Company Quick10K Filing
Quick10K
Home Bancshares
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$18.94 169 $3,200
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 2019-04-18 Earnings, Regulation FD, Exhibits
8-K 2019-02-15 Other Events, Exhibits
8-K 2019-02-08 Officers, Regulation FD, Exhibits
8-K 2019-01-17 Earnings, Regulation FD, Exhibits
8-K 2018-10-18 Earnings, Regulation FD, Exhibits
8-K 2018-07-19 Earnings, Regulation FD, Exhibits
8-K 2018-06-29 Regulation FD, Other Events, Exhibits
8-K 2018-04-19 Shareholder Vote, Exhibits
8-K 2018-02-22 Regulation FD, Exhibits
8-K 2018-01-18 Earnings, Regulation FD, Exhibits
8-K 2018-01-08 Earnings, Regulation FD, Exhibits
FOX Twenty-First Century Fox 23,090
BRO Brown & Brown 8,660
CDK CDK Global 7,520
TDC Teradata 5,210
STRA Strategic Education 3,090
APPF Appfolio 3,000
GTY Getty Realty 1,300
ICHR Ichor Holdings 554
FDUS Fidus Investment 380
EGC Energy XXI Gulf Coast 0
HOMB 2018-12-31
Part I
Item 1. Business
Item 1A. Risk Factors
Item 1B. Unresolved Staff Comments
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Mine Safety Disclosure
Part II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6. Selected Financial Data.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 8. Consolidated Financial Statements and Supplementary Data
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A. Controls and Procedures
Item 9B. Other Information
Part III
Item 10. Directors, Executive Officers and Corporate Governance
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13. Certain Relationships and Related Transactions, and Director Independence
Item 14. Principal Accounting Fees and Services
Part IV
Item 15. Exhibits, Financial Statement Schedules
EX-23.1 d684920dex231.htm
EX-31.1 d684920dex311.htm
EX-31.2 d684920dex312.htm
EX-32.1 d684920dex321.htm
EX-32.2 d684920dex322.htm

Home Bancshares Earnings 2018-12-31

HOMB 10K Annual Report

Balance SheetIncome StatementCash Flow

10-K 1 d684920d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

 

FORM 10-K

 

 

(Mark One)

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

For the Fiscal Year Ended December 31, 2018

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: 000-51904

 

 

HOME BANCSHARES, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Arkansas   71-0682831

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

719 Harkrider, Suite 100, Conway, Arkansas   72032
(Address of principal executive offices)   (Zip Code)

(501) 339-2929

(Registrant’s telephone number, including area code)

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

 

None

 

N/A

Title of each class   Name of each exchange on which registered

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

Common Stock, par value $0.01 per share

(Title of Class)

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ☑    No  ☐

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ☐    No  ☑

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ☐

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

 

Large accelerated filer      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  ☑

The aggregate market value of the registrant’s common stock, par value $0.01 per share, held by non-affiliates on June 30, 2018, was $3.94 billion based upon the last trade price as reported on the NASDAQ Global Select Market of $22.56.

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practical date.

Common Stock Issued and Outstanding: 168,696,572 shares as of February 21, 2019.

Documents incorporated by reference: Part III is incorporated by reference from the registrant’s Proxy Statement relating to its 2019 Annual Meeting to be held on April 18, 2019.

 

 

 


Table of Contents

HOME BANCSHARES, INC.

FORM 10-K

December  31, 2018

INDEX

 

          Page No.  

PART I:

     

Item 1.

  

Business

     5-27  

Item 1A.

  

Risk Factors

     27-40  

Item 1B.

  

Unresolved Staff Comments

     40  

Item 2.

  

Properties

     40  

Item 3.

  

Legal Proceedings

     41  

Item 4.

  

Mine Safety Disclosure

     41  

PART II:

     

Item 5.

  

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

     42-44  

Item 6.

  

Selected Financial Data

     45-46  

Item 7.

  

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

     47-96  

Item 7A.

  

Quantitative and Qualitative Disclosures About Market Risk

     97-100  

Item 8.

  

Consolidated Financial Statements and Supplementary Data

     101-166  

Item 9.

  

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

     167  

Item 9A.

  

Controls and Procedures

     167  

Item 9B.

  

Other Information

     167  

PART III:

     

Item 10.

  

Directors, Executive Officers and Corporate Governance

     168  

Item 11.

  

Executive Compensation

     168  

Item 12.

  

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

     168  

Item 13.

  

Certain Relationships and Related Transactions, and Director Independence

     168  

Item 14.

  

Principal Accounting Fees and Services

     168  

PART IV:

     

Item 15.

  

Exhibits, Financial Statement Schedules

     169-170  

Signatures

        171  

Consent and Certifications

     After page 171  


Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Some of our statements contained in this document, including matters discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operation,” are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements relate to future events or our future financial performance and include statements about the competitiveness of the banking industry, potential regulatory obligations, our entrance and expansion into other markets, including through potential acquisitions, our other business strategies and other statements that are not historical facts. Forward-looking statements are not guarantees of performance or results. When we use words like “may,” “plan,” “contemplate,” “anticipate,” “believe,” “intend,” “continue,” “expect,” “project,” “predict,” “estimate,” “could,” “should,” “would,” and similar expressions, you should consider them as identifying forward-looking statements, although we may use other phrasing. These forward-looking statements involve risks and uncertainties and are based on our beliefs and assumptions, and on the information available to us at the time that these disclosures were prepared. These forward-looking statements involve risks and uncertainties and may not be realized due to a variety of factors, including, but not limited to, the following:

 

   

the effects of future local, regional, national and international economic conditions, including inflation or a decrease in commercial real estate and residential housing values;

 

   

changes in the level of nonperforming assets and charge-offs, and credit risk generally;

 

   

the risks of changes in interest rates or the level and composition of deposits, loan demand and the values of loan collateral, securities and interest-sensitive assets and liabilities;

 

   

the effect of any mergers, acquisitions or other transactions to which we or our bank subsidiary may from time to time be a party, including our ability to successfully integrate any businesses that we acquire;

 

   

the risk that expected cost savings and other benefits from acquisitions may not be fully realized or may take longer to realize than expected;

 

   

the possibility that an acquisition does not close when expected or at all because required regulatory, shareholder or other approvals and other conditions to closing are not received or satisfied on a timely basis or at all;

 

   

the reaction to a proposed acquisition transaction of the respective companies’ customers, employees and counterparties;

 

   

diversion of management time on acquisition-related issues;

 

   

the ability to enter into and/or close additional acquisitions;

 

   

the availability of and access to capital on terms acceptable to us;

 

   

increased regulatory requirements and supervision that applies as a result of our exceeding $10 billion in total assets;

 

   

legislation and regulation affecting the financial services industry as a whole, and the Company and its subsidiaries in particular, including the effects resulting from the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), recent reforms to the Dodd-Frank Act and other future legislative and regulatory changes;

 

   

governmental monetary and fiscal policies;

 

   

the effects of terrorism and efforts to combat it;

 

   

political instability;

 

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Table of Contents
   

risks associated with our customer relationship with the Cuban government and our correspondent banking relationship with Banco Internacional de Comercio, S.A. (BICSA), a Cuban commercial bank, through our recently completed acquisition of Stonegate Bank;

 

   

adverse weather events, including hurricanes, and other natural disasters;

 

   

the ability to keep pace with technological changes, including changes regarding cybersecurity;

 

   

an increase in the incidence or severity of fraud, illegal payments, cybersecurity breaches or other illegal acts impacting our bank subsidiary, our vendors or our customers;

 

   

the effects of competition from other commercial banks, thrifts, mortgage banking firms, consumer finance companies, credit unions, securities brokerage firms, insurance companies, money market and other mutual funds and other financial institutions operating in our market area and elsewhere, including institutions operating regionally, nationally and internationally, together with competitors offering banking products and services by mail, telephone and the Internet;

 

   

the effect of changes in accounting policies and practices and auditing requirements, as may be adopted by the regulatory agencies, as well as the Public Company Accounting Oversight Board, the Financial Accounting Standards Board, and other accounting standard setters;

 

   

higher defaults on our loan portfolio than we expect; and

 

   

the failure of assumptions underlying the establishment of our allowance for loan losses or changes in our estimate of the adequacy of the allowance for loan losses.

All written or oral forward-looking statements attributable to us are expressly qualified in their entirety by this Cautionary Note. Our actual results may differ significantly from those we discuss in these forward-looking statements. For other factors, risks and uncertainties that could cause our actual results to differ materially from estimates and projections contained in these forward-looking statements, see “Risk Factors”.

 

4


Table of Contents

PART I

 

Item 1.

BUSINESS

Company Overview

Home BancShares, Inc. (“Home BancShares”, which may also be referred to in this document as “we”, “us”, “HBI” or the “Company”) is a Conway, Arkansas headquartered bank holding company registered under the federal Bank Holding Company Act of 1956. The Company’s common stock is traded through the NASDAQ Global Select Market under the symbol “HOMB”. We are primarily engaged in providing a broad range of commercial and retail banking and related financial services to businesses, real estate developers and investors, individuals and municipalities through our wholly owned community bank subsidiary – Centennial Bank. Centennial Bank has branch locations in Arkansas, Florida, South Alabama and New York City. Although the Company has a diversified loan portfolio, at December 31, 2018 and 2017, commercial real estate loans represented 58.1% and 61.8% of gross loans and 273.6% and 289.6% of total stockholders’ equity, respectively. The Company’s total assets, total deposits, total revenue and net income for each of the past three years are as follows:

 

     As of or for the Years Ended December 31,  
     2018      2017      2016  
            (In thousands)         

Total assets

   $  15,302,438      $  14,449,760      $  9,808,465  

Total deposits

     10,899,778        10,388,502        6,942,427  

Total revenue (interest income plus non-interest income)

     788,200        619,887        523,588  

Net income

     300,403        135,083        177,146  

Home BancShares acquires, organizes and invests in community banks that serve attractive markets. Our community banking team is built around experienced bankers with strong local relationships. The Company was formed in 1998 by an investor group led by John W. Allison, our Chairman, and Robert H. “Bunny” Adcock, Jr., our Vice Chairman. Since opening our first subsidiary bank in 1999, we have acquired and integrated a total of 22 banks with locations in Arkansas, Florida and Alabama, including 17 banks since 2010, seven of which we acquired through Federal Deposit Insurance Corporation (“FDIC”) assisted transactions. Our subsidiary bank has operated under a single charter and the Centennial Bank name since 2009. In 2015, after acquiring a pool of national commercial real estate loans, we created Centennial Commercial Finance Group (“Centennial CFG”) to build out a national lending platform focused on commercial real estate as well as commercial and industrial loans. Centennial CFG operates out of our New York City branch office and loan production offices in Los Angeles, California and Dallas, Texas. On June 30, 2018, we acquired Shore Premier Finance (“SPF”), a marine-lending division of Union Bank & Trust of Richmond, Virginia, and established the SPF division of Centennial Bank to build out a lending platform focusing on commercial and consumer marine loans. In connection with the creation of the SPF division, Centennial Bank opened a loan production office in Chesapeake, Virginia.

 

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Table of Contents

Acquisitions

We believe many individuals and businesses prefer banking with a locally managed community bank capable of providing flexibility and quick decisions. The execution of our community banking strategy has allowed us to rapidly build our network of banking operations through acquisitions. The following summary provides additional details concerning our acquisitions during the previous five fiscal years.

Florida Traditions Bank – On July 17, 2014, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Florida Traditions Bank (“Traditions”) and merged Traditions into Centennial Bank. Under the terms of the Agreement and Plan of Merger dated April 25, 2014, by and among Home BancShares, Centennial Bank, and Traditions, the shareholders of Traditions received approximately $39.5 million of the Company’s common stock valued at the time of closing, in exchange for all outstanding shares of Traditions common stock.

Prior to the acquisition, Traditions operated eight banking locations in Central Florida, including its main office in Dade City, Florida. Including the effects of the purchase accounting adjustments, Traditions had $310.5 million in total assets, $241.6 million in loans after $8.5 million of loan discounts, and $267.3 million in deposits.

Broward Financial Holdings, Inc. – On October 23, 2014, the Company completed its acquisition of all of the issued and outstanding shares of common stock of Broward Financial Holdings, Inc. (“Broward”), parent company of Broward Bank of Commerce (“Broward Bank”), and merged Broward Bank into Centennial Bank. Under the terms of the Agreement and Plan of Merger dated July 30, 2014 by and among Home BancShares, Centennial Bank, Broward, Broward Bank and an acquisition subsidiary of Home BancShares, the shareholders of Broward received approximately $30.2 million of the Company’s common stock valued as of the closing date, plus $3.3 million in cash, in exchange for all outstanding shares of Broward common stock. The Company also agreed to pay the Broward shareholders at an undetermined date up to approximately $751,000 in additional consideration, the amount and timing of which, if any, was dependent on future payments received or losses incurred by Centennial Bank from certain current Broward Bank loans. During the first quarter of 2016, we determined and reached an agreement with the Broward shareholders that no additional consideration was owed or would be paid to the Broward shareholders.

Prior to the acquisition, Broward Bank operated two banking locations in Fort Lauderdale, Florida. Including the effects of the purchase accounting adjustments, Broward had approximately $184.4 million in total assets, $121.1 million in total loans after $3.0 million of loan discounts, and $134.2 million in deposits.

Doral Bank’s Florida Panhandle Operations – On February 27, 2015, Centennial Bank acquired in an FDIC-assisted transaction all the deposits and substantially all the assets of the Florida Panhandle operations of Doral Bank of San Juan, Puerto Rico (“Doral Florida”) through an alliance agreement with Banco Popular of Puerto Rico (“Popular”), who was the successful lead bidder to acquire the assets and liabilities of the failed Doral Bank from the FDIC, as receiver for Doral Bank. Including the effects of the purchase accounting adjustments, the acquisition provided the Company with loans of approximately $37.9 million net of loan discounts, deposits of approximately $467.6 million, plus a $428.2 million cash settlement to balance the transaction. The FDIC did not provide any loss-sharing with respect to these acquired assets.

Prior to the acquisition, Doral Florida operated five branch locations in Panama City, Panama City Beach and Pensacola, Florida plus a loan production office in Tallahassee, Florida. At the time of acquisition, Centennial operated 29 branch locations in the Florida Panhandle. As a result, the Company closed all five branch locations during the July 2015 systems conversion and returned the facilities back to the FDIC.

Pool of National Commercial Real Estate Loans – On April 1, 2015, Centennial Bank purchased a pool of national commercial real estate loans totaling approximately $289.1 million from AM PR LLC, an affiliate of J.C. Flowers & Co. (collectively, the “Seller”) for a purchase price of 99% of the total principal value of the acquired loans. The acquired loans were originated by the former Doral Bank within its Doral Property Finance portfolio and were transferred to the Seller by Popular upon its acquisition of the assets and liabilities of Doral Bank from the FDIC. This pool of loans is now managed by Centennial CFG, which is responsible for servicing the acquired loan pool and originating new loan production.

 

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In connection with this acquisition of loans, the Company opened a loan production office on April 23, 2015 in New York City, which became a full branch on September 1, 2016.

Florida Business BancGroup, Inc. – On October 1, 2015, the Company completed its acquisition of Florida Business BancGroup, Inc. (“FBBI”), parent company of Bay Cities Bank (“Bay Cities”). The Company paid a purchase price to the FBBI shareholders of $104.1 million for the FBBI acquisition. Under the terms of the agreement, shareholders of FBBI received shares of the Company’s common stock valued at approximately $83.8 million as of October 1, 2015, plus approximately $20.3 million in cash in exchange for all outstanding shares of FBBI common stock. A portion of the cash consideration, $2.0 million, was placed into escrow with the FBBI shareholders having a contingent right to receive their pro-rata portions of such amount. The amount, if any, of such escrowed funds to be released to FBBI shareholders would depend upon the amount of losses that the Company incurred in the two years following the completion of the merger related to two class action lawsuits that were pending against Bay Cities. In August 2017, the Company distributed the contingent cash consideration to the former FBBI shareholders, less $10,000 for compensation paid to a representative designated by FBBI who acted on behalf of the FBBI shareholders in connection with the escrow arrangements.

FBBI formerly operated six branch locations and a loan production office in the Tampa Bay area and in Sarasota, Florida. Including the effects of any purchase accounting adjustments, as of October 1, 2015, FBBI had approximately $564.5 million in total assets, $408.3 million in loans after $14.1 million of loan discounts, and $472.0 million in deposits.

Giant Holdings, Inc. – On February 23, 2017, the Company completed its acquisition of Giant Holdings, Inc. (“GHI”), parent company of Landmark Bank, N.A. (“Landmark”), pursuant to a definitive agreement and plan of merger whereby GHI merged with and into HBI and, immediately thereafter, Landmark merged with and into Centennial Bank. The Company paid a purchase price to the GHI shareholders of approximately $96.0 million for the GHI acquisition. Under the terms of the agreement, shareholders of GHI received 2,738,038 shares of the Company’s common stock valued at approximately $77.5 million as of February 23, 2017, plus approximately $18.5 million in cash in exchange for all outstanding shares of GHI common stock.

GHI formerly operated six branch locations in the Ft. Lauderdale, Florida area. Including the effects of the purchase accounting adjustments, as of acquisition date, GHI had approximately $398.1 million in total assets, $327.8 million in loans after $8.1 million of loan discounts, and $304.0 million in deposits.

The Bank of Commerce – On February 28, 2017, the Company completed its acquisition of all of the issued and outstanding shares of common stock of The Bank of Commerce, a Florida state-chartered bank that operated in the Sarasota, Florida area (“BOC”), pursuant to an acquisition agreement, dated December 1, 2016, by and between HBI and Bank of Commerce Holdings, Inc. (“BCHI”), parent company of BOC. The Company merged BOC with and into Centennial Bank effective as of the close of business on February 28, 2017.

The acquisition of BOC was conducted in accordance with the provisions of Section 363 of the United States Bankruptcy Code (the “Bankruptcy Code”) pursuant to a voluntary petition for relief under Chapter 11 of the Bankruptcy Code filed by BCHI with the United States Bankruptcy Court for the Middle District of Florida (the “Bankruptcy Court”). The sale of BOC by BCHI was subject to certain bidding procedures approved by the Bankruptcy Court. On November 14, 2016, the Company submitted an initial bid to purchase the outstanding shares of BOC in accordance with the bidding procedures approved by the Bankruptcy Court. An auction was subsequently conducted on November 16, 2016, and the Company was deemed to be the successful bidder. The Bankruptcy Court entered a final order on December 9, 2016 approving the sale of BOC to the Company pursuant to and in accordance with the acquisition agreement.

Under the terms of the acquisition agreement, the Company paid an aggregate of approximately $4.2 million in cash for the acquisition, which included the purchase of all outstanding shares of BOC common stock, the discounted purchase of certain subordinated debentures issued by BOC from the existing holders of the subordinated debentures, and an expense reimbursement to BCHI for approved administrative claims in connection with the bankruptcy proceeding.

 

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BOC formerly operated three branch locations in the Sarasota, Florida area. Including the effects of the purchase accounting adjustments, as of acquisition date, BOC had approximately $178.1 million in total assets, $118.5 million in loans after $5.8 million of loan discounts, and $139.8 million in deposits.

Stonegate Bank – On September 26, 2017, the Company, completed the acquisition of all of the issued and outstanding shares of common stock of Stonegate Bank (“Stonegate”), and merged Stonegate into Centennial Bank. The Company paid a purchase price to the Stonegate shareholders of approximately $792.4 million for the Stonegate acquisition. Under the terms of the merger agreement, shareholders of Stonegate received 30,863,658 shares of HBI common stock valued at approximately $742.3 million at the time of closing plus approximately $50.1 million in cash in exchange for all outstanding shares of Stonegate common stock. In addition, the holders of outstanding stock options of Stonegate received approximately $27.6 million in cash in connection with the cancellation of their options immediately before the acquisition closed, for a total transaction value of approximately $820.0 million.

Including the effects of the purchase accounting adjustments, as of acquisition date, Stonegate had approximately $2.89 billion in total assets, $2.37 billion in loans and $2.53 billion in customer deposits. Stonegate formerly operated its banking business from 24 locations in key Florida markets with significant presence in Broward and Sarasota counties.

Shore Premier Finance – On June 30, 2018, the Company, completed the acquisition of Shore Premier Finance (“SPF”), a division of Union Bank & Trust of Richmond, Virginia, the bank subsidiary of Union Bankshares Corporation. The Company paid a purchase price of approximately $377.4 million in cash, subject to certain post-closing adjustments, and 1,250,000 shares of HBI common stock valued at approximately $28.2 million at the time of the acquisition. SPF provides direct consumer financing for United States Coast Guard (“USCG”) registered high-end sail and power boats. Additionally, SPF provides inventory floor plan lines of credit to marine dealers, primarily those selling USCG documented vessels.

Including the purchase accounting adjustments, as of acquisition date, SPF had approximately $377.0 million in total assets, including $376.2 million in total loans, which resulted in goodwill of $30.5 million being recorded.

This portfolio of loans is now housed in a division of Centennial Bank known as Shore Premier Finance. The SPF division of Centennial Bank is responsible for servicing the acquired loan portfolio and originating new loan production. In connection with this acquisition, Centennial Bank has opened a new loan production office in Chesapeake, Virginia. Through the SPF division, Centennial Bank is working to build out a lending platform focusing on commercial and consumer marine loans.

For an additional discussion regarding the acquisition of SPF, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K. For an additional discussion regarding the acquisitions of BOC, GHI and Stonegate, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2017. For an additional discussion regarding the acquisitions of Doral Florida, the pool of national commercial real estate loans and FBBI, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2016. For an additional discussion regarding the acquisitions of Traditions and Broward, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2015.

 

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Our Management Team

The following table sets forth, as of December 31, 2018, information concerning the individuals who are our executive officers.

 

Name

  

Age

  

Positions Held with

Home BancShares, Inc.

  

Positions Held with

Centennial Bank

John W. Allison    72    Chairman of the Board    Chairman of the Board
C. Randall Sims    64    Chief Executive Officer, President and Director    Director
Brian S. Davis    53    Chief Financial Officer, Treasurer and Director    Chief Financial Officer, Treasurer and Director
Jennifer C. Floyd    44    Chief Accounting Officer    Chief Accounting Officer
Kevin D. Hester    55    Chief Lending Officer    Chief Lending Officer and Director
J. Stephen Tipton    37    Chief Operating Officer    Chief Operating Officer
Tracy M. French    57    Executive Officer, Director    Chief Executive Officer, President and Director
Donna J. Townsell    48    Senior Executive Vice President, Director of Investor Relations and Director    Senior Executive Vice President and Director
Russell D. Carter, III    43    Executive Officer    Regional President

 

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Our Growth Strategy

Our goals are to achieve growth in earnings per share and to create and build stockholder value. Our growth strategy entails the following:

 

   

Strategic acquisitions – Strategic acquisitions (both FDIC-assisted and non-FDIC-assisted) have been a significant component of our historical growth strategy, and we believe properly priced bank acquisitions can continue to be a large part of our growth strategy. We anticipate that our principal acquisition focus will continue to be to expand our presence in Arkansas, Florida and Alabama and into other contiguous markets, although we may seek to expand into other areas if attractive financial opportunities in other market areas arise. We will continue to evaluate potential bank acquisition opportunities to determine whether they are in the best interests of our Company. Our goals in making these decisions are to maximize the return to our shareholders and to enhance our franchise.

 

   

Organic growth – We believe our current branch network provides us with the capacity to grow within our existing market areas. We also believe we are well positioned to attract new business and additional experienced personnel as a result of ongoing changes in our competitive markets. We believe the markets we entered into as a result of historical acquisitions provide us opportunities for organic growth as we now have a presence in several large markets where our market share has not previously been significant. Additionally, through our Centennial CFG franchise, we are continuing to build out a national lending platform that focuses on commercial real estate plus commercial and industrial loans. As opportunities arise, we will evaluate new (commonly referred to as de novo) branches in our current markets and in other attractive market areas. During 2018, two de novo branch locations were opened in Jonesboro and Russellville, Arkansas. During 2018, we also opened a loan production office in Dallas, Texas under the management of Centennial CFG. We will continue to evaluate de novo opportunities during 2019 and make decisions on a case-by-case basis in the best interest of the shareholders. Overall, we expect the organic loan growth we experienced during the last two years to continue in all of our markets as the economic environment has improved.

Community Banking Philosophy

Our community banking philosophy consists of four basic principles:

 

   

manage our community banking franchise with experienced bankers and community bank boards who are empowered to make customer-related decisions quickly;

 

   

provide exceptional service and develop strong customer relationships;

 

   

pursue the business relationships of our local boards of directors, executive officers, stockholders, and customers to actively promote our community bank; and

 

   

maintain our commitment to the communities we serve by supporting civic and nonprofit organizations.

These principles, which make up our community banking philosophy, are the driving force for our business. As we streamlined our legacy business into an efficient banking network and have integrated new acquisitions, we have preserved lending authority with local management in most cases by using local loan committees that maintain an integral connection to the communities we serve. These committees are empowered with lending authority of up to $6.0 million in their respective geographic areas. This allows us to capitalize on the strong relationships that these individuals and our local bank officers have in their respective communities to maintain and grow our business. Through experienced and empowered local bankers and board members, we are committed to maintaining a community banking experience for our customers.

 

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Operating Goals

Our operating goals focus on maintaining strong credit quality, increasing profitability, finding experienced bankers, and maintaining a “fortress” balance sheet:

 

   

Maintain strong credit quality – Credit quality is our first priority. We employ a set of credit standards designed to ensure the proper management of credit risk. Our management team plays an active role in monitoring compliance with these credit standards in the different communities served by Centennial Bank. We have a centralized loan review process, which we believe enables us to take prompt action on potential problem loans. During the past few years we have taken an aggressive approach to resolving problem loans, including those problem loans acquired in our FDIC-assisted and non-FDIC-assisted acquisitions. We are committed to maintaining high credit quality standards.

 

   

Continue to improve profitability – We will continue to strive to improve our profitability and achieve high performance ratios as we continue to utilize the available capacity of branches and employees. As we work out problem loans in our special assets department, we plan to emphasize business development and relationship enhancement in lending and retail areas in our newly acquired markets. Our efficiency ratio has improved from 62.68% for the year ended 2008 to 38.48% for the year ended 2018. The efficiency ratio is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax-equivalent basis and non-interest income. Our efficiency ratio, as adjusted, has improved from 59.4% for the year ended 2008 to 37.7% for the year ended 2018. The efficiency ratio, as adjusted, is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income excluding certain adjustments such as merger expenses and/or gain and losses. These improvements in operating efficiency are being driven by, among other factors, increasing revenue from organic loan growth, improving our cost savings from the acquisitions, implementing our efficiency study initiatives, streamlining the processes in our lending and retail operations and improving our purchasing power.

 

   

Attract and motivate experienced bankers – We believe a major factor in our success has been our ability to attract and motivate bankers who have experience in and knowledge of their local communities. Historically, our hiring and retaining experienced relationship bankers has been integral to our ability to grow quickly when entering new markets.

 

   

Maintain a “fortress” balance sheet – We intend to maintain a strong balance sheet through a focus on four key governing principles: (1) maintain solid asset quality; (2) remain well-capitalized; (3) pursue high performance metrics including return on tangible equity (ROTE), return on assets (ROA), efficiency ratio and net interest margin; and (4) retain liquidity at the bank holding company level that can be utilized should attractive acquisition opportunities be identified or for internal capital needs. We strive to maintain capital levels above the regulatory capital requirements through our focus on these governing principles, which historically has allowed us to take advantage of acquisition opportunities as they become available without the need for additional capital.

Our Market Areas

As of December 31, 2018, we conducted business principally through 77 branches in Arkansas, 76 branches in Florida, five branches in Alabama and one branch in New York City. Our branch footprint includes markets in which we are the deposit market share leader as well as markets where we believe we have opportunities for deposit market share growth. As of December 31, 2018, we also operate loan production offices in Los Angeles, California and Dallas, Texas through our Centennial CFG division and in Chesapeake, Virginia through our SPF division.

 

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Lending Activities

We originate loans primarily secured by single and multi-family real estate, residential construction and commercial buildings. In addition, we make loans to small and medium-sized commercial businesses as well as to consumers for a variety of purposes.

