher growth in our core transaction accounts compared to time deposits, which we believe is due customers favoring transaction accounts due to their higher liquidity and the fact that transaction accounts have not been paying materially lower interest rates compared to time deposits. However, we have recently seen some of our customers with larger balances transfer funds from their money market accounts to the time deposit > $100,000 category to attain higher interest rates.
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During 2017, we experienced an increase in total deposits of $1.5 billion, or 49.5%. In 2017, we acquired $585.4 million in deposits from the Carolina Bank acquisition and $679.1 million in deposits from the Asheville Savings Bank acquisition. Net internal deposit growth amounted to $195.1 million, or 6.6%. We experienced internal growth of $191.2 million in our core deposit accounts, compared to net declines of $50.4 million in our retail time deposits, excluding brokered and internet deposits. Total brokered deposits amounted to $239.7 million at December 31, 2017, which was a 75.6% increase from the $136.5 million outstanding a year earlier. We increased our reliance of brokered deposits in 2017 to assist in funding the strong organic loan growth we experienced during 2017.
Our overall liquidity increased at December 31, 2018 compared to a year earlier. Our liquid assets (cash and securities) as a percentage of our total deposits and borrowings was 21.03% at December 31, 2018 compared to 20.0% at December 31, 2017. Brokered deposits and borrowings as a percent of overall funding remained substantially unchanged from a year earlier.
At December 31, 2018, our nonperforming assets to total assets ratio was 0.74% compared to 0.96% at December 31, 2017. The decrease is primarily due to on-going resolution of nonperforming assets and improving credit quality.
Distribution of Assets and Liabilities
Table 7 sets forth the percentage relationships of significant components of our balance sheet at December 31, 2018, 2017, and 2016.
Our balance sheet mix has remained relatively stable over the past three years. On the asset side, net loans have consistently comprised 72% to 74% of total assets and interest-earning assets have ranged from 88%-90%. Late in 2018, we used existing cash balances to purchase approximately $150 million in available for sale securities, which resulted in our mix of securities available for sale increasing from 6% of total assets to 9% of total assets at the end of 2018. Intangible assets increased from 2% of total assets in 2016 to 5% as of December 31, 2017, primarily as a result of our two whole-bank acquisitions in 2017, in which we recorded a total of $155.2 million in goodwill and $18.7 million in other intangible assets.
On the liability side, deposits have consistently comprised 79% to 82% of total liabilities and shareholders’ equity.
Shareholders’ equity increased from 10% of total liabilities and shareholders’ equity at December 31, 2016 to 13% at December 31, 2018 due to the common stock issued in connection with our 2017 acquisitions and an increase in retained earnings due to high levels of net income recorded.
Information regarding our securities portfolio as of December 31, 2018, 2017, and 2016 is presented in Tables 8 and 9.
The composition of the investment securities portfolio reflects our investment strategy of maintaining an appropriate level of liquidity while providing a relatively stable source of income. The investment portfolio also provides a balance to interest rate risk and credit risk in other categories of the balance sheet while providing a vehicle for the investment of available funds, furnishing liquidity, and supplying securities to pledge as required collateral for certain deposits. We obtain fair values for the vast majority of our investment securities from a third-party investment recordkeeper, who specializes in securities purchases and sales, recordkeeping, and valuation. This recordkeeper provides us with a third-party report that contains an evaluation of internal controls that includes testwork of securities valuation. We further test the values we receive by comparing the values for a significant sample of securities to another third-party valuation service on a quarterly basis.
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Total securities amounted to $602.6 million, $461.8 million, and $329.0 million at December 31, 2018, 2017, and 2016, respectively. The increase in securities in 2018 was primarily due to our purchase of approximately $150 million of government-sponsored enterprise securities and mortgage-backed securities that we initiated in order to deploy excess cash into higher yielding assets. The increase in securities in 2017 was partially due to $49.4 million in securities acquired in the acquisition of Carolina Bank in March 2017. Also, in late 2017 we sold $95.0 million in securities that we had acquired from Asheville Savings Bank in October 2017 and then subsequently purchased $150 million in mortgage-backed securities in the fourth quarter of 2017.
The majority of our “government-sponsored enterprise” securities carry one maturity date, often with an issuer call feature. At December 31, 2018, of the $82.7 million in government-sponsored enterprise securities, $70.5 million were issued by the Federal Home Loan Bank system and the remaining $12.2 million were issued by either Fannie Mae, Freddie Mac, or Federal Farm Credit Bank system.
Nearly all of our $437.6 million in total mortgage-backed securities have been issued by Freddie Mac, Fannie Mae, Ginnie Mae, or the SBA, each of which is a government agency or government-sponsored corporation and guarantees the repayment of the securities. Included in the mortgage-backed securities at December 31, 2018, were commercial mortgage-backed securities of $159.6 million that were issued and are guaranteed by Ginnie Mae. Mortgage-backed securities vary in their repayment in correlation with the underlying pools of mortgage loans.
Our investment policy permits to hold up to 15% of our securities portfolio in corporate bonds. These bonds have the most credit risk of any of our securities. At December 31, 2018, our $33.1 million investment in corporate bonds was comprised of the following:
($ in thousands)
Issuer | Issuer Ratings | Maturity Date | Amortized Cost | Fair Value | ||||||||||
| Bank of America | A3 | (1) | 1/11/2023 | $ | 7,000 | 6,879 | ||||||||
| Citigroup | Baa1 | (1) | Various | 6,027 | 5,920 | |||||||||
| Goldman Sachs | A3 | (1) | 1/22/2023 | 5,073 | 4,937 | |||||||||
| JP Morgan Chase | A2 | (1) | 1/25/2023 | 5,018 | 4,904 | |||||||||
| Financial Institutions, Inc. | BBB- | (2) | 4/15/2030 | 4,000 | 4,058 | |||||||||
| Wells Fargo | A3 | (1) | 2/13/2023 | 3,092 | 3,001 | |||||||||
| Eagle Bancorp, Inc. | BBB | (2) | 9/1/2024 | 2,541 | 2,559 | |||||||||
| First Citizens Bancorp (South Carolina) Trust Preferred Security | Not Rated | 6/15/2034 | 1,000 | 880 | ||||||||||
| Total investment in corporate bonds | $ | 33,751 | 33,138 | |||||||||||
| (1) | Ratings issued by Moody’s |
| (2) | Rating issued by Kroll Bond Rating Agency |
We have concluded that any unrealized losses associated with our corporate bonds are due to interest rate considerations and not due to credit concerns.
At December 31, 2018, we held $101.2 million in securities classified as held to maturity, which had a carrying value that exceeded their fair value by $1.3 million. Approximately $52.0 million of the securities held to maturity are mortgage-backed securities that have been issued by either Freddie Mac or Fannie Mae. The remaining $49.2 million in securities held to maturity are comprised almost entirely of municipal bonds issued by state and local governments throughout our market area. We have no significant concentration of bond holdings from one government entity, with the single largest exposure to any one entity being $4.7 million. Management evaluated any unrealized losses on individual securities at each year end and determined them to be of a temporary nature and caused by fluctuations in market interest rates, not by concerns about the ability of the issuers to meet their obligations.
At December 31, 2018, 2017, and 2016, net unrealized losses of $12.4 million, $2.2 million and $3.1 million, respectively, were included in the carrying value of securities classified as available for sale. Management evaluated any unrealized losses on individual securities at each year end and determined them to be of a temporary nature and caused by fluctuations in market interest rates and the overall economic environment, not by concerns about the ability of the issuers to meet their obligations. Net unrealized losses, net of applicable deferred income taxes, have been reported as part of a separate component of shareholders’ equity (accumulated other comprehensive income) as of December 31, 2018, 2017, and 2016, respectively.
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The weighted average taxable-equivalent yield for the securities available for sale portfolio was 2.87% at December 31, 2018. The expected weighted average life of the available for sale portfolio using the call date for above-market callable bonds, the maturity date for all other non-mortgage-backed securities, and the expected life for mortgage-backed securities, was 6.1 years.
The weighted average taxable-equivalent yield for the securities held to maturity portfolio was 3.17% at December 31, 2018. The expected weighted average life of the held to maturity portfolio using the call date for above-market callable bonds, the expected life for mortgage-backed securities, and the maturity date for all other securities, was 2.6 years.
The following table provides the names of issuers for which the Company has investment securities totaling in excess of 10% of shareholders’ equity and the fair value and amortized cost of these investments as of December 31, 2018. All of these securities are issued by government sponsored corporations.
| ($ in thousands) | ||||||||||||
| Issuer | Amortized Cost | Fair Value | % of Shareholders’ Equity | |||||||||
| Fannie Mae | $ | 191,839 | 186,735 | 25.1% | ||||||||
| Ginnie Mae | 127,358 | 123,593 | 16.7% | |||||||||
| Freddie Mac | 98,608 | 95,285 | 12.9% | |||||||||
| Total | $ | 417,805 | 405,613 | |||||||||
Table 10 provides a summary of the loan portfolio composition of our total loans at each of the past five year ends.
The loan portfolio is the largest category of our earning assets and is comprised of commercial loans, real estate mortgage loans, real estate construction loans, and consumer loans. The majority of our loan portfolio is within our 39 county market area, which are located in western, central and eastern North Carolina and three counties in northeastern South Carolina. The diversity of the economic bases of our market areas has historically provided a stable lending environment.
In 2018, loans outstanding increased $206.7 million, or 5.1%. The growth in 2018 was due to organic loan growth, which was concentrated primarily within our higher growth markets and from the SBA Lending Division. In 2017, loans outstanding increased $1.33 billion, or 49.1% to $4.0 billion. The growth in 2017 can be attributed to the acquisitions of Carolina Bank and Asheville Savings Bank, as well as organic loan growth of $228.0 million.
The majority of our loan portfolio over the years has been real estate mortgage loans, with loans secured by real estate consistently comprising 88% to 91% of our outstanding loan balances. Except for construction, land development and other land loans, the majority of our “real estate” loans are personal and commercial loans where cash flow from the borrower’s occupation or business is the primary repayment source, with the real estate pledged providing a secondary repayment source.
Table 10 presents a five-year history of loans outstanding by type.
Commercial, financial, and agricultural loans have increased from 7% at December 31, 2014 to 11% at December 31, 2018, due primarily to growth in loans made to municipalities and loans originated by our SBA Lending Division.
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Residential real estate loans have declined from 33% of total loans at December 31, 2014 to 25% of total loans at December 31, 2018. This decline was due to a combination of factors including consumers refinancing their home loans held by the Bank with long term fixed rate loans, which we typically sell in the secondary market. Additionally, the Carolina Bank loan portfolio assumed during 2017 had only an 11% mix of residential real estate loans.
Commercial real estate loans as a percentage of total loans has increased steadily over the past five years and amounted to 42% of all loans at December 31, 2017. Consistent with our community banking strategy, we have placed emphases on this type of loan growth and hired a number of experienced community bankers, who have originated a significant amount of business loans secured by real estate. Also, growth in our SBA loan portfolio has contributed to the increase in this category.
Table 11 provides a summary of scheduled loan maturities over certain time periods, with fixed rate loans and adjustable rate loans shown separately. Approximately 13% of our accruing loans outstanding at December 31, 2018 mature within one year and 56% of total loans mature within five years, with both of those measures being consistent with recent years. As of December 31, 2018, the percentages of variable rate loans and fixed rate loans as compared to total performing loans were 35% and 65%, respectively. We intentionally make a blend of fixed and variable rate loans so as to reduce interest rate risk. The mix of fixed rate loans has generally increased over the past several years because many borrowers have desired to lock in a low interest rate during the historically low interest rate environment that has been in effect. While this presents risk to our Company if interest rates rise, we measure our interest rate risk closely and, as discussed in the section “Interest Rate Risk” below, we do not believe that an increase in interest rates would materially negatively impact our net interest income.
Nonperforming assets include nonaccrual loans, troubled debt restructurings, loans past due 90 or more days and still accruing interest, and foreclosed real estate. As a matter of policy we place all loans that are past due 90 or more days on nonaccrual basis, and thus there were no loans at any of the past five year ends that were 90 days past due and still accruing interest.
Nonaccrual loans are loans on which interest income is no longer being recognized or accrued because management has determined that the collection of interest is doubtful. Placing loans on nonaccrual status negatively impacts earnings because (i) interest accrued but unpaid as of the date a loan is placed on nonaccrual status is reversed and deducted from interest income, (ii) future accruals of interest income are not recognized until it becomes probable that both principal and interest will be paid and (iii) principal charged-off, if appropriate, may necessitate additional provisions for loan losses that are charged against earnings. In some cases, where borrowers are experiencing financial difficulties, loans may be restructured to provide terms significantly different from the originally contracted terms.
Table 12 summarizes our nonperforming assets at the dates indicated. Prior to September 2016, we presented nonperforming assets that were subject to the loss share agreements as “covered” and nonperforming assets that were not subject to the loss share agreements as “non-covered.” Our loss share agreements with the FDIC were terminated during 2016, and all assets became non-covered.
Since the height of the recession, we have benefited from improving economic conditions and also implemented a combination of strategies to reduce nonperforming assets, including a significant 2013 loan sale. As a result, our nonperforming asset levels have declined steadily over the years, with nonperforming assets amounting to amounting to just 0.74% of total assets at December 31, 2018. This compares to ratios of 0.96% and 1.64% at December 31, 2017 and 2016, respectively. In 2018, our nonperforming asset levels benefitted from a loan sale of approximately $5.2 million in smaller balance nonperforming loans.
Table 12a presents our nonperforming assets at December 31, 2018 by general geographic region.
The following is the composition, by loan type, of all of our nonaccrual loans at each period end:
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| ($ in thousands) | At December 31, 2018 | At December 31, 2017 | ||||||
| Commercial, financial, and agricultural | $ | 919 | 1,001 | |||||
| Real estate – construction, land development, and other land loans | 2,265 | 1,822 | ||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 10,115 | 12,201 | ||||||
| Real estate – mortgage – home equity loans/lines of credit | 1,685 | 2,524 | ||||||
| Real estate – mortgage – commercial and other | 7,452 | 3,345 | ||||||
| Installment loans to individuals | 139 | 75 | ||||||
| Total nonaccrual loans | $ | 22,575 | 20,968 | |||||
The nonaccrual table above generally indicates that almost all categories of nonaccrual loans remained relatively level during the year, with the “real estate – mortgage – commercial and other” category experiencing the largest increase.
Management routinely monitors the status of certain large loans that, in management’s opinion, have credit weaknesses that could cause them to become nonperforming loans. In addition to the nonperforming loan amounts discussed above, management believes that an estimated $1 to $5 million of loans that were performing in accordance with their contractual terms at December 31, 2018 have the potential to develop problems depending upon the particular financial situations of the borrowers and economic conditions in general. Management has taken these potential problem loans into consideration when evaluating the adequacy of the allowance for loan losses at December 31, 2018 (see discussion below).
Loans classified for regulatory purposes as loss, doubtful, substandard, or special mention that have not been disclosed in the problem loan amounts and the potential problem loan amounts discussed above do not represent or result from trends or uncertainties that management reasonably expects will materially impact future operating results, liquidity, or capital resources, or represent material credits about which management is aware of any information that causes management to have serious doubts as to the ability of such borrowers to comply with the loan repayment terms.
We provide additional information regarding the classification status of our loans in tables contained in Note 4 to our consolidated financial statements. Those tables indicate that from December 31, 2017 to December 31, 2018 our asset quality improved, with total classified and nonaccrual loans decreasing from $79.4 million at December 31, 2017 to $60.8 million at December 31, 2018. This is consistent with our generally improving asset quality trends.
Foreclosed real estate includes primarily foreclosed properties. Total foreclosed real estate amounted to $7.4 million, $12.6 million, and $9.5 million, at December 31, 2018, 2017, and 2016, respectively. Generally, we have experienced decreases in foreclosed real estate over the past several years primarily due to increased property sales activity and the improvement in our overall asset quality. In 2017, we acquired $3.1 million and $3.9 million of foreclosed real estate in the acquisitions of Carolina Bank and Asheville Savings Bank, respectively.
The following table presents the detail of our foreclosed real estate at each of the past two year ends:
$ in thousands
| At December 31, 2018 | At December 31, 2017 | ||||||
| Vacant land and farmland | $ | 2,035 | 6,032 | |||||
| 1-4 family residential properties | 2,311 | 4,229 | ||||||
| Commercial real estate | 3,094 | 2,310 | ||||||
| Total foreclosed real estate | $ | 7,440 | 12,571 | |||||
Allowance for Loan Losses and Loan Loss Experience
The allowance for loan losses is created by direct charges to operations (known as a “provision for loan losses” for the period in which the charge is taken). Losses on loans are charged against the allowance in the period in which such loans, in management’s opinion, become uncollectible. The recoveries realized during the period are credited to this allowance. We consider our procedures for recording the amount of the allowance for loan losses and the related provision for loan losses to be a critical accounting policy. See the heading “Critical Accounting Policies” above for further discussion.
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The factors that influence management’s judgment in determining the amount charged to operating expense include recent loan loss experience, composition of the loan portfolio, evaluation of probable inherent losses and current economic conditions.
We use a loan analysis and grading program to facilitate our evaluation of probable inherent loan losses and the adequacy of our allowance for loan losses. In this program, credit risk grades are assigned by management and tested by an independent third-party consulting firm. The testing program includes an evaluation of a sample of new loans, loans we identify as having potential credit weaknesses, loans past due 90 days or more, loans originated by new loan officers, nonaccrual loans and any other loans identified during previous regulatory and other examinations.
We strive to maintain our loan portfolio in accordance with what management believes are conservative loan underwriting policies that result in loans specifically tailored to the needs of our market areas. Every effort is made to identify and minimize the credit risks associated with such lending strategies. We have no foreign loans, few agricultural loans and do not engage in significant lease financing or highly leveraged transactions. Commercial loans are diversified among a variety of industries. The majority of loans captioned in the tables discussed below as “real estate” loans are personal and commercial loans where real estate provides additional security for the loan. Collateral for the majority of these loans is located within our principal market area.
The total allowance for loan losses amounted to $21.0 million at December 31, 2018 compared to $23.3 million at December 31, 2017 and $23.8 million at December 31, 2016.
Our allowance for loan loss is a mathematical model with the primary factors impacting this model being loan growth, net charge-off history, and asset quality trends. Our allowance for loan loss model utilizes the net charge-offs experienced in the most recent years as a significant component of estimating the current allowance for loan losses that is necessary. Thus, older years (and parts thereof) systematically age out and are excluded from the analysis as time goes on. In recent years, the new periods have had significantly lower net charge-offs (and net recoveries in some periods) than the older periods rolling out of the model. This has resulted in a lower required amount of allowance for loan losses in our modeling. The low level of net-charge offs (or net recoveries) experienced over the past several years has been the primary reason for the low (or negative) provisions for loan losses recorded.
The ratio of our allowance to total loans was 0.50%, 0.58%, and 0.88% at December 31, 2018, 2017, and 2016, respectively. The decline in this ratio from December 31, 2017 to December 31, 2018 was a result of the factors discussed above that impacted our relatively low levels of provision for loan losses. The large decline in 2017 was primarily due to the acquisitions of Carolina Bank and Asheville Savings Bank, which had over $1 billion in total loans. Applicable accounting guidance did not allow us to record an allowance for loan losses upon the acquisition of loans – instead the acquired loans were recorded at their discounted fair value, which included the consideration of any expected losses. No allowance for loan losses will be recorded for the acquired loans until the expected credit losses exceed the remaining unamortized discounts – based on an individual basis for purchased credit impaired loans and on a pooled basis for performing acquired loans. See Critical Accounting Policies above for further discussion. Unaccreted discount on acquired loans, which is available to absorb loan losses, amounted to $17.3 million, $24.3 million, and $12.1 million at December 31, 2018, December 31, 2017, and December 31, 2016, respectively. The ratio of allowance for loan losses plus unaccreted discount on acquired loans amounted to 0.90%, 1.18% and 1.32% at December 31, 2018, December 31, 2017, and December 31, 2016, respectively.
Table 13 sets forth the allocation of the allowance for loan losses at the dates indicated. The allowance for loan losses is available to absorb losses in all categories.
Management considers the allowance for loan losses adequate to cover probable loan losses on the loans outstanding as of each reporting date. It must be emphasized, however, that the determination of the allowance using our procedures and methods rests upon various judgments and assumptions about economic conditions and other factors affecting loans. No assurance can be given that we will not in any particular period sustain loan losses that are sizable in relation to the amount reserved or that subsequent evaluations of the loan portfolio, in light of conditions and factors then prevailing, will not require significant changes in the allowance for loan losses or future charges to earnings.
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In addition, various regulatory agencies, as an integral part of their examination process, periodically review the allowance for loan losses and losses on foreclosed real estate. Such agencies may require us to recognize additions to the allowance based on the examiners’ judgments about information available to them at the time of their examinations.
For the years indicated, Table 14 summarizes our balances of loans outstanding, average loans outstanding, and a detailed rollforward of the allowance for loan losses.
Net loan charge-offs (recoveries) of total loans amounted to ($1.3 million) in 2018, $1.2 million in 2017, and $3.7 million in 2016. The trend of lower net charge-offs is associated with lower levels of nonperforming loans and credit improvements in our underlying loan portfolio. In 2018, we received full payoffs on four loans that had been previously charged-down by approximately $3.3 million and are included in the table as recoveries, contributing significantly to the net recovery position for the year.
Deposits are a critical part of our business, as they provide the primary funding source for our loans and investments. Accordingly, as discussed below, we have implemented various strategies and developed competitive products to promote growth of our deposit balances.
At December 31, 2018, deposits outstanding amounted to $4.66 billion, an increase 5.7%, or $252.4 million, from the $4.41 billion at December 31, 2017, all of which was organic growth. We experienced higher growth in our transaction accounts (checking, money market, and savings) compared to time deposits, which we believe is due customers favoring transaction accounts due to their higher liquidity and the fact that transaction accounts have not been paying materially lower interest rates compared to time deposits. However, we have recently seen some of our customers with larger balances transfer funds from their money market accounts to the time deposit > $100,000 category to attain higher interest rates.
At December 31, 2017, deposits outstanding amounted to $4.41 billion, an increase of $1.46 billion from the $2.95 billion at December 31, 2016. During 2017, we acquired Carolina Bank with $585.4 million in deposits and Asheville Savings Bank with $679.1 million in deposits. We also experienced organic growth of totaling $195.1 million in 2017, with the majority of our growth occurring in noninterest-bearing checking accounts. Our higher cost retail time deposits declined by $50.4 million in 2017. Total brokered deposits amounted to $239.7 million at December 31, 2017, which was a 75.6% increase from the $136.5 million outstanding a year earlier. The increased usage of brokered deposits in 2017 was necessary because of high organic loan growth that exceeded deposit growth. This imbalance of growth was largely associated with our growth and expansion into the larger markets of North Carolina – Charlotte, Greensboro and Raleigh. When initially entering markets such as these, our experience has been that we are able to capture loan market share faster than deposit market share.
The nature of our deposit growth is illustrated in the table on page 48. The following table reflects the mix of our deposits at each of the past three year ends:
| 2018 | 2017 | 2016 | ||||||||||
| Noninterest-bearing checking accounts | 28% | 27% | 26% | |||||||||
| Interest-bearing checking accounts | 20% | 20% | 21% | |||||||||
| Money market deposits | 22% | 22% | 23% | |||||||||
| Savings deposits | 9% | 10% | 7% | |||||||||
| Time deposits - Brokered | 5% | 6% | 5% | |||||||||
| Time deposits > $100,000 – retail | 10% | 8% | 10% | |||||||||
| Time deposits < $100,000 – retail | 6% | 7% | 8% | |||||||||
| Total deposits | 100% | 100% | 100% | |||||||||
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Our deposit mix remains heavily concentrated in transaction and non-time deposit accounts, with time deposits only comprising approximately 20% of total deposits. This is beneficial for us, as these accounts generally carry lower interest rates compared to time deposits. Prior to the very low interest rate environment that we have been in for the past decade, the time deposit concentration was closer to 50%. We believe the lower mix of time deposits has been due to the relatively small gap between the interest rates that we pay on transaction accounts versus the rates we pay on time deposits. It is uncertain whether the interest rate increases over the past two years will result in a significant shift back to time deposits.
We routinely engage in activities designed to grow and retain deposits, such as (1) emphasizing relationship banking to new and existing customers, where borrowers are encouraged and normally expected to maintain deposit accounts with us, (2) pricing deposits at rate levels that will attract and/or retain deposits, and (3) continually working to identify and introduce new products that will attract customers or enhance our appeal as a primary provider of financial services.
Table 15 presents the average amounts of our deposits and the average yield paid for those deposits for the years ended December 31, 2018, 2017, and 2016.
As of December 31, 2018, we held approximately $690.9 million in time deposits of $100,000 or more. Table 16 is a maturity schedule of time deposits of $100,000 or more as of December 31, 2018. This table shows that 80% of our time deposits greater than $100,000 mature within one year.
At each of the past three year ends, we have no deposits issued through foreign offices, nor do we believe that we held any deposits by foreign depositors.
We typically utilize borrowings to provide balance sheet liquidity and to fund imbalances in our loan growth compared to our deposit growth. Our borrowings outstanding totaled $406.6 million at December 31, 2018, $407.5 million at December 31, 2017, and $271.4 million at December 31, 2016. Table 2 shows that average borrowings were $406.9 million in 2018, $325.9 million in 2017, and $209.7 million in 2016.
The increase in borrowings from 2016 to 2017 was to fund organic loan growth, which exceeded deposit growth in 2016 and 2017. Additionally, we assumed approximately $42 million of borrowings in our two whole-bank acquisitions in 2017. In 2018, borrowings remained essentially unchanged as deposit growth fully funded our loan growth for the year.
At December 31, 2018, the Company had three sources of readily available borrowing capacity – 1) an approximately $1.04 billion line of credit with the FHLB, of which $353 million and $354 million was outstanding at December 31, 2018 and 2017, respectively, 2) a $35 million federal funds line of credit with a correspondent bank, of which none was outstanding at December 31, 2018 or 2017, and 3) an approximately $127 million line of credit through the Federal Reserve Bank of Richmond’s (“FRB”) discount window, of which none was outstanding at December 31, 2018 or 2017.
In addition to any outstanding borrowings from the FHLB that reduce the available borrowing capacity of the line of credit, our borrowing capacity was further reduced by $190 million and $198 million at December 31, 2018 and 2017, respectively, as a result of our pledging letters of credit backed by the FHLB for public deposits at each of those dates. Thus, our unused available line of credit with the FHLB amounted to approximately $502 million at December 31, 2018 compared to $384 million a year earlier.
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Our line of credit with the FHLB can be structured as either short-term or long-term borrowings, depending on the particular funding or liquidity need, and is secured by our FHLB stock and a blanket lien on most of our real estate loan portfolio. For the year ended December 31, 2018, the average amount of FHLB borrowings outstanding was approximately $353.2 million with a weighted average interest rate for the year of 1.91%. The maximum amount of short-term FHLB borrowings outstanding at any month-end during 2018 was $353.5 million. For the year ended December 31, 2017, the average amount of FHLB borrowings outstanding was approximately $273.8 million with a weighted average interest rate for the year of 1.19%. The maximum amount of short-term FHLB borrowings outstanding at any month-end during 2017 was $354.0 million.
Our correspondent bank relationship allows us to purchase up to $35 million in federal funds on an overnight, unsecured basis (federal funds purchased). We had no borrowings under this line at December 31, 2018 or 2017. There were no federal funds purchased outstanding at any month-end during 2018 or 2017.
We also have a line of credit with the FRB discount window. This line is secured by a blanket lien on a portion of our commercial and consumer loan portfolio (excluding real estate loans). Based on the collateral that we owned as of December 31, 2018, the available line of credit was approximately $127 million. At December 31, 2018 and 2017, we had no borrowings outstanding under this line.
In addition to the lines of credit described above, we also have of $56.7 million of trust preferred security debt outstanding at December 31, 2018 and 2017. Each of our three issuances have 30 year final maturities and were structured in a manner that allows them to qualify as capital for regulatory capital adequacy requirements. We may call these debt securities at par on any quarterly interest payment, but do not expect to do so. The interest rate on these debt securities adjusts on a quarterly basis at a rate of three-month LIBOR plus 2.70% for $20.6 million, three-month LIBOR plus 1.39% on $25.8 million, and LIBOR + 2.00% for $10.3 million that was assumed in the Carolina Bank acquisition.
Liquidity, Commitments, and Contingencies
Our liquidity is determined by our ability to convert assets to cash or to acquire alternative sources of funds to meet the needs of our customers who are withdrawing or borrowing funds, and our ability to maintain required reserve levels, pay expenses and operate the Company on an ongoing basis. Our primary liquidity sources are net income from operations, cash and due from banks, federal funds sold and other short-term investments. Our securities portfolio is comprised almost entirely of readily marketable securities which could also be sold to provide cash.
As noted above, in addition to internally generated liquidity sources, at December 31, 2018, we had the ability to obtain borrowings from the following three sources – 1) an approximately $1 billion line of credit with the FHLB, 2) a $35 million federal funds line with a correspondent bank, and 3) an approximately $127 million line of credit through the FRB’s discount window.
Our overall liquidity increased in 2018 compared to 2017. Our liquid assets (cash and securities) as a percentage of our total deposits and borrowings amounted to 21.0% at December 31, 2018 compared to 20.0% at December 31, 2017.
We continue to believe our liquidity sources, including unused lines of credit, are at an acceptable level and remain adequate to meet our operating needs in the foreseeable future. We will continue to monitor our liquidity position carefully and will explore and implement strategies to increase liquidity if deemed appropriate.
In the normal course of business we have various outstanding contractual obligations that will require future cash outflows. In addition, there are commitments and contingent liabilities, such as commitments to extend credit, that may or may not require future cash outflows.
Table 18 reflects our contractual obligations and other commercial commitments outstanding as of December 31, 2018. Any of our $353 million in outstanding borrowings with the FHLB may be accelerated immediately by the FHLB in certain circumstances, including material adverse changes in our condition or if our qualifying collateral is less than the amount required under the terms of the borrowing agreement.
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In the normal course of business there are various outstanding commitments and contingent liabilities such as commitments to extend credit, which are not reflected in the financial statements. The following table presents a summary of our outstanding loan commitments as of December 31, 2018:
| ($ in millions) | ||||||||||||
| Type of Commitment | Fixed Rate | Variable Rate | Total | |||||||||
| Outstanding closed-end loan commitments | $ | 210 | 460 | 670 | ||||||||
| Unfunded commitments on revolving lines of credit, credit cards and home equity loans | 150 | 469 | 619 | |||||||||
| Total | $ | 360 | 929 | 1,289 | ||||||||
At December 31, 2018 and 2017, we also had $15.7 million and $15.2 million, respectively, in standby letters of credit outstanding. We had no carrying amount for these standby letters of credit at either of those dates. The nature of the standby letters of credit is that of a stand-alone obligation made on behalf of our customers to suppliers of the customers to guarantee payments owed to the supplier by the customer. The standby letters of credit are generally for terms of one year, at which time they may be renewed for another year if both parties agree. The payment of the guarantees would generally be triggered by a continued nonpayment of an obligation owed by the customer to the supplier. The maximum potential amount of future payments (undiscounted) we could be required to make under the guarantees in the event of nonperformance by the parties to whom credit or financial guarantees have been extended is represented by the contractual amount of the financial instruments discussed above. In the event that we are required to honor a standby letter of credit, a note, already executed by the customer, becomes effective providing repayment terms and any collateral. Over the past two years, we have had to honor only a few standby letters of credit, none of which resulted in any loss to the Company. We expect any draws under existing commitments to be funded through normal operations.
It has been our experience that deposit withdrawals are generally able to be replaced with new deposits when needed. Based on that assumption, management believes that it can meet its contractual cash obligations and existing commitments from normal operations.
We are not involved in any legal proceedings that, in management’s opinion, are likely to have a material effect on the consolidated financial position of the Company.
Capital Resources and Shareholders’ Equity
Shareholders’ equity at December 31, 2018 amount to $764.2 million compared to $693.0 million at December 31, 2017 and $368.1 million at December 31, 2016. The two basic components that typically have the largest impact on our shareholders’ equity are net income, which increases shareholders’ equity, and dividends declared, which decrease shareholders’ equity. Additionally, any stock issuances can significantly increase shareholders’ equity, including those associated with acquisitions. Although we have not repurchased any stock since 2014, we have a $25 million authorization currently in place and any stock repurchases would reduce shareholders’ equity.
In 2018, the most significant factors that impacted our equity were 1) the $89.3 million net income reported for 2018, which increased equity, and 2) common stock dividends declared of $11.9 million, which reduced equity. See the Consolidated Statements of Shareholders’ Equity within the consolidated financial statements for disclosure of other less significant items affecting shareholders’ equity.
In 2017, the most significant factors that impacted our equity were 1) the issuances of $284.2 million of common stock in connection with two bank acquisitions, which increased equity, 2) the $46.0 million net income reported for 2017, which increased equity, and 3) common stock dividends declared of $8.3 million, which reduced equity.
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With the acquisition of Carolina Bank in March 2017, we assumed a deferred compensation plan for certain members of Carolina Bank’s board of directors that is fully funded by Company stock, which was valued at $7.7 million on the date of acquisition. Subsequent to the acquisition in 2017, approximately $4.5 million of the deferred compensation has been paid to the plan participants. The balances of the related asset and liability were each $3.2 million at December 31, 2018, both of which are presented as components of shareholders’ equity.
In 2016, the most significant factors that impacted our equity were 1) the $27.5 million net income reported for 2016, which increased equity, 2) common stock dividends declared of $6.5 million, which reduced equity, and 3) issuances of $5.5 million of common stock in connection with two acquisitions, which increased equity.
Also, on December 22, 2016, we exchanged 728,706 shares of common stock for the same number of shares of our preferred stock, which resulted in $7.3 million in shareholders’ equity shifting from preferred stock to common stock, but did not affect our total amount of equity. At December 31, 2018, 2017, and 2016, we had no shares of preferred stock outstanding.
In addition to shareholders’ equity, we have supplemented our capital in past years with trust preferred security debt issuances, which because of their structure qualify as regulatory capital. This was necessary in past years because our balance sheet growth outpaced the growth rate of our capital. Additionally, we have purchased several bank branches over the years that resulted in our recording intangible assets, which negatively impacted regulatory capital ratios. As discussed in “Borrowings” above, we currently have $56.7 million in trust preferred securities outstanding, all of which qualify as Tier I capital under both current and forthcoming regulatory standards.
We are not aware of any recommendations of regulatory authorities or otherwise which, if they were to be implemented, would have a material effect on our liquidity, capital resources, or operations.
The Company and the Bank must comply with regulatory capital requirements established by the Federal Reserve and the Commissioner. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements.
Table 21 presents our regulatory capital ratios as of December 31, 2018, 2017, and 2016. All of our capital ratios have significantly exceeded the minimum regulatory thresholds for all periods covered by this report.
In this economic environment, our goal is to maintain our capital ratios at levels at least 200 basis points higher than the “well capitalized” thresholds set for banks. At December 31, 2018, our tier 1 leverage ratio was 10.47% compared to the regulatory well capitalized bank-level threshold of 5.00% and our total risk-based capital ratio was 13.97% compared to the 10.00% regulatory well capitalized threshold.
In addition to regulatory capital ratios, we also closely monitor our ratio of tangible common equity to tangible assets (“TCE Ratio”). Our TCE Ratio was 9.07% at December 31, 2018 compared to 8.23% at December 31, 2017.
See “Supervision and Regulation” under “Business” above and Note 16 to the consolidated financial statements for discussion of other matters that may affect our capital resources.
Off-Balance Sheet Arrangements and Derivative Financial Instruments
Off-balance sheet arrangements include transactions, agreements, or other contractual arrangements pursuant to which we have obligations or provide guarantees on behalf of an unconsolidated entity. We have no off-balance sheet arrangements of this kind other than letters of credit and repayment guarantees associated with our trust preferred securities.
Derivative financial instruments include futures, forwards, interest rate swaps, options contracts, and other financial instruments with similar characteristics. We have not engaged in significant derivatives activities through December 31, 2018 and have no current plans to do so.
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Table 20 shows return on average assets (net income available to common shareholders divided by average total assets), return on average common equity (net income available to common shareholders divided by average common shareholders’ equity), dividend payout ratio (dividends per share divided by net income per common share) and shareholders’ equity to assets ratio (average total shareholders’ equity divided by average total assets) for each of the years in the three-year period ended December 31, 2018.
Interest Rate Risk (Including Quantitative and Qualitative Disclosures About Market Risk – Item 7A.)
Net interest income is our most significant component of earnings. Notwithstanding changes in volumes of loans and deposits, our level of net interest income is continually at risk due to the effect that changes in general market interest rate trends have on interest yields earned and paid with respect to our various categories of earning assets and interest-bearing liabilities. It is our policy to maintain portfolios of earning assets and interest-bearing liabilities with maturities and repricing opportunities that will afford protection, to the extent practical, against wide interest rate fluctuations. Our exposure to interest rate risk is analyzed on a regular basis by management using standard GAP reports, maturity reports, and an asset/liability software model that simulates future levels of interest income and expense based on current interest rates, expected future interest rates, and various intervals of “shock” interest rates. Over the years, we have been able to maintain a fairly consistent yield on average earning assets (net interest margin), even during periods of changing interest rates. Over the past five calendar years, our net interest margin has ranged from a low of 4.03% (realized in 2016) to a high of 4.58% (realized in 2014). From 2008 until the fourth quarter of 2015, the prime rate of interest had remained at 3.25%. Beginning in December 2015, the Federal Reserve began steadily increasing the prime rate of interest, which resulted in 5.50% rate at December 31, 2018. The consistency of the net interest margin is aided by the relatively low level of long-term interest rate exposure that we maintain. At December 31, 2018, approximately 77% of our interest-earning assets are subject to repricing within five years (because they are either adjustable rate assets or they are fixed rate assets that mature) and substantially all of our interest-bearing liabilities reprice within five years.
