Company Quick10K Filing
Quick10K
Codorus Valley Bancorp
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$22.25 9 $210
10-Q 2019-03-31 Quarter: 2019-03-31
10-K 2018-12-31 Annual: 2018-12-31
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
10-Q 2015-09-30 Quarter: 2015-09-30
10-Q 2015-06-30 Quarter: 2015-06-30
10-Q 2015-03-31 Quarter: 2015-03-31
10-K 2014-12-31 Annual: 2014-12-31
10-Q 2014-09-30 Quarter: 2014-09-30
10-Q 2014-06-30 Quarter: 2014-06-30
10-Q 2014-03-31 Quarter: 2014-03-31
10-K 2013-12-31 Annual: 2013-12-31
8-K 2019-07-18 Earnings, Exhibits
8-K 2019-07-09 Other Events, Exhibits
8-K 2019-05-21 Shareholder Vote
8-K 2019-05-02 Other Events, Exhibits
8-K 2019-04-18 Earnings, Exhibits
8-K 2019-04-10 Other Events, Exhibits
8-K 2019-01-29 Officers, Exhibits
8-K 2019-01-17 Earnings, Exhibits
8-K 2019-01-08 Other Events, Exhibits
8-K 2018-10-18 Earnings, Exhibits
8-K 2018-10-09 Other Events, Exhibits
8-K 2018-08-16 Officers, Exhibits
8-K 2018-08-09 Officers, Exhibits
8-K 2018-08-08 Regulation FD, Exhibits
8-K 2018-08-06 Officers, Exhibits
8-K 2018-07-19 Earnings, Exhibits
8-K 2018-07-10 Other Events, Exhibits
8-K 2018-05-15 Shareholder Vote
8-K 2018-04-19 Earnings, Exhibits
8-K 2018-04-10 Other Events, Exhibits
8-K 2018-02-13 Officers
8-K 2018-02-05 Officers
8-K 2018-01-18 Earnings, Exhibits
8-K 2018-01-09 Other Events, Exhibits
LCII LCI Industries 2,260
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PTIE Pain Therapeutics 0
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SVR Syniverse 0
CVLY 2019-03-31
Part I - Financial Information
Item 1. Financial Statements
Note 1&Mdash;Summary of Significant Accounting Policies
Note 2-Securities
Note 3&Mdash;Restricted Investment in Bank Stocks
Note 4&Mdash;Loans
Note 5 - Allowance for Loan Losses
Note 6&Mdash;Deposits
Note 7&Mdash;Short-Term Borrowings and Long-Term Debt
Note 8&Mdash;Leases
Note 9&Mdash;Regulatory Matters
Note 10&Mdash;Shareholders' Equity
Note 11&Mdash;Contingent Liabilities
Note 12&Mdash;Guarantees
Note 13&Mdash;Fair Value of Assets and Liabilities
Note 13&Mdash;Assets and Liabilities Subject To Offsetting
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part Ii&Mdash;Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
EX-31.1 codorus191063_ex31-1.htm
EX-31.2 codorus191063_ex31-2.htm
EX-32 codorus191063_ex32.htm

Codorus Valley Bancorp Earnings 2019-03-31

CVLY 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

10-Q 1 codorus191063_10q.htm FORM 10-Q

 

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

☒ Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 

For the quarterly period ended March 31, 2019 

or

☐ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 

For the transition period from____________to______________

 

Commission file number: 0-15536

 

CODORUS VALLEY BANCORP, INC. 

(Exact name of registrant as specified in its charter)

 

Pennsylvania 23-2428543
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)

 

  105 Leader Heights Road, P.O. Box 2887, York, Pennsylvania 17405
(Address of principal executive offices) (Zip code)

  

717-747-1519

(Registrant’s telephone number, including area code)

 

Not Applicable

(Former name, former address and former fiscal year,

if changed since the last report.)

 

 

 

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

 

Title of each class Trading Symbol Name of each exchange on which
registered
Common Stock, $2.50 par value CVLY NASDAQ Global Market

 

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

 

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

Yes ☒      No ☐

 

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

  Large accelerated filer ☐ Accelerated filer ☒
  Non-accelerated filer ☐ Smaller reporting company ☒
    Emerging growth company ☐

  

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

 

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

 

APPLICABLE ONLY TO CORPORATE ISSUERS

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. On May 1, 2019, 9,455,313 shares of common stock, par value $2.50, were outstanding.

 

 

 

- 1 -

 

 

Codorus Valley Bancorp, Inc.

Form 10-Q Index

     
PART I – FINANCIAL INFORMATION Page #
     
Item 1. Financial statements (unaudited):  
  Consolidated balance sheets 3
  Consolidated statements of income 4
  Consolidated statements of comprehensive income 5
  Consolidated statements of cash flows 6
  Consolidated statements of changes in shareholders’ equity 7
  Notes to consolidated financial statements 8
     
Item 2. Management’s discussion and analysis of financial condition and results of operations 38
     
Item 3. Quantitative and qualitative disclosures about market risk 54
     
Item 4. Controls and procedures 55
     
PART II – OTHER INFORMATION  
     
Item 1. Legal proceedings 55
     
Item 1A. Risk factors 55
     
Item 2. Unregistered sales of equity securities and use of proceeds 56
     
Item 3. Defaults upon senior securities 56
     
Item 4. Mine safety disclosures 56
     
Item 5. Other information 56
     
Item 6. Exhibits 57
     
SIGNATURES 58

  

- 2 -

 

 

PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

Codorus Valley Bancorp, Inc.

Consolidated Balance Sheets

         
   (Unaudited)     
   March 31,   December 31, 
(dollars in thousands, except per share data)  2019   2018 
Assets          
Interest bearing deposits with banks  $73,835   $69,103 
Cash and due from banks   20,450    27,679 
Total cash and cash equivalents   94,285    96,782 
Securities, available-for-sale   149,168    149,593 
Restricted investment in bank stocks, at cost   5,322    5,922 
Loans held for sale   4,778    4,127 
Loans (net of deferred fees of $3,699 - 2019 and $3,722 - 2018)   1,494,962    1,485,680 
Less-allowance for loan losses   (20,081)   (19,144)
Net loans   1,474,881    1,466,536 
Premises and equipment, net   27,137    24,724 
Operating leases right-of-use assets   2,684    0 
Goodwill   2,301    2,301 
Other assets   64,413    57,495 
Total assets  $1,824,969   $1,807,480 
           
Liabilities          
Deposits          
Noninterest bearing  $253,114   $252,777 
Interest bearing   1,249,763    1,242,503 
Total deposits   1,502,877    1,495,280 
Short-term borrowings   6,830    7,022 
Long-term debt   116,779    115,310 
Operating leases liabilities   2,864    0 
Other liabilities   12,812    11,122 
Total liabilities   1,642,162    1,628,734 
           
Shareholders’ equity          
Preferred stock, par value $2.50 per share;          
1,000,000 shares authorized;  0 shares issued and outstanding   0    0 
Common stock, par value $2.50 per share; 30,000,000 shares authorized;          
shares issued: 9,458,193 at March 31, 2019 and 9,451,547 at December 31, 2018; and shares outstanding: 9,457,383 at March 31, 2019 and 9,451,547 at December 31, 2018   23,646    23,629 
Additional paid-in capital   134,775    134,506 
Retained earnings   25,217    22,837 
Accumulated other comprehensive loss   (827)   (2,226)
Treasury stock, at cost; 810 shares at March 31, 2019   (4)   0 
Total shareholders’ equity   182,807    178,746 
Total liabilities and shareholders’ equity  $1,824,969   $1,807,480 

 

See accompanying notes.

 

- 3 -

 

 

Codorus Valley Bancorp, Inc.

Consolidated Statements of Income

Unaudited

         
   Three months ended 
   March 31, 
(dollars in thousands, except per share data)  2019   2018 
Interest income          
Loans, including fees  $19,510   $17,497 
Investment securities:          
Taxable   676    566 
Tax-exempt   209    281 
Dividends   119    123 
Other   362    126 
      Total interest income   20,876    18,593 
           
Interest expense          
Deposits   4,620    2,632 
Federal funds purchased and other short-term borrowings   9    15 
Long-term debt   716    601 
Total interest expense   5,345    3,248 
Net interest income   15,531    15,345 
Provision for loan losses   1,050    200 
      Net interest income after provision for loan losses   14,481    15,145 
           
Noninterest income          
Trust and investment services fees   840    790 
Income from mutual fund, annuity and insurance sales   235    314 
Service charges on deposit accounts   1,158    1,103 
Income from bank owned life insurance   367    241 
Other income   409    326 
Gain on sales of loans held for sale   218    443 
Loss on sales of securities   (4)   0 
Total noninterest income   3,223    3,217 
           
Noninterest expense          
Personnel   7,706    7,812 
Occupancy of premises, net   963    871 
Furniture and equipment   772    814 
Postage, stationery and supplies   184    172 
Professional and legal   109    180 
Marketing   349    408 
FDIC insurance   237    168 
Debit card processing   323    288 
Charitable donations   845    1,509 
Telecommunications   126    237 
External data processing   556    447 
Foreclosed real estate including provision for losses   87    9 
Other   304    342 
Total noninterest expense   12,561    13,257 
Income before income taxes   5,143    5,105 
Provision for income taxes   1,052    1,022 
Net income  $4,091   $4,083 
Net income per share, basic  $0.43   $0.44 
Net income per share, diluted  $0.43   $0.43 

 

See accompanying notes.

 

- 4 -

 

 

Codorus Valley Bancorp, Inc.

Consolidated Statements of Comprehensive Income

Unaudited

         
   Three months ended 
   March 31, 
(dollars in thousands)  2019   2018 
Net income  $4,091   $4,083 
Other comprehensive income (loss):          
Securities available for sale:          
Net unrealized holding gains (losses) arising during the period (net of tax expense (benefit) of $370 and $(475), respectively)   1,396    (1,788)
Reclassification adjustment for losses included in net income (net of tax benefit of $1 and $0, respectively) (a) (b)   3    0 
Net unrealized gains (losses)   1,399    (1,788)
Comprehensive income  $5,490   $2,295 

 

(a)Amounts are included in net gain on sales of securities on the Consolidated Statements of Income within noninterest income.

(b)Income tax amounts are included in the provision for income taxes on the Consolidated Statements of Income.

 

See accompanying notes.

 

- 5 -

 

 

Codorus Valley Bancorp, Inc.

Consolidated Statements of Cash Flows

Unaudited

         
   Three months ended 
   March 31, 
(dollars in thousands)  2019   2018 
Cash flows from operating activities          
Net income  $4,091   $4,083 
Adjustments to reconcile net income to net cash provided by operations:          
Depreciation/amortization   651    591 
Net amortization of premiums on securities   65    120 
Amortization of deferred loan origination fees and costs   (229)   (439)
Amortization of operating lease right of use assets   166    0 
Provision for loan losses   1,050    200 
Increase in bank owned life insurance   (367)   (241)
Originations of mortgage loans held for sale   (7,627)   (7,683)
Originations of SBA loans held for sale   (1,595)   (4,403)
Proceeds from sales of mortgage loans held for sale   7,948    8,561 
Proceeds from sales of SBA loans held for sale   791    3,957 
Gain on sales of mortgage loans held for sale   (165)   (198)
Gain on sales of SBA loans held for sale   (53)   (245)
Gain on disposal of premises and equipment   (11)   (18)
Loss on sales of securities, available-for-sale   4    0 
Stock-based compensation   135    230 
Decrease in interest receivable   370    349 
(Increase) in other assets   (647)   (58)
Increase (decrease) in interest payable   142    (50)
Increase in other liabilities   539    2,062 
Net cash provided by operating activities   5,258    6,818 
Cash flows from investing activities          
Purchases of securities, available-for-sale   (8,448)   (1,519)
Maturities, repayments and calls of securities, available-for-sale   5,561    5,941 
Sales of securities, available-for-sale   6,017    0 
Net decrease in restricted investment in bank stock   600    208 
Net increase in loans made to customers   (9,166)   (23,577)
Purchases of premises and equipment   (1,759)   (502)
Investment in bank owned life insurance   (6,600)   0 
Proceeds from sales of foreclosed real estate   0    97 
Net cash used in investing activities   (13,795)   (19,352)
Cash flows from financing activities          
Net (decrease) increase in demand and savings deposits   (20,669)   19,781 
Net increase (decrease) in time deposits   28,266    (1,735)
Net (decrease) increase in short-term borrowings   (192)   4,220 
Repayment of long-term debt   0    (10,000)
Cash dividends paid to shareholders   (1,512)   (1,381)
Issuance of stock   147    318 
Net cash provided by financing activities   6,040    11,203 
Net (decrease) in cash and cash equivalents   (2,497)   (1,331)
Cash and cash equivalents at beginning of year   96,782    79,524 
Cash and cash equivalents at end of period  $94,285   $78,193 

 

See accompanying notes.