Our loan portfolio as of December 31, 2018, was comprised as follows:

 

     Total
Loans
Receivable
     Percentage
of portfolio
 
     (Dollars in thousands)  

Real estate:

     

Commercial real estate loans

     

Non-farm/non-residential

   $ 4,806,684        43.4

Construction/land development

     1,546,035        14.0  

Agricultural

     76,433        0.7  

Residential real estate loans

     

Residential 1-4 family

     1,975,586        17.8  

Multifamily residential

     560,475        5.1  
  

 

 

    

 

 

 

Total real estate

     8,965,213        81.0  

Consumer

     443,105        4.0  

Commercial and industrial

     1,476,331        13.3  

Agricultural

     48,562        0.4  

Other

     138,668        1.3  
  

 

 

    

 

 

 

Total

   $ 11,071,879        100.0
  

 

 

    

 

 

 

Real Estate – Non-farm/Non-residential. Non-farm/non-residential real estate loans consist primarily of loans secured by income-producing properties, such as shopping/retail centers, hotel/motel properties, office buildings, and industrial/warehouse properties. Commercial lending on income-producing properties typically involves higher loan principal amounts, and the repayment of these loans is dependent, in large part, on sufficient income from the properties collateralizing the loans to cover operating expenses and debt service. This category of loans also includes specialized properties such as churches, marinas, and nursing homes. Additionally, we make commercial mortgage loans to entities to operate in these types of properties, and the repayment of these loans is dependent, in large part, on the cash flow generated by these entities in the operations of the business. Often, a secondary source of repayment will include the sale of the subject collateral. When this is the case, it is generally our practice to obtain an independent appraisal of this collateral within the Interagency Appraisal and Evaluation Guidelines.

Real Estate – Construction/Land Development. This category of loans includes loans to residential and commercial developers to purchase raw land and to develop this land into residential and commercial land developments. In addition, this category includes construction loans for all of the types of real estate loans, including both commercial and residential. These loans are generally secured by a first lien on the real estate being purchased or developed. Often, the primary source of repayment will be the sale of the subject collateral. When this is the case, it is generally our practice to obtain an independent appraisal of this collateral within the Interagency Appraisal and Evaluation Guidelines.

Real Estate Residential. Our residential mortgage loan program primarily originates loans to individuals for the purchase of residential property. We generally do not retain long-term, fixed-rate residential real estate loans in our portfolio due to interest rate and collateral risks. Residential mortgage loans to individuals retained in our loan portfolio primarily consisted of approximately 30.2% owner occupied 1-4 family properties and approximately 58.7% non-owner occupied 1-4 family properties (rental) as of December 31, 2018 with the remaining 11.1% relating to condos and mobile homes. The primary source of repayment for these loans is generally the income and/or assets of the individual to whom the loan is made. Often, a secondary source of repayment will include the sale of the subject collateral. When this is the case, it is generally our practice to obtain an independent appraisal of this collateral within the Interagency Appraisal and Evaluation Guidelines.

 

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Consumer. While our focus is on service to small and medium-sized businesses, we also make a variety of loans to individuals for personal, family and household purposes, including secured and unsecured installment and term loans originated by our bank, the primary portion of which consists of loans to finance USCG registered high-end sail and power boats as a result of our acquisition of SPF on June 30, 2018. The primary source of repayment for these loans is generally the income and/or assets of the individual to whom the loan is made. The performance of consumer loans will be affected by the local and regional economies as well as the rates of personal bankruptcies, job loss, divorce and other individual-specific characteristics. When secured, we may independently assess the value of the collateral using a third-party valuation source.

Commercial and Industrial. Our commercial and industrial loan portfolio primarily consisted of 52.1% inventory/accounts receivable financing, 12.0% equipment/vehicle financing and 35.9% other, including letters of credit at less than 1%, as of December 31, 2018. This category includes loans to smaller business ventures, credit lines for working capital and short-term inventory financing, for example. These loans are typically secured by the assets of the business and are supplemented by personal guaranties of the principals and often mortgages on the principals’ primary residences. The primary source of repayment may be conversion of the assets into cash flow, as in inventory and accounts receivable, or may be cash flow generated by operations, as in equipment/vehicle financing. Assessing the value of inventory can involve many factors including, but not limited to, type, age, condition, level of conversion and marketability, and can involve applying a discount factor or obtaining an independent valuation, based on the assessment of the above factors. Assessing the value of accounts receivable can involve many factors including, but not limited to, concentration, aging, and industry, and can involve applying a discount factor or obtaining an independent valuation, based on the assessment of the above factors. Assessing the value of equipment/vehicles may involve a third-party valuation source, where applicable.

Agricultural Loans. Agricultural loans include loans for financing agricultural production, including loans to businesses or individuals engaged in the production of timber, poultry, livestock or crops and are not categorized as part of real estate loans. Our agricultural loans are generally secured by farm machinery, livestock, crops, vehicles or other agricultural-related collateral. A portion of our portfolio of agricultural loans is comprised of loans to individuals which would normally be characterized as consumer loans except for the fact that the individual borrowers are primarily engaged in the production of timber, poultry, livestock or crops.

Credit Risks. The principal economic risk associated with each category of the loans that we make is the creditworthiness of the borrower and the ability of the borrower to repay the loan. General economic conditions and the strength of the services and retail market segments affect borrower creditworthiness. General factors affecting a commercial borrower’s ability to repay include interest rates, inflation and the demand for the commercial borrower’s products and services as well as other factors affecting a borrower’s customers, suppliers and employees.

Risks associated with real estate loans also include fluctuations in the value of real estate, new job creation trends, tenant vacancy rates, and in the case of commercial borrowers, the quality of the borrower’s management. Consumer loan repayments depend upon the borrower’s financial stability and are more likely to be adversely affected by divorce, job loss, illness and other personal hardships.

 

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Lending Policies. We have established common loan documentation procedures and policies, based on the type of loan, for our bank subsidiary. The board of directors periodically reviews these policies for validity. In addition, it has been and will continue to be our practice to attempt to independently verify information provided by our borrowers, including assets and income. We have not made loans similar to those commonly referred to as “no doc” or “stated income” loans. We focus on the primary and secondary methods of repayment, and prepare global cash flows where appropriate. There are legal restrictions on the dollar amount of loans available for each lending relationship. The Arkansas Banking Code provides that no loan relationship may exceed 20% of a bank’s risk-based capital, and we are in compliance with this restriction. In addition, we are not dependent upon any single lending relationship for an amount exceeding 10% of our revenues. As of December 31, 2018, the maximum amount outstanding to a single borrower was $172.7 million. As a community lender, we believe from time to time it is in our best interest to agree to modifications or restructurings. These modifications/restructurings can take the form of a reduction in interest rate, a move to interest-only from principal and interest payments, or a lengthening in the amortization period or any combination thereof. Occasionally, we will modify/restructure a single loan by splitting it into two loans following the interagency guidance involving the workout of commercial real estate loans. The loan representing the portion that is supported by the current cash flow of the borrower or project will remain on our books, while the new loan representing the portion that cannot be serviced by the current cash flow is charged-off. Furthermore, we may make an additional loan or loans to a borrower or related interest of a borrower who is past due more than 90 days. These circumstances will be very limited in nature, and when approved by the appropriate lending authority, will likely involve obtaining additional collateral that will improve the collectability of the overall relationship. It is our belief that judicious usage of these tools can improve the quality of our loan portfolio by providing our borrowers an improved probability of survival during difficult economic times.

Loan Approval Procedures. Our bank subsidiary has supplemented our common loan policies to establish its loan approval procedures as follows:

 

   

Individual Authorities. The board of directors of Centennial Bank establishes the authorization levels for individual loan officers on a case-by-case basis. Generally, the more experienced a loan officer, the higher the authorization level. The approval authority for individual loan officers ranges from $10,000 to $2.5 million for secured loans and from $1,000 to $100,000 for unsecured loans.

 

   

Officers’ Loan Committees. Our bank subsidiary also gives its Officers’ Loan Committees loan approval authority. Credits in excess of individual loan limits are submitted to the region’s Officers’ Loan Committee. The Officers’ Loan Committee consists of members of the senior management team of that region and is chaired by that region’s chief lending officer. The regional Officers’ Loan Committees have approval authority of up to $2.0 million secured on all loans and $100,000 unsecured on loan renewals.

 

   

Directors’ Loan Committee. Our bank subsidiary has Directors’ Loan Committees (“DLCs”) throughout our market areas consisting of outside directors and senior lenders of the respective market areas. Generally, each DLC requires a majority of outside directors be present to establish a quorum. Generally, this committee is chaired either by the Division Chief Lending Officer or the Regional President. The regional DLCs have approval authority up to $6.0 million secured and $3.0 million unsecured.

 

   

Executive Loan Committee – The board of directors of Centennial Bank established the Executive Loan Committee consisting of three outside board members and members of executive management. This committee requires five voting members to establish a quorum, including at least two of the outside board members, and is chaired by the Chief Lending Officer of the bank. The Executive Loan Committee has approval authority up to the in-house consolidated lending limit of $20.0 million.

Currently, our board of directors has established an in-house consolidated lending limit of $20.0 million to any one borrowing relationship without obtaining the approval of both our Chairman and our director Richard H. Ashley. We have 106 separate relationships that exceed this in-house limit.

 

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Deposits and Other Sources of Funds

Our principal source of funds for loans and investing in securities is core deposits. We offer a wide range of deposit services, including checking, savings, money market accounts and certificates of deposit. We obtain most of our deposits from individuals and small businesses, and municipalities in our market areas. We believe that the rates we offer for core deposits are competitive with those offered by other financial institutions in our market areas. Additionally, our policy also permits the acceptance of brokered deposits. Secondary sources of funding include advances from the Federal Home Loan Bank of Dallas, the Federal Reserve Bank Discount Window and other borrowings. These secondary sources enable us to borrow funds at rates and terms which, at times, are more beneficial to us.

Other Banking Services

Given customer demand for increased convenience and account access, we offer a range of products and services, including 24-hour internet banking, mobile banking and voice response information, cash management, overdraft protection, direct deposit, safe deposit boxes, United States savings bonds and automatic account transfers. We earn fees for most of these services. We also receive ATM transaction fees from transactions performed by our customers participating in a shared network of automated teller machines and a debit card system that our customers can use throughout the United States, as well as in other countries.

As a result of our acquisition of Stonegate in September 2017, we also offer credit cards to both consumers and businesses. Credit cards typically involve a higher degree of credit risk since outstanding balances are unsecured and repayment of such balances is often negatively impacted by a decline in economic conditions. Our credit cards offer a variety of benefits and features designed to meet the needs of our customer. In addition, our consumer credit cards can be used in Cuba.

Insurance

Centennial Insurance Agency, Inc. is an independent insurance agency, originally founded in 1959 and purchased by Centennial Bank in 2000. Centennial Insurance Agency writes policies for commercial and personal lines of business including insurance for property, casualty, life, health and employee benefits. It is subject to regulation by the Arkansas Insurance Department. The offices of Centennial Insurance Agency are currently located in Jacksonville, Cabot and Conway, Arkansas.

Cook Insurance Agency, Inc. is an independent insurance agency, originally founded in 1913 and acquired by Centennial Bank in 2010 during our FDIC-assisted acquisition of Gulf State Community Bank. Cook Insurance Agency writes policies for commercial and personal lines of business including life insurance. It is subject to regulation by the Florida Insurance Department. The offices of Cook Insurance Agency are located in Apalachicola and Crawfordville, Florida.

 

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Competition

As of December 31, 2018, we conducted business through 159 branches in our primary market areas of Pulaski, Faulkner, Craighead, Lonoke, Pope, Washington, White, Benton, Greene, Sebastian, Cleburne, Independence, Stone, Baxter, Clay, Conway, Crawford, Johnson, Saline, Sharp and Yell counties in Arkansas; Broward, Monroe, Hillsborough, Leon, Sarasota, Bay, Franklin, Palm Beach, Gulf, Charlotte, Collier, Escambia, Orange, Osceola, Pasco, Pinellas, Polk, Walton, Miami-Dade, Lee, Calhoun, Gadsden, Hernando, Liberty, Okaloosa, Santa Rosa, Seminole, Wakulla and Manatee counties in Florida; Baldwin County in Alabama; and New York County in New York. Many other commercial banks, savings institutions and credit unions have offices in our primary market areas. These institutions include many of the largest banks operating in these respective states, including some of the largest banks in the country. Many of our competitors serve the same counties we do. Our competitors often have greater resources, have broader geographic markets, have higher lending limits, offer various services that we may not currently offer and may better afford and make broader use of media advertising, support services and electronic technology than we do. To offset these competitive disadvantages, we depend on our reputation as having greater personal service, consistency, and flexibility and the ability to make credit and other business decisions quickly.

Employees

On December 31, 2018, we had 1,815 full-time equivalent employees. Except for any additional employees acquired in future acquisitions, we expect that our 2019 staffing levels will be slightly higher than those at year end 2018 to meet increased regulatory requirements resulting from exceeding $10 billion in assets. We consider our employee relations to be good, and we have no collective bargaining agreements with any employees.

SUPERVISION AND REGULATION

General

We and our bank subsidiary are subject to extensive state and federal banking regulations that impose restrictions on and provide for general regulatory oversight of our company and its operations. These laws generally are intended to protect depositors, the deposit insurance fund of the Federal Deposit Insurance Corporation (“FDIC”) and the banking system as a whole, and not shareholders.

The following discussion describes the material elements of the regulatory framework that applies to us. This description is qualified in its entirety by reference to the full text of the statutes, regulations and policies that are described. Also, such statutes, regulations and policies are continually under review by Congress and state legislatures and federal and state regulatory agencies. A change in statutes, regulations or regulatory policies applicable to us and our subsidiaries could have a material effect on our business, financial condition and results of operations. Because our bank subsidiary’s total assets exceed $10 billion, it is subject to additional supervision and regulation, including by the Consumer Financial Protection Bureau (“CFPB”), with such additional supervision and regulation discussed throughout this section.

Financial Regulatory Reform

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”) made extensive changes in the regulation of financial institutions and their holding companies. The Dodd-Frank Act contains a comprehensive set of provisions designed to govern the practices and oversight of financial institutions and other participants in the financial markets. Some of these provisions are described in more detail below. Many provisions of the Dodd-Frank Act have delayed effective dates, and the legislation requires various federal agencies to adopt a broad range of new rules and regulations, some of which have not yet been issued in final form. In addition, we and our bank subsidiary became subject to certain Dodd-Frank Act provisions for the first time in 2018 as our bank subsidiary’s total assets exceeded $10 billion. We expect our operating and compliance costs to continue to increase as a result of the Dodd-Frank Act and implementing its regulations.

 

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Home BancShares

We are a bank holding company registered under the federal Bank Holding Company Act of 1956 (the “Bank Holding Company Act”) and are subject to supervision, regulation and examination by the Federal Reserve Board. The Bank Holding Company Act and other federal laws subject bank holding companies to particular restrictions on the types of activities in which they may engage, and to a range of supervisory requirements and activities, including regulatory enforcement actions for violations of laws and regulations.

Acquisitions of Banks. The Bank Holding Company Act requires every bank holding company to obtain the Federal Reserve Board’s prior approval before:

 

   

acquiring direct or indirect ownership or control of any voting shares of any bank if, after the acquisition, the bank holding company will directly or indirectly own or control more than 5% of the bank’s voting shares;

 

   

acquiring all or substantially all of the assets of any bank; or

 

   

merging or consolidating with any other bank holding company.

Under the Bank Holding Company Act, if well-capitalized and well managed, we, as well as other bank holding companies located within the states in which we operate, may purchase a bank located outside of those states. Conversely, a well-capitalized and well managed bank holding company located outside of the states in which we operate may purchase a bank located inside those states. In each case, however, restrictions may be placed on the acquisition of a bank that has only been in existence for a limited amount of time or will result in specified concentrations of deposits. In approving bank acquisitions by bank holding companies, the Federal Reserve Board is required to consider, among other things, the financial and managerial resources and future prospects of the bank holding company and the banks concerned, the convenience and needs of the communities to be served and various competitive factors.

Permitted Activities. A bank holding company is generally permitted under the Bank Holding Company Act to engage in or acquire direct or indirect control of more than 5% of the voting shares of any company engaged in the following activities:

 

   

banking or managing or controlling banks; and

 

   

any activity that the Federal Reserve Board determines to be so closely related to banking as to be a proper incident to the business of banking.

Activities that the Federal Reserve Board has found to be so closely related to banking as to be a proper incident to the business of banking include but are not limited to: factoring accounts receivable; making, acquiring, brokering or servicing loans and usual related activities; leasing personal or real property; operating a non-bank depository institution, such as a savings association; trust company functions; financial and investment advisory activities; conducting securities brokerage activities; underwriting and dealing in government obligations and money market instruments; providing specified management consulting and counseling activities; performing selected data processing services and support services; acting as agent or broker in selling credit life insurance and other types of insurance in connection with credit transactions; and performing selected insurance underwriting activities.

Support of Subsidiary Institutions. Under the Dodd-Frank Act, we are required to act as a source of financial strength for our bank subsidiary and to commit resources to support the bank. Under current federal law, the Federal Reserve may require us to make capital injections into our bank subsidiary and may charge us with engaging in unsafe and unsound practices if we fail to commit resources to our bank subsidiary or if we undertake actions that the Federal Reserve believes might jeopardize our ability to commit resources to the bank. As a result, an obligation to support our bank subsidiary may be required at times when, without this requirement, we might not be inclined to provide it.

Safe and Sound Banking Practices. Bank holding companies are not permitted to engage in unsafe and unsound banking practices. The Federal Reserve Board’s Regulation Y, for example, generally requires a holding company to give the Federal Reserve Board prior notice of any redemption or repurchase of its own equity securities, if the consideration to be paid, together with the consideration paid for any repurchases or redemptions in the preceding year, is equal to 10% or more of the company’s consolidated net worth. The Federal Reserve Board may oppose the transaction if it believes that the transaction would constitute an unsafe or unsound practice or would violate any law or regulation. Depending upon the circumstances, the Federal Reserve Board could take the position that paying a dividend would constitute an unsafe or unsound banking practice.

 

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The Federal Reserve Board has broad authority to prohibit activities of bank holding companies and their non-banking subsidiaries which represent unsafe and unsound banking practices or which constitute violations of laws or regulations, and can assess civil money penalties for certain activities conducted on a knowing and reckless basis, if those activities caused a substantial loss to a depository institution. The penalties can be as high as approximately $2 million for each day the activity continues.

Annual Reporting; Examinations. We are required to file annual reports with the Federal Reserve Board, and such additional information as the Federal Reserve Board may require pursuant to the Bank Holding Company Act. The Federal Reserve Board may examine a bank holding company or any of its subsidiaries and charge the company for the cost of such examination.

Capital Adequacy Requirements. The Federal Reserve Board has adopted a system using risk-based capital guidelines to evaluate the capital adequacy of bank holding companies having $500 million or more in assets on a consolidated basis. Under the guidelines, specific categories of assets are assigned different risk weights, based generally on the perceived credit risk of the asset. These risk weights are multiplied by corresponding asset balances to determine a “risk-weighted” asset base. The guidelines in effect as of December 31, 2018 require a minimum total risk-based capital ratio of 8.0% (of which at least 6.0% is required to consist of Tier 1 capital elements) and a total risk-based capital ratio of at least 10% (of which at least 8.0% is required to consist of Tier 1 capital elements) to be “well-capitalized.” Total capital is the sum of Tier 1 and Tier 2 capital. As of December 31, 2018, our Tier 1 risk-based capital ratio was 11.93% and our total risk-based capital ratio was 15.31%. Thus, as of December 31, 2018, we are considered well-capitalized for regulatory purposes.

In addition to the risk-based capital guidelines, the Federal Reserve Board uses a leverage ratio as an additional tool to evaluate the capital adequacy of bank holding companies. The leverage ratio is a company’s Tier 1 capital divided by its average total consolidated assets. Certain highly-rated bank holding companies may maintain a minimum leverage ratio of 3.0%, but other bank holding companies are required to maintain a leverage ratio of at least 4.0%. Well-capitalized is a leverage ratio in excess of 5%. As of December 31, 2018, our leverage ratio was 10.36%.

The federal banking agencies’ risk-based and leverage ratios are minimum supervisory ratios generally applicable to banking organizations that meet certain specified criteria. The federal bank regulatory agencies may set capital requirements for a particular banking organization that are higher than the minimum ratios when circumstances warrant. Federal Reserve Board guidelines also provide that banking organizations experiencing internal growth or making acquisitions will be expected to maintain strong capital positions, substantially above the minimum supervisory levels, without significant reliance on intangible assets.

The Dodd-Frank Act includes certain provisions concerning the capital regulations of the federal banking agencies. These provisions, often referred to as the “Collins Amendment,” are intended to subject bank holding companies to the same capital requirements as their bank subsidiaries and to eliminate or significantly reduce the use of hybrid capital instruments, especially trust preferred securities, as regulatory capital. Under the Collins Amendment, trust preferred securities issued before May 19, 2010 by a company, such as our Company, with total consolidated assets of less than $15 billion as of December 31, 2009, and treated as regulatory capital are grandfathered, but any such securities issued later are not eligible as regulatory capital. The Collins Amendment requires banking regulators to develop regulations setting minimum risk-based and leverage capital requirements for holding companies and banks on a consolidated basis that are no less stringent than the generally applicable requirements in effect for depository institutions under the prompt corrective action regulations discussed below. The banking regulators also must seek to make capital standards countercyclical so that the required levels of capital increase in times of economic expansion and decrease in times of economic contraction.

In July 2013, the Federal Reserve Board and the other federal bank regulatory agencies issued a final rule to revise their risk-based and leverage capital requirements and their method for calculating risk-weighted assets to make them consistent with the agreements that were reached by the Basel Committee on Banking Supervision in “Basel III: A Global Regulatory Framework for More Resilient Banks and Banking Systems” (“Basel III”) and certain provisions of the Dodd-Frank Act. The final rule applies to all depository institutions, bank holding companies with total

 

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consolidated assets of $500 million or more and savings and loan holding companies (collectively, “banking organizations”). Among other things, the rule established a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets) and a higher minimum Tier 1 risk-based capital requirement (6% of risk-weighted assets) and assigns higher risk weightings (150%) to exposures that are more than 90 days past due or are on non-accrual status and certain commercial real estate facilities that finance the acquisition, development or construction of real property. As of December 31, 2018, the Company’s common equity Tier 1 capital ratio was 11.34%.

The final rule permanently grandfathers trust preferred securities and other non-qualifying capital instruments that were issued and outstanding as of May 19, 2010 in the Tier 1 capital of bank holding companies with total consolidated assets of less than $15 billion as of December 31, 2009. The rule phases out of Tier 1 capital these non-qualifying capital instruments issued before May 19, 2010 by all other bank holding companies. Because our total consolidated assets were less than $15 billion as of December 31, 2009, our outstanding trust preferred securities continue to be treated as Tier 1 capital. However, now that we have exceeded $15 billion in assets, if we acquire another financial institution in the future, then the Tier 1 treatment of our outstanding trust preferred securities will be phased out, but those securities will still be treated as Tier 2 capital.

The final rule also limits a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” of 2.5% of common equity Tier 1 capital to risk-weighted assets, which is in addition to the amount necessary to meet its minimum risk-based capital requirements. The final rule became effective for the Company and our bank subsidiary on January 1, 2015. The capital conservation buffer requirement began being phased in on January 1, 2016, and the full capital conservation buffer requirement became effective January 1, 2019. As of January 1, 2016, the required capital conservation buffer was 0.625% of common equity Tier 1 capital to risk-weighted assets. The required capital conservation buffer increased to 1.25% as of January 1, 2017, 1.875% effective January 1, 2018 and 2.5% effective January 1, 2019. As of December 31, 2018, our capital conservation buffer was 5.93%.

Liquidity Requirements. Historically, the regulation and monitoring of bank and bank holding company liquidity has been addressed as a supervisory matter, without minimum required formulaic measures. The Basel III liquidity framework requires banks and bank holding companies to measure their liquidity against specific liquidity tests that, although similar in some respects to liquidity measures historically applied by banks and regulators for management and supervisory purposes, going forward would be required by regulation. One test, referred to as the liquidity coverage ratio, is designed to ensure that the banking entity maintains an adequate level of unencumbered high-quality liquid assets equal to the entity’s expected net cash outflow for a 30-day time horizon (or, if greater, 25% of its expected total cash outflow) under an acute liquidity stress scenario. The other test, referred to as the net stable funding ratio, is designed to promote more medium- and long-term funding of the assets and activities of banking entities over a one-year time horizon. These requirements are expected to incent banking entities to increase their holdings of U.S. Treasury securities and other sovereign debt as a component of assets and increase the use of long-term debt as a funding source. The federal banking agencies have not determined to what extent they will apply to U.S. banks that are not large, internationally active banks.

Stress Testing. Pursuant to the Dodd-Frank Act, in October 2012, the Federal Reserve Board published its final rules regarding company-run stress testing. The rules require institutions with average total consolidated assets greater than $10 billion, such as the Company and our bank subsidiary, to conduct an annual company-run stress test of capital and consolidated earnings and losses under one base and at least two stress scenarios provided by bank regulatory agencies.

On May 24, 2018, the Economic Growth, Regulatory Relief, and Consumer Protection Act (the “EGRRCPA”) was signed into law, making certain limited amendments to the Dodd-Frank Act, as well as certain targeted modifications to other post-financial crisis regulations. Among other things, the law raises the asset thresholds for Dodd-Frank Act company-run stress testing, liquidity coverage and living will requirements for bank holding companies to $250 billion, subject to the ability of the Fed to apply such requirements to institutions with assets of $100 billion or more to address financial stability risks or safety and soundness concerns. On July 6, 2018, the Federal Reserve, the FDIC and the Office of the Comptroller of the Currency (the “OCC”) issued a joint interagency statement regarding the impact of the EGRRCPA. As a result of this statement and the EGRRCPA, we and our bank subsidiary are no longer subject to Dodd-Frank Act stress testing requirements and were not required to undergo stress testing in 2018. Notwithstanding these amendments to the stress testing requirements, the federal banking agencies indicated

 

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through interagency guidance that the capital planning and risk management practices of institutions with total assets less than $100 billion would continue to be reviewed through the regular supervisory process. We will continue to monitor our capital consistent with the safety and soundness expectations of the federal regulators.

Risk Management. Regulation YY requires publicly-traded bank holding companies with $10 billion or more in total assets to establish a risk committee responsible for oversight of enterprise-wide risk management practices. The committee must be chaired by an independent director and include at least one risk management expert with experience in managing risk exposures of large, complex firms. As a result of our total assets exceeding $10 billion, we established a risk committee meeting these requirements. However, effective May 2018, the recently enacted EGRRCPA increased the asset threshold for mandatory risk committees from $10 billion to $50 billion in total assets. While we are no longer required to maintain a risk committee, we currently continue to utilize our risk committee to oversee our enterprise-wide risk management practices.

Regulation YY also requires us, as a publicly-traded bank holding company with $10 billion or more in total consolidated assets, to have a global risk management framework commensurate with their structure, risk profile, complexity, activities, and size. The risk management framework must include risk management policies and procedures, as well as processes and controls to implement them. Accordingly, we have adopted a compliant risk management framework.

Payment of Dividends. We are a legal entity separate and distinct from our bank subsidiary and other affiliated entities. The principal sources of our cash flow, including cash flow to pay dividends to our shareholders, are dividends that our bank subsidiary pays to us as its sole shareholder. Statutory and regulatory limitations apply to the dividends that our bank subsidiary can pay to us, as well as to the dividends we can pay to our shareholders.

The policy of the Federal Reserve Board that a bank holding company should serve as a source of strength to its subsidiary bank also results in the position of the Federal Reserve Board that a bank holding company should not maintain a level of cash dividends to its shareholders that places undue pressure on the capital of its bank subsidiary or that can be funded only through additional borrowings or other arrangements that may undermine the bank holding company’s ability to serve as such a source of strength. Our ability to pay dividends is also subject to the provisions of Arkansas law.

There are certain state-law limitations on the payment of dividends by our bank subsidiary. Centennial Bank, which is subject to Arkansas banking laws, may not declare or pay a dividend of 75% or more of the net profits of such bank after all taxes for the current year plus 75% of the retained net profits for the immediately preceding year without the prior approval of the Arkansas State Bank Commissioner. Members of the Federal Reserve System must also comply with the dividend restrictions with which a national bank would be required to comply. Among other things, these restrictions require that if losses have at any time been sustained by a bank equal to or exceeding its undivided profits then on hand, no dividend may be paid. Although we have historically paid quarterly dividends on our common stock, there can be no assurances that we will be able to pay dividends in the future under the applicable regulatory limitations.

The payment of dividends by us, or by our bank subsidiary, may also be affected by other factors, such as the requirement to maintain adequate capital above regulatory guidelines. The federal banking agencies have indicated that paying dividends that deplete a depository institution’s capital base to an inadequate level would be an unsafe and unsound banking practice. Under FDICIA, a depository institution may not pay any dividend if payment would result in the depository institution being undercapitalized.

Subsidiary Bank

General. Our bank subsidiary, Centennial Bank, is chartered as an Arkansas state bank and is a member of the Federal Reserve System, making it primarily subject to regulation and supervision by both the Federal Reserve Board and the Arkansas State Bank Department. In addition, our bank subsidiary is subject to various requirements and

 

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restrictions under federal and state law, including requirements to maintain reserves against deposits, restrictions on the types and amounts of loans that may be granted and the interest that they may charge, and limitations on the types of investments they may make and on the types of services they may offer. Various consumer laws and regulations also affect the operations of our bank subsidiary. Further, because our bank subsidiary had total assets of over $10 billion as of December 31, 2018, it is subject to supervision and regulation by the CFPB, which is responsible for implementing, examining and enforcing compliance with federal consumer protection laws.