Table 17 sets forth our interest rate sensitivity analysis as of December 31, 2018, using stated maturities for all fixed rate instruments except mortgage-backed securities (which are allocated in the periods of their expected payback) and securities and borrowings with call features that are expected to be called (which are shown in the period of their expected call). As illustrated by Table 17, at December 31, 2018, we had $1.4 billion more in interest-bearing liabilities that are subject to interest rate changes within one year than earning assets. This generally would indicate that net interest income would experience downward pressure in a rising interest rate environment and would benefit from a declining interest rate environment. However, this method of analyzing interest sensitivity only measures the magnitude of the timing differences and does not address earnings, market value, or management actions. Also, interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. In addition to the effects of “when” various rate-sensitive products reprice, market rate changes may not result in uniform changes in rates among all products. For example, included in interest-bearing liabilities subject to interest rate changes within one year at December 31, 2018 were deposits totaling $2.4 billion comprised of checking, savings, and certain types of money market deposits with interest rates set by management. These types of deposits historically have not repriced with, or in the same proportion, as general market indicators.
Overall, we believe that in the near term (twelve months), net interest income will not likely experience significant downward pressure from rising interest rates. Similarly, we would not expect a significant increase in near term net interest income from falling interest rates. Generally, when rates change, our interest-sensitive assets that are subject to adjustment reprice immediately at the full amount of the change, while our interest-sensitive liabilities that are subject to adjustment reprice at a lag to the rate change and typically not to the full extent of the rate change. In the short-term (less than twelve months), this generally results in us being asset-sensitive, meaning that our net interest income benefits from an increase in interest rates and is negatively impacted by a decrease in interest rates. However, in the twelve-month and longer horizon, the impact of having a higher level of interest-sensitive liabilities lessens the short-term effects of changes in interest rates.
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The general discussion in the foregoing paragraph applies most directly in a “normal” interest rate environment in which longer-term maturity instruments carry higher interest rates than short-term maturity instruments, and is less applicable in periods in which there is a “flat” interest rate curve. A “flat yield curve” means that short-term interest rates are substantially the same as long-term interest rates. As a result of the prolonged negative/fragile economic environment, the Federal Reserve took steps to suppress long-term interest rates in an effort to boost the housing market, increase employment, and stimulate the economy, which resulted in a flat interest rate curve. A flat interest rate curve is an unfavorable interest rate environment for many banks, including the Bank, as short-term interest rates generally drive our deposit pricing and longer-term interest rates generally drive loan pricing. When these rates converge, the profit spread we realize between loan yields and deposit rates narrows, which pressures our net interest margin.
While there have been periods in the last few years that the yield curve has steepened somewhat, it currently remains very flat. This flat yield curve and the intense competition for high-quality loans in our market areas have limited our ability to charge higher rates on loans, and thus we continue to experience challenges to increasing our loan yields.
As it relates to deposits, as noted above, the Federal Reserve made no changes to the short term interest rates it sets directly from 2008 until mid-December 2015, and during that period we were able to reprice many of our maturing time deposits at lower interest rates. We were also able to generally decrease the rates we paid on other categories of deposits as a result of declining short-term interest rates in the marketplace and an increase in liquidity that lessened our need to offer premium interest rates. However, as a result of the nine interest rate increases initiated by the Federal Reserve since 2015 and significant competitive pressures in our market area, we have had to increase deposit rates. Deposit pricing competition intensified in the second half of 2018 and we expect it to continue. However, to date, our deposit costs have risen at a slightly lower rate than the increase in asset yields, and thus our net interest margin expanded slightly in 2017 and 2018.
As previously discussed in the section “Net Interest Income,” our net interest income has been impacted by certain purchase accounting adjustments related to the acquired banks. The purchase accounting adjustments related to the premium amortization on loans, deposits and borrowings are based on amortization schedules and are thus systematic and predictable. The accretion of the loan discount on acquired loans amounted to $7.0 million, $6.8 million, and $4.4 million in 2018, 2017, and 2016, respectively, is less predictable and could be materially different among periods. This is because of the magnitude of the discounts that are initially recorded and the fact that the accretion being recorded is dependent on both the credit quality of the acquired loans and the impact of any accelerated loan repayments, including payoffs. If the credit quality of the loans declines, some, or all, of the remaining discount will cease to be accreted into income. If the underlying loans experience accelerated paydowns or improved performance expectations, the remaining discount will be accreted into income on an accelerated basis. In the event of total payoff, the remaining discount will be entirely accreted into income in the period of the payoff. Each of these factors is difficult to predict and susceptible to volatility. The remaining loan discount on acquired loans amounted to $17.3 million at December 31, 2018 compared to $24.3 million at December 31, 2017.
Based on our most recent interest rate modeling, which assumes one interest rate increase for 2019 (federal funds rate = 2.75%, prime = 5.75%), we project that our net interest margin for 2019 will continue to remain fairly stable, but we believe there is downside risk due to the loan and deposit pricing pressures discussed above.
We have no market risk sensitive instruments held for trading purposes, nor do we maintain any foreign currency positions. Table 19 presents the expected maturities of our other than trading market risk sensitive financial instruments. Table 19 also presents the estimated fair values of market risk sensitive instruments as estimated in accordance with relevant accounting guidance. Our assets and liabilities have estimated fair values that do not materially differ from their carrying amounts.
See additional discussion regarding net interest income, as well as discussion of the changes in the annual net interest margin, in the section entitled “Net Interest Income” above.
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Because the assets and liabilities of a bank are primarily monetary in nature (payable in fixed determinable amounts), the performance of a bank is affected more by changes in interest rates than by inflation. Interest rates generally increase as the rate of inflation increases, but the magnitude of the change in rates may not be the same. The effect of inflation on banks is normally not as significant as its influence on those businesses that have large investments in plant and inventories. During periods of high inflation, there are normally corresponding increases in the money supply, and banks will normally experience above average growth in assets, loans and deposits. Also, general increases in the price of goods and services will result in increased operating expenses.
We prepare our consolidated financial statements and related disclosures in conformity with standards established by, among others, the FASB. Because the information needed by users of financial reports is dynamic, the FASB frequently issues new rules and proposes new rules for companies to apply in reporting their activities. See Note 1(v) to our consolidated financial statements for a discussion of recent rule proposals and changes.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information responsive to this Item is found in Item 7 under the caption “Interest Rate Risk.”
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Table 1 Selected Consolidated Financial Data
| ($ in thousands, except per share and nonfinancial data) | Year Ended December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | ||||||||||||||||
| Income Statement Data | ||||||||||||||||||||
| Interest income | $ | 231,207 | 177,382 | 130,987 | 126,655 | 139,832 | ||||||||||||||
| Interest expense | 23,777 | 12,671 | 7,607 | 6,908 | 8,223 | |||||||||||||||
| Net interest income | 207,430 | 164,711 | 123,380 | 119,747 | 131,609 | |||||||||||||||
| Provision (reversal) for loan losses | (3,589 | ) | 723 | (23 | ) | (780 | ) | 10,195 | ||||||||||||
| Net interest income after provision | 211,019 | 163,988 | 123,403 | 120,527 | 121,414 | |||||||||||||||
| Noninterest income | 61,834 | 48,908 | 25,551 | 18,764 | 14,368 | |||||||||||||||
| Noninterest expense | 159,375 | 145,157 | 106,821 | 98,131 | 97,251 | |||||||||||||||
| Income before income taxes | 113,478 | 67,739 | 42,133 | 41,160 | 38,531 | |||||||||||||||
| Income taxes | 24,189 | 21,767 | 14,624 | 14,126 | 13,535 | |||||||||||||||
| Net income | 89,289 | 45,972 | 27,509 | 27,034 | 24,996 | |||||||||||||||
| Preferred stock dividends | — | — | (175 | ) | (603 | ) | (868 | ) | ||||||||||||
| Net income available to common shareholders | 89,289 | 45,972 | 27,334 | 26,431 | 24,128 | |||||||||||||||
| Earnings per common share – basic | 3.02 | 1.82 | 1.37 | 1.34 | 1.22 | |||||||||||||||
| Earnings per common share – diluted | 3.01 | 1.82 | 1.33 | 1.30 | 1.19 | |||||||||||||||
| Per Share Data (Common) | ||||||||||||||||||||
| Cash dividends declared – common | $ | 0.40 | 0.32 | 0.32 | 0.32 | 0.32 | ||||||||||||||
| Market Price | ||||||||||||||||||||
| High | 43.14 | 41.76 | 28.49 | 19.92 | 19.65 | |||||||||||||||
| Low | 30.50 | 26.47 | 17.15 | 15.00 | 15.55 | |||||||||||||||
| Close | 32.66 | 35.31 | 27.14 | 18.74 | 18.47 | |||||||||||||||
| Stated book value – common | 25.71 | 23.38 | 17.66 | 16.96 | 16.08 | |||||||||||||||
| Tangible book value – common | 17.12 | 14.69 | 13.85 | 13.56 | 12.63 | |||||||||||||||
| Selected Balance Sheet Data (at year end) | ||||||||||||||||||||
| Total assets | $ | 5,864,116 | 5,547,037 | 3,614,862 | 3,362,065 | 3,218,383 | ||||||||||||||
| Loans – non-covered | 4,249,064 | 4,042,369 | 2,710,712 | 2,416,285 | 2,268,580 | |||||||||||||||
| Loans – covered (1) | — | — | — | 102,641 | 127,594 | |||||||||||||||
| Total loans | 4,249,064 | 4,042,369 | 2,710,712 | 2,518,926 | 2,396,174 | |||||||||||||||
| Allowance for loan losses | 21,039 | 23,298 | 23,781 | 28,583 | 40,626 | |||||||||||||||
| Intangible assets | 255,480 | 257,507 | 79,475 | 67,171 | 67,893 | |||||||||||||||
| Deposits | 4,659,339 | 4,406,955 | 2,947,353 | 2,811,285 | 2,695,906 | |||||||||||||||
| Borrowings | 406,609 | 407,543 | 271,394 | 186,394 | 116,394 | |||||||||||||||
| Total shareholders’ equity | 764,230 | 692,979 | 368,101 | 342,190 | 387,699 | |||||||||||||||
| Selected Average Balances | ||||||||||||||||||||
| Assets | $ | 5,693,760 | 4,590,786 | 3,422,267 | 3,230,302 | 3,219,915 | ||||||||||||||
| Loans | 4,161,838 | 3,420,939 | 2,603,327 | 2,434,602 | 2,434,331 | |||||||||||||||
| Earning assets | 5,076,335 | 4,101,949 | 3,108,918 | 2,936,624 | 2,907,098 | |||||||||||||||
| Deposits | 4,516,811 | 3,696,730 | 2,827,513 | 2,687,381 | 2,723,758 | |||||||||||||||
| Interest-bearing liabilities | 3,663,077 | 3,025,401 | 2,324,823 | 2,218,246 | 2,294,330 | |||||||||||||||
| Shareholders’ equity | 727,920 | 533,205 | 360,715 | 376,287 | 383,055 | |||||||||||||||
| Ratios | ||||||||||||||||||||
| Return on average assets | 1.57% | 1.00% | 0.80% | 0.82% | 0.75% | |||||||||||||||
| Return on average common equity | 12.27% | 8.62% | 7.73% | 8.04% | 7.73% | |||||||||||||||
| Net interest margin (taxable-equivalent basis) | 4.12% | 4.08% | 4.03% | 4.13% | 4.58% | |||||||||||||||
| Tangible common equity to tangible assets | 9.07% | 8.23% | 8.16% | 8.13% | 7.90% | |||||||||||||||
| Loans to deposits at year end | 91.19% | 91.73% | 91.97% | 89.60% | 88.88% | |||||||||||||||
| Allowance for loan losses to total loans | 0.50% | 0.58% | 0.88% | 1.13% | 1.70% | |||||||||||||||
| Nonperforming assets to total assets at year end | 0.74% | 0.96% | 1.64% | 2.66% | 3.54% | |||||||||||||||
| Net charge-offs (recoveries) to average total loans | (0.03% | ) | 0.04% | 0.14% | 0.46% | 0.74% | ||||||||||||||
| Nonfinancial Data – number of branches | 101 | 104 | 88 | 88 | 87 | |||||||||||||||
| Nonfinancial Data – number of employees (FTEs) | 1,076 | 1,140 | 834 | 812 | 798 | |||||||||||||||
| (1) | Effective September 22, 2016, all FDIC loss share agreements were terminated, and accordingly, assets previously covered under those agreements became non-covered on that date. |
63
Table 2 Average Balances and Net Interest Income Analysis
| Year Ended December 31, | ||||||||||||||||||||||||||||||||||||
| 2018 | 2017 | 2016 | ||||||||||||||||||||||||||||||||||
| ($ in thousands) | Average Volume | Avg. Rate | Interest Earned or Paid | Average Volume | Avg. Rate | Interest Earned or Paid | Average Volume | Avg. Rate | Interest Earned or Paid | |||||||||||||||||||||||||||
| Assets | ||||||||||||||||||||||||||||||||||||
| Loans (1) (2) | $ | 4,161,838 | 5.01% | $ | 208,609 | $ | 3,420,939 | 4.79% | $ | 163,738 | $ | 2,603,327 | 4.66% | $ | 121,322 | |||||||||||||||||||||
| Taxable securities | 419,356 | 2.54% | 10,638 | 302,892 | 2.31% | 7,007 | 298,083 | 2.07% | 6,162 | |||||||||||||||||||||||||||
| Non-taxable securities | 50,945 | 2.91% | 1,482 | 56,065 | 2.99% | 1,677 | 49,986 | 3.50% | 1,748 | |||||||||||||||||||||||||||
| Short-term investments, primarily overnight funds | 444,196 | 2.36% | 10,478 | 322,053 | 1.54% | 4,960 | 157,522 | 1.11% | 1,755 | |||||||||||||||||||||||||||
| Total interest-earning assets | 5,076,335 | 4.55% | 231,207 | 4,101,949 | 4.32% | 177,382 | 3,108,918 | 4.21% | 130,987 | |||||||||||||||||||||||||||
| Cash and due from banks | 80,053 | 79,025 | 59,835 | |||||||||||||||||||||||||||||||||
| Premises and equipment | 115,573 | 98,216 | 76,418 | |||||||||||||||||||||||||||||||||
| Other assets | 421,799 | 311,596 | 177,096 | |||||||||||||||||||||||||||||||||
| Total assets | $ | 5,693,760 | $ | 4,590,786 | $ | 3,422,267 | ||||||||||||||||||||||||||||||
| Liabilities and Equity | ||||||||||||||||||||||||||||||||||||
| Interest-bearing checking accounts | $ | 875,751 | 0.10% | $ | 887 | $ | 722,286 | 0.07% | $ | 477 | $ | 583,786 | 0.06% | $ | 360 | |||||||||||||||||||||
| Money market accounts | 1,023,162 | 0.32% | 3,265 | 825,015 | 0.19% | 1,569 | 657,211 | 0.18% | 1,160 | |||||||||||||||||||||||||||
| Savings accounts | 439,880 | 0.21% | 922 | 385,967 | 0.19% | 715 | 200,093 | 0.05% | 100 | |||||||||||||||||||||||||||
| Time deposits >$100,000 | 641,516 | 1.30% | 8,356 | 504,349 | 0.79% | 4,005 | 405,220 | 0.65% | 2,654 | |||||||||||||||||||||||||||
| Other time deposits | 275,904 | 0.38% | 1,061 | 261,910 | 0.30% | 778 | 268,854 | 0.33% | 896 | |||||||||||||||||||||||||||
| Total interest-bearing deposits | 3,256,213 | 0.45% | 14,491 | 2,699,527 | 0.28% | 7,544 | 2,115,164 | 0.24% | 5,170 | |||||||||||||||||||||||||||
| Borrowings | 406,864 | 2.28% | 9,286 | 325,874 | 1.57% | 5,127 | 209,659 | 1.16% | 2,437 | |||||||||||||||||||||||||||
| Total interest-bearing liabilities | 3,663,077 | 0.65% | 23,777 | 3,025,401 | 0.42% | 12,671 | 2,324,823 | 0.33% | 7,607 | |||||||||||||||||||||||||||
| Noninterest-bearing checking accounts | 1,260,598 | 997,203 | 712,349 | |||||||||||||||||||||||||||||||||
| Total sources of funds | 4,923,675 | 0.48% | 4,022,604 | 0.32% | 3,037,172 | 0.25% | ||||||||||||||||||||||||||||||
| Other liabilities | 42,165 | 34,977 | 24,380 | |||||||||||||||||||||||||||||||||
| Shareholders’ equity | 727,920 | 533,205 | 360,715 | |||||||||||||||||||||||||||||||||
| Total liabilities and shareholders’ equity | $ | 5,693,760 | $ | 4,590,786 | $ | 3,422,267 | ||||||||||||||||||||||||||||||
| Net yield on interest-earning assets and net interest income | 4.09% | $ | 207,430 | 4.02% | $ | 164,711 | 3.97% | $ | 123,380 | |||||||||||||||||||||||||||
| Net yield on interest-earning assets and net interest income – tax-equivalent (3) | 4.12% | $ | 209,024 | 4.08% | $ | 167,301 | 4.03% | $ | 125,434 | |||||||||||||||||||||||||||
| Interest rate spread | 3.90% | 3.90% | 3.88% | |||||||||||||||||||||||||||||||||
| Average prime rate | 4.91% | 4.10% | 3.51% | |||||||||||||||||||||||||||||||||
| (1) | Average loans include nonaccruing loans, the effect of which is to lower the average rate shown. Interest earned includes recognized net loan fees (costs) in the amounts of $1,905, $536, and ($457) for 2018, 2017, and 2016, respectively. |
| (2) | Includes accretion of discount on acquired and SBA loans of $7,812, $7,076, and $4,451 in 2018, 2017, and 2016, respectively. |
| (3) | Includes tax-equivalent adjustments of $1,594, $2,590, and $2,054 in 2018, 2017, and 2016, respectively, to reflect the federal and state tax benefit that we receive related to tax-exempt securities and tax-exempt loans, which carry interest rates lower than similar taxable investments/loans due to their tax exempt status. This amount has been computed assuming a 23% tax rate for 2018 and 37% for 2017 and 2016 and is reduced by the related nondeductible portion of interest expense. |
64
Table 3 Volume and Rate Variance Analysis
| Year Ended December 31, 2018 | Year Ended December 31, 2017 | |||||||||||||||||||||||
| Change Attributable to | Change Attributable to | |||||||||||||||||||||||
| ($ in thousands) | Changes in Volumes | Changes in Rates | Total Increase (Decrease) | Changes in Volumes | Changes in Rates | Total Increase (Decrease) | ||||||||||||||||||
| Interest income: | ||||||||||||||||||||||||
| Loans | $ | 36,299 | 8,572 | 44,871 | 38,618 | 3,798 | 42,416 | |||||||||||||||||
| Taxable securities | 2,824 | 807 | 3,631 | 105 | 740 | 845 | ||||||||||||||||||
| Non-taxable securities | (151 | ) | (44 | ) | (195 | ) | 197 | (268 | ) | (71 | ) | |||||||||||||
| Short-term investments, primarily overnight funds | 2,381 | 3,137 | 5,518 | 2,184 | 1,021 | 3,205 | ||||||||||||||||||
| Total interest income | 41,353 | 12,472 | 53,825 | 41,104 | 5,291 | 46,395 | ||||||||||||||||||
| Interest expense: | ||||||||||||||||||||||||
| Interest-bearing checking accounts | 128 | 282 | 410 | 88 | 29 | 117 | ||||||||||||||||||
| Money market accounts | 505 | 1,191 | 1,696 | 308 | 101 | 409 | ||||||||||||||||||
| Savings accounts | 106 | 101 | 207 | 219 | 396 | 615 | ||||||||||||||||||
| Time deposits >$100,000 | 1,438 | 2,913 | 4,351 | 718 | 633 | 1,351 | ||||||||||||||||||
| Other time deposits | 48 | 235 | 283 | (22 | ) | (96 | ) | (118 | ) | |||||||||||||||
| Total interest-bearing deposits | 2,225 | 4,722 | 6,947 | 1,311 | 1,063 | 2,374 | ||||||||||||||||||
| Borrowings | 1,561 | 2,598 | 4,159 | 1,590 | 1,100 | 2,690 | ||||||||||||||||||
| Total interest expense | 3,786 | 7,320 | 11,106 | 2,901 | 2,163 | 5,064 | ||||||||||||||||||
| Net interest income | $ | 37,567 | 5,152 | 42,719 | 38,203 | 3,128 | 41,331 | |||||||||||||||||
Changes attributable to both volume and rate are allocated equally between rate and volume variances.
Table 4 Noninterest Income
| Year Ended December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Service charges on deposit accounts | $ | 12,690 | 11,862 | 10,571 | ||||||||
| Other service charges, commissions, and fees | 19,945 | 14,610 | 11,913 | |||||||||
| Fees from presold mortgage loans | 2,735 | 5,695 | 2,033 | |||||||||
| Commissions from sales of insurance and financial products | 8,731 | 5,300 | 3,790 | |||||||||
| SBA consulting fees | 4,675 | 4,024 | 3,199 | |||||||||
| SBA loan sale gains | 10,366 | 5,479 | 1,433 | |||||||||
| Bank-owned life insurance income | 2,534 | 2,321 | 2,052 | |||||||||
| Total core noninterest income | 61,676 | 49,291 | 34,991 | |||||||||
| Foreclosed property gains (losses), net | (565 | ) | (531 | ) | (625 | ) | ||||||
| FDIC Indemnification asset income (expense), net | — | — | (10,255 | ) | ||||||||
| Securities gains (losses), net | — | (235 | ) | 3 | ||||||||
| Gain on branch sale | — | — | 1,466 | |||||||||
| Other gains (losses), net | 723 | 383 | (29 | ) | ||||||||
| Total | $ | 61,834 | 48,908 | 25,551 | ||||||||
65
Table 5 Noninterest Expenses
| Year Ended December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Salaries | $ | 75,077 | 66,786 | 51,252 | ||||||||
| Employee benefits | 16,888 | 15,313 | 11,568 | |||||||||
| Total personnel expense | 91,965 | 82,099 | 62,820 | |||||||||
| Occupancy expense | 10,793 | 9,661 | 7,838 | |||||||||
| Equipment related expenses | 5,627 | 4,480 | 3,608 | |||||||||
| Merger and acquisition expenses | 2,358 | 8,073 | 1,431 | |||||||||
| Amortization of intangible assets | 6,763 | 4,240 | 1,211 | |||||||||
| Dues and subscriptions expense (includes software licenses) | 3,431 | 1,969 | 1,604 | |||||||||
| Credit/debit card processing expense | 3,411 | 2,797 | 2,296 | |||||||||
| Marketing expense | 3,065 | 2,549 | 1,999 | |||||||||
| Data processing expense | 3,234 | 2,910 | 2,010 | |||||||||
| Telephone and data lines | 3,024 | 2,470 | 2,311 | |||||||||
| Stationery and supplies | 2,582 | 2,399 | 2,066 | |||||||||
| FDIC insurance expense | 2,333 | 2,350 | 2,009 | |||||||||
| Outside consultants | 1,820 | 2,511 | 1,700 | |||||||||
| Repossession and collection expenses | 1,366 | 1,736 | 1,934 | |||||||||
| Non-credit losses | 960 | 887 | 1,164 | |||||||||
| Other operating expenses | 16,643 | 14,026 | 10,820 | |||||||||
| Total | $ | 159,375 | 145,157 | 106,821 | ||||||||
Table 6 Income Taxes
| ($ in thousands) | 2018 | 2017 | 2016 | ||||||||||
| Current | - Federal | $ | 19,188 | 11,286 | 12,827 | ||||||||
| - State | 3,187 | 1,996 | 1,679 | ||||||||||
| Deferred | - Federal | 1,658 | 7,742 | 16 | |||||||||
| - State | 156 | 743 | 102 | ||||||||||
| Total tax expense | $ | 24,189 | 21,767 | 14,624 | |||||||||
| Effective tax rate | 21.3% | 32.1% | 34.7% | ||||||||||
66
Table 7 Distribution of Assets and Liabilities
| As of December 31, | ||||||||||||
| 2018 | 2017 | 2016 | ||||||||||
| Assets | ||||||||||||
| Interest-earning assets | ||||||||||||
| Net loans | 72% | 73% | 74% | |||||||||
| Securities available for sale | 9 | 6 | 6 | |||||||||
| Securities held to maturity | 2 | 2 | 4 | |||||||||
| Short-term investments | 7 | 7 | 6 | |||||||||
| Total interest-earning assets | 90 | 88 | 90 | |||||||||
| Noninterest-earning assets | ||||||||||||
| Cash and due from banks | 1 | 2 | 2 | |||||||||
| Premises and equipment | 2 | 2 | 2 | |||||||||
| Intangible assets | 4 | 5 | 2 | |||||||||
| Foreclosed real estate | — | — | — | |||||||||
| Bank-owned life insurance | 2 | 2 | 2 | |||||||||
| Other assets | 1 | 1 | 2 | |||||||||
| Total assets | 100% | 100% | 100% | |||||||||
| Liabilities and shareholders’ equity | ||||||||||||
| Noninterest-bearing checking accounts | 22% | 22% | 21% | |||||||||
| Interest-bearing checking accounts | 16 | 16 | 17 | |||||||||
| Money market accounts | 18 | 18 | 19 | |||||||||
| Savings accounts | 7 | 8 | 6 | |||||||||
| Time deposits of $100,000 or more | 12 | 11 | 12 | |||||||||
| Other time deposits | 4 | 5 | 7 | |||||||||
| Total deposits | 79 | 80 | 82 | |||||||||
| Borrowings | 7 | 7 | 7 | |||||||||
| Accrued expenses and other liabilities | 1 | 1 | 1 | |||||||||
| Total liabilities | 87 | 88 | 90 | |||||||||
| Shareholders’ equity | 13 | 12 | 10 | |||||||||
| Total liabilities and shareholders’ equity | 100% | 100% | 100% | |||||||||
Table 8 Securities Portfolio Composition
| As of December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Securities available for sale: | ||||||||||||
| Government-sponsored enterprise securities | $ | 82,662 | 13,867 | 17,490 | ||||||||
| Mortgage-backed securities | 385,551 | 295,213 | 148,065 | |||||||||
| Corporate bonds | 33,138 | 34,190 | 33,600 | |||||||||
| Equity securities | — | — | 174 | |||||||||
| Total securities available for sale | 501,351 | 343,270 | 199,329 | |||||||||
| Securities held to maturity: | ||||||||||||
| Mortgage-backed securities | 52,048 | 63,829 | 80,585 | |||||||||
| State and local governments | 49,189 | 54,674 | 49,128 | |||||||||
| Total securities held to maturity | 101,237 | 118,503 | 129,713 | |||||||||
| Total securities | $ | 602,588 | 461,773 | 329,042 | ||||||||
| Average total securities during year | $ | 470,301 | 358,957 | 348,069 | ||||||||
67
Table 9 Securities Portfolio Maturity Schedule
| As of December 31, | ||||||||||||
| 2018 | ||||||||||||
| ($ in thousands) | Book Value | Fair Value | Book Yield (1) | |||||||||
| Securities available for sale: | ||||||||||||
| Government-sponsored enterprise securities | ||||||||||||
| Due after one but within five years | $ | 82,995 | 82,662 | 2.97% | ||||||||
| Total | 82,995 | 82,662 | 2.97% | |||||||||
| Mortgage-backed securities (2) | ||||||||||||
| Due after one but within five years | 89,498 | 85,693 | 2.53% | |||||||||
| Due after five but within ten years | 232,251 | 224,996 | 2.75% | |||||||||
| Due after ten years | 75,246 | 74,862 | 3.13% | |||||||||
| Total | 396,995 | 385,551 | 2.77% | |||||||||
| Corporate debt securities | ||||||||||||
| Due after one but within five years | 26,210 | 25,641 | 3.27% | |||||||||
| Due after five but within ten years | 2,541 | 2,559 | 5.40% | |||||||||
| Due after ten years | 5,000 | 4,938 | 5.82% | |||||||||
| Total | 33,751 | 33,138 | 3.81% | |||||||||
| Total securities available for sale | ||||||||||||
| Due after one but within five years | 198,703 | 193,996 | 2.81% | |||||||||
| Due after five but within ten years | 234,792 | 227,555 | 2.78% | |||||||||
| Due after ten years | 80,246 | 79,800 | 3.30% | |||||||||
| Total | $ | 513,741 | 501,351 | 2.87% | ||||||||
| Securities held to maturity: | ||||||||||||
| Mortgage-backed securities (2) | ||||||||||||
| Due after one but within five years | $ | 41,550 | 40,081 | 2.20% | ||||||||
| Due after five but within ten years | 10,498 | 10,160 | 2.60% | |||||||||
| Total | 52,048 | 50,241 | 2.28% | |||||||||
| State and local governments | ||||||||||||
| Due within one year | 2,233 | 2,240 | 4.59% | |||||||||
| Due after one but within five years | 28,488 | 28,766 | 4.20% | |||||||||
| Due after five but within ten years | 16,743 | 16,932 | 3.96% | |||||||||
| Due after ten years | 1,725 | 1,727 | 3.23% | |||||||||
| Total securities held to maturity | 49,189 | 49,665 | 4.10% | |||||||||
| Total securities held to maturity | ||||||||||||
| Due within one year | 2,233 | 2,240 | 4.59% | |||||||||
| Due after one but within five years | 70,038 | 68,847 | 3.01% | |||||||||
| Due after five but within ten years | 27,241 | 27,092 | 3.44% | |||||||||
| Due after ten years | 1,725 | 1,727 | 3.23% | |||||||||
| Total | $ | 101,237 | 99,906 | 3.17% | ||||||||
| ___________________________________ |
| (1) | Yields on tax-exempt investments have been adjusted to a taxable equivalent basis using a 23.37% tax rate. |
| (2) | Mortgage-backed securities are shown maturing in the periods consistent with their estimated lives based on expected prepayment speeds. |
68
Table 10 Loan Portfolio Composition
| As of December 31, | ||||||||||||||||||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||||||||
| ($ in thousands) | Amount | % of Total Loans | Amount | % of Total Loans | Amount | % of Total Loans | Amount | % of Total Loans | Amount | % of Total Loans | ||||||||||||||||||||||||||||||
| Commercial, financial, and agricultural | $ | 457,037 | 11% | $ | 381,130 | 10% | $ | 261,813 | 9% | $ | 202,671 | 8% | $ | 160,878 | 7% | |||||||||||||||||||||||||
| Real estate – construction, land development & other land loans | 518,976 | 12% | 539,020 | 13% | 354,667 | 13% | 308,969 | 12% | 288,148 | 12% | ||||||||||||||||||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 1,054,176 | 25% | 972,772 | 24% | 750,679 | 28% | 768,559 | 31% | 789,871 | 33% | ||||||||||||||||||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 359,162 | 8% | 379,978 | 9% | 239,105 | 9% | 232,601 | 9% | 223,500 | 9% | ||||||||||||||||||||||||||||||
| Real estate – mortgage – commercial and other | 1,787,022 | 42% | 1,696,107 | 42% | 1,049,460 | 39% | 957,587 | 38% | 882,127 | 37% | ||||||||||||||||||||||||||||||
| Installment loans to individuals | 71,392 | 2% | 74,348 | 2% | 55,037 | 2% | 47,666 | 2% | 50,704 | 2% | ||||||||||||||||||||||||||||||
| Loans, gross | 4,247,765 | 100% | 4,043,355 | 100% | 2,710,761 | 100% | 2,518,053 | 100% | 2,395,228 | 100% | ||||||||||||||||||||||||||||||
| Unamortized net deferred loan costs (fees) | 1,299 | (986 | ) | (49 | ) | 873 | 946 | |||||||||||||||||||||||||||||||||
| Total loans | 4,249,064 | 4,042,369 | 2,710,712 | 2,518,926 | 2,396,174 | |||||||||||||||||||||||||||||||||||
69
Table 11 Loan Maturities
| As of December 31, 2018 | ||||||||||||||||||||||||||||||||
| Due within one year | Due after one year but within five years | Due after five years | Total | |||||||||||||||||||||||||||||
| ($ in thousands) | Amount | Yield | Amount | Yield | Amount | Yield | Amount | Yield | ||||||||||||||||||||||||
| Variable Rate Loans: | ||||||||||||||||||||||||||||||||
| Commercial, financial, and agricultural | $ | 76,579 | 6.02% | $ | 34,382 | 5.79% | $ | 43,606 | 7.55% | $ | 154,567 | 6.40% | ||||||||||||||||||||
| Real estate – construction only | 60,500 | 6.26% | 109,327 | 5.47% | 12,507 | 5.29% | 182,334 | 5.72% | ||||||||||||||||||||||||
| Real estate – all other mortgage | 103,475 | 5.96% | 180,041 | 5.80% | 470,662 | 4.94% | 754,178 | 5.29% | ||||||||||||||||||||||||
| Real estate – home equity loans/ line of credit | 11,329 | 5.55% | 78,422 | 5.48% | 253,646 | 5.44% | 343,397 | 5.45% | ||||||||||||||||||||||||
| Consumer, primarily installment loans to individuals | 3,524 | 6.46% | 30,130 | 9.12% | 2,647 | 7.61% | 36,301 | 8.75% | ||||||||||||||||||||||||
| Total at variable rates | 255,407 | 6.04% | 432,302 | 5.89% | 783,068 | 5.26% | 1,470,777 | 5.58% | ||||||||||||||||||||||||
| Fixed Rate Loans: | ||||||||||||||||||||||||||||||||
| Commercial, financial, and agricultural | 21,147 | 4.82% | 119,692 | 4.53% | 167,429 | 3.46% | 308,268 | 3.97% | ||||||||||||||||||||||||
| Real estate – construction only | 88,781 | 4.14% | 60,770 | 4.51% | 56,161 | 4.40% | 205,712 | 4.32% | ||||||||||||||||||||||||
| Real estate – all other mortgage | 177,754 | 4.99% | 1,197,016 | 4.62% | 830,586 | 4.42% | 2,205,356 | 4.57% | ||||||||||||||||||||||||
| Consumer, primarily installment loans to individuals | 2,773 | 5.13% | 25,105 | 5.35% | 8,498 | 10.22% | 36,376 | 6.47% | ||||||||||||||||||||||||
| Total at fixed rates | 290,455 | 4.72% | 1,402,583 | 4.62% | 1,062,674 | 4.31% | 2,755,712 | 4.51% | ||||||||||||||||||||||||
| Subtotal | 545,862 | 5.34% | 1,834,885 | 4.92% | 1,845,742 | 4.71% | 4,226,489 | 4.88% | ||||||||||||||||||||||||
| Nonaccrual loans | 22,575 | — | — | 22,575 | ||||||||||||||||||||||||||||
| Total loans | $ | 568,437 | $ | 1,834,885 | $ | 1,845,742 | $ | 4,249,064 | ||||||||||||||||||||||||
The above table is based on contractual scheduled maturities. Early repayment of loans or renewals at maturity are not considered in this table.