 

- 6 -

 

 

Codorus Valley Bancorp, Inc.

Consolidated Statements of Changes in Shareholders’ Equity

Unaudited

                             
                   Accumulated         
           Additional       Other         
   Preferred   Common   Paid-in   Retained   Comprehensive   Treasury     
(dollars in thousands, except per share data)  Stock   Stock   Capital   Earnings   Loss   Stock   Total 
                             
Balance, January 1, 2019  $0   $23,629   $134,506   $22,837   $(2,226)  $0   $178,746 
Net income                  4,091              4,091 
Other comprehensive income, net of tax                       1,399         1,399 
Cash dividends  ($0.160 per share)                  (1,512)             (1,512)
Adoption of ASC topic 842 (leases)                  (199)             (199)
Stock-based compensation             135                   135 
Forfeiture of restricted stock and withheld shares             2              (4)   (2)
Issuance and reissuance of stock:                                   
6,646 shares under the dividend reinvestment and stock purchase plan        17    132                   149 
                                    
Balance, March 31, 2019  $0   $23,646   $134,775   $25,217   $(827)  $(4)  $182,807 
                                    
Balance, January 1, 2018  $0   $22,265   $120,052   $22,860   $(958)  $0   $164,219 
Net income                  4,083              4,083 
Other comprehensive loss, net of tax                       (1,788)        (1,788)
Cash dividends ($0.148 per share, adjusted)                  (1,381)             (1,381)
Stock-based compensation             230                   230 
Forfeiture of restricted stock                            (63)   (63)
Issuance and reissuance of stock:                                   
5,518 shares under the dividend reinvestment and stock purchase plan        9    76              57    142 
13,736 shares under the stock option plan        34    205                   239 
1,816 shares of stock-based compensation awards        5    (5)                  0 
                                    
Balance, March 31, 2018  $0   $22,313   $120,558   $25,562   $(2,746)  $(6)  $165,681 

 

See accompanying notes.

 

- 7 -

 

 

Note 1—Summary of Significant Accounting Policies

 

Nature of Operations and Basis of Presentation

The accompanying consolidated balance sheet at December 31, 2018 has been derived from audited financial statements, and the unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information, the instructions to Form 10-Q, and FASB Accounting Standards Codification (ASC) 270. Accordingly, the interim financial statements do not include all of the financial information and notes required by generally accepted accounting principles for complete financial statements. In the opinion of management, the interim consolidated financial statements include all adjustments necessary to present fairly the financial condition and results of operations for the reported periods, and all such adjustments are of a normal and recurring nature.

 

Codorus Valley Bancorp, Inc. (“Corporation” or “Codorus Valley”) is a one-bank holding company headquartered in York, Pennsylvania that provides a full range of banking services through its subsidiary, PeoplesBank, A Codorus Valley Company (“PeoplesBank” or “Bank”). PeoplesBank operates three wholly-owned subsidiaries as of March 31, 2019. Codorus Valley Financial Advisors, Inc. d/b/a PeoplesWealth Advisors, which sells nondeposit investment products in Pennsylvania; SYC Settlement Services, Inc., which provides real estate settlement services and Codorus Valley Financial Advisors, Inc. d/b/a PeoplesWealth Advisors, which sells nondeposit investment products in Maryland. In addition, PeoplesBank may periodically create nonbank subsidiaries for the purpose of temporarily holding foreclosed properties pending the liquidation of these properties. PeoplesBank operates under a state charter and is subject to regulation by the Pennsylvania Department of Banking and Securities, and the Federal Deposit Insurance Corporation. The Corporation is subject to regulation by the Federal Reserve Board and the Pennsylvania Department of Banking and Securities.

 

The consolidated financial statements include the accounts of Codorus Valley and its wholly-owned bank subsidiary, PeoplesBank, and a wholly-owned nonbank subsidiary, SYC Realty Company, Inc. SYC Realty was inactive during the period ended March 31, 2019. The accounts of CVB Statutory Trust No. 1 and No. 2 are not included in the consolidated financial statements as discussed in Note 7—Short-Term Borrowings and Long-Term Debt. All significant intercompany account balances and transactions have been eliminated in consolidation. The accounting and reporting policies of Codorus Valley and subsidiaries conform to accounting principles generally accepted in the United States of America and have been followed on a consistent basis.

 

These consolidated statements should be read in conjunction with the notes to the audited consolidated financial statements contained in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2018.

 

The results of operations for the three months ended March 31, 2019 are not necessarily indicative of the results to be expected for the full year.

 

In accordance with FASB ASC 855, the Corporation evaluated the events and transactions that occurred after the balance sheet date of March 31, 2019 and through the date these consolidated financial statements were issued, for items of potential recognition or disclosure.

 

- 8 -

 

 

Loans

Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at their outstanding unpaid principal balances less amounts charged off, net of an allowance for loan losses and any deferred fees or costs. Interest income is accrued on the unpaid principal balance. Generally, loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the yield (interest income) over the contractual life of the loan. The loans receivable portfolio is segmented into commercial and consumer loans. Commercial loans consist of the following industry classes: builder & developer, commercial real estate investor, residential real estate investor, hotel/motel, wholesale & retail, agriculture, manufacturing and all other. Consumer loans consist of the following classes: residential mortgage, home equity and all other.

 

Generally, for all classes of loans receivable, the accrual of interest is discontinued when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about further collectability of principal or interest, even though the loan may be currently performing. A past due loan may remain on accrual status if it is in the process of collection and well secured. When a loan is placed on nonaccrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against the allowance for loan losses. Interest received on nonaccrual loans, including impaired loans, generally is either applied against principal or reported as interest income, according to the Corporation’s judgment as to the collectability of principal. Generally, nonaccrual loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time, generally six months, and the ultimate collectability of the total contractual principal and interest is no longer in doubt. The past due status of all classes of loans receivable is determined based on contractual due dates for loan payments.

 

Allowance for Loan Losses

The allowance for loan losses represents the Corporation’s estimate of losses inherent in the loan portfolio as of the balance sheet date and is recorded as a reduction to loans. The allowance for loan losses is increased by the provision for loan losses, and decreased by charge-offs, net of recoveries. Loans deemed to be uncollectable are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance. All, or part, of the principal balance of loans receivable are charged off to the allowance as soon as it is determined that the repayment of all, or part, of the principal balance is highly unlikely. While the Corporation attributes a portion of the allowance to individual loans and groups of loans that it evaluates and determines to be impaired, the allowance is available to cover all charge-offs that arise from the loan portfolio.

 

The allowance for loan losses is maintained at a level considered by management to be adequate to provide for losses that can be reasonably anticipated. The Corporation performs a quarterly evaluation of the adequacy of the allowance. The allowance is based on the Corporation’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant revision as more information becomes available.

 

- 9 -

 

 

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as impaired, generally nonaccrual loans and troubled debt restructurings. For loans that are classified as impaired, an allowance is established when the collateral value (or discounted cash flows or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers pools of loans by loan class, including commercial loans not considered impaired, as well as smaller balance homogeneous loans such as residential real estate, home equity and other consumer loans. These pools of loans are evaluated for loss exposure based upon historical loss rates for each of these classes of loans, adjusted for qualitative (environmental) risk factors. Historical loss rates are based on a two year rolling average of net charge-offs. Qualitative risk factors that supplement historical losses in the evaluation of loan pools are shown below. Each factor is assigned a value to reflect improving, stable or declining conditions based on the Corporation’s best judgment using relevant information available at the time of the evaluation.

 

Changes in national and local economies and business conditions

Changes in the value of collateral for collateral dependent loans

Changes in the level of concentrations of credit

Changes in the volume and severity of classified and past due loans

Changes in the nature and volume of the portfolio

Changes in collection, charge-off, and recovery procedures

Changes in underwriting standards and loan terms

Changes in the quality of the loan review system

Changes in the experience/ability of lending management and key lending staff

Regulatory and legal regulations that could affect the level of credit losses

Other pertinent environmental factors

 

The unallocated component is maintained to cover uncertainties that could affect the Corporation’s estimate of probable losses. For example, increasing credit risks and uncertainties, not yet reflected in current leading indicators, associated with prolonged low economic growth, or recessionary business conditions for certain industries or the broad economy, or the erosion of real estate values, represent risk factors, the occurrence of any or all of which can adversely affect a borrowers’ ability to service their loans. The unallocated component of the allowance also reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the loan portfolio, including the unpredictable timing and amounts of charge-offs and related historical loss averages, and specific-credit or broader portfolio future cash flow value and collateral valuation uncertainties which could negatively impact unimpaired portfolio loss factors.

 

As disclosed in Note 4—Loans, the Corporation engages in commercial and consumer lending. Loans are made within the Corporation’s primary market area and surrounding areas, and include the purchase of whole loan or participation interests in loans from other financial institutions. Commercial loans, which pose the greatest risk of loss to the Corporation, whether originated or purchased, are generally secured by real estate. Within the broad commercial loan segment, the builder & developer and commercial real estate investor loan classes generally present a higher level of risk than other commercial loan classifications. This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effect of general economic conditions on income producing properties, unstable real estate prices and the dependency upon successful construction and sale or operation of the real estate project. Within the consumer loan segment, junior (i.e., second) liens present a higher risk to the Corporation because economic and housing market conditions can adversely affect the underlying value of the collateral, which could render the Corporation under-secured or unsecured. In addition, economic and housing market conditions can adversely affect the ability of some borrowers to service their debt.

 

A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered in determining impairment include payment status and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. The Corporation determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Loans that are deemed impaired are evaluated for impairment loss based on the net realizable value of the collateral, as applicable. Loans that are not collateral dependent will rely on the present value of expected future cash flows discounted at the loan’s effective interest rate to determine impairment loss. Large groups of smaller balance homogeneous loans such as residential mortgage loans, home equity loans and other consumer loans are collectively evaluated for impairment, unless they are classified as impaired.

 

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An allowance for loan losses is established for an impaired commercial loan if its carrying value exceeds its estimated fair value. For commercial loans secured by real estate, estimated fair values are determined primarily through third-party appraisals of the underlying collateral. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the most recent appraisal and the condition of the property. Appraisals are generally discounted to provide for selling costs and other factors to determine an estimate of the net realizable value of the property. For commercial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable aging or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets. In instances when specific consumer related loans become impaired, they may be partially or fully charged off, which obviates the need for a specific allowance.

 

Loans whose terms are modified are classified as troubled debt restructurings if the Corporation grants borrowers experiencing financial difficulties concessions that it would not otherwise consider. Concessions granted under a troubled debt restructuring may involve an interest rate that is below the market rate given the associated credit risk of the loan or an extension of a loan’s stated maturity date. Loans classified as troubled debt restructurings are designated as impaired. Non-accrual troubled debt restructurings are restored to accrual status if principal and interest payments, under the modified terms, are current for a reasonable period of time, generally six consecutive months after modification and future payments are reasonably assured.

 

Banking regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses and may require the Corporation to recognize additions to the allowance based on their judgments about information available to them at the time of their examination, which may not be currently available to the Corporation. Based on an analysis of the loan portfolio, the Corporation believes that the level of the allowance for loan losses at March 31, 2019 is adequate.

 

Foreclosed Real Estate

Foreclosed real estate, included in other assets, is comprised of property acquired through a foreclosure proceeding or property that is acquired through in-substance foreclosure. Foreclosed real estate is initially recorded at fair value minus estimated costs to sell at the date of foreclosure, establishing a new cost basis. Any difference between the carrying value and the new cost basis is charged against the allowance for loan losses. Appraisals, obtained from an independent third party, are generally used to determine fair value. After foreclosure, management reviews valuations at least quarterly and adjusts the asset to the lower of cost or fair value minus estimated costs to sell through a valuation allowance or a write-down. Costs related to the improvement of foreclosed real estate are generally capitalized until the real estate reaches a saleable condition subject to fair value limitations. Revenue and expense from operations and changes in the valuation allowance are included in noninterest expense. When a foreclosed real estate asset is ultimately sold, any gain or loss on the sale is included in the income statement as a component of noninterest expense. At both March 31, 2019 and December 31, 2018, there was $1,755,000 of foreclosed real estate, which included $18,000 of residential real estate. Included within loans receivable as of March 31, 2019 was a recorded investment of $255,000 of consumer mortgage loans secured by residential real estate properties, for which formal foreclosure proceedings were in process according to local requirements of the applicable jurisdiction.