Prompt Corrective Action. The Federal Deposit Insurance Corporation Improvement Act of 1991 establishes a system of prompt corrective action to resolve the problems of undercapitalized financial institutions. Under this system, the federal banking regulators have established five capital categories (well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized) in which all institutions are placed. Federal banking regulators are required to take various mandatory supervisory actions and are authorized to take other discretionary actions with respect to institutions in the three undercapitalized categories. The severity of the action depends upon the capital category in which the institution is placed. The federal banking agencies have specified by regulation the relevant capital level for each category.

An institution that is categorized as undercapitalized, significantly undercapitalized or critically undercapitalized is required to submit an acceptable capital restoration plan to its appropriate federal banking agency. An undercapitalized institution is also generally prohibited from increasing its average total assets, making acquisitions, establishing any branches or engaging in any new line of business, except under an accepted capital restoration plan or with FDIC approval. The regulations also establish procedures for downgrading an institution to a lower capital category based on supervisory factors other than capital.

The Basel III final rule issued by the federal bank regulatory agencies in July 2013 amended the prompt corrective action rules to incorporate a common equity Tier 1 capital requirement and to raise the capital requirements for certain capital categories. These rules became effective as of January 1, 2015. In order to be adequately capitalized for purposes of the prompt corrective action rules, a banking organization will be required to have at least an 8% total risk-based capital ratio, a 6% Tier 1 risk-based capital ratio, a 4.5% common equity Tier 1 risk-based capital ratio and a 4% Tier 1 leverage ratio. To be well-capitalized, a banking organization will be required to have at least a 10% total risk-based capital ratio, an 8% Tier 1 risk-based capital ratio, a 6.5% common equity Tier 1 risk-based capital ratio and a 5% Tier 1 leverage ratio.

Deposit Insurance and Assessments. Centennial Bank’s deposit accounts are insured up to applicable limits by the FDIC’s Deposit Insurance Fund (“DIF”). The Dodd-Frank Act permanently increased the deposit coverage limit to $250,000 per depositor retroactive to January 1, 2008.

The FDIC imposes an assessment against institutions for deposit insurance. This assessment is based primarily on the risk category of the institution and certain risk adjustments specified by the FDIC, with riskier institutions paying higher assessments. Under the FDIC’s risk-based assessment system, insured institutions with at least $10 billion in assets are assessed on the basis of a scoring system that combines the institution’s regulatory ratings and certain financial measures. The scoring system assesses risk measures to produce two scores, a performance score and a loss severity score, that will be combined and converted to an initial assessment rate. The performance score measures an institution’s financial performance and its ability to withstand stress. The loss severity score quantifies the relative magnitude of potential losses to the FDIC in the event of an institution’s failure. Once the performance and loss severity scores are calculated, these scores will be converted to a total score. The FDIC has the authority to raise or lower assessment rates, subject to limits, and to impose special additional assessments.

The FDIC’s restoration program for the DIF adopted in 2010 is designed to bolster the DIF reserve ratio to 1.35% by September 30, 2020, as required by the Dodd-Frank Act. The plan provides that, at least semi-annually, the FDIC will update its loss and income projections for the DIF and, if needed, will increase or decrease assessment rates, following notice-and-comment rulemaking if required. Under the Dodd-Frank Act, insured institutions with assets of $10 billion or more are required to fund the increase in the designated reserve ratio (“DRR”) to 1.35%.

 

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In 2011, the FDIC approved a final rule implementing changes to the deposit insurance assessment system, as authorized by the Dodd-Frank Act, which, among other things, changed the assessment base for insured depository institutions from adjusted domestic deposits to the institution’s average consolidated total assets during an assessment period less average tangible equity capital (Tier 1 capital) during that period. The rule revised the assessment rate schedule so that it ranges from 2.5 basis points for the least risky institutions to 45 basis points for the riskiest institutions. The rule also suspended indefinitely the requirement of the FDIC to pay dividends from the DIF when it reaches 1.5% of insured deposits. In lieu of the dividends, the FDIC adopted progressively lower assessment rate schedules when the reserve ratio exceeds 1.15%, 2.0% and 2.5%, respectively. In addition, a final rule issued by the FDIC in March 2016 required insured institutions with an assessment base (total assets less tangible capital) of over $10 billion to pay surcharge insurance assessments at an annual rate of 4.5 basis points of their assessment base, starting the quarter after the DRR surpassed 1.15% and ending when the DRR reached 1.35%. The 4.5 basis point surcharge will be assessed against each covered institution’s assessment base, less $10 billion.

The DRR exceeded 1.15% as of June 30, 2016. As a result, the base deposit insurance rates now range from (i) 1.5 to 30 basis points of an institution’s assessment base for small banks and (ii) 1.5 to 40 basis points for institutions with an assessment base of over $10 billion, which are also now subject to the 4.5 basis point surcharge. The surcharge continued through October 1, 2018, when the reserve ratio exceeded 1.35%.

In addition, all institutions with deposits insured by the FDIC must pay assessments to fund interest payments on bonds issued by the Financing Corporation, a mixed-ownership government corporation established as a financing vehicle for the Federal Savings & Loan Insurance Corporation. The assessment rate for the first quarter of fiscal 2018 is 0.46% of assets and is adjusted quarterly. These assessments will continue until the bonds mature in 2019.

Under the Federal Deposit Insurance Act, as amended, the FDIC may terminate deposit insurance upon a finding that the institution has engaged in unsafe and unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC.

Community Reinvestment Act. The Community Reinvestment Act requires, in connection with examinations of financial institutions, that federal banking regulators evaluate the record of each financial institution in meeting the credit needs of its local community, including low and moderate-income neighborhoods. These facts are also considered in evaluating mergers, acquisitions and applications to open a branch or facility. Failure to adequately meet these criteria could impose additional requirements and limitations on our bank subsidiary. Additionally, we must publicly disclose the terms of various Community Reinvestment Act-related agreements. Our bank subsidiary received a “satisfactory” CRA rating from the Federal Reserve Bank during its last exam as published in our bank’s CRA Public Evaluation.

Capital Requirements. Our bank subsidiary is also subject to certain restrictions on the payment of dividends as a result of the requirement that it maintain adequate levels of capital in accordance with guidelines promulgated from time to time by applicable regulators. The regulating agencies consider a bank’s capital levels when taking action on various types of applications and when conducting supervisory activities related to the safety and soundness of individual banks and the banking system. The Federal Reserve Bank monitors the capital adequacy of our bank subsidiary by using a combination of risk-based guidelines and leverage ratios.

The FDIC Improvement Act. The Federal Deposit Insurance Corporation Improvement Act of 1991, or “FDICIA,” made a number of reforms addressing the safety and soundness of the deposit insurance system, supervision of domestic and foreign depository institutions, and improvement of accounting standards. This statute also limited deposit insurance coverage, implemented changes in consumer protection laws and provided for least-cost resolution and prompt regulatory action with regard to troubled institutions.

FDICIA requires every bank with total assets in excess of $500 million to have an annual independent audit made of the bank’s financial statements by an independent public accountant to verify that the financial statements of the bank are presented fairly and in accordance with generally accepted accounting principles and comply with such other disclosure requirements as prescribed by the FDIC. FDICIA also places certain restrictions on activities of banks depending on their level of capital.

 

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The capital classification of a bank affects the frequency of examinations of the bank and impacts the ability of the bank to engage in certain activities and affects the deposit insurance premiums paid by such bank. Under FDICIA, the federal banking regulators are required to conduct a full-scope, on-site examination of every bank at least once every 12 months.

Brokered Deposits. Under FDICIA, banks may be restricted in their ability to accept brokered deposits, depending on their capital classification. “Well-capitalized” banks are permitted to accept brokered deposits, but banks that are not well-capitalized are not permitted to accept such deposits. The FDIC may, on a case-by-case basis, permit banks that are adequately capitalized to accept brokered deposits if the FDIC determines that acceptance of such deposits would not constitute an unsafe or unsound banking practice with respect to the bank. The EGRRCPA enacted in May 2018 provides that most reciprocal deposits are no longer treated as brokered deposits.

Federal Home Loan Bank (“FHLB”) System. The Federal Home Loan Bank system, of which our bank subsidiary is a member, consists of regional FHLBs governed and regulated by the Federal Housing Finance Agency, or FHFA. The FHLBs serve as reserve or credit facilities for member institutions within their assigned regions. They are funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB system. They make loans (i.e., advances) to members in accordance with policies and procedures established by the FHLB and the boards of directors of each regional FHLB.

As a system member, our bank subsidiary is entitled to borrow from the FHLB of its region and is required to own a certain amount of capital stock in the FHLB. Our bank subsidiary is in compliance with the stock ownership rules with respect to such advances, commitments and letters of credit and home mortgage loans and similar obligations. All loans, advances and other extensions of credit made by the FHLB to our bank subsidiary are secured by a portion of its respective loan portfolio, certain other investments and the capital stock of the FHLB held by such bank.

Federal Reserve System. Federal Reserve regulations require depository institutions to maintain cash reserves against their transaction accounts (primarily NOW and demand deposit accounts). A reserve of 3% is to be maintained against aggregate transaction accounts between $16.0 million and $122.3 million (subject to adjustment by the Federal Reserve) plus a reserve of 10% (subject to adjustment by the Federal Reserve between 8% and 14%) against that portion of total transaction accounts in excess of $122.3 million. The first $16.0 million of otherwise reservable balances (subject to adjustment by the Federal Reserve) is exempt from the reserve requirements. Our bank subsidiary is in compliance with the foregoing requirements.

Concentrated Commercial Real Estate Lending Regulations. The federal banking agencies, including the FDIC, have promulgated guidance governing financial institutions with concentrations in commercial real estate lending, which was re-emphasized in December 2015. The guidance provides that a bank has a concentration in commercial real estate lending if (1) total reported loans for construction, land development and other land represent 100% or more of total capital or (2) total reported loans secured by multifamily and non-farm residential properties and loans for construction, land development and other land represent 300% or more of total capital and the bank’s commercial real estate loan portfolio has increased 50% or more during the prior 36 months. Owner occupied loans are excluded from this second category. If a concentration is present, management must employ heightened risk management practices that address the following key elements: including board and management oversight and strategic planning, portfolio management, development of underwriting standards, risk assessment and monitoring through market analysis and stress testing, and maintenance of increased capital levels as needed to support the level of commercial real estate lending.

Mortgage Banking Operations. Our bank subsidiary is subject to the rules and regulations of FHA, VA, FNMA, FHLMC and GNMA with respect to originating, processing, selling and servicing mortgage loans and the issuance and sale of mortgage-backed securities. Those rules and regulations, among other things, prohibit discrimination and establish underwriting guidelines which include provisions for inspections and appraisals, require credit reports on prospective borrowers and fix maximum loan amounts, and, with respect to VA loans, fix maximum interest rates.

 

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Consumer Financial Protection. Our bank subsidiary is subject to a number of federal and state consumer protection laws that extensively govern its relationship with its customers. These laws include the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the Home Mortgage Disclosure Act, the Fair Housing Act, the Real Estate Settlement Procedures Act, the Fair Debt Collection Practices Act, the Service Members Civil Relief Act and these laws’ respective state-law counterparts, as well as state usury laws and laws regarding unfair and deceptive acts and practices. These and other federal laws, among other things, require disclosures of the cost of credit and terms of deposit accounts, provide substantive consumer rights, prohibit discrimination in credit transactions, regulate the use of credit report information, provide financial privacy protections, prohibit unfair, deceptive and abusive practices, restrict the bank’s ability to raise interest rates and subject the bank to substantial regulatory oversight. Violations of applicable consumer protection laws can result in significant potential liability from litigation brought by customers, including actual damages, restitution and attorneys’ fees. Federal bank regulators, state attorneys general and state and local consumer protection agencies may also seek to enforce consumer protection requirements and obtain these and other remedies, including regulatory sanctions, customer rescission rights, action by the state and local attorneys general in each jurisdiction in which our bank subsidiary operates and civil money penalties. Failure to comply with consumer protection requirements may also result in our bank subsidiary’s failure to obtain any required bank regulatory approval for merger or acquisition transactions the bank may wish to pursue or its prohibition from engaging in such transactions even if approval is not required.

The Dodd-Frank Act established the CFPB, which has supervisory authority over depository institutions with total assets of $10 billion or greater. The CFPB focuses its supervision and regulatory efforts on (1) risks to consumers and compliance with the federal consumer financial laws when it evaluates the policies and practices of a financial institution; (2) the markets in which firms operate and risks to consumers posed by activities in those markets; (3) depository institutions that offer a wide variety of consumer financial products and services; (4) certain depository institutions with a more specialized focus; and (5) non-depository companies that offer one or more consumer financial products or services.

The CFPB has broad rulemaking authority for a wide range of consumer financial laws that apply to all banks, including, among other things, the authority to prohibit “unfair, deceptive or abusive” acts and practices. Abusive acts or practices are defined as those that materially interfere with a consumer’s ability to understand a term or condition of a consumer financial product or service or take unreasonable advantage of a consumer’s (1) lack of financial savvy, (2) inability to protect himself in the selection or use of consumer financial products or services or (3) reasonable reliance on a covered entity to act in the consumer’s interests. The CFPB can issue cease-and-desist orders against banks and other entities that violate consumer financial laws. The CFPB may also institute a civil action against an entity in violation of federal consumer financial law in order to impose a civil penalty or injunction. The CFPB has examination and enforcement authority over all banks with more than $10 billion in assets, as well as their affiliates.

Loans to One Borrower. Our bank subsidiary generally may not make loans or extend credit to a single or related group of borrowers in excess of 15% of unimpaired capital and surplus. An additional amount may be loaned, up to 10% of unimpaired capital and surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. As of December 31, 2018, our bank subsidiary was in compliance with the loans-to-one-borrower limitations.

Prohibitions Against Tying Arrangements. Under Regulation Y, our bank subsidiary is prohibited, subject to some exceptions, from extending credit to or offering any other service, or fixing or varying the consideration for such extension of credit or service, on the condition that the customer obtain some additional service from the institution or its affiliates or not obtain services of a competitor of the institution.

Restrictions on Transactions with Affiliates. We and our bank subsidiary are subject to Section 23A of the Federal Reserve Act. In general, Section 23A imposes limits on the amount of transactions between the bank and its affiliates, and also requires certain levels of collateral for loans to affiliated parties. It also limits the amount of advances to affiliates which are collateralized by the securities or obligations of the bank or its nonbanking affiliates. An affiliate of a bank is generally any company or entity that controls, is controlled by, or is under common control with the bank.

Affiliate transactions are also subject to Section 23B of the Federal Reserve Act which generally requires that certain other transactions between the bank and its affiliates be on terms substantially the same, or at least as favorable to the bank, as those prevailing at that time for comparable transactions with or involving other non-affiliated persons.

 

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Sections 22(g) and (h) of the Federal Reserve Act and its implementing regulation, Regulation O, also place restrictions on loans by a bank to executive officers, directors, and principal shareholders. Under Section 22(h), loans to a director, an executive officer and to a greater than 10% shareholder of a bank and certain of their related interests, or insiders, and insiders of affiliates, may not exceed, together with all other outstanding loans to such person and related interests, the bank’s loans-to-one-borrower limit. Section 22(h) also requires that loans to insiders and to insiders of affiliates be made on terms substantially the same as offered in comparable transactions to other persons, unless the loans are made pursuant to a benefit or compensation program that (i) is widely available to employees of the bank and (ii) does not give preference to insiders over other employees of the bank. In addition, Section 22(h) requires prior board of director’s approval for certain loans, and the aggregate amount of extensions of credit by a bank to all insiders cannot exceed the institution’s unimpaired capital and surplus. Furthermore, Section 22(g) places additional restrictions on loans to executive officers.

Interchange Fees. Under the Durbin Amendment to the Dodd-Frank Act, the Federal Reserve Board adopted rules establishing standards for assessing whether the interchange fees that may be charged with respect to certain electronic debit transactions are “reasonable and proportional” to the costs incurred by issuers for processing such transactions. Interchange fees, or “swipe” fees, are charges that merchants pay to our bank subsidiary and other card-issuing banks for processing electronic payment transactions. Federal Reserve Board rules applicable to financial institutions that have assets of $10 billion or more provide that the maximum permissible interchange fee is equal to no more than 21 cents plus 5 basis points of the transaction value for many types of debit interchange transactions. A debit card issuer may also recover 1 cent per transaction for fraud prevention purposes if the issuer complies with certain fraud-related requirements required by the Federal Reserve. In addition, the Federal Reserve has rules governing routing and exclusivity that require issuers to offer two unaffiliated networks for routing transactions on each debit or prepaid product. We exceeded $10 billion in assets during the first quarter of 2017 and became subject to the Durbin Amendment to the Dodd-Frank Act interchange fee restrictions beginning in the third quarter of 2018. The Durbin Amendment negatively impacted debit card and ATM fees beginning in the second half of 2018. During the third and fourth quarters of 2018, we collected $6.6 million in debit card interchange fees, which was approximately $5.3 million lower from debit interchange fees of $11.9 million collected during the third and fourth quarter of 2017.

The Volcker Rule. The Dodd-Frank Act prohibits banks and their affiliates from engaging in proprietary trading and investing in and sponsoring hedge funds and private equity funds. The statutory provision is commonly called the “Volcker Rule.” In December 2013, federal regulators adopted final rules to implement the Volcker Rule that generally became effective in July 2015. The Volcker Rule also requires covered banking entities, including us and our bank subsidiary, to implement certain compliance programs, and the complexity and rigor of such programs is determined based on the asset size and complexity of the business of the covered company. Since neither we nor our bank subsidiary engages in the types of trading or investing covered by the Volcker Rule, the Volcker Rule does not currently have any effect on our or our bank subsidiary’s operations.

Privacy. Under the Gramm-Leach-Bliley Act, financial institutions are required to disclose their policies for collecting and protecting confidential information. Customers generally may prevent financial institutions from sharing nonpublic personal financial information with nonaffiliated third parties except under narrow circumstances, such as the processing of transactions requested by the consumer or when the financial institution is jointly sponsoring a product or service with a nonaffiliated third party. Additionally, financial institutions generally may not disclose consumer account numbers to any nonaffiliated third party for use in telemarketing, direct mail marketing or other marketing to consumers. We and our subsidiary have established policies and procedures to assure our compliance with all privacy provisions of the Gramm-Leach-Bliley Act.

We are also subject to various regulatory guidance as updated from time to time and implemented by the Federal Financial Institutions Examinations Council (the “FFIEC”), an interagency body of the FDIC, the OCC, the Federal Reserve, the National Credit Union Administration and various state regulatory authorities. The FFIEC has provided guidance in areas such as data privacy, disaster recovery, information security, and third-party vendor management to identify potential risks related to our services that could adversely affect our customers. In addition, lawmakers, regulators and the public are increasingly focused on the use of personal information and efforts to strengthen data protection, information security and consumer and personal privacy. The law in these areas continues to develop, and we expect regulation in these areas to continue to increase.

 

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Anti-Terrorism and Anti-Money Laundering Legislation. Our bank subsidiary is subject to the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA PATRIOT Act”), the Bank Secrecy Act (“BSA”) and rules and regulations of the Office of Foreign Assets Control (the “OFAC”). These statutes and related rules and regulations impose requirements and limitations on specific financial transactions and account relationships intended to guard against money laundering, terrorism financing and transactions with designated foreign countries, nationals and others on whom the United States has imposed economic sanctions. Failure of a financial institution to maintain and implement adequate programs to combat money laundering and terrorist financing, or to comply with all of the relevant laws or regulations, could have serious legal and reputational consequences for the institution, including causing applicable bank regulatory authorities not to approve merger or acquisition transactions when regulatory approval is required or to prohibit such transactions even if approval is not required.

As part of our bank subsidiary’s anti-money laundering (“AML”) program, we are required to designate a BSA officer, maintain a BSA/AML training program, maintain internal controls to effectuate the BSA/AML program, implement independent testing of the BSA/AML program, and as of February 1, 2019, comply with the Financial Crimes Enforcement Network’s new “Customer Due Diligence for Financial Institutions Rule” (the “CDD Rule”). The CDD Rule adds a new requirement for our bank subsidiary to identify and verify the identity of natural persons (“beneficial owners”) of legal entity customers who own, control and profit from companies when those companies open accounts. The CDD Rule requires covered financial institutions to establish and maintain written policies and procedures that are reasonably designed to (1) identify and verify the identity of customers; (2) identify and verify the identity of the beneficial owners of companies opening accounts; (3) understand the nature and purpose of customer relationships to develop customer risk profiles; and (4) conduct ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information. With respect to the new requirement to obtain beneficial ownership information, financial institutions will have to identify and verify the identity of any individuals who own 25 percent or more of a legal entity, and an individual who controls the legal entity.

Incentive Compensation. The Dodd-Frank Act requires the federal bank regulators and the Securities and Exchange Commission (the “SEC”) to establish joint regulations or guidelines prohibiting incentive-based payment arrangements at specified regulated entities having at least $1 billion in total assets that encourage inappropriate risks by providing an executive officer, employee, director or principal shareholder with excessive compensation, fees, or benefits or that could lead to material financial loss to the entity. In addition, these regulators must establish regulations or guidelines requiring enhanced disclosure to regulators of incentive-based compensation arrangements.

In June 2010, the Federal Reserve and FDIC issued comprehensive final guidance on incentive compensation policies intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The guidance, which covers all employees that have the ability to materially affect the risk profile of an organization, either individually or as part of a group, is based upon the key principles that a banking organization’s incentive compensation arrangements should (1) provide incentives that appropriately balance risk and financial results in a manner that does not encourage employees to expose their organizations to imprudent risk, (2) be compatible with effective internal controls and risk management and (3) be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors.

In May 2016, the Federal Reserve, other federal banking agencies and the SEC jointly published a revised version of proposed rulemaking initially issued in April 2011 designed to implement the provisions of the Dodd-Frank Act prohibiting incentive compensation arrangements that encourage inappropriate risk taking at a covered institution, which includes a bank or bank holding company with $1 billion or more of assets, such as the Company and our bank subsidiary. The proposed joint compensation regulations would require compensation practices consistent with the three principles discussed above. As of February 1, 2019, these regulations have not been finalized. Unless and until a final rule is adopted, we cannot fully determine whether compliance with such a rule will adversely affect the Company’s or our bank subsidiary’s ability to hire, retain and motivate our key employees.

The Federal Reserve Board reviews, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking organizations, such as the Company, that are not “large, complex banking organizations.” These reviews are tailored to each organization based on the scope and complexity of the organization’s activities and the prevalence of incentive compensation arrangements. The findings of this supervisory initiative will be included in reports of examination. Deficiencies will be incorporated into the organization’s

 

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supervisory ratings, which can affect the organization’s ability to make acquisitions and take other actions. Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies.

Proposed Legislation and Regulatory Action

From time to time, various legislative and regulatory initiatives are introduced in Congress and state legislatures, as well as by regulatory agencies. Such initiatives may include proposals to expand or contract the powers of bank holding companies and depository institutions or proposals to substantially change the financial institution regulatory system. Such legislation could change banking statutes and the operating environment for us and our bank subsidiary in substantial and unpredictable ways. If enacted, such legislation could increase or decrease the cost of doing business, limit or expand permissible activities or affect the competitive balance among banks, savings associations, credit unions, and other financial institutions. We cannot predict whether or in what form any proposed regulation or statute will be adopted or the extent to which our business may be affected by any new regulation or statute.

Effect of Governmental Monetary Polices

Our earnings are affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies. The Federal Reserve Board’s monetary policies have had, and are likely to continue to have, an important impact on the operating results of commercial banks through its power to implement national monetary policy in order, among other things, to curb inflation or combat a recession. The monetary policies of the Federal Reserve Board affect the levels of bank loans, investments and deposits through its control over the issuance of United States government securities, its regulation of the discount rate applicable to banks and its influence over reserve requirements to which banks are subject. We cannot predict the nature or impact of future changes in monetary and fiscal policies.

AVAILABLE INFORMATION

We are subject to the information requirements of the Securities Exchange Act of 1934. Accordingly, we file annual, quarterly and current reports, proxy statements and other information with the SEC. In addition, we maintain a website at http://www.homebancshares.com. We make available on our website copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to such documents as soon as practicable after we electronically file such materials with or furnish such documents to the SEC.

Item 1A. RISK FACTORS

Our business exposes us to certain risks. Risks and uncertainties that management is not aware of or focused on may also adversely affect our business and operation. The following is a discussion of the most significant risks and uncertainties that may affect our business, financial condition and future results.

Risks Related to Our Industry

We are subject to extensive regulation that could limit or restrict our activities and impose financial requirements or limitations on the conduct of our business, and changes in the laws and regulations to which we are subject could adversely affect our profitability.

We and our bank subsidiary are subject to extensive federal and state regulation and supervision. As a registered bank holding company, we are primarily regulated by the Federal Reserve Board. Our bank subsidiary is also primarily regulated by the Federal Reserve Board and the Arkansas State Bank Department.

 

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Banking industry regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the banking system as a whole, not security holders. Complying with such regulations is costly and may limit our growth and restrict certain of our activities, including payment of dividends, mergers and acquisitions, investments, loans and interest rates charged, interest rates paid on deposits and locations of offices. We are also subject to capital requirements by our regulators. Violations of various laws, even if unintentional, may result in significant fines or other penalties, including restrictions on branching or bank acquisitions.

Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. The Dodd-Frank Act instituted major changes to the banking and financial institutions regulatory regimes in light of the performance of and government intervention in the financial services sector during the recession of the last decade. The act requires the issuance of a substantial number of new regulations by federal regulatory agencies which will affect financial institutions, some of which have yet to be issued or implemented.

While Congress and President Trump have recently enacted legislation designed to reduce certain regulatory burdens on community and regional financial institutions resulting from the Dodd-Frank Act, we cannot assure that future legislation will not significantly increase our compliance or operating costs or otherwise have a significant impact on our business. Certain provisions of the Dodd-Frank Act and regulations promulgated under the act may continue to be implemented, and there could be additional new federal or state laws, regulations and policies regarding lending and funding practices and liquidity standards. Additionally, financial institution regulatory agencies have intensified their response to concerns and trends identified in examinations, including through the issuance of formal enforcement actions. Negative developments in the financial services industry or other new legislation or regulations could adversely impact our operations and our financial performance by subjecting us to additional costs, restricting our business operations, including our ability to originate or sell loans, and/or increasing the ability of non-banks to offer competing financial services.

As regulation of the banking industry continues to evolve, we expect the costs of compliance to continue to increase and, thus, to affect our ability to operate profitably. In addition, industry, legislative or regulatory developments may cause us to materially change our existing strategic direction, capital strategies, compensation or operating plans. If these developments negatively impact our ability to implement our business strategies, it may have a material adverse effect on our results of operations and future prospects.

We are subject to heightened regulatory requirements as our total assets exceed $10 billion.

Because our total assets exceeded $10 billion for the first time during 2017, we and our bank subsidiary became subject to increased regulatory requirements in 2018. The Dodd-Frank Act and its implementing regulations impose various additional requirements on bank holding companies with $10 billion or more in total assets. In addition, banks with $10 billion or more in total assets are primarily examined by the CFPB with respect to various federal consumer financial protection laws and regulations. Previously, our bank subsidiary has been subject to regulations adopted by the CFPB, but the Federal Reserve was primarily responsible for examining our bank subsidiary’s compliance with consumer protection laws and those CFPB regulations. As a relatively new agency with evolving regulations and practices, there is some uncertainty as to how the CFPB’s examination and regulatory authority might impact our business. Further, the possibility of future changes in the authority of the CFPB by Congress or the Trump Administration is uncertain, and we cannot ascertain the impact, if any, changes to the CFPB may have on our business.

With respect to deposit-taking activities, banks with assets in excess of $10 billion are subject to two changes. First, these institutions are subject to a deposit assessment based on a new scorecard issued by the FDIC. This scorecard considers, among other things, the bank’s CAMELS rating, results of asset-related stress testing and funding-related stress, as well as our use of core deposits, among other things. Depending on the results of the bank’s performance under that scorecard, the total base assessment rate is between 1.5 to 40 basis points. Any increase in our bank subsidiary’s deposit insurance assessments may result in an increased expense related to our use of deposits as a funding source. Additionally, banks with over $10 billion in total assets are no longer exempt from the requirements of the Federal Reserve’s rules on interchange transaction fees for debit cards. This means that, as of July 1, 2018, our bank subsidiary is now limited to receiving only a “reasonable” interchange transaction fee for any debit card transactions processed using debit cards issued by our bank subsidiary to our customers. The Federal Reserve has

 

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determined that it is unreasonable for a bank with more than $10 billion in total assets to receive more than $0.21 plus 5 basis points of the transaction plus a $0.01 fraud adjustment for an interchange transaction fee for debit card transactions. This reduction in the amount of interchange fees we receive for electronic debit interchange will reduce our revenues. During the third and fourth quarters of 2018, we collected $6.6 million in debit card interchange fees, which was approximately $5.3 million lower from debit interchange fees of $11.9 million collected during the third and fourth quarter of 2017.