70
Table 12 Nonperforming Assets
| As of December 31, | ||||||||||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| Non-covered nonperforming assets (1) | ||||||||||||||||||||
| Nonaccrual loans | $ | 22,575 | 20,968 | 27,468 | 39,994 | 50,066 | ||||||||||||||
| Restructured loans - accruing | 13,418 | 19,834 | 22,138 | 28,011 | 35,493 | |||||||||||||||
| Accruing loans >90 days past due | — | — | — | — | — | |||||||||||||||
| Total non-covered nonperforming loans | 35,993 | 40,802 | 49,606 | 68,005 | 85,559 | |||||||||||||||
| Nonperforming loans held for sale | — | — | — | — | — | |||||||||||||||
| Foreclosed real estate | 7,440 | 12,571 | 9,532 | 9,188 | 9,771 | |||||||||||||||
| Total non-covered nonperforming assets | $ | 43,433 | 53,373 | 59,138 | 77,193 | 95,330 | ||||||||||||||
| Purchased credit impaired loans not included above (2) | $ | 17,393 | 23,165 | — | — | — | ||||||||||||||
| Covered nonperforming assets (1) | ||||||||||||||||||||
| Nonaccrual loans | $ | — | — | — | 7,816 | 10,508 | ||||||||||||||
| Restructured loans – accruing | — | — | — | 3,478 | 5,823 | |||||||||||||||
| Accruing loans >90 days past due | — | — | — | — | — | |||||||||||||||
| Total covered nonperforming loans | — | — | — | 11,294 | 16,331 | |||||||||||||||
| Foreclosed real estate | — | — | — | 806 | 2,350 | |||||||||||||||
| Total covered nonperforming assets | — | — | — | 12,100 | 18,681 | |||||||||||||||
| Total nonperforming assets | $ | 43,433 | 53,373 | 59,138 | 89,293 | 114,011 | ||||||||||||||
| Asset Quality Ratios – All Assets | ||||||||||||||||||||
| Nonperforming loans to total loans | 0.85% | 1.01% | 1.83% | 3.15% | 4.25% | |||||||||||||||
| Nonperforming assets to total loans and foreclosed real estate | 1.02% | 1.32% | 2.17% | 3.53% | 4.73% | |||||||||||||||
| Nonperforming assets to total assets | 0.74% | 0.96% | 1.64% | 2.66% | 3.54% | |||||||||||||||
| Asset Quality Ratios – Based on Non-covered Assets only | ||||||||||||||||||||
| Non-covered nonperforming loans to non-covered loans | 0.85% | 1.01% | 1.83% | 2.81% | 3.77% | |||||||||||||||
| Non-covered nonperforming assets to non-covered loans and non-covered foreclosed real estate | 1.02% | 1.32% | 2.17% | 3.18% | 4.18% | |||||||||||||||
| Non-covered nonperforming assets to total non-covered assets | 0.74% | 0.96% | 1.64% | 2.37% | 3.09% | |||||||||||||||
| (1) | Covered nonperforming assets consisted of assets that were included in loss share agreements with the FDIC. In 2014, approximately $9.7 million of nonaccrual loans, $2.1 million accruing restructured loans and $3.0 million of foreclosed real estate were transferred from covered to non-covered status upon a scheduled expiration of a FDIC loss-share agreement. In 2016, approximately $7.0 million of nonaccrual loans and $1.6 million of foreclosed real estate were transferred from covered to non-covered status upon expirations/terminations of FDIC loss-share agreements. |
| (2) | In the March 3, 2017 acquisition of Carolina Bank and the October 1, 2017 acquisition of Asheville Savings Bank, the Company acquired $19.3 million and $9.9 million, respectively, in purchased credit impaired loans in accordance with ASC 310-30 accounting guidance. These loans are excluded from the nonperforming loan amounts. |
71
Table 12a Nonperforming Assets by Geographical Region
| As of December 31, 2018 | ||||||||||||
| ($ in thousands) | Total Nonperforming Loans | Total Loans | Nonperforming Loans to Total Loans | |||||||||
Nonaccrual loans and Troubled Debt Restructurings (1) | ||||||||||||
| Eastern Region (NC) | $ | 9,042 | $ | 884,000 | 1.02% | |||||||
| Triangle Region (NC) | 9,360 | 904,000 | 1.04% | |||||||||
| Triad Region (NC) | 5,919 | 865,000 | 0.68% | |||||||||
| Charlotte Region (NC) | 768 | 332,000 | 0.23% | |||||||||
| Southern Piedmont Region (NC) | 6,100 | 264,000 | 2.31% | |||||||||
| Western Region (NC) | 554 | 679,000 | 0.08% | |||||||||
| South Carolina Region | 1,378 | 160,000 | 0.86% | |||||||||
| Former Virginia Region | — | 2,000 | 0.00% | |||||||||
| Other | 2,872 | 159,000 | 1.81% | |||||||||
| Total nonaccrual loans and troubled debt restructurings | $ | 35,993 | $ | 4,249,000 | 0.85% | |||||||
| Foreclosed Real Estate (1) | ||||||||||||
| Eastern Region (NC) | $ | 1,748 | ||||||||||
| Triangle Region (NC) | 1,179 | |||||||||||
| Triad Region (NC) | 843 | |||||||||||
| Charlotte Region (NC) | 180 | |||||||||||
| Southern Piedmont Region (NC) | 698 | |||||||||||
| Western Region (NC) | 1,272 | |||||||||||
| South Carolina Region | 496 | |||||||||||
| Former Virginia Region | 1,024 | |||||||||||
| Other | — | |||||||||||
| Total foreclosed real estate | $ | 7,440 | ||||||||||
_____________________________
(1) The counties comprising each region are as follows:
Eastern North Carolina Region - New Hanover, Brunswick, Duplin, Dare, Beaufort, Pitt, Onslow, Carteret
Triangle North Carolina Region - Moore, Lee, Harnett, Chatham, Wake
Triad North Carolina Region - Montgomery, Randolph, Davidson, Rockingham, Guilford, Stanly, Forsyth, Alamance
Charlotte North Carolina Region - Iredell, Cabarrus, Rowan, Mecklenburg
Southern Piedmont North Carolina Region - Richmond, Scotland, Robeson, Bladen, Columbus, Cumberland
Western North Carolina Region – Buncombe, Henderson, Madison, McDowell, Transylvania
South Carolina Region - Chesterfield, Dillon, Florence
Former Virginia Region - Wythe, Washington, Montgomery, Roanoke
Other includes loans originated on a national basis through the Company’s SBA Lending Division
72
Table 13 Allocation of the Allowance for Loan Losses
| As of December 31, | ||||||||||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| Commercial, financial, and agricultural | $ | 2,889 | 3,111 | 3,829 | 4,764 | 6,911 | ||||||||||||||
| Real estate – construction, land development | 2,243 | 2,816 | 2,691 | 3,790 | 8,520 | |||||||||||||||
| Real estate – residential, commercial, home equity, multifamily | 14,845 | 14,449 | 15,222 | 18,282 | 23,103 | |||||||||||||||
| Installment loans to individuals | 952 | 950 | 1,145 | 1,051 | 1,916 | |||||||||||||||
| Total allocated | 20,929 | 21,326 | 22,887 | 27,887 | 40,450 | |||||||||||||||
| Unallocated | 110 | 1,972 | 894 | 696 | 176 | |||||||||||||||
| Total | $ | 21,039 | 23,298 | 23,781 | 28,583 | 40,626 | ||||||||||||||
| Allowance for loan losses related to covered loans included above (1) | $ | — | — | — | 1,799 | 2,281 | ||||||||||||||
_____________________
| (1) | During 2016, all FDIC loss share agreements were terminated, and accordingly, there were no covered loans at December 31, 2018, 2017 and 2016. |
73
Table 14 Loan Loss and Recovery Experience
| As of December 31, | ||||||||||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| Loans outstanding at end of year | $ | 4,249,064 | 4,042,369 | 2,710,712 | 2,518,926 | 2,396,174 | ||||||||||||||
| Average amount of loans outstanding | $ | 4,161,838 | 3,420,939 | 2,603,327 | 2,434,602 | 2,434,331 | ||||||||||||||
| Allowance for loan losses, at beginning of year | $ | 23,298 | 23,781 | 28,583 | 40,626 | 48,505 | ||||||||||||||
| Provision (reversal) for loan losses – non-covered | (3,589 | ) | 723 | 2,109 | 2,008 | 7,087 | ||||||||||||||
| Provision (reversal) for loan losses – covered | — | — | (2,132 | ) | (2,788 | ) | 3,108 | |||||||||||||
| Total provision (reversal) for loan losses | (3,589 | ) | 723 | (23 | ) | (780 | ) | 10,195 | ||||||||||||
| 19,709 | 24,504 | 28,560 | 39,846 | 58,700 | ||||||||||||||||
| Loans charged off: | ||||||||||||||||||||
| Commercial, financial, and agricultural | (2,128 | ) | (1,622 | ) | (2,033 | ) | (3,039 | ) | (5,179 | ) | ||||||||||
| Real estate – construction, land development & other land loans | (158 | ) | (589 | ) | (1,101 | ) | (3,616 | ) | (6,071 | ) | ||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | (1,734 | ) | (2,641 | ) | (3,894 | ) | (5,145 | ) | (4,050 | ) | ||||||||||
| Real estate – mortgage – home equity loans / lines of credit | (711 | ) | (978 | ) | (1,010 | ) | (1,117 | ) | (1,607 | ) | ||||||||||
| Real estate – mortgage – commercial and other | (1,459 | ) | (1,182 | ) | (1,088 | ) | (3,103 | ) | (4,405 | ) | ||||||||||
| Installment loans to individuals | (781 | ) | (799 | ) | (1,288 | ) | (2,411 | ) | (1,924 | ) | ||||||||||
| Total charge-offs | (6,971 | ) | (7,811 | ) | (10,414 | ) | (18,431 | ) | (23,236 | ) | ||||||||||
| Recoveries of loans previously charged-off: | ||||||||||||||||||||
| Commercial, financial, and agricultural | 1,195 | 1,311 | 817 | 934 | 149 | |||||||||||||||
| Real estate – construction, land development & other land loans | 4,097 | 2,579 | 2,690 | 3,599 | 3,363 | |||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 833 | 1,076 | 1,207 | 678 | 646 | |||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 364 | 333 | 279 | 143 | 100 | |||||||||||||||
| Real estate – mortgage – commercial and other | 1,503 | 1,027 | 1,286 | 1,390 | 446 | |||||||||||||||
| Installment loans to individuals | 309 | 279 | 406 | 424 | 458 | |||||||||||||||
| Total recoveries | 8,301 | 6,605 | 6,685 | 7,168 | 5,162 | |||||||||||||||
| Net recoveries (charge-offs) | 1,330 | (1,206 | ) | (3,729 | ) | (11,263 | ) | (18,074 | ) | |||||||||||
| Allowance removed related to sold loans | — | — | (1,050 | ) | — | — | ||||||||||||||
| Allowance for loan losses, at end of year | $ | 21,039 | 23,298 | 23,781 | 28,583 | 40,626 | ||||||||||||||
| Covered net recoveries (charge-offs) included above (1) | $ | — | — | 1,714 | 2,306 | (3,332 | ) | |||||||||||||
| Ratios: | ||||||||||||||||||||
| Net charge-offs (recoveries) as a percent of average loans | (0.03% | ) | 0.04% | 0.14% | 0.46% | 0.74% | ||||||||||||||
| Allowance for loan losses as a percent of loans at end of year | 0.50% | 0.58% | 0.88% | 1.13% | 1.70% | |||||||||||||||
| Allowance for loan losses as a multiple of net charge-offs | n/m | 19.32 | x | 6.38 | x | 2.54 | x | 2.25 | x | |||||||||||
| Provision (reversal) for loan losses as a percent of net charge-offs | n/m | 59.95% | (0.62% | ) | (6.93% | ) | 56.41% | |||||||||||||
| Recoveries of loans previously charged-off as a percent of loans charged-off | 119.08% | 84.56% | 64.19% | 38.89% | 22.22% | |||||||||||||||
| (1) | On September 22, 2016, all FDIC loss-share agreements were terminated, and accordingly, assets previously covered under those
agreements became non-covered on that date. n/m – not meaningful |
74
Table 15 Average Deposits
| Year Ended December 31, | ||||||||||||||||||||||||
| 2018 | 2017 | 2016 | ||||||||||||||||||||||
| ($ in thousands) | Average Amount | Average Rate | Average Amount | Average Rate | Average Amount | Average Rate | ||||||||||||||||||
| Interest-bearing checking accounts | $ | 875,751 | 0.10% | $ | 722,286 | 0.07% | $ | 583,786 | 0.06% | |||||||||||||||
| Money market accounts | 1,023,162 | 0.32% | 825,015 | 0.19% | 657,211 | 0.18% | ||||||||||||||||||
| Savings accounts | 439,880 | 0.21% | 385,967 | 0.19% | 200,093 | 0.05% | ||||||||||||||||||
| Time deposits >$100,000 | 641,516 | 1.30% | 504,349 | 0.79% | 405,220 | 0.65% | ||||||||||||||||||
| Other time deposits | 275,904 | 0.38% | 261,910 | 0.30% | 268,854 | 0.33% | ||||||||||||||||||
| Total interest-bearing deposits | 3,256,213 | 0.45% | 2,699,527 | 0.28% | 2,115,164 | 0.24% | ||||||||||||||||||
| Noninterest-bearing checking accounts | 1,260,598 | — | 997,203 | — | 712,349 | — | ||||||||||||||||||
| Total deposits | 4,516,811 | 0.32% | 3,696,730 | 0.20% | 2,827,513 | 0.18% | ||||||||||||||||||
Table 16 Maturities of Time Deposits of $100,000 or More
| As of December 31, 2018 | ||||||||||||||||||||
| ($ in thousands) | 3 Months or Less | Over 3 to 6 Months | Over 6 to 12 Months | Over 12 Months | Total | |||||||||||||||
| Time deposits of $100,000 or more | $ | 175,032 | 174,359 | 204,638 | 136,893 | 690,922 | ||||||||||||||
75
Table 17 Interest Rate Sensitivity Analysis
| Repricing schedule for interest-earning assets and interest-bearing liabilities held as of December 31, 2018 | ||||||||||||||||||||
| ($ in thousands) | 3 Months or Less | Over 3 to 12 Months | Total Within 12 Months | Over 12 Months | Total | |||||||||||||||
| Earning assets: | ||||||||||||||||||||
| Loans (1) | $ | 1,300,310 | 233,384 | 1,533,694 | 2,715,370 | 4,249,064 | ||||||||||||||
| Securities available for sale (2) | 34,764 | 86,594 | 121,358 | 379,993 | 501,351 | |||||||||||||||
| Securities held to maturity (2) | 11,985 | 19,264 | 31,249 | 69,988 | 101,237 | |||||||||||||||
| Short-term investments | 411,127 | — | 411,127 | — | 411,127 | |||||||||||||||
| Total earning assets | $ | 1,758,186 | 339,242 | 2,097,428 | 3,165,351 | 5,262,779 | ||||||||||||||
| Percent of total earning assets | 33.41% | 6.45% | 39.85% | 60.15% | 100.00% | |||||||||||||||
| Cumulative percent of total earning assets | 33.41% | 39.85% | 39.85% | 100.00% | 100.00% | |||||||||||||||
| Interest-bearing liabilities: | ||||||||||||||||||||
| Interest-bearing checking accounts | $ | 916,374 | — | 916,374 | — | 916,374 | ||||||||||||||
| Money market accounts | 1,035,523 | — | 1,035,523 | — | 1,035,523 | |||||||||||||||
| Savings accounts | 432,389 | — | 432,389 | — | 432,389 | |||||||||||||||
| Time deposits of $100,000 or more | 175,032 | 378,997 | 554,029 | 136,893 | 690,922 | |||||||||||||||
| Other time deposits | 77,479 | 122,030 | 199,509 | 64,491 | 264,000 | |||||||||||||||
| Borrowings | 309,704 | 50,000 | 359,704 | 46,905 | 406,609 | |||||||||||||||
| Total interest-bearing liabilities | $ | 2,946,501 | 551,027 | 3,497,528 | 248,289 | 3,745,817 | ||||||||||||||
| Percent of total interest-bearing liabilities | 78.66% | 14.71% | 93.37% | 6.63% | 100.00% | |||||||||||||||
| Cumulative percent of total interest- bearing liabilities | 78.66% | 93.37% | 93.37% | 100.00% | 100.00% | |||||||||||||||
| Interest sensitivity gap | $ | (1,188,315 | ) | (211,785 | ) | (1,400,100 | ) | 2,917,062 | 1,516,962 | |||||||||||
| Cumulative interest sensitivity gap | (1,188,315 | ) | (1,400,100 | ) | (1,400,100 | ) | 1,516,962 | 1,516,962 | ||||||||||||
| Cumulative interest sensitivity gap as a percent of total earning assets | (22.58% | ) | (26.60% | ) | (26.60% | ) | 28.82% | 28.82% | ||||||||||||
| Cumulative ratio of interest-sensitive assets to interest-sensitive liabilities | 59.67% | 59.97% | 59.67% | 140.50% | 140.50% | |||||||||||||||
____________________________________
| (1) | The three months or less category for loans includes $31,296 in adjustable rate loans that are at their contractual rate floors, and approximately $11,604 will reprice higher within the next 100 basis points of increases in the prime rate. |
| (2) | Securities available for sale include government-sponsored enterprise securities, mortgage-backed securities, and corporate bonds. Securities held to maturity include mortgage-backed securities and state and local government securities. For fixed rate mortgage-backed securities, the principal is assumed to reprice equally over the average life of the underlying security. All other fixed rate securities are assumed to reprice based on maturity date or call date. Variable rate securities are included in the period in which they are subject to reprice. |
76
Table 18 Contractual Obligations and Other Commercial Commitments
| Payments Due by Period ($ in thousands) | ||||||||||||||||||||
| Contractual Obligations As of December 31, 2018 | Total | On Demand or Less than 1 Year | 1-3 Years | 4-5 Years | After 5 Years | |||||||||||||||
| Borrowings | $ | 406,609 | 303,000 | 40,000 | 1,275 | 62,334 | ||||||||||||||
| Operating leases | 11,304 | 2,268 | 3,317 | 1,637 | 4,082 | |||||||||||||||
| Total contractual cash obligations, excluding deposits | 417,913 | 305,268 | 43,317 | 2,912 | 66,416 | |||||||||||||||
| Deposits | 4,659,339 | 4,457,954 | 165,706 | 34,862 | 817 | |||||||||||||||
| Total contractual cash obligations, including deposits | $ | 5,077,252 | 4,763,222 | 209,023 | 37,774 | 67,233 | ||||||||||||||
| Amount of Commitment Expiration Per Period ($ in thousands) | ||||||||||||||||||||
| Other Commercial Commitments As of December 31, 2018 | Total Amounts Committed | Less than 1 Year | 1-3 Years | 4-5 Years | After 5 Years | |||||||||||||||
| Credit cards | $ | 123,707 | 61,854 | 61,853 | ||||||||||||||||
| Lines of credit and loan commitments | 1,165,087 | 468,433 | 218,423 | 150,668 | 327,563 | |||||||||||||||
| Standby letters of credit | 15,705 | 15,303 | 400 | 2 | — | |||||||||||||||
| Total commercial commitments | $ | 1,304,499 | 545,590 | 280,676 | 150,670 | 327,563 | ||||||||||||||
77
Table 19 Market Risk Sensitive Instruments
| Expected Maturities of Market Sensitive Instruments Held at December 31, 2018 Occurring in Indicated Year | ||||||||||||||||||||||||||||||||||||
| ($ in thousands) | 2019 | 2020 | 2021 | 2022 | 2023 | Beyond | Total | Average Interest Rate | Estimated Fair Value | |||||||||||||||||||||||||||
| Due from banks, interest-bearing | $ | 406,848 | — | — | — | — | — | 406,848 | 2.37% | $ | 406,848 | |||||||||||||||||||||||||
| Presold mortgages in process of settlement | 4,279 | — | — | — | — | — | 4,279 | 4.41% | 4,279 | |||||||||||||||||||||||||||
| Debt Securities - at amortized cost (1) (2) | 151,015 | 91,013 | 81,117 | 91,127 | 88,024 | 112,682 | 614,978 | 2.92% | 601,257 | |||||||||||||||||||||||||||
| Loans – fixed (3) (4) | 290,455 | 218,660 | 299,049 | 445,146 | 439,727 | 1,062,675 | 2,755,712 | 4.51% | 2,721,947 | |||||||||||||||||||||||||||
| Loans – adjustable (3) (4) | 255,406 | 107,053 | 118,326 | 105,520 | 101,404 | 783,068 | 1,470,777 | 5.58% | 1,457,655 | |||||||||||||||||||||||||||
| Total | $ | 1,108,003 | 416,726 | 498,492 | 641,793 | 629,155 | 1,958,425 | 5,252,594 | 4.46% | $ | 5,191,986 | |||||||||||||||||||||||||
| Interest-bearing checking accounts | $ | 916,374 | — | — | — | — | — | 916,374 | 0.11% | $ | 916,374 | |||||||||||||||||||||||||
| Money market accounts | 1,035,523 | — | — | — | — | — | 1,035,523 | 0.48% | 1,035,523 | |||||||||||||||||||||||||||
| Savings accounts | 432,389 | — | — | — | — | — | 432,389 | 0.26% | 432,389 | |||||||||||||||||||||||||||
| Time deposits | 753,537 | 117,229 | 48,477 | 21,726 | 13,136 | 817 | 954,922 | 1.39% | 949,105 | |||||||||||||||||||||||||||
| Borrowings – fixed | 303,000 | 40,000 | — | — | 1,275 | 8,432 | 352,707 | 2.35% | 351,990 | |||||||||||||||||||||||||||
| Borrowings – adjustable | — | — | — | — | — | 53,902 | 53,902 | 4.60% | 50,566 | |||||||||||||||||||||||||||
| Total | $ | 3,440,823 | 157,229 | 48,477 | 21,726 | 14,411 | 63,151 | 3,745,817 | 0.83% | $ | 3,735,947 | |||||||||||||||||||||||||
______________________
| (1) | Tax-exempt securities are reflected at a tax-equivalent basis using a 23.37% tax rate. |
| (2) | Securities with call dates within 12 months of December 31, 2018 that have above market interest rates are assumed to mature at their call date for purposes of this table. Mortgage securities are assumed to mature in the period of their expected repayment based on estimated prepayment speeds. |
| (3) | Excludes nonaccrual loans. |
| (4) | Loans are shown in the period of their contractual maturity. |
Table 20 Return on Assets and Common Equity
| For the Year Ended December 31, | ||||||||||||
| 2018 | 2017 | 2016 | ||||||||||
| Return on average assets | 1.57% | 1.00% | 0.80% | |||||||||
| Return on average common equity | 12.27% | 8.62% | 7.73% | |||||||||
| Dividend payout ratio – common shares | 13.25% | 17.58% | 23.36% | |||||||||
| Average shareholders’ equity to average assets | 12.78% | 11.61% | 10.54% | |||||||||
78
Table 21 Risk-Based and Leverage Capital Ratios
| As of December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Risk-Based and Leverage Capital | ||||||||||||
| Common Equity Tier I capital: | ||||||||||||
| Shareholders’ equity | $ | 764,230 | 692,979 | 368,101 | ||||||||
| Intangible assets, net of deferred tax liability | (240,625 | ) | (240,299 | ) | (64,496 | ) | ||||||
| Accumulated other comprehensive income adjustments | 11,961 | 4,146 | 5,107 | |||||||||
| Total Common Equity Tier I capital | 535,566 | 456,826 | 308,712 | |||||||||
| Tier I capital: | ||||||||||||
| Trust preferred securities eligible for Tier I capital treatment | 52,198 | 52,054 | 45,000 | |||||||||
| Deductions from Tier I capital | — | (89 | ) | (349 | ) | |||||||
| Total Tier I leverage capital | 587,764 | 508,791 | 353,363 | |||||||||
| Tier II capital: | ||||||||||||
| Allowable allowance for loan losses | 21,039 | 23,298 | 23,781 | |||||||||
| Other Tier II capital | 625 | 818 | 703 | |||||||||
| Tier II capital additions | 21,664 | 24,116 | 24,484 | |||||||||
| Total capital | $ | 609,428 | 532,907 | 377,847 | ||||||||
| Total risk weighted assets | $ | 4,361,238 | 4,262,941 | 2,828,118 | ||||||||
| Adjusted fourth quarter average assets | $ | 5,612,092 | 5,314,246 | 3,474,518 | ||||||||
| Risk-based capital ratios: | ||||||||||||
| Common equity Tier I capital to Tier I risk adjusted assets | 12.28% | 10.72% | 10.92% | |||||||||
| Minimum required under Basel III | 6.375% | 5.75% | 5.125% | |||||||||
| Fully phased-in minimum under Basel III | 7.00% | 7.00% | 7.00% | |||||||||
| Tier I capital to Tier I risk adjusted assets | 13.48% | 11.94% | 12.49% | |||||||||
| Minimum required under Basel III | 7.875% | 7.25% | 6.625% | |||||||||
| Fully phased-in minimum under Basel III | 8.50% | 8.50% | 8.50% | |||||||||
| Total risk-based capital to Tier II risk-adjusted assets | 13.97% | 12.50% | 13.36% | |||||||||
| Minimum required under Basel III | 9.875% | 9.25% | 8.625% | |||||||||
| Fully phased-in minimum under Basel III | 10.50% | 10.50% | 10.50% | |||||||||
| Leverage capital ratios: | ||||||||||||
| Tier I leverage capital to adjusted fourth quarter average assets | 10.47% | 9.58% | 10.17% | |||||||||
| Minimum required under Basel III | 4.00% | 4.00% | 4.00% | |||||||||
| Fully phased-in minimum under Basel III | 4.00% | 4.00% | 4.00% | |||||||||
79
Table 22 Quarterly Financial Summary (Unaudited)
| 2018 | 2017 | |||||||||||||||||||||||||||||||
| ($ in thousands except per share data) | Fourth Quarter | Third Quarter | Second Quarter | First Quarter | Fourth Quarter | Third Quarter | Second Quarter | First Quarter | ||||||||||||||||||||||||
| Income Statement Data | ||||||||||||||||||||||||||||||||
| Interest income, taxable equivalent | $ | 61,635 | 58,647 | 57,102 | 55,417 | 53,686 | 45,713 | 43,520 | 37,053 | |||||||||||||||||||||||
| Interest expense | 7,346 | 6,374 | 5,503 | 4,554 | 4,216 | 3,372 | 2,911 | 2,172 | ||||||||||||||||||||||||
| Net interest income, taxable equivalent | 54,289 | 52,273 | 51,599 | 50,863 | 49,470 | 42,341 | 40,609 | 34,881 | ||||||||||||||||||||||||
| Taxable equivalent, adjustment | 443 | 428 | 367 | 356 | 610 | 702 | 693 | 585 | ||||||||||||||||||||||||
| Net interest income | 53,846 | 51,845 | 51,232 | 50,507 | 48,860 | 41,639 | 39,916 | 34,296 | ||||||||||||||||||||||||
| Provision (reversal) for loan losses | 693 | 87 | (710 | ) | (3,659 | ) | ̶ | ̶ | ̶ | 723 | ||||||||||||||||||||||
| Net interest income after provision for losses | 53,153 | 51,758 | 51,942 | 54,166 | 48,860 | 41,639 | 39,916 | 33,573 | ||||||||||||||||||||||||
| Noninterest income | 14,406 | 15,376 | 16,111 | 15,941 | 14,862 | 12,362 | 11,875 | 9,809 | ||||||||||||||||||||||||
| Noninterest expense | 37,666 | 39,238 | 38,873 | 43,598 | 43,617 | 34,384 | 35,084 | 32,072 | ||||||||||||||||||||||||
| Income before income taxes | 29,893 | 27,896 | 29,180 | 26,509 | 20,105 | 19,617 | 16,707 | 11,310 | ||||||||||||||||||||||||
| Income taxes | 5,998 | 5,905 | 6,450 | 5,836 | 5,928 | 6,531 | 5,553 | 3,755 | ||||||||||||||||||||||||
| Net income available to common shareholders | 23,895 | 21,991 | 22,730 | 20,673 | 14,177 | 13,086 | 11,154 | 7,555 | ||||||||||||||||||||||||
| Per Common Share Data | ||||||||||||||||||||||||||||||||
| Earnings per common share – basic | $ | 0.81 | 0.74 | 0.77 | 0.70 | 0.48 | 0.53 | 0.45 | 0.34 | |||||||||||||||||||||||
| Earnings per common share – diluted | 0.80 | 0.74 | 0.77 | 0.70 | 0.48 | 0.53 | 0.45 | 0.34 | ||||||||||||||||||||||||
| Cash dividends declared | 0.10 | 0.10 | 0.10 | 0.10 | 0.08 | 0.08 | 0.08 | 0.08 | ||||||||||||||||||||||||
| Market Price | ||||||||||||||||||||||||||||||||
| High | 41.74 | 43.14 | 42.94 | 37.85 | 41.76 | 34.85 | 32.27 | 31.31 | ||||||||||||||||||||||||
| Low | 30.50 | 39.32 | 34.70 | 33.88 | 34.08 | 29.73 | 27.50 | 26.47 | ||||||||||||||||||||||||
| Close | 32.66 | 40.51 | 40.91 | 35.65 | 35.31 | 34.41 | 31.26 | 29.29 | ||||||||||||||||||||||||
| Stated book value - common | 25.71 | 24.99 | 24.20 | 23.79 | 23.38 | 20.73 | 20.29 | 19.85 | ||||||||||||||||||||||||
| Tangible book value - common | 17.18 | 16.43 | 15.79 | 15.17 | 14.69 | 14.25 | 14.16 | 13.53 | ||||||||||||||||||||||||
| Selected Average Balances | ||||||||||||||||||||||||||||||||
| Assets | $ | 5,840,964 | 5,712,940 | 5,671,620 | 5,549,516 | 5,554,545 | 4,514,409 | 4,448,404 | 3,856,589 | |||||||||||||||||||||||
| Loans | 4,222,417 | 4,191,751 | 4,133,689 | 4,099,495 | 4,048,224 | 3,404,862 | 3,327,391 | 2,903,279 | ||||||||||||||||||||||||
| Earning assets | 5,238,827 | 5,105,981 | 5,042,904 | 4,917,628 | 4,899,421 | 4,040,257 | 3,989,593 | 3,478,525 | ||||||||||||||||||||||||
| Deposits | 4,264,868 | 4,526,012 | 4,512,559 | 4,403,805 | 4,390,879 | 3,632,319 | 3,610,944 | 3,152,778 | ||||||||||||||||||||||||
| Interest-bearing liabilities | 3,697,076 | 3,654,176 | 3,671,692 | 3,629,364 | 3,618,312 | 2,958,134 | 2,944,208 | 2,580,950 | ||||||||||||||||||||||||
| Shareholders’ equity | 754,734 | 737,560 | 717,975 | 701,411 | 699,558 | 520,432 | 496,791 | 426,842 | ||||||||||||||||||||||||
| Ratios (annualized where applicable) | ||||||||||||||||||||||||||||||||
| Return on average assets | 1.62% | 1.53% | 1.61% | 1.51% | 1.01% | 1.15% | 1.01% | 0.79% | ||||||||||||||||||||||||
| Return on average common equity | 12.56% | 11.83% | 12.70% | 11.95% | 8.04% | 9.98% | 9.01% | 7.18% | ||||||||||||||||||||||||
| Equity to assets at end of period | 13.03% | 13.01% | 12.68% | 12.51% | 12.49% | 11.16% | 11.06% | 11.02% | ||||||||||||||||||||||||
| Tangible equity to tangible assets at end of period | 9.07% | 8.95% | 8.59% | 8.35% | 8.23% | 7.95% | 7.98% | 7.79% | ||||||||||||||||||||||||
| Average loans to average deposits | 91.30% | 92.60% | 91.60% | 93.09% | 92.20% | 93.74% | 92.15% | 92.09% | ||||||||||||||||||||||||
| Average earning assets to interest- bearing liabilities | 141.70% | 139.73% | 137.35% | 135.50% | 135.41% | 136.58% | 135.51% | 134.78% | ||||||||||||||||||||||||
| Net interest margin | 4.11% | 4.06% | 4.10% | 4.19% | 4.01% | 4.16% | 4.08% | 4.07% | ||||||||||||||||||||||||
| Allowance for loan losses to gross loans | 0.50% | 0.49% | 0.56% | 0.57% | 0.58% | 0.72% | 0.71% | 0.72% | ||||||||||||||||||||||||
| Nonperforming loans as a percent of total loans | 0.85% | 0.83% | 1.03% | 0.98% | 1.01% | 1.27% | 1.30% | 1.44% | ||||||||||||||||||||||||
| Nonperforming assets as a percent of total assets | 0.74% | 0.72% | 0.90% | 0.92% | 0.96% | 1.16% | 1.21% | 1.35% | ||||||||||||||||||||||||
| Net charge-offs (recoveries) as a percent of average total loans | 0.02% | 0.27% | (0.07% | ) | (0.36% | ) | 0.13% | (0.07% | ) | (0.06% | ) | 0.13% | ||||||||||||||||||||
80
Item 8. Financial Statements and Supplementary Data
First Bancorp and Subsidiaries
December 31, 2018 and 2017
| ($ in thousands) | 2018 | 2017 | ||||||
| Assets | ||||||||
| Cash and due from banks, noninterest-bearing | $ | 56,050 | 114,301 | |||||
| Due from banks, interest-bearing | 406,848 | 375,189 | ||||||
| Total cash and cash equivalents | 462,898 | 489,490 | ||||||
| Securities available for sale | 501,351 | 343,270 | ||||||
| Securities held to maturity (fair values of $99,906 in 2018 and $118,998 in 2017) | 101,237 | 118,503 | ||||||
| Presold mortgages in process of settlement | 4,279 | 12,459 | ||||||
| Loans | 4,249,064 | 4,042,369 | ||||||
| Allowance for loan losses | (21,039 | ) | (23,298 | ) | ||||
| Net loans | 4,228,025 | 4,019,071 | ||||||
| Premises and equipment | 119,000 | 116,233 | ||||||
| Accrued interest receivable | 16,004 | 14,094 | ||||||
| Goodwill | 234,368 | 233,070 | ||||||
| Other intangible assets | 21,112 | 24,437 | ||||||
| Foreclosed real estate | 7,440 | 12,571 | ||||||
| Bank-owned life insurance | 101,878 | 99,162 | ||||||
| Other assets | 66,524 | 64,677 | ||||||
| Total assets | $ | 5,864,116 | 5,547,037 | |||||
| Liabilities | ||||||||
| Deposits: Noninterest-bearing checking accounts | $ | 1,320,131 | 1,196,161 | |||||
| Interest-bearing checking accounts | 916,374 | 884,254 | ||||||
| Money market accounts | 1,035,523 | 984,945 | ||||||
| Savings accounts | 432,389 | 454,860 | ||||||
| Time deposits of $100,000 or more | 690,922 | 593,123 | ||||||
| Other time deposits | 264,000 | 293,612 | ||||||
| Total deposits | 4,659,339 | 4,406,955 | ||||||
| Borrowings | 406,609 | 407,543 | ||||||
| Accrued interest payable | 1,976 | 1,235 | ||||||
| Other liabilities | 31,962 | 38,325 | ||||||
| Total liabilities | 5,099,886 | 4,854,058 | ||||||
| Commitments and contingencies (see Note 13) | ||||||||
| Shareholders’ Equity | ||||||||
| Preferred stock, no par value per share. Authorized: 5,000,000 shares | ||||||||
| Issued & outstanding: none in 2018 and 2017 | — | — | ||||||
| Common stock, no par value per share. Authorized: 40,000,000 shares | ||||||||
| Issued & outstanding: 29,724,874 shares in 2018 and 29,639,374 shares in 2017 | 434,453 | 432,794 | ||||||
| Retained earnings | 341,738 | 264,331 | ||||||
| Stock in rabbi trust assumed in acquisition | (3,235 | ) | (3,581 | ) | ||||
| Rabbi trust obligation | 3,235 | 3,581 | ||||||
| Accumulated other comprehensive income (loss) | (11,961 | ) | (4,146 | ) | ||||
| Total shareholders’ equity | 764,230 | 692,979 | ||||||
| Total liabilities and shareholders’ equity | $ | 5,864,116 | 5,547,037 | |||||
See accompanying notes to consolidated financial statements.
81
First Bancorp and Subsidiaries
Consolidated Statements of Income
Years Ended December 31, 2018, 2017 and 2016
| ($ in thousands, except per share data) | 2018 | 2017 | 2016 | |||||||||
| Interest Income | ||||||||||||
| Interest and fees on loans | $ | 208,609 | 163,738 | 121,322 | ||||||||
| Interest on investment securities: | ||||||||||||
| Taxable interest income | 10,638 | 7,007 | 6,162 | |||||||||
| Tax-exempt interest income | 1,482 | 1,677 | 1,748 | |||||||||
| Other, principally overnight investments | 10,478 | 4,960 | 1,755 | |||||||||
| Total interest income | 231,207 | 177,382 | 130,987 | |||||||||
| Interest Expense | ||||||||||||
| Savings, checking and money market accounts | 5,074 | 2,761 | 1,620 | |||||||||
| Time deposits of $100,000 or more | 8,356 | 4,005 | 2,654 | |||||||||
| Other time deposits | 1,061 | 778 | 896 | |||||||||
| Borrowings | 9,286 | 5,127 | 2,437 | |||||||||
| Total interest expense | 23,777 | 12,671 | 7,607 | |||||||||
| Net interest income | 207,430 | 164,711 | 123,380 | |||||||||
| Provision (reversal) for loan losses – non-covered | (3,589 | ) | 723 | 2,109 | ||||||||
| Provision (reversal) for loan losses – covered | — | — | (2,132 | ) | ||||||||
| Total provision (reversal) for loan losses | (3,589 | ) | 723 | (23 | ) | |||||||
| Net interest income after provision for loan losses | 211,019 | 163,988 | 123,403 | |||||||||
| Noninterest Income | ||||||||||||
| Service charges on deposit accounts | 12,690 | 11,862 | 10,571 | |||||||||
| Other service charges, commissions and fees | 19,945 | 14,610 | 11,913 | |||||||||
| Fees from presold mortgage loans | 2,735 | 5,695 | 2,033 | |||||||||
| Commissions from sales of insurance and financial products | 8,731 | 5,300 | 3,790 | |||||||||
| SBA consulting fees | 4,675 | 4,024 | 3,199 | |||||||||
| SBA loan sale gains | 10,366 | 5,479 | 1,433 | |||||||||
| Bank-owned life insurance income | 2,534 | 2,321 | 2,052 | |||||||||
| Foreclosed property losses, net | (565 | ) | (531 | ) | (625 | ) | ||||||
| FDIC indemnification asset income (expense), net | — | — | (10,255 | ) | ||||||||
| Securities gains (losses), net | — | (235 | ) | 3 | ||||||||
| Gain on branch sale | — | — | 1,466 | |||||||||
| Other gains (losses), net | 723 | 383 | (29 | ) | ||||||||
| Total noninterest income | 61,834 | 48,908 | 25,551 | |||||||||
| Noninterest Expenses | ||||||||||||
| Salaries | 75,077 | 66,786 | 51,252 | |||||||||
| Employee benefits | 16,888 | 15,313 | 11,568 | |||||||||
| Total personnel expense | 91,965 | 82,099 | 62,820 | |||||||||
| Occupancy expense | 10,793 | 9,661 | 7,838 | |||||||||
| Equipment related expenses | 5,627 | 4,480 | 3,608 | |||||||||
| Merger and acquisition expenses | 2,358 | 8,073 | 1,431 | |||||||||
| Intangibles amortization | 6,763 | 4,240 | 1,211 | |||||||||
| Other operating expenses | 41,869 | 36,604 | 29,913 | |||||||||
| Total noninterest expenses | 159,375 | 145,157 | 106,821 | |||||||||
| Income before income taxes | 113,478 | 67,739 | 42,133 | |||||||||
| Income tax expense | 24,189 | 21,767 | 14,624 | |||||||||
| Net income | 89,289 | 45,972 | 27,509 | |||||||||
| Preferred stock dividends | — | — | (175 | ) | ||||||||
| Net income available to common shareholders | $ | 89,289 | 45,972 | 27,334 | ||||||||
| Earnings per common share: Basic | $ | 3.02 | 1.82 | 1.37 | ||||||||
| Earnings per common share: Diluted | 3.01 | 1.82 | 1.33 | |||||||||
| Dividends declared per common share | $ | 0.40 | 0.32 | 0.32 | ||||||||
| Weighted average common shares outstanding: | ||||||||||||
| Basic | 29,566,259 | 25,210,606 | 19,964,727 | |||||||||
| Diluted | 29,707,431 | 25,291,382 | 20,732,917 | |||||||||
See accompanying notes to consolidated financial statements.