 

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Mortgage Servicing Rights

The mortgage servicing rights (MSRs) associated with the sold loans are included in other assets on the consolidated balance sheets at an amount equal to the estimated fair value of the contractual rights to service the mortgage loans. The MSR asset is amortized as a reduction to servicing income. The MSR asset is evaluated periodically for impairment and carried at the lower of amortized cost or fair value. A third party calculates fair value by discounting the estimated cash flows from servicing income using a rate consistent with the risk associated with these assets and an expected life commensurate with the expected life of the underlying loans. In the event that the amortized cost of the MSR asset exceeds the fair value of the asset, a valuation allowance would be established through a charge against servicing income. Subsequent fair value evaluations may determine that impairment has been reduced or eliminated, in which case the valuation allowance would be reduced through a credit to earnings. At March 31, 2019, the balance of residential mortgage loans serviced for third parties was $104,621,000 compared to $98,852,000 at December 31, 2018.

 

   Three months ended 
   March 31, 
(dollars in thousands)  2019   2018 
Amortized cost:          
Balance at beginning of period  $925   $672 
Originations of mortgage servicing rights   50    68 
Amortization expense   (36)   (25)
Valuation allowance   (17)   0 
Balance at end of period  $922   $715 

 

Goodwill and Core Deposit Intangible Assets

Goodwill arising from acquisitions is not amortized, but is subject to an annual impairment test. This test consists of a qualitative analysis. If the Corporation determines events or circumstances indicate that it is more likely than not that goodwill is impaired, a quantitative analysis must be completed. Analyses may also be performed between annual tests. Significant judgment is applied when goodwill is assessed for impairment. This judgment includes developing cash flow projections, selecting appropriate discount rates, identifying relevant market comparables, incorporating general economic and market conditions, and selecting an appropriate control premium. The Corporation completes its annual goodwill impairment test on October 1st of each year. Based upon a qualitative analysis of goodwill, the Corporation concluded that the amount of recorded goodwill was not impaired as of October 1, 2018.

 

Core deposit intangibles represent the value assigned to demand, interest checking, money market, and savings accounts acquired as part of an acquisition. The core deposit intangible value represents the future economic benefit of potential cost savings from acquiring core deposits as part of an acquisition compared to the cost of alternative funding sources and the alternative cost to grow a similar core deposit base. The core deposit intangible asset resulting from the merger with Madison Bancorp, Inc. was determined to have a definite life and is being amortized using the sum of the years’ digits method over ten years. All intangible assets must be evaluated for impairment if certain events or changes in circumstances occur. Any impairment write-downs would be recognized as expense on the consolidated statements of income.

 

At March 31, 2019, the Corporation does not have any indicators of potential impairment of either goodwill or core deposit intangibles.

 

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Revenue from Contracts with Customers

Revenue from contracts with customers that are required to be recognized under FASB ASC Topic 606 - Revenue from Contracts with Customers (ASC 606) is measured based on consideration specified in a contract with a customer, and excludes any sales incentives and amounts collected on behalf of third parties. The Corporation recognizes revenue when it satisfies a performance obligation by transferring control over a product or service to a customer.

 

The majority of the Corporation’s revenue-generating transactions are not within the scope of ASC 606, including revenue generated from financial instruments, such as our loans, letters of credit, derivatives and investment securities, as well as revenue related to our mortgage servicing activities, as these activities are subject to other U.S. Generally Accepted Accounting Principles (GAAP) discussed elsewhere within our disclosures. Descriptions of our revenue-generating activities that are within the scope of ASC 606, which are presented in our consolidated statements of income as components of non-interest income are as follows:

 

Trust and investment service fees – The Corporation provides trust, investment management custody and irrevocable life insurance trust services to customers. Such services are rendered in accordance with the underlying contracts for which fees are earned. The Corporation’s performance obligations are generally satisfied, and the related revenue recognized, over the period in which the service is provided. Payment for services rendered is primarily received in the following month.

 

Income from mutual fund, annuity and insurance sales – The Corporation sells mutual funds, annuity and insurance products to its customers. The Corporation’s performance obligation is met upon the signing of the product agreement and, in certain cases, a time component may exist when the customer has the right to rescind the agreement with or without penalty. The Corporation recognizes revenues upon delivery of the product or service unless there is a time component in which case revenues are recognized utilizing the expected value method. Payment for services rendered is primarily received in the following month.

 

Service charges on deposits accounts – These represent general service fees for monthly account maintenance and activity- or transaction based fees and consist of transaction-based revenue, time-based revenue (service period), item-based revenue or some other individual attribute-based revenue. Other service charges include revenue from processing wire transfers, cashier’s checks and other services. Revenue is recognized when the performance obligation is completed which is generally monthly for account maintenance services or when a transaction has been completed. Payment for service charges on deposit accounts is primarily received immediately or in the following month through a direct charge to the customers’ accounts.

 

Other noninterest income – The Corporation evaluated individual components of other noninterest income, such as credit card merchant fees, credit and gift card fees and ATM fees. Debit card income is primarily comprised of interchange fees earned whenever the Corporation’s debit cards are processed through payment networks, such as Visa. Credit and gift card income is realized through a third party provider who issues credits as private label in the Corporation’s name. ATM fees are primarily generated when a non-Corporation cardholder uses a Corporation ATM. The income is primarily comprised as a percentage of interchange fees earned whenever the issuer’s card is processed through card payment networks, such as Visa or Pulse. Merchant services income is realized through a third party service provider who is contracted by the Corporation under a referral arrangement. Such fees represent fees charged to merchants to process their debit card transactions. The Corporation’s performance obligation for these fees are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payment is typically received within a one to three day lag or in the following month.

 

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Per Share Data

All per share computations include the effect of stock dividends distributed. The computation of net income per share is provided in the table below.

 

   Three months ended 
   March 31, 
(in thousands, except per share data)  2019   2018 
Net income  $4,091   $4,083 
           
Weighted average shares outstanding (basic)   9,455    9,359 
Effect of dilutive stock options   66    96 
Weighted average shares outstanding (diluted)   9,521    9,455 
           
Basic earnings per share  $0.43   $0.44 
Diluted earnings per share  $0.43   $0.43 
           
Anti-dilutive stock options excluded from the computation of earnings per share   30    16 

 

Comprehensive Income

Accounting principles generally accepted in the United States require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the shareholders’ equity section of the balance sheet, such items, along with net income, are components of comprehensive income.

 

Cash Flow Information

For purposes of the statements of cash flows, the Corporation considers interest bearing deposits with banks, cash and due from banks, and federal funds sold to be cash and cash equivalents.

 

Supplemental cash flow information is provided in the table below.

 

   Three months ended 
   March 31, 
(dollars in thousands)  2019   2018 
Cash paid during the period for:        
Income taxes  $300   $0 
Interest  $5,203   $3,298 
           
Noncash investing  and financing activities:          
Initial recognition of financing lease right-of-use assets  $1,358   $0 
Initial recognition of financing lease liabilities  $1,480   $0 
Initial recognition of operating lease right-of-use assets  $2,958   $0 
Initial recognition of operating lease liabilities  $3,035   $0 
Increase in other liabilities for purchase of securities settling after quarter end  $1,004   $0 

 

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Recent Accounting Pronouncements

 

Pronouncements Adopted in 2019

 

In February 2016, the FASB issued ASU 2016-02, Leases and in July 2018 issued ASU 2018-10 and ASU 2018-11, Codification Improvements to Topic 842, Leases. From the lessee’s perspective, the new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement for a lessees. From the lessor’s perspective, the new standard requires a lessor to classify leases as either sales-type, finance or operating. A lease will be treated as a sale if it transfers all of the risks and rewards, as well as control of the underlying asset, to the lessee. If risks and rewards are conveyed without the transfer of control, the lease is treated as a financing lease. If the lessor doesn’t convey risks and rewards or control, an operating lease results.  The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. A modified retrospective transition approach is required for lessors for sales-type, direct financing, and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Corporation adopted the new standard effective January 1, 2019, which resulted in an increase in assets to recognize the present value of the lease obligations (right-of-use assets) with a corresponding increase in liabilities as discussed in Note 8-Leases. The adoption did not have an overall material impact on the Corporation’s consolidated financial statements of income.

 

In July 2018, the FASB issued ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. This standard expands the scope of Topic 718, Compensation – Stock Compensation to include share-based payment transactions for acquiring goods and services from nonemployees. This standard requires application of Topic 718 to nonemployee awards for specific guidance on inputs to an option pricing model and the attribution of costs (that is, the period of time over which share-based payment awards vest and the pattern of cost recognition over that period). The amendments in the Update are effective for fiscal years beginning after December 15, 2018, including interim periods within that fiscal year. The Corporation adopted the new standard on January 1, 2019 and the adoption of this standard did not have a material impact on the Corporation’s consolidated financial statements.

 

Pronouncements Not Yet Effective

 

In January 2017, the FASB issued ASU 2017-04, Intangibles – Goodwill and Other (Topic 350). This standard simplifies the test for goodwill impairment by eliminating the requirement to calculate the implied fair value of goodwill, which currently is Step 2 of the goodwill impairment test. Instead, the goodwill impairment test will consist of a single quantitative step comparing the fair value of the reporting unit with its carrying amount. An entity should recognize a goodwill impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. The new standard is effective for annual and any interim goodwill impairment tests in reporting periods beginning after December 15, 2019. Early adoption is permitted. The Corporation intends to adopt this standard effective with its January 1, 2020 goodwill impairment test and the adoption of this standard is not expected to have a material impact on its consolidated financial statements based on current circumstances.

 

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In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326). This standard adds a new Topic 326 which requires companies to measure and record impairment on financial instruments at the time of origination using the expected credit loss (CECL) model. The CECL model calculates impairment based on historical experience, current conditions, and reasonable and supportable forecasts, and reflects the organization’s current estimate of all expected credit losses over the contractual term of its financial assets. The new standard is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018. The Corporation is planning to adopt the standard in the first quarter of 2020 and is continuing its implementation, having established a Corporation-wide implementation team. The team is in the final stages of selecting a vendor partner and a model. We are also finalizing the development and documenting of processes, controls, policies and disclosure requirements in preparation for performing a full parallel run. The Corporation expects the provisions of ASU No. 2016-13 to impact the Corporation’s consolidated financial statements, in particular, the level of the reserve for credit losses. The Corporation is continuing to evaluate the extent of the potential impact and expects that portfolio composition and economic conditions at the time of adoption will be a factor.

 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement. The amendments in this update modify the disclosure requirements in Topic 820, Fair Value Measurement. The following disclosure requirements were removed: the amount of and reasons for transfers between Level 1 and Level 2, the policy for timing of transfers between levels, and the valuation processes for Level 3 fair value measurements. The following disclosure requirements were modified: for investments in certain entities that calculate net asset value, and entity is required to disclose the timing of liquidation of investee’s assets and the amendments clarify that the measurement uncertainty disclosure is to communicate information about the uncertainty in measurement as of the reporting date. The following disclosure requirements were added: the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The update is effective for fiscal years beginning after December 15, 2019. The Corporation is currently evaluating the impact of the adoption of this update on its disclosures.

 

In August 2018, the FASB issued ASU 2018-14, Compensation-Retirement Benefits-Defined Benefit Plans-General (Subtopic 715-20). The amendments in this update remove disclosures that are no longer considered cost beneficial, clarify the specific requirements of disclosures, and add disclosure requirements identified as relevant. The update is effective for fiscal years ending after December 15, 2020. Early adoption is permitted. The Corporation is currently evaluating the impact of the adoption of this update on its disclosures.

 

In August 2018, the FASB issued ASU 2018-15, Intangibles-Goodwill and Other-Internal-Use Software. This standard aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with those incurred to develop or obtain internal-use software. This standard requires application of Subtopic 350-40 to determine which costs to implement the service contract would be capitalized as an asset and which costs would be expensed. The amendments in the Update are effective for the years beginning after December 15, 2019. The Corporation is currently evaluating the impact of the adoption of this guidance on its consolidated financial statements.

 

Note 2-Securities

 

A summary of securities available-for-sale at March 31, 2019 and December 31, 2018 is provided below. The securities available-for-sale portfolio is generally comprised of high quality debt instruments, principally obligations of the United States government or agencies thereof and investments in the obligations of states and municipalities. The majority of municipal bonds in the portfolio are general obligation bonds, which can draw upon multiple sources of revenue, including taxes, for payment. Only a few bonds are revenue bonds, which are dependent upon a single revenue stream for payment, but they are for critical services such as water and sewer. In many cases, municipal debt issues are insured or, in the case of school districts of selected states, backed by specific loss reserves. At March 31, 2019, while 85 percent of the fair value of the municipal bond portfolio was concentrated in the Commonwealth of Pennsylvania, the portfolio was intentionally distributed to limit exposure with the largest issuer at $2.3 million.