In anticipation of becoming subject to the heightened regulatory requirements, we hired additional compliance personnel and implemented structural initiatives to address these requirements. While some of these requirements, such as annual stress testing, were eliminated by the reforms enacted in May 2018, compliance with the remaining requirements may necessitate that we hire additional compliance or other personnel, design and implement additional internal controls, or incur other significant expenses, any of which could have a material adverse effect on our business, financial condition or results of operations. Our regulators may also consider our compliance with these regulatory requirements when examining our operations generally or considering any request for regulatory approval we may make, even requests for approvals on unrelated matters.

Difficult market and economic conditions may adversely affect our industry and our business.

The financial crisis and the resulting economic downturn in the latter years of the last decade had a significant adverse impact on the banking industry, and particularly community banks. Dramatic declines in the housing market, with falling home prices and increased delinquencies and foreclosures, negatively impacted the credit performance of mortgage and construction loans and resulted in significant write-downs of assets by many financial institutions. Reduced availability of commercial credit and sustained higher unemployment negatively impacted the credit performance of commercial and consumer credit, resulting in additional write-downs. As a result of these market conditions and the raising of credit standards, our industry experienced commercial and consumer deficiencies, low customer confidence, market volatility and generally sluggish business activity.

Although economic conditions nationally and locally in our market areas have improved in recent years and were generally strong during 2018, we cannot be certain that the recent favorable economic conditions will continue. Certain economic indicators, such as real estate asset values, rents and unemployment, may vary between geographic markets and may lag behind the overall economy. These economic indicators typically affect certain industries, such as real estate and financial services, more significantly than other economic sectors. If the positive movement in these economic indicators in our market areas subsides or conditions once again worsen, the adverse effects of an economic downturn on us, our customers and the other financial institutions in our market may result in increased foreclosures, delinquencies and customer bankruptcies as well as more restricted access to funds. Any such negative events may have an adverse effect on our business, financial condition, results of operations and stock price.

 

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Our FDIC insurance premiums and assessments could increase and result in higher noninterest expense.

Our bank subsidiary’s deposits are insured by the FDIC up to legal limits, and accordingly, we are subject to FDIC deposit insurance assessments. As our bank subsidiary has exceeded $10 billion in assets, the method for calculating its FDIC assessments has changed and our FDIC assessments have increased as a result. See “Item 1. Business—Supervision and Regulation—Deposit Insurance and Assessments.” In addition, the FDIC increased the deposit insurance fund’s target reserve ratio to 2.0% of insured deposits following the Dodd-Frank Act’s elimination of the 1.5% cap on the insurance fund’s reserve ratio and put in place a restoration plan to restore the deposit insurance fund to its 1.35% minimum reserve ratio mandated by the Dodd-Frank Act by September 30, 2020. In March 2016, the FDIC approved a final rule to meet this requirement by 2018. To meet the minimum reserve ratio by 2018, during the third calendar quarter of 2016 the FDIC began assessing banks with consolidated assets of more than $10.0 billion a surcharge assessment of 0.045%. The surcharge continued through October 1, 2018, when the reserve ratio first reached 1.35%.

We are generally unable to control the amount and timetable for payment of premiums that we are required to pay for FDIC insurance. There is no guarantee that our assessment rate will not increase in the future. Additionally, if there is another increase in bank or financial institution failures or there is a future need to further strengthen the DIF reserve ratio, the FDIC may further revise the assessment rates or the risk-based assessment system. Such changes may require us to pay higher FDIC premiums than our current levels, or the FDIC may charge additional special assessments, either of which would increase our noninterest expense.

Our profitability is vulnerable to interest rate fluctuations and monetary policy.

Most of our assets and liabilities are monetary in nature, and thus subject us to significant risks from changes in interest rates. Consequently, our results of operations can be significantly affected by changes in interest rates and our ability to manage interest rate risk. Changes in market interest rates, or changes in the relationships between short-term and long-term market interest rates, or changes in the relationship between different interest rate indices can affect the interest rates charged on interest-earning assets differently than the interest paid on interest-bearing liabilities. This difference could result in an increase in interest expense relative to interest income or a decrease in interest rate spread. In addition to affecting our profitability, changes in interest rates can impact the valuation of our assets and liabilities. Changes in interest rates can also affect our business and profitability in numerous other ways. For example, increases in interest rates can have a negative impact on our results of operations by reducing loan demand and the ability of borrowers to repay their current obligations, while decreases in interest rates may affect loan prepayments.

As of December 31, 2018, our one-year ratio of interest-rate-sensitive assets to interest-rate-sensitive liabilities was 102.4% and our cumulative repricing gap position was 1.2% of total earning assets, resulting in a limited impact on earnings for various interest rate change scenarios. Floating rate loans made up 48.3% of our $11.07 billion total loan portfolio. A loan is considered fixed rate if the loan is currently at its adjustable floor or ceiling. In addition, 56.0% of our loans receivable and 81.2% of our time deposits at December 31, 2018, were scheduled to reprice within 12 months and our other rate sensitive asset and rate sensitive liabilities composition is subject to change. As a result, our interest rate sensitivity profile was asset sensitive as of December 31, 2018, meaning that we estimate our net interest income would increase more from rising interest rates than from falling interest rates. Significant composition changes in our rate sensitive assets or liabilities could result in a more unbalanced position and interest rate changes would have more of an impact on our earnings.

 

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Our results of operations are also affected by the monetary policies of the Federal Reserve Board. Actions by the Federal Reserve Board involving monetary policies could have an adverse effect on our deposit levels, loan demand or business and earnings.

Uncertainty relating to the LIBOR calculation process and potential phasing out of LIBOR may adversely affect our results of operations.

On July 27, 2017, the Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it intends to stop persuading or compelling banks to submit rates for the calibration of LIBOR to the administrator of LIBOR after 2021. The announcement indicates that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021. It is impossible to predict whether and to what extent banks will continue to provide LIBOR submissions to the administrator of LIBOR or whether any additional reforms to LIBOR may be enacted in the United Kingdom or elsewhere. At this time, no consensus exists as to what rate or rates may become acceptable alternatives to LIBOR and it is impossible to predict the effect of any such alternatives on the value of LIBOR-based securities and variable rate loans, subordinated debentures, or other securities or financial arrangements, given LIBOR’s role in determining market interest rates globally. Uncertainty as to the nature of alternative reference rates and as to potential changes or other reforms to LIBOR may adversely affect LIBOR rates and the value of LIBOR-based loans and securities in our portfolio and may impact the availability and cost of hedging instruments and borrowings. If LIBOR rates are no longer available, and we are required to implement substitute indices for the calculation of interest rates under our loan agreements with our borrowers, we may incur significant expenses in effecting the transition, and may be subject to disputes or litigation with customers over the appropriateness or comparability to LIBOR of the substitute indices, which could have an adverse effect on our results of operations.

 

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Risks Related to Our Business

Our decisions regarding credit risk could be inaccurate and our allowance for loan losses may be inadequate, which would materially and adversely affect us.

Management makes various assumptions and judgments about the collectability of our loan portfolio, including the creditworthiness of our borrowers and the value of the real estate and other assets serving as collateral for the repayment of our secured loans. We endeavor to maintain an allowance for loan losses that we consider adequate to absorb future losses that may occur in our loan portfolio. As of December 31, 2018, our allowance for loan losses was approximately $108.8 million, or 0.98% of our total loans. In determining the size of the allowance, we analyze our loan portfolio based on our historical loss experience, volume and classification of loans, volume and trends in delinquencies and non-accruals, national and local economic conditions, and other pertinent information.

If our assumptions are incorrect, our current allowance may be insufficient to absorb future loan losses, and increased loan loss reserves may be needed to respond to different economic conditions or adverse developments in our loan portfolio. When there is an economic downturn, it is more difficult for us to estimate the losses that we will experience in our loan portfolio. In addition, federal and state regulators periodically review our allowance for loan losses and may require us to increase our allowance for loan losses or recognize further loan charge-offs based on judgments different than those of our management. Any increase in our allowance for loan losses or loan charge-offs could have a negative effect on our operating results.

Our high concentration of real estate loans and especially commercial real estate loans exposes us to increased lending risk.

As of December 31, 2018, 81.0% of our total loan portfolio was comprised of loans with real estate as a primary or secondary component of collateral. This includes commercial real estate loans (excluding construction/land development) of $4.88 billion, or 44.1% of total loans, construction/land development loans of $1.55 billion, or 14.0% of total loans, and residential real estate loans of $2.54 billion, or 22.9% of total loans. This high concentration of real estate loans could subject us to increased credit risk in the event of a decrease in real estate values in our markets, a real estate recession or a natural disaster. Also, in any such event, our ability to recover on defaulted loans by foreclosing and selling real estate collateral would be diminished, and we would be more likely to suffer losses on defaulted loans.

In addition to the risks associated with the high concentration of real estate-secured loans, the commercial real estate and construction/land development loans, which comprised 58.1% of our total loan portfolio as of December 31, 2018, expose us to a greater risk of loss than our residential real estate loans, which comprised 22.9% of our total loan portfolio as of December 31, 2018. Commercial real estate and land development loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to residential loans. Consequently, an adverse development with respect to one commercial loan or one credit relationship exposes us to a significantly greater risk of loss compared to an adverse development with respect to one residential mortgage loan.

The repayment of loans secured by commercial real estate is typically dependent upon the successful operation of the related real estate or commercial project. If the cash flows from the project are reduced, a borrower’s ability to repay the loan may be impaired. This cash flow shortage may result in the failure to make loan payments. In such cases, we may be compelled to modify the terms of the loan, or in the most extreme cases, we may have to foreclose.

If a decline in economic conditions or other issues cause difficulties for our borrowers of these types of loans, if we fail to evaluate the credit of these loans accurately when we underwrite them or if we do not continue to adequately monitor the performance of these loans, our lending portfolio could experience delinquencies, defaults and credit losses that could have a material adverse effect on our business, financial condition or results of operations.

 

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Our geographic concentration of banking activities and loan portfolio makes us more vulnerable to adverse conditions in our local markets.

Our bank subsidiary operates through branch locations in Arkansas, Florida, Alabama and New York City and loan production offices in Los Angeles, California, Chesapeake, Virginia and Dallas, Texas. However, approximately 88.9% of our total loans and 91.2% of our real estate loans as of December 31, 2018, are to borrowers whose collateral is located in Arkansas, Florida, Alabama and New York, the states in which the Company has its branch locations. An adverse development with respect to the market conditions of any of these specific market areas or a decrease in real estate values in those market areas could expose us to a greater risk of loss than a portfolio that is spread among a larger geographic base.

Depressed local economic and housing markets have led to loan losses and reduced earnings in the past and could lead to additional loan losses and reduced earnings.

During the latter years of the last decade, our Florida markets experienced a dramatic reduction in housing and real estate values, coupled with significantly higher unemployment. These conditions contributed to increased non-performing loans and reduced asset quality during this time period. While market conditions in our Florida markets have improved in recent years leading to resulting improvements in our non-performing loans and asset quality, any similar future economic downturn or deterioration in real estate values could cause us to incur additional losses relating to increased non-performing loans. We do not record interest income on non-accrual loans or other real estate owned, thereby adversely affecting our income and our loan administration costs. When we take collateral in foreclosures and similar proceedings, we are required to mark the related loan to the then-fair market value of the collateral, which may result in a loss. These loans and other real estate owned also increase our risk profile and the capital our regulators believe is appropriate in light of such risks. In addition, the resolution of non-performing assets requires significant commitments of time from management and our directors, which can be detrimental to the performance of their other responsibilities. These factors, individually or in the aggregate, could have an adverse effect on our financial condition and results of operations.

Additionally, our success significantly depends upon the growth in population, income levels, deposits and housing starts in our markets. If the communities in which we operate do not grow or if prevailing economic conditions deteriorate locally or nationally, our business may be adversely affected. We are less able than a larger institution to spread the risks of unfavorable local economic conditions across a large number of diversified economies. Moreover, we cannot give any assurance we will benefit from any market growth or favorable economic conditions in our primary market areas if they do occur.

If the value of real estate in our Florida markets were to once again deteriorate, a significant portion of our loans in our Florida market could become under-collateralized, which could have a material adverse effect on us.

As of December 31, 2018, loans in the Florida market totaled $5.15 billion, or 46.5% of our loans receivable. Of the Florida loans, approximately 88.6% were secured by real estate. In prior years, the difficult local economic conditions have adversely affected the values of our real estate collateral in Florida, and they could do so again if the markets were to once again deteriorate in the future. The real estate collateral in each case provides an alternate source of repayment on our loans in the event of default by the borrower but may deteriorate in value during the time credit is extended. If we are required to liquidate the collateral securing a loan to satisfy the debt during a period of reduced real estate values, our earnings and capital could be adversely affected.

Because we have a concentration of exposure to a number of individual borrowers, a significant loss on any of those loans could materially and adversely affect us.

We have a concentration of exposure to a number of individual borrowers. Under applicable law, our bank subsidiary is generally permitted to make loans to one borrowing relationship up to 20% of its Tier 1 capital plus the allowance for loan losses. As of December 31, 2018, the legal lending limit of our bank subsidiary for secured loans was approximately $352.7 million. Our board of directors has established an in-house lending limit of $20.0 million to any one borrowing relationship without obtaining the approval of both our Chairman, John W. Allison, and our director Richard H. Ashley. As of December 31, 2018, we had a total of $4.35 billion, or 39.3% of our total loans, committed to the aggregate group of borrowers whose total debt exceeds the established in-house lending limit of $20.0 million.

 

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Our cost of funds may increase as a result of general economic conditions, interest rates and competitive pressures.

Our cost of funds may increase as a result of general economic conditions, interest rates and competitive pressures. We have traditionally obtained funds principally through local deposits, and we have a base of lower cost transaction deposits. Generally, we believe local deposits are a more stable source of funds than other borrowings because interest rates paid for local deposits are typically lower than interest rates charged for borrowings from other institutional lenders. In addition, local deposits reflect a mix of transaction and time deposits, whereas brokered deposits typically are less stable time deposits, which may need to be replaced with higher cost funds. Our costs of funds and our profitability and liquidity are likely to be adversely affected if and to the extent we must rely upon higher cost borrowings from other institutional lenders or brokers to fund loan demand or liquidity needs, and changes in our deposit mix and growth could adversely affect our profitability and the ability to expand our loan portfolio.

The loss of key officers may materially and adversely affect us.

Our success depends significantly on our Chairman, John W. Allison, and our executive officers, especially C. Randall Sims, Brian S. Davis, J. Stephen Tipton and Kevin D. Hester plus Centennial Bank Chief Executive Officer and President, Tracy M. French, and our regional Centennial Bank presidents. Centennial Bank, in particular, relies heavily on its management team’s relationships in its local communities to generate business. The loss of services from a member of our current management team may materially and adversely affect our business, financial condition, results of operations and future prospects.

The value of securities in our investment portfolio may decline in the future.

As of December 31, 2018, we owned $1.98 billion of investment securities. The fair value of our investment securities may be adversely affected by market conditions, including changes in interest rates, and the occurrence of any events adversely affecting the issuer of particular securities in our investments portfolio. We analyze our securities on a quarterly basis to determine if an other-than-temporary impairment has occurred. The process for determining whether impairment is other-than-temporary usually requires complex, subjective judgments about the future financial performance of the issuer in order to assess the probability of receiving all contractual principal and interest payments on the security. Because of changing economic and market conditions affecting issuers, we may be required to recognize other-than-temporary impairment in future periods, which could have a material adverse effect on our business, financial condition or results of operations.

Our recent results do not indicate our future results and may not provide guidance to assess the risk of an investment in our common stock.

We are unlikely to sustain our historical rate of growth and may not even be able to expand our business at all. Further, our recent growth may distort some of our historical financial ratios and statistics. Various factors, such as economic conditions, regulatory and legislative considerations and competition, may also impede or prohibit our ability to expand our market presence. If we are not able to successfully grow our business, our financial condition and results of operations could be adversely affected.

We may not be able to raise the additional capital we need to grow and, as a result, our ability to expand our operations could be materially impaired.

Federal and state regulatory authorities require us and our bank subsidiary to maintain adequate levels of capital to support our operations. While we believe that our existing capital (which well exceeds the federal and state capital requirements) will be sufficient to support our current operations, anticipated expansion and potential acquisitions, factors such as faster than anticipated growth, reduced earnings levels, operating losses, changes in economic conditions, revisions in regulatory requirements, or additional acquisition opportunities may lead us to seek additional capital.

Our ability to raise additional capital, if needed, will depend on our financial performance and on conditions in the capital markets at that time, which are outside our control. If we need additional capital but cannot raise it on terms acceptable to us, our ability to expand our operations could be materially impaired, our business, financial condition, results of operations and prospects may be adversely affected, and our stock price may decline.

 

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Our growth and expansion strategy may not be successful, and our market value and profitability may suffer.

Growth through the acquisition of banks, including FDIC-assisted transactions, and de novo branching represent important components of our business strategy. Acquisitions are subject to regulatory approval, and we cannot assure that we will be able to obtain approval for a proposed acquisition in a timely manner or at all. Any future acquisitions we might make will also be accompanied by other risks commonly encountered in acquisitions. These risks include, among other things:

 

   

credit risk associated with the acquired bank’s loans and investments;

 

   

the use of inaccurate estimates and judgments to evaluate credit, operations, management and market risks with respect to the target institution or assets;

 

   

the potential exposure to unknown or contingent liabilities related to the acquisition;

 

   

the time and expense required to integrate an acquisition;

 

   

the effectiveness of integrating operations, personnel and customers;

 

   

risks of impairment to goodwill or other than temporary impairment; and

 

   

potential disruption of our ongoing business.

We expect that competition for suitable acquisition candidates may be significant. We may compete with other banks or financial service companies with similar acquisition strategies, many of which are larger and have greater financial and other resources. We cannot assure you that we will be able to successfully identify and acquire suitable acquisition targets on acceptable terms and conditions.

We may continue to have opportunities from time to time to acquire the assets and liabilities of failed banks in FDIC-assisted transactions. These acquisitions involve risks similar to acquiring existing banks even though the FDIC might provide assistance to mitigate certain risks such as sharing in exposure to loan losses and providing indemnification against certain liabilities of the failed institution. However, because these acquisitions are structured in a manner that would not allow us the time normally associated with preparing for integration of an acquired institution, we may face additional risks in FDIC-assisted transactions. These risks include, among other things, the loss of customers, strain on management resources related to collection and management of problem loans and problems related to integration of personnel and operating systems.

In addition to the acquisition of existing financial institutions, as opportunities arise, we may grow through de novo branching. De novo branching, and any acquisition carry with them numerous risks, including the following:

 

   

the inability to obtain all required regulatory approvals;

 

   

the significant upfront costs and anticipated operating losses associated with establishing a de novo branch or a new bank;

 

   

the inability to secure the services of qualified senior management;

 

   

the local market receptivity for branches established or banks acquired outside of those markets in which we currently maintain a material presence;

 

   

the local economic conditions within the market to be served by the de novo branch or new bank;

 

   

the inability to obtain attractive locations within a new market at a reasonable cost; and

 

   

the additional strain on management resources and internal systems and controls.

 

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We cannot assure that we will be successful in overcoming these risks or any other problems encountered in connection with acquisitions (including FDIC-assisted transactions) and de novo branching. Our inability to overcome these risks could have an adverse effect on our ability to achieve our business strategy and maintain our market value and profitability.

If we acquire additional banks in the future, there may be undiscovered risks or losses associated with such acquisitions which would have a negative impact upon our future income.

Our growth strategy includes strategic acquisitions of banks. We have acquired 22 banks since we started our first subsidiary bank in 1999, including a total of 17 banks since 2010. We will continue to consider future strategic acquisitions, with a primary focus on Arkansas, Florida, South Alabama and other nearby markets. In most cases, our acquisition of a bank includes the acquisition of all or a substantial portion of the target bank’s assets and liabilities, including all or a substantial portion of its loan portfolio. There may be instances when we, under our normal operating procedures, may find after the acquisition that there may be additional losses or undisclosed liabilities with respect to the assets and liabilities of the target bank, and, with respect to its loan portfolio, that the ability of a borrower to repay a loan may have become impaired, the quality of the value of the collateral securing a loan may fall below our standards, or our determination of the fair value of any such loan may be inadequate. One or more of these factors might cause us to have additional losses or liabilities, additional loan charge-offs, or increases in allowances for loan losses, which would have a negative impact upon our financial condition and results of operations.

Changes in national and local economic conditions could lead to higher loan charge-offs in connection with our acquisitions.

In connection with our acquisitions since 2010, we have acquired a significant portfolio of loans. Although we marked down the loan portfolios we have acquired, there is no assurance that the non-impaired loans we acquired will not become impaired or that the impaired loans will not suffer further deterioration in value resulting in additional charge-offs to the acquired loan portfolio. Fluctuations in national, regional and local economic conditions, including those related to local residential and commercial real estate and construction markets, may increase the level of charge-offs we make to our loan portfolio, and, may consequently, reduce our net income. Such fluctuations may also increase the level of charge-offs on the loan portfolios we have acquired in the acquisitions and correspondingly reduce our net income. These fluctuations are not predictable, cannot be controlled and may have a material adverse impact on our operations and financial condition even if other favorable events occur.

If the goodwill that we record in connection with a business acquisition becomes impaired, it could require charges to earnings.

When we acquire a business, a portion of the purchase price of the acquisition is generally allocated to goodwill and other identifiable intangible assets. The amount of the purchase price that is allocated to goodwill and other intangible assets is determined by the excess of the purchase price over the net identifiable assets acquired. At December 31, 2018, our goodwill and other identifiable intangible assets were $1.00 billion. Under current accounting standards, if we determine goodwill or intangible assets are impaired because, for example, the acquired business does not meet projected revenue targets or certain key employees leave, we are required to write down the carrying value of these assets. We conduct a review at least annually to determine whether goodwill is impaired. Our annual goodwill impairment evaluation performed during the fourth quarter of 2018 indicated no impairment of goodwill for our reporting segments. We cannot provide assurance, however, that we will not be required to take an impairment charge in the future. Any impairment charge would have an adverse effect on our shareholders’ equity and financial results and could cause a decline in our stock price.

Any future acquisitions may cause us to modify our disclosure controls and procedures, which may not result in the material information that we are required to disclose in our SEC reports being recorded, processed, summarized, and reported timely.

Our management is responsible for establishing and maintaining effective disclosure controls and procedures that are designed to cause the material information that we are required to disclose in reports that we file or submit under the Exchange Act to be recorded, processed, summarized, and reported to the extent applicable within the time periods required by the SEC’s rules and forms. As a result of an acquisition, we may implement changes to processes,

 

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information technology systems and other components of internal control over financial reporting as part of our integration activities. Notwithstanding any changes to our disclosure controls and procedures resulting from our evaluation of the same after the acquisition, our control systems, no matter how well designed and operated, may not result in the material information that we are required to disclose in our SEC reports being recorded, processed, summarized, and reported within required time periods. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. If, as a result of an acquisition or otherwise, we are unable to achieve and maintain effective disclosure controls and procedures and internal control over financial reporting, investors and customers may lose confidence in the accuracy and completeness of our financial reports, we may suffer adverse regulatory consequences or violate listing standards, and the market price of our common stock could decline.

Competition from other financial institutions and financial service providers may adversely affect our profitability.

We face substantial competition in all phases of our operations from a variety of different competitors. We experience strong competition, not only from commercial banks, savings and loan associations and credit unions, but also from mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market funds and other financial services providers operating in or near our market areas. We compete with these institutions both in attracting deposits and in making loans.

Many of our competitors are much larger national and regional financial institutions. We may face a competitive disadvantage against them as a result of our smaller size and resources and our lack of geographic diversification. Due to their size, larger competitors can achieve economies of scale and may offer a broader range of products and services or more attractive pricing than us. If we are unable to offer competitive products and services, our business may be negatively affected. Many of our competitors are not subject to the same degree of regulation that we are as an FDIC-insured institution, which gives them greater operating flexibility and reduces their expenses relative to ours. As a result, these non-bank competitors have certain advantages over us in accessing funding and in providing various services.

We also compete against community banks that have strong local ties. These smaller institutions are likely to cater to the same small and mid-sized businesses that we target and to use a relationship-based approach similar to ours. In addition, our competitors may seek to gain market share by pricing below the current market rates for loans and paying higher rates for deposits. The banking business in our primary market areas is very competitive, and the level of competition facing us may increase further, which may limit our asset growth and financial results.

We continually encounter technological change, and we may have fewer resources than many of our competitors to continue to invest in technological improvements and innovations.

The financial services industry is undergoing rapid technological changes, with frequent introductions of new technology-driven products and services, including innovative ways that customers can make payments or manage their accounts, such as through the use of digital wallets or digital currencies. In addition to better serving customers, effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success will depend, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for convenience, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our clients, which may adversely affect our results of operations and future prospects.

A failure in or breach of our operational or security systems, or those of our third-party service providers, including as a result of cyber-attacks, could disrupt our business, result in unintentional disclosure or misuse of confidential or proprietary information, damage our reputation, increase our costs and cause losses.

As a financial institution, our operations rely heavily on the secure processing, storage and transmission of confidential and other information on our computer systems and networks. Any failure, interruption or breach in security or operational integrity of these systems could result in failures or disruptions in our online banking system, customer relationship management, general ledger, deposit and loan servicing and other systems. The security and integrity of our systems could be threatened by a variety of interruptions or information security breaches, including

 

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those caused by computer hacking, cyber-attacks, electronic fraudulent activity or attempted theft of financial assets. We cannot assure you that any such failures, interruption or security breaches will not occur, or if they do occur that they will be adequately addressed. While we have certain protective policies and procedures in place, the nature and sophistication of the threats continue to evolve. We may be required to expend significant additional resources in the future to modify and enhance our protective measures.

Additionally, we face the risk of operational disruption, failure, termination or capacity constraints of any of the third parties that facilitate our business activities, including exchanges, clearing agents, clearing houses or other financial intermediaries. Such parties could also be the source of an attack on, or breach of, our operational systems. Any failures, interruptions or security breaches in our information systems could damage our reputation, result in a loss of customer business, result in a violation of privacy or other laws, or expose us to civil litigation, regulatory fines or losses not covered by insurance.

The total impact of Hurricane Michael on our financial condition and results of operations may not be known for some time and may negatively impact our future earnings.

Hurricane Michael caused significant property damage in our Florida Panhandle market areas, and resulted in widespread disruptions in power, transportation and the local economies of these areas, as well as less extensive damage in other parts of the state of Florida. A substantial amount of our loans are secured by real estate located in the market areas affected by this powerful storm. On most collateral dependent loans, our exposure is limited due to the existence of flood and property insurance. We monitor our borrower’s insurance coverage on a regular basis and force place insurance, as necessary.

We are continuing to evaluate Hurricane Michael’s impact on our customers and our business, including our properties, assets and loan portfolios. However, we expect to continue to experience increased loan delinquencies and loan restructurings as a result of the storm as customers continue recovery and clean-up efforts. Based on our initial assessments of the potential credit impact and damage, management performed an analysis on the loans with collateral in the impacted counties in the Florida Panhandle and determined a $20.4 million storm-related provision was necessary. This was charged against a portion of the remaining balance of $33.4 million accrual we recorded in 2017 for anticipated losses due to Hurricane Irma. In addition, in order to assist our customers during this crisis, we offered customers located in the disaster area a 90-day deferment on outstanding loans. During the fourth quarter of 2018, customers with loan balances totaling approximately $63.3 million accepted the 90-day deferment. As of December 31, 2018, loan balances totaling approximately $63.3 million remained on the 90-day deferment.

Because the total impact of the storm may not be known for some time, it is impossible to know at this time whether our current accrual for hurricane-related expenses will be sufficient to cover our actual losses. We may experience more extensive loan delinquencies and restructurings than we currently expect, which could negatively impact our cash flow and, if not timely cured, increase our non-performing assets and reduce our net interest income. Such increases could require us to further increase our provision for loan losses and result in higher loan charge-offs, either of which could have a material adverse impact on our results of operations and financial condition in future periods.

Future hurricanes or other adverse weather events could negatively affect our local economies or disrupt our operations, which would have an adverse effect on us.