82
First Bancorp and Subsidiaries
Consolidated Statements of Comprehensive Income
Years Ended December 31, 2018, 2017 and 2016
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Net income | $ | 89,289 | 45,972 | 27,509 | ||||||||
| Other comprehensive income (loss): | ||||||||||||
| Unrealized gains (losses) on securities available for sale: | ||||||||||||
| Unrealized holding gains (losses) arising during the period, pretax | (10,179 | ) | 639 | (1,919 | ) | |||||||
| Tax (expense) benefit | 2,379 | (234 | ) | 683 | ||||||||
| Reclassification to realized (gains) losses | — | 235 | (3 | ) | ||||||||
| Tax expense (benefit) | — | (87 | ) | 1 | ||||||||
| Postretirement plans: | ||||||||||||
| Net gain (loss) arising during period | (41 | ) | 1,601 | (557 | ) | |||||||
| Tax (expense) benefit | 10 | (593 | ) | 115 | ||||||||
| Amortization of unrecognized net actuarial (gain) loss | 21 | 211 | 202 | |||||||||
| Tax expense (benefit) | (5 | ) | (75 | ) | (79 | ) | ||||||
| Other comprehensive income (loss) | (7,815 | ) | 1,697 | (1,557 | ) | |||||||
| Comprehensive income | $ | 81,474 | 47,669 | 25,952 | ||||||||
See accompanying notes to consolidated financial statements.
83
First Bancorp and Subsidiaries
Consolidated Statements of Shareholders’ Equity
Years Ended December 31, 2018, 2017 and 2016
| ($ in thousands, except per share) | Preferred | Common Stock | Retained | Stock in rabbi trust assumed in acquisi- | Rabbi trust | Accumu- lated Other Compre- hensive Income | Total Share- holders’ | |||||||||||||||||||||||||
| Stock | Shares | Amount | Earnings | tion | obligation | (Loss) | Equity | |||||||||||||||||||||||||
| Balances, January 1, 2016 | $ | 7,287 | 19,748 | $ | 133,393 | 205,060 | — | — | (3,550 | ) | 342,190 | |||||||||||||||||||||
| Net income | 27,509 | 27,509 | ||||||||||||||||||||||||||||||
| Cash dividends declared ($0.32 per common share) | (6,473 | ) | (6,473 | ) | ||||||||||||||||||||||||||||
| Preferred stock dividends | (175 | ) | (175 | ) | ||||||||||||||||||||||||||||
| Conversion of preferred stock to common stock | (7,287 | ) | 729 | 7,287 | — | |||||||||||||||||||||||||||
| Equity issued pursuant to acquisitions | 279 | 5,509 | 5,509 | |||||||||||||||||||||||||||||
| Stock option exercises | 23 | 375 | 375 | |||||||||||||||||||||||||||||
| Stock withheld for payment of taxes | (6 | ) | (166 | ) | (166 | ) | ||||||||||||||||||||||||||
| Stock-based compensation | 72 | 889 | 889 | |||||||||||||||||||||||||||||
| Other comprehensive income (loss) | (1,557 | ) | (1,557 | ) | ||||||||||||||||||||||||||||
| Balances, December 31, 2016 | — | 20,845 | 147,287 | 225,921 | — | — | (5,107 | ) | 368,101 | |||||||||||||||||||||||
| Net income | 45,972 | 45,972 | ||||||||||||||||||||||||||||||
| Cash dividends declared ($0.32 per common share) | (8,298 | ) | (8,298 | ) | ||||||||||||||||||||||||||||
| Equity issued pursuant to acquisitions | 8,733 | 284,192 | (7,688 | ) | 7,688 | 284,192 | ||||||||||||||||||||||||||
| Payment of deferred fees | 4,107 | (4,107 | ) | — | ||||||||||||||||||||||||||||
| Stock option exercises | 18 | 287 | 287 | |||||||||||||||||||||||||||||
| Stock withheld for payment of taxes | (7 | ) | (231 | ) | (231 | ) | ||||||||||||||||||||||||||
| Stock-based compensation | 50 | 1,259 | 1,259 | |||||||||||||||||||||||||||||
| Reclassification of accumulated other comprehensive income due to statutory tax changes | 736 | (736 | ) | — | ||||||||||||||||||||||||||||
| Other comprehensive income (loss) | 1,697 | 1,697 | ||||||||||||||||||||||||||||||
| Balances, December 31, 2017 | — | 29,639 | 432,794 | 264,331 | (3,581 | ) | 3,581 | (4,146 | ) | 692,979 | ||||||||||||||||||||||
| Net income | 89,289 | 89,289 | ||||||||||||||||||||||||||||||
| Cash dividends declared ($0.40 per common share) | (11,882 | ) | (11,882 | ) | ||||||||||||||||||||||||||||
| Payment of deferred fees | 346 | (346 | ) | — | ||||||||||||||||||||||||||||
| Stock option exercises | 25 | 324 | 324 | |||||||||||||||||||||||||||||
| Stock withheld for payment of taxes | (11 | ) | (406 | ) | (406 | ) | ||||||||||||||||||||||||||
| Stock-based compensation | 72 | 1,741 | 1,741 | |||||||||||||||||||||||||||||
| Other comprehensive income (loss) | (7,815 | ) | (7,815 | ) | ||||||||||||||||||||||||||||
| Balances, December 31, 2018 | $ | — | 29,725 | $ | 434,453 | 341,738 | (3,235 | ) | 3,235 | (11,961 | ) | 764,230 | ||||||||||||||||||||
See accompanying notes to consolidated financial statements.
84
First Bancorp and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31, 2018, 2017 and 2016
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Cash Flows From Operating Activities | ||||||||||||
| Net income | $ | 89,289 | 45,972 | 27,509 | ||||||||
| Reconciliation of net income to net cash provided by operating activities: | ||||||||||||
| Provision (reversal) for loan losses | (3,589 | ) | 723 | (23 | ) | |||||||
| Net security premium amortization | 2,749 | 2,908 | 3,341 | |||||||||
| Loan discount accretion | (7,812 | ) | (7,076 | ) | (4,451 | ) | ||||||
| Purchase accounting accretion and amortization, net | (190 | ) | (236 | ) | — | |||||||
| FDIC indemnification asset expense, net | — | — | 10,255 | |||||||||
| Foreclosed property losses and write-downs, net | 565 | 531 | 625 | |||||||||
| Loss (gain) on securities available for sale | — | 235 | (3 | ) | ||||||||
| Other (gains) losses | (723 | ) | (383 | ) | 29 | |||||||
| Decrease (increase) in net deferred loan costs | (2,285 | ) | 975 | 922 | ||||||||
| Depreciation of premises and equipment | 6,077 | 5,493 | 4,602 | |||||||||
| Stock-based compensation expense | 1,569 | 1,095 | 714 | |||||||||
| Amortization of intangible assets | 6,763 | 4,240 | 1,211 | |||||||||
| Fees/gains from sale of presold mortgage and SBA loans | (13,101 | ) | (11,174 | ) | (3,466 | ) | ||||||
| Originations of presold mortgage loans in process of settlement | (118,791 | ) | (228,871 | ) | (76,912 | ) | ||||||
| Proceeds from sales of presold mortgage loans in process of settlement | 129,519 | 235,493 | 81,127 | |||||||||
| Origination of SBA loans for sale | (196,784 | ) | (95,436 | ) | (24,784 | ) | ||||||
| Proceeds from sales of SBA loans | 157,427 | 77,034 | 20,021 | |||||||||
| Gain on sale of branches | — | — | (1,466 | ) | ||||||||
| Increase in accrued interest receivable | (1,910 | ) | (1,072 | ) | (120 | ) | ||||||
| Decrease (increase) in other assets | 3,525 | 6,724 | (724 | ) | ||||||||
| Increase (decrease) in accrued interest payable | 741 | 392 | (4 | ) | ||||||||
| Increase (decrease) in other liabilities | (6,629 | ) | (10,729 | ) | 2,868 | |||||||
| Net cash provided by operating activities | 46,410 | 26,838 | 41,271 | |||||||||
| Cash Flows From Investing Activities | ||||||||||||
| Purchases of securities available for sale | (230,794 | ) | (191,260 | ) | (114,396 | ) | ||||||
| Purchases of securities held to maturity | — | (291 | ) | — | ||||||||
| Proceeds from maturities/issuer calls of securities available for sale | 60,871 | 37,974 | 76,939 | |||||||||
| Proceeds from maturities/issuer calls of securities held to maturity | 16,183 | 22,344 | 23,368 | |||||||||
| Proceeds from sales of securities available for sale | — | 140,621 | 8 | |||||||||
| Purchases of Federal Reserve and Federal Home Loan Bank stock, net | (6,129 | ) | (9,947 | ) | (3,933 | ) | ||||||
| Net increase in loans | (152,972 | ) | (204,631 | ) | (192,393 | ) | ||||||
| Payments related to FDIC loss share agreements | — | — | (1,554 | ) | ||||||||
| Payment to FDIC for termination of loss share agreements | — | — | (2,012 | ) | ||||||||
| Proceeds from sales of foreclosed real estate | 7,532 | 8,647 | 7,954 | |||||||||
| Purchases of premises and equipment | (10,723 | ) | (4,659 | ) | (8,689 | ) | ||||||
| Proceeds from sales of premises and equipment | 2,753 | 151 | 2,025 | |||||||||
| Proceeds from branch sale | — | — | 26,211 | |||||||||
| Net cash received (paid) in acquisitions | — | 72,519 | (53,640 | ) | ||||||||
| Net cash used by investing activities | (313,279 | ) | (128,532 | ) | (240,112 | ) | ||||||
| Cash Flows From Financing Activities | ||||||||||||
| Net increase in deposits | 252,756 | 195,468 | 158,989 | |||||||||
| Net increase (decrease) in borrowings | (1,116 | ) | 97,263 | 85,000 | ||||||||
| Cash dividends paid – common stock | (11,281 | ) | (7,596 | ) | (6,399 | ) | ||||||
| Cash dividends paid – preferred stock | — | — | (233 | ) | ||||||||
| Proceeds from stock option exercises | 324 | 287 | 375 | |||||||||
| Stock withheld for payment of taxes | (406 | ) | (231 | ) | (166 | ) | ||||||
| Net cash provided by financing activities | 240,277 | 285,191 | 237,566 | |||||||||
| Increase (decrease) in Cash and Cash Equivalents | (26,592 | ) | 183,497 | 38,725 | ||||||||
| Cash and Cash Equivalents, Beginning of Year | 489,490 | 305,993 | 267,268 | |||||||||
| Cash and Cash Equivalents, End of Year | $ | 462,898 | 489,490 | 305,993 | ||||||||
| Supplemental Disclosures of Cash Flow Information: | ||||||||||||
| Cash paid during the period for interest | 23,036 | 12,239 | 7,653 | |||||||||
| Cash paid during the period for income taxes | 21,162 | 19,537 | 11,791 | |||||||||
| Non-cash: Foreclosed loans transferred to foreclosed real estate | 4,148 | 5,452 | 8,117 | |||||||||
| Non-cash: Unrealized gain (loss) on securities available for sale, net of taxes | (7,800 | ) | 553 | (1,238 | ) | |||||||
See accompanying notes to consolidated financial statements.
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First Bancorp and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2018
Note 1. Summary of Significant Accounting Policies
(a) Basis of Presentation - The consolidated financial statements include the accounts of First Bancorp (the “Company”) and its wholly owned subsidiary - First Bank (the “Bank”). The Bank has three wholly owned subsidiaries that are fully consolidated - First Bank Insurance Services, Inc. (“First Bank Insurance”), SBA Complete, Inc. (“SBA Complete”), and First Troy SPE, LLC. All significant intercompany accounts and transactions have been eliminated. Subsequent events have been evaluated through the date of filing this Form 10-K.
The Company is a bank holding company. The principal activity of the Company is the ownership and operation of the Bank, a state chartered bank with its main office in Southern Pines, North Carolina. The Company is also the parent company for a series of statutory trusts that were formed at various times since 2002 for the purpose of issuing trust preferred debt securities. The trusts are not consolidated for financial reporting purposes; however, notes issued by the Company to the trusts in return for the proceeds from the issuance of the trust preferred securities are included in the consolidated financial statements and have terms that are substantially the same as the corresponding trust preferred securities. The trust preferred securities qualify as capital for regulatory capital adequacy requirements. First Bank Insurance is an agent for property and casualty insurance policies. SBA Complete specializes in providing consulting services for financial institutions across the country related to Small Business Administration (“SBA”) loan origination and servicing. First Troy SPE, LLC was formed in order to hold and dispose of certain real estate foreclosed upon by the Bank.
The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The most significant estimates made by the Company in the preparation of its consolidated financial statements are the determination of the allowance for loan losses, the valuation of other real estate, the accounting and impairment testing related to intangible assets, and the fair value and discount accretion of acquired loans.
(b) Reclassifications - Certain amounts for prior years have been reclassified to conform to the 2018 presentation. The reclassifications had no effect on net income or shareholders’ equity as previously presented, nor did they materially impact trends in financial information.
(c) Business Combinations – The Company accounts for business combinations using the acquisition method of accounting. The accounts of an acquired entity are included as of the date of acquisition, and any excess of purchase price over the fair value of the net assets acquired is capitalized as goodwill. Under this method, all identifiable assets acquired, including purchased loans, and liabilities assumed are recorded at fair value.
The Company typically issues common stock and/or pays cash for an acquisition, depending on the terms of the acquisition agreement. The value of common shares issued is determined based on the market price of the stock as of the closing of the acquisition.
(d) Cash and Cash Equivalents - The Company considers all highly liquid assets such as cash on hand, noninterest-bearing and interest-bearing amounts due from banks and federal funds sold to be “cash equivalents.”
(e) Securities - Debt securities that the Company has the positive intent and ability to hold to maturity are classified as “held to maturity” and carried at amortized cost. Securities not classified as held to maturity are classified as “available for sale” and carried at fair value, with unrealized gains and losses being reported as other comprehensive income or loss and reported as a separate component of shareholders’ equity.
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A decline in the market value of any available for sale or held to maturity security below cost that is deemed to be other than temporary results in a reduction in carrying amount to fair value. The impairment is charged to earnings and a new cost basis for the security is established. Any equity security that is in an unrealized loss position for twelve consecutive months is presumed to be other than temporarily impaired and an impairment charge is recorded unless the amount of the charge is insignificant.
Gains and losses on sales of securities are recognized at the time of sale based upon the specific identification method. Premiums and discounts are amortized into income on a level yield basis, with premiums being amortized to the earliest call date and discounts being accreted to the stated maturity date.
(f) Premises and Equipment - Premises and equipment are stated at cost less accumulated depreciation. Depreciation, computed by the straight-line method, is charged to operations over the estimated useful lives of the properties, which range from 2 to 40 years or, in the case of leasehold improvements, over the term of the lease, if shorter. Maintenance and repairs are charged to operations in the year incurred. Gains and losses on dispositions are included in current operations.
(g) Loans – Loans are stated at the principal amount outstanding less any partial charge-offs plus deferred origination costs, net of nonrefundable loan fees. Interest on loans is accrued on the unpaid principal balance outstanding. Net deferred loan origination costs/fees are capitalized and recognized as a yield adjustment over the life of the related loan.
The Company does not hold a significant amount of interest-only strips, loans, other receivables, or retained interests in securitizations that can be contractually prepaid or otherwise settled in a way that it would not recover substantially all of its recorded investment.
Purchased loans acquired in a business combination are recorded at estimated fair value on their purchase date. No allowance for loan losses is carried over from the seller or otherwise recorded on the purchase date.
The Company follows specific accounting guidance related to purchased impaired loans. A loan is considered to be a purchased credit impaired loan when purchased loans have evidence of credit deterioration since origination and it is probable at the date of acquisition that the Company will not collect all contractually required principal and interest payments. Evidence of credit quality deterioration as of the purchase date may include statistics such as past due, risk grade and nonaccrual status. At the acquisition date, when possible, a stream of expected cash flows is estimated and compared to the estimated fair value in order to determine the accretable yield amount, which is then recognized over the life of the loan based on the effective yield method. Throughout the life of the loan, the stream of expected cash flows may change based on actual results of the loan or the assumptions related to the future performance. Subsequent changes of expected cash flows may result in changes to accretable yield if the present value of expected cash flows exceeds the carrying value or an impairment reserve if the present value of expected cash flows is less than the carrying amount.
For purchased impaired loans for which the timing and amount of cash flows expected to be collected cannot be reasonably estimated, the Company uses the cost recovery method of income recognition. Under the cost recovery method of income recognition, all cash receipts are initially applied to principal, with interest income being recorded only after the carrying value of the loan has been reduced to zero.
For nonimpaired purchased loans, the Company accretes any fair value discount over the life of the loan in a manner consistent with the guidance for accounting for loan origination fees and costs. An allowance for loan losses is recorded for these loans when the estimated credit losses exceed the remaining unamortized discounts, based on pools of similar loans.
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A loan is placed on nonaccrual status when, in management’s judgment, the collection of interest appears doubtful. The accrual of interest is discontinued on substantially all loans that become 90 days or more past due with respect to principal or interest. The past due status of loans is based on the contractual payment terms. While a loan is on nonaccrual status, the Company’s policy is that all cash receipts are applied to principal. Once the recorded principal balance has been reduced to zero, future cash receipts are applied to recoveries of any amounts previously charged off. Further cash receipts are recorded as interest income to the extent that any interest has been foregone. Loans are removed from nonaccrual status when they become current as to both principal and interest, when concern no longer exists as to the collectability of principal or interest, and when the loan has provided generally six months of satisfactory payment performance. In some cases, where borrowers are experiencing financial difficulties, loans may be restructured to provide terms significantly different from the originally contracted terms. For a nonaccrual loan that has been restructured, if the borrower has six months of satisfactory performance under the restructured terms and it is reasonably assured that the borrower will continue to be able to comply with the restructured terms, the loan may be returned to accruing status. The nonaccrual policy discussed above applies to all loan classifications.
A loan is considered to be impaired when, based on current information and events, it is probable the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. A loan is specifically evaluated for an appropriate valuation allowance if the loan balance is above a prescribed evaluation threshold (which varies based on credit quality, accruing status, troubled debt restructured status, and type of collateral) and the loan is determined to be impaired. Impaired loans are measured using either 1) an estimate of the cash flows that the Company expects to receive from the borrower discounted at the loan’s effective rate, or 2) in the case of a collateral-dependent loan, the fair value of the collateral less estimated selling costs. Unless restructured, while a loan is considered to be impaired, the Company’s policy is that interest accrual is discontinued and all cash receipts are applied to principal. Once the recorded principal balance has been reduced to zero, future cash receipts are applied to recoveries of any amounts previously charged off. Further cash receipts are recorded as interest income to the extent that any interest has been foregone. Impaired loans that are restructured are returned to accruing status in accordance with the restructured terms if the Company believes that the borrower will be able to meet the obligations of the restructured loan terms, and the loan has provided generally six months of satisfactory payment performance. The impairment policy discussed above applies to all loan classifications.
(h) Presold Mortgages in Process of Settlement - As a part of normal business operations, the Company originates residential mortgage loans that have been pre-approved by secondary investors to be sold on a best efforts basis. The terms of the loans are set by the secondary investors, and the purchase price that the investor will pay for the loan is agreed to prior to the funding of the loan by the Company. Generally within three weeks after funding, the loans are transferred to the investor in accordance with the agreed-upon terms. The Company records gains from the sale of these loans on the settlement date of the sale equal to the difference between the proceeds received and the carrying amount of the loan. The gain generally represents the portion of the proceeds attributed to service release premiums received from the investors and the realization of origination fees received from borrowers that were deferred as part of the carrying amount of the loan. Between the initial funding of the loans by the Company and the subsequent reimbursement by the investors, the Company carries the loans on its balance sheet at the lower of cost or market.
(i) SBA Loan Originations – Beginning in 2016, through its SBA Lending Division, the Company began offering loans guaranteed by the Small Business Administration (“SBA”) for the purchase of businesses, business startups, business expansion, equipment, and working capital. All SBA loans are underwritten and documented as prescribed by the SBA. SBA loans are generally fully amortizing and have maturity dates and amortizations of up to 25 years. The portion of SBA loans originated that are guaranteed and intended for sale on the secondary market are classified as held for sale and are carried at the lower of cost or fair value - there were an insignificant amount of these loans held for sale at December 31, 2018 and 2017. The Company generally sells the guaranteed portion of the SBA loan soon after origination and retains the servicing right. When the guaranteed portion of an SBA loan is sold, the Company allocates the carrying basis between the guaranteed portion of the loan sold, the unguaranteed portion of the loans retained, and the servicing asset based on their relative fair values. A gain is recorded for the difference between the proceeds received from the sale and the basis allocated to the sold portion. The servicing asset is included in “Other intangible assets” and is amortized as expense over the life of the loan. Servicing assets are aggregated by year of origination and tested for impairment on a quarterly basis. Servicing fees collected are recorded as noninterest income. The relative fair value allocation also results in a discount that is recorded on the unguaranteed portion of the loan that is retained. This discount is amortized as a yield adjustment over the life of the loan, so long as the loan performs. In the event of default, the remaining discount is available to offset the write-off of the remaining servicing asset and deferred origination costs, with any remaining discount available to offset any loan charge-off.
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Periodically, the Company originates other types of commercial loans and decides to sell them in the secondary market. The Company carries these loans at the lower of cost or fair value at each reporting date. There were no such loans held for sale as of December 31, 2018 or 2017.
(j) Allowance for Loan Losses - The allowance for loan losses is established through a provision for loan losses charged to expense. Loans are charged-off against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Recoveries on loans previously charged-off are added back to the allowance. The provision for loan losses charged to operations is an amount sufficient to bring the allowance for loan losses to an estimated balance considered adequate to absorb losses inherent in the portfolio. Management’s determination of the adequacy of the allowance is based on several factors, including:
| 1. | Risk grades assigned to the loans in the portfolio, |
| 2. | Specific reserves for individually evaluated impaired loans, |
| 3. | Current economic conditions, including the local, state, and national economic outlook; interest rate risk; trends in loan volume, mix and size of loans; levels and trends of delinquencies, |
| 4. | Historical loan loss experience, and |
| 5. | An assessment of the risk characteristics of the Company’s loan portfolio, including industry concentrations, payment structures, changes in property values, and credit administration practices. |
While management uses the best information available to make evaluations, future adjustments may be necessary if economic and other conditions differ substantially from the assumptions used.
In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on the examiners’ judgment about information available to them at the time of their examinations.
(k) Foreclosed Real Estate - Foreclosed real estate consists primarily of real estate acquired by the Company through legal foreclosure or deed in lieu of foreclosure. The property is initially carried at the lower of cost (generally the loan balance plus additional costs incurred for improvements to the property) or the estimated fair value of the property less estimated selling costs (also see Note 14). If there are subsequent declines in fair value, which is reviewed routinely by management, the property is written down to its fair value through a charge to expense. Capital expenditures made to improve the property are capitalized. Costs of holding real estate, such as property taxes, insurance and maintenance, less related revenues during the holding period, are recorded as expense.
(l) Income Taxes - Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred tax assets are reduced, if necessary, by the amount of such benefits that are not expected to be realized based upon available evidence. The Company’s investment tax credits, which are low income housing tax credits and state historic tax credits, are recorded in the period that they are reflected in the Company’s tax returns.
(m) Intangible Assets - Business combinations are accounted for using the purchase method of accounting. Identifiable intangible assets are recognized separately and are amortized over their estimated useful lives, which for the Company has generally been seven to ten years and at an accelerated rate. Goodwill is recognized in business combinations to the extent that the price paid exceeds the fair value of the net assets acquired, including any identifiable intangible assets. Goodwill is not amortized, but as discussed in Note 1(s), is subject to fair value impairment tests on at least an annual basis.
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(n) Bank-owned life insurance – The Company has purchased life insurance policies on certain current and past key employees and directors where the insurance policy benefits and ownership are retained by the employer. These policies are recorded at their cash surrender value. Income from these policies and changes in the net cash surrender value are recorded within noninterest income as “Bank-owned life insurance income.”
(o) Other Investments – The Company accounts for investments in limited partnerships, limited liability companies (“LLCs”), and other privately held companies using either the cost or the equity method of accounting. The accounting treatment depends upon the Company’s percentage ownership and degree of management influence.
Under the cost method of accounting, the Company records an investment in stock at cost and generally recognizes cash dividends received as income. If cash dividends received exceed the Company’s relative ownership of the investee’s earnings since the investment date, these payments are considered a return of investment and reduce the cost of the investment.
Under the equity method of accounting, the Company records its initial investment at cost. Subsequently, the carrying amount of the investment is increased or decreased to reflect the Company’s share of income or loss of the investee. The Company’s recognition of earnings or losses from an equity method investment is based on the Company’s ownership percentage in the investee and the investee’s earnings on a quarterly basis. The investees generally provide their financial information during the quarter following the end of a given period. The Company’s policy is to record its share of earnings or losses on equity method investments in the quarter the financial information is received.
All of the Company’s investments in limited partnerships, LLCs, and other companies are privately held, and their market values are not readily available. The Company’s management evaluates its investments in investees for impairment based on the investee’s ability to generate cash through its operations or obtain alternative financing, and other subjective factors. There are inherent risks associated with the Company’s investments in such companies, which may result in income statement volatility in future periods.
At December 31, 2018 and 2017, the Company’s investments in limited partnerships, LLCs and other privately held companies totaled $7.5 million and $5.3 million, respectively, and were included in other assets.
(p) Stock Option Plan - At December 31, 2018, the Company had two equity-based employee compensation plans, which are described more fully in Note 15. The Company accounts for these plans under the recognition and measurement principles of relevant accounting guidance.
(q) Per Share Amounts - Basic Earnings Per Common Share is calculated by dividing net income available to common shareholders by the weighted average number of common shares outstanding during the period, excluding unvested shares of restricted stock. Diluted Earnings Per Common Share is computed by assuming the issuance of common shares for all potentially dilutive common shares outstanding during the reporting period. For the years presented, the Company’s potentially dilutive common stock issuances related to unvested shares of restricted stock and stock option grants under the Company’s equity-based plans. In 2016, the Company’s potentially dilutive common stock issuances also included the Company’s Series C Preferred stock, which was convertible into common stock on a one-for-one ratio. As discussed in Note 19, on December 22, 2016 each outstanding share of the Company’s Series C Preferred stock was exchanged by the holder for an equal number of shares of common stock.
In computing Diluted Earnings Per Common Share, adjustments are made to the computation of Basic Earnings Per Common shares, as follows. As it relates to unvested shares of restricted stock, the number of shares added to the denominator is equal to the number of unvested shares less the assumed number of shares bought back by the Company in the open market at the average market price with the amount of proceeds being equal to the average deferred compensation for the reporting period. As it relates to stock options, it is assumed that all dilutive stock options are exercised during the reporting period at their respective exercise prices, with the proceeds from the exercises used by the Company to buy back stock in the open market at the average market price in effect during the reporting period. The difference between the number of shares assumed to be exercised and the number of shares bought back is included in the calculation of dilutive securities. As it relates to contingently issuable shares, the number of shares that are included in the calculation of dilutive securities is based on the number of shares that are issuable if the end of the reporting period were the end of the contingency period. As it relates to the Series C Preferred Stock for the period of time it was outstanding, it is assumed that the preferred stock was converted to common stock at the beginning of the reporting period. Dividends on the preferred stock are added back to net income in 2016 and the shares assumed to be converted are included in the number of shares outstanding.
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If any of the potentially dilutive common stock issuances have an anti-dilutive effect, the potentially dilutive common stock issuance is disregarded.
The following is a reconciliation of the numerators and denominators used in computing Basic and Diluted Earnings Per Common Share:
| For the Years Ended December 31, | ||||||||||||||||||||||||||||||||||||
| 2018 | 2017 | 2016 | ||||||||||||||||||||||||||||||||||
| ($ in thousands, except per share amounts) | Income (Numer- ator) | Shares (Denom- inator) | Per Share Amount | Income (Numer- ator) | Shares (Denom- inator) | Per Share Amount | Income (Numer- ator) | Shares (Denom- inator) | Per Share Amount | |||||||||||||||||||||||||||
| Basic EPS | ||||||||||||||||||||||||||||||||||||
| Net income available to common shareholders | $ | 89,289 | 29,566,259 | $ | 3.02 | $ | 45,972 | 25,210,606 | $ | 1.82 | $ | 27,334 | 19,964,727 | $ | 1.37 | |||||||||||||||||||||
| Effect of dilutive securities | — | 141,172 | — | 80,776 | 175 | 768,190 | ||||||||||||||||||||||||||||||
| Diluted EPS per common share | $ | 89,289 | 29,707,431 | $ | 3.01 | $ | 45,972 | 25,291,382 | $ | 1.82 | $ | 27,509 | 20,732,917 | $ | 1.33 | |||||||||||||||||||||
For the years ended December 31, 2018 and 2017, there were no options that were anti-dilutive. For the year ended December 31, 2016, there were 5,000 options that were anti-dilutive because the exercise price exceeded the average market price for the year, and thus are not included in the calculation to determine the effect of dilutive securities.
(r) Fair Value of Financial Instruments - Relevant accounting guidance requires that the Company disclose estimated fair values for its financial instruments. Fair value methods and assumptions are set forth below for the Company’s financial instruments.
Cash and Amounts Due from Banks, Federal Funds Sold, Presold Mortgages in Process of Settlement, Accrued Interest Receivable, and Accrued Interest Payable - The carrying amounts approximate their fair value because of the short maturity of these financial instruments.
Available for Sale and Held to Maturity Securities - Fair values are provided by a third-party and are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments or matrix pricing.
Loans - For nonimpaired loans, fair values are determined assuming the sale of the notes to a third-party financial investor. Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, financial and agricultural, real estate construction, real estate mortgages and installment loans to individuals. Each loan category is further segmented into fixed and variable interest rate terms. The fair value for each category is determined by discounting scheduled future cash flows using current interest rates with a liquidity discount offered on loans with similar risk characteristics, and includes the Company’s estimate of future credit losses expected to be incurred over the life of the loan. Fair values for impaired loans are primarily based on estimated proceeds expected upon liquidation of the collateral or the present value of expected cash flows.
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Bank-Owned Life Insurance – The carrying value of life insurance approximates fair value because this investment is carried at cash surrender value, as determined by the issuer.
SBA Servicing Asset – The fair value of the Company’s SBA servicing asset is estimated based on the present value of the discounted cash flows of the expected servicing income less the estimated cost to service the loans.
Deposits - The fair value of deposits with no stated maturity, such as noninterest-bearing checking accounts, savings accounts, interest-bearing checking accounts, and money market accounts, is equal to the amount payable on demand as of the valuation date. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered in the marketplace for deposits of similar remaining maturities.
Borrowings - The fair value of borrowings is based on the discounted value of the contractual cash flows. The discount rate is estimated using the rates currently offered by the Company’s lenders for debt of similar maturities.
Commitments to Extend Credit and Standby Letters of Credit - At December 31, 2018 and 2017, the Company’s off-balance sheet financial instruments had no carrying value. The large majority of commitments to extend credit and standby letters of credit are at variable rates and/or have relatively short terms to maturity. Therefore, the fair value for these financial instruments is considered to be immaterial.
Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no highly liquid market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial assets or liabilities include net premises and equipment, intangible assets and other assets such as foreclosed properties, deferred income taxes, prepaid expense accounts, income taxes currently payable and other various accrued expenses. In addition, the income tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of the estimates.
(s) Impairment - Goodwill is evaluated for impairment on at least an annual basis by comparing the estimated fair value of the reporting units to their related carrying value. If the carrying value of a reporting unit exceeds its fair value, the Company determines whether the implied fair value of the goodwill, using various valuation techniques, exceeds the carrying value of the goodwill. If the carrying value of the goodwill exceeds the implied fair value of the goodwill, an impairment loss is recorded in an amount equal to that excess.
The Company reviews all other long-lived assets, including identifiable intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. The Company’s policy is that an impairment loss is recognized if the sum of the undiscounted future cash flows is less than the carrying amount of the asset. Any long-lived assets to be disposed of are reported at the lower of the carrying amount or fair value, less costs to sell.
To date, the Company has not recorded any impairment write-downs of its long-lived assets or goodwill.
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(t) Comprehensive Income (Loss) - Comprehensive income (loss) is defined as the change in equity during a period for non-owner transactions and is divided into net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) includes revenues, expenses, gains, and losses that are excluded from earnings under current accounting standards. The components of accumulated other comprehensive income (loss) for the Company are as follows:
| ($ in thousands) | December 31, 2018 | December 31, 2017 | December 31, 2016 | |||||||||
| Unrealized gain (loss) on securities available for sale | $ | (12,390 | ) | (2,211 | ) | (3,085 | ) | |||||
| Deferred tax asset (liability) | 2,896 | 517 | 1,138 | |||||||||
| Net unrealized gain (loss) on securities available for sale | (9,494 | ) | (1,694 | ) | (1,947 | ) | ||||||
| Additional pension asset (liability) | (3,220 | ) | (3,200 | ) | (5,012 | ) | ||||||
| Deferred tax asset (liability) | 753 | 748 | 1,852 | |||||||||
| Net additional pension asset (liability) | (2,467 | ) | (2,452 | ) | (3,160 | ) | ||||||
| Total accumulated other comprehensive income (loss) | $ | (11,961 | ) | (4,146 | ) | (5,107 | ) | |||||
The following table discloses the changes in accumulated other comprehensive income (loss) for the years ended December 31, 2018, 2017, and 2016 (all amounts are net of tax).
| ($ in thousands) | Unrealized Gain (Loss) on Securities Available for Sale | Additional Pension Asset (Liability) | Total | |||||||||
| Beginning balance at January 1, 2016 | $ | (709 | ) | (2,841 | ) | (3,550 | ) | |||||
| Other comprehensive income (loss) before reclassifications | (1,236 | ) | (442 | ) | (1,678 | ) | ||||||
| Amounts reclassified from accumulated other comprehensive income | (2 | ) | 123 | 121 | ||||||||
| Net current-period other comprehensive income (loss) | (1,238 | ) | (319 | ) | (1,557 | ) | ||||||
| Ending balance at December 31, 2016 | (1,947 | ) | (3,160 | ) | (5,107 | ) | ||||||
| Other comprehensive income (loss) before reclassifications | 405 | 1,008 | 1,413 | |||||||||
| Amounts reclassified from accumulated other comprehensive income | 148 | 136 | 284 | |||||||||
| Net current-period other comprehensive income (loss) | 553 | 1,144 | 1,697 | |||||||||
| Reclassification of accumulated other comprehensive income to retained earnings due to statutory tax changes | (300 | ) | (436 | ) | (736 | ) | ||||||
| Ending balance at December 31, 2017 | (1,694 | ) | (2,452 | ) | (4,146 | ) | ||||||
| Other comprehensive income (loss) before reclassifications | (7,800 | ) | (31 | ) | (7,831 | ) | ||||||
| Amounts reclassified from accumulated other comprehensive income | — | 16 | 16 | |||||||||
| Net current-period other comprehensive income (loss) | (7,800 | ) | (15 | ) | (7,815 | ) | ||||||
| Ending balance at December 31, 2018 | $ | (9,494 | ) | (2,467 | ) | (11,961 | ) | |||||
(u) Segment Reporting - Accounting standards require management to report selected financial and descriptive information about reportable operating segments. The standards also require related disclosures about products and services, geographic areas, and major customers. Generally, disclosures are required for segments internally identified to evaluate performance and resource allocation. The Company’s operations are primarily within the banking segment, and the financial statements presented herein reflect the results of that segment. The Company has no foreign operations or customers.
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(v) Recent Accounting Pronouncements -
Accounting Standards Adopted in 2018
In May 2014, the Financial Accounting Standards Board (“FASB”) issued guidance to change the recognition of revenue from contracts with customers. The core principle of the new guidance is that an entity should recognize revenue to reflect the transfer of goods and services to customers in an amount equal to the consideration the entity receives or expects to receive. The Company’s revenue is comprised of net interest income and noninterest income. The scope of the guidance explicitly excludes net interest income as well as many other revenues for financial assets and liabilities including loans, leases, securities, and derivatives. Accordingly, the majority of the Company’s revenues were not affected. The guidance was effective for the Company on January 1, 2018 and the Company adopted the guidance using the modified retrospective method. The adoption did not have a material effect on the Company’s financial statements. See Note 20 for additional information on this matter.
In January 2016, the FASB amended the Financial Instruments topic of the Accounting Standards Codification to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This update is intended to improve the recognition and measurement of financial instruments and it requires an entity to: (i) measure equity investments at fair value through net income, with certain exceptions; (ii) present in other comprehensive income the changes in instrument-specific credit risk for financial liabilities measured using the fair value option; (iii) present financial assets and financial liabilities by measurement category and form of financial asset; (iv) calculate the fair value of financial instruments for disclosure purposes based on an exit price and; (v) assess a valuation allowance on deferred tax assets related to unrealized losses of available for sale debt securities in combination with other deferred tax assets. The guidance also provides an election to subsequently measure certain nonmarketable equity investments at cost less any impairment and adjusted for certain observable price changes and requires a qualitative impairment assessment of such equity investments and amends certain fair value disclosure requirements. The amendments were effective for the Company on January 1, 2018 and the adoption of the guidance did not have a material effect on its financial statements.
In March 2016, the FASB amended the Liabilities topic of the Accounting Standards Codification to address the current and potential future diversity in practice related to the derecognition of a prepaid stored-value product liability. The amendments were effective for the Company on January 1, 2018 and did not have a material effect on its financial statements.
In March 2017, the FASB amended the requirements in the Compensation—Retirement Benefits topic of the Accounting Standards Codification related to the income statement presentation of the components of net periodic benefit cost for an entity’s sponsored defined benefit pension and other postretirement plans. The amendments require that an employer report the service cost component in the same line item or items as other compensation costs arising from services rendered by pertinent employees 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. The amendments were effective for the Company on January 1, 2018 and did not have a material effect on its financial statements. The Company presents the service cost component within the “Employee benefits” line item and the other components of net periodic pension costs are presented within the “Other operating expenses” line item. The Company has reclassified amounts in the Consolidated Statements of Income for the years ended December 31, 2017 and December 31, 2016 to be consistent with the presentation required for December 31, 2018.
In February 2018, the FASB issued guidance related to the Income Statement – Reporting Comprehensive Income topic of the Accounting Standards Codification, which allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act of 2017, which was signed into law on December 22, 2017. The guidance will be effective for all annual and interim periods beginning January 1, 2019, with early adoption permitted. The Company chose to early adopt the new standard for the year ending December 31, 2017, as allowed under the new standard, and reclassified $0.7 million between Accumulated Other Comprehensive Income and Retained Earnings.