 

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   Amortized   Gross Unrealized   Fair 
(dollars in thousands)  Cost   Gains   Losses   Value 
March 31, 2019                
  Debt securities:                    
U.S. Treasury notes  $19,788   $39   $(543)  $19,284 
U.S. agency   16,000    0    (621)   15,379 
U.S. agency mortgage-backed, residential   81,345    421    (499)   81,267 
State and municipal   33,082    181    (25)   33,238 
Total debt securities  $150,215   $641   $(1,688)  $149,168 
December 31, 2018                    
  Debt securities:                    
U.S. Treasury notes  $19,780   $29   $(806)  $19,003 
U.S. agency   16,000    0    (937)   15,063 
U.S. agency mortgage-backed, residential   75,446    102    (993)   74,555 
State and municipal   41,184    85    (297)   40,972 
Total debt securities  $152,410   $216   $(3,033)  $149,593 

 

The amortized cost and estimated fair value of debt securities at March 31, 2019 by contractual maturity are shown below. Actual maturities may differ from contractual maturities if call options on select debt issues are exercised in the future. Mortgage-backed securities are included in the maturity categories based on average expected life.

 

   Available-for-sale 
   Amortized   Fair 
(dollars in thousands)  Cost   Value 
Due in one year or less  $3,439   $3,443 
Due after one year through five years   89,460    88,997 
Due after five years through ten years   46,896    46,221 
Due after ten years   10,420    10,507 
Total debt securities  $150,215   $149,168 

 

Gross realized gains and losses on sales of securities available-for-sale are shown below. Realized gains and losses are computed on the basis of specific identification of the adjusted cost of each security and are shown net as a separate line item in the income statement.

 

   Three months ended 
   March 31, 
(dollars in thousands)  2019   2018 
Realized gains  $3   $0 
Realized losses   (7)   0 
Net losses  $(4)  $0 

 

Investment securities having a carrying value of $123,369,000 and $123,088,000 on March 31, 2019 and December 31, 2018, respectively, were pledged to secure public and trust deposits, repurchase agreements and other short-term borrowings.

 

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The table below shows gross unrealized losses and fair value, aggregated by investment category and length of time, for securities that have been in a continuous unrealized loss position, at March 31, 2019 and December 31, 2018.

 

   Less than 12 months   12 months or more   Total 
   Number of   Fair   Unrealized   Number of   Fair   Unrealized   Number of   Fair   Unrealized 
(dollars in thousands)  Securities   Value   Losses   Securities   Value   Losses   Securities   Value   Losses 
March 31, 2019                                    
Debt securities:                                             
U.S. Treasury notes   0   $0   $0    3   $14,250   $(543)   3   $14,250   $(543)
U.S. agency   0    0    0    4    15,379    (621)   4    15,379    (621)
U.S. agency mortgage-backed, residential   6    6,237    (91)   29    37,665    (408)   35    43,902    (499)
State and municipal   2    1,036    (2)   14    7,266    (23)   16    8,302    (25)
Total temporarily impaired debt securities, available-for-sale   8   $7,273   $(93)   50   $74,560   $(1,595)   58   $81,833   $(1,688)
December 31, 2018                                             
Debt securities:                                             
U.S. Treasury notes   0   $0   $0    3   $13,980   $(806)   3   $13,980   $(806)
U.S. agency   0    0    0    4    15,063    (937)   4    15,063    (937)
U.S. agency mortgage-backed, residential   8    4,878    (14)   39    51,137    (979)   47    56,015    (993)
State and municipal   15    6,707    (11)   36    20,287    (286)   51    26,994    (297)
Total temporarily impaired debt securities, available-for-sale   23   $11,585   $(25)   82   $100,467   $(3,008)   105   $112,052   $(3,033)

 

Securities available-for-sale are analyzed quarterly for possible other-than-temporary impairment. The analysis considers, among other factors: 1) whether the Corporation has the intent to sell its securities prior to market recovery or maturity; 2) whether it is more likely than not that the Corporation will be required to sell its securities prior to market recovery or maturity; 3) default rates/history by security type; 4) third-party securities ratings; 5) third-party guarantees; 6) subordination; 7) payment delinquencies; 8) nature of the issuer; and 9) current financial news.

 

The Corporation believes that unrealized losses at March 31, 2019 were primarily the result of changes in market interest rates and that the Corporation has the ability to hold these investments for a time necessary to recover the amortized cost. Through March 31, 2019 the Corporation has collected all interest and principal on its investment securities as scheduled. The Corporation believes that collection of the contractual principal and interest is probable and, therefore, all impairment is considered to be temporary.

 

Note 3—Restricted Investment in Bank Stocks

 

Restricted stock, which represents required investments in the common stock of correspondent banks, is carried at cost and, as of March 31, 2019 and December 31, 2018, consisted primarily of the common stock of the Federal Home Loan Bank of Pittsburgh (“FHLBP”) and, to a lesser degree, Atlantic Community Bancshares, Inc. (“ACBI”), the parent company of Atlantic Community Bankers Bank (“ACBB”). Under the FHLBP’s Capital Plan member banks, including PeoplesBank, are required to maintain a minimum stock investment. The FHLBP uses a formula to determine the minimum stock investment, which is based on the volume of loans outstanding, unused borrowing capacity and other factors.

 

The FHLBP paid dividends during the periods ended March 31, 2019 and 2018. The FHLBP restricts the repurchase of the excess capital stock of member banks. The amount of excess capital stock that can be repurchased from any member is currently the lesser of five percent of the member’s total capital stock outstanding or its excess capital stock outstanding.

 

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Management evaluates the restricted stock for impairment in accordance with FASB ASC Topic 942. Management’s determination of whether these investments are impaired is based on their assessment of the ultimate recoverability of their cost rather than by recognizing temporary declines in value. Using the FHLBP as an example, the determination of whether a decline affects the ultimate recoverability of cost is influenced by criteria such as: (1) the significance of the decline in net assets of the FHLBP as compared to the capital stock amount for the FHLBP and the length of time this situation has persisted; (2) commitments by the FHLBP to make payments required by law or regulation and the level of such payments in relation to the operating performance of the FHLBP; and (3) the impact of legislative and regulatory changes on institutions and, accordingly, on the customer base of the FHLBP. Management believes no impairment charge was necessary related to the restricted stock during the periods ended March 31, 2019 and 2018.

 

Note 4—Loans

 

Loan Portfolio Composition

 

The table below provides the composition of the loan portfolio at March 31, 2019 and December 31, 2018. The portfolio is comprised of two segments, commercial and consumer loans. The commercial loan segment is disaggregated by industry class which allows the Corporation to monitor risk and performance. Those industries representing the largest dollar investment and most risk are listed separately. The “Other” commercial loans category is comprised of various industries. The consumer related segment is comprised of residential mortgages, home equity and other consumer loans. The Corporation has not engaged in sub-prime residential mortgage originations.

 

   March 31,   % Total   December 31,   % Total 
(dollars in thousands)  2019   Loans   2018   Loans 
Builder & developer  $165,131    11.0   $154,977    10.4 
Commercial real estate investor   209,134    14.0    210,501    14.2 
Residential real estate investor   233,306    15.6    231,118    15.6 
Hotel/Motel   84,521    5.7    77,480    5.2 
Wholesale & retail   112,046    7.5    117,280    7.9 
Manufacturing   78,639    5.3    80,075    5.4 
Agriculture   65,427    4.4    65,540    4.4 
Other   340,624    22.7    342,839    23.0 
  Total commercial related loans   1,288,828    86.2    1,279,810    86.1 
Residential mortgages   86,599    5.8    83,977    5.7 
Home equity   97,363    6.5    98,019    6.6 
Other   22,172    1.5    23,874    1.6 
  Total consumer related loans   206,134    13.8    205,870    13.9 
    Total loans  $1,494,962    100.0   $1,485,680    100.0 

 

Loan Risk Ratings

 

The Corporation’s internal risk rating system follows regulatory guidance as to risk classifications and definitions. Every approved loan is assigned a risk rating. Generally, risk ratings for commercial related loans and residential mortgages held for investment are determined by a formal evaluation of risk factors performed by the Corporation’s underwriting staff. For consumer loans, and commercial loans up to $500,000, the Corporation uses third-party credit scoring software models for risk rating purposes. The loan portfolio is monitored on a continuous basis by loan officers, loan review personnel and senior management. Adjustments of loan risk ratings are generally performed by the Special Asset Committee, which includes senior management. The Committee, which typically meets at least quarterly, makes changes, as appropriate, to risk ratings when it becomes aware of credit events such as payment delinquency, cessation of a business or project, bankruptcy or death of the borrower, or changes in collateral value. In addition to review by the Committee, existing loans are monitored by the primary loan officer and loan review to determine if any changes, upward or downward, in risk ratings are appropriate. Primary loan officers and loan review may downgrade existing loans, except to non-accrual status. Only the Committee, Executive Chairman or President/CEO may upgrade a loan that is classified.

 

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The Corporation uses ten risk ratings to grade commercial loans. The first seven ratings, representing the lowest risk, are combined and given a “pass” rating. A pass rating is a satisfactory credit rating, which applies to a loan that is expected to perform in accordance with the loan agreement and has a low probability of loss. A loan rated “special mention” has a potential weakness which may, if not corrected, weaken the loan or inadequately protect the Corporation’s position at some future date. A loan rated “substandard” is inadequately protected by the current net worth or paying capacity of the borrower, or of the collateral pledged. A “substandard” loan has a well-defined weakness or weaknesses that could jeopardize liquidation of the loan, which exposes the Corporation to loss if the deficiencies are not corrected. When circumstances indicate that collection of the loan is doubtful, the loan is risk-rated “nonaccrual,” the accrual of interest income is discontinued, and any unpaid interest previously credited to income is reversed. The table below does not include the regulatory classification of “doubtful,” nor does it include the regulatory classification of “loss”, because the Corporation promptly charges off loan losses.

 

The table below presents a summary of loan risk ratings by loan class at March 31, 2019 and December 31, 2018.

 

       Special             
(dollars in thousands)  Pass   Mention   Substandard   Nonaccrual   Total 
March 31, 2019                         
Builder & developer  $160,978   $2,904   $272   $977   $165,131 
Commercial real estate investor   201,743    2,893    4,267    231    209,134 
Residential real estate investor   223,167    5,286    226    4,627    233,306 
Hotel/Motel   84,521    0    0    0    84,521 
Wholesale & retail   91,974    8,449    4,447    7,176    112,046 
Manufacturing   74,180    1,636    1,229    1,594    78,639 
Agriculture   61,665    757    2,350    655    65,427 
Other   316,544    1,203    14,072    8,805    340,624 
  Total commercial related loans   1,214,772    23,128    26,863    24,065    1,288,828 
Residential mortgage   85,949    137    82    431    86,599 
Home equity   96,755    11    0    597    97,363 
Other   21,881    0    9    282    22,172 
  Total consumer related loans   204,585    148    91    1,310    206,134 
             Total loans  $1,419,357   $23,276   $26,954   $25,375   $1,494,962 
                          
December 31, 2018                         
Builder & developer  $152,188   $1,604   $411   $774   $154,977 
Commercial real estate investor   204,141    1,808    4,317    235    210,501 
Residential real estate investor   222,227    3,597    235    5,059    231,118 
Hotel/Motel   77,480    0    0    0    77,480 
Wholesale & retail   94,726    9,973    4,952    7,629    117,280 
Manufacturing   72,058    4,991    1,302    1,724    80,075 
Agriculture   61,636    3,244    0    660    65,540 
Other   318,940    7,760    12,689    3,450    342,839 
  Total commercial related loans   1,203,396    32,977    23,906    19,531    1,279,810 
Residential mortgage   83,305    7    82    583    83,977 
Home equity   97,395    13    0    611    98,019 
Other   23,601    1    9    263    23,874 
  Total consumer related loans   204,301    21    91    1,457    205,870 
             Total loans  $1,407,697   $32,998   $23,997   $20,988   $1,485,680 

 

- 20 -

 

 

Impaired Loans

 

The table below presents a summary of impaired loans at March 31, 2019 and December 31, 2018. As of March 31, 2019, generally, impaired loans are all loans risk rated nonaccrual or classified as troubled debt restructuring. As of December 31, 2018, generally, impaired loans are certain loans risk rated substandard and all loans risk rated nonaccrual or classified as troubled debt restructurings. An allowance is established for individual loans that are commercial related where the Corporation has doubt as to full recovery of the outstanding principal balance. Typically, impaired consumer related loans are partially or fully charged-off eliminating the need for a specific allowance. The recorded investment represents outstanding unpaid principal loan balances adjusted for payments collected on a non-cash basis and charge-offs.