As illustrated by the impact of Hurricanes Irma and Michael, our markets in Alabama and Florida, like other coastal areas, are susceptible to hurricanes and tropical storms. Such weather events can disrupt our operations, result in damage to our properties and negatively affect the local economies in which we operate. We cannot predict whether or to what extent damage that may be caused by future hurricanes or other weather events will affect our operations or the economies in our market areas, but such weather events could result in a decline in loan originations, a decline in the value or destruction of properties or other collateral securing our loans and an increase in the delinquencies, foreclosures and loan losses. Our business or results of operations may be adversely affected by these and other negative effects of hurricanes or other significant weather events.

We may incur environmental liabilities with respect to properties to which we take title.

A significant portion of our loan portfolio is secured by real property. In the course of our business, we may own or foreclose and take title to real estate and could become subject to environmental liabilities with respect to these properties. In addition, we acquire branches and real estate in connection with our acquisitions of banks. We may become responsible to a governmental agency or third parties for property damage, personal injury, investigation and clean-up costs incurred by those parties in connection with environmental contamination or may be required to investigate or clean-up hazardous or toxic substances, or chemical releases at a property. The costs associated with environmental investigation or remediation activities could be substantial. If we were to become subject to significant environmental liabilities, it could have a material adverse effect on our results of operations and financial condition.

 

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Our operations could be interrupted if certain external vendors on which we rely experience difficulty, terminate their services or fail to comply with banking laws and regulations.

We depend to a significant extent on relationships with third party service providers. Specifically, we utilize third-party core banking services and receive credit card and debit card services, branch capture services, Internet banking services and services complementary to our banking products from various third-party service providers. If these third-party service providers experience difficulties or terminate their services and we are unable to replace them with other service providers, our operations could be interrupted. It may be difficult for us to replace some of our third-party vendors, particularly vendors providing our core banking, credit card and debit card services, in a timely manner if they were unwilling or unable to provide us with these services in the future for any reason. If an interruption were to continue for a significant period of time, it could have a material adverse effect on our business, financial condition or results of operations. Even if we are able to replace them, it may be at higher cost to us, which could have a material adverse effect on our business, financial condition or results of operations. In addition, if a third-party provider fails to provide the services we require, fails to meet contractual requirements, such as compliance with applicable laws and regulations, or suffers a cyber-attack or other security breach, our business could suffer economic and reputational harm that could have a material adverse effect on our business, financial condition or results of operations.

Our earnings could be adversely impacted by incidences of fraud and compliance failure.

Financial institutions are inherently exposed to fraud risk. A fraud can be perpetrated by a customer of our bank subsidiary, an employee, a vendor, or members of the general public. We are most subject to fraud and compliance risk in connection with the origination of loans, ACH transactions, wire transactions, ATM transactions, and checking transactions. Our largest fraud risk, associated with the origination of loans, includes the intentional misstatement of information in property appraisals or other underwriting documentation provided to us by third parties. Compliance risk is the risk that loans are not originated in compliance with applicable laws and regulations and our standards. There can be no assurance that we can prevent or detect acts of fraud or violation of law or our compliance standards by the third parties that we deal with. Repeated incidences of fraud or compliance failures would adversely impact the performance of our loan portfolio.

Our banking relationships with the Cuban government and Banco Internacional de Comercia, S.A. (“BICSA”) may increase our compliance risk and compliance costs.

U.S. persons, including U.S. banks, are restricted in their ability to establish relationships and engage in transactions with Cuba and Cuban persons pursuant to the existing U.S. embargo and the Cuban Assets Control Regulations. However, as a result of our acquisition of Stonegate Bank in 2017, we maintain a customer relationship to handle the accounts for Cuba’s diplomatic missions at the United Nations and for the Cuban Interests Section (now the Cuban Embassy) in Washington, D.C. This relationship was established in May 2015 pursuant to a special license granted to Stonegate Bank by the U.S. Treasury Department’s Office of Foreign Assets Control (“OFAC”) in connection with the reestablishment of diplomatic relations between the U.S. and Cuba. In July 2015, Stonegate Bank established a correspondent banking relationship with Banco Internacional de Comercio, S.A. (“BICSA”) in Havana, Cuba.

Cross-border correspondent banking relationships pose unique risks because they create situations in which a U.S. financial institution will be handling funds from a foreign financial institution whose customers may not be transparent to the U.S. financial institution. Moreover, Cuban financial institutions are not subject to the same or similar regulatory guidelines as U.S. banks; therefore, these foreign institutions may pose a higher money laundering risk to their respective U.S. bank correspondent(s). Investigations have determined that, in the past, foreign correspondent accounts have been used by drug traffickers and other criminal elements to launder funds. Shell companies are sometimes used in the layering process to hide the true ownership of accounts at foreign correspondent financial institutions. Because of the large amount of funds, multiple transactions, and the U.S. bank’s potential lack of familiarity with a foreign correspondent financial institution’s customer, criminals and terrorists can more easily conceal the source and use of illicit funds. Consequently, we may have a higher risk of noncompliance with the Bank Secrecy Act and Anti-Money Laundering (“BSA/AML”) rules due to our correspondent banking relationship with BICSA and will likely need to more closely monitor transactions related to correspondent accounts in Cuba, potentially resulting in increased compliance costs. Our failure to strictly adhere to the terms and requirements of our OFAC license or our failure to adequately manage our BSA/AML compliance risk in light of our correspondent banking relationship with BICSA could result in regulatory or other actions being taken against us, which could significantly increase our compliance costs and materially and adversely affect our results of operations.

Risks Related to Owning Our Stock

The rights of our common shareholders are subordinate to the holders of any debt securities that we may issue from time to time and may be subordinate to the holders of any series of preferred stock that may issue in the future.

On April 3, 2017, we issued $300.0 million of 5.625% fixed-to-floating rate subordinated notes, which mature in 2027. Because these subordinated notes are senior to our shares of common stock, in the event of our bankruptcy, dissolution or liquidation, the holders of the subordinated notes must be satisfied before any distributions can be made to the holders of our common stock.

As of December 31, 2018, we also have $73.3 million of outstanding subordinated debentures issued in connection with trust preferred securities. Payments of the principal and interest on the trust preferred securities are unconditionally guaranteed by us. The subordinated debentures are senior to our shares of common stock. As a result, we must make payments on the subordinated debentures (and the related trust preferred securities) before any dividends can be paid on our common stock and, in the event of our bankruptcy, dissolution or liquidation, the holders of the debentures must be satisfied before any distributions can be made to the holders of our common stock. We have the right to defer distributions on the subordinated debentures (and the related trust preferred securities) for up to five years, during which time no dividends may be paid to holders of our capital stock. If we elect to defer or if we default with respect to our obligations to make payments on these subordinated debentures, this would likely have a material adverse effect on the market value of our common stock.

 

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Our board of directors has the authority to issue in the aggregate up to 5,500,000 shares of preferred stock, and to incur senior or subordinated indebtedness, generally without shareholder approval. Our preferred stock could be issued with voting, liquidation, dividend and other rights that may be superior to the rights of our common stock. In addition, like our outstanding subordinated debentures, any future indebtedness that we incur would be expected to be senior to our common stock with respect to payment upon liquidation, dissolution or winding up. Accordingly, common shareholders bear the risk that our future issuances of debt or equity securities or our incurrence of other borrowings will negatively affect the market price of our common stock.

We may be unable to, or choose not to, pay dividends on our common stock.

Although we have paid a quarterly dividend on our common stock since 2003 and expect to continue this practice, we cannot assure you of our ability to continue. Our ability to pay dividends depends on the following factors, among others:

 

   

We may not have sufficient earnings since our primary source of income, the payment of dividends to us by our bank subsidiary, is subject to federal and state laws that limit the ability of that bank to pay dividends.

 

   

Federal Reserve Board policy requires bank holding companies to pay cash dividends on common stock only out of net income available over the past year and only if prospective earnings retention is consistent with the organization’s expected future needs and financial condition.

 

   

Before dividends may be paid on our common stock in any year, payments must be made on our subordinated debentures.

 

   

Our board of directors may determine that, even though funds are available for dividend payments, retaining the funds for internal uses, such as expansion of our operations, is a better strategy.

If we fail to pay dividends, capital appreciation, if any, of our common stock may be the sole opportunity for gains on an investment in our common stock. In addition, in the event our bank subsidiary becomes unable, due to regulatory restrictions, capital planning needs or otherwise, to pay dividends to us, we may not be able to service our debt, pay our other obligations or pay dividends on our common stock. Accordingly, our inability to receive dividends from our bank subsidiary could also have a material adverse effect on our business, financial condition and results of operations and the value of your investment in our common stock.

Our stock trading volume may not provide adequate liquidity for investors.

Although shares of our common stock are listed for trading on the NASDAQ Global Select Market, the average daily trading volume in the common stock is less than that of other larger financial services companies. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of a sufficient number of willing buyers and sellers of the common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control. Given the daily average trading volume of our common stock, significant sales of the common stock in a brief period of time, or the expectation of these sales, could cause a decline in the price of our common stock.

 

Item 1B.

UNRESOLVED STAFF COMMENTS

There are currently no unresolved Commission staff comments received by the Company more than 180 days prior to the end of the fiscal year covered by this annual report.

 

Item 2.

PROPERTIES

The Company’s main office is located in a Company-owned 33,000 square foot building located at 719 Harkrider Street in downtown Conway, Arkansas. As of December 31, 2018, our bank subsidiary owned or leased a total of 78 branches located in Arkansas, 76 branches in Florida, five branches in South Alabama and one branch in New York City. The Company also owns or leases other buildings that provide space for operations, mortgage lending and other general purposes. We believe that our banking and other offices are in good condition and are suitable to our needs.

 

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Item 3.

LEGAL PROCEEDINGS

While we and our bank subsidiary and other affiliates are from time to time parties to various legal proceedings arising in the ordinary course of their business, management believes, after consultation with legal counsel, that there are no proceedings threatened or pending against us or our bank subsidiary or other affiliates that will, individually or in the aggregate, have a material adverse effect on our business or consolidated financial condition.

 

Item 4.

MINE SAFETY DISCLOSURE

Not applicable.

 

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PART II

 

Item 5.

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock is listed on the NASDAQ Global Select Market under the symbol “HOMB.” As of February 21, 2019, there were approximately 1,456 stockholders of record of the Company’s common stock.

Our policy is to declare regular quarterly dividends based upon our earnings, financial position, capital improvements and such other factors deemed relevant by the Board of Directors. The dividend policy is subject to change, however, and the payment of dividends is not necessarily dependent upon the availability of earnings and future financial condition. Information regarding regulatory restrictions on our ability to pay dividends is discussed in “Supervision and Regulation – Payment of Dividends.”

In connection with the Company’s acquisition of SPF, on June 30, 2018, the Company issued 1,250,000 shares of the Company’s common stock to Union Bank & Trust (“Union”) in partial consideration for the acquisition. The shares were issued to Union pursuant to Section 4(a)(2) of the Securities Act of 1933. There were no other unregistered sales of our securities during the period covered by this report.

 

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During the three months ended December 31, 2018, the Company utilized a portion of its stock repurchase program most recently amended and approved by the Board of Directors on February 21, 2018. Additionally, on January 18, 2019, the Board of Directors of the Company authorized the repurchase of up to an additional 5,000,000 shares of the Company’s common stock under this repurchase program. The Company has received approval from the Federal Reserve Bank to repurchase up to $188.0 million of stock during the year ending December 31, 2019. The following table sets forth information with respect to purchases made by or on behalf of the Company of shares of the Company’s common stock during the periods indicated:

Issuer Purchases of Equity Securities

 

Period

   Number of
Shares
Purchased
    Average Price
Paid Per Share
Purchased
     Total Number of
Shares Purchased
as Part of Publicly
Announced Plans

or Programs
    Maximum
Number of
Shares That

May Yet Be
Purchased

Under the
Plans or
Programs
 

October 1 through October 31, 2018

     1,175,731     $ 19.59        1,175,731       7,188,005  

November 1 through November 31, 2018

     50,000       18.84        50,000       7,138,005  

December 1 through December 31, 2018

     2,218,558 (1)       20.53        2,218,558 (1)       4,919,447  
  

 

 

      

 

 

   

Total

     3,444,289          3,444,289    
  

 

 

      

 

 

   

 

(1)

Includes the repurchase from Union of the 1,250,000 shares issued in connection with the SPF acquisition for $23.13 per share, the value at which the shares were issued on June 30, 2018.

 

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Performance Graph

Below is a graph which summarizes the cumulative return earned by the Company’s stockholders since December 31, 2013, compared with the cumulative total return on the Russell 2000 Index and SNL Bank and Thrift Index. This presentation assumes that the value of the investment in the Company’s common stock and each index was $100.00 on December 31, 2013 and that subsequent cash dividends were reinvested.

 

LOGO

 

     Period Ending  

Index

   12/31/13      12/31/14      12/31/15      12/31/16      12/31/17      12/31/18  

Home BancShares, Inc.

     100.00        87.08        111.33        155.03        131.96        94.66  

Russell 2000 Index

     100.00        104.89        100.26        121.63        139.44        124.09  

SNL Bank and Thrift Index

     100.00        111.63        113.89        143.78        169.07        140.45  

 

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Item 6. SELECTED FINANCIAL DATA.

Summary Consolidated Financial Data

 

     As of or for the Years Ended December 31,  
     2018     2017     2016     2015     2014  
     (Dollars and shares in thousands, except per share data)  

Income statement data:

          

Total interest income

   $ 685,368     $ 520,251     $ 436,537     $ 377,436     $ 335,888  

Total interest expense

     124,355       64,346       30,579       21,724       18,870  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net interest income

     561,013       455,905       405,958       355,712       317,018  

Provision for loan losses

     4,322       44,250       18,608       25,164       22,664  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net interest income after provision for loan losses

     556,691       411,655       387,350       330,548       294,354  

Non-interest income

     102,832       99,636       87,051       65,498       44,762  

Non-interest expense

     264,003       240,208       191,755       177,555       161,943  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before income taxes

     395,520       271,083       282,646       218,491       177,173  

Income tax expense

     95,117       136,000       105,500       80,292       64,110  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 300,403     $ 135,083     $ 177,146     $ 138,199     $ 113,063  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Per share data:

          

Basic earnings per common share

   $ 1.73     $ 0.90     $ 1.26     $ 1.01     $ 0.86  

Diluted earnings per common share

     1.73       0.89       1.26       1.01       0.85  

Book value per common share

     13.76       12.70       9.45       8.55       7.51  

Tangible book value per common share (non-GAAP)(1)(2)

     7.90       7.07       6.63       5.71       4.95  

Dividends – common

     0.4600       0.4000       0.3425       0.275       0.175  

Average common shares outstanding

     173,657       150,806       140,418       136,615       131,902  

Average diluted shares outstanding

     174,124       151,528       140,713       137,130       132,662  

Performance ratios:

          

Return on average assets

     2.06     1.17     1.85     1.68     1.63

Return on average assets excluding intangible amortization
(non-GAAP)(3)

     2.25       1.26       1.95       1.79       1.75  

Return on average common equity

     13.17       8.23       14.08       12.77       12.34  

Return on average tangible common equity excluding intangible amortization (non-GAAP)(1)(4)

     23.62       12.92       20.82       19.37       19.80  

Net interest margin(5)

     4.42       4.51       4.81       4.98       5.37  

Efficiency ratio

     38.48       41.89       37.65       40.44       42.67  

Efficiency ratio, as adjusted (non-GAAP)(6)

     37.67       37.66       36.55       39.48       41.23  

Asset quality:

          

Non-performing assets to total assets

     0.51     0.44     0.81     0.89     1.18

Non-performing loans to total loans

     0.58       0.43       0.85       0.96       1.23  

Allowance for loan losses to non-performing loans

     169.35       246.70       126.74       109.00       88.65  

Allowance for loans losses to total loans

     0.98       1.07       1.08       1.04       1.09  

Net charge-offs to average total loans

     0.05       0.17       0.11       0.22       0.22  

 

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Summary Consolidated Financial Data – Continued

 

 
     As of or for the Years Ended December 31,  
     2018     2017     2016     2015     2014  
     (Dollars and shares in thousands, except per share data)  

Balance sheet data (period end):

          

Total assets

   $ 15,302,438     $ 14,449,760     $ 9,808,465     $ 9,289,122     $ 7,403,272  

Investment securities – available-for-sale

     1,785,862       1,663,517       1,072,920       1,206,580       1,067,287  

Investment securities – held-to-maturity

     192,776       224,756       284,176       309,042       356,790  

Loans receivable

     11,071,879       10,331,188       7,387,699       6,641,571       5,057,502  

Allowance for loan losses

     108,791       110,266       80,002       69,224       55,011  

Intangible assets

     1,001,304       977,300       396,294       399,426       346,348  

Non-interest-bearing deposits

     2,401,232       2,385,252       1,695,184       1,456,624       1,203,306  

Total deposits

     10,899,778       10,388,502       6,942,427       6,438,509       5,423,971  

Subordinated debentures (trust preferred securities)

     368,790       368,031       60,826       60,826       60,826  

Stockholders’ equity

     2,349,886       2,204,291       1,327,490       1,199,757       1,015,292  

Capital ratios:

          

Common equity to assets

     15.36     15.25     13.53     12.92     13.71

Tangible common equity to tangible assets
(non-GAAP)(1)(7)

     9.43       9.11       9.89       9.00       9.48  

Common equity Tier 1 capital

     11.34       10.86       11.30       10.50       —    

Tier 1 leverage ratio(8)

     10.36       9.98       10.63       9.91       10.31  

Tier 1 risk-based capital ratio

     11.93       11.48       12.01       11.26       12.55  

Total risk-based capital ratio

     15.31       15.05       12.97       12.16       13.51  

Dividend payout—common

     26.59       44.69       27.15       27.19       20.49  

 

(1)

Tangible calculations eliminate the effect of goodwill and acquisition-related intangible assets and the corresponding amortization expense on a tax-effected basis.

(2)

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Table 25,” for the non-GAAP tabular reconciliation.

(3)

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Table 26,” for the non-GAAP tabular reconciliation.

(4)

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Table 27,” for the non-GAAP tabular reconciliation.

(5)

Fully taxable equivalent (assuming an income tax rate of 39.225% for 2014-2017 and 26.135% for 2018).

(6)

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Table 29,” for the non-GAAP tabular reconciliation.

(7)

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Table 28,” for the non-GAAP tabular reconciliation.

(8)

Leverage ratio is Tier 1 capital to quarterly average total assets less intangible assets and gross unrealized gains/losses on available-for-sale investment securities.

 

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Item 7.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis presents our consolidated financial condition and results of operations for the years ended December 31, 2018, 2017 and 2016. This discussion should be read together with the “Summary Consolidated Financial Data,” our consolidated financial statements and the notes thereto, and other financial data included in this document. In addition to the historical information provided below, we have made certain estimates and forward-looking statements that involve risks and uncertainties. Our actual results could differ significantly from those anticipated in these estimates and in the forward-looking statements as a result of certain factors, including those discussed in the section of this document captioned “Risk Factors,” and elsewhere in this document. Unless the context requires otherwise, the terms “Company”, “HBI”, “us”, “we” and “our” refer to Home BancShares, Inc. on a consolidated basis.

General

We are a bank holding company headquartered in Conway, Arkansas, offering a broad array of financial services through our wholly owned bank subsidiary, Centennial Bank (“Centennial”). As of December 31, 2018, we had, on a consolidated basis, total assets of $15.30 billion, loans receivable, net of $10.96 billion, total deposits of $10.90 billion, and stockholders’ equity of $2.35 billion.

We generate most of our revenue from interest on loans and investments, service charges, and mortgage banking income. Deposits and FHLB borrowed funds are our primary source of funding. Our largest expenses are interest on our funding sources, salaries and related employee benefits and occupancy and equipment. We measure our performance by calculating our net interest margin, return on average assets and return on average common equity. We also measure our performance by our efficiency ratio and efficiency ratio, as adjusted (non-GAAP). The efficiency ratio is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income. The efficiency ratio, as adjusted, is a meaningful non-GAAP measure for management, as it excludes certain items and is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income excluding certain items such as merger expenses, hurricane expenses and/or gains and losses.

Table 1: Key Financial Measures

 

     As of or for the Years Ended December 31,  
     2018     2017     2016  
     (Dollars in thousands, except per share data)  

Total assets

   $ 15,302,438     $ 14,449,760     $ 9,808,465  

Loans receivable

     11,071,879       10,331,188       7,387,699  

Allowance for loan losses

     108,791       110,266       80,002  

Total deposits

     10,899,778       10,388,502       6,942,427  

Total stockholders’ equity

     2,349,886       2,204,291       1,327,490  

Net income

     300,403       135,083       177,146  

Basic earnings per share

     1.73       0.90       1.26  

Diluted earnings per share

     1.73       0.89       1.26  

Book value per share

     13.76       12.70       9.45  

Tangible book value per share (non-GAAP)(1)

     7.90       7.07       6.63  

Net interest margin

     4.42     4.51     4.81

Efficiency ratio

     38.48       41.89       37.65  

Efficiency ratio, as adjusted (non-GAAP)(2)

     37.67       37.66       36.55  

Return on average assets

     2.06       1.17       1.85  

Return on average common equity

     13.17       8.23       14.08  

 

(1)

See table 25 for the non-GAAP tabular reconciliation.

(2)

See table 29 for the non-GAAP tabular reconciliation.

 

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2018 Overview

Our net income increased $165.3 million, or 122.4%, to $300.4 million for the year ended December 31, 2018, from $135.1 million for the same period in 2017. On a diluted earnings per share basis, our earnings were $1.73 per share and $0.89 per share for the years ended December 31, 2018 and 2017, respectively, representing an increase of $0.84 per share or 94.4% for the year ended 2018 when compared to the previous year. Excluding the $470,000 of hurricane expense and the $6.0 million of merger expenses, 2018 annual after-tax earnings, as adjusted (non-GAAP), were $305.2 million, an increase of $100.4 million, or 49.0%, from 2017 annual after-tax earnings, as adjusted (non-GAAP), of $204.8 million (See Table 24 for the non-GAAP tabular reconciliation). The $100.4 million increase in earnings, as adjusted, includes $49.5 million from tax savings of the Tax Cuts and Jobs Act (“TCJA”). The remaining $50.9 million increase in net income is primarily associated with additional net income from the 2017 acquisitions, increased profitability of Centennial CFG and the acquisition of Shore Premier Finance.

Our net interest margin decreased from 4.51% for the year ended December 31, 2017 to 4.42% for the year ended December 31, 2018. The yield on loans was 5.95% and 5.71% for the years ended December 31, 2018 and 2017, respectively, as average loans increased from $8.40 billion to $10.62 billion. The increase in average loan balances is primarily due to the acquisitions we completed during 2017. For the year ended December 31, 2018 and 2017, we recognized $41.5 million and $35.7 million, respectively, in total net accretion for acquired loans and deposits. The rate on interest-bearing deposits increased from 0.54% for the year ended December 31, 2017, to 0.99% for the year ended December 31, 2018, with average balances of $6.27 billion and $8.06 billion, respectively.

Our efficiency ratio was 38.48% for the year ended December 31, 2018, compared to 41.89% for the same period in 2017. For year ended 2018, our efficiency ratio, as adjusted (non-GAAP), was 37.67%, which was comparable to the 37.66% reported for the year ended 2017 (See Table 29 for the non-GAAP tabular reconciliation). Even though acquisitions tend to increase our efficiency ratio in the short term, we experienced cost savings from our Stonegate acquisition that were realized soon after conversion, which was completed on February 9, 2018.

Our return on average assets was 2.06% for the year ended December 31, 2018, compared to 1.17% for the same period in 2017. Our return on average assets, as adjusted (non-GAAP), was 2.10% for the year ended December 31, 2018, compared to 1.78% for the same period in 2017 (See Table 26 for the non-GAAP tabular reconciliation). Our return on average common equity was 13.17% for the year ended December 31, 2018, compared to 8.23% for the same period in 2017. Our return on average common equity, as adjusted (non-GAAP), was 13.38% for the year ended December 31, 2018, compared to 12.48% for the same period in 2017 (See Table 27 for the non-GAAP tabular reconciliation).

Our total assets as of December 31, 2018 increased $852.7 million to $15.30 billion from the $14.45 billion reported as of December 31, 2017. Our loan portfolio increased $740.7 million to $11.07 billion as of December 31, 2018, from $10.33 billion as of December 31, 2017. This increase is a result of $376.2 million in loans acquired in the Shore Premier Finance acquisition and $364.5 million in organic loan growth. Stockholders’ equity increased $145.6 million to $2.35 billion as of December 31, 2018, compared to $2.20 billion as of December 31, 2017. The increase in stockholders’ equity is primarily associated with the $221.5 million increase in retained earnings and the issuance of $28.2 million in stock as a part of the acquisition of Shore Premier Finance, offset by a $10.4 million change in accumulated other comprehensive income and the repurchase of $104.3 million of our common stock during 2018, which includes the repurchase of the shares issued as part of the acquisition of the Shore Premier Finance. The improvement in stockholders’ equity for 2018 was 6.6%.

As of December 31, 2018, our non-performing loans increased to $64.2 million, or 0.58%, of total loans from $44.7 million, or 0.43%, of total loans as of December 31, 2017. The allowance for loan losses as a percentage of non-performing loans decreased to 169.35% as of December 31, 2018, compared to 246.70% as of December 31, 2017. Non-performing loans from our Arkansas franchise were $17.4 million at December 31, 2018 compared to $15.5 million as of December 31, 2017. Non-performing loans from our Florida franchise were $43.3 million at December 31, 2018 compared to $28.2 million as of December 31, 2017. Non-performing loans from our Alabama franchise were $179,000 at December 31, 2018 compared to $929,000 as of December 31, 2017. Non-performing loans from our SPF franchise, which we acquired in 2018, were $3.4 million at December 31, 2018. There were no non-performing loans from our Centennial CFG franchise.

 

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As of December 31, 2018, our non-performing assets increased to $78.0 million, or 0.51%, of total assets from $63.6 million, or 0.44%, of total assets as of December 31, 2017. Non-performing assets from our Arkansas franchise were $24.0 million at December 31, 2018 compared to $25.6 million as of December 31, 2017. Non-performing assets from our Florida franchise were $50.2 million at December 31, 2018 compared to $36.4 million as of December 31, 2017. Non-performing assets from our Alabama franchise were $306,000 at December 31, 2018 compared to $1.6 million as of December 31, 2017. Non-performing assets from our SPF franchise were $3.4 million at December 31, 2018. There were no non-performing assets from our Centennial CFG franchise.

2017 Overview

Our net income decreased $42.0 million, or 23.7%, to $135.1 million for the year ended December 31, 2017, from $177.1 million for the same period in 2016. On a diluted earnings per share basis, our earnings were $0.89 per share and $1.26 per share for the years ended December 31, 2017 and 2016, respectively, representing a decrease of $0.37 per share or 29.37% for the year ended 2017 when compared to the previous year. Excluding the $36.9 million one-time TCJA charge, $33.4 million of hurricane expense, and $25.7 million of merger expenses associated with the 2017 acquisitions offset by $3.8 million of one-time non-taxable gain on acquisition, 2017 annual after-tax earnings excluding certain items were $204.8 million, an increase of $27.8 million, or 15.7%, from 2016 annual after-tax earnings excluding certain items of $177.0 million (See Table 24 for the non-GAAP tabular reconciliation). The $27.8 million increase in earnings excluding certain items is primarily associated with additional net interest income largely resulting from our acquisitions combined with $125.2 million of organic loan growth plus a decrease in the non-hurricane related provision for loan losses during 2017, growth in non-interest income and the reduced amortization of the indemnification asset when compared to the same period in 2016. These improvements were partially offset by an increase in the costs associated with the asset growth plus an increase in interest expense on deposits and an increase in interest expense related to the issuance of $300 million of subordinated notes during the second quarter of 2017 when compared to the same period in 2016.

Our net interest margin decreased from 4.81% for the year ended December 31, 2016 to 4.51% for the year ended December 31, 2017. For the year ended December 31, 2017 and 2016, we recognized $35.7 million and $42.3 million, respectively, in total net accretion for acquired loans and deposits. Other than the previously mentioned reduction in net accretion income for acquired loans and deposits, the net interest margin was negatively impacted by our April 2017 issuance of $300 million of 5.625% fixed-to-floating rate subordinated notes, which added approximately $13.1 million of interest expense when compared to the same period in 2016, and by our strategic decision to keep excess cash liquidity on the books during 2017.

Our efficiency ratio was 41.89% for the year ended December 31, 2017, compared to 37.65% for the same period in 2016. For year ended 2017, our efficiency ratio, as adjusted (non-GAAP), was 37.66% which increased from the 36.55% reported for the year ended 2016 (See Table 29 for the non-GAAP tabular reconciliation). The efficiency ratio, as adjusted (non-GAAP), is a non-GAAP measure and is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income excluding certain items such as merger expenses and/or gains and losses.