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Accounting Standards Pending Adoption
In February 2016, the FASB issued new guidance on accounting for leases, which generally requires all leases to be recognized in the statement of financial position by recording an asset representing its right to use the underlying asset and recording a liability, which represents the Company’s obligation to make lease payments. The provisions of this guidance are effective for reporting periods beginning after December 15, 2018; early adoption is permitted. The Company currently expects that the adoption of the guidance will have no impact on net income and will result in the recording of approximately $18 million of additional assets and liabilities. Accordingly, the Company does not expect these amendments to have a material effect on its financial statements or regulatory capital position.
In June 2016, the FASB issued guidance to change the accounting for credit losses. The guidance requires an entity to utilize a new impairment model known as the current expected credit loss ("CECL") model to estimate its lifetime "expected credit loss" and record an allowance that, when deducted from the amortized cost basis of the financial asset, presents the net amount expected to be collected on the financial asset. The CECL model is expected to result in earlier recognition of credit losses. The guidance also requires new disclosures for financial assets measured at amortized cost, loans and available-for-sale debt securities. The Company will apply the guidance through a cumulative-effect adjustment to retained earnings as of the beginning of the year of adoption. While early adoption is permitted beginning in first quarter 2019, the Company does not expect to elect that option. The updated guidance is effective for interim and annual reporting periods beginning after December 15, 2019. The Company continues its ongoing analysis on the impact of this guidance on its consolidated financial statements. As required by the guidance, the initial adjustment will be recorded by decreasing shareholders’ equity and not through an earnings adjustment. All subsequent adjustments will be recorded in earnings.
In January 2017, the FASB amended the Goodwill and Other Intangibles topic of the Accounting Standards Codification to simplify the accounting for goodwill impairment for public business entities and other entities that have goodwill reported in their financial statements and have not elected the private company alternative for the subsequent measurement of goodwill. The amendment removes Step 2 of the goodwill impairment test. The amount of goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. The effective date and transition requirements for the technical corrections will be effective for the Company for reporting periods beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company does not expect this amendment to have a material effect on its financial statements.
In March 2017, the FASB amended the requirements in the Receivables—Nonrefundable Fees and Other Costs topic of the Accounting Standards Codification related to the amortization period for certain purchased callable debt securities held at a premium. The amendments shorten the amortization period for the premium to the earliest call date. The amendments will be effective for the Company for interim and annual periods beginning after December 15, 2018. Early adoption is permitted. The Company does not expect these amendments to have a material effect on its financial statements.
In June 2018, the FASB amended the Compensation—Stock Compensation Topic of the Accounting Standards Codification. The amendments expand the scope of this Topic to include share-based payment transactions for acquiring goods and services from nonemployees. The amendments are effective for fiscal years beginning after December 15, 2018, including interim periods within that fiscal year. Early adoption is permitted, but no earlier than an entity’s adoption date of the Revenue from Contracts with Customers Topic. The Company does not expect these amendments to have a material effect on its financial statements.
In August 2018, the FASB amended the Fair Value Measurement Topic of the Accounting Standards Codification. The amendments remove, modify, and add certain fair value disclosure requirements based on the concepts in the FASB Concepts Statement, Conceptual Framework for Financial Reporting—Chapter 8: Notes to Financial Statements. The amendments are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early adoption is permitted. An entity is permitted to early adopt any removed or modified disclosures upon issuance of this guidance and delay adoption of the additional disclosures until their effective date. The Company does not expect these amendments to have a material effect on its financial statements.
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In August 2018, the FASB amended the Compensation - Retirement Benefits – Defined Benefit Plans Topic of the Accounting Standards Codification to improve disclosure requirements for employers that sponsor defined benefit pension and other postretirement plans. The guidance removes disclosures that are no longer considered cost-beneficial, clarifies the specific requirements of disclosures, and adds disclosure requirements identified as relevant. The amendments are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. Early adoption is permitted. The Company does not expect these amendments to have a material effect on its financial statements.
Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.
Note 2. Acquisitions
Since January 1, 2016, the Company completed the acquisitions described below. The results of each acquired company/branch are included in the Company’s results beginning on its respective acquisition date.
| (1) | On January 1, 2016, First Bank Insurance completed the acquisition of Bankingport, Inc. (“Bankingport”). The results of Bankingport are included in First Bancorp’s results for the twelve months ended December 31, 2016 beginning on the January 1, 2016 acquisition date. |
Bankingport was an insurance agency based in Sanford, North Carolina. This acquisition represented an opportunity to expand the insurance agency operations into a contiguous and significant banking market for the Company. Also, this acquisition provided the Company with a larger platform for leveraging insurance services throughout the Company’s bank branch network. The transaction value was $2.2 million with the Company paying $700,000 in cash and issuing 79,012 shares of its common stock, which had a value of approximately $1.5 million. In connection with the acquisition, the Company also paid $1.1 million to purchase the office space previously leased by Bankingport.
This acquisition was accounted for using the purchase method of accounting for business combinations, and accordingly, the assets and liabilities of Bankingport were recorded based on estimates of fair values as of January 1, 2016. In connection with this transaction, the Company recorded $1.7 million in goodwill, which is non-deductible for tax purposes, and $0.7 million in other amortizable intangible assets.
| (2) | On May 5, 2016, the Company completed the acquisition of SBA Complete, Inc. (“SBA Complete”). The results of SBA Complete are included in the Company’s results beginning on the May 5, 2016 acquisition date. SBA Complete specializes in consulting with financial institutions across the country related to Small Business Administration (“SBA”) loan origination and servicing. The transaction value was approximately $8.5 million with the Company paying $1.5 million in cash and issuing 199,829 shares of its common stock, which had a value of approximately $4.0 million. Per the terms of the acquisition agreement, the Company recorded an earn-out liability initially valued at $3.0 million, which will be paid in shares of Company stock if pre-determined goals are met for the first three years following the acquisition. |
This acquisition was accounted for using the purchase method of accounting for business combinations, and accordingly, the assets and liabilities of SBA Complete were recorded based on estimates of fair values, which according to applicable accounting guidance, were subject to change for twelve months following the acquisition. In connection with this transaction, the Company originally recorded $5.6 million in goodwill, which was non-deductible for tax purposes, and $2.0 million in other amortizable intangible assets.
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In the second quarter of 2017, the Company recorded a measurement period adjustment to reduce the earn-out liability and goodwill by $1.2 million based on the availability of new information that provided a more reliable estimate of the most likely earn-out. Subsequent to the measurement period, later in 2017, the Company recorded a $780,000 upward adjustment to the earn-out liability with a charge to earnings. In 2018, a net downward adjustment of $32,000 was recorded to the earn-out liability with a positive credit to earnings.
| (3) | On July 15, 2016, the Company completed a branch exchange with First Community Bank headquartered in Bluefield, Virginia. In the branch exchange transaction, the Bank acquired six of First Community Bank’s branches located in North Carolina, while concurrently selling seven of its branches in the southwestern area of Virginia to First Community Bank. |
In connection with the sale, the Company sold $150.6 million in loans, $5.7 million in premises and equipment and $134.3 million in deposits to First Community Bank. In connection with the sale, the Company received a deposit premium of $3.8 million, removed $1.0 million of allowance for loan losses associated with the sold loans, allocated and wrote-off $3.5 million of previously recorded goodwill, and recorded a net gain of $1.5 million in this transaction.
In connection with this transaction, the Company acquired assets with a fair value of $157.2 million, including $152.2 million in loans and $3.4 million in premises and equipment. Additionally, the Company assumed $111.3 million in deposits and $0.2 million in other liabilities. In connection with the purchase, the Company recorded: i) a discount on acquired loans of $1.5 million, ii) a premium on deposits of $0.3 million, iii) a $1.2 million core deposit intangible, iv) and $5.4 million in goodwill.
The branch acquisition was accounted for using the purchase method of accounting for business combinations, and accordingly, the assets and liabilities of the acquired branches were recorded on the Company’s balance sheet at their fair values as of July 15, 2016 and the related results of operations for the acquired branches have been included in the Company’s consolidated statement of comprehensive income since that date. The goodwill recorded in the branch exchange is deductible for tax purposes.
| (4) | On March 3, 2017, the Company completed the acquisition of Carolina Bank Holdings, Inc. (“Carolina Bank”), headquartered in Greensboro, North Carolina, pursuant to an Agreement and Plan of Merger and Reorganization dated June 21, 2016. The results of Carolina Bank are included in First Bancorp’s results beginning on the March 3, 2017 acquisition date. |
Carolina Bank’s subsidiary bank was a North Carolina state-chartered bank with eight branches located in the North Carolina cities of Greensboro, High Point, Burlington, Winston-Salem, and Asheboro, and mortgage offices in Burlington, Hillsborough, and Sanford. The acquisition complemented the Company’s expansion into several of these high-growth markets and increased its market share in others with facilities, operations and experienced staff already in place. The Company was willing to record goodwill primarily due to the reasons just noted, as well as the positive earnings of Carolina Bank. The total merger consideration consisted of $25.3 million in cash and 3,799,471 shares of the Company’s common stock, with each share of Carolina Bank common stock being exchanged for either $20.00 in cash or 1.002 shares of the Company’s stock, subject to the total consideration being 75% stock / 25% cash. The issuance of common stock was valued at $114.5 million and was based on the Company’s closing stock price on March 3, 2017 of $30.13 per share.
This acquisition was accounted for using the purchase method of accounting for business combinations, and accordingly, the assets and liabilities of Carolina Bank were recorded based on estimates of fair values as of March 3, 2017. The Company was able to change its valuations of acquired Carolina Bank assets and liabilities for up to one year after the acquisition date by recording measurement period adjustments. The table below is a condensed balance sheet disclosing the amount assigned to each major asset and liability category of Carolina Bank on March 3, 2017, and the related fair value adjustments recorded by the Company to reflect the acquisition. The $66.5 million in goodwill that resulted from this transaction is non-deductible for tax purposes.
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| ($ in thousands) | As Recorded by Carolina Bank | Initial Fair Value Adjustments | Measurement Period Adjustments | As Recorded by First Bancorp | ||||||||||||||||||||
| Assets | ||||||||||||||||||||||||
| Cash and cash equivalents | $ | 81,466 | (2 | ) | (a) | — | 81,464 | |||||||||||||||||
| Securities | 49,629 | (261 | ) | (b) | — | 49,368 | ||||||||||||||||||
| Loans, gross | 505,560 | (5,469 | ) | (c) | 146 | (l) | 497,522 | |||||||||||||||||
| (2,715 | ) | (d) | — | |||||||||||||||||||||
| Allowance for loan losses | (5,746 | ) | 5,746 | (e) | — | — | ||||||||||||||||||
| Premises and equipment | 17,967 | 4,251 | (f) | (319 | ) | (m) | 21,899 | |||||||||||||||||
| Core deposit intangible | — | 8,790 | (g) | — | 8,790 | |||||||||||||||||||
| Other | 34,976 | (4,804 | ) | (h) | 757 | (n) | 30,929 | |||||||||||||||||
| Total | 683,852 | 5,536 | 584 | 689,972 | ||||||||||||||||||||
| Liabilities | ||||||||||||||||||||||||
| Deposits | $ | 584,950 | 431 | (i) | — | 585,381 | ||||||||||||||||||
| Borrowings | 21,855 | (2,855 | ) | (j) | (262 | ) | (o) | 18,738 | ||||||||||||||||
| Other | 12,855 | 225 | (k) | (444 | ) | (p) | 12,636 | |||||||||||||||||
| Total | 619,660 | (2,199 | ) | (706 | ) | 616,755 | ||||||||||||||||||
| Net identifiable assets acquired | 73,217 | |||||||||||||||||||||||
| Total cost of acquisition | ||||||||||||||||||||||||
| Value of stock issued | $ | 114,478 | ||||||||||||||||||||||
| Cash paid in the acquisition | 25,279 | |||||||||||||||||||||||
| Total cost of acquisition | 139,757 | |||||||||||||||||||||||
| Goodwill recorded related to acquisition of Carolina Bank | $ | 66,540 | ||||||||||||||||||||||
Explanation of Fair Value Adjustments
| (a) | This adjustment was recorded to a short-term investment to its estimated fair value. |
| (b) | This fair value adjustment was recorded to adjust the securities portfolio to its estimated fair value. |
| (c) | This fair value adjustment represents the amount necessary to reduce performing loans to their fair value due to interest rate factors and credit factors. Assuming the loans continue to perform, this amount will be amortized to increase interest income over the remaining lives of the related loans. |
| (d) | This fair value adjustment was recorded to write-down purchased credit impaired loans assumed in the acquisition to their estimated fair market value. |
| (e) | This fair value adjustment reduced the allowance for loan losses to zero as required by relevant accounting guidance. |
| (f) | This adjustment represents the amount necessary to increase premises and equipment from its book value on the date of acquisition to its estimated fair market value. |
| (g) | This fair value adjustment represents the value of the core deposit base assumed in the acquisition based on a study performed by an independent consulting firm. This amount was recorded by the Company as an identifiable intangible asset and will be amortized as expense on an accelerated basis over seven years. |
| (h) | This fair value adjustment primarily represents the net deferred tax liability associated with the other fair value adjustments made to record the transaction. |
| (i) | This fair value adjustment was recorded because the weighted average interest rate of Carolina Bank’s time deposits exceeded the cost of similar wholesale funding at the time of the acquisition. This amount is being amortized to reduce interest expense on an accelerated basis over their remaining five year life. |
| (j) | This fair value adjustment was primarily recorded because the interest rate of Carolina Bank’s trust preferred securities was less than the current interest rate on similar instruments. This amount is being amortized on approximately a straight-line basis to increase interest expense over the remaining life of the related borrowing, which is 18 years. |
| (k) | This fair value adjustment represents miscellaneous adjustments needed to record assets and liabilities at their fair value. |
| (l) | This fair value adjustment was a miscellaneous adjustment to increase the initial fair value of gross loans. |
| (m) | This fair value adjustment relates to miscellaneous adjustment to decrease the initial fair value of premises and equipment. |
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| (n) | This fair value adjustment relates to changes in the estimate of deferred tax assets/liabilities associated with the acquisition and a miscellaneous adjustment to decrease the initial fair value of foreclosed real estate acquired in the transaction based on newly obtained valuations. |
| (o) | This fair value adjustment relates to miscellaneous adjustments to decrease the initial fair value of borrowings. |
| (p) | This fair value adjustment related to a change in the estimate of a contingent liability. |
The following unaudited pro forma financial information presents the combined results of the Company and Carolina Bank as if the acquisition had occurred as of January 1, 2016, after giving effect to certain adjustments, including amortization of the core deposit intangible, and related income tax effects. The pro forma financial information does not necessarily reflect the results of operations that would have occurred had the Company and Carolina Bank constituted a single entity during such period.
| ($ in thousands, except share data) | Pro Forma Combined Year Ended December 31, 2017 | Pro Forma Combined Year Ended December 31, 2016 | ||||||
| Net interest income | $ | 168,759 | 147,089 | |||||
| Noninterest income | 50,098 | 36,684 | ||||||
| Total revenue | 218,857 | 183,773 | ||||||
| Net income available to common shareholders | 49,907 | 25,364 | ||||||
| Earnings per common share | ||||||||
| Basic | $ | 1.93 | 1.07 | |||||
| Diluted | 1.92 | 1.03 | ||||||
For purposes of the supplemental pro forma information, merger-related expenses of $5.2 million that were recorded in the Company’s consolidated statements of income for the year ended December 31, 2017 and $4.6 million of merger-related expenses that were recorded by Carolina Bank in 2017 prior to the merger date are each included above in the pro forma presentation for 2016.
| (5) | On September 1, 2017, First Bank Insurance completed the acquisition of Bear Insurance Service (“Bear Insurance”). The results of Bear Insurance are included the Company’s results beginning on the September 1, 2017 acquisition date. |
Bear Insurance, an insurance agency based in Albemarle, North Carolina, with four locations in Stanly, Cabarrus, and Montgomery counties and annual commission income of approximately $4 million, and represented an opportunity to complement the Company’s insurance agency operations in these markets and the surrounding areas. Also, this acquisition provided the Company with a larger platform for leveraging insurance services throughout the Company’s bank branch network. The transaction value was $9.8 million, with the Company paying $7.9 million in cash and issuing 13,374 shares of its common stock, which had a value of approximately $0.4 million. Per the terms of the acquisition agreement, the Company also recorded an earn-out liability initially valued at $1.2 million, which will be paid as a cash distribution after a four-year period if pre-determined goals are met for the periods.
This acquisition was accounted for using the purchase method of accounting for business combinations, and accordingly, the assets and liabilities of Bear Insurance were recorded based on estimates of fair values as of September 1, 2017. In connection with this transaction, the Company recorded $5.3 million in goodwill, which is deductible for tax purposes, and $3.9 million in other amortizable intangible assets, which are also deductible for tax purposes.
| (6) | On October 1, 2017, the Company completed the acquisition of ASB Bancorp, Inc. (“Asheville Savings Bank”), headquartered in Asheville, North Carolina, pursuant to an Agreement and Plan of Merger and Reorganization dated May 1, 2017. The results of Asheville Savings Bank are included in First Bancorp’s results beginning on the October 1, 2017 acquisition date. |
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Asheville Savings Bank’s subsidiary bank was a North Carolina state-chartered savings bank with eight branches located in Buncombe County, North Carolina and five branches located in the counties of Henderson, Madison, McDowell and Transylvania, all in North Carolina. The acquisition complemented the Company’s existing presence in the Asheville and surrounding markets, which are high-growth and highly desired markets. The Company was willing to record goodwill primarily due to the reasons just noted, as well as the positive earnings of Asheville Savings Bank. The total merger consideration consisted of $17.9 million in cash and 4,920,061 shares of the Company’s common stock, with each share of Asheville Savings Bank common stock being exchanged for either $41.90 in cash or 1.44 shares of the Company’s stock, subject to the total consideration being 90% stock / 10% cash. The issuance of common stock was valued at $169.3 million and was based on the Company’s closing stock price on September 30, 2017 of $34.41 per share.
This acquisition was accounted for using the purchase method of accounting for business combinations, and accordingly, the assets and liabilities of Asheville Savings Bank were recorded based on estimates of fair values as of October 1, 2017. The Company was able to change its valuations of acquired Asheville Savings Bank assets and liabilities for up to one year after the acquisition date by recording measurement period adjustments. The table below is a condensed balance sheet disclosing the amount assigned to each major asset and liability category of Asheville Savings Bank on October 1, 2017, and the related fair value adjustments recorded by the Company to reflect the acquisition. The $88.7 million in goodwill that resulted from this transaction is non-deductible for tax purposes.
| ($ in thousands) | As Recorded by Asheville Savings Bank | Initial Fair Value Adjustments | Measurement Period Adjustments | As Recorded by First Bancorp | ||||||||||||||||||||
| Assets | ||||||||||||||||||||||||
| Cash and cash equivalents | $ | 41,824 | — | — | 41,824 | |||||||||||||||||||
| Securities | 95,020 | — | — | 95,020 | ||||||||||||||||||||
| Loans, gross | 617,159 | (9,631 | ) | (a) | — | 606,180 | ||||||||||||||||||
| (1,348 | ) | (b) | — | |||||||||||||||||||||
| Allowance for loan losses | (6,685 | ) | 6,685 | (c) | — | — | ||||||||||||||||||
| Presold mortgages | 3,785 | — | — | 3,785 | ||||||||||||||||||||
| Premises and equipment | 10,697 | 9,857 | (d) | — | 20,554 | |||||||||||||||||||
| Core deposit intangible | — | 9,760 | (e) | 120 | (i) | 9,880 | ||||||||||||||||||
| Other | 35,944 | (5,851 | ) | (f) | (777 | ) | (j) | 29,316 | ||||||||||||||||
| Total | 797,744 | 9,472 | (657 | ) | 806,559 | |||||||||||||||||||
| Liabilities | ||||||||||||||||||||||||
| Deposits | $ | 678,707 | 430 | (g) | — | 679,137 | ||||||||||||||||||
| Borrowings | 20,000 | — | — | 20,000 | ||||||||||||||||||||
| Other | 8,943 | 298 | (h) | (380 | ) | (k) | 8,861 | |||||||||||||||||
| Total | 707,650 | 728 | (380 | ) | 707,998 | |||||||||||||||||||
| Net identifiable assets acquired | 98,561 | |||||||||||||||||||||||
| Total cost of acquisition | ||||||||||||||||||||||||
| Value of stock issued | $ | 169,299 | ||||||||||||||||||||||
| Cash paid in the acquisition | 17,939 | |||||||||||||||||||||||
| Total cost of acquisition | 187,238 | |||||||||||||||||||||||
| Goodwill recorded related to acquisition of Asheville Savings Bank | $ | 88,677 | ||||||||||||||||||||||
Explanation of Fair Value Adjustments
| (a) | This fair value adjustment represents the amount necessary to reduce performing loans to their fair value due to interest rate factors and credit factors. Assuming the loans continue to perform, this amount will be amortized to increase interest income over the remaining lives of the related loans. |
| (b) | This fair value adjustment was recorded to write-down purchased credit impaired loans assumed in the acquisition to their estimated fair market value. |
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| (c) | This fair value adjustment reduced the allowance for loan losses to zero as required by relevant accounting guidance. |
| (d) | This adjustment represents the amount necessary to increase premises and equipment from its book value on the date of acquisition to its estimated fair market value. |
| (e) | This fair value adjustment represents the value of the core deposit base assumed in the acquisition based on a study performed by an independent consulting firm. This amount was recorded by the Company as an identifiable intangible asset and is being amortized as expense on an accelerated basis over seven years. |
| (f) | This fair value adjustment primarily represents the net deferred tax liability associated with the other fair value adjustments made to record the transaction. |
| (g) | This fair value adjustment was recorded because the weighted average interest rate of Asheville Savings Bank’s time deposits exceeded the cost of similar wholesale funding at the time of the acquisition. This amount is being amortized to reduce interest expense on an accelerated basis over their remaining five year life. |
| (h) | This fair value adjustment represents miscellaneous adjustments needed to record assets and liabilities at their fair value. |
| (i) | This fair value adjustment relates to a change in the final amount of the core deposit intangible asset from the amount originally estimated. |
| (j) | This fair value adjustment relates to the write-down of a foreclosed property based on an updated appraisal and the related tax deferred tax asset adjustment. |
| (k) | This fair value adjustment was recorded to adjust the tax liability assumed on the acquisition date based on updated information. |
The following unaudited pro forma financial information presents the combined results of the Company and Asheville Savings Bank as if the acquisition had occurred as of January 1, 2016, after giving effect to certain adjustments, including amortization of the core deposit intangible, and related income tax effects. The pro forma financial information does not necessarily reflect the results of operations that would have occurred had the Company and Asheville Savings Bank constituted a single entity during such period.
| ($ in thousands, except share data) | Pro Forma Combined Twelve Months Ended December 31, 2017 | Pro Forma Combined Twelve Months Ended December 31, 2016 | ||||||
| Net interest income | $ | 183,996 | 147,284 | |||||
| Noninterest income | 54,523 | 34,307 | ||||||
| Total revenue | 238,391 | 181,591 | ||||||
| Net income available to common shareholders | 51,600 | 12,291 | ||||||
| Earnings per common share | ||||||||
| Basic | $ | 1.79 | 0.49 | |||||
| Diluted | 1.78 | 0.48 | ||||||
For purposes of the supplemental pro forma information, merger-related expenses of $2.7 million that were recorded in the Company’s consolidated statements of income for the twelve months ended December 31, 2017 and $20.4 million of merger-related expenses that were recorded by Asheville Savings Bank in 2017 prior to the merger date are each included above in the pro forma presentation for 2016.
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Note 3. Securities
The book values and approximate fair values of investment securities at December 31, 2018 and 2017 are summarized as follows:
| 2018 | 2017 | |||||||||||||||||||||||||||||||
| Amortized | Fair | Unrealized | Amortized | Fair | Unrealized | |||||||||||||||||||||||||||
| ($ in thousands) | Cost | Value | Gains | (Losses) | Cost | Value | Gains | (Losses) | ||||||||||||||||||||||||
| Securities available for sale: | ||||||||||||||||||||||||||||||||
| Government-sponsored enterprise securities | $ | 82,995 | 82,662 | 63 | (396 | ) | 14,000 | 13,867 | — | (133 | ) | |||||||||||||||||||||
| Mortgage-backed securities | 396,995 | 385,551 | 39 | (11,483 | ) | 297,690 | 295,213 | 246 | (2,722 | ) | ||||||||||||||||||||||
| Corporate bonds | 33,751 | 33,138 | 76 | (689 | ) | 33,792 | 34,190 | 512 | (114 | ) | ||||||||||||||||||||||
| Total available for sale | 513,741 | 501,351 | 178 | (12,568 | ) | 345,482 | 343,270 | 758 | (2,969 | ) | ||||||||||||||||||||||
| Securities held to maturity: | ||||||||||||||||||||||||||||||||
| Mortgage-backed securities | 52,048 | 50,241 | — | (1,807 | ) | 63,829 | 63,092 | — | (737 | ) | ||||||||||||||||||||||
| State and local governments | 49,189 | 49,665 | 525 | (49 | ) | 54,674 | 55,906 | 1,280 | (48 | ) | ||||||||||||||||||||||
| Total held to maturity | $ | 101,237 | 99,906 | 525 | (1,856 | ) | 118,503 | 118,998 | 1,280 | (785 | ) | |||||||||||||||||||||
All of the Company’s mortgage-backed securities were issued by government-sponsored corporations, except for private mortgage-backed securities with a fair value of $1.0 million and $0.5 million as of December 31, 2018 and 2017, respectively.
The following table presents information regarding securities with unrealized losses at December 31, 2018:
| ($ in thousands) | Securities in an Unrealized Loss Position for Less than 12 Months | Securities in an Unrealized Loss Position for More than 12 Months | Total | |||||||||||||||||||||
| Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | |||||||||||||||||||
| Government-sponsored enterprise securities | $ | 4,921 | 78 | 13,682 | 318 | 18,603 | 396 | |||||||||||||||||
| Mortgage-backed securities | 82,525 | 351 | 294,305 | 12,939 | 376,830 | 13,290 | ||||||||||||||||||
| Corporate bonds | 20,704 | 433 | 5,817 | 256 | 26,521 | 689 | ||||||||||||||||||
| State and local governments | 595 | 1 | 6,641 | 48 | 7,236 | 49 | ||||||||||||||||||
| Total temporarily impaired securities | $ | 108,745 | 863 | 320,445 | 13,561 | 429,190 | 14,424 | |||||||||||||||||
The following table presents information regarding securities with unrealized losses at December 31, 2017:
| ($ in thousands) | Securities in an Unrealized Loss Position for Less than 12 Months | Securities in an Unrealized Loss Position for More than 12 Months | Total | |||||||||||||||||||||
| Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | |||||||||||||||||||
| Government-sponsored enterprise securities | $ | 10,897 | 103 | 2,970 | 30 | 13,867 | 133 | |||||||||||||||||
| Mortgage-backed securities | 192,702 | 1,582 | 125,060 | 1,877 | 317,762 | 3,459 | ||||||||||||||||||
| Corporate bonds | 2,500 | 49 | 935 | 65 | 3,435 | 114 | ||||||||||||||||||
| State and local governments | 7,928 | 48 | — | — | 7,928 | 48 | ||||||||||||||||||
| Total temporarily impaired securities | $ | 214,027 | 1,782 | 128,965 | 1,972 | 342,992 | 3,754 | |||||||||||||||||
In the above tables, all of the securities that were in an unrealized loss position at December 31, 2018 and 2017 are bonds that the Company has determined are in a loss position due primarily to interest rate factors and not credit quality concerns. The Company evaluated the collectability of each of these bonds and concluded that there was no other-than-temporary impairment. The Company does not intend to sell these securities, and it is more likely than not that the Company will not be required to sell these securities before recovery of the amortized cost.
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The book values and approximate fair values of investment securities at December 31, 2018, by contractual maturity, are summarized in the table below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.
| Securities Available for Sale | Securities Held to Maturity | |||||||||||||||
| Amortized | Fair | Amortized | Fair | |||||||||||||
| ($ in thousands) | Cost | Value | Cost | Value | ||||||||||||
| Debt securities | ||||||||||||||||
| Due within one year | $ | — | — | $ | 2,233 | 2,240 | ||||||||||
| Due after one year but within five years | 109,205 | 108,303 | 28,488 | 28,766 | ||||||||||||
| Due after five years but within ten years | 2,541 | 2,559 | 16,743 | 16,932 | ||||||||||||
| Due after ten years | 5,000 | 4,938 | 1,725 | 1,727 | ||||||||||||
| Mortgage-backed securities | 396,995 | 385,551 | 52,048 | 50,241 | ||||||||||||
| Total securities | $ | 513,741 | 501,351 | $ | 101,237 | 99,906 | ||||||||||
At December 31, 2018 and 2017, investment securities with carrying values of $234,382,000 and $176,813,000, respectively, were pledged as collateral for public deposits.
The Company sold no securities in 2018, while in 2017, the Company received proceeds from sales of securities of $140,621,000 and recorded $235,000 in losses from the sales. In 2016, the Company received proceeds from sales of securities of $8,000 and recorded $3,000 in gains from the sales.
Included in “other assets” in the Consolidated Balance Sheets are cost-method investments in Federal Home Loan Bank (“FHLB”) and Federal Reserve Bank of Richmond (“FRB”) stock totaling $37,468,000 and $31,338,000 at December 31, 2018 and 2017, respectively. The FHLB stock had a cost and fair value of $20,036,000 and $19,647,000 at December 31, 2018 and 2017, respectively, and serves as part of the collateral for the Company’s line of credit with the FHLB and is also a requirement for membership in the FHLB system. The FRB stock had a cost and fair value of $17,432,000 and $11,691,000 at December 31, 2018 and 2017, respectively, and is a requirement for FRB member bank qualification. Periodically, both the FHLB and FRB recalculate the Company’s required level of holdings, and the Company either buys more stock or redeems a portion of the stock at cost. The Company determined that neither stock was impaired at either period end.
The Company owns 12,356 Class B shares of Visa, Inc. (“Visa”) stock that were received upon Visa’s initial public offering. These shares are expected to convert into Class A Visa shares subsequent to the settlement of certain litigation against Visa. The Class B shares have transfer restrictions, and the conversion rate into Class A shares is periodically adjusted as Visa settles litigation. The conversion rate at December 31, 2018 was approximately 1.63, which means the Company would receive approximately 20,140 Class A shares if the stock had converted on that date. This stock does not have a readily determinable fair value and is therefore carried at its cost basis of zero. If a readily determinable fair value becomes available for the Class B shares, or upon the conversion to Class A shares, the Company will adjust the carrying value of the stock to its market value with a credit to earnings.
Note 4. Loans and Asset Quality Information
Prior to September 22, 2016, the Company’s banking subsidiary, First Bank, had certain loans and foreclosed real estate that were covered by loss share agreements between the FDIC and First Bank which afforded First Bank significant loss protection - see Note 2 to the financial statements included in the Company’s 2011 Annual Report on Form 10-K for detailed information regarding FDIC-assisted purchase transactions. On September 22, 2016, the Company terminated all of the loss share agreements with the FDIC, such that all future losses and recoveries on loans and foreclosed real estate associated with the failed banks acquired through FDIC-assisted transactions began to be borne solely by First Bank.
103
In the information presented below, the term “covered” is used to describe assets that were subject to FDIC loss share agreements, while the term “non-covered” refers to the Company’s legacy assets, which were not included in any type of loss share arrangement. As discussed previously, all loss share agreements were terminated during 2016 and thus the entire loan portfolio is now classified as non-covered. Certain prior period disclosures will continue to present the breakout of the loan portfolio between covered and non-covered.
On March 3, 2017, the Company acquired Carolina Bank (see Note 2 for more information). As a result of this acquisition, the Company recorded loans with a fair value of $497.5 million. Of those loans, $19.3 million were considered to be purchased credit impaired (“PCI”) loans, which are loans for which it is probable at acquisition date that all contractually required payments will not be collected. The remaining loans were considered to be purchased non-impaired loans and their related fair value discount or premium is being recognized as an adjustment to yield over the remaining life of each loan.
The following table relates to acquired Carolina Bank PCI loans and summarizes the contractually required payments, which includes principal and interest, expected cash flows to be collected, and the fair value of acquired PCI loans at the acquisition date.
($ in thousands)
| Carolina Bank Acquisition on March 3, 2017 | |||
| Contractually required payments | $ | 27,108 | ||
| Nonaccretable difference | (4,237 | ) | ||
| Cash flows expected to be collected at acquisition | 22,871 | |||
| Accretable yield | (3,617 | ) | ||
| Fair value of PCI loans at acquisition date | $ | 19,254 | ||
The following table relates to acquired Carolina Bank purchased non-impaired loans and provides the contractually required payments, fair value, and estimate of contractual cash flows not expected to be collected at the acquisition date.
($ in thousands)
| Carolina Bank Acquisition on March 3, 2017 | |||
| Contractually required payments | $ | 569,980 | ||
| Fair value of acquired loans at acquisition date | 478,515 | |||
| Contractual cash flows not expected to be collected | 3,650 | |||
On October 1, 2017, the Company acquired Asheville Savings Bank (see Note 2 for more information). As a result of this acquisition, the Company recorded loans with a fair value of $606.2 million. Of those loans, $9.9 million were considered to be PCI loans. The remaining loans were considered to be purchased non-impaired loans and their related fair value discount or premium is being recognized as an adjustment to yield over the remaining life of each loan.
The following table relates to acquired Asheville Savings Bank PCI loans and summarizes the contractually required payments, which includes principal and interest, expected cash flows to be collected, and the fair value of acquired PCI loans at the acquisition date.
($ in thousands)
| Asheville Savings Bank Acquisition on October 1, 2017 | |||
| Contractually required payments | $ | 13,424 | ||
| Nonaccretable difference | (1,734 | ) | ||
| Cash flows expected to be collected at acquisition | 11,690 | |||
| Accretable yield | (1,804 | ) | ||
| Fair value of PCI loans at acquisition date | $ | 9,886 | ||
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The following table relates to acquired Asheville Savings Bank purchased non-impaired loans and provides the contractually required payments, fair value, and estimate of contractual cash flows not expected to be collected at the acquisition date.
| ($ in thousands) | Asheville Savings Bank Acquisition on October 1, 2017 | |||
| Contractually required payments | $ | 727,706 | ||
| Fair value of acquired loans at acquisition date | 595,167 | |||
| Contractual cash flows not expected to be collected | 7,000 | |||
The following is a summary of the major categories of total loans outstanding:
| ($ in thousands) | December 31, 2018 | December 31, 2017 | ||||||||||||||
| Amount | Percentage | Amount | Percentage | |||||||||||||
| All loans: | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 457,037 | 11% | $ | 381,130 | 10% | ||||||||||
| Real estate – construction, land development & other land loans | 518,976 | 12% | 539,020 | 13% | ||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 1,054,176 | 25% | 972,772 | 24% | ||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 359,162 | 8% | 379,978 | 9% | ||||||||||||
| Real estate – mortgage – commercial and other | 1,787,022 | 42% | 1,696,107 | 42% | ||||||||||||
| Installment loans to individuals | 71,392 | 2% | 74,348 | 2% | ||||||||||||
| Subtotal | 4,247,765 | 100% | 4,043,355 | 100% | ||||||||||||
| Unamortized net deferred loan costs (fees) | 1,299 | (986 | ) | |||||||||||||
| Total loans | $ | 4,249,064 | $ | 4,042,369 | ||||||||||||
Loans in the amount of $3.8 billion and $3.6 billion were pledged as collateral for certain borrowings as of December 31, 2018 and December 31, 2017, respectively (see Note 10).
The loans above also include loans to executive officers and directors serving the Company at December 31, 2018 and to their associates, totaling approximately $5.7 million and $3.6 million at December 31, 2018 and 2017, respectively. During 2018, net advances on such loans were approximately $2.1 million. These loans were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other non-related borrowers. Management does not believe these loans involve more than the normal risk of collectability or present other unfavorable features.
At December 31, 2018 and 2017, there was a remaining unaccreted discount on the retained portion of sold SBA loans amounting to $5.7 million and $2.6 million, respectively. As of December 31, 2018 and 2017, there was a remaining accretable discount of $15.0 million and $21.5 million, respectively, related to purchased non-impaired loans. Both types of discounts are amortized as yield adjustments over the respective lives of the loans, so long as the loans perform.
The following table presents changes in the carrying value of PCI loans.
| ($ in thousands) Purchased Credit Impaired Loans | For the Year Ended December 31, 2018 | For the Year Ended December 31, 2017 | ||||||
| Balance at beginning of period | $ | 23,165 | 514 | |||||
| Additions due to acquisition of Carolina Bank | — | 19,254 | ||||||
| Additions due to acquisition of Asheville Savings Bank | — | 9,886 | ||||||
| Change due to payments received and accretion | (5,799 | ) | (6,016 | ) | ||||
| Change due to loan charge-offs | (10 | ) | (12 | ) | ||||
| Transfers to foreclosed real estate | (4 | ) | (69 | ) | ||||
| Other | 41 | (392 | ) | |||||
| Balance at end of period | $ | 17,393 | 23,165 | |||||
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The following table presents changes in the accretable yield for PCI loans.
| ($ in thousands) Accretable Yield for PCI loans | For the Year Ended December 31, 2018 | For the Year Ended December 31, 2017 | ||||||
| Balance at beginning of period | $ | 4,688 | — | |||||
| Additions due to acquisition of Carolina Bank | — | 3,617 | ||||||
| Additions due to acquisition of Asheville Savings Bank | — | 1,804 | ||||||
| Accretion | (2,050 | ) | (1,846 | ) | ||||
| Reclassification from (to) nonaccretable difference | 849 | 423 | ||||||
| Other, net | 1,263 | 690 | ||||||
| Balance at end of period | $ | 4,750 | 4,688 | |||||
During 2018, the Company received $772,000 in payments that exceeded the carrying amount of the related PCI loans, of which $493,000 was recognized as loan discount accretion income and $279,000 was recorded as additional loan interest income. During 2017, the Company received $1,064,000 in payments that exceeded the carrying amount of the related PCI loans, of which $962,000 was recognized as loan discount accretion income and $102,000 was recorded as additional loan interest income.