 

   With No Allowance   With A Related Allowance   Total 
   Recorded   Unpaid   Recorded   Unpaid   Related   Recorded   Unpaid 
(dollars in thousands)  Investment   Principal   Investment   Principal   Allowance   Investment   Principal 
March 31, 2019                            
Builder & developer  $1,201   $1,345   $0   $0   $0   $1,201   $1,345 
Commercial real estate investor   2,669    2,669    0    0    0    2,669    2,669 
Residential real estate investor   321    324    4,306    4,345    1,218    4,627    4,669 
Hotel/Motel   0    0    0    0    0    0    0 
Wholesale & retail   246    246    7,176    7,455    757    7,422    7,701 
Manufacturing   17    17    1,577    1,634    539    1,594    1,651 
Agriculture   655    655    0    0    0    655    655 
Other commercial   1,957    1,957    6,848    6,854    2,260    8,805    8,811 
Total impaired commercial related loans   7,066    7,213    19,907    20,288    4,774    26,973    27,501 
Residential mortgage   431    455    0    0    0    431    455 
Home equity   597    597    0    0    0    597    597 
Other consumer   282    283    0    0    0    282    283 
Total impaired consumer related loans   1,310    1,335    0    0    0    1,310    1,335 
Total impaired loans  $8,376   $8,548   $19,907   $20,288   $4,774   $28,283   $28,836 
                             
December 31, 2018                                   
Builder & developer  $1,047   $1,318   $138   $138   $51   $1,185   $1,456 
Commercial real estate investor   4,552    4,552    0    0    0    4,552    4,552 
Residential real estate investor   909    909    4,385    4,385    1,218    5,294    5,294 
Hotel/Motel   0    0    0    0    0    0    0 
Wholesale & retail   5,200    5,200    7,629    7,629    757    12,829    12,829 
Manufacturing   1,320    1,320    1,706    1,706    539    3,026    3,026 
Agriculture   660    660    0    0    0    660    660 
Other commercial   13,245    13,245    2,894    2,894    1,114    16,139    16,139 
Total impaired commercial related loans   26,933    27,204    16,752    16,752    3,679    43,685    43,956 
Residential mortgage   665    689    0    0    0    665    689 
Home equity   611    611    0    0    0    611    611 
Other consumer   272    272    0    0    0    272    272 
Total impaired consumer related loans   1,548    1,572    0    0    0    1,548    1,572 
Total impaired loans  $28,481   $28,776   $16,752   $16,752   $3,679   $45,233   $45,528 

 

- 21 -

 

 

The table below presents a summary of average impaired loans and related interest income that was included in net income for the three months ended March 31, 2019 and 2018.

 

   With No Related Allowance   With A Related Allowance   Total 
   Average   Total   Average   Total   Average   Total 
   Recorded   Interest   Recorded   Interest   Recorded   Interest 
(dollars in thousands)  Investment   Income   Investment   Income   Investment   Income 
Three months ended March 31, 2019                        
Builder & developer  $1,124   $14   $69   $0   $1,193   $14 
Commercial real estate investor   3,610    34    0    0    3,610    34 
Residential real estate investor   615    5    4,346    0    4,961    5 
Hotel/Motel   0    0    0    0    0    0 
Wholesale & retail   2,723    3    7,402    0    10,125    3 
Manufacturing   669    5    1,642    0    2,311    5 
Agriculture   658    13    0    0    658    13 
Other commercial   7,601    0    4,870    0    12,471    0 
Total impaired commercial related loans   17,000    74    18,329    0    35,329    74 
Residential mortgage   548    6    0    0    548    6 
Home equity   604    6    0    0    604    6 
Other consumer   277    4    0    0    277    4 
Total impaired consumer related loans   1,429    16    0    0    1,429    16 
Total impaired loans  $18,429   $90   $18,329   $0   $36,758   $90 
                               
Three months ended March 31, 2018                              
Builder & developer  $2,486   $6   $0   $0   $2,486   $6 
Commercial real estate investor   4,552    60    530    0    5,082    60 
Residential real estate investor   1,366    12    0    0    1,366    12 
Hotel/Motel   0    0    0    0    0    0 
Wholesale & retail   7,092    100    0    0    7,092    100 
Manufacturing   3,752    91    0    0    3,752    91 
Agriculture   378    1    0    0    378    1 
Other commercial   1,024    15    0    0    1,024    15 
Total impaired commercial related loans   20,650    285    530    0    21,180    285 
Residential mortgage   261    0    0    0    261    0 
Home equity   454    2    0    0    454    2 
Other consumer   235    5    0    0    235    5 
Total impaired consumer related loans   950    7    0    0    950    7 
Total impaired loans  $21,600   $292   $530   $0   $22,130   $292 

 

- 22 -

 

 

Past Due and Nonaccrual

 

The performance and credit quality of the loan portfolio is also monitored by using an aging schedule that shows the length of time a loan is past due. The table below presents a summary of past due loans, nonaccrual loans and current loans by loan segment and class at March 31, 2019 and December 31, 2018.

                             
           ≥ 90 Days                 
   30-59   60-89   Past Due       Total Past         
   Days   Days   and       Due and       Total 
(dollars in thousands)  Past Due   Past Due   Accruing   Nonaccrual   Nonaccrual   Current   Loans 
March 31, 2019                                   
Builder & developer  $0   $810   $0   $977   $1,787   $163,344   $165,131 
Commercial real estate investor   0    0    1,828    231    2,059    207,075    209,134 
Residential real estate investor   958    891    0    4,627    6,476    226,830    233,306 
Hotel/Motel   0    0    0    0    0    84,521    84,521 
Wholesale & retail   0    0    97    7,176    7,273    104,773    112,046 
Manufacturing   0    666    0    1,594    2,260    76,379    78,639 
Agriculture   12    0    0    655    667    64,760    65,427 
Other   1,052    0    0    8,805    9,857    330,767    340,624 
Total commercial related loans   2,022    2,367    1,925    24,065    30,379    1,258,449    1,288,828 
Residential mortgage   577    42    65    431    1,115    85,484    86,599 
Home equity   318    0    0    597    915    96,448    97,363 
Other   435    27    9    282    753    21,419    22,172 
Total consumer related loans   1,330    69    74    1,310    2,783    203,351    206,134 
Total loans  $3,352   $2,436   $1,999   $25,375   $33,162   $1,461,800   $1,494,962 
                                    
December 31, 2018                                   
Builder & developer  $159   $547   $43   $774   $1,523   $153,454   $154,977 
Commercial real estate investor   0    0    1,828    235    2,063    208,438    210,501 
Residential real estate investor   244    812    0    5,059    6,115    225,003    231,118 
Hotel/Motel   0    0    0    0    0    77,480    77,480 
Wholesale & retail   0    0    97    7,629    7,726    109,554    117,280 
Manufacturing   0    0    0    1,724    1,724    78,351    80,075 
Agriculture   0    0    0    660    660    64,880    65,540 
Other   4,877    0    0    3,450    8,327    334,512    342,839 
Total commercial related loans   5,280    1,359    1,968    19,531    28,138    1,251,672    1,279,810 
Residential mortgage   0    10    66    583    659    83,318    83,977 
Home equity   206    94    0    611    911    97,108    98,019 
Other   263    2    94    263    622    23,252    23,874 
Total consumer related loans   469    106    160    1,457    2,192    203,678    205,870 
Total loans  $5,749   $1,465   $2,128   $20,988   $30,330   $1,455,350   $1,485,680 

 

- 23 -

 

 

Troubled Debt Restructurings

 

Loans classified as troubled debt restructurings (TDRs) are designated impaired and arise when the Corporation grants borrowers experiencing financial difficulties concessions that it would not otherwise consider. Concessions granted with respect to these loans generally involve an extension of the maturity date or a below market interest rate relative to new debt with similar credit risk. Generally, these loans are secured by real estate. If repayment of the loan is determined to be collateral dependent, the loan is evaluated for impairment loss based on the fair value of the collateral. For loans that are not collateral dependent, the present value of expected future cash flows, discounted at the loan’s original effective interest rate, is used to determine any impairment loss. A nonaccrual TDR represents a nonaccrual loan, as previously defined, which includes an economic concession. Nonaccrual TDRs are restored to accrual status if principal and interest payments, under the modified terms, are current for six consecutive payments after the modification and future principal and interest payments are reasonably assured. In contrast, an accruing TDR represents a loan that, at the time of the modification, has a demonstrated history of payments and management believes that future loan payments are reasonably assured under the modified terms.

 

The table below shows loans whose terms have been modified under TDRs during the three months ended March 31, 2019 and 2018. There were no impairment losses recognized on this TDR. There were no defaults during the three months ended March 31, 2019 for TDRs entered into during the previous 12 month period; however one loan is not performing under its modified terms.

                 
   Modifications 
       Pre-Modification   Post-Modification     
   Number   Outstanding   Outstanding   Recorded 
   of   Recorded   Recorded   Investment 
(dollars in thousands)  Contracts   Investments   Investments   at Period End 
Three months ended:                
                 
March 31, 2019   1    63    63    61 
                     
 March 31, 2018                    
None                    

 

- 24 -

 

 

NOTE 5 – Allowance for Loan Losses

 

The table below shows the activity in and the composition of the allowance for loan losses by loan segment and class detail as of and for the three months ended March 31, 2019 and 2018.

 

   Allowance for Loan Losses 
   January 1, 2019                  March 31, 2019 
(dollars in thousands)  Balance   Charge-offs   Recoveries   Provision   Balance 
Builder & developer  $2,835   $0   $0   $132   $2,967 
Commercial real estate investor   2,636    0    0    16    2,652 
Residential real estate investor   3,945    0    3    62    4,010 
Hotel/Motel   732    0    0    67    799 
Wholesale & retail   1,813    0    0    (12)   1,801 
Manufacturing   1,287    0    0    (21)   1,266 
Agriculture   579    0    0    (1)   578 
Other commercial   4,063    (46)   0    1,168    5,185 
Total commercial related loans   17,890    (46)   3    1,411    19,258 
Residential mortgage   126    0    0    6    132 
Home equity   265    (20)   1    (51)   195 
Other consumer   144    (60)   9    106    199 
Total consumer related loans   535    (80)   10    61    526 
Unallocated   719    0    0    (422)   297 
Total  $19,144   $(126)  $13   $1,050   $20,081 

                     
   Allowance for Loan Losses 
   January 1, 2018                   March 31, 2018 
(dollars in thousands)  Balance   Charge-offs   Recoveries   Provision   Balance 
Builder & developer  $3,388   $0   $18   $(429)  $2,977 
Commercial real estate investor   3,013    0    0    (225)   2,788 
Residential real estate investor   2,505    0    3    31    2,539 
Hotel/Motel   637    0    0    122    759 
Wholesale & retail   909    0    1    15    925 
Manufacturing   592    0    0    (50)   542 
Agriculture   431    0    0    18    449 
Other commercial   2,643    0    0    72    2,715 
Total commercial related loans   14,118    0    22    (446)   13,694 
Residential mortgage   108    0    0    6    114 
Home equity   217    0    0    (13)   204 
Other consumer   66    (48)   3    131    152 
Total consumer related loans   391    (48)   3    124    470 
Unallocated   2,180    0    0    522    2,702 
Total  $16,689   $(48)  $25   $200   $16,866 

 

- 25 -

 

 

The table below shows the allowance amount required for loans individually evaluated for impairment and the amount required for loans collectively evaluated for March 31, 2019, December 31, 2018 and March 31, 2018.