Our return on average assets was 1.17% for the year ended December 31, 2017, compared to 1.85% for the same period in 2016. Our return on average assets, as adjusted (non-GAAP), was 1.78% for the year ended December 31, 2017, compared to 1.85% for the same period in 2016 (See Table 26 for the non-GAAP tabular reconciliation). Our return on average common equity was 8.23% for the year ended December 31, 2017, compared to 14.08% for the same period in 2016. Our return on average common equity, as adjusted (non-GAAP), was 12.48% for the year ended December 31, 2017, compared to 14.07% for the same period in 2016 (See Table 27 for the non-GAAP tabular reconciliation).

 

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Our total assets as of December 31, 2017 increased $4.64 billion to $14.45 billion from the $9.81 billion reported as of December 31, 2016. Our loan portfolio increased $2.94 billion to $10.33 billion as of December 31, 2017, from $7.39 billion as of December 31, 2016. This increase is primarily a result of our acquisitions since December 31, 2016. Stockholders’ equity increased $876.8 million to $2.20 billion as of December 31, 2017, compared to $1.33 billion as of December 31, 2016. The increase in stockholders’ equity is primarily associated with the $77.5 million and $742.3 million of common stock issued to the GHI and Stonegate shareholders, respectively, plus the $74.7 million increase in retained earnings offset by $3.8 million of comprehensive loss and the repurchase of $20.8 million of our common stock during 2017. The improvement in stockholders’ equity for 2017, excluding the $77.5 million and $742.3 million of common stock issued to the GHI and Stonegate shareholders, respectively, was 4.3%.

As of December 31, 2017, our non-performing loans decreased to $44.7 million, or 0.43%, of total loans from $63.1 million, or 0.85%, of total loans as of December 31, 2016. The allowance for loan losses as a percentage of non-performing loans increased to 246.70% as of December 31, 2017, compared to 126.74% as of December 31, 2016. Non-performing loans from our Arkansas franchise were $15.5 million at December 31, 2017 compared to $28.5 million as of December 31, 2016. Non-performing loans from our Florida franchise were $28.2 million at December 31, 2017 compared to $34.0 million as of December 31, 2016. Non-performing loans from our Alabama franchise were $929,000 at December 31, 2017 compared to $656,000 as of December 31, 2016. There were no non-performing loans from our Centennial CFG franchise.

As of December 31, 2017, our non-performing assets decreased to $63.6 million, or 0.44%, of total assets from $79.1 million, or 0.81%, of total assets as of December 31, 2016. Non-performing assets from our Arkansas franchise were $25.6 million at December 31, 2017 compared to $41.0 million as of December 31, 2016. Non-performing assets from our Florida franchise were $36.4 million at December 31, 2017 compared to $36.8 million as of December 31, 2016. Non-performing assets from our Alabama franchise were $1.6 million at December 31, 2017 compared to $1.2 million as of December 31, 2016. There were no non-performing assets from our Centennial CFG franchise.

Critical Accounting Policies

Overview. We prepare our consolidated financial statements based on the selection of certain accounting policies, generally accepted accounting principles and customary practices in the banking industry. These policies, in certain areas, require us to make significant estimates and assumptions. Our accounting policies are described in detail in the notes to our consolidated financial statements included as part of this document.

We consider a policy critical if (i) the accounting estimate requires assumptions about matters that are highly uncertain at the time of the accounting estimate; and (ii) different estimates that could reasonably have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on our financial statements. Using these criteria, we believe that the accounting policies most critical to us are those associated with our lending practices, including the accounting for the allowance for loan losses, foreclosed assets, investments, intangible assets, income taxes and stock options.

Revenue Recognition. Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC Topic 606”), establishes principles for reporting information about the nature, amount, timing and uncertainty of revenue and cash flows arising from the entity’s contracts to provide goods or services to customers. The core principle requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration that it expects to be entitled to receive in exchange for those goods or services recognized as performance obligations are satisfied. The majority of our revenue-generating transactions are not subject to ASC Topic 606, including revenue generated from financial instruments, such as our loans, letters of credit, investment securities and mortgage lending income, as these activities are subject to other GAAP discussed elsewhere within our disclosures. Descriptions of our revenue-generating activities that are within the scope of ASC Topic 606, which are presented in our income statements as components of non-interest income are as follows:

 

   

Service charges on deposit 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. Revenue is recognized when our performance obligation is completed, which is generally monthly for account maintenance services or when a transaction has been completed (such as a wire transfer). Payment for such performance obligations are generally received at the time the performance obligations are satisfied.

 

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Other service charges and fees – These represent credit card interchange fees and Centennial CFG loan fees. The interchange fees are recorded in the period the performance obligation is satisfied which is generally the cash basis based on agreed upon contracts. Centennial CFG loan fees are based on loan or other negotiated agreements with customers and are accounted for under ASC Topic 310. Interchange fees were $20.4 million and $24.1 million for the years ended December 31, 2018 and December 31, 2017, respectively. Centennial CFG loan fees were $4.8 million and $4.0 million for the years ended December 31, 2018 and December 31, 2017, respectively.

Financial Instruments. ASU 2016-01 “Financial Instruments—Overall (Subtopic 825-10): Recognition of Financial Assets and Financial Liabilities, (“ASU 2016-01”) makes targeted amendments to the guidance for recognition, measurement, presentation and disclosure of financial instruments. ASU 2016-01 requires equity investments, other than equity method investments, to be measured at fair value with changes in fair value recognized in net income. The ASU requires a cumulative-effect adjustment to retained earnings as of the beginning of the reporting period of adoption to reclassify the cumulative change in fair value of equity securities previously recognized in accumulated other comprehensive income (“AOCI”). ASU 2016-01 became effective for us on January 1, 2018. The adoption of the guidance resulted in a $990,000 cumulative-effect adjustment that increased retained earnings, with offsetting related adjustments to deferred taxes and AOCI. ASU 2016-01 also emphasizes the existing requirement to use exit prices to measure fair value for disclosure purposes and clarifies that entities should not make use of a practicability exception in determining the fair value of loans. Accordingly, we refined the calculation used to determine the disclosed fair value of our loans held for investment portfolio as part of adopting this standard. The refined calculation did not have a significant impact on our fair value disclosures.

Investments – Available-for-sale. Securities available-for-sale are reported at fair value with unrealized holding gains and losses reported as a separate component of stockholders’ equity and other comprehensive income (loss), net of taxes. Securities that are held as available-for-sale are used as a part of our asset/liability management strategy. Securities that may be sold in response to interest rate changes, changes in prepayment risk, the need to increase regulatory capital, and other similar factors are classified as available-for-sale.

Investments – Held-to-Maturity. Securities held-to-maturity, which include any security for which we have the positive intent and ability to hold until maturity, are reported at historical cost adjusted for amortization of premiums and accretion of discounts. Starting January 1, 2018, premiums are now amortized to call date under ASU 2017-08 and discounts are accreted to interest income using the constant yield method over the period to maturity.

Loans Receivable and Allowance for Loan Losses. Except for loans acquired during our acquisitions, substantially all of our loans receivable are reported at their outstanding principal balance adjusted for any charge-offs, as it is management’s intent to hold them for the foreseeable future or until maturity or payoff, except for mortgage loans held for sale. Interest income on loans is accrued over the term of the loans based on the principal balance outstanding.

The allowance for loan losses is established through a provision for loan losses charged against income. The allowance represents an amount that, in management’s judgment, will be adequate to absorb probable credit losses on identifiable loans that may become uncollectible and probable credit losses inherent in the remainder of the loan portfolio. The amounts of provisions for loan losses are based on management’s analysis and evaluation of the loan portfolio for identification of problem credits, internal and external factors that may affect collectability, relevant credit exposure, particular risks inherent in different kinds of lending, current collateral values and other relevant factors.

The allowance consists of allocated and general components. The allocated component relates to loans that are classified as impaired. For those loans that are classified as impaired, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical charge-off experience and expected loss given default derived from the bank’s internal risk rating process. Other adjustments may be made to the allowance for pools of loans after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risk rating data.

 

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Loans considered impaired, under FASB ASC 310-10-35, are loans for which, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. The aggregate amount of impairment of loans is utilized in evaluating the adequacy of the allowance for loan losses and amount of provisions thereto. Losses on impaired loans are charged against the allowance for loan losses when in the process of collection, it appears likely that such losses will be realized. The accrual of interest on impaired loans is discontinued when, in management’s opinion the collection of interest is doubtful, or generally when loans are 90 days or more past due. When accrual of interest is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

Groups of loans with similar risk characteristics are collectively evaluated for impairment based on the group’s historical loss experience adjusted for changes in trends, conditions and other relevant factors that affect repayment of the loans.

Loans are placed on non-accrual status when management believes that the borrower’s financial condition, after giving consideration to economic and business conditions and collection efforts, is such that collection of interest is doubtful, or generally when loans are 90 days or more past due. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Accrued interest related to non-accrual loans is generally charged against the allowance for loan losses when accrued in prior years and reversed from interest income if accrued in the current year. Interest income on non-accrual loans may be recognized to the extent cash payments are received, although the majority of payments received are usually applied to principal. Non-accrual loans are generally returned to accrual status when principal and interest payments are less than 90 days past due, the customer has made required payments for at least six months, and we reasonably expect to collect all principal and interest.

Acquisition Accounting and Acquired Loans. We account for our acquisitions under FASB ASC Topic 805, Business Combinations, which requires the use of the acquisition method of accounting. All identifiable assets acquired, including loans, are recorded at fair value. No allowance for loan losses related to the acquired loans is recorded on the acquisition date as the fair value of the purchased loans incorporates assumptions regarding credit risk. All purchased loans are recorded at fair value in accordance with the fair value methodology prescribed in FASB ASC Topic 820, Fair Value Measurements. The fair value estimates associated with the loans include estimates related to expected prepayments and the amount and timing of undiscounted expected principal, interest and other cash flows.

Over the life of the purchased credit impaired loans, we continue to estimate cash flows expected to be collected on pools of loans sharing common risk characteristics, which are treated in the aggregate when applying various valuation techniques. We evaluate at each balance sheet date whether the present value of our pools of loans determined using the effective interest rates has decreased and if so, recognize a provision for loan loss in its consolidated statement of income. For any increases in cash flows expected to be collected, we adjust the amount of accretable yield recognized on a prospective basis over the pool’s remaining life.

Foreclosed Assets Held for Sale. Real estate and personal properties acquired through or in lieu of loan foreclosure are to be sold and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Valuations are periodically performed by management, and the real estate and personal properties are carried at fair value less costs to sell. Gains and losses from the sale of other real estate and personal properties are recorded in non-interest income, and expenses used to maintain the properties are included in non-interest expenses.

Intangible Assets. Intangible assets consist of goodwill and core deposit intangibles. Goodwill represents the excess purchase price over the fair value of net assets acquired in business acquisitions. The core deposit intangible represents the excess intangible value of acquired deposit customer relationships as determined by valuation specialists. The core deposit intangibles are being amortized over 48 to 121 months on a straight-line basis. Goodwill is not amortized but rather is evaluated for impairment on at least an annual basis. We perform an annual impairment test of goodwill and core deposit intangibles as required by FASB ASC 350, Intangibles—Goodwill and Other, in the fourth quarter.

 

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Income Taxes. We account for income taxes in accordance with income tax accounting guidance (ASC 740, Income Taxes). The income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. We determine deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur.

Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term “more likely than not” means a likelihood of more than 50 percent; the terms “examined” and “upon examination” also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances and information available at the reporting date and is subject to the management’s judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized.

Both we and our subsidiary file consolidated tax returns. Our subsidiary provides for income taxes on a separate return basis, and remits to us amounts determined to be currently payable.

Stock Compensation. In accordance with FASB ASC 718, Compensation—Stock Compensation, and FASB ASC 505-50, Equity-Based Payments to Non-Employees, the fair value of each option award is estimated on the date of grant. We recognize compensation expense for the grant-date fair value of the option award over the vesting period of the award.

 

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Acquisitions

Shore Premier Finance

On June 30, 2018, the Company, completed the acquisition of Shore Premier Finance (“SPF”), a division of Union Bank & Trust of Richmond, Virginia (“Union”), the bank subsidiary of Union Bankshares Corporation. The Company paid a purchase price of approximately $377.4 million in cash, subject to certain post-closing adjustments, and 1,250,000 shares of HBI common stock. SPF provides direct consumer financing for United States Coast Guard (“USCG”) registered high-end sail and power boats. Additionally, SPF provides inventory floor plan lines of credit to marine dealers, primarily those selling USCG documented vessels.

Including the purchase accounting adjustments, as of acquisition date, SPF had approximately $377.0 million in total assets, including $376.2 million in total loans, which resulted in goodwill of $30.5 million being recorded.

This portfolio of loans is now housed in a division of Centennial known as Shore Premier Finance. The SPF division of Centennial is responsible for servicing the acquired loan portfolio and originating new loan production. In connection with this acquisition, Centennial opened a new loan production office in Chesapeake, Virginia, to house the SPF division. Through the SPF division, Centennial is working to build out a lending platform focusing on commercial and consumer marine loans.

See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for additional information regarding the acquisition of SPF.

Stonegate Bank

On September 26, 2017, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Stonegate Bank (“Stonegate”), and merged Stonegate into Centennial. The Company paid a purchase price to the Stonegate shareholders of approximately $792.4 million for the Stonegate acquisition. Under the terms of the merger agreement, shareholders of Stonegate received 30,863,658 shares of HBI common stock valued at approximately $742.3 million plus approximately $50.1 million in cash in exchange for all outstanding shares of Stonegate common stock. In addition, the holders of outstanding stock options of Stonegate received approximately $27.6 million in cash in connection with the cancellation of their options immediately before the acquisition closed, for a total transaction value of approximately $820.0 million.

Including the effects of purchase accounting adjustments, as of acquisition date, Stonegate had approximately $2.89 billion in total assets, $2.37 billion in loans and $2.53 billion in customer deposits. Stonegate formerly operated its banking business from 24 locations in key Florida markets with significant presence in Broward and Sarasota counties.

Through our acquisition and merger of Stonegate into Centennial, we maintain a customer relationship to handle the accounts for Cuba’s diplomatic missions at the United Nations and for the Cuban Interests Section (now the Cuban Embassy) in Washington, D.C. This relationship was established in May 2015 pursuant to a special license granted to Stonegate by the U.S. Treasury Department’s Office of Foreign Assets Control in connection with the reestablishment of diplomatic relations between the U.S. and Cuba. In July 2015, Stonegate Bank established a correspondent banking relationship with Banco Internacional de Comercio, S.A. in Havana, Cuba. As of December 31, 2017, this correspondent banking relationship does not have a material impact to the Company’s financial position and results of operations.

See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of Stonegate.

 

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The Bank of Commerce

On February 28, 2017, the Company completed its acquisition of all of the issued and outstanding shares of common stock of The Bank of Commerce, a Florida state-chartered bank that operated in the Sarasota, Florida area (“BOC”), pursuant to an acquisition agreement, dated December 1, 2016, by and between the Company and Bank of Commerce Holdings, Inc. (“BCHI”), parent company of BOC. The Company merged BOC with and into Centennial effective as of the close of business on February 28, 2017.

The acquisition of BOC was conducted in accordance with the provisions of Section 363 of the United States Bankruptcy Code (the “Bankruptcy Code”) pursuant to a voluntary petition for relief under Chapter 11 of the Bankruptcy Code filed by BCHI with the United States Bankruptcy Court for the Middle District of Florida (the “Bankruptcy Court”). The sale of BOC by BCHI was subject to certain bidding procedures approved by the Bankruptcy Court. On November 14, 2016, the Company submitted an initial bid to purchase the outstanding shares of BOC in accordance with the bidding procedures approved by the Bankruptcy Court. An auction was subsequently conducted on November 16, 2016, and the Company was deemed to be the successful bidder. The Bankruptcy Court entered a final order on December 9, 2016 approving the sale of BOC to the Company pursuant to and in accordance with the acquisition agreement.

Under the terms of the acquisition agreement, the Company paid an aggregate of approximately $4.2 million in cash for the acquisition, which included the purchase of all outstanding shares of BOC common stock, the discounted purchase of certain subordinated debentures issued by BOC from the existing holders of the subordinated debentures, and an expense reimbursement to BCHI for approved administrative claims in connection with the bankruptcy proceeding.

BOC formerly operated three branch locations in the Sarasota, Florida area. Including the effects of the purchase accounting adjustments, as of acquisition date, BOC had approximately $178.1 million in total assets, $118.5 million in loans after $5.8 million of loan discounts, and $139.8 million in deposits.

See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of BOC.

Giant Holdings, Inc.

On February 23, 2017, the Company completed its acquisition of Giant Holdings, Inc. (“GHI”), parent company of Landmark Bank, N.A. (“Landmark”), pursuant to a definitive agreement and plan of merger whereby GHI merged with and into HBI and, immediately thereafter, Landmark merged with and into Centennial. The Company paid a purchase price to the GHI shareholders of approximately $96.0 million for the GHI acquisition. Under the terms of the agreement, shareholders of GHI received 2,738,038 shares of its common stock valued at approximately $77.5 million as of February 23, 2017, plus approximately $18.5 million in cash in exchange for all outstanding shares of GHI common stock.

GHI formerly operated six branch locations in the Ft. Lauderdale, Florida area. Including the effects of the purchase accounting adjustments, as of acquisition date, GHI had approximately $398.1 million in total assets, $327.8 million in loans after $8.1 million of loan discounts, and $304.0 million in deposits.

See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of GHI.

 

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Termination of Remaining Loss-Share Agreements

Effective July 27, 2016, we reached an agreement terminating our remaining loss-share agreements with the FDIC. As a result, $57.4 million of these loans including their associated discounts previously classified as covered loans (loans previously covered by FDIC loss-share agreements) migrated to non-covered loans status during 2016. Under the terms of the agreement, Centennial made a net payment of $6.6 million to the FDIC as consideration for the early termination of the loss-share agreements, and all rights and obligations of Centennial and the FDIC under the loss-share agreements, including the clawback provisions and the settlement of loss-share and expense reimbursement claims, have been resolved and terminated. This transaction with the FDIC created a one-time acceleration of the indemnification asset plus the negotiated settlement for the true-up liability and resulted in a negative $3.8 million pre-tax financial impact to the third quarter of 2016. It will, however, create a positive financial impact to earnings of approximately $1.5 million annually on a pre-tax basis through the year 2020 as a result of the one-time acceleration of the indemnification asset amortization.

Future Acquisitions

In our continuing evaluation of our growth plans, we believe properly priced bank acquisitions can complement our organic growth and de novo branching growth strategies. We anticipate that our principal acquisition focus will be to continue to expand our presence in Arkansas, Florida and Alabama and into other contiguous markets through pursuing both non-FDIC-assisted and FDIC-assisted bank acquisitions. However, as financial opportunities in other market areas arise, we may seek to expand into those areas.

We will continue evaluating all types of potential bank acquisitions to determine what is in the best interest of our Company. Our goal in making these decisions is to maximize the return to our investors.

Branches

As opportunities arise, we will continue to open new (commonly referred to as de novo) branches in our current markets and in other attractive market areas. During 2018, the Company opened branch locations in Russellville and Jonesboro, Arkansas and a loan production office in Dallas, Texas which is under the management of Centennial CFG. The Company also opened a loan production office in Chesapeake, Virginia in connection with the SPF acquisition.

During 2017, the Company acquired a total of 33 branches through the acquisitions of GHI, BOC and Stonegate. In an effort to achieve efficiencies, primarily from the Stonegate acquisition, the Company closed 12 Florida locations during the first quarter of 2018.

As of December 31, 2018, we had 159 branch locations. There were 77 branches in Arkansas, 76 branches in Florida, five branches in Alabama and one branch in New York City.

Results of Operations for the Years Ended December 31, 2018, 2017 and 2016

Our net income increased $165.3 million, or 122.4%, to $300.4 million for the year ended December 31, 2018, from $135.1 million for the same period in 2017. On a diluted earnings per share basis, our earnings were $1.73 per share and $0.89 per share for the years ended December 31, 2018 and 2017, respectively, representing an increase of $0.84 per share or 94.4% for the year ended 2018 when compared to the previous year. Excluding the $470,000 of hurricane expense and the $6.0 million of merger expenses, 2018 annual after-tax earnings, as adjusted (non-GAAP), were $305.2 million, an increase of $100.4 million, or 49.0%, from 2017 annual after-tax earnings, as adjusted (non-GAAP), of $204.8 million (See Table 24 for the non-GAAP tabular reconciliation). The $100.4 million increase in earnings, as adjusted, includes $49.5 million from tax savings of the TCJA. The remaining $50.9 million increase in net income is primarily associated with additional net income from the 2017 acquisitions, increased profitability of Centennial CFG and the acquisition of Shore Premier Finance.

Our net income decreased $42.0 million, or 23.7%, to $135.1 million for the year ended December 31, 2017, from $177.1 million for the same period in 2016. On a diluted earnings per share basis, our earnings were $0.89 per share and $1.26 per share for the years ended December 31, 2017 and 2016, respectively, representing a decrease of $0.37

 

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per share or 29.37% for the year ended 2017 when compared to the previous year. Excluding the $36.9 million one-time TCJA charge, $33.4 million of hurricane expense, and $25.7 million of merger expenses associated with the 2017 acquisitions offset by $3.8 million of one-time non-taxable gain on acquisition, 2017 annual after-tax earnings excluding certain items were $204.8 million, an increase of $27.8 million, or 15.7%, from 2016 annual after-tax earnings excluding certain items of $177.0 million (See Table 27 for the non-GAAP tabular reconciliation). The $27.8 million increase in earnings excluding certain items is primarily associated with additional net interest income largely resulting from our acquisitions combined with $125.2 million of organic loan growth plus a decrease in the non-hurricane related provision for loan losses during 2017, growth in non-interest income and the reduced amortization of the indemnification asset when compared to the same period in 2016. These improvements were partially offset by an increase in the costs associated with the asset growth plus an increase in interest expense on deposits and an increase in interest expense related to the issuance of $300 million of subordinated notes during the second quarter of 2017 when compared to the same period in 2016.

Net Interest Income

Net interest income, our principal source of earnings, is the difference between the interest income generated by earning assets and the total interest cost of the deposits and borrowings obtained to fund those assets. Factors affecting the level of net interest income include the volume of earning assets and interest-bearing liabilities, yields earned on loans and investments and rates paid on deposits and other borrowings, the level of non-performing loans and the amount of non-interest-bearing liabilities supporting earning assets. Net interest income is analyzed in the discussion and tables below on a fully taxable equivalent basis. The adjustment to convert certain income to a fully taxable equivalent basis consists of dividing tax-exempt income by one minus the combined federal and state income tax rate (26.135% for the year ended December 31, 2018 and 39.225% for years ended December 31, 2017 and 2016).

The Federal Reserve Board sets various benchmark rates, including the Federal Funds rate, and thereby influences the general market rates of interest, including the deposit and loan rates offered by financial institutions. The Federal Funds target rate, which is the cost to banks of immediately available overnight funds, has increased 100 basis points since December 31, 2017, and is currently at 2.25% to 2.50%.

Our net interest margin decreased from 4.51% for the year ended December 31, 2017 to 4.42% for the year ended December 31, 2018. The yield on loans was 5.95% and 5.71% for the years ended December 31, 2018 and 2017, respectively, as average loans increased from $8.40 billion to $10.62 billion. The increase in loan balances is primarily due to the acquisitions we completed during 2017. For the year ended December 31, 2018 and 2017, we recognized $41.5 million and $35.7 million, respectively, in total net accretion for acquired loans and deposits. The rate on interest-bearing deposits increased from 0.54% for the year ended December 31, 2017, to 0.99% for the year ended December 31, 2018, with average balances of $6.27 billion and $8.06 billion, respectively.

Net interest income on a fully taxable equivalent basis increased $102.8 million, or 22.2%, to $566.5 million for the year ended December 31, 2018, from $463.8 million for the same period in 2017. This increase in net interest income was the result of a $162.8 million increase in interest income combined with a $60.0 million increase in interest expense. The $162.8 million increase in interest income was primarily the result of a higher level of earning assets and higher yields on our loans. The higher level of earning assets resulted in an increase in interest income of $139.0 million. The higher yield was primarily driven by the increased loan production in the higher rate environment as well as the repricing of floating rate loans, which resulted in a $23.8 million increase in interest income as well as increased loan accretion income on our historical acquisitions. The $60.0 million increase in interest expense for the year ended December 31, 2018, is primarily the result of interest-bearing liabilities repricing in a rising interest rate environment combined with a higher level of our interest-bearing liabilities. The repricing of our interest-bearing liabilities in a rising interest rate environment resulted in an approximately $43.3 million increase in interest expense. The higher level of our interest-bearing liabilities resulted in an increase in interest expense of approximately $16.7 million.

Our net interest margin decreased from 4.81% for the year ended December 31, 2016 to 4.51% for the year ended December 31, 2017. For the year ended December 31, 2017 and 2016, we recognized $35.7 million and $42.3 million, respectively, in total net accretion for acquired loans and deposits. Other than the previously mentioned reduction in net accretion income for acquired loans and deposits, the net interest margin was negatively impacted by our April 2017 issuance of $300 million of 5.625% fixed-to-floating rate subordinated notes, which added approximately $13.1 million of interest expense when compared to the same period in 2016, and by our strategic decision to keep excess cash liquidity on the books during 2017.

 

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Net interest income on a fully taxable equivalent basis increased $49.9 million, or 12.1%, to $463.8 million for the year ended December 31, 2017, from $413.9 million for the same period in 2016. This increase in net interest income was the result of an $83.6 million increase in interest income combined with a $33.8 million increase in interest expense. The $83.6 million increase in interest income was primarily the result of a higher level of earning assets offset by lower yields on our loans. The higher level of earning assets resulted in an increase in interest income of $84.9 million. The lower yield was primarily driven by the decline of loan accretion income on our historical acquisitions offset by increased loan production in the higher rate environment, which resulted in a $1.3 million decrease in interest income. The $33.8 million increase in interest expense for the year ended December 31, 2017, is primarily the result of an increase in interest-bearing liabilities repricing in a rising interest rate environment combined with a higher level of our interest-bearing liabilities. The repricing of our interest-bearing liabilities in a rising interest rate environment resulted in an approximately $22.0 million increase in interest expense. The higher level of our interest-bearing liabilities, primarily subordinated debentures, resulted in an increase in interest expense of approximately $11.8 million.

Net interest margin, on a fully taxable equivalent basis, was 4.42% for the year ended December 31, 2018, compared to 4.51% and 4.81% for the same periods in 2017 and 2016, respectively. The non-GAAP margin excluding accretion income was 4.05%, 4.12% and 4.26% for the years ended December 31, 2018, 2017 and 2016, respectively.

Additional information and analysis for our net interest margin can be found in Tables 24 through 26 of our Non-GAAP Financial Measurements section of this “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

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Tables 2 and 3 reflect an analysis of net interest income on a fully taxable equivalent basis for the years ended December 31, 2018, 2017 and 2016, as well as changes in fully taxable equivalent net interest margin for the years 2018 compared to 2017 and 2017 compared to 2016.

Table 2: Analysis of Net Interest Income

 

     Years Ended December 31,  
     2018     2017     2016  
     (Dollars in thousands)  

Interest income

   $ 685,368     $ 520,251     $ 436,537  

Fully taxable equivalent adjustment

     5,513       7,856       7,924  
  

 

 

   

 

 

   

 

 

 

Interest income – fully taxable equivalent

     690,881       528,107       444,461  

Interest expense

     124,355       64,346       30,579  
  

 

 

   

 

 

   

 

 

 

Net interest income – fully taxable equivalent

   $ 566,526     $ 463,761     $ 413,882  
  

 

 

   

 

 

   

 

 

 

Yield on earning assets – fully taxable equivalent

     5.39     5.14     5.17

Cost of interest-bearing liabilities

     1.27       0.82       0.46  

Net interest spread – fully taxable equivalent

     4.12       4.32       4.71  

Net interest margin – fully taxable equivalent

     4.42       4.51       4.81  

Table 3: Changes in Fully Taxable Equivalent Net Interest Margin

 

     December 31,  
     2018 vs.
2017
     2017 vs.
2016
 
     (In thousands)  

Increase (decrease) in interest income due to change in earning assets

   $ 139,008      $ 84,906  

Increase (decrease) in interest income due to change in earning asset yields

     23,766        (1,260

(Increase) decrease in interest expense due to change in interest-bearing liabilities

     (16,700      (11,752

(Increase) decrease in interest expense due to change in interest rates paid on interest-bearing liabilities

     (43,309      (22,015
  

 

 

    

 

 

 

Increase (decrease) in net interest income

   $ 102,765      $ 49,879  
  

 

 

    

 

 

 

Table 4 shows, for each major category of earning assets and interest-bearing liabilities, the average amount outstanding, the interest income or expense on that amount and the average rate earned or expensed for the years ended December 31, 2018, 2017 and 2016. The table also shows the average rate earned on all earning assets, the average rate expensed on all interest-bearing liabilities, the net interest spread and the net interest margin for the same periods. The analysis is presented on a fully taxable equivalent basis. Non-accrual loans were included in average loans for the purpose of calculating the rate earned on total loans.