During 2018, the Company recorded $750,000 in interest recoveries on purchased non-impaired loans. Amounts recorded for 2016 and 2017 were not significant.
Nonperforming assets are defined as nonaccrual loans, restructured loans, loans past due 90 or more days and still accruing interest, and foreclosed real estate. Nonperforming assets are summarized as follows:
ASSET QUALITY DATA ($ in thousands) | December 31, 2018 | December 31, 2017 | ||||||
| Nonperforming assets | ||||||||
| Nonaccrual loans | $ | 22,575 | 20,968 | |||||
| Restructured loans - accruing | 13,418 | 19,834 | ||||||
| Accruing loans > 90 days past due | — | — | ||||||
| Total nonperforming loans | 35,993 | 40,802 | ||||||
| Foreclosed real estate | 7,440 | 12,571 | ||||||
| Total nonperforming assets | $ | 43,433 | 53,373 | |||||
| Purchased credit impaired loans not included above (1) | $ | 17,393 | 23,165 | |||||
(1) In the March 3, 2017 acquisition of Carolina Bank. and the October 1, 2017 acquisition of Asheville Savings Bank, the Company acquired $19.3 million and $9.9 million, respectively, in PCI loans in accordance with ASC 310-30 accounting guidance. These loans are excluded from nonperforming loans, including $0.6 million and $0.6 million in PCI loans at December 31, 2018 and 2017, respectively, that are contractually past due 90 days or more.
At December 31, 2018 and 2017, the Company had $0.7 million and $0.8 million in residential mortgage loans in process of foreclosure, respectively.
If the nonaccrual and restructured loans as of December 31, 2018, 2017 and 2016 had been current in accordance with their original terms and had been outstanding throughout the period (or since origination if held for part of the period), gross interest income in the amounts of approximately $1,616,000, $1,503,000, and $1,893,000 for nonaccrual loans and $974,000, $1,182,000, and $1,417,000, for restructured loans would have been recorded for 2018, 2017, and 2016, respectively. Interest income on such loans that was actually collected and included in net income in 2018, 2017 and 2016 amounted to approximately $765,000, $415,000, and $266,000 for nonaccrual loans (prior to their being placed on nonaccrual status), and $763,000, $885,000, and $423,000 for restructured loans, respectively. At December 31, 2018 and 2017, there were no commitments to lend additional funds to debtors whose loans were nonperforming.
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The following is a summary the Company’s nonaccrual loans by major categories.
| ($ in thousands) | December 31, 2018 | December 31, 2017 | ||||||
| Commercial, financial, and agricultural | $ | 919 | 1,001 | |||||
| Real estate – construction, land development & other land loans | 2,265 | 1,822 | ||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 10,115 | 12,201 | ||||||
| Real estate – mortgage – home equity loans / lines of credit | 1,685 | 2,524 | ||||||
| Real estate – mortgage – commercial and other | 7,452 | 3,345 | ||||||
| Installment loans to individuals | 139 | 75 | ||||||
| Total | $ | 22,575 | 20,968 | |||||
The following table presents an analysis of the payment status of the Company’s loans as of December 31, 2018.
| ($ in thousands) | Accruing 30-59 Days Past Due | Accruing 60- 89 Days Past Due | Accruing 90 Days or More Past Due | Nonaccrual Loans | Accruing Current | Total Loans Receivable | ||||||||||||||||||
| Commercial, financial, and agricultural | $ | 191 | 5 | — | 919 | 455,692 | 456,807 | |||||||||||||||||
| Real estate – construction, land development & other land loans | 849 | 212 | — | 2,265 | 515,472 | 518,798 | ||||||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 14,178 | 1,369 | — | 10,115 | 1,022,261 | 1,047,923 | ||||||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 1,048 | 254 | — | 1,685 | 355,831 | 358,818 | ||||||||||||||||||
| Real estate – mortgage – commercial and other | 709 | 520 | — | 7,452 | 1,768,205 | 1,776,886 | ||||||||||||||||||
| Installment loans to individuals | 359 | 220 | — | 139 | 70,422 | 71,140 | ||||||||||||||||||
| Purchased credit impaired | 990 | 138 | 583 | — | 15,682 | 17,393 | ||||||||||||||||||
| Total | $ | 18,324 | 2,718 | 583 | 22,575 | 4,203,565 | 4,247,765 | |||||||||||||||||
| Unamortized net deferred loan costs | 1,299 | |||||||||||||||||||||||
| Total loans | $ | 4,249,064 | ||||||||||||||||||||||
The following table presents an analysis of the payment status of the Company’s loans as of December 31, 2017.
| ($ in thousands) | Accruing 30-59 Days Past Due | Accruing 60- 89 Days Past Due | Accruing 90 Days or More Past Due | Nonaccrual Loans | Accruing Current | Total Loans Receivable | ||||||||||||||||||
| Commercial, financial, and agricultural | $ | 89 | 151 | — | 1,001 | 379,241 | 380,482 | |||||||||||||||||
| Real estate – construction, land development & other land loans | 1,154 | 214 | — | 1,822 | 535,423 | 538,613 | ||||||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 6,777 | 1,370 | — | 12,201 | 943,565 | 963,913 | ||||||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 1,347 | 10 | — | 2,524 | 375,814 | 379,695 | ||||||||||||||||||
| Real estate – mortgage – commercial and other | 1,270 | 451 | — | 3,345 | 1,678,529 | 1,683,595 | ||||||||||||||||||
| Installment loans to individuals | 445 | 95 | — | 75 | 73,277 | 73,892 | ||||||||||||||||||
| Purchased credit impaired | 821 | 77 | 601 | — | 21,666 | 23,165 | ||||||||||||||||||
| Total | $ | 11,903 | 2,368 | 601 | 20,968 | 4,007,515 | 4,043,355 | |||||||||||||||||
| Unamortized net deferred loan fees | (986 | ) | ||||||||||||||||||||||
| Total loans | $ | 4,042,369 | ||||||||||||||||||||||
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The following table presents the activity in the allowance for loan losses for the year ended December 31, 2018.
($ in thousands) | Commercial, Financial, and Agricultural | Real Estate – Construction, Land Development & Other Land Loans | Real Estate – Residential (1-4 Family) First Mortgages | Real Estate – Mortgage – Home Equity Lines of Credit | Real Estate – Mortgage – Commercial and Other | Install- ment Loans to Individuals | Unallo- cated | Total | ||||||||||||||||||||||||
| As of and for the year ended December 31, 2018 | ||||||||||||||||||||||||||||||||
| Beginning balance | $ | 3,111 | 2,816 | 6,147 | 1,827 | 6,475 | 950 | 1,972 | 23,298 | |||||||||||||||||||||||
| Charge-offs | (2,128 | ) | (158 | ) | (1,734 | ) | (711 | ) | (1,459 | ) | (781 | ) | — | (6,971 | ) | |||||||||||||||||
| Recoveries | 1,195 | 4,097 | 833 | 364 | 1,503 | 309 | — | 8,301 | ||||||||||||||||||||||||
| Provisions | 711 | (4,512 | ) | (49 | ) | 185 | 1,464 | 474 | (1,862 | ) | (3,589 | ) | ||||||||||||||||||||
| Ending balance | $ | 2,889 | 2,243 | 5,197 | 1,665 | 7,983 | 952 | 110 | 21,039 | |||||||||||||||||||||||
| Ending balances as of December 31, 2018: Allowance for loan losses | ||||||||||||||||||||||||||||||||
| Individually evaluated for impairment | $ | 226 | 134 | 955 | 48 | 906 | — | — | 2,269 | |||||||||||||||||||||||
| Collectively evaluated for impairment | $ | 2,661 | 2,109 | 4,143 | 1,608 | 7,070 | 941 | 110 | 18,642 | |||||||||||||||||||||||
| Purchased credit impaired | $ | 2 | — | 99 | 9 | 7 | 11 | — | 128 | |||||||||||||||||||||||
| Loans receivable as of December 31, 2018: | ||||||||||||||||||||||||||||||||
| Ending balance – total | $ | 457,037 | 518,976 | 1,054,176 | 359,162 | 1,787,022 | 71,392 | — | 4,247,765 | |||||||||||||||||||||||
| Unamortized net deferred loan costs | 1,299 | |||||||||||||||||||||||||||||||
| Total loans | $ | 4,249,064 | ||||||||||||||||||||||||||||||
| Ending balances as of December 31, 2018: Loans | ||||||||||||||||||||||||||||||||
| Individually evaluated for impairment | $ | 696 | 1,345 | 12,391 | 296 | 9,525 | — | — | 24,253 | |||||||||||||||||||||||
| Collectively evaluated for impairment | $ | 456,111 | 517,453 | 1,035,532 | 358,522 | 1,767,361 | 71,140 | — | 4,206,119 | |||||||||||||||||||||||
| Purchased credit impaired | $ | 230 | 178 | 6,253 | 344 | 10,136 | 252 | — | 17,393 | |||||||||||||||||||||||
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The following table presents the activity in the allowance for loan losses for the year ended December 31, 2017.
($ in thousands) | Commercial, Financial, and Agricultural | Real Estate – Construction, Land Development & Other Land Loans | Real Estate – Residential (1-4 Family) First Mortgages | Real Estate – Mortgage – Home Equity Lines of Credit | Real Estate – Mortgage – Commercial and Other | Install- ment Loans to Individuals | Unallo- cated | Total | ||||||||||||||||||||||||
| As of and for the year ended December 31, 2017 | ||||||||||||||||||||||||||||||||
| Beginning balance | $ | 3,829 | 2,691 | 7,704 | 2,420 | 5,098 | 1,145 | 894 | 23,781 | |||||||||||||||||||||||
| Charge-offs | (1,622 | ) | (589 | ) | (2,641 | ) | (978 | ) | (1,182 | ) | (799 | ) | — | (7,811 | ) | |||||||||||||||||
| Recoveries | 1,311 | 2,579 | 1,076 | 333 | 1,027 | 279 | — | 6,605 | ||||||||||||||||||||||||
| Provisions | (407 | ) | (1,865 | ) | 8 | 52 | 1,532 | 325 | 1,078 | 723 | ||||||||||||||||||||||
| Ending balance | $ | 3,111 | 2,816 | 6,147 | 1,827 | 6,475 | 950 | 1,972 | 23,298 | |||||||||||||||||||||||
| Ending balances as of December 31, 2017: Allowance for loan losses | ||||||||||||||||||||||||||||||||
| Individually evaluated for impairment | $ | 215 | 18 | 1,099 | — | 232 | — | — | 1,564 | |||||||||||||||||||||||
| Collectively evaluated for impairment | $ | 2,896 | 2,798 | 4,831 | 1,788 | 6,226 | 950 | 1,972 | 21,461 | |||||||||||||||||||||||
| Purchased credit impaired | $ | — | — | 217 | 39 | 17 | — | — | 273 | |||||||||||||||||||||||
| Loans receivable as of December 31, 2017: | ||||||||||||||||||||||||||||||||
| Ending balance – total | $ | 381,130 | 539,020 | 972,772 | 379,978 | 1,696,107 | 74,348 | — | 4,043,355 | |||||||||||||||||||||||
| Unamortized net deferred loan fees | (986 | ) | ||||||||||||||||||||||||||||||
| Total loans | $ | 4,042,369 | ||||||||||||||||||||||||||||||
| Ending balances as of December 31, 2017: Loans | ||||||||||||||||||||||||||||||||
| Individually evaluated for impairment | $ | 579 | 2,975 | 14,800 | 368 | 8,493 | — | — | 27,215 | |||||||||||||||||||||||
| Collectively evaluated for impairment | $ | 379,903 | 535,638 | 949,113 | 379,327 | 1,675,102 | 73,892 | — | 3,992,975 | |||||||||||||||||||||||
| Purchased credit impaired | $ | 648 | 407 | 8,859 | 283 | 12,512 | 456 | — | 23,165 | |||||||||||||||||||||||
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The following table presents the activity in the allowance for loan losses for the year ended December 31, 2016. There were no covered loans at December 31, 2016 and all reserves associated with previously covered loans were transferred to the non-covered allowance.
| ($ in thousands) | Commercial, Financial, and Agricultural | Real Estate – Construction, Land Development & Other Land Loans | Real Estate – Residential (1-4 Family) First Mortgages | Real Estate – Mortgage – Home Equity Lines of Credit | Real Estate – Mortgage – Commercial and Other | Installment Loans to Individuals | Unallo- cated | Covered | Total | |||||||||||||||||||||||||||
| As of and for the year ended December 31, 2016 | ||||||||||||||||||||||||||||||||||||
| Beginning balance | $ | 4,742 | 3,754 | 7,832 | 2,893 | 5,816 | 1,051 | 696 | 1,799 | 28,583 | ||||||||||||||||||||||||||
| Charge-offs | (2,271 | ) | (1,101 | ) | (3,815 | ) | (969 | ) | (1,005 | ) | (1,008 | ) | (1 | ) | (244 | ) | (10,414 | ) | ||||||||||||||||||
| Recoveries | 805 | 1,422 | 1,060 | 250 | 836 | 354 | — | 1,958 | 6,685 | |||||||||||||||||||||||||||
| Transfer from covered status | 56 | 65 | 839 | 293 | 127 | — | 1 | (1,381 | ) | — | ||||||||||||||||||||||||||
| Removed due to branch loan sale | (263 | ) | (39 | ) | (347 | ) | (110 | ) | (228 | ) | (63 | ) | — | — | (1,050 | ) | ||||||||||||||||||||
| Provisions | 760 | (1,410 | ) | 2,135 | 63 | (448 | ) | 811 | 198 | (2,132 | ) | (23 | ) | |||||||||||||||||||||||
| Ending balance | $ | 3,829 | 2,691 | 7,704 | 2,420 | 5,098 | 1,145 | 894 | — | 23,781 | ||||||||||||||||||||||||||
| Ending balances as of December 31, 2016: Allowance for loan losses | ||||||||||||||||||||||||||||||||||||
| Individually evaluated for impairment | $ | 7 | 184 | 1,339 | 5 | 105 | — | — | — | 1,640 | ||||||||||||||||||||||||||
| Collectively evaluated for impairment | $ | 3,822 | 2,507 | 6,365 | 2,415 | 4,993 | 1,145 | 894 | — | 22,141 | ||||||||||||||||||||||||||
| Purchased credit impaired | $ | — | — | — | — | — | — | — | — | — | ||||||||||||||||||||||||||
| Loans receivable as of December 31, 2016: | ||||||||||||||||||||||||||||||||||||
| Ending balance – total | $ | 261,813 | 354,667 | 750,679 | 239,105 | 1,049,460 | 55,037 | — | — | 2,710,761 | ||||||||||||||||||||||||||
| Unamortized net deferred loan fees | (49 | ) | ||||||||||||||||||||||||||||||||||
| Total loans | $ | 2,710,712 | ||||||||||||||||||||||||||||||||||
| Ending balances as of December 31, 2016: Loans | ||||||||||||||||||||||||||||||||||||
| Individually evaluated for impairment | $ | 644 | 4,001 | 20,807 | 280 | 6,494 | — | — | — | 32,226 | ||||||||||||||||||||||||||
| Collectively evaluated for impairment | $ | 261,169 | 350,666 | 729,872 | 238,825 | 1,042,452 | 55,037 | — | — | 2,678,021 | ||||||||||||||||||||||||||
| Purchased credit impaired | $ | — | — | — | — | 514 | — | — | — | 514 | ||||||||||||||||||||||||||
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The following table presents loans individually evaluated for impairment by class of loans, excluding purchased credit impaired loans, as of December 31, 2018.
($ in thousands) | Recorded Investment | Unpaid Principal Balance | Related Allowance | Average Recorded Investment | ||||||||||||
| Impaired loans with no related allowance recorded: | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 310 | 310 | — | 957 | |||||||||||
| Real estate – mortgage – construction, land development & other land loans | 485 | 803 | — | 2,366 | ||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 4,626 | 4,948 | — | 4,804 | ||||||||||||
| Real estate – mortgage –home equity loans / lines of credit | 22 | 31 | — | 91 | ||||||||||||
| Real estate – mortgage –commercial and other | 3,475 | 4,237 | — | 3,670 | ||||||||||||
| Installment loans to individuals | — | — | — | — | ||||||||||||
| Total impaired loans with no allowance | $ | 8,918 | 10,329 | — | 11,888 | |||||||||||
| Impaired loans with an allowance recorded: | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 386 | 387 | 226 | 422 | |||||||||||
| Real estate – mortgage – construction, land development & other land loans | 860 | 864 | 134 | 385 | ||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 7,765 | 7,904 | 955 | 8,963 | ||||||||||||
| Real estate – mortgage –home equity loans / lines of credit | 274 | 275 | 48 | 184 | ||||||||||||
| Real estate – mortgage –commercial and other | 6,050 | 6,054 | 906 | 5,911 | ||||||||||||
| Installment loans to individuals | — | — | — | 2 | ||||||||||||
| Total impaired loans with allowance | $ | 15,335 | 15,484 | 2,269 | 15,867 | |||||||||||
Interest income recorded on impaired loans during the year ended December 31, 2018 was insignificant.
The following table presents loans individually evaluated for impairment by class of loans, excluding purchased credit impaired loans, as of December 31, 2017.
($ in thousands) | Recorded Investment | Unpaid Principal Balance | Related Allowance | Average Recorded Investment | ||||||||||||
| Impaired loans with no related allowance recorded: | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 183 | 425 | — | 276 | |||||||||||
| Real estate – mortgage – construction, land development & other land loans | 2,743 | 3,941 | — | 2,846 | ||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 5,205 | 5,728 | — | 7,067 | ||||||||||||
| Real estate – mortgage –home equity loans / lines of credit | 368 | 387 | — | 129 | ||||||||||||
| Real estate – mortgage –commercial and other | 3,066 | 3,321 | — | 3,143 | ||||||||||||
| Installment loans to individuals | — | — | — | — | ||||||||||||
| Total impaired loans with no allowance | $ | 11,565 | 13,802 | — | 13,461 | |||||||||||
| Impaired loans with an allowance recorded: | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 396 | 396 | 215 | 214 | |||||||||||
| Real estate – mortgage – construction, land development & other land loans | 232 | 241 | 18 | 503 | ||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 9,595 | 9,829 | 1,099 | 10,077 | ||||||||||||
| Real estate – mortgage –home equity loans / lines of credit | — | — | — | 66 | ||||||||||||
| Real estate – mortgage –commercial and other | 5,427 | 5,427 | 232 | 5,369 | ||||||||||||
| Installment loans to individuals | — | — | — | — | ||||||||||||
| Total impaired loans with allowance | $ | 15,650 | 15,893 | 1,564 | 16,229 | |||||||||||
Interest income recorded on impaired loans during the year ended December 31, 2017 was insignificant.
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The Company tracks credit quality based on its internal risk ratings. Upon origination a loan is assigned an initial risk grade, which is generally based on several factors such as the borrower’s credit score, the loan-to-value ratio, the debt-to-income ratio, etc. Loans that are risk-graded as substandard during the origination process are declined. After loans are initially graded, they are monitored regularly for credit quality based on many factors, such as payment history, the borrower’s financial status, and changes in collateral value. Loans can be downgraded or upgraded depending on management’s evaluation of these factors. Internal risk-grading policies are consistent throughout each loan type.
The following describes the Company’s internal risk grades in ascending order of likelihood of loss:
| Risk Grade | Description | |
| Pass: | ||
| 1 | Loans with virtually no risk, including cash secured loans. | |
| 2 | Loans with documented significant overall financial strength. These loans have minimum chance of loss due to the presence of multiple sources of repayment – each clearly sufficient to satisfy the obligation. | |
| 3 | Loans with documented satisfactory overall financial strength. These loans have a low loss potential due to presence of at least two clearly identified sources of repayment – each of which is sufficient to satisfy the obligation under the present circumstances. | |
| 4 | Loans to borrowers with acceptable financial condition. These loans could have signs of minor operational weaknesses, lack of adequate financial information, or loans supported by collateral with questionable value or marketability. | |
| 5 | Loans that represent above average risk due to minor weaknesses and warrant closer scrutiny by management. Collateral is generally available and felt to provide reasonable coverage with realizable liquidation values in normal circumstances. Repayment performance is satisfactory. | |
| P (Pass) |
Consumer loans (<$500,000) that are of satisfactory credit quality with borrowers who exhibit good personal credit history, average personal financial strength and moderate debt levels. These loans generally conform to Bank policy, but may include approved mitigated exceptions to the guidelines. | |
| Special Mention: | ||
| 6 | Existing loans with defined weaknesses in primary source of repayment that, if not corrected, could cause a loss to the Bank. | |
| Classified: | ||
| 7 | An existing loan inadequately protected by the current sound net worth and paying capacity of the obligor or the collateral pledged, if any. These loans have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. | |
| 8 | Loans that have a well-defined weakness that make the collection or liquidation in full highly questionable and improbable. Loss appears imminent, but the exact amount and timing is uncertain. | |
| 9 | Loans that are considered uncollectible and are in the process of being charged-off. This grade is a temporary grade assigned for administrative purposes until the charge-off is completed. | |
| F (Fail) |
Consumer loans (<$500,000) with a well-defined weakness, such as exceptions of any kind with no mitigating factors, history of paying outside the terms of the note, insufficient income to support the current level of debt, etc. | |
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The following table presents the Company’s recorded investment in loans by credit quality indicators as of December 31, 2018.
| ($ in thousands) | ||||||||||||||||||||
| Pass | Special Mention Loans | Classified Accruing Loans | Classified Nonaccrual Loans | Total | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 452,373 | 3,056 | 459 | 919 | 456,807 | ||||||||||||||
| Real estate – construction, land development & other land loans | 509,251 | 5,668 | 1,614 | 2,265 | 518,798 | |||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 1,004,457 | 12,238 | 21,113 | 10,115 | 1,047,923 | |||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 348,792 | 1,688 | 6,653 | 1,685 | 358,818 | |||||||||||||||
| Real estate – mortgage – commercial and other | 1,750,810 | 14,484 | 4,140 | 7,452 | 1,776,886 | |||||||||||||||
| Installment loans to individuals | 70,357 | 231 | 413 | 139 | 71,140 | |||||||||||||||
| Purchased credit impaired | 8,355 | 5,214 | 3,824 | — | 17,393 | |||||||||||||||
| Total | $ | 4,144,395 | 42,579 | 38,216 | 22,575 | 4,247,765 | ||||||||||||||
| Unamortized net deferred loan costs | 1,299 | |||||||||||||||||||
| Total loans | 4,249,064 | |||||||||||||||||||
The following table presents the Company’s recorded investment in loans by credit quality indicators as of December 31, 2017.
| ($ in thousands) | ||||||||||||||||||||
| Pass | Special Mention Loans | Classified Accruing Loans | Classified Nonaccrual Loans | Total | ||||||||||||||||
| Commercial, financial, and agricultural | $ | 368,658 | 9,901 | 922 | 1,001 | 380,482 | ||||||||||||||
| Real estate – construction, land development & other land loans | 523,642 | 7,129 | 6,020 | 1,822 | 538,613 | |||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 905,111 | 16,235 | 30,366 | 12,201 | 963,913 | |||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | 365,982 | 3,784 | 7,405 | 2,524 | 379,695 | |||||||||||||||
| Real estate – mortgage – commercial and other | 1,647,725 | 23,335 | 9,190 | 3,345 | 1,683,595 | |||||||||||||||
| Installment loans to individuals | 73,379 | 222 | 216 | 75 | 73,892 | |||||||||||||||
| Purchased credit impaired | 6,541 | 12,309 | 4,315 | — | 23,165 | |||||||||||||||
| Total | $ | 3,891,038 | 72,915 | 58,434 | 20,968 | 4,043,355 | ||||||||||||||
| Unamortized net deferred loan fees | (986 | ) | ||||||||||||||||||
| Total loans | 4,042,369 | |||||||||||||||||||
Troubled Debt Restructurings
The restructuring of a loan is considered a “troubled debt restructuring” if both (i) the borrower is experiencing financial difficulties and (ii) the creditor has granted a concession. Concessions may include interest rate reductions or below market interest rates, principal forgiveness, restructuring amortization schedules and other actions intended to minimize potential losses.
The majority of the Company’s troubled debt restructurings modified during the years ended December 31, 2018 and 2017 related to interest rate reductions combined with restructured amortization schedules. The Company does not generally grant principal forgiveness.
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All loans classified as troubled debt restructurings are considered to be impaired and are evaluated as such for determination of the allowance for loan losses. The Company’s troubled debt restructurings can be classified as either nonaccrual or accruing based on the loan’s payment status. The troubled debt restructurings that are nonaccrual are reported within the nonaccrual loan totals presented previously.
The following table presents information related to loans modified in a troubled debt restructuring during the years ended December 31, 2018 and 2017.
| ($ in thousands) | For the year ended December 31, 2018 | For the year ended December 31, 2017 | ||||||||||||||||||||||
| Number of Contracts | Pre- Modification Restructured Balances | Post- Modification Restructured Balances | Number of Contracts | Pre- Modification Restructured Balances | Post- Modification Restructured Balances | |||||||||||||||||||
| TDRs – Accruing | ||||||||||||||||||||||||
| Commercial, financial, and agricultural | — | $ | — | $ | — | — | $ | — | $ | — | ||||||||||||||
| Real estate – construction, land development & other land loans | — | — | — | — | — | — | ||||||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 2 | 254 | 273 | — | — | — | ||||||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | — | — | — | — | — | — | ||||||||||||||||||
| Real estate – mortgage – commercial and other | — | — | — | 6 | 4,120 | 4,095 | ||||||||||||||||||
| Installment loans to individuals | — | — | — | — | — | — | ||||||||||||||||||
| TDRs – Nonaccrual | ||||||||||||||||||||||||
| Commercial, financial, and agricultural | — | — | — | 1 | 38 | 25 | ||||||||||||||||||
| Real estate – construction, land development & other land loans | 1 | 61 | 61 | 1 | 32 | 32 | ||||||||||||||||||
| Real estate – mortgage – residential (1-4 family) first mortgages | 3 | 340 | 350 | 2 | 262 | 262 | ||||||||||||||||||
| Real estate – mortgage – home equity loans / lines of credit | — | — | — | — | — | — | ||||||||||||||||||
| Real estate – mortgage – commercial and other | — | — | — | — | — | — | ||||||||||||||||||
| Installment loans to individuals | — | — | — | — | — | — | ||||||||||||||||||
| Total TDRs arising during period | 6 | $ | 655 | $ | 684 | 10 | $ | 4,452 | $ | 4,414 | ||||||||||||||
Accruing restructured loans that were modified in the previous 12 months and that defaulted during the years ended December 31, 2018 and 2017 are presented in the table below. The Company considers a loan to have defaulted when it becomes 90 or more days delinquent under the modified terms, has been transferred to nonaccrual status, or has been transferred to foreclosed real estate.
| ($ in thousands) | For the year ended December 31, 2018 | For the year ended December 31, 2017 | ||||||||||||||
| Number of Contracts | Recorded Investment | Number of Contracts | Recorded Investment | |||||||||||||
| Accruing TDRs that subsequently defaulted | ||||||||||||||||
| Real estate – mortgage – residential (1-4 family first mortgages) | 1 | $ | 60 | 2 | 880 | |||||||||||
| Real estate – mortgage – commercial and other | 3 | 1,333 | — | — | ||||||||||||
| Total accruing TDRs that subsequently defaulted | 4 | $ | 1,393 | 2 | $ | 880 | ||||||||||
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Note 5. Premises and Equipment
Premises and equipment at December 31, 2018 and 2017 consisted of the following:
| ($ in thousands) | 2018 | 2017 | ||||||
| Land | $ | 38,647 | 38,821 | |||||
| Buildings | 93,794 | 92,337 | ||||||
| Furniture and equipment | 36,115 | 35,532 | ||||||
| Leasehold improvements | 2,404 | 2,409 | ||||||
| Total cost | 170,960 | 169,099 | ||||||
| Less accumulated depreciation and amortization | (51,960 | ) | (52,866 | ) | ||||
| Net book value of premises and equipment | $ | 119,000 | 116,233 | |||||
Note 6. FDIC Indemnification Asset
As discussed previously in Note 4 – Loans and Asset Quality Information, the Company terminated all loss share agreements with the FDIC effective September 22, 2016. As a result, the remaining balance in the FDIC Indemnification Asset, which represented the estimated amount to be received from the FDIC under the loss share agreements, was written off as indemnification asset expense as of the termination date.
The following presents a rollforward of the FDIC indemnification asset from January 1, 2016 through the date of termination.
| ($ in thousands) | ||||
| Balance at January 1, 2016 | $ | 8,439 | ||
| Increase (decrease) related to unfavorable (favorable) changes in loss estimates | (2,246 | ) | ||
| Increase related to reimbursable expenses | 205 | |||
| Cash paid | 1,554 | |||
| Decrease related to accretion of loan discount | (2,005 | ) | ||
| Other | (236 | ) | ||
| Write off of asset balance upon termination of FDIC loss share agreements effective September 22, 2016 | (5,711 | ) | ||
| Balance at December 31, 2016 | $ | — | ||
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Note 7. Goodwill and Other Intangible Assets
The following is a summary of the gross carrying amount and accumulated amortization of amortizable intangible assets as of December 31, 2018 and December 31, 2017 and the carrying amount of unamortizable intangible assets as of those same dates.
| December 31, 2018 | December 31, 2017 | |||||||||||||||
| ($ in thousands) | Gross Carrying Amount | Accumulated Amortization | Gross Carrying Amount | Accumulated Amortization | ||||||||||||
| Amortizable intangible assets: | ||||||||||||||||
| Customer lists | $ | 6,013 | 1,637 | 6,013 | 1,090 | |||||||||||
| Core deposit intangibles | 28,440 | 16,469 | 28,280 | 11,475 | ||||||||||||
| SBA servicing asset | 5,472 | 1,053 | 2,194 | 207 | ||||||||||||
| Other | 1,303 | 957 | 1,303 | 581 | ||||||||||||
| Total | $ | 41,228 | 20,116 | 37,790 | 13,353 | |||||||||||
| Unamortizable intangible assets: | ||||||||||||||||
| Goodwill | $ | 234,368 | 233,070 | |||||||||||||
Activity related to transactions since January 1, 2017 includes the following:
| (1) | In connection with the Carolina Bank acquisition on March 3, 2017, the Company recorded a net increase of $66,540,000 in goodwill and $8,790,000 in a core deposit intangible. |
| (2) | In connection with the September 1, 2017 acquisition of Bear Insurance Service, the Company recorded $5,330,000 in goodwill, $3,644,000 in a customer list intangible, and $271,000 in other amortizable intangible assets. |
| (3) | In connection with the Asheville Savings Bank acquisition on October 1, 2017, the Company recorded a net increase of $88,677,000 in goodwill and $9,880,000 in a core deposit intangible. |
In addition to the above acquisition related activity, the Company recorded $3,278,000 and $1,779,000 in servicing assets associated with the guaranteed portion of SBA loans originated and sold during 2018 and 2017, respectively. During 2018 and 2017, the Company recorded $846,000 and $207,000, respectively, in related amortization expense. Servicing assets are recorded for loans, or portions thereof, that the Company has sold but continue to service for a fee. Servicing assets are recorded at fair value and amortized over the expected lives of the related loans and are tested for impairment on a quarterly basis.
Amortization expense of all intangible assets totaled $6,763,000, $4,240,000 and $1,211,000 for the years ended December 31, 2018, 2017 and 2016, respectively.
Goodwill is evaluated for impairment on at least an annual basis – see Note 1(s). For each of the years presented, the Company’s evaluation indicated that there was no goodwill impairment.
The following table presents the estimated amortization expense related to amortizable intangible assets for each of the five calendar years ending December 31, 2023 and the estimated amount amortizable thereafter. These estimates are subject to change in future periods to the extent management determines it is necessary to make adjustments to the carrying value or estimated useful lives of amortizable intangible assets.
| ($ in thousands) | Estimated Amortization Expense | |||
| 2019 | $ | 5,649 | ||
| 2020 | 4,549 | |||
| 2021 | 3,549 | |||
| 2022 | 2,459 | |||
| 2023 | 1,398 | |||
| Thereafter | 3,508 | |||
| Total | $ | 21,112 | ||
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Note 8. Income Taxes
Total income taxes for the years ended December 31, 2018, 2017, and 2016 were allocated as follows:
| ($ In thousands) | 2018 | 2017 | 2016 | |||||||||
| Allocated to net income | $ | 24,189 | 21,767 | 14,624 | ||||||||
| Allocated to stockholders’ equity, for unrealized holding gain/loss on debt and equity securities for financial reporting purposes | (2,379 | ) | 321 | (685 | ) | |||||||
| Allocated to stockholders’ equity, for tax benefit of pension liabilities | (5 | ) | 668 | (36 | ) | |||||||
| Total income taxes | $ | 21,805 | 22,756 | 13,903 | ||||||||
The components of income tax expense for the years ended December 31, 2018, 2017, and 2016 are as follows:
| ($ In thousands) | 2018 | 2017 | 2016 | ||||||||||
| Current | - Federal | $ | 19,188 | 11,286 | 12,827 | ||||||||
| - State | 3,187 | 1,996 | 1,679 | ||||||||||
| Deferred | - Federal | 1,658 | 7,742 | 16 | |||||||||
| - State | 156 | 743 | 102 | ||||||||||
| Total | $ | 24,189 | 21,767 | 14,624 | |||||||||
The sources and tax effects of temporary differences that give rise to significant portions of the deferred tax assets (liabilities) at December 31, 2018 and 2017 are presented below:
| ($ In thousands) | 2018 | 2017 | ||||||
| Deferred tax assets: | ||||||||
| Allowance for loan losses | $ | 4,917 | 5,448 | |||||
| Excess book over tax pension plan cost | 92 | — | ||||||
| Deferred compensation | 367 | 1,220 | ||||||
| Federal & state net operating loss and tax credit carryforwards | 631 | 2,125 | ||||||
| Accruals, book versus tax | 3,036 | 2,546 | ||||||
| Pension liability adjustments | 752 | 748 | ||||||
| Foreclosed real estate | 715 | 740 | ||||||
| Basis differences in assets acquired in FDIC transactions | 1,121 | 1,311 | ||||||
| Nonqualified stock options | 240 | 248 | ||||||
| Partnership investments | 208 | 232 | ||||||
| Unrealized gain on securities available for sale | 2,895 | 517 | ||||||
| SBA servicing asset | 310 | 139 | ||||||
| All other | 42 | 42 | ||||||
| Gross deferred tax assets | 15,326 | 15,316 | ||||||
| Less: Valuation allowance | (36 | ) | (44 | ) | ||||
| Net deferred tax assets | 15,290 | 15,272 | ||||||
| Deferred tax liabilities: | ||||||||
| Loan fees | (2,484 | ) | (1,880 | ) | ||||
| Excess book over tax pension plan cost | — | (95 | ) | |||||
| Depreciable basis of fixed assets | (4,278 | ) | (3,122 | ) | ||||
| Amortizable basis of intangible assets | (7,921 | ) | (7,915 | ) | ||||
| FHLB stock dividends | (721 | ) | (658 | ) | ||||
| Trust preferred securities | (528 | ) | (616 | ) | ||||
| Purchase accounting adjustments | (122 | ) | (2,133 | ) | ||||
| All other | — | (28 | ) | |||||
| Gross deferred tax liabilities | (16,054 | ) | (16,447 | ) | ||||
| Net deferred tax asset (liability) - included in other assets | $ | (764 | ) | (1,175 | ) | |||
117
A portion of the annual change in the net deferred tax asset relates to unrealized gains and losses on securities available for sale. The related 2018 and 2017 deferred tax expense (benefit) of approximately ($2,379,000) and $321,000 respectively, has been recorded directly to shareholders’ equity. Additionally, a portion of the annual change in the net deferred tax asset relates to pension adjustments. The related 2018 and 2017 deferred tax expense (benefit) of ($5,000) and $668,000 respectively, has been recorded directly to shareholders’ equity. The change in the net deferred tax liability was also impacted by the recording of a net deferred tax liability of approximately $159,000 relating to adjustments made to acquisition transactions that occurred during the prior year. The balance of the 2018 increase in the net deferred tax liability of $1,814,000 is reflected as deferred income tax expense, and the balance of the 2017 increase in the net deferred tax liability of $8,485,000 is reflected as deferred income tax expense in the consolidated statement of income.
The valuation allowances for 2018 and 2017 relate primarily to state net operating loss carryforwards. It is management’s belief that the realization of the remaining net deferred tax assets is more likely than not. The Company adjusted its net deferred income tax asset as a result of reductions in the North Carolina income tax rate, which reduced the state income tax rate to 3% effective January 1, 2017.
The Company had no significant uncertain tax positions, and thus no reserve for uncertain tax positions has been recorded. Additionally, the Company determined that it has no material unrecognized tax benefits that if recognized would affect the effective tax rate. The Company’s general policy is to record tax penalties and interest as a component of “other operating expenses”.
The Company is subject to routine audits of its tax returns by the Internal Revenue Service and various state taxing authorities. The Company’s tax returns are subject to income tax audit by federal and state agencies beginning with the year 2015. There are no indications of any material adjustments relating to any examination currently being conducted by any taxing authority.
Retained earnings at December 31, 2018 and 2017 include approximately $6,869,000 representing pre-1988 tax bad debt reserve base year amounts for which no deferred income tax liability has been provided since these reserves are not expected to reverse or may never reverse. Circumstances that would require an accrual of a portion or all of this unrecorded tax liability are a reduction in qualifying loan levels relative to the end of 1987, failure to meet the definition of a bank, dividend payments in excess of accumulated tax earnings and profits, or other distributions in dissolution, liquidation or redemption of the Bank’s stock.