                         
   Allowance for Loan Losses   Loans 
   Individually   Collectively       Individually   Collectively     
   Evaluated For   Evaluated For       Evaluated For   Evaluated For     
(dollars in thousands)  Impairment   Impairment   Balance   Impairment   Impairment   Balance 
March 31, 2019                              
Builder & developer  $0   $2,967   $2,967   $1,201   $163,930   $165,131 
Commercial real estate investor   0    2,652    2,652    2,669    206,465    209,134 
Residential real estate investor   1,218    2,792    4,010    4,627    228,679    233,306 
Hotel/Motel   0    799    799    0    84,521    84,521 
Wholesale & retail   757    1,044    1,801    7,422    104,624    112,046 
Manufacturing   539    727    1,266    1,594    77,045    78,639 
Agriculture   0    578    578    655    64,772    65,427 
Other commercial   2,260    2,925    5,185    8,805    331,819    340,624 
Total commercial related   4,774    14,484    19,258    26,973    1,261,855    1,288,828 
Residential mortgage   0    132    132    431    86,168    86,599 
Home equity   0    195    195    597    96,766    97,363 
Other consumer   0    199    199    282    21,890    22,172 
Total consumer related   0    526    526    1,310    204,824    206,134 
Unallocated   0    297    297    0    0    0 
Total  $4,774   $15,307   $20,081   $28,283   $1,466,679   $1,494,962 
                         
December 31, 2018                              
Builder & developer  $51   $2,784   $2,835   $1,185   $153,792   $154,977 
Commercial real estate investor   0    2,636    2,636    4,552    205,949    210,501 
Residential real estate investor   1,218    2,727    3,945    5,294    225,824    231,118 
Hotel/Motel   0    732    732    0    77,480    77,480 
Wholesale & retail   757    1,056    1,813    12,829    104,451    117,280 
Manufacturing   539    748    1,287    3,026    77,049    80,075 
Agriculture   0    579    579    660    64,880    65,540 
Other commercial   1,114    2,949    4,063    16,139    326,700    342,839 
Total commercial related   3,679    14,211    17,890    43,685    1,236,125    1,279,810 
Residential mortgage   0    126    126    665    83,312    83,977 
Home equity   0    265    265    611    97,408    98,019 
Other consumer   0    144    144    272    23,602    23,874 
Total consumer related   0    535    535    1,548    204,322    205,870 
Unallocated   0    719    719    0    0    0 
Total  $3,679   $15,465   $19,144   $45,233   $1,440,447   $1,485,680 
                         
 March 31, 2018                              
Builder & developer  $0   $2,977   $2,977   $2,298   $161,541   $163,839 
Commercial real estate investor   0    2,788    2,788    4,520    226,461    230,981 
Residential real estate investor   0    2,539    2,539    1,524    221,416    222,940 
Hotel/Motel   0    759    759    0    75,074    75,074 
Wholesale & retail   0    925    925    6,273    96,400    102,673 
Manufacturing   0    542    542    3,664    63,802    67,466 
Agriculture   0    449    449    440    62,125    62,565 
Other commercial   0    2,715    2,715    1,129    295,174    296,303 
Total commercial related   0    13,694    13,694    19,848    1,201,993    1,221,841 
Residential mortgage   0    114    114    275    80,551    80,826 
Home equity   0    204    204    457    97,189    97,646 
Other consumer   0    152    152    233    23,211    23,444 
Total consumer related   0    470    470    965    200,951    201,916 
Unallocated   0    2,702    2,702    0    0    0 
Total  $0   $16,866   $16,866   $20,813   $1,402,944   $1,423,757 

 

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Note 6—Deposits

 

The composition of deposits as of March 31, 2019 and December 31, 2018 is shown below. The aggregate amount of demand deposit overdrafts that were reclassified as loans is $101,000 at March 31, 2019, compared to $116,000 at December 31, 2018.

         
   March 31,   December 31, 
(dollars in thousands)  2019   2018 
Noninterest bearing demand  $253,114   $252,777 
Interest bearing demand   159,608    156,858 
Money market   507,376    535,454 
Savings   89,737    85,415 
Time deposits less than $100   281,070    271,794 
Time deposits $100 to $250   156,193    144,866 
Time deposits $250 or more   55,779    48,116 
Total deposits  $1,502,877   $1,495,280 

 

Note 7—Short-Term Borrowings and Long-Term Debt

 

Short-term borrowings consist of securities sold under agreements to repurchase, federal funds purchased and other borrowings. At March 31, 2019, the balance of securities sold under agreements to repurchase was $6,830,000 compared to $7,022,000 at December 31, 2018. At March 31, 2019 and December 31, 2018, there were no other short-term borrowings.

 

The following table presents a summary of long-term debt as of March 31, 2019 and December 31, 2018. PeoplesBank’s long-term debt obligations to the FHLBP are fixed rate instruments. Under terms of a blanket collateral agreement with the FHLBP, the obligations are secured by FHLBP stock and PeoplesBank qualifying loan receivables, principally real estate secured loans.

         
   March 31,   December 31, 
(dollars in thousands)  2019   2018 
PeoplesBank’s obligations:          
  Federal Home Loan Bank of Pittsburgh (FHLBP)          
Due April 2019, 1.64%  $10,000    10,000 
Due June 2019, 1.64%   5,000    5,000 
Due June 2019, 2.10%   5,000    5,000 
Due December 2019, 1.89%   15,000    15,000 
Due March 2020, 1.86%   10,000    10,000 
Due June 2020, 1.87%   15,000    15,000 
Due June 2020, 2.70%   10,000    10,000 
Due June 2021, 2.81%   10,000    10,000 
Due June 2021, 2.14%   15,000    15,000 
Due May 2022, 2.98%   10,000    10,000 
  Total FHLBP   105,000    105,000 
Codorus Valley Bancorp, Inc. obligations:          
  Junior subordinated debt          
Due 2034, 4.63%, floating rate based on 3 month          
   LIBOR plus 2.02%, callable quarterly   3,093    3,093 
Due 2036, 4.33% floating rate based on 3 month          
   LIBOR plus 1.54%, callable quarterly   7,217    7,217 
  Total junior subordinated debt   10,310    10,310 
Lease obligations included in long-term debt:          
Finance lease liabilities   1,469    0 
Total long-term debt  $116,779   $115,310 

 

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At March 31, 2019 and December 31, 2018, municipal deposit letters of credit issued by the FHLBP on behalf of PeoplesBank naming applicable municipalities as beneficiaries were $42,000,000. The letters of credit took the place of securities pledged to the municipalities for their deposits maintained at PeoplesBank.

 

In June 2006, Codorus Valley formed CVB Statutory Trust No. 2, a wholly-owned special purpose subsidiary whose sole purpose was to facilitate a pooled trust preferred debt issuance of $7,217,000. In November 2004, Codorus Valley formed CVB Statutory Trust No. 1 to facilitate a pooled trust preferred debt issuance of $3,093,000. The Corporation owns all of the common stock of these nonbank subsidiaries, and the debentures are the sole assets of the Trusts. The accounts of both Trusts are not consolidated for financial reporting purposes in accordance with FASB ASC 810. For regulatory capital purposes, all of the Corporation’s trust preferred securities qualified as Tier 1 capital for all reported periods. Trust preferred securities are subject to capital limitations under the FDIC’s risk-based capital guidelines. The Corporation used the net proceeds from these offerings to fund its operations.

 

Note 8—Leases

 

A lease is defined as a contract, or part of a contract, that conveys the right to control the use of identified property, plant or equipment for a period of time in exchange for consideration. On January 1, 2019, the Corporation adopted ASU 2016-02 “Leases” (Topic 842) and all subsequent ASUs that modified Topic 842. For the Corporation, Topic 842 affected the accounting treatment for operating lease agreements in which the Corporation is the lessee.

 

Substantially all of the leases in which the Corporation is the lessee are comprised of real estate property, ATM locations, and office space. Substantially all of our leases are classified as operating leases, and therefore, were previously not recognized on the Corporation’s consolidated statements of condition. With the adoption of Topic 842, operating lease agreements are required to be recognized on the consolidated statements of condition as a right-of-use (“ROU”) asset and a corresponding lease liability. The Corporation has two finance leases for two financial centers.

 

Leases with an initial term of 12 months or less are not recorded on the consolidated statement of condition. The leases have remaining lease terms of 1 year to 25 years, some of which include options to extend. Upon opening a new financial center, we typically install brand-specific leasehold improvements which are depreciated over the shorter of the useful life or length of the lease. To the extent that the initial lease term of the related lease is less than the useful life of the leasehold improvements and, taking into consideration the dollar amount of the improvements, we conclude that it is reasonably certain that a renewal option will be exercised, the renewal period is included in the lease term, and the related payments are reflected in the ROU asset and lease liability. Regarding the discount rate, Topic 842 requires the use of the rate implicit in the lease whenever this rate is readily determinable. As this rate is rarely determinable, the Corporation utilizes its incremental borrowing rate at lease inception, on an amortizing and collateralized basis, over a similar term. For operating leases existing prior to January 1, 2019, the rate for the remaining lease term as of January 1, 2019 was used. For the Corporation’s financing leases, the Corporation utilized its incremental borrowing rate at lease inception.

 

All of our leases include fixed rental payments. We commonly enter into leases under which the lease payments increase at pre-determined dates based on the change in the consumer price index. While the majority of our leases are gross leases, we also have a number of leases in which we make separate payments to the lessor based on the lessor’s property and casualty insurance cost and the property taxes assessed on the property, as well as a portion of the common area maintenance associated with the property. We have elected the practical expedient not to separate lease and nonlease components for all of our building leases.

 

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The components of lease expense were as follows:

 

   Three Months Ended 
(dollars in thousands)  March 31, 2019 
Operating lease cost  $188 
      
Finance lease cost:     
Amortization of right-of-use assets  $17 
Interest on lease liability   13 
Total finance lease cost  $30 
Total lease cost  $218 

 

Supplemental cash flow information related to leases was as follows:

 

   Three Months Ended 
   March 31, 2019 
Operating cash flows from operating leases  $193 
Operating cash flows from financing leases   13 
Financing cash flows from financing leases   11 
Right-of-use assets obtained in exchange for lease obligations:     
Operating leases   0 
Finance leases   0 

 

Amounts recognized as right-of-use assets related to finance leases are included in fixed assets in the accompanying statement of financial position, while related lease liabilities are included in long-term debt. Supplemental balance sheet information related to leases was as follows:

 

   March 31, 
   2019 
Assets:    
Operating leases right-of-use assets  $2,684 
Finance leases assets   1,294 
Total lease assets  $3,978 
      
Liabilities:     
Operating  $2,864 
Financing   1,469 
Total lease liabilities  $4,333 
      
Weighted Average Remaining Lease Term (years)     
Operating leases   5.0 
Finance leases   23.3 
      
Weighted Average Discount Rate     
Operating leases   2.97%
Finance leases   3.63%

 

- 29 -

 

 

Future minimum payments for financing leases and operating leases with initial terms of one year or more as of March 31, 2019 were as follows:

 

Year Ending December 31,  Operating Leases   Finance Leases 
2019  $573   $71 
2020   643    99 
2021   572    100 
2022   425    100 
2023   382    100 
Thereafter   512    1,767 
Total lease payments   3,107    2,237 
Less imputed interest   (243)   (768)
Total  $2,864   $1,469 

 

Note 9—Regulatory Matters

 

The Corporation and PeoplesBank are subject to various regulatory capital requirements. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if imposed, could have a material adverse effect on the Corporation’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation and PeoplesBank must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by the regulators.

 

On July 2, 2013, the Board of Governors of the Federal Reserve System finalized its rule implementing the Basel III regulatory capital framework, which the FDIC adopted on July 9, 2013. Under the rule, minimum requirements increased both the quantity and quality of capital held by banking organizations. Consistent with the Basel III framework, the rule included a new minimum ratio of common equity Tier 1 capital to risk-weighted assets of 4.5 percent, and a common equity Tier 1 conservation buffer of 2.5 percent of risk-weighted assets, that applies to all supervised financial institutions, which is to be phased in over a four year period beginning January 1, 2016, with the full 2.5 percent required as of January 1, 2019. The rule also raised the minimum ratio of Tier 1 capital to risk-weighted assets from 4 percent to 6 percent, and includes a minimum leverage ratio of 4 percent for all banking organizations. The new rule also increased the risk weights for past-due loans, certain commercial real estate loans, and some equity exposures, and makes selected other changes in risk weights and credit conversion factors. The rule for smaller, less complex institutions, including the Corporation, took effect January 1, 2015.

 

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As of March 31, 2019, the Corporation and PeoplesBank met the minimum requirements of the Basel III framework, and PeoplesBank’s capital ratios exceeded the amount to be considered “well capitalized” as defined in the regulations. The table below provides a comparison of the Corporation’s and PeoplesBank’s risk-based capital ratios and leverage ratios to the minimum regulatory requirement for the periods indicated.