 

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Table 4: Average Balance Sheets and Net Interest Income Analysis

 

     Years Ended December 31,  
     2018     2017     2016  
     Average
Balance
     Income /
Expense
     Yield /
Rate
    Average
Balance
     Income /
Expense
     Yield /
Rate
    Average
Balance
     Income /
Expense
     Yield /
Rate
 
     (Dollars in thousands)  

ASSETS

                        

Earnings assets

                        

Interest-bearing balances due from banks

   $ 265,071      $ 4,649        1.75   $ 220,231      $ 2,309        1.05   $ 117,022      $ 471        0.40

Federal funds sold

     2,876        33        1.15       6,308        10        0.16       1,764        9        0.51  

Investment securities – taxable

     1,542,188        36,833        2.39       1,300,384        26,776        2.06       1,161,428        21,246        1.83  

Investment securities – non-taxable

     386,790        17,434        4.51       348,865        19,411        5.56       337,318        18,598        5.51  

Loans receivable

     10,618,796        631,932        5.95       8,403,154        479,601        5.71       6,986,759        404,137        5.78  
  

 

 

    

 

 

      

 

 

    

 

 

      

 

 

    

 

 

    

Total interest-earning assets

     12,815,721      $ 690,881        5.39       10,278,942      $ 528,107        5.14       8,604,291      $ 444,461        5.17  
     

 

 

         

 

 

         

 

 

    

Non-earning assets

     1,751,492             1,220,163             964,562        
  

 

 

         

 

 

         

 

 

       

Total assets

   $ 14,567,213           $ 11,499,105           $ 9,568,853        
  

 

 

         

 

 

         

 

 

       

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

                  

Liabilities

                        

Interest-bearing liabilities

                        

Savings and interest-bearing transaction accounts

   $ 6,418,186      $ 58,199        0.91   $ 4,823,626      $ 23,176        0.48   $ 3,717,880      $ 8,978        0.24

Time deposits

     1,645,986        21,390        1.30       1,444,828        10,601        0.73       1,362,680        6,948        0.51  
  

 

 

    

 

 

      

 

 

    

 

 

      

 

 

    

 

 

    

Total interest-bearing deposits

     8,064,172        79,589        0.99       6,268,454        33,777        0.54       5,080,560        15,926        0.31  

Federal funds purchased

     31        1        3.23       77        1        1.30       255        2        0.78  

Securities sold under agreement to repurchase

     148,327        1,822        1.23       134,689        918        0.68       120,576        574        0.48  

FHLB borrowed funds

     1,180,897        22,354        1.89       1,117,817        14,513        1.30       1,376,364        12,484        0.91  

Subordinated debentures

     368,409        20,589        5.59       285,733        15,137        5.30       60,826        1,593        2.62  
  

 

 

    

 

 

      

 

 

    

 

 

      

 

 

    

 

 

    

Total interest-bearing liabilities

     9,761,836        124,355        1.27       7,806,770        64,346        0.82       6,638,581        30,579        0.46  
     

 

 

         

 

 

         

 

 

    

Non-interest-bearing liabilities

                        

Non-interest-bearing deposits

     2,464,024             2,005,632             1,619,128        

Other liabilities

     60,298             45,425             53,218        
  

 

 

         

 

 

         

 

 

       

Total liabilities

     12,286,158             9,857,827             8,310,927        

Stockholders’ equity

     2,281,055             1,641,278             1,257,926        
  

 

 

         

 

 

         

 

 

       

Total liabilities and stockholders’ equity

   $ 14,567,213           $ 11,499,105           $ 9,568,853        
  

 

 

         

 

 

         

 

 

       

Net interest spread

           4.12           4.32           4.71

Net interest income and margin

      $ 566,526        4.42        $ 463,761        4.51        $ 413,882        4.81  
     

 

 

         

 

 

         

 

 

    

 

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Table 5 shows changes in interest income and interest expense resulting from changes in volume and changes in interest rates for the year ended December 31, 2018 compared to 2017 and 2017 compared to 2016 on a fully taxable basis. The changes in interest rate and volume have been allocated to changes in average volume and changes in average rates, in proportion to the relationship of absolute dollar amounts of the changes in rates and volume.

Table 5: Volume/Rate Analysis

 

     Years Ended December 31,  
     2018 over 2017     2017 over 2016  
     Volume     Yield
/Rate
    Total     Volume     Yield
/Rate
    Total  
     (In thousands)  

Increase (decrease) in:

            

Interest income:

            

Interest-bearing balances due from banks

   $ 543     $ 1,797     $ 2,340     $ 651     $ 1,187     $ 1,838  

Federal funds sold

     (8     31       23       10       (9     1  

Investment securities – taxable

     5,407       4,650       10,057       2,698       2,832       5,530  

Investment securities – non-taxable

     1,964       (3,941     (1,977     641       172       813  

Loans receivable

     131,102       21,229       152,331       80,906       (5,442     75,464  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest income

     139,008       23,766       162,774       84,906       (1,260     83,646  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Interest expense:

            

Interest-bearing transaction and savings deposits

     9,506       25,517       35,023       3,281       10,917       14,198  

Time deposits

     1,650       9,139       10,789       441       3,212       3,653  

Federal funds purchased

     —         —         —         —         (1     (1

Securities sold under agreement to repurchase

     101       803       904       73       271       344  

FHLB borrowed funds

     860       6,981       7,841       (2,652     4,681       2,029  

Subordinated debentures

     4,583       869       5,452       10,609       2,935       13,544  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest expense

     16,700       43,309       60,009       11,752       22,015       33,767  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Increase (decrease) in net interest income

   $ 122,308     $ (19,543   $ 102,765     $ 73,154     $ (23,275   $ 49,879  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Provision for Loan Losses

Our management assesses the adequacy of the allowance for loan losses by applying the provisions of FASB ASC 310-10-35. Specific allocations are determined for loans considered to be impaired and loss factors are assigned to the remainder of the loan portfolio to determine an appropriate level in the allowance for loan losses. The allowance is increased, as necessary, by making a provision for loan losses. The specific allocations for impaired loans are assigned based on an estimated net realizable value after a thorough review of the credit relationship. The potential loss factors associated with the remainder of the loan portfolio are based on an internal net loss experience, as well as management’s review of trends within the portfolio and related industries.

While general economic trends have continued to improve, we cannot be certain that the current economic conditions will continue in the future. Recent and ongoing events at the national and international levels can create uncertainty in the financial markets. Despite these economic uncertainties, we continue to follow our historically conservative procedures for lending and evaluating the provision and allowance for loan losses. Our practice continues to be primarily traditional real estate lending with strong loan-to-value ratios.

Generally, commercial, commercial real estate, and residential real estate loans are assigned a level of risk at origination. Thereafter, these loans are reviewed on a regular basis. The periodic reviews generally include loan payment and collateral status, the borrowers’ financial data, and key ratios such as cash flows, operating income, liquidity, and leverage. A material change in the borrower’s credit analysis can result in an increase or decrease in the loan’s assigned risk grade. Aggregate dollar volume by risk grade is monitored on an on-going basis.

 

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Our management reviews certain key loan quality indicators on a monthly basis, including current economic conditions, delinquency trends and ratios, portfolio mix changes, and other information management deems necessary. This review process provides a degree of objective measurement that is used in conjunction with periodic internal evaluations. To the extent that this review process yields differences between estimated and actual observed losses, adjustments are made to the loss factors used to determine the appropriate level of the allowance for loan losses.

Our Company is primarily a real estate lender in the markets we serve. As such, we are subject to declines in asset quality when real estate prices fall. The recession in the latter years of the last decade harshly impacted the real estate market in Florida. The economic conditions in virtually every asset class, particularly in our Florida markets, have improved in recent years. Our Arkansas markets’ economies remained relatively stable during and after the recession with no significant boom or bust.

The provision for loan losses represents management’s determination of the amount necessary to be charged against the current period’s earnings, to maintain the allowance for loan losses at a level that is considered adequate in relation to the estimated risk inherent in the loan portfolio.

In 2017, the Company established a $32.9 million storm-related provision for loans affected by Hurricane Irma. The $32.9 million of storm-related provision for loan losses was calculated by taking a 5.0% allocation on the loans in the Florida Key loans receivable balances, a 5.0% allocation on specific large loans located in the path of the hurricane on the mainland of Florida, and a 0.75% allocation on balances in the remaining counties within the FEMA-designated disaster areas. As of December 31, 2018, $2.5 million in charge-offs had been taken against the storm-related allowance for loan losses. As a result, management reevaluated the storm-related allowance for Hurricane Irma. Based on this analysis, management determined a $2.9 million storm-related allowance was still necessary. This amount was calculated by assigning a 0.10% to 0.35% allocation on the loans in the impacted counties, with the counties most heavily impacted receiving the 0.35% allocation. During the fourth quarter of 2018, Hurricane Michael made landfall in the Florida Panhandle as a Category 4 hurricane. Due to this event, the Company’s management performed an analysis on the loans with collateral in the impacted counties in the Florida Panhandle. Based on this analysis, management determined a $20.4 million storm-related provision was necessary. This amount was calculated by taking a 1.0% to 6.0% allocation on the loans in the impacted counties. The counties that experienced the most damage were assigned a 6.0% allocation. After establishing the storm-related provision for Hurricane Michael and adjusting the allowance for Hurricane Irma, the storm-related allowance was $23.3 million for the year ended December 31, 2018.

There was $4.3 million, $44.3 million and $18.6 million provision loan losses for years ended December 31, 2018, 2017 and 2016, respectively. Excluding $32.9 million of additional provision for loan losses related to Hurricane Irma during 2017, we experienced a $7.0 million decrease in the provision for loan losses during 2018 versus 2017. This $7.0 million decrease is primarily a result of lower net charge-offs and continued strong asset quality.

Excluding $32.9 million of additional provision for loan losses related to Hurricane Irma during 2017 and the reduced provision for loan losses as a result of a significant loan recovery during 2016, we experienced a $12.3 million decrease in the provision for loan losses during 2017 versus the 2016. This $12.3 million decrease is primarily a result of lower organic loan growth versus 2016.

Based upon current accounting guidance, the allowance for loan losses is not carried over in an acquisition. As a result, none of the acquired loans had any allocation of the allowance for loan losses at merger date. This is the result of all purchased loans being recorded at fair value in accordance with the fair value methodology prescribed in ASC Topic 820. However, as the acquired loans pay off or renew and the acquired footprint originates new loan production, it is necessary to establish an allowance which represents an amount that, in management’s judgment, will be adequate to absorb credit losses. The allowance for loan loss methodology for all originated loans as disclosed in Note 1 to the Notes to Consolidated Financial Statements was used for these loans. Our current or historical provision levels should not be relied upon as a predictor or indicator of future levels going forward.

 

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Non-Interest Income

Total non-interest income was $102.8 million in 2018, compared to $99.6 million in 2017 and $87.1 million in 2016. Our recurring non-interest income includes service charges on deposit accounts, other service charges and fees, trust fees, mortgage lending, insurance, increase in cash value of life insurance and dividends.

Table 6 measures the various components of our non-interest income for the years ended December 31, 2018, 2017, and 2016, respectively, as well as changes for the years 2018 compared to 2017 and 2017 compared to 2016.

Table 6: Non-Interest Income

 

     Years Ended December 31,     2018 Change     2017 Change  
     2018     2017     2016     from 2017     from 2016  
     (Dollars in thousands)  

Service charges on deposit accounts

   $ 26,851     $ 24,922     $ 25,049     $ 1,929       7.7   $ (127)       (0.5 )% 

Other service charges and fees

     36,591       36,127       30,200       464       1.3       5,927       19.6  

Trust fees

     1,552       1,678       1,457       (126     (7.5     221       15.2  

Mortgage lending income

     12,379       13,286       14,399       (907     (6.8     (1,113     (7.7

Insurance commissions

     2,110       1,948       2,296       162       8.3       (348     (15.2

Increase in cash value of life insurance

     2,856       1,989       1,412       867       43.6       577       40.9  

Dividends from FHLB, FRB, First National Bankers’ Bank & other

     5,757       3,485       3,091       2,272       65.2       394       12.7  

Gain on acquisitions

     —         3,807       —         (3,807     (100.0     3,807       100.0  

Gain on sale of SBA loans

     566       738       1,088       (172     (23.3     (350     (32.2

Gain (loss) on sale of branches, equipment and other assets, net

     (120     (960     700       840       87.5       (1,660     (237.1

Gain (loss) on OREO, net

     2,401       1,025       (554     1,376       134.2       1,579       285.0  

Gain (loss) on securities, net

     —         2,132       669       (2,132     (100.0     1,463       218.7  

FDIC indemnification

accretion/(amortization), net

     —         —         (772     —         —         772       (100.0

Other income

     11,889       9,459       8,016       2,430       25.7       1,443       18.0  
  

 

 

   

 

 

   

 

 

   

 

 

     

 

 

   

Total non-interest income

   $ 102,832     $ 99,636     $ 87,051     $ 3,196       3.2   $ 12,585       14.5
  

 

 

   

 

 

   

 

 

   

 

 

     

 

 

   

Non-interest income increased $3.2 million, or 3.2%, to $102.8 million for the year ended December 31, 2018 from $99.6 million for the same period in 2017. Non-interest income excluding gain on acquisitions increased $7.0 million, or 7.3%, to $102.8 million for the year ended December 31, 2018 from $95.8 million for the same period in 2017.

Excluding gain on acquisitions, the primary factors that resulted in the increase from December 31, 2017 to December 31, 2018 were changes related to service charges on deposit accounts, dividends from FHLB, FRB, First National Bankers’ Bank & other, net gain on OREO, net gain on securities, and other income.

Additional details for the year ended December 31, 2018 on some of the more significant changes are as follows:

 

   

The $1.9 million increase in service charges on deposit accounts is primarily related to an increase in overdraft fees due to additional volume, the acquisition of Stonegate during the third quarter of 2017 and improved pricing.

 

   

The $464,000 increase in other service charges and fees is primarily from the acquisition of Stonegate during the third quarter of 2017 and additional exit fees from Centennial CFG loan payoffs during the third and fourth quarter of 2018 which were partially offset by a reduction in fee income as a result of the Company being subject to interchange fee restrictions from the Durbin Amendment, which began during the third quarter of 2018.

 

   

The $2.3 million increase in dividends from FHLB, FRB, First National Bankers’ Bank & other is primarily associated with higher dividend income from Federal Reserve and FHLB stock as well as increased dividend income from other equity investments, which is related to an increased investment balance and improved dividend rate.

 

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The $3.8 million decrease in gain on acquisitions is a result of no bargain purchase gain being recorded during 2018. During the first quarter of 2017, we acquired BOC and recorded a $3.8 million bargain purchase gain on this acquisition.

 

   

The $1.4 million increase in gain (loss) on OREO is primarily related to realizing additional gains on sale from OREO properties during 2018 and no revaluation expense for 2018 compared to $636,000 incurred during 2017.

 

   

The $2.1 million decrease in gain (loss) on securities, net, is a result of no AFS or HTM Securities being sold during 2018 compared to 2017.

 

   

Other income includes loan recoveries of $4.1 million on purchased loans, $2.6 million of brokerage fee income, $1.6 million of rental income, $499,000 of income related to the fair value adjustment of equity securities and $3.1 million of miscellaneous income.

We exceeded $10 billion in assets during the first quarter of 2017 and became subject to the Durbin Amendment to the Dodd-Frank Act interchange fee restrictions beginning in the third quarter of 2018. The Durbin Amendment negatively impacts debit card and ATM fees beginning in the second half of 2018. During the third and fourth quarters of 2018, we collected $6.6 million in debit card interchange fees, which was approximately $5.3 million lower from debit interchange fees of $11.9 million collected during the third and fourth quarter of 2017.

Excluding gain on acquisitions, the primary factors that resulted in the increase from December 31, 2016 to December 31, 2017 were changes related to other service charges and fees, mortgage lending, net loss on branches, equipment and other assets, net gain on OREO, net gain on securities, and amortization on our former FDIC indemnification asset and other income.

Additional details for the year ended December 31, 2017 on some of the more significant changes are as follows:

 

   

The $5.9 million increase in other service charges and fees is primarily from our 2017 acquisitions plus additional loan payoff fees generated by Centennial CFG and approximately $1.3 million of MasterCard incentive income received during 2017.

 

   

The $1.7 million decrease in gain (loss) on branches, equipment and other assets, net, is primarily related to net losses on eleven vacant properties from closed branches during 2017 combined with net gains on four vacant properties during 2016 plus a gain on the sale of a piece of software during the second quarter of 2016.

 

   

The $1.6 million increase in gain (loss) on OREO is primarily related to realizing gains on sale from OREO properties during 2017 versus the revaluation of seven OREO properties during 2016.

 

   

The $1.5 million increase in gain (loss) on securities, net, is a result of a strategic decision to recognize the gains on sales of investment securities when compared to the same period in 2016.

 

   

The $1.1 million decrease in mortgage lending income is primarily the result of lower organic loan growth versus 2016 combined with the effects of Hurricane Irma during September 2017 when compared to the same period in 2016. The disruption from the hurricane resulted in very little mortgage processing for nearly a two-week period during the third quarter of 2017.

 

   

The $772,000 increase in FDIC indemnification accretion/amortization, net, is a result of the buy-out of the FDIC loss share portfolio during the third quarter of 2016.

 

   

Other income includes loan recoveries of $2.1 million on purchased loans and $3.0 million of investment brokerage fees.

 

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Non-Interest Expense

Non-interest expense consists of salaries and employee benefits, occupancy and equipment, data processing, and other expenses such as advertising, merger and acquisition expenses, amortization of intangibles, electronic banking expense, FDIC and state assessment, insurance, legal and accounting fees and other professional fees.

Table 7 below sets forth a summary of non-interest expense for the years ended December 31, 2018, 2017, and 2016, as well as changes for the years ended 2018 compared to 2017 and 2017 compared to 2016.

Table 7: Non-Interest Expense

 

     Years Ended December 31,      2018 Change     2017 Change  
     2018      2017      2016      from 2017     from 2016  
     (Dollars in thousands)  

Salaries and employee benefits

   $ 143,545      $ 119,369      $ 101,962      $ 24,176       20.3   $ 17,407       17.1

Occupancy and equipment

     33,960        30,055        26,129        3,905       13.0       3,926       15.0  

Data processing expense

     14,428        11,998        10,499        2,430       20.3       1,499       14.3  

Other operating expenses:

                 

Advertising

     4,472        3,203        3,332        1,269       39.6       (129     (3.9

Merger and acquisition expenses

     6,013        25,743        433        (19,730     (76.6     25,310       100.0  

FDIC loss share buy-out expense

     —          —          3,849        —         —         (3,849     (100.0

Amortization of intangibles

     6,455        4,207        3,132        2,248       53.4       1,075       34.3  

Electronic banking expense

     7,622        6,662        5,742        960       14.4       920       16.0  

Directors’ fees

     1,281        1,259        1,150        22       1.7       109       9.5  

Due from bank service charges

     1,003        1,602        1,354        (599     (37.4     248       18.3  

FDIC and state assessment

     8,558        5,239        5,491        3,319       63.4       (252     (4.6

Hurricane expense

     470        556        —          (86     (15.5     556       100.0  

Insurance

     3,100        2,512        2,193        588       23.4       319       14.5  

Legal and accounting

     3,548        2,993        2,206        555       18.5       787       35.7  

Other professional fees

     6,453        5,359        4,049        1,094       20.4       1,310       32.4  

Operating supplies

     2,222        1,978        1,758        244       12.3       220       12.5  

Postage

     1,303        1,184        1,084        119       10.1       100       9.2  

Telephone

     1,405        1,374        1,751        31       2.3       (377     (21.5

Other expense

     18,165        14,915        15,641        3,250       21.8       (726     (4.6
  

 

 

    

 

 

    

 

 

    

 

 

     

 

 

   

Total non-interest expense

   $ 264,003      $ 240,208      $ 191,755      $ 23,795       9.9   $ 48,453       25.3
  

 

 

    

 

 

    

 

 

    

 

 

     

 

 

   

Non-interest expense, excluding merger expenses, increased $43.5 million, or 20.3%, to $258.0 million for the year ended December 31, 2018, from $214.5 million for the same period in 2017. Non-interest expense, excluding merger expenses and FDIC loss share buy-out expense, was $214.5 million for the year ended December 31, 2017 compared to $187.5 million for the same period in 2016.

The change in non-interest expense for 2018 when compared to 2017 is primarily related to the completion of our acquisitions during 2017, the normal increased cost of doing business and additional costs associated with Centennial CFG.

Included within salary and employee benefits expense is approximately $1.5 million of additional expense related to performance based restricted stock and stock options granted during the third quarter of 2018 under the Company’s “HOMB $2.00” performance incentive program (“HOMB $2.00”). During the third quarter of 2018, the Company granted 1,452,000 stock options and 843,500 shares of restricted stock to certain employees under HOMB $2.00.

 

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Centennial CFG incurred $24.4 million of non-interest expense during the year ended December 31, 2018, respectively, compared to $18.6 million of non-interest expense during the year ended December 31, 2017, respectively. While the cost of doing business in New York City, Los Angeles and Dallas is significantly higher than our Arkansas, Florida and Alabama markets, we are still committed to cost-saving measures while achieving our goals of growing the Company.

The change in non-interest expense for 2017 excluding merger expenses and FDIC loss share buy-out expense when compared to 2016 is primarily related to the completion of our acquisitions, the normal increased cost of doing business and Centennial CFG.

Income Taxes

Income tax expense decreased $40.9 million, or 30.1%, to $95.1 million for the year ended December 31, 2018, from $136.0 million for 2017. The income tax expense increased $30.5 million, or 28.9%, to $136.0 million for the year ended December 31, 2017, from $105.5 million for 2016. The effective tax rate for the years ended December 31, 2018, 2017 and 2016 were 24.05%, 50.17% and 37.33%, respectively. Since January 1, 2018, the Company has benefited from a lower marginal tax rate of 26.135% from 39.225% in previous years.

In December 2017, President Trump signed into law the TCJA which lowered the Company’s federal corporate tax rate of 35.0% to 21.0%. As a result, the Company was required to revalue its deferred tax assets and deferred tax liabilities to account for the future impact of lower corporate tax rates on these deferred amounts, which resulted in a one-time write-down of $36.9 million. This resulted in a dilution to tangible book value of $0.21 per share as of December 31, 2017. The one-time write-down resulted in an approximately nine month earn back for the dilution to tangible book value.

Financial Condition as of and for the Years Ended December 31, 2018 and 2017

Our total assets as of December 31, 2018 increased $852.7 million to $15.30 billion from the $14.45 billion reported as of December 31, 2017. Our loan portfolio increased $740.7 million to $11.07 billion as of December 31, 2018, from $10.33 billion as of December 31, 2017. This increase is a result of $376.2 million in loans acquired in the SPF acquisition and $364.5 million in organic loan growth. Stockholders’ equity increased $145.6 million to $2.35 billion as of December 31, 2018, compared to $2.20 billion as of December 31, 2017. The increase in stockholders’ equity is primarily associated with the $221.5 million increase in retained earnings and the issuance of $28.2 million in stock as a part of the acquisition of Shore Premier Finance offset by a $10.4 million change in accumulated other comprehensive income and the repurchase of $104.3 million of our common stock during 2018, which includes the repurchase of the shares issued as part of the acquisition of the Shore Premier Finance. The improvement in stockholders’ equity for 2018 was 6.6%.

Our total assets as of December 31, 2017 increased $4.64 billion to $14.45 billion from the $9.81 billion reported as of December 31, 2016. Our loan portfolio increased $2.94 billion to $10.33 billion as of December 31, 2017, from $7.39 billion as of December 31, 2016. This increase is primarily a result of our acquisitions since December 31, 2016. Stockholders’ equity increased $876.8 million to $2.20 billion as of December 31, 2017, compared to $1.33 billion as of December 31, 2016. The increase in stockholders’ equity is primarily associated with the $77.5 million and $742.3 million of common stock issued to the GHI and Stonegate shareholders, respectively, plus the $74.7 million increase in retained earnings offset by $3.8 million of comprehensive loss and the repurchase of $20.8 million of our common stock during 2017. The improvement in stockholders’ equity for 2017, excluding the $77.5 million and $742.3 million of common stock issued to the GHI and Stonegate shareholders, respectively, was 4.3%.

 

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Loan Portfolio

Our loan portfolio averaged $10.6 billion and $8.40 billion during the years ended December 31, 2018 and 2017, respectively. Loans receivable were $11.07 billion as of December 31, 2018 compared to $10.33 billion as of December 31, 2017, which is an increase of $740.7 million, or 7.17%.

During 2018, the Company acquired $376.2 million of loans receivable, net of purchase accounting discounts. Excluding the $376.2 million of acquired loans during 2018, loans receivable were $10.70 billion as of December 31, 2018 compared to $10.33 billion as of December 31, 2017, which is $364.5 million of organic loan growth, or a 3.53% increase. Centennial CFG produced $115.6 million of net organic loan growth during 2018 while the legacy footprint produced $248.9 million of organic loan growth. Centennial CFG had total loans of $1.55 billion at December 31, 2018.

During 2017, the Company acquired $2.82 billion of loans, net of purchase accounting discounts. Excluding the $2.82 billion of acquired loans during 2017, loans receivable were $7.51 billion as of December 31, 2017 compared to $7.39 billion as of December 31, 2016, which is $125.2 million of organic loan growth, or a 1.69% increase. Centennial CFG produced $295.5 million of net organic loan growth during 2017 while the legacy and Stonegate footprints experienced significant net payoffs during 2017, resulting in a net decline of $153.9 million and $16.5 million, respectively. Centennial CFG had total loans of $1.44 billion at December 31, 2017.

During 2016, we reached an agreement terminating our remaining loss-share agreements with the FDIC. As a result, $57.4 million of these loans including their associated discounts previously classified as covered loans migrated to non-covered loans status during 2016.

The most significant components of the loan portfolio were commercial real estate, residential real estate, consumer and commercial and industrial loans. These loans are generally secured by residential or commercial real estate or business or personal property. Although these loans are primarily originated within our franchises in Arkansas, Florida, South Alabama and Centennial CFG, the property securing these loans may not physically be located within our market areas of Arkansas, Florida, Alabama and New York. Loans receivable were approximately $3.72 billion, $5.15 billion, $228.1 million, $427.7 million and $1.55 billion as of December 31, 2018 in Arkansas, Florida, Alabama, SPF and Centennial CFG, respectively.

As of December 31, 2018, we had $544.6 million of construction/land development loans which were collateralized by land. This consisted of $282.1 million for raw land and $262.5 million for land with commercial and/or residential lots.

 

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Table 8 presents our loans receivable balances by category as of December 31, 2018, 2017, 2016, 2015, and 2014.

Table 8: Loans Receivable

 

     As of December 31,  
     2018      2017      2016      2015      2014  
     (In thousands)  

Real estate:

              

Commercial real estate loans:

              

Non-farm/non-residential

   $ 4,806,684      $ 4,600,117      $ 3,153,121      $ 2,968,335      $ 2,081,869  

Construction/land development

     1,546,035        1,700,491        1,135,843        944,787        740,085  

Agricultural

     76,433        82,229        77,736        75,027        73,154  

Residential real estate loans:

              

Residential 1-4 family

     1,975,586        1,970,311        1,356,136        1,190,279        1,051,299  

Multifamily residential

     560,475        441,303        340,926        430,256        258,839  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     8,965,213        8,794,451        6,063,762        5,608,684        4,205,246  

Consumer

     443,105        46,148        41,745        52,258        56,736  

Commercial and industrial

     1,476,331        1,297,397        1,123,213        850,587        678,775  

Agricultural

     48,562        49,815        74,673        67,109        48,833  

Other

     138,668        143,377        84,306        62,933        67,912  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans receivable

   $ 11,071,879      $ 10,331,188      $ 7,387,699      $ 6,641,571      $ 5,057,502  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

As of December 31, 2018, 2017 and 2016 we had no covered loan balances. As of December 31, 2015 and 2014, we had covered loan balances of $62.2 million and $240.2 million, respectively.

Commercial Real Estate Loans. We originate non-farm and non-residential loans (primarily secured by commercial real estate), construction/land development loans, and agricultural loans, which are generally secured by real estate located in our market areas. Our commercial mortgage loans are generally collateralized by first liens on real estate and amortized (where defined) over a 15 to 30 year-period with balloon payments due at the end of one to five years. These loans are generally underwritten by assessing cash flow (debt service coverage), primary and secondary source of repayment, the financial strength of any guarantor, the strength of the tenant (if any), the borrower’s liquidity and leverage, management experience, ownership structure, economic conditions and industry specific trends and collateral. Generally, we will loan up to 85% of the value of improved property, 65% of the value of raw land and 75% of the value of land to be acquired and developed. A first lien on the property and assignment of lease is required if the collateral is rental property, with second lien positions considered on a case-by-case basis.