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The following is a reconcilement of federal income tax expense at the statutory rate of 21% at December 31, 2018 and 35% at December 31, 2017 and 2016, to the income tax provision reported in the financial statements.
| ($ In thousands) | 2018 | 2017 | 2016 | |||||||||
| Tax provision at statutory rate | $ | 23,830 | 23,709 | 14,746 | ||||||||
| Increase (decrease) in income taxes resulting from: | ||||||||||||
| Tax-exempt interest income | (1,117 | ) | (1,461 | ) | (1,202 | ) | ||||||
| Low income housing and AMT tax credits | (698 | ) | (596 | ) | (192 | ) | ||||||
| Non-deductible interest expense | 27 | 24 | 16 | |||||||||
| State income taxes, net of federal benefit | 2,639 | 1,780 | 1,158 | |||||||||
| Change in valuation allowance | (8 | ) | (1 | ) | (24 | ) | ||||||
| Impact of tax reform | — | (1,269 | ) | — | ||||||||
| Other, net | (484 | ) | (419 | ) | 122 | |||||||
| Total | $ | 24,189 | 21,767 | 14,624 | ||||||||
On December 22, 2017, the Tax Cut and Jobs Act was signed into law. Among other things, this Act permanently reduced the corporate tax rate to 21% from the prior maximum rate of 35%, effective for tax years including or commencing January 1, 2018. As a result of the reduction of the corporate tax rate to 21%, companies were required to revalue their deferred tax assets and liabilities as of the date of enactment, with resulting tax effects accounted for in the fourth quarter of 2017. Accordingly, during the fourth quarter of 2017, the Company recorded $1.3 million in tax benefit as a result of this revaluation.
Note 9. Time Deposits and Related Party Deposits
At December 31, 2018, the scheduled maturities of time deposits were as follows:
| ($ in thousands) | ||||
| 2019 | $ | 753,537 | ||
| 2020 | 117,229 | |||
| 2021 | 48,477 | |||
| 2022 | 21,726 | |||
| 2023 | 13,136 | |||
| Thereafter | 817 | |||
| $ | 954,922 |
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Deposits received from executive officers and directors and their associates totaled approximately $1.0 million and $3.8 million at December 31, 2018 and 2017, respectively. These deposit accounts have substantially the same terms, including interest rates, as those prevailing at the time for comparable transactions with other non-related depositors.
As of December 31, 2018 and 2017, the Company held $503.1 million and $405.1 million, respectively, in time deposits of $250,000 or more (which is the current FDIC insurance limit for insured deposits as of December 31, 2018). Included in these deposits were brokered deposits of $239.9 million and $234.0 million at December 31, 2018 and 2017, respectively.
Note 10. Borrowings and Borrowings Availability
The following tables present information regarding the Company’s outstanding borrowings at December 31, 2018 and 2017:
| Description – 2018 | Due date | Call Feature | 2018 Amount | Interest Rate | ||||||
| FHLB Term Note | 1/10/2019 | None | $ | 68,000,000 | 2.47% fixed | |||||
| FHLB Term Note | 1/17/2019 | None | 135,000,000 | 2.49% fixed | ||||||
| FHLB Term Note | 1/24/2019 | None | 20,000,000 | 2.54% fixed | ||||||
| FHLB Term Note | 1/31/2019 | None | 20,000,000 | 2.53% fixed | ||||||
| FHLB Term Note | 1/31/2019 | None | 10,000,000 | 2.53% fixed | ||||||
| FHLB Term Note | 4/18/2019 | None | 50,000,000 | 2.36% fixed | ||||||
| FHLB Term Note | 5/29/2020 | None | 40,000,000 | 1.62% fixed | ||||||
| FHLB Principal Reducing Credit | 7/24/2023 | None | 210,000 | 1.00% fixed | ||||||
| FHLB Principal Reducing Credit | 12/22/2023 | None | 1,065,000 | 1.25% fixed | ||||||
| FHLB Principal Reducing Credit | 1/15/2026 | None | 7,500,000 | 1.98% fixed | ||||||
| FHLB Principal Reducing Credit | 6/26/2028 | None | 255,000 | 0.25% fixed | ||||||
| FHLB Principal Reducing Credit | 7/17/2028 | None | 61,000 | 0.00% fixed | ||||||
| FHLB Principal Reducing Credit | 8/18/2028 | None | 188,000 | 1.00% fixed | ||||||
| FHLB Principal Reducing Credit | 8/22/2028 | None | 188,000 | 1.00% fixed | ||||||
| FHLB Principal Reducing Credit | 12/20/2028 | None | 379,000 | 0.50% fixed | ||||||
| Trust Preferred Securities | 1/23/2034 | Quarterly by Company beginning 1/23/2009 | 20,620,000 | 5.22% at 12/31/2018 adjustable rate 3 month LIBOR + 2.70% | ||||||
| Trust Preferred Securities | 6/15/2036 | Quarterly by Company beginning 6/15/2011 | 25,774,000 | 4.18% at 12/31/2018 adjustable rate 3 month LIBOR + 1.39% | ||||||
| Trust Preferred Securities | 1/07/2035 | Quarterly by Company beginning 1/7/2010 | 10,310,000 | 4.44% at 12/31/2018 adjustable rate 3 month LIBOR + 2.00% | ||||||
| Total borrowings / weighted average rate as of December 31, 2018 | $ | 409,550,000 | 2.68% | |||||||
| Unamortized discount on acquired borrowings | (2,941,000 | ) | ||||||||
| Total borrowings | $ | 406,609,000 | ||||||||
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| Description – 2017 | Due date | Call Feature | 2017 Amount | Interest Rate | ||||||
| FHLB Term Note | 1/05/2018 | None | $ | 135,000,000 | 1.36% fixed | |||||
| FHLB Term Note | 1/29/2018 | None | 68,000,000 | 1.41% fixed | ||||||
| FHLB Term Note | 4/18/2018 | None | 50,000,000 | 1.25% fixed | ||||||
| FHLB Term Note | 6/26/2018 | None | 20,000,000 | 1.67% fixed | ||||||
| FHLB Term Note | 9/28/2018 | None | 10,000,000 | 1.52% fixed | ||||||
| FHLB Term Note | 12/24/2018 | None | 20,000,000 | 1.57% fixed | ||||||
| FHLB Term Note | 5/29/2020 | None | 40,000,000 | 1.62% fixed | ||||||
| FHLB Principal Reducing Credit | 7/24/2023 | None | 250,000 | 1.00% fixed | ||||||
| FHLB Principal Reducing Credit | 12/22/2023 | None | 1,100,000 | 1.25% fixed | ||||||
| FHLB Principal Reducing Credit | 1/15/2026 | None | 8,500,000 | 1.98% fixed | ||||||
| FHLB Principal Reducing Credit | 6/26/2028 | None | 264,000 | 0.25% fixed | ||||||
| FHLB Principal Reducing Credit | 7/17/2028 | None | 66,000 | 0.00% fixed | ||||||
| FHLB Principal Reducing Credit | 8/18/2028 | None | 195,000 | 1.00% fixed | ||||||
| FHLB Principal Reducing Credit | 8/22/2028 | None | 195,000 | 1.00% fixed | ||||||
| FHLB Principal Reducing Credit | 12/20/2028 | None | 391,000 | 1.50% fixed | ||||||
| Trust Preferred Securities | 1/23/2034 | Quarterly by Company beginning 1/23/2009 | 20,620,000 | 4.08% at 12/31/2017 adjustable rate 3 month LIBOR + 2.70% | ||||||
| Trust Preferred Securities | 6/15/2036 | Quarterly by Company beginning 6/15/2011 | 25,774,000 | 2.98% at 12/31/2017 adjustable rate 3 month LIBOR + 1.39% | ||||||
| Trust Preferred Securities | 1/07/2035 | Quarterly by Company beginning 1/7/2010 | 10,310,000 | 3.36% at 12/31/2017 adjustable rate 3 month LIBOR + 2.00% | ||||||
| Total borrowings / weighted average rate as of December 31, 2017 | $ | 410,665,000 | 1.72% | |||||||
| Unamortized discount on acquired borrowings | (3,122,000 | ) | ||||||||
| Total borrowings | $ | 407,543,000 | ||||||||
All outstanding FHLB borrowings may be accelerated immediately by the FHLB in certain circumstances, including material adverse changes in the condition of the Company or if the Company’s qualifying collateral amounts to less than that required under the terms of the FHLB borrowing agreement.
In the above tables, the $20.6 million in borrowings due on January 23, 2034 relate to borrowings structured as trust preferred capital securities that were issued by First Bancorp Capital Trusts II and III ($10.3 million by each trust), which are unconsolidated subsidiaries of the Company, on December 19, 2003 and qualify as capital for regulatory capital adequacy requirements. These unsecured debt securities became callable by the Company at par on any quarterly interest payment date beginning on January 23, 2009. The interest rate on these debt securities adjusts on a quarterly basis at a rate of three-month LIBOR plus 2.70%.
In the above tables, the $25.8 million in borrowings due on June 15, 2036 relate to borrowings structured as trust preferred capital securities that were issued by First Bancorp Capital Trust IV, an unconsolidated subsidiary of the Company, on April 13, 2006 and qualify as capital for regulatory capital adequacy requirements. These unsecured debt securities became callable by the Company at par on any quarterly interest payment date beginning on June 15, 2011. The interest rate on these debt securities adjusts on a quarterly basis at a rate of three-month LIBOR plus 1.39%.
In the above tables, the $10.3 million in borrowings due on January 7, 2035 relate to borrowings structured as trust preferred capital securities that were issued by Carolina Capital Trust, an unconsolidated subsidiary of the Company. The Company acquired Carolina Bank Holdings, Inc. and its subsidiary, Carolina Capital Trust, on March 3, 2017. These unsecured debt securities qualify as capital for regulatory capital adequacy requirements and became callable by the Company at par on any quarterly interest payment date beginning on January 7, 2010. The interest rate on these debt securities adjusts on a quarterly basis at a rate of three-month LIBOR plus 2.00%.
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At December 31, 2018, the Company had three sources of readily available borrowing capacity – 1) an approximately $1.04 billion line of credit with the FHLB, of which $353 million was outstanding at December 31, 2018 and $354 million was outstanding at December 31, 2017, 2) a $35 million federal funds line of credit with a correspondent bank, of which none was outstanding at December 31, 2018 or 2017, and 3) an approximately $127 million line of credit through the Federal Reserve Bank of Richmond’s (FRB) discount window, of which none was outstanding at December 31, 2018 or 2017.
The Company’s line of credit with the FHLB totaling approximately $1.04 billion can be structured as either short-term or long-term borrowings, depending on the particular funding or liquidity needs and is secured by the Company’s FHLB stock and a blanket lien on most of its real estate loan portfolio. The borrowing capacity was reduced by $190 million and $198 million at December 31, 2018 and 2017, respectively, as a result of the Company pledging letters of credit for public deposits at each of those dates. Accordingly, the Company’s unused FHLB line of credit was $502 million at December 31, 2018 and $384 million at December 31, 2017.
The Company’s correspondent bank relationship allows the Company to purchase up to $35 million in federal funds on an overnight, unsecured basis (federal funds purchased). The Company had no borrowings outstanding under this line at December 31, 2018 or 2017.
The Company has a line of credit with the FRB discount window. This line is secured by a blanket lien on a portion of the Company’s commercial and consumer loan portfolio (excluding real estate). Based on the collateral owned by the Company as of December 31, 2018, the available line of credit was approximately $127 million. The Company had no borrowings outstanding under this line of credit at December 31, 2018 or 2017.
Note 11. Leases
Certain bank premises are leased under operating lease agreements. Generally, operating leases contain renewal options on substantially the same basis as current rental terms. Rent expense charged to operations under all operating lease agreements was $2.3 million in 2018, $2.3 million in 2017, and $1.5 million in 2016.
Future obligations for minimum rentals under noncancelable operating leases at December 31, 2018 are as follows:
| ($ in thousands) | ||||
| Year ending December 31: | ||||
| 2019 | $ | 2,268 | ||
| 2020 | 1,973 | |||
| 2021 | 1,344 | |||
| 2022 | 869 | |||
| 2023 | 768 | |||
| Thereafter | 4,082 | |||
| Total | $ | 11,304 | ||
Note 12. Employee Benefit Plans
401(k) Plan. The Company sponsors a retirement savings plan pursuant to Section 401(k) of the Internal Revenue Code. New employees who have met the age requirement are automatically enrolled in the plan at a 5% deferral rate. The automatic deferral can be modified by the employee at any time. An eligible employee may contribute up to 15% of annual salary to the plan. For 2017 and 2016, the Company contributed an amount equal to the sum of 1) 100% of the employee’s salary contributed up to 3% and 2) 50% of the employee’s salary contributed between 3% and 5%. Effective January 1, 2018, the Company’s matching contribution was increased to 100% of the employee’s salary contribution up to 6%. The Company’s matching contribution expense was $3.6 million, $2.3 million and $1.6 million for the years ended December 31, 2018, 2017 and 2016, respectively. Although discretionary contributions by the Company are permitted by the plan, the Company did not make any such contributions in 2018, 2017 or 2016. The Company’s matching and discretionary contributions are made according to the same investment elections each participant has established for their deferral contributions.
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Pension Plan. Historically, the Company offered a noncontributory defined benefit retirement plan (the “Pension Plan”) that qualified under Section 401(a) of the Internal Revenue Code. The Pension Plan provided for a monthly payment, at normal retirement age of 65, equal to one-twelfth of the sum of (i) 0.75% of Final Average Annual Compensation (five highest consecutive calendar years’ earnings out of the last ten years of employment) multiplied by the employee’s years of service not in excess of 40 years, and (ii) 0.65% of Final Average Annual Compensation in excess of the average social security wage base multiplied by years of service not in excess of 35 years. Benefits were fully vested after five years of service. Effective December 31, 2012, the Company froze the Pension Plan for all participants.
The Company’s contributions to the Pension Plan are based on computations by independent actuarial consultants and are intended to be deductible for income tax purposes. As discussed below, the contributions are invested to provide for benefits under the Pension Plan. The Company did not make any contributions to the Pension Plan in 2018, 2017 or 2016. The Company does not expect to contribute to the Pension Plan in 2019.
The following table reconciles the beginning and ending balances of the Pension Plan’s benefit obligation, as computed by the Company’s independent actuarial consultants, and its plan assets, with the difference between the two amounts representing the funded status of the Pension Plan as of the end of the respective year.
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Change in benefit obligation | ||||||||||||
| Benefit obligation at beginning of year | $ | 38,150 | 36,840 | 36,164 | ||||||||
| Service cost | — | — | — | |||||||||
| Interest cost | 1,312 | 1,449 | 1,502 | |||||||||
| Actuarial (gain) loss | (1,160 | ) | 1,941 | 1,288 | ||||||||
| Benefits paid | (1,948 | ) | (2,080 | ) | (2,114 | ) | ||||||
| Benefit obligation at end of year | 36,354 | 38,150 | 36,840 | |||||||||
| Change in plan assets | ||||||||||||
| Plan assets at beginning of year | 41,306 | 36,950 | 35,489 | |||||||||
| Actual return on plan assets | (188 | ) | 6,436 | 3,575 | ||||||||
| Employer contributions | — | — | — | |||||||||
| Benefits paid | (1,948 | ) | (2,080 | ) | (2,114 | ) | ||||||
| Plan assets at end of year | 39,170 | 41,306 | 36,950 | |||||||||
| Funded status at end of year | $ | 2,816 | 3,156 | 110 | ||||||||
The accumulated benefit obligation related to the Pension Plan was $36,354,000, $38,150,000, and $36,840,000 at December 31, 2018, 2017, and 2016, respectively.
The following table presents information regarding the amounts recognized in the consolidated balance sheets at December 31, 2018 and 2017 as it relates to the Pension Plan, excluding the related deferred tax assets.
| ($ in thousands) | 2018 | 2017 | ||||||
| Other assets | $ | 2,816 | 3,156 | |||||
| Other liabilities | — | — | ||||||
| $ | 2,816 | 3,156 | ||||||
The following table presents information regarding the amounts recognized in accumulated other comprehensive income (“AOCI”) at December 31, 2018 and 2017, as it relates to the Pension Plan.
| ($ in thousands) | 2018 | 2017 | ||||||
| Net gain (loss) | $ | (4,034 | ) | (3,925 | ) | |||
| Prior service cost | — | — | ||||||
| Amount recognized in AOCI before tax effect | (4,034 | ) | (3,925 | ) | ||||
| Tax (expense) benefit | 943 | 1,452 | ||||||
| Net amount recognized as increase (decrease) to AOCI | $ | (3,091 | ) | (2,473 | ) | |||
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The following table reconciles the beginning and ending balances of AOCI at December 31, 2018 and 2017, as it relates to the Pension Plan:
| ($ in thousands) | 2018 | 2017 | ||||||
| Accumulated other comprehensive loss at beginning of fiscal year | $ | (2,909 | ) | (3,692 | ) | |||
| Net gain (loss) arising during period | (143 | ) | 1,686 | |||||
| Amortization of unrecognized actuarial loss | 34 | 244 | ||||||
| Tax (expense) benefit of changes during the year, net | (73 | ) | (711 | ) | ||||
| Accumulated other comprehensive gain (loss) | (3,091 | ) | (2,473 | ) | ||||
| Reclassification from AOCI to Retained Earnings due to statutory tax changes | — | (436 | ) | |||||
| Accumulated other comprehensive gain (loss) at end of fiscal year | $ | (3,091 | ) | (2,909 | ) | |||
The following table reconciles the beginning and ending balances of the prepaid pension cost related to the Pension Plan:
| ($ in thousands) | 2018 | 2017 | ||||||
| Prepaid pension cost as of beginning of fiscal year | $ | 7,082 | 5,965 | |||||
| Net periodic pension income (cost) for fiscal year | (231 | ) | 1,117 | |||||
| Actual employer contributions | — | — | ||||||
| Prepaid pension asset as of end of fiscal year | $ | 6,851 | 7,082 | |||||
Net pension (income) cost for the Pension Plan included the following components for the years ended December 31, 2018, 2017, and 2016:
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Service cost – benefits earned during the period | $ | — | — | — | ||||||||
| Interest cost on projected benefit obligation | 1,312 | 1,449 | 1,502 | |||||||||
| Expected return on plan assets | (1,115 | ) | (2,810 | ) | (2,698 | ) | ||||||
| Net amortization and deferral | 34 | 244 | 238 | |||||||||
| Net periodic pension (income) cost | $ | 231 | (1,117 | ) | (958 | ) | ||||||
The following table is an estimate of the benefits that will be paid in accordance with the Pension Plan during the indicated time periods, assuming the Pension Plan is operated on an ongoing basis.
| ($ in thousands) | Estimated benefit payments | |||
| Year ending December 31, 2019 | $ | 1,735 | ||
| Year ending December 31, 2020 | 1,792 | |||
| Year ending December 31, 2021 | 1,898 | |||
| Year ending December 31, 2022 | 1,957 | |||
| Year ending December 31, 2023 | 2,000 | |||
| Years ending December 31, 2024-2028 | 10,582 | |||
The investment objective of the Company’s Pension Plan is to ensure that there are sufficient assets to fund regular pension benefits payable to employees over the long-term life of the plan. The Plan seeks to allocate plan assets in a manner that is closely duration-matched with the actuarial projected cash flows of the Plan liabilities, consistent with prudent standards for preservation of capital, tolerance of investment risk, and maintenance of liquidity. Assets of the Plan are held by Fidelity Investments (the “Trustee”).
In 2018, the Plan adopted a liability-driven investment (“LDI”) approach to help meet these objectives. The LDI strategy employs a structured fixed-income portfolio designed to reduce volatility in the Plan’s future funding requirements and funding status. This is accomplished by using a blend of high quality corporate and government fixed-income securities, with both intermediate and long-term durations. Generally, the value of these fixed income securities is inversely correlated to changes in market interest rates, which substantially offsets changes in the value of the pension benefit obligation caused by changes in the interest rate used to discount plan liabilities.
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In the fourth quarter 2017, in anticipation of anticipated changes in investment objectives, the Company liquidated all investments and shifted the assets into a money market fund.
The fair values of the Company’s pension plan assets at December 31, 2018, by asset category, were as follows:
| ($ in thousands) | ||||||||||||||||
| Total Fair Value at December 31, 2018 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | |||||||||||||
| Cash and cash equivalents | $ | 267 | 267 | — | — | |||||||||||
| Investment funds | ||||||||||||||||
| Fixed income funds | 38,903 | — | 38,903 | — | ||||||||||||
| Total | $ | 39,170 | 267 | 38,903 | — | |||||||||||
The fair values of the Company’s pension plan assets at December 31, 2017, by asset category, were as follows:
| ($ in thousands) | ||||||||||||||||
| Total Fair Value at December 31, 2017 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | |||||||||||||
| Cash and cash equivalents (money market fund) | $ | 41,306 | — | 41,306 | — | |||||||||||
| Total | $ | 41,306 | — | 41,306 | — | |||||||||||
The following is a description of the valuation methodologies used for assets measured at fair value. There have been no changes in the methodologies used at December 31, 2018 and 2017.
| - | Cash and cash equivalents (money market fund): Valued at net asset value (“NAV”), which can be validated with a sufficient level of observable activity (i.e. purchases and sales at NAV), and therefore, the funds were classified within Level 2 of the fair value hierarchy. |
| - | Fixed income funds consist of commingled funds that primarily include investments in U.S. government securities and corporate bonds. The commingled funds also include an insignificant portion of investments in other asset-based securities, municipal securities, etc. The commingled funds are valued at the NAV for the units in the fund. The NAV, as provided by the Trustee, is used as practical expedient to estimate fair value. The NAV is based on the fair value of the underlying investments held by the fund. |
Supplemental Executive Retirement Plan. Historically, the Company sponsored a Supplemental Executive Retirement Plan (the “SERP”) for the benefit of certain senior management executives of the Company. The purpose of the SERP was to provide additional monthly pension benefits to ensure that each such senior management executive would receive lifetime monthly pension benefits equal to 3% of his or her final average compensation multiplied by his or her years of service (maximum of 20 years) to the Company or its subsidiaries, subject to a maximum of 60% of his or her final average compensation. The amount of a participant’s monthly SERP benefit is reduced by (i) the amount payable under the Company’s qualified Pension Plan (described above), and (ii) 50% of the participant’s primary social security benefit. Final average compensation means the average of the five highest consecutive calendar years of earnings during the last ten years of service prior to termination of employment. The SERP is an unfunded plan. Payments are made from the general assets of the Company. Effective December 31, 2012, the Company froze the SERP to all participants.
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The following table reconciles the beginning and ending balances of the SERP’s benefit obligation, as computed by the Company’s independent actuarial consultants:
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Change in benefit obligation | ||||||||||||
| Projected benefit obligation at beginning of year | $ | 5,970 | 5,910 | 5,778 | ||||||||
| Service cost | 124 | 118 | 106 | |||||||||
| Interest cost | 200 | 227 | 238 | |||||||||
| Actuarial (gain) loss | (102 | ) | 85 | 145 | ||||||||
| Benefits paid | (398 | ) | (370 | ) | (357 | ) | ||||||
| Projected benefit obligation at end of year | 5,794 | 5,970 | 5,910 | |||||||||
| Plan assets | — | — | — | |||||||||
| Funded status at end of year | $ | (5,794 | ) | (5,970 | ) | (5,910 | ) | |||||
The accumulated benefit obligation related to the SERP was $5,794,000, $5,970,000, and $5,910,000 at December 31, 2018, 2017, and 2016, respectively.
The following table presents information regarding the amounts recognized in the consolidated balance sheets at December 31, 2018 and 2017 as it relates to the SERP, excluding the related deferred tax assets.
| ($ in thousands) | 2018 | 2017 | ||||||
| Other assets – prepaid pension asset (liability) | $ | (6,608 | ) | (6,695 | ) | |||
| Other assets (liabilities) | 814 | 725 | ||||||
| $ | (5,794 | ) | (5,970 | ) | ||||
The following table presents information regarding the amounts recognized in AOCI at December 31, 2018 and 2017, as it relates to the SERP:
| ($ in thousands) | 2018 | 2017 | ||||||
| Net gain (loss) | $ | 814 | 725 | |||||
| Prior service cost | — | — | ||||||
| Amount recognized in AOCI before tax effect | 814 | 725 | ||||||
| Tax (expense) benefit | (190 | ) | (268 | ) | ||||
| Net amount recognized as increase (decrease) to AOCI | $ | 624 | 457 | |||||
The following table reconciles the beginning and ending balances of AOCI at December 31, 2018 and 2017, as it relates to the SERP:
| ($ in thousands) | 2018 | 2017 | ||||||
| Accumulated other comprehensive income at beginning of fiscal year | $ | 457 | 533 | |||||
| Net gain (loss) arising during period | 102 | (85 | ) | |||||
| Prior service cost | — | — | ||||||
| Amortization of unrecognized actuarial loss | (13 | ) | (34 | ) | ||||
| Amortization of prior service cost and transition obligation | — | — | ||||||
| Tax benefit (expense) related to changes during the year, net | 78 | 43 | ||||||
| Accumulated other comprehensive income (loss) at end of fiscal year | $ | 624 | 457 | |||||
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The following table reconciles the beginning and ending balances of the prepaid pension cost related to the SERP:
| ($ in thousands) | 2018 | 2017 | ||||||
| Prepaid pension cost (liability) as of beginning of fiscal year | $ | (6,695 | ) | (6,754 | ) | |||
| Net periodic pension cost for fiscal year | (311 | ) | (311 | ) | ||||
| Benefits paid | 398 | 370 | ||||||
| Prepaid pension cost (liability) as of end of fiscal year | $ | (6,608 | ) | (6,695 | ) | |||
Net pension cost for the SERP included the following components for the years ended December 31, 2018, 2017, and 2016:
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Service cost – benefits earned during the period | $ | 124 | 118 | 106 | ||||||||
| Interest cost on projected benefit obligation | 200 | 227 | 238 | |||||||||
| Net amortization and deferral | (13 | ) | (34 | ) | (35 | ) | ||||||
| Net periodic pension cost | $ | 311 | 311 | 309 | ||||||||
The following table is an estimate of the benefits that will be paid in accordance with the SERP during the indicated time periods:
($ in thousands)
| Estimated benefit payments | |||
| Year ending December 31, 2019 | $ | 411 | ||
| Year ending December 31, 2020 | 408 | |||
| Year ending December 31, 2021 | 401 | |||
| Year ending December 31, 2022 | 391 | |||
| Year ending December 31, 2023 | 380 | |||
| Years ending December 31, 2024-2028 | 1,970 | |||
Assumptions used in both Plans
The following assumptions were used in determining the actuarial information for the Pension Plan and the SERP for the years ended December 31, 2018, 2017, and 2016:
| 2018 | 2017 | 2016 | ||||||||||||||||||||||
| Pension Plan | SERP | Pension Plan | SERP | Pension Plan | SERP | |||||||||||||||||||
| Discount rate used to determine net periodic pension cost | 3.46% | 3.46% | 3.97% | 3.97% | 4.17% | 4.17% | ||||||||||||||||||
| Discount rate used to calculate end of year liability disclosures | 4.08% | 3.92% | 3.46% | 3.46% | 3.97% | 3.97% | ||||||||||||||||||
| Expected long-term rate of return on assets | 2.75% | n/a | 7.75% | n/a | 7.75% | n/a | ||||||||||||||||||
| Rate of compensation increase | n/a | n/a | n/a | n/a | n/a | n/a | ||||||||||||||||||
The Company’s discount rate policy is based on a calculation of the Company’s expected pension payments, with those payments discounted using the Citigroup Pension Index yield curve.
For each of the years ended December 31, 2017 and 2016, the Company used an expected long-term rate of return on assets assumption of 7.75%. The Company arrived at this rate based primarily on a third-party investment consulting firm’s historical analysis of investment returns, which indicated that the mix of the Pension Plan’s assets (generally 75% equities and 25% fixed income) could be expected to return approximately 7.75% on a long term basis.
As discussed previously, in 2018, the Company changed investment strategies, which resulted in the expected return on assets being adjusted to 2.75% for the year.
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Note 13. Commitments, Contingencies, and Concentrations of Credit Risk
See Note 11 with respect to future obligations under noncancelable operating leases.
In the normal course of the Company’s business, there are various outstanding commitments and contingent liabilities such as commitments to extend credit that are not reflected in the financial statements. The following table presents the Company’s outstanding loan commitments at December 31, 2018.
| ($ in thousands) | ||||||||||||
| Type of Commitment | Fixed Rate | Variable Rate | Total | |||||||||
| Outstanding closed-end loan commitments | $ | 209,726 | 460,377 | 670,103 | ||||||||
| Unfunded commitments on revolving lines of credit, credit cards and home equity loans | 149,898 | 468,793 | 618,691 | |||||||||
| Total | $ | 359,624 | 929,170 | 1,288,794 | ||||||||
At December 31, 2018 and 2017, the Company had $15.7 million and $15.2 million, respectively, in standby letters of credit outstanding. The Company has no carrying amount for these standby letters of credit at either of those dates. The nature of the standby letters of credit is a stand-alone obligation made on behalf of the Company’s customers to suppliers of the customers to guarantee payments owed to the supplier by the customer. The standby letters of credit are generally for terms for one year, at which time they may be renewed for another year if both parties agree. The payment of the guarantees would generally be triggered by a continued nonpayment of an obligation owed by the customer to the supplier. The maximum potential amount of future payments (undiscounted) the Company could be required to make under the guarantees in the event of nonperformance by the parties to whom credit or financial guarantees have been extended is represented by the contractual amount of the standby letter of credit. In the event that the Company is required to honor a standby letter of credit, a note, already executed with the customer, is triggered which provides repayment terms and any collateral. Over the past two years, the Company has only had to honor a minimal amount of standby letters of credit, which have been or are being repaid by the borrower without any loss to the Company. Management expects any draws under existing commitments to be funded through normal operations.
The Company is not involved in any legal proceedings which, in management’s opinion, could have a material effect on the consolidated financial position of the Company.
The Bank grants primarily commercial and installment loans to customers throughout its market area, which consists of Alamance, Beaufort, Bladen, Brunswick, Buncombe, Cabarrus, Carteret, Chatham, Columbus, Cumberland, Dare, Davidson, Duplin, Forsyth, Guilford, Harnett, Henderson, Iredell, Lee, Madison, McDowell, Mecklenburg, Montgomery, Moore, New Hanover, Onslow, Pitt, Randolph, Richmond, Robeson, Rockingham, Rowan, Scotland, Stanly, Transylvania and Wake Counties in North Carolina, and Chesterfield, Dillon, and Florence Counties in South Carolina. The real estate loan portfolio can be affected by the condition of the local real estate market. The commercial and installment loan portfolios can be affected by local economic conditions.
The Company’s loan portfolio is not concentrated in loans to any single borrower or to a relatively small number of borrowers. Additionally, management is not aware of any concentrations of loans to classes of borrowers or industries that would be similarly affected by economic conditions.
In addition to monitoring potential concentrations of loans to particular borrowers or groups of borrowers, industries and geographic regions, the Company monitors exposure to credit risk that could arise from potential concentrations of lending products and practices such as loans that subject borrowers to substantial payment increases (e.g. principal deferral periods, loans with initial interest-only periods, etc.), and loans with high loan-to-value ratios. Additionally, there are industry practices that could subject the Company to increased credit risk should economic conditions change over the course of a loan’s life. For example, the Bank makes variable rate loans and fixed rate principal-amortizing loans with maturities prior to the loan being fully paid (i.e. balloon payment loans). These loans are underwritten and monitored to manage the associated risks. The Company has determined that there is no concentration of credit risk associated with its lending policies or practices.
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The Company’s investment portfolio consists principally of obligations of government-sponsored enterprises, mortgage-backed securities guaranteed by government-sponsored enterprises, corporate bonds, and general obligation municipal securities. The Company also holds stock with the Federal Reserve Bank and the Federal Home Loan Bank as a requirement for membership in the system. The following are the fair values at December 31, 2018 of securities to any one issuer/guarantor that exceed $5.0 million, with such amounts representing the maximum amount of credit risk that the Company would incur if the issuer did not repay the obligation.
($ in thousands) Issuer | Amortized Cost | Fair Value | ||||||
| Fannie Mae – mortgage-backed securities | $ | 191,839 | 186,735 | |||||
| Ginnie Mae – mortgage-backed securities | 127,358 | 123,593 | ||||||
| Freddie Mac – mortgage-backed securities | 98,608 | 95,285 | ||||||
| Federal Home Loan Bank System - bonds | 70,495 | 70,421 | ||||||
| Small Business Administration securities | 26,878 | 25,977 | ||||||
| Federal Home Loan Bank of Atlanta - common stock | 20,036 | 20,036 | ||||||
| Federal Reserve Bank - common stock | 17,432 | 17,432 | ||||||
| Bank of America corporate bonds | 7,000 | 6,879 | ||||||
| Citigroup, Inc. corporate bonds | 6,028 | 5,921 | ||||||
| Goldman Sachs Group Inc. corporate bond | 5,073 | 4,937 | ||||||
| JP Morgan Chase corporate bond | 5,018 | 4,904 | ||||||
| Federal Farm Credit Bank – bond | 5,000 | 4,921 | ||||||
| Fannie Mae – bond | 5,000 | 4,871 | ||||||
The Company primarily places its deposits and correspondent accounts with the Federal Home Loan Bank of Atlanta, the FRB, and Pacific Coast Bankers Bank (“PCBB”). At December 31, 2018, the Company had deposits in the Federal Home Loan Bank of Atlanta totaling $135.4 million, deposits of $246.2 million in the Federal Reserve Bank, and deposits of $0.2 million in PCBB. None of the deposits held at the Federal Home Loan Bank of Atlanta or the Federal Reserve Bank are FDIC-insured, however the Federal Reserve Bank is a government entity and therefore risk of loss is minimal. The deposits held at PCBB are FDIC-insured up to $250,000.
Note 14. Fair Value of Financial Instruments
Relevant accounting guidance establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The guidance describes three levels of inputs that may be used to measure fair value:
Level 1: Quoted prices (unadjusted) of identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.
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The following table summarizes the Company’s financial instruments that were measured at fair value on a recurring and nonrecurring basis at December 31, 2018.
| ($ in thousands) | ||||||||||||||||
| Description of Financial Instruments | Fair Value at December 31, 2018 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Recurring | ||||||||||||||||
| Securities available for sale: | ||||||||||||||||
| Government-sponsored enterprise securities | $ | 82,662 | — | 82,662 | — | |||||||||||
| Mortgage-backed securities | 385,551 | — | 385,551 | — | ||||||||||||
| Corporate bonds | 33,138 | — | 33,138 | — | ||||||||||||
| Total available for sale securities | $ | 501,351 | — | 501,351 | — | |||||||||||
| Nonrecurring | ||||||||||||||||
| Impaired loans | $ | 13,071 | — | — | 13,071 | |||||||||||
| Foreclosed real estate | 7,440 | — | — | 7,440 | ||||||||||||
The following table summarizes the Company’s financial instruments that were measured at fair value on a recurring and nonrecurring basis at December 31, 2017.
| ($ in thousands) | ||||||||||||||||
| Description of Financial Instruments | Fair Value at December 31, 2017 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Recurring | ||||||||||||||||
| Securities available for sale: | ||||||||||||||||
| Government-sponsored enterprise securities | $ | 13,867 | — | 13,867 | — | |||||||||||
| Mortgage-backed securities | 295,213 | — | 295,213 | — | ||||||||||||
| Corporate bonds | 34,190 | — | 34,190 | — | ||||||||||||
| Total available for sale securities | $ | 343,270 | — | 343,270 | — | |||||||||||
| Nonrecurring | ||||||||||||||||
| Impaired loans | $ | 14,086 | — | — | 14,086 | |||||||||||
| Foreclosed real estate | 12,571 | — | — | 12,571 | ||||||||||||
The following is a description of the valuation methodologies used for instruments measured at fair value.
Securities Available for Sale — When quoted market prices are available in an active market, the securities are classified as Level 1 in the valuation hierarchy. If quoted market prices are not available, but fair values can be estimated by observing quoted prices of securities with similar characteristics, the securities are classified as Level 2 on the valuation hierarchy. Most of the fair values for the Company’s Level 2 securities are determined by our third-party bond accounting provider using matrix pricing. Matrix pricing is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities. For the Company, Level 2 securities include mortgage-backed securities, commercial mortgage-backed obligations, government-sponsored enterprise securities, and corporate bonds. In cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy.
The Company reviews the pricing methodologies utilized by the bond accounting provider to ensure the fair value determination is consistent with the applicable accounting guidance and that the investments are properly classified in the fair value hierarchy. Further, the Company validates the fair values for a sample of securities in the portfolio by comparing the fair values provided by the bond accounting provider to prices from other independent sources for the same or similar securities. The Company analyzes unusual or significant variances and conducts additional research with the portfolio manager, if necessary, and takes appropriate action based on its findings.
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Impaired loans — Fair values for impaired loans in the above table are measured on a non-recurring basis and are based on the underlying collateral values securing the loans, adjusted for estimated selling costs, or the net present value of the cash flows expected to be received for such loans. Collateral may be in the form of real estate or business assets including equipment, inventory and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined using an income or market valuation approach based on an appraisal conducted by an independent, licensed third party appraiser (Level 3). The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable borrower’s financial statements if not considered significant. Likewise, values for inventory and accounts receivable collateral are based on borrower financial statement balances or aging reports on a discounted basis as appropriate (Level 3). Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income.
Foreclosed real estate – Foreclosed real estate, consisting of properties obtained through foreclosure or in satisfaction of loans, is reported at the lower of cost or fair value. Fair value is measured on a non-recurring basis and is based upon independent market prices or current appraisals that are generally prepared using an income or market valuation approach and conducted by an independent, licensed third party appraiser, adjusted for estimated selling costs (Level 3). At the time of foreclosure, any excess of the loan balance over the fair value of the real estate held as collateral is treated as a charge against the allowance for loan losses. For any real estate valuations subsequent to foreclosure, any excess of the real estate recorded value over the fair value of the real estate is treated as a foreclosed real estate write-down on the Consolidated Statements of Income.
For Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of December 31, 2018, the significant unobservable inputs used in the fair value measurements were as follows:
| ($ in thousands) | ||||
|
Description |
Fair Value
at |
Valuation |
Significant
Unobservable |
General Range
|
| Impaired loans | $ 13,071 | Appraised value; PV of expected cash flows | Discounts to reflect current market conditions, ultimate collectability, and estimated costs to sell | 0-10% |
| Foreclosed real estate | 7,440 | Appraised value; List or contract price | Discounts to reflect current market conditions and estimated costs to sell | 0-10% |
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For Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of December 31, 2017, the significant unobservable inputs used in the fair value measurements were as follows:
| ($ in thousands) | ||||
|
Description |
Fair Value
at |
Valuation |
Significant
Unobservable |
General Range
|
| Impaired loans | $ 14,086 | Appraised value; PV of expected cash flows | Discounts to reflect current market conditions, ultimate collectability, and estimated costs to sell | 0-10% |
| Foreclosed real estate | 12,571 | Appraised value; List or contract price | Discounts to reflect current market conditions and estimated costs to sell | 0-10% |
Transfers of assets or liabilities between levels within the fair value hierarchy are recognized when an event or change in circumstances occurs. There were no transfers between Level 1 and Level 2 for assets or liabilities measured on a recurring basis during the years ended December 31, 2018 or 2017.
For the year ended December 31, 2018, the decrease in the fair value of securities available for sale was $10,179,000, and for the year ended December 31, 2017, the increase in the fair value of securities available for sale was $639,000, which is included in other comprehensive income (net of tax benefit of $2,379,000 and tax expense of $234,000, for 2018 and 2017, respectively). Fair value measurement methods at December 31, 2018 and 2017 are consistent with those used in prior reporting periods.
As discussed in Note 1(r), the Company is required to disclose estimated fair values for its financial instruments. Fair value estimates as of December 31, 2018 and 2017 and limitations thereon are set forth below for the Company’s financial instruments. See Note 1(r) for a discussion of fair value methods and assumptions, as well as fair value information for off-balance sheet financial instruments.
| December 31, 2018 | December 31, 2017 | |||||||||||||||||
($ in thousands) | Level in Fair Value Hierarchy | Carrying Amount | Estimated Fair Value | Carrying Amount | Estimated Fair Value | |||||||||||||
| Cash and due from banks, noninterest-bearing | Level 1 | $ | 56,050 | 56,050 | 114,301 | 114,301 | ||||||||||||
| Due from banks, interest-bearing | Level 1 | 406,848 | 406,848 | 375,189 | 375,189 | |||||||||||||
| Securities available for sale | Level 2 | 501,351 | 501,351 | 343,270 | 343,270 | |||||||||||||
| Securities held to maturity | Level 2 | 101,237 | 99,906 | 118,503 | 118,998 | |||||||||||||
| Presold mortgages in process of settlement | Level 1 | 4,279 | 4,279 | 12,459 | 12,459 | |||||||||||||
| Total loans, net of allowance | Level 3 | 4,228,025 | 4,181,139 | 4,019,071 | 4,010,551 | |||||||||||||
| Accrued interest receivable | Level 1 | 16,004 | 16,004 | 14,094 | 14,094 | |||||||||||||
| Bank-owned life insurance | Level 1 | 101,878 | 101,878 | 99,162 | 99,162 | |||||||||||||
| SBA Servicing Asset | Level 3 | 4,419 | 4,617 | 1,987 | 1,987 | |||||||||||||
| Deposits | Level 2 | 4,659,339 | 4,653,522 | 4,406,955 | 4,401,757 | |||||||||||||
| Borrowings | Level 2 | 406,609 | 402,556 | 407,543 | 397,903 | |||||||||||||
| Accrued interest payable | Level 2 | 1,976 | 1,976 | 1,235 | 1,235 | |||||||||||||
Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no highly liquid market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
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Fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial assets or liabilities include net premises and equipment, intangible and other assets such as deferred income taxes, prepaid expense accounts, income taxes currently payable and other various accrued expenses. In addition, the income tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of the estimates.
Note 15. Equity-Based Compensation Plans
The Company recorded total stock-based compensation expense of $1,569,000, $1,095,000 and $714,000 for the years ended December 31, 2018, 2017, and 2016, respectively. Of the $1,569,000 in expense that was recorded in 2018, approximately $352,000 related to the June 1, 2018 director grants discussed below, and is classified as “other operating expenses” in the Consolidated Statements of Income. The remaining $1,217,000 in expense relates to the employee grants discussed below and is recorded as “salaries expense.” Stock based compensation is reflected as an adjustment to cash flows from operating activities on the Company’s Consolidated Statement of Cash Flows. The Company recognized $367,000, $405,000, and $264,000 of income tax benefits related to stock based compensation expense in the income statement for the years ended December 31, 2018, 2017, and 2016, respectively.
At December 31, 2018, the Company had the following equity-based compensation plans: the First Bancorp 2014 Equity Plan and the First Bancorp 2007 Equity Plan. The Company’s shareholders approved each plan. The First Bancorp 2014 Equity Plan became effective upon the approval of shareholders on May 8, 2014. As of December 31, 2018, the First Bancorp 2014 Equity Plan was the only plan that had shares available for future grants, and there were 750,707 shares remaining available for grant.
The First Bancorp 2014 Equity Plan is intended to serve as a means to attract, retain and motivate key employees and directors and to associate the interests of the plans’ participants with those of the Company and its shareholders. The First Bancorp 2014 Equity Plan allows for both grants of stock options and other types of equity-based compensation, including stock appreciation rights, restricted stock, restricted performance stock, unrestricted stock, and performance units.
Recent equity grants have been restricted stock with service vesting conditions only. Compensation expense for these grants is recorded over the requisite service periods. No compensation cost is recognized for grants that do not vest and any previously recognized compensation cost is reversed at forfeiture. The Company issues new shares of common stock when options are exercised.
Certain of the Company’s equity grants contain terms that provide for a graded vesting schedule whereby portions of the award vest in increments over the requisite service period. The Company recognizes compensation expense for awards with graded vesting schedules on a straight-line basis over the requisite service period for each incremental award. Compensation expense is based on the estimated number of stock options and awards that will ultimately vest. Over the past five years, there have only been minimal amounts of forfeitures, and therefore the Company assumes that all awards granted with service conditions only will vest.
As it relates to director equity grants, the Company typically grants shares of common stock to each non-employee director (currently 11 in total) in June of each year. On June 1, 2018, the Company granted 8,393 shares of common stock to non-employee directors (763 shares per director), at a fair market value of $41.93 per share, which was the closing price of the Company’s common stock on that date, which resulted in $352,000 in expense. On June 1, 2017, the Company granted 11,190 shares of common stock to non-employee directors (1,119 shares per director), at a fair market value of $28.59 per share, which was the closing price of the Company’s common stock on that date, which resulted in $320,000 in expense.
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The Company’s senior officers receive their annual bonus earned under the Company’s annual incentive plan in a mix of 50% cash and 50% stock, with the stock being subject to a three year vesting term. In the last three years, a total of 54,529 shares of restricted stock have been granted related to performance in the preceding fiscal years (net of an immaterial amount of forfeitures). Total compensation expense associated with those grants was $1,410,000 and is being recognized over the respective vesting periods. The Company recorded $293,000, $282,000 and $220,000, for the years ended December 31, 2018, 2017 and 2016, respectively.
In the last three years, the Compensation Committee of the Company’s Board of Directors also granted 117,704 shares of stock to various employees of the Company to promote retention. The total value associated with these grants amounted to $3,621,000, and is being recorded as expense over their three year vesting periods. For 2018, 2017, and 2016, total compensation expense related to these grants was $924,000, $491,000, and $366,000, respectively. All grants were issued based on the closing price of the Company’s common stock on the date of the grant.
Based on the vesting schedules of the shares of restricted stock currently outstanding, the Company expects to record $1,218,000 in stock-based compensation expense in 2019.
The following table presents information regarding the activity during 2016, 2017, and 2018 related to the Company’s outstanding restricted stock:
| Long-Term Restricted Stock | ||||||||
| Nonvested at January 1, 2016 | 55,329 | $ | 17.31 | |||||
| Granted during the period | 65,255 | 19.40 | ||||||
| Vested during the period | (28,794 | ) | 17.79 | |||||
| Forfeited or expired during the period | — | — | ||||||
| Nonvested at December 31, 2016 | 91,790 | $ | 18.65 | |||||
| Granted during the period | 48,322 | 31.05 | ||||||
| Vested during the period | (28,514 | ) | 20.05 | |||||
| Forfeited or expired during the period | (8,535 | ) | 18.34 | |||||
| Nonvested at December 31, 2017 | 103,063 | $ | 24.08 | |||||
| Granted during the period | 66,060 | 40.04 | ||||||
| Vested during the period | (35,703 | ) | 22.82 | |||||
| Forfeited or expired during the period | (4,169 | ) | 29.99 | |||||
| Nonvested at December 31, 2018 | 129,251 | $ | 32.39 | |||||
In years prior to 2010, stock options were the primary form of equity grant utilized by the Company. The stock options had a term of ten years. In a change in control (as defined in the plans), unless the awards remain outstanding or substitute equivalent awards are provided, the awards become immediately vested.
At December 31, 2018, there were 9,000 stock options outstanding related to the Company’s two equity-based plans, all with an exercise price of $14.35 and an exercise date of June 1, 2019.
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The following table presents information regarding the activity since January 1, 2016 related to all of the Company’s stock options outstanding:
| Options Outstanding | ||||||||||||||||
| Number of Shares | Weighted- Average Exercise Price | Weighted- Average Contractual Term (years) | Aggregate Intrinsic Value | |||||||||||||
| Balance at January 1, 2016 | 117,408 | $ | 18.12 | |||||||||||||
| Granted | — | — | ||||||||||||||
| Exercised | (23,710 | ) | 15.84 | $ | 81,894 | |||||||||||
| Forfeited | — | — | ||||||||||||||
| Expired | (33,750 | ) | 21.39 | |||||||||||||
| Balance at December 31, 2016 | 59,948 | $ | 17.18 | |||||||||||||
| Granted | — | — | ||||||||||||||
| Exercised | (21,259 | ) | 19.16 | $ | 236,584 | |||||||||||
| Forfeited | — | — | ||||||||||||||
| Expired | — | — | ||||||||||||||
| Balance at December 31, 2017 | 38,689 | $ | 16.09 | |||||||||||||
| Granted | — | — | ||||||||||||||
| Exercised | (29,689 | ) | 16.61 | $ | 659,743 | |||||||||||
| Forfeited | — | — | ||||||||||||||
| Expired | — | — | ||||||||||||||
| Outstanding at December 31, 2018 | 9,000 | $ | 14.53 | 0.42 | $ | 163,038 | ||||||||||
| Exercisable at December 31, 2018 | 9,000 | $ | 14.53 | 0.42 | $ | 163,038 | ||||||||||
In 2018, 2017 and 2016, the Company received $324,000, $287,000 and $375,000, respectively, as a result of stock option exercises.
Note 16. Regulatory Restrictions
The Company is regulated by the Board of Governors of the FRB and is subject to securities registration and public reporting regulations of the Securities and Exchange Commission. The Bank is regulated by the FRB and the North Carolina Commissioner of Banks.
The primary source of funds for the payment of dividends by the Company is dividends received from its subsidiary, the Bank. The Bank, as a North Carolina banking corporation, may declare dividends so long as such dividends do not reduce its capital below its applicable required capital (typically, the level of capital required to be deemed “adequately capitalized.”) As of December 31, 2018, approximately $582,000,000 of the Company’s investment in the Bank is restricted as to transfer to the Company without obtaining prior regulatory approval.
The average reserve balance maintained by the Bank under the requirements of the FRB was approximately $3,553,000 for the year ended December 31, 2018.
The Company and the Bank must comply with regulatory capital requirements established by the FRB. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of the Company’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company’s and Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
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In 2013, the FRB approved final rules implementing the Basel Committee on Banking Supervision capital guidelines, referred to a “Basel III.” The final rules established a new “Common Equity Tier I” ratio; new higher capital ratio requirements, including a capital conservation buffer; narrowed the definitions of capital; imposed new operating restrictions on banking organizations with insufficient capital buffers; and increased the risk weighting of certain assets. The final rules became effective January 1, 2015 for the Company. The capital conservation buffer requirement was phased in beginning January 1, 2016, at 0.625% of risk weighted assets, and will increase each year until fully implemented at 2.5% in January 1, 2019. The capital conservation buffer requirement at December 31, 2018 was 1.875%.
As of December 31, 2018, the capital standards require the Company to maintain minimum ratios of “Common Equity Tier I” capital to total risk-weighted assets, “Tier I” capital to total risk-weighted assets, and total capital to risk-weighted assets of 4.50%, 6.00% and 8.00%, respectively. Common Equity Tier I capital is comprised of common stock and related surplus, plus retained earnings, and is reduced by goodwill and other intangible assets, net of associated deferred tax liabilities. Tier I capital is comprised of Common Equity Tier I capital plus Additional Tier I Capital, which for the Company includes non-cumulative perpetual preferred stock and trust preferred securities. Total capital is comprised of Tier I capital plus certain adjustments, the largest of which is our allowance for loan losses. Risk-weighted assets refer to our on- and off-balance sheet exposures, adjusted for their related risk levels using formulas set forth in FRB and FDIC regulations.
In addition to the risk-based capital requirements described above, the Company and the Bank are subject to a leverage capital requirement, which calls for a minimum ratio of Tier I capital (as defined above) to quarterly average total assets of 3.00% to 5.00%, depending upon the institution’s composite ratings as determined by its regulators. The FRB has not advised the Company of any requirement specifically applicable to it.
In addition to the minimum capital requirements described above, the regulatory framework for prompt corrective action also contains specific capital guidelines applicable to banks for classification as “well capitalized,” which are presented with the minimum ratios, the Company’s ratios and the Bank’s ratios as of December 31, 2018 and 2017 in the following table. Based on the most recent notification from its regulators, the Bank is well capitalized under the framework. There are no conditions or events since that notification that management believes have changed the Company’s classification.
Also see Note 19 for discussion of preferred stock transactions that have affected the Company’s capital ratios.
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| Actual | Fully Phased-In Regulatory Guidelines Minimum | To Be Well Capitalized Under Current Prompt Corrective Action Provisions | ||||||||||||||||||||||
| ($ in thousands) | Amount | Ratio | Amount | Ratio | Amount | Ratio | ||||||||||||||||||
| (must equal or exceed) | (must equal or exceed) | |||||||||||||||||||||||
| As of December 31, 2018 | ||||||||||||||||||||||||
| Common Equity Tier I Capital Ratio | ||||||||||||||||||||||||
| Company | $ | 535,566 | 12.28% | $ | 305,287 | 7.00% | $ | N/A | N/A | |||||||||||||||
| Bank | 586,053 | 13.44% | 305,163 | 7.00% | 283,366 | 6.50% | ||||||||||||||||||
| Total Capital Ratio | ||||||||||||||||||||||||
| Company | 609,428 | 13.97% | 457,930 | 10.50% | N/A | N/A | ||||||||||||||||||
| Bank | 607,717 | 13.94% | 457,745 | 10.50% | 435,948 | 10.00% | ||||||||||||||||||
| Tier I Capital Ratio | ||||||||||||||||||||||||
| Company | 587,764 | 13.48% | 370,705 | 8.50% | N/A | N/A | ||||||||||||||||||
| Bank | 586,053 | 13.44% | 370,555 | 8.50% | 348,758 | 8.00% | ||||||||||||||||||
| Leverage Ratio | ||||||||||||||||||||||||
| Company | 587,764 | 10.47% | 224,014 | 4.00% | N/A | N/A | ||||||||||||||||||
| Bank | 586,053 | 10.45% | 224,406 | 4.00% | 280,508 | 5.00% | ||||||||||||||||||
| As of December 31, 2017 | ||||||||||||||||||||||||
| Common Equity Tier I Capital Ratio | ||||||||||||||||||||||||
| Company | $ | 456,826 | 10.72% | $ | 298,406 | 7.00% | $ | N/A | N/A | |||||||||||||||
| Bank | 507,496 | 11.91% | 298,277 | 7.00% | 276,972 | 6.50% | ||||||||||||||||||
| Total Capital Ratio | ||||||||||||||||||||||||
| Company | 532,907 | 12.50% | 447,609 | 10.50% | N/A | N/A | ||||||||||||||||||
| Bank | 531,612 | 12.48% | 447,416 | 10.50% | 426,111 | 10.00% | ||||||||||||||||||
| Tier I Capital Ratio | ||||||||||||||||||||||||
| Company | 508,791 | 11.94% | 362,350 | 8.50% | N/A | N/A | ||||||||||||||||||
| Bank | 507,496 | 11.91% | 362,194 | 8.50% | 340,889 | 8.00% | ||||||||||||||||||
| Leverage Ratio | ||||||||||||||||||||||||
| Company | 508,791 | 9.58% | 212,536 | 4.00% | N/A | N/A | ||||||||||||||||||
| Bank | 507,496 | 9.57% | 212,224 | 4.00% | 265,281 | 5.00% | ||||||||||||||||||
Note 17. Supplementary Income Statement Information
Components of other noninterest income/expense exceeding 1% of total income for any of the years ended December 31, 2018, 2017, and 2016 are as follows:
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Other service charges, commissions, and fees – debit card interchange income | $ | 10,466 | 7,732 | 6,564 | ||||||||
| Other service charges, commissions, and fees – other interchange income | 4,140 | 3,722 | 3,018 | |||||||||
| Other operating expenses – dues and subscriptions (includes software subscriptions) | 3,431 | 1,889 | 1,604 | |||||||||
| Other operating expenses – credit/debit card processing expense | 3,411 | 2,797 | 2,296 | |||||||||
| Other operating expenses – data processing expense | 3,234 | 2,910 | 2,010 | |||||||||
| Other operating expenses – marketing | 3,065 | 2,549 | 1,999 | |||||||||
| Other operating expenses – telephone and data line expense | 3,024 | 2,470 | 2,311 | |||||||||
| Other operating expenses – stationery and supplies | 2,582 | 2,399 | 2,066 | |||||||||
| Other operating expenses – FDIC insurance expense | 2,333 | 2,350 | 2,009 | |||||||||
| Other operating expenses – outside consultants | 1,820 | 2,511 | 1,700 | |||||||||
| Other operating expenses – repossession and collection | 1,366 | 1,736 | 1,842 | |||||||||
137
Note 18. Condensed Parent Company Information
Condensed financial data for First Bancorp (parent company only) follows:
| CONDENSED BALANCE SHEETS | As of December 31, | |||||||
| ($ in thousands) | 2018 | 2017 | ||||||
| Assets | ||||||||
| Cash on deposit with bank subsidiary | $ | 5,544 | 4,535 | |||||
| Investment in wholly-owned subsidiaries, at equity | 816,648 | 745,669 | ||||||
| Premises and Equipment | 7 | 7 | ||||||
| Other assets | — | — | ||||||
| Total assets | 822,199 | 750,211 | ||||||
| Liabilities and shareholders’ equity | ||||||||
| Trust preferred securities | 53,902 | 53,758 | ||||||
| Other liabilities | 4,067 | 3,474 | ||||||
| Total liabilities | 57,969 | 57,232 | ||||||
| Shareholders’ equity | 764,230 | 692,979 | ||||||
| Total liabilities and shareholders’ equity | $ | 822,199 | 750,211 | |||||
| CONDENSED STATEMENTS OF INCOME | Year Ended December 31, | |||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Dividends from wholly-owned subsidiaries | $ | 15,525 | 52,732 | 9,000 | ||||||||
| Earnings of wholly-owned subsidiaries, net of dividends | 77,050 | (4,793 | ) | 20,517 | ||||||||
| Interest expense | (2,498 | ) | (1,867 | ) | (1,216 | ) | ||||||
| All other income and expenses, net | (788 | ) | (100 | ) | (792 | ) | ||||||
| Net income | 89,289 | 45,972 | 27,509 | |||||||||
| Preferred stock dividends | — | — | (175 | ) | ||||||||
| Net income available to common shareholders | $ | 89,289 | 45,972 | 27,334 | ||||||||
| CONDENSED STATEMENTS OF CASH FLOWS | Year Ended December 31, | |||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Operating Activities: | ||||||||||||
| Net income | $ | 89,289 | 45,972 | 27,509 | ||||||||
| Excess of dividends over earnings of subsidiaries (Equity in undistributed earnings of subsidiaries) | (77,050 | ) | 4,793 | (20,517 | ) | |||||||
| Decrease (increase) in other assets | (13 | ) | 283 | 15 | ||||||||
| Increase (decrease) in other liabilities | 146 | (67 | ) | 130 | ||||||||
| Total – operating activities | 12,372 | 50,981 | 7,137 | |||||||||
| Investing Activities: | ||||||||||||
| Downstream cash investment to subsidiary | — | (9,000 | ) | — | ||||||||
| Note receivable proceeds received | — | 3,054 | — | |||||||||
| Proceeds from sales of investments | — | 174 | — | |||||||||
| Net cash paid in acquisitions | — | (37,664 | ) | — | ||||||||
| Total - investing activities | — | (43,436 | ) | — | ||||||||
| Financing Activities: | ||||||||||||
| Payment of preferred and common cash dividends | (11,281 | ) | (7,596 | ) | (6,632 | ) | ||||||
| Proceeds from issuance of common stock | 324 | 287 | 375 | |||||||||
| Stock withheld for payment of taxes | (406 | ) | (231 | ) | (166 | ) | ||||||
| Total - financing activities | (11,363 | ) | (7,540 | ) | (6,423 | ) | ||||||
| Net increase (decrease) in cash | 1,009 | 5 | 714 | |||||||||
| Cash, beginning of year | 4,535 | 4,530 | 3,816 | |||||||||
| Cash, end of year | $ | 5,544 | 4,535 | 4,530 | ||||||||
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Note 19. Shareholders’ Equity
Stock Issuance
On December 21, 2012, the Company issued 2,656,294 shares of its common stock and 728,706 shares of the Company’s Series C Preferred Stock to certain accredited investors, each at the price of $10.00 per share, pursuant to a private placement transaction. Net proceeds from this sale of common and preferred stock were $33.8 million and were used to strengthen and remove risk from the Company’s balance sheet in anticipation of a planned disposition of certain classified loans and write-down of foreclosed real estate.
On December 22, 2016, the Company and the holder of the Series C Preferred Stock entered into an agreement to convert the preferred stock into common stock. The Company exchanged 728,706 shares of preferred stock for the same number of shares of the Company’s common stock. As a result of the exchange, the Company has no shares of preferred stock currently outstanding.
The Series C Preferred Stock qualified as Tier 1 capital and was Convertible Perpetual Preferred Stock, with dividend rights equal to the Company’s common stock. The Series C Preferred Stock was non-voting, except in limited circumstances.
The Series C Preferred Stock paid a dividend per share equal to that of the Company’s common stock. The Company accrued approximately $175,000 in preferred dividend payments for the Series C Preferred Stock during 2016.
Rabbi Trust Obligation
With the acquisition of Carolina Bank in March 2017, the Company assumed a deferred compensation plan for certain members of Carolina Bank’s board of directors that is fully funded by Company stock, which was valued at $7.7 million on the date of acquisition. Subsequent to the acquisition in 2017, approximately $4.5 million of the deferred compensation has been paid to the plan participants. The balances of the related asset and liability were each $3.2 million at December 31, 2018, both of which are presented as components of shareholders’ equity.
Note 20. Revenue from Contracts with Customers
All of the Company’s revenues that are in the scope of the “Revenue from Contracts with Customers” accounting standard (“ASC 606”) are recognized within noninterest income. The following table presents the Company’s sources of noninterest income for years ended December 31, 2018, 2017, and 2016. Items outside the scope of ASC 606 are noted as such.
| For the Years Ended December 31, | ||||||||||||
| ($ in thousands) | 2018 | 2017 | 2016 | |||||||||
| Service charges on deposit accounts | $ | 12,690 | 11,862 | 10,571 | ||||||||
| Other service charges, commissions, and fees: | ||||||||||||
| Interchange income | 14,606 | 11,454 | 9,582 | |||||||||
| Other fees | 5,339 | 3,156 | 2,331 | |||||||||
| Fees from presold mortgage loans (1) | 2,735 | 5,695 | 2,033 | |||||||||
| Commissions from sales of insurance and financial products: | ||||||||||||
| Insurance income | 6,038 | 3,148 | 1,763 | |||||||||
| Wealth management income | 2,693 | 2,152 | 2,027 | |||||||||
| SBA consulting fees | 4,675 | 4,024 | 3,199 | |||||||||
| SBA loan sale gains (1) | 10,366 | 5,479 | 1,433 | |||||||||
| Bank-owned life insurance income (1) | 2,534 | 2,321 | 2,052 | |||||||||
| Foreclosed property gains (losses), net | (565 | ) | (531 | ) | (625 | ) | ||||||
| FDIC indemnification asset income (expense), net (1) | — | — | (10,255 | ) | ||||||||
| Securities gains (losses), net (1) | — | (235 | ) | 3 | ||||||||
| Gain on branch sale (1) | — | — | 1,466 | |||||||||
| Other gains (losses), net (1) | 723 | 383 | (29 | ) | ||||||||
| Total noninterest income | $ | 61,834 | 48,908 | 25,551 | ||||||||
| (1) Not within the scope of ASC 606. | ||||||||||||
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A description of the Company’s revenue streams accounted for under ASC 606 is detailed below.
Service Charges on Deposit Accounts: The Company earns fees from its deposit customers for transaction-based, account maintenance, and overdraft services. Overdraft fees are recognized at the point in time that the overdraft occurs. Maintenance and activity fees include account maintenance fees and transaction-based fees. Account maintenance fees, which relate primarily to monthly maintenance, are earned over the course of the month, representing the period over which the Company satisfies the performance obligation. Transaction-based fees, which include services such as ATM use fees, stop payment charges, statement rendering, are recognized at the time the transaction is executed as that is the point in time the Company fulfills the customer’s request. Service charges on deposits are withdrawn from the customer’s account balance.
Other service charges, commissions, and fees: The Company earns interchange income on its customers’ debit and credit card usage and earns fees from other services utilized by its customers. Interchange income is primarily comprised of interchange fees earned whenever the Company’s debit and credit cards are processed through card payment networks such as MasterCard. Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction processing services provided to the cardholder. Other service charges include revenue from processing wire transfers, bill pay service, cashier’s checks, ATM surcharge fees, and other services. The Company’s performance obligation for fees, exchange, and other service charges are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payment is typically received immediately or in the following month.
Commissions from the sale of insurance and financial products: The Company earns commissions from the sale of insurance policies and wealth management products.
Insurance income generally consists of commissions from the sale of insurance policies and performance-based commissions from insurance companies. The Company recognizes commission income from the sale of insurance policies when it acts as an agent between the insurance company and the policyholder. The Company’s performance obligation is generally satisfied upon the issuance of the insurance policy. Shortly after the policy is issued, the carrier remits the commission payment to the Company, and the Company recognizes the revenue. Performance-based commissions from insurance companies are recognized at a point in time as policies are sold.
Wealth Management Income primarily consists of commissions received on financial product sales, such as annuities. The Company’s performance obligation is generally satisfied upon the issuance of the financial product. Shortly after the policy is issued, the carrier remits the commission payment to the Company, and the Company recognizes the revenue. The Company also earns some fees from asset management, which is billed quarterly for services rendered in the most recent period, for which the performance obligation has been satisfied.
SBA Consulting fees: The Company earns fees for its consulting services related to the origination of SBA loans. Fees are based on a percentage of the dollar amount of the originated loans and are recorded when the performance obligation has been satisfied.
Foreclosed property gains (losses), net: The Company records a gain or loss from the sale of foreclosed property when control of the property transfers to the buyer, which generally occurs at the time of an executed deed. When the Company finances the sale of foreclosed property to the buyer, the Company assesses whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the foreclosed property asset is derecognized and the gain or loss on sale is recorded upon the transfer of control of the property to the buyer.
The Company has made no significant judgments in applying the revenue guidance prescribed in ASC 606 that affect the determination of the amount and timing of revenue from the above-described contracts with customers.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of First Bancorp
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of First Bancorp and its subsidiaries (the “Company”) as of December 31, 2018 and 2017, the related consolidated statements of income, comprehensive income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2018, and the related notes to the consolidated financial statements (collectively, the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2018, in conformity with accounting principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013, and our report dated March 1, 2019 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Elliott Davis, PLLC
We have served as the Company’s auditor since 2005.
Charlotte, North Carolina
March 1, 2019
141
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of First Bancorp
Opinion on the Internal Control Over Financial Reporting
We have audited First Bancorp and subsidiaries’ (the “Company”) internal control over financial reporting as of December 31, 2018 based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2018 based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets of the Company as of December 31, 2018 and 2017 and the related consolidated statements of income, comprehensive income, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2018, and the related notes to the consolidated financial statements and our report dated March 1, 2019 expressed an unqualified opinion.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting in the accompanying Management’s Report On Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
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Definition and Limitations of Internal Control Over Financial Reporting
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Elliott Davis, PLLC
Charlotte, North Carolina
March 1, 2019
143
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
None.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures, which are our controls and other procedures that are designed to ensure that information required to be disclosed in our periodic reports with the SEC is recorded, processed, summarized and reported within the required time periods. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed is communicated to our management to allow timely decisions regarding required disclosure. Based on the evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures are effective in allowing timely decisions regarding disclosure to be made about material information required to be included in our periodic reports with the SEC.
Management’s Report On Internal Control Over Financial Reporting
Management of First Bancorp and its subsidiaries (the “Company”) is responsible for establishing and maintaining effective internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles.
Under the supervision and with the participation of management, including the principal executive officer and principal financial officer, the Company conducted an evaluation of the effectiveness of internal control over financial reporting based on the framework in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013). Based on Management’s evaluation under the framework in Internal Control – Integrated Framework, management of the Company has concluded the Company maintained effective internal control over financial reporting, as such term is defined in Securities Exchange Act of 1934 Rules 13a-15(f), as of December 31, 2018.
Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting can also be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk.
Management is also responsible for the preparation and fair presentation of the consolidated financial statements and other financial information contained in this report. The accompanying consolidated financial statements were prepared in conformity with U.S. generally accepted accounting principles and include, as necessary, best estimates and judgments by management.
Elliott Davis, PLLC, an independent, registered public accounting firm, has audited the Company’s consolidated financial statements as of and for the year ended December 31, 2018, and audited the Company’s effectiveness of internal control over financial reporting as of December 31, 2018, as stated in their report, which is included in Item 8 hereof.
144
Changes in Internal Controls
There were no changes in our internal control over financial reporting that occurred during, or subsequent to, the fourth quarter of 2018 that were reasonably likely to materially affect our internal control over financial reporting.
Not applicable.
Item 10. Directors, Executive Officers and Corporate Governance
Incorporated herein by reference is the information under the captions “Directors, Nominees and Executive Officers,” “Section 16(a) Beneficial Ownership Reporting Compliance,” “Corporate Governance Policies and Practices” and “Board Committees, Attendance and Compensation” from the Company’s definitive proxy statement to be filed pursuant to Regulation 14A.
Item 11. Executive Compensation
Incorporated herein by reference is the information under the captions “Executive Compensation” and “Board Committees, Attendance and Compensation” from the Company’s definitive proxy statement to be filed pursuant to Regulation 14A.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters
Incorporated herein by reference is the information under the captions “Principal Holders of First Bancorp Voting Securities” and “Directors, Nominees and Executive Officers” from the Company’s definitive proxy statement to be filed pursuant to Regulation 14A.
Additional Information Regarding the Registrant’s Equity Compensation Plans
At December 31, 2018, the Company had two equity-based compensation plans. The Company’s 2014 Equity Plan is the only plan under which new grants of equity-based awards are possible.
The following table presents information as of December 31, 2018 regarding shares of the Company’s stock that may be issued pursuant to the Company’s equity-based compensation plans. At December 31, 2018, the Company had no warrants or stock appreciation rights outstanding under any compensation plans.
| As of December 31, 2018 | ||||||||||||
| (a) | (b) | (c) | ||||||||||
| Plan category | Number of securities to be issued upon exercise of outstanding options, warrants and rights | Weighted-average exercise price of outstanding options, warrants and rights | Number of securities available for future issuance under equity compensation plans (excluding securities reflected in column (a)) | |||||||||
| Equity compensation plans approved by security holders (1) | 9,000 | $ | 14.35 | 750,707 | ||||||||
| Equity compensation plans not approved by security holders | — | — | — | |||||||||
| Total | 9,000 | $ | 14.35 | 750,707 | ||||||||
_________________
(1) Consists of (A) the Company’s 2014 Equity Plan, which is currently in effect; and (B) the Company’s 2007 Equity Plan, each of which was approved by our shareholders.
145
Item 13. Certain Relationships and Related Transactions, and Director Independence
Incorporated herein by reference is the information under the caption “Certain Transactions” and “Corporate Governance Policies and Practices” from the Company’s definitive proxy statement to be filed pursuant to Regulation 14A.
Item 14. Principal Accountant Fees and Services
Incorporated herein by reference is the information under the caption “Audit Committee Report” from the Company’s definitive proxy statement to be filed pursuant to Regulation 14A.
Item 15. Exhibits and Financial Statement Schedules
| (a) | 1. | Financial Statements - See Item 8 and the Cross Reference Index on page 3 for information concerning the Company’s consolidated financial statements and report of independent auditors. |
| 2. | Financial Statement Schedules - not applicable |
| 3. | Exhibits |
The following exhibits are filed with this report or, as noted, are incorporated by reference. Except as noted below the exhibits identified have SEC File No. 000-15572. Management contracts, compensatory plans and arrangements are marked with an asterisk (*).
| 3.a | Articles of Incorporation of the Company and amendments thereto were filed as Exhibits 3.a.i through 3.a.v to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2002, and are incorporated herein by reference. Articles of Amendment to the Articles of Incorporation were filed as Exhibits 3.1 and 3.2 to the Company’s Current Report on Form 8-K filed on January 13, 2009, and are incorporated herein by reference. Articles of Amendment to the Articles of Incorporation were filed as Exhibit 3.1.b to the Company’s Registration Statement on Form S-3D filed on June 29, 2010 (Commission File No. 333-167856), and are incorporated herein by reference. Articles of Amendment to the Articles of Incorporation were filed as Exhibit 3.1 to the Company’s Current Report on Form 8-K filed on September 6, 2011, and are incorporated herein by reference. Articles of Amendment to the Articles of Incorporation were filed as Exhibit 3.1 to the Company’s Current Report on Form 8-K filed on December 26, 2012, and are incorporated herein by reference. |
146
| 3.b | Amended and Restated Bylaws of the Company were filed as Exhibit 3.1 to the Company's Current Report on Form 8-K filed on February 9, 2018, and are incorporated herein by reference. |
| 4.a | Form of Common Stock Certificate was filed as Exhibit 4 to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 1999, and is incorporated herein by reference. |
| 10.b | First Bancorp Senior Management Supplemental Executive Retirement Plan. (*) |
| 10.c | First Bancorp 2007 Equity Plan was filed as Appendix B to the Registrant's Form Def 14A filed on March 27, 2007, and is incorporated herein by reference. (*) |
| 10.d | First Bancorp 2014 Equity Plan was filed as Appendix B to the Registrant’s Form Def 14A filed on April 4, 2014, and is incorporated herein by reference. (*) |
| 10.g | Form of Stock Option and Performance Unit Award Agreement was filed as Exhibit 10 to the Company’s Current Report on Form 8-K filed on June 23, 2008, and is incorporated herein by reference. (*) |
147
| 21 | List of Subsidiaries of Registrant was filed as Exhibit 21 to the Company’s Annual Report on Form 10-K for the year ended December 31, 2017 and is incorporated herein by reference. |
| 23 | Consent of Independent Registered Public Accounting Firm, Elliott Davis, PLLC |
| 31.1 | Chief Executive Officer Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002. |
| 31.2 | Chief Financial Officer Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002. |
| 32.1 | Chief Executive Officer Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| 32.2 | Chief Financial Officer Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| 101 | The following financial information from the Company’s Annual Report on Form 10-K for the year ended December 31, 2018, formatted in eXtensible Business Reporting Language (XBRL): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statements of Shareholders’ Equity, (v) the Consolidated Statements of Cash Flows, and (vi) the Notes to Consolidated Financial Statements. |
| ______________ |
| (b) | Exhibits - see (a)(3) above. |
| (c) | No financial statement schedules are filed herewith. |
Copies of exhibits are available upon written request to: First Bancorp, Elizabeth B. Bostian, Secretary, 300 SW Broad Street, Southern Pines, North Carolina, 28387.
148
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, FIRST BANCORP has duly caused this Annual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Southern Pines, and State of North Carolina, on the 1st day of March 2019.
First Bancorp
By: /s/ Richard H. Moore
Richard H. Moore
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed on behalf of the Company by the following persons and in the capacities and on the dates indicated.
Executive Officers
|
/s/ Richard H. Moore Richard H. Moore Chief Executive Officer March 1, 2019 |
/s/ Eric P. Credle Eric P. Credle Executive Vice President Chief Financial Officer (Principal Accounting Officer) March 1, 2019 |
| Board of Directors | |
|
/s/ James C. Crawford, III James C. Crawford, III Chairman of the Board Director March 1, 2019 |
/s/ Michael G. Mayer Michael G. Mayer Director March 1, 2019 |
|
/s/ Donald H. Allred Donald H. Allred Director March 1, 2019
|
/s/ Richard H. Moore Richard H. Moore Director March 1, 2019 |
|
/s/ Daniel T. Blue, Jr. Daniel T. Blue, Jr. Director March 1, 2019 |
/s/ Thomas F. Phillips Thomas F. Phillips Director March 1, 2019 |
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/s/ Mary Clara Capel Mary Clara Capel Director March 1, 2019 |
/s/ O. Temple Sloan, III O. Temple Sloan, III Director March 1, 2019 |
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/s/ Suzanne DeFerie Suzanne DeFerie Director March 1, 2019 |
/s/ Frederick L. Taylor II Frederick L. Taylor II Director March 1, 2019 |
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/s/ Abby J. Donnelly Abby J. Donnelly Director March 1, 2019 |
/s/ Virginia C. Thomasson Virginia C. Thomasson Director March 1, 2019 |
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/s/ John B. Gould John B. Gould Director March 1, 2019 |
/s/ Dennis A. Wicker Dennis A. Wicker Director March 1, 2019 |
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