 

           Minimum for Basel III   Well Capitalized 
   Actual   Capital Adequacy (1)   Minimum (2) 
(dollars in thousands)  Amount   Ratio   Amount   Ratio   Amount   Ratio 
Codorus Valley Bancorp, Inc. (consolidated)                          
at March 31, 2019                              
Capital ratios:                              
Common equity Tier 1  $180,990    12.16%  $104,158    7.000%   n/a    n/a 
Tier 1 risk based   190,990    12.84    126,477    8.500    n/a    n/a 
Total risk based   209,608    14.09    156,236    10.500    n/a    n/a 
Leverage   190,990    10.58    72,211    4.00    n/a    n/a 
                               
at December 31, 2018                              
Capital ratios:                              
Common equity Tier 1  $178,656    12.15%  $93,708    6.375%   n/a    n/a 
Tier 1 risk based   188,656    12.83    115,757    7.875    n/a    n/a 
Total risk based   207,040    14.08    145,155    9.875    n/a    n/a 
Leverage   188,656    10.46    72,119    4.00    n/a    n/a 
                               
PeoplesBank, A Codorus Valley Company                          
at March 31, 2019                              
Capital ratios:                              
Common equity Tier 1  $187,177    12.61%  $103,913    7.000%  $96,491    6.50%
Tier 1 risk based   187,177    12.61    126,180    8.500    118,758    8.00 
Total risk based   205,752    13.86    155,869    10.500    148,447    10.00 
Leverage   187,177    10.39    72,071    4.00    90,089    5.00 
                               
at December 31, 2018                              
Capital ratios:                              
Common equity Tier 1  $184,420    12.58%  $93,466    6.375%  $95,298    6.50%
Tier 1 risk based   184,420    12.58    115,457    7.875    117,290    8.00 
Total risk based   202,757    13.83    144,780    9.875    146,613    10.00 
Leverage   184,420    10.25    71,968    4.00    89,960    5.00 

 

(1) Minimum Basel III capital adequacy requirements in order to avoid limitations on distributions, including dividend payments, and certain discretionary bonus payments to executive officers. Minimum amounts and ratios as of March 31, 2019 include the full phase in of the capital conservation buffer of 2.5 percent required by the Basel III framework. At December 31, 2018, the minimum amounts and ratios included the third year phase in of the capital conservation buffer of 1.875 percent required by the Basel III framework. The conservation buffer is to be phased in over a four year period beginning January 1, 2016, with the full 2.5 percent required as of January 1, 2019.

 

(2) To be “well capitalized” under the prompt corrective action provisions in the Basel III framework. “Well capitalized” applies to PeoplesBank only.

 

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Note 10—Shareholders’ Equity

 

Stock Dividend

 

Periodically, the Corporation distributes stock dividends on its common stock. The Corporation distributed 5 percent stock dividends on December 11, 2018 and December 12, 2017, which resulted in the issuance of 447,092 and 422,439 additional shares, respectively.

 

Note 11—Contingent Liabilities

 

There are no legal proceedings pending against Codorus Valley Bancorp, Inc. or any of its subsidiaries which are expected to have a material impact upon the consolidated financial position and/or operating results of the Corporation, other than routine litigation incidental to the business. Management is not aware of any proceedings known or contemplated by government authorities.

 

Note 12—Guarantees

 

Codorus Valley does not issue any guarantees that would require liability recognition or disclosure, other than its standby letters of credit.  Standby letters of credit are written conditional commitments issued by PeoplesBank to guarantee the performance of a client to a third party.  Generally, all letters of credit, when issued, have expiration dates within one year.  The credit risk involved in issuing letters of credit is essentially the same as those that are involved in extending loan facilities to clients.  The Corporation generally holds collateral and/or personal guarantees supporting these commitments.  The Corporation had $22,773,000 of standby letters of credit outstanding on March 31, 2019, compared to $23,737,000 on December 31, 2018. Management believes that the proceeds obtained through a liquidation of collateral and the enforcement of guarantees would be sufficient to cover the potential amount of future payments required under the corresponding letters of credit. The amount of the liability as of March 31, 2019 and December 31, 2018, for guarantees under standby letters of credit issued, was not material. Many of the commitments are expected to expire without being drawn upon and, therefore, generally do not present significant liquidity risk to the Corporation or PeoplesBank.

 

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Note 13—Fair Value of Assets and Liabilities

 

The Corporation uses its best judgment in estimating the fair value of the Corporation’s assets and liabilities; however, there are inherent weaknesses in any estimation technique. Therefore, the fair value estimates herein are not necessarily indicative of the amounts that could be realized in sales transactions on the dates indicated. The estimated fair value amounts have been measured as of their respective period-ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values subsequent to the respective reporting dates may be different than the amounts reported at each period end.

 

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date. GAAP establishes a fair value hierarchy that prioritizes the use of inputs used in valuation methodologies into the following three levels:

 

Level 1: Inputs to the valuation methodology are quoted prices, unadjusted, for identical assets or liabilities in active markets. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to measure fair value whenever available.

 

Level 2: Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets; inputs to the valuation methodology include quoted prices for identical or similar assets or liabilities in markets that are not active; or inputs to the valuation methodology that utilize model-based techniques for which all significant assumptions are observable in the market.

 

Level 3: Inputs to the valuation methodology are unobservable and significant to the fair value measurement; inputs to the valuation methodology that utilize model-based techniques for which significant assumptions are not observable in the market; or inputs to the valuation methodology that require significant management judgment or estimation, some of which may be internally developed.

 

Since management maximizes the use of observable inputs and minimizes the use of unobservable inputs when determining fair value, an asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Management reviews and updates the fair value hierarchy classifications on a quarterly basis.

 

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Assets Measured at Fair Value on a Recurring Basis

 

Securities available-for-sale

 

The fair values of investment securities were measured using information from a third-party pricing service. The pricing service uses quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2), which is a mathematical technique, used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities, but rather, by relying on the securities’ relationship to other benchmark quoted prices. At least annually, the Corporation reviews a random sample of the pricing information received from the third-party pricing service by comparing it to price quotes from third-party brokers. Historically, price deviations have been immaterial.

 

       Fair Value Measurements 
(dollars in thousands)  Total   (Level 1)
Quoted Prices in
Active Markets for
Identical Assets
   (Level 2)
Significant Other
Observable
Inputs
   (Level 3)
Significant Other
Unobservable
Inputs
 
March 31, 2019                    
Securities available-for-sale:                    
U.S. Treasury notes  $19,284   $19,284   $0   $0 
U.S. agency   15,379    0    15,379    0 
U.S. agency mortgage-backed, residential   81,267    0    81,267    0 
State and municipal   33,238    0    33,238    0 
                     
December 31, 2018                    
Securities available-for-sale:                    
U.S. Treasury notes  $19,003   $19,003   $0   $0 
U.S. agency   15,063    0    15,063    0 
U.S. agency mortgage-backed, residential   74,555    0    74,555    0 
State and municipal   40,972    0    40,972    0 

 

Assets Measured at Fair Value on a Nonrecurring Basis

 

Impaired loans

Impaired loans are those that are accounted for under FASB ASC Topic 310, in which the Corporation has measured impairment generally based on the fair value of the loan’s collateral. Fair value is generally determined based upon independent third-party appraisals of the properties, or discounted cash flows based upon the expected proceeds. These loans are included as Level 3 fair values, based on the lowest level of input that is significant to the fair value measurements. At March 31, 2019, the fair value of impaired loans with a valuation allowance or partial charge-off was $15,402,000, net of valuation allowances of $4,774,000 and partial charge-offs of $134,000. At December 31, 2018 the fair value of impaired loans with a valuation allowance or charge-off was $13,297,000, net of valuation allowances of $3,679,000 and charge-offs of $134,000.

 

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Foreclosed Real Estate

Other real estate property acquired through foreclosure is initially recorded at fair value of the property at the transfer date less estimated selling cost. Subsequently, other real estate owned is carried at the lower of its carrying value or the fair value less estimated selling cost. Fair value is usually determined based on an independent third-party appraisal of the property or occasionally on a recent sales offer. At March 31, 2019 and December 31, 2018, there were no foreclosed real estate assets with a valuation allowance or write-down.

 

       Fair Value Measurements 
       (Level 1)    (Level 2)   (Level 3) 
       Quoted Prices in        Significant Other 
       Active Markets for    Significant Other   Unobservable 
(dollars in thousands)  Total   Identical Assets    Observable Inputs   Inputs 
March 31, 2019                 
Impaired loans  $15,402   $ 0    $0   $15,402 
                       
December 31, 2018                    
Impaired loans  $13,297   $ 0    $0   $13,297 

 

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

 

   Quantitative Information about Level 3 Fair Value Measurements  
(dollars in thousands)   Fair Value
Estimate
   Valuation
Techniques
  Unobservable
Input
   Range    Weighted
Average
 
March 31, 2019                     
  Impaired loans  $7,944   Appraisal (1)  Appraisal adjustments (2)   15% - 50%    42%
  Impaired loans   7,458   Business asset valuation (3)  Business asset valuation adjustments (4)   10% - 52%    48%
                      
December 31, 2018                     
  Impaired loans  $5,257   Appraisal (1)  Appraisal adjustments (2)   15% - 50%     39%
  Impaired loans   8,040   Business asset valuation (3)  Business asset valuation adjustments (4)   10% - 53%    51%

 

(1)Fair value is generally determined through independent appraisals, which generally include various level 3 inputs that are not identifiable.
(2)Appraisal amounts may be adjusted downward by the Corporation’s management for qualitative factors such as economic conditions and estimated liquidation expenses.  The range of liquidation expense adjustments are presented as a percent of the appraisal.
(3)Fair value is generally determined through customer-provided financial statements.
(4)Business asset valuation may be adjusted downward by the corporation’s management qualitative factors such as economic conditions and estimated liquidation expenses.  The range of liquidation expenses adjustments are presented as a percent of the financial statement book value.

 

 

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The following presents the carrying amounts and estimated fair values of the Corporation’s financial instruments as of March 31, 2019 and December 31, 2018.

                     
           Fair Value Estimates 
           (Level 1)   (Level 2)   (Level 3) 
           Quoted Prices   Significant   Significant 
           in Active   Other   Other 
   Carrying   Estimated   Markets for   Observable   Unobservable 
(dollars in thousands)  Amount   Fair Value   Identical Assets   Inputs   Inputs 
March 31, 2019                    
Financial assets                         
Cash and cash equivalents  $94,285   $94,285   $94,285   $0   $0 
Securities available-for-sale   149,168    149,168    19,284    129,884    0 
Restricted investment in bank stocks   5,322    5,322    0    5,322    0 
Loans held for sale   4,778    4,978    0    4,978    0 
Loans, net   1,474,881    1,452,023    0    0    1,452,023 
Interest receivable   5,182    5,182    0    5,182    0 
Mortgage servicing rights   922    1,002    0    0    1,002 
                          
Financial liabilities                         
Deposits  $1,502,877   $1,490,098   $0   $1,490,098   $0 
Short-term borrowings   6,830    6,830    0    6,830    0 
Long-term debt (1)   115,310    117,245    0    109,336    7,909 
Interest payable   978    978    0    978    0 
                          
Off-balance sheet instruments   0    0    0    0    0 
                          
December 31, 2018                         
Financial assets                         
Cash and cash equivalents  $96,782   $96,782   $96,782   $0   $0 
Securities available-for-sale   149,593    149,593    19,003    130,590    0 
Restricted investment in bank stocks   5,922    5,922    0    5,922    0 
Loans held for sale   4,127    4,302    0    4,302    0 
Loans, net   1,466,536    1,437,415    0    0    1,437,415 
Interest receivable   5,552    5,552    0    5,552    0 
Mortgage servicing rights   925    1,052    0    0    1,052 
                          
Financial liabilities                         
Deposits  $1,495,280   $1,479,997   $0   $1,479,997   $0 
Short-term borrowings   7,022    7,022    0    7,022    0 
Long-term debt   115,310    112,406    0    104,332    8,074 
Interest payable   836    836    0    836    0 
                          
Off-balance sheet instruments   0    0    0    0    0 
                          
(1) Exclude leases included in Long-term debt

 

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Note 13—Assets and Liabilities Subject to Offsetting

 

Securities Sold Under Agreements to Repurchase

 

PeoplesBank enters into agreements with clients in which it sells securities subject to an obligation to repurchase the same securities (“repurchase agreements”). The contractual maturity of the repurchase agreement is overnight and continues until either party terminates the agreement. These repurchase agreements are accounted for as a collateralized financing arrangement (i.e., secured borrowings) and not as a sale and subsequent repurchase of securities. The obligation to repurchase the securities is reflected as a liability (short-term borrowings) in the Corporation’s consolidated financial statements of condition, while the securities underlying the repurchase agreements are appropriately segregated for safekeeping purposes and remain in the respective securities asset accounts. Thus, there is no offsetting or netting of the securities with the repurchase agreement liabilities.

                           
            Gross amounts Not Offset in     
      Gross  Net Amounts  the Statements of Condition     
   Gross  Amounts  of Liabilities  Financial Instruments        
   Amounts of  Offset in the  Presented in  U.S. agency     Cash    
   Recognized  Statements  the Statements  mortgage-backed,     Collateral  Net 
(dollars in thousands)  Liabilities  of Condition  of Condition  residential  U.S. agency  Pledged  Amount 
March 31, 2019                      
Repurchase Agreements  $6,830  $0  $ 6,830  $ (7,988) $0  $0  $(1,158)
                            
December 31, 2018                           
Repurchase Agreements  $7,022  $0  $ 7,022  $ (8,981) $0  $0  $(1,959)

 

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

 

Management’s discussion and analysis of the significant changes in the results of operations, capital resources and liquidity presented in the accompanying consolidated financial statements for Codorus Valley Bancorp, Inc. (“Codorus Valley” or “the Corporation”), a bank holding company, and its wholly-owned subsidiary, PeoplesBank, A Codorus Valley Company (“PeoplesBank”), are provided below. Codorus Valley’s consolidated financial condition and results of operations consist almost entirely of PeoplesBank’s financial condition and results of operations. Current performance does not guarantee, and may not be indicative of, similar performance in the future.

 

Forward-looking Statements

 

Management of the Corporation has made forward-looking statements in this Form 10-Q. These forward-looking statements may be subject to risks and uncertainties. Forward-looking statements include information concerning possible or assumed future results of operations of the Corporation and its subsidiaries. When words such as “believes,” “expects,” “anticipates” or similar expressions occur in the Form 10-Q, management is making forward-looking statements.

 

Note that many factors, some of which are discussed elsewhere in this report and in the documents that are incorporated by reference, could affect the future financial results of the Corporation and its subsidiaries, both individually and collectively, and could cause those results to differ materially from those expressed in the forward-looking statements contained or incorporated by reference in this Form 10-Q. These factors include, but are not limited to, the following:

 

Operating, legal and regulatory risks;
Credit risk, including an increase in nonperforming assets requiring loss provisions and the incurrence of carrying costs related to nonperforming assets;
Interest rate fluctuations which could increase our cost of funds or decrease our yield on earning assets and therefore reduce our net interest income;
Declines in the market value of investment securities considered to be other-than-temporary;
Unavailability of capital when needed, or availability at less than favorable terms;
Unauthorized disclosure of sensitive or confidential client or customer information, whether through a breach of our computer systems or otherwise, which may adversely affect the Corporation’s operations, net income or reputation;
Inability to achieve merger-related synergies, and difficulties in integrating the business and operations of acquired institutions;
A prolonged economic downturn;
Political and competitive forces affecting banking, securities, asset management and credit services businesses;
The effects of and changes in the rate of FDIC premiums, including special assessments;
Future legislative or administrative changes to U.S. governmental capital programs;
Future changes in federal or state tax laws or tax rates;
Enacted financial reform legislation, e.g., Dodd-Frank Wall Street Reform and Consumer Protection Act, may have a significant impact on the Corporation’s business and results of operations; and
The risk that management’s analyses of these risks and forces could be incorrect and/or that the strategies developed to address them could be unsuccessful.
  

The Corporation undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this report.

 

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Critical Accounting Policies

 

The Corporation’s critical accounting policies, as summarized in Note 1—Summary of Significant Accounting Policies, include those related to the allowance for loan losses, valuation of foreclosed real estate, evaluation of other-than-temporary impairment of securities, and determination of acquisition-related goodwill and fair value adjustments, which require management to make significant judgments, estimates and assumptions that have a material impact on the carrying value of the respective assets and liabilities. For this Form 10-Q, there were no material changes made to the Corporation’s critical accounting policies, which are more fully disclosed in Item 7 of the Corporation’s previously filed Annual Report on Form 10-K for the year ended December 31, 2018.

 

Three Months Ended March 31, 2019 vs. Three Months Ended March 31, 2018

 

Financial Highlights

 

The Corporation’s net income (earnings) was $4,091,000 for the quarter ended March 31, 2019, as compared to $4,083,000 for the quarter ended March 31, 2018, an increase of $8,000 or 0.2 percent.

 

Net interest income for the first quarter of 2019 increased $186,000 or 1 percent above the same period in 2018, primarily due to increased interest income from a higher volume of commercial loans at a higher rate of interest, offset by higher rates of interest on demand and time deposits in the first quarter of 2019 as compared to the first quarter of 2018.

 

The Corporation’s net interest margin (tax-equivalent basis) for the first quarter of 2019 was 3.69 percent, compared to 3.89 percent for the first quarter of 2018. The net interest margin contraction was a result of a temporary increase in balance sheet liquidity, a flat yield curve and an increase in loans classified as nonaccrual.

 

The provision for loan losses was $1,050,000 for the first quarter of 2019, an $850,000 increase as compared to a provision of $200,000 for the first quarter of 2018. The increased provision in the first quarter of 2019 was primarily attributed to approximately $1.1 million of specific loan loss reserves established during the quarter, provision related to net loan growth during the quarter, net charge-offs of $113,000 and the net impact of adjustments made to certain qualitative factors and the unallocated reserve. The allowance as a percentage of total loans was 1.34 percent at March 31, 2019 as compared to 1.29 percent at December 31, 2018 and 1.18 percent at March 31, 2018.

 

Noninterest income for the first quarter of 2019 increased $6,000 or 0 percent compared to the first quarter of 2018. Income from bank owned life insurance increased due to the purchase of additional insurance. The increase was offset by a decrease in the gain on sale of loans held for sale, primarily the result of the inability to sell the SBA guaranteed portion of loans due to the government shut-down in the first quarter of 2019.

 

Noninterest expenses in the first quarter of 2019 were $696,000 or 5 percent lower than the first quarter of 2018. Lower personnel costs and charitable donations accounted for a majority of the decrease. The decrease was partially offset by an increase in occupancy expense.

 

The provision for income taxes for the first quarter of 2019 increased by $30,000 or 3 percent as compared to the first quarter of 2018 as a result of the slightly higher income before taxes in the first quarter 2019 as compared to the first quarter 2018.

 

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The schedule below presents selected performance metrics for the first quarter of both 2019 and 2018. Per share computations include the effect of stock dividends, including the 5 percent stock dividend distributed in the fourth quarter of 2018.

         
   Three months ended 
   March 31, 
   2019   2018 
Basic earnings per share  $0.43   $0.44 
Diluted earnings per share  $0.43   $0.43 
Cash dividend payout ratio   36.96%   33.81%
Return on average assets   0.91%   0.97%
Return on average equity   9.04%   9.87%
Net interest margin (tax equivalent basis)   3.69%   3.89%
Net overhead ratio   2.07%   2.38%
Efficiency ratio   66.35%   70.76%
Average equity to average assets   10.02%   9.80%

 

A more detailed analysis of the factors and trends affecting the Corporation’s earnings and financial position follows.

 

Income Statement Analysis

 

Net Interest Income

 

Unless otherwise noted, this section discusses interest income and interest expense amounts as reported in the Consolidated Statements of Income, which are not presented on a tax equivalent basis.

 

Net interest income for the quarter ended March 31, 2019 was $15,531,000, an increase of $186,000 or 1 percent compared to net interest income of $15,345,000 for the first quarter of 2018. The increase was primarily attributable to a higher volume of commercial loans at a higher rate of interest, offset by higher rates of interest on demand and time deposits. The Corporation’s net interest margin, computed as interest income (tax-equivalent basis) annualized as a percentage of average interest earning assets, was 3.69 percent for the first quarter of 2019 compared to the 3.89 percent for the first quarter of 2018.

 

Total interest income for the first quarter of 2019 totaled $20,876,000, an increase of $2,283,000 or 12 percent above the amount of total interest income for the first quarter of 2018. The change was primarily a result of a higher volume and rate on commercial loans and interest bearing deposits with banks.

 

Interest and dividend income on investments increased $34,000 or 4 percent in the first quarter of 2019 compared to the same period in 2018. The average balance of the investment securities portfolio decreased $8,419,000 or 5 percent when comparing the first quarter of 2019 to the same period in 2018. The tax-equivalent yield on investments for the first quarter of 2019 was 2.75 percent or 18 basis points higher than the 2.57 percent experienced in the first quarter of 2018.

 

Interest income on loans increased $2,013,000 or 12 percent in the first quarter of 2019 compared to the same period in 2018. The average balance of outstanding loans, primarily commercial loans, increased approximately $88,992,000 or 6 percent comparing the first quarter of 2019 to the same period in 2018. The increased volume of commercial loans and higher rates on the loan portfolio were the primary drivers to the increase in interest income on loans. The tax-equivalent yield on loans for the first quarter 2019 was 5.28 percent or 25 basis points more than the 5.03 percent experienced in the first quarter of 2018.

 

 

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Total interest expense for the first quarter of 2019 was $5,345,000, an increase of $2,097,000 or 65 percent as compared to total interest expense of $3,248,000 for the first quarter of 2018. The change was primarily the result of an increase in the volume and cost of deposits.

 

Interest expense on deposits increased $1,988,000 or 76 percent in the first quarter of 2019 compared to the same period in 2018. The average rate paid on interest-bearing deposits was 1.51 percent in the first quarter of 2019 or 58 basis points higher than the average rate paid of 0.93 percent in the first quarter of 2018. The average balance of interest-bearing deposits for the first quarter of 2019 increased by $99,687,000 or 9 percent compared to the first quarter of 2018. Also, the Corporation experienced favorable growth in noninterest-bearing deposits, with the average volume for the first quarter of 2019 increasing 5 percent to $244,847,000 as compared to $233,702,000 for the first quarter of 2018.

 

For the first quarter of 2019 interest expense on borrowings increased $109,000 or 18 percent compared to the first quarter of 2018. Short-term borrowings consisting of repurchase agreements and other short-term borrowings averaged $6,434,000 for the first quarter of 2019, compared to an average balance of $10,055,000 for the first quarter of 2018. The rate on average short-term borrowings for the first quarter of 2019 was 0.57 percent, a decrease as compared to a rate of 0.61 percent for the first quarter of 2018. Long-term debt, primarily from the Federal Home Loan Bank of Pittsburgh (FHLBP), averaged $119,759,000 for the first quarter of 2019 and $126,866,000 for the first quarter of 2018. For the first quarter of 2019, the rate on average long-term borrowings was 2.42 percent, an increase as compared to a rate of 1.92 percent for the first quarter of 2018.

 

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Table 1-Average Balances and Interest Rates (tax equivalent basis)
                         
   Three months ended March 31, 
       2019           2018     
   Average       Yield/   Average       Yield/ 
(dollars in thousands)  Balance   Interest   Rate   Balance   Interest   Rate 
                         
Assets                              
Interest bearing deposits with banks  $60,397   $362    2.43%  $32,981   $126    1.55%
Investment securities:                              
Taxable   118,751    795    2.72    114,407    689    2.44 
Tax-exempt   36,673    259    2.86    49,436    350    2.87 
Total investment securities   155,424    1,054    2.75    163,843    1,039    2.57 
                               
Loans:                              
Taxable (1)   1,490,231    19,425    5.29    1,394,739    17,374    5.05 
Tax-exempt   10,730    106    4.01    17,230    155    3.65 
Total loans   1,500,961    19,531    5.28    1,411,969    17,529    5.03 
Total earning assets   1,716,782    20,947    4.95    1,608,793    18,694    4.71 
Other assets (2)   89,249              79,512           
Total assets  $1,806,031             $1,688,305           
Liabilities and Shareholders’ Equity                              
Deposits:                              
Interest bearing demand  $682,155   $2,384    1.42%  $609,055   $1,087    0.72%
Savings   86,644    21    0.10    87,794    22    0.10 
Time   473,212    2,215    1.90    445,475    1,523    1.39 
Total interest bearing deposits   1,242,011    4,620    1.51    1,142,324    2,632    0.93 
Short-term borrowings   6,434    9    0.57    10,055    15    0.61 
Long-term debt   119,759    716    2.42    126,866    601    1.92 
Total interest bearing liabilities   1,368,204    5,345    1.58    1,279,245    3,248    1.03 
                               
Noninterest bearing deposits   244,847              233,702           
Other liabilities   11,960              9,812           
Shareholders’ equity   181,020              165,546           
                               
Total liabilities and shareholders’ equity  $1,806,031             $1,688,305           
Net interest income (tax equivalent basis)       $15,602             $15,446      
Net interest margin  (3)             3.69%             3.89%
Tax equivalent adjustment        (71)             (101)     
Net interest income       $15,531             $15,345      

 

(1)Average balance includes average nonaccrual loans of $21,237,000 for 2019 and $4,310,000 for 2018.