As of December 31, 2018, commercial real estate loans totaled $6.43 billion, or 58.1% of loans receivable, as compared to $6.38 billion, or 61.8% of loans receivable, as of December 31, 2017. Commercial real estate loans originated in our Arkansas, Florida, Alabama, SPF and Centennial CFG markets were $2.11 billion, $3.21 billion, $119.4 million, zero and $993.4 million at December 31, 2018, respectively.

Residential Real Estate Loans. We originate one to four family, residential mortgage loans generally secured by property located in our primary market areas. Approximately 30.2% and 58.7% of our residential mortgage loans consist of owner occupied 1-4 family properties and non-owner occupied 1-4 family properties (rental), respectively, as of December 31, 2018, with the remaining 11.1% relating to condos and mobile homes. Residential real estate loans generally have a loan-to-value ratio of up to 90%. These loans are underwritten by giving consideration to many factors including the borrower’s ability to pay, stability of employment or source of income, debt-to-income ratio, credit history and loan-to-value ratio.

As of December 31, 2018, residential real estate loans totaled $2.54 billion, or 22.9%, of loans receivable, compared to $2.41 billion, or 23.3% of loans receivable, as of December 31, 2017. Residential real estate loans originated in our franchises in our Arkansas, Florida, Alabama, SPF and Centennial CFG markets were $931.4 million, $1.36 billion, $71.5 million, zero and $171.0 million at December 31, 2018, respectively.

 

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Consumer Loans. Our consumer loans are composed of secured and unsecured loans originated by our bank, the primary portion of which consists of loans to finance USCG registered high-end sail and power boats as a result of our acquisition of SPF on June 30, 2018. The performance of consumer loans will be affected by the local and regional economies as well as the rates of personal bankruptcies, job loss, divorce and other individual-specific characteristics.

As of December 31, 2018, consumer loans totaled $443.1 million, or 4.0% of loans receivable, compared to $46.2 million, or 0.4% of loans receivable, as of December 31, 2017. Consumer loans originated in our Arkansas, Florida, Alabama, SPF and Centennial CFG markets were $31.0 million, $18.8 million, $1.0 million, $392.4 million and zero at December 31, 2018, respectively. Including the effects of the purchase accounting adjustments, we acquired approximately $366.0 million of consumer loans, as of acquisition date from our 2018 acquisition.

Commercial and Industrial Loans. Commercial and industrial loans are made for a variety of business purposes, including working capital, inventory, equipment and capital expansion. The terms for commercial loans are generally one to seven years. Commercial loan applications must be supported by current financial information on the borrower and, where appropriate, by adequate collateral. Commercial loans are generally underwritten by addressing cash flow (debt service coverage), primary and secondary sources of repayment, the financial strength of any guarantor, the borrower’s liquidity and leverage, management experience, ownership structure, economic conditions and industry specific trends and collateral. The loan to value ratio depends on the type of collateral. Generally speaking, accounts receivable are financed at between 50% and 80% of accounts receivable less than 60 days past due. Inventory financing will range between 50% and 80% (with no work in process) depending on the borrower and nature of inventory. We require a first lien position for those loans.

As of December 31, 2018, commercial and industrial loans totaled $1.48 billion, or 13.3% of loans receivable, which compares to $1.30 billion, or 12.6% of loans receivable, as of December 31, 2017. Commercial and industrial loans originated in our Arkansas, Florida, Alabama, SPF and Centennial CFG markets were $553.6 million, $470.9 million, $34.8 million, $35.3 million and $381.8 million at December 31, 2018, respectively. Including the effects of the purchase accounting adjustments, we acquired approximately $10.2 million of commercial and industrial loans, as of acquisition date, from our 2018 acquisition.

Agricultural Loans. Agricultural loans include loans for financing agricultural production, including loans to businesses or individuals engaged in the production of timber, poultry, livestock or crops and are not categorized as part of real estate loans. Our agricultural loans are generally secured by farm machinery, livestock, crops, vehicles or other agricultural-related collateral. A portion of our portfolio of agricultural loans is comprised of loans to individuals which would normally be characterized as consumer loans except for the fact that the individual borrowers are primarily engaged in the production of timber, poultry, livestock or crops.

As of December 31, 2018, agricultural loans totaled $48.6 million, or 0.4% of loans receivable, compared to the $49.8 million, or 0.5% of loans receivable as of December 31, 2017. Agricultural loans originated in our Arkansas, Florida, Alabama, SPF and Centennial CFG markets were $37.4 million, $11.0 million, $100,000, zero and zero at December 31, 2018, respectively.

Table 9 presents the distribution of the maturity of our total loans as of December 31, 2018. The table also presents the portion of our loans that have fixed interest rates and interest rates that fluctuate over the life of the loans based on changes in the interest rate environment.

 

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The loans acquired during our acquisitions accrete interest income through accretion of the difference between the carrying amount of the loans and the expected cash flows. Increases in the credit quality or cash flows of loans (reflected as an adjustment to yield and accreted into income over the weighted-average life of the loans).

Table 9: Maturity of Loans

 

     One Year or
Less
     Over One
Year
Through
Five Years
     Over Five
Years
     Total  
     (In thousands)  

Real estate:

           

Commercial real estate loans

           

Non-farm/non-residential

   $ 841,647      $ 2,246,292      $ 1,718,745      $ 4,806,684  

Construction/land development

     814,097        602,575        129,363        1,546,035  

Agricultural

     14,091        43,108        19,234        76,433  

Residential real estate loans

           

Residential 1-4 family

     303,014        643,190        1,029,382        1,975,586  

Multifamily residential

     38,892        298,285        223,298        560,475  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     2,011,741        3,833,450        3,120,022        8,965,213  

Consumer

     11,267        37,040        394,798        443,105  

Commercial and industrial

     462,530        694,150        319,651        1,476,331  

Agricultural

     14,603        23,694        10,265        48,562  

Other

     3,715        40,333        94,620        138,668  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loans receivable

   $ 2,503,856      $ 4,628,667      $ 3,939,356      $ 11,071,879  
  

 

 

    

 

 

    

 

 

    

 

 

 

Fixed interest rates

   $ 1,276,303      $ 3,044,282      $ 1,258,701      $ 5,579,286  

Floating interest rates

     1,188,391        1,515,959        2,646,703        5,351,053  

Purchased credit impaired loans

     39,162        68,426        33,952        141,540  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total loans receivable

   $ 2,503,856      $ 4,628,667      $ 3,939,356      $ 11,071,879  
  

 

 

    

 

 

    

 

 

    

 

 

 

Non-Performing Assets

We classify our problem loans into three categories: past due loans, special mention loans and classified loans (accruing and non-accruing).

When management determines that a loan is no longer performing, and that collection of interest appears doubtful, the loan is placed on non-accrual status. Loans that are 90 days past due are placed on non-accrual status unless they are adequately secured and there is reasonable assurance of full collection of both principal and interest. Our management closely monitors all loans that are contractually 90 days past due, treated as “special mention” or otherwise classified or on non-accrual status.

We have purchased loans with deteriorated credit quality in our December 31, 2018 financial statements as a result of our historical acquisitions. The credit metrics most heavily impacted by our acquisitions of acquired loans with deteriorated credit quality were the following credit quality indicators listed in Table 10 below:

 

   

Allowance for loan losses to non-performing loans;

 

   

Non-performing loans to total loans; and

 

   

Non-performing assets to total assets.

On the date of acquisition, acquired credit-impaired loans are initially recognized at fair value, which incorporates the present value of amounts estimated to be collectible. As a result of the application of this accounting methodology, certain credit-related ratios, including those referenced above, may not necessarily be directly comparable with periods prior to the acquisition of the credit-impaired loans and non-performing assets, or comparable with other institutions.

 

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Table 10 sets forth information with respect to our non-performing assets as of December 31, 2018, 2017, 2016, 2015, and 2014. As of these dates, all non-performing restructured loans are included in non-accrual loans.

Table 10: Non-performing Assets

 

     As of December 31,  
     2018     2017     2016     2015     2014  
     (Dollars in thousands)  

Non-accrual loans

   $ 47,083     $ 34,032     $ 47,182     $ 36,374     $ 24,691  

Loans past due 90 days or more (principal or interest payments)

     17,159       10,665       15,942       27,137       37,364  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total non-performing loans

     64,242       44,697       63,124       63,511       62,055  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other non-performing assets

          

Foreclosed assets held for sale, net

     13,236       18,867       15,951       19,140       24,822  

Other non-performing assets

     497       3       3       38       189  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other non-performing assets

     13,733       18,870       15,954       19,178       25,011  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total non-performing assets

   $ 77,975     $ 63,567     $ 79,078     $ 82,689     $ 87,066  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Allowance for loan losses to non-performing loans

     169.35     246.70     126.74     109.00     88.65

Non-performing loans to total loans

     0.58       0.43       0.85       0.96       1.23  

Non-performing assets to total assets

     0.51       0.44       0.81       0.89       1.18  

Our non-performing loans are comprised of non-accrual loans and accruing loans that are contractually past due 90 days. Our bank subsidiary recognizes income principally on the accrual basis of accounting. When loans are classified as non-accrual, the accrued interest is charged off and no further interest is accrued, unless the credit characteristics of the loan improve. If a loan is determined by management to be uncollectible, the portion of the loan determined to be uncollectible is then charged to the allowance for loan losses.

Total non-performing loans were $64.2 million as of December 31, 2018, compared to $44.7 million as of December 31, 2017, for an increase of $19.5 million. The $19.5 million increase in non-performing loans is the result of a $1.8 million increase in non-performing loans in our Arkansas market, a $15.0 million increase in non-performing loans in our Florida market, a $750,000 decrease in non-performing loans in our Alabama market and $3.4 million in non-performing loans attributable to our SPF market. Non-performing loans at December 31, 2018 are $17.4 million, $43.3 million, $179,000, $3.4 million and zero in the Arkansas, Florida, Alabama, SPF and Centennial CFG markets, respectively. Our acquisition of SPF during 2018 increased our non-performing loans accruing past due 90 days or more by $720,000 as of December 31, 2018.

Although the current state of the real estate market has improved, future fluctuations in the economy have the potential to increase our level of non-performing loans. While we believe our allowance for loan losses is adequate and our purchased loans are adequately discounted at December 31, 2018, as additional facts become known about relevant internal and external factors that affect loan collectability and our assumptions, it may result in us making additions to the provision for loan losses during 2019. Our current or historical provision levels should not be relied upon as a predictor or indicator of future levels going forward.

Troubled debt restructurings (“TDRs”) generally occur when a borrower is experiencing, or is expected to experience, financial difficulties in the near term. As a result, we will work with the borrower to prevent further difficulties, and ultimately to improve the likelihood of recovery on the loan. In those circumstances it may be beneficial to restructure the terms of a loan and work with the borrower for the benefit of both parties, versus forcing the property into foreclosure and having to dispose of it in an unfavorable and depressed real estate market. When we have modified the terms of a loan, we usually either reduce the monthly payment and/or interest rate for generally about three to twelve months. For our TDRs that accrue interest at the time the loan is restructured, it would be a rare exception to have charged-off any portion of the loan. Only non-performing restructured loans are included in our non-performing loans. As of December 31, 2018, we had $15.1 million of restructured loans that are in compliance with the modified terms and are not reported as past due or non-accrual in Table 10. Our Florida market contains $9.9 million, our Arkansas market contains $4.8 million and our Alabama market contains $381,000 of these restructured loans.

 

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A loan modification that might not otherwise be considered may be granted resulting in classification as a TDR. These loans can involve loans remaining on non-accrual, moving to non-accrual, or continuing on an accrual status, depending on the individual facts and circumstances of the borrower. Generally, a non-accrual loan that is restructured remains on non-accrual for a period of six months to demonstrate that the borrower can meet the restructured terms. However, performance prior to the restructuring, or significant events that coincide with the restructuring, are considered in assessing whether the borrower can pay under the new terms and may result in the loan being returned to an accrual status after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is not reasonably assured, the loan will remain in a non-accrual status.

The majority of the Bank’s loan modifications relates to commercial lending and involves reducing the interest rate, changing from a principal and interest payment to interest-only, a lengthening of the amortization period, or a combination of some or all of the three. In addition, it is common for the Bank to seek additional collateral or guarantor support when modifying a loan. At December 31, 2018, the amount of TDRs was $19.7 million, a decrease of 6.9% from $21.2 million at December 31, 2017. As of December 31, 2018 and 2017, 76.6% and 89.7%, respectively, of all restructured loans were performing to the terms of the restructure.

Total foreclosed assets held for sale were $13.2 million as of December 31, 2018, compared to $18.9 million as of December 31, 2017 for a decrease of $5.7 million. The foreclosed assets held for sale as of December 31, 2018 are comprised of $6.7 million of assets located in Arkansas, $6.4 million of assets located in Florida, $127,000 located in Alabama and zero from SPF and Centennial CFG.

As of December 31, 2018, we had two foreclosed properties with a carrying value greater than $1.0 million. The first property was a development property in Florida acquired from BOC with a carrying value of $2.1 million at December 31, 2018. The second property was a nonfarm non-residential property in Florida acquired from Stonegate with a carrying value of $1.9 million at December 31, 2018. The Company does not currently anticipate any additional losses on these properties. As of December 31, 2018, no other foreclosed assets held for sale have a carrying value greater than $1.0 million.

Table 11 shows the summary of foreclosed assets held for sale as of December 31, 2018, 2017, 2016, 2015 and 2014.

Table 11: Total Foreclosed Assets Held for Sale

 

     As of December 31, 2018      As of December 31, 2017  
     Not
Covered by

Loss Share
     Covered by
FDIC Loss
Share
     Total      Not
Covered by
Loss Share
     Covered by
FDIC Loss
Share
     Total  
     (In thousands)  

Commercial real estate loans

                 

Non-farm/non-residential

   $ 5,555      $ —        $ 5,555      $ 9,766      $ —        $ 9,766  

Construction/land development

     3,534        —          3,534        5,920        —          5,920  

Agricultural

     —          —          —          —          —          —    

Residential real estate loans

                 

Residential 1-4 family

     4,142        —          4,142        2,654        —          2,654  

Multifamily residential

     5        —          5        527        —          527  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total foreclosed assets held for sale

   $ 13,236      $ —        $ 13,236      $ 18,867      $ —        $ 18,867  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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     As of December 31, 2016      As of December 31, 2015  
     Not
Covered by
Loss Share
     Covered by
FDIC Loss
Share
     Total      Not
Covered by
Loss Share
     Covered by
FDIC Loss
Share
     Total  
     (In thousands)  

Commercial real estate loans

                 

Non-farm/non-residential

   $ 9,423      $ —        $ 9,423      $ 9,787      $ —        $ 9,787  

Construction/land development

     4,009        —          4,009        5,286        —          5,286  

Agricultural

     —          —          —          —          —          —    

Residential real estate loans

                 

Residential 1-4 family

     2,076        —          2,076        3,233        614        3,847  

Multifamily residential

     443        —          443        220        —          220  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total foreclosed assets held for sale

   $ 15,951      $ —        $ 15,951      $ 18,526      $ 614      $ 19,140  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     As of December 31, 2014  
     Not
Covered by
Loss Share
     Covered by
FDIC Loss
Share
     Total  
     (In thousands)  

Commercial real estate loans

        

Non-farm/non-residential

   $ 6,894      $ 3,935      $ 10,829  

Construction/land development

     6,189        2,847        9,036  

Agricultural

     —          3        3  

Residential real estate loans

        

Residential 1-4 family

     3,381        1,086        4,467  

Multifamily residential

     487        —          487  
  

 

 

    

 

 

    

 

 

 

Total foreclosed assets held for sale

   $ 16,951      $ 7,871      $ 24,822  
  

 

 

    

 

 

    

 

 

 

A loan is considered impaired when it is probable that we will not receive all amounts due according to the contracted terms of the loans. Impaired loans include non-performing loans (loans past due 90 days or more and non-accrual loans), criticized and/or classified loans with a specific allocation, loans categorized as TDRs and certain other loans identified by management that are still performing (loans included in multiple categories are only included once). As of December 31, 2018, average impaired loans were $81.3 million compared to $87.2 million as of December 31, 2017. As of December 31, 2018, impaired loans were $85.6 million compared to $75.6 million as of December 31, 2017, for an increase of $10.0 million. This increase is primarily associated with the $12.4 million increase in impaired loans in our Florida market since December 31, 2017 and $3.4 million in impaired loans for our SPF market which was partially offset by $5.4 million reduction in impaired loans in our Arkansas market since December 31, 2017. As of December 31, 2018, our Arkansas, Florida, Alabama, SPF and Centennial CFG markets accounted for approximately $28.5 million, $53.1 million, $560,000, $3.4 million and zero of the impaired loans, respectively.

We evaluated loans purchased in conjunction with our historical acquisitions for impairment in accordance with the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. Purchased loans are considered impaired if there is evidence of credit deterioration since origination and if it is probable that not all contractually required payments will be collected. Purchased credit impaired loans are not classified as non-performing assets for the recognition of interest income as the pools are considered to be performing. However, for the purpose of calculating the non-performing credit metrics, we have included all of the loans which are contractually 90 days past due and still accruing, including those in performing pools. Therefore, interest income, through accretion of the difference between the carrying amount of the loans and the expected cash flows, is being recognized on all purchased impaired loans.

 

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All purchased loans with deteriorated credit quality are considered impaired loans at the date of acquisition. Since the loans are accounted for on a pooled basis under ASC 310-30, individual loans are not classified as impaired. Since the loans are accounted for on a pooled basis under ASC 310-30, individual loans subsequently restructured within the pools are not classified as TDRs in accordance with ASC 310-30-40. For purchased loans with deteriorated credit quality that were deemed TDRs prior to our acquisition of them, these loans are also not considered TDRs as they are accounted for under ASC 310-30.

As of December 31, 2018 and 2017, there was not a material amount of purchased loans with deteriorated credit quality on non-accrual status as a result of most of the loans being accounted for on the pool basis and the pools are considered to be performing for the accruing of interest income. Also, acquired loans contractually past due 90 days or more are accruing interest because the pools are considered to be performing for the purpose of accruing interest income.

Past Due and Non-Accrual Loans

Table 12 shows the summary non-accrual loans as of December 31, 2018, 2017, 2016, 2015 and 2014:

Table 12: Total Non-Accrual Loans

 

     As of
December 31,
2018
     As of
December 31,
2017
     As of
December 31,
2016
     As of
December 31,
2015
     As of
December 31,
2014
 
     (In thousands)  

Real estate:

              

Commercial real estate loans

              

Non-farm/non-residential

   $ 15,031      $ 9,600      $ 17,988      $ 15,811      $ 8,901  

Construction/land development

     5,280        5,011        3,956        2,952        926  

Agricultural

     20        19        435        531        —    

Residential real estate loans

              

Residential 1-4 family

     17,384        14,437        20,311        12,574        11,949  

Multifamily residential

     972        153        262        870        1,344  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     38,687        29,220        42,952        32,738        23,120  

Consumer

     2,912        145        140        239        279  

Commercial and industrial

     5,451        4,584        3,155        2,363        1,108  

Agricultural

     32        54        —          —          —    

Other

     1        29        935        1,034        184  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total non-accrual loans

   $ 47,083      $ 34,032      $ 47,182      $ 36,374      $ 24,691  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

If the non-accrual loans had been accruing interest in accordance with the original terms of their respective agreements, interest income of approximately $2.9 million for the year ended December 31, 2018, $2.3 million in 2017, and $2.4 million in 2016 would have been recorded. Interest income recognized on the non-accrual loans for the years ended December 31, 2018, 2017 and 2016 was considered immaterial.

 

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Table 13 shows the summary of accruing past due loans 90 days or more as of December 31, 2018, 2017, 2016, 2015 and 2014:

Table 13: Total Loans Accruing Past Due 90 Days or More

 

     As of December 31, 2018      As of December 31, 2017  
     Not Covered
by Loss
Share
     Covered
by FDIC
Loss Share
     Total      Not Covered
by Loss
Share
     Covered
by FDIC
Loss Share
     Total  
     (In thousands)  

Real estate:

                 

Commercial real estate loans

                 

Non-farm/non-residential

   $ 9,679      $ —        $ 9,679      $ 3,119      $ —        $ 3,119  

Construction/land development

     3,481        —          3,481        3,247        —          3,247  

Agricultural

     —          —          —          —          —          —    

Residential real estate loans

                 

Residential 1-4 family

     1,753        —          1,753        2,175        —          2,175  

Multifamily residential

     —          —          —          100        —          100  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     14,913        —          14,913        8,641        —          8,641  

Consumer

     720        —          720        26        —          26  

Commercial and industrial

     1,526        —          1,526        1,944        —          1,944  

Agricultural and other

     —          —          —          54        —          54  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans accruing past due 90 days or more

   $ 17,159      $ —        $ 17,159      $ 10,665      $ —        $ 10,665  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     As of December 31, 2016      As of December 31, 2015  
     Not Covered
by Loss
Share
     Covered
by FDIC
Loss Share
     Total      Not Covered
by Loss
Share
     Covered
by FDIC
Loss Share
     Total  
     (In thousands)  

Real estate:

                 

Commercial real estate loans

                 

Non-farm/non-residential

   $ 9,530      $ —        $ 9,530      $ 9,247      $ —        $ 9,247  

Construction/land development

     3,086        —          3,086        4,176        —          4,176  

Agricultural

     —          —          —          30        —          30  

Residential real estate loans

                 —       

Residential 1-4 family

     2,996        —          2,996        3,915        3,292        7,207  

Multifamily residential

     —          —          —          1        —          1  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total real estate

     15,612        —          15,612        17,369        3,292        20,661  

Consumer

     21        —          21        46        —          46  

Commercial and industrial

     309        —          309        6,430        —          6,430  

Other

     —          —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans accruing past due 90 days or more

   $ 15,942      $ —        $ 15,942      $ 23,845      $ 3,292      $ 27,137  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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     As of December 31, 2014  
     Not Covered
by Loss
Share
     Covered
by FDIC
Loss Share
     Total  
     (In thousands)  

Real estate:

  

Commercial real estate loans

        

Non-farm/non-residential

   $ 5,880      $ 9,029      $ 14,909  

Construction/land development

     734        4,376        5,110  

Agricultural

     34        72        106  

Residential real estate loans

        

Residential 1-4 family

     4,128        7,597        11,725  

Multifamily residential

     691        —          691  
  

 

 

    

 

 

    

 

 

 

Total real estate

     11,467        21,074        32,541  

Consumer

     579        —          579  

Commercial and industrial

     2,825        1,387        4,212  

Other

     —          32        32  
  

 

 

    

 

 

    

 

 

 

Total loans accruing past due 90 days or more

   $ 14,871      $ 22,493      $ 37,364  
  

 

 

    

 

 

    

 

 

 

Our total loans accruing past due 90 days or more and non-accrual loans to total loans was 0.58% and 0.43% as of December 31, 2018 and 2017, respectively. Our acquisition of SPF during 2018 increased our loans accruing past due 90 days or more by $720,000 as of December 31, 2018.

Allowance for Loan Losses

Overview. The allowance for loan losses is maintained at a level which our management believes is adequate to absorb all probable losses on loans in the loan portfolio. The amount of the allowance is affected by: (i) loan charge-offs, which decrease the allowance; (ii) recoveries on loans previously charged off, which increase the allowance; and (iii) the provision of possible loan losses charged to income, which increases the allowance. In determining the provision for possible loan losses, it is necessary for our management to monitor fluctuations in the allowance resulting from actual charge-offs and recoveries and to periodically review the size and composition of the loan portfolio in light of current and anticipated economic conditions. If actual losses exceed the amount of allowance for loan losses, our earnings could be adversely affected.

As we evaluate the allowance for loan losses, we categorize it as follows: (i) specific allocations; (ii) allocations for criticized and classified assets not individually evaluated for impairment; (iii) general allocations; and (iv) miscellaneous allocations.

Specific Allocations. As a general rule, if a specific allocation is warranted, it is the result of an analysis of a previously classified credit or relationship. Typically, when it becomes evident through the payment history or a financial statement review that a loan or relationship is no longer supported by the cash flows of the asset and/or borrower and has become collateral dependent, we will use appraisals or other collateral analysis to determine if collateral impairment has occurred. The amount or likelihood of loss on this credit may not yet be evident, so a charge-off would not be prudent. However, if the analysis indicates that an impairment has occurred, then a specific allocation will be determined for this loan. If our existing appraisal is outdated or the collateral has been subject to significant market changes, we will obtain a new appraisal for this impairment analysis. The majority of our impaired loans are collateral dependent at the present time, so third-party appraisals were used to determine the necessary impairment for these loans. Cash flow available to service debt was used for the other impaired loans. This analysis is performed each quarter in connection with the preparation of the analysis of the adequacy of the allowance for loan losses, and if necessary, adjustments are made to the specific allocation provided for a particular loan.

 

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For collateral dependent loans, we do not consider an appraisal outdated simply due to the passage of time. However, if an appraisal is older than 13 months and if market or other conditions have deteriorated and we believe that the current market value of the property is not within approximately 20% of the appraised value, we will consider the appraisal outdated and order either a new appraisal or an internal validation report for the impairment analysis. The recognition of any provision or related charge-off on a collateral dependent loan is either through annual credit analysis or, many times, when the relationship becomes delinquent. If the borrower is not current, we will update our credit and cash flow analysis to determine the borrower’s repayment ability. If we determine this ability does not exist and it appears that the collection of the entire principal and interest is not likely, then the loan could be placed on non-accrual status. In any case, loans are classified as non-accrual no later than 105 days past due. If the loan requires a quarterly impairment analysis, this analysis is completed in conjunction with the completion of the analysis of the adequacy of the allowance for loan losses. Any exposure identified through the impairment analysis is shown as a specific reserve on the individual impairment. If it is determined that a new appraisal or internal validation report is required, it is ordered and will be taken into consideration during completion of the next impairment analysis.

In estimating the net realizable value of the collateral, management may deem it appropriate to discount the appraisal based on the applicable circumstances. In such case, the amount charged off may result in loan principal outstanding being below fair value as presented in the appraisal.

Between the receipt of the original appraisal and the updated appraisal, we monitor the loan’s repayment history. If the loan is $1.0 million or greater or the total loan relationship is $2.0 million or greater, our policy requires an annual credit review. Our policy requires financial statements from the borrowers and guarantors at least annually. In addition, we calculate the global repayment ability of the borrower/guarantors at least annually.

As a general rule, when it becomes evident that the full principal and accrued interest of a loan may not be collected, or by law at 105 days past due, we will reflect that loan as non-performing. It will remain non-performing until it performs in a manner that it is reasonable to expect that we will collect the full principal and accrued interest.

When the amount or likelihood of a loss on a loan has been determined, a charge-off should be taken in the period it is determined. If a partial charge-off occurs, the quarterly impairment analysis will determine if the loan is still impaired, and thus continues to require a specific allocation.

Allocations for Criticized and Classified Assets not Individually Evaluated for Impairment. We establish allocations for loans rated “special mention” through “loss” in accordance with the guidelines established by the regulatory agencies. A percentage rate is applied to each loan category to determine the level of dollar allocation.

General Allocations. We establish general allocations for each major loan category. This section also includes allocations to loans, which are collectively evaluated for loss such as residential real estate, commercial real estate, consumer loans and commercial and industrial loans that fall below $2.0 million. The allocations in this section are based on a historical review of loan loss experience and past due accounts. We give consideration to trends, changes in loan mix, delinquencies, prior losses, and other related information.

Miscellaneous Allocations. Allowance allocations other than specific, classified, and general are included in our miscellaneous section.

Loans Collectively Evaluated for Impairment. Loans receivable collectively evaluated for impairment increased by approximately $854.3 million from $9.94 billion at December 31, 2017 to $10.79 billion at December 31, 2018. The percentage of the allowance for loan losses allocated to loans receivable collectively evaluated for impairment to the total loans collectively evaluated for impairment decreased slightly from 1.06% at December 31, 2017 to 0.98% at December 31, 2018.

Charge-offs and Recoveries. Total charge-offs decreased to $9.0 million for the year ended December 31, 2018, compared to $17.5 million for the year ended December 31, 2018. Total recoveries decreased to $3.1 million for the year ended December 31, 2018, compared to $3.5 million for the same period in 2017.

The net loans charged off for the years ended December 31, 2018, 2017 and 2016 were $5.8 million, $14.0 million and $7.8 million, respectively. For the years ended December 31, 2018, 2017 and 2016, approximately $3.7 million, $10.0 million and $6.6 million, respectively, of the net charge-offs are from our Arkansas market. For the years ended December

 

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31, 2018, 2017 and 2016, approximately $1.9 million, $3.8 million and $1.3 million, respectively, of the net charge-offs are from our Florida market. The remaining $176,000, $215,000 and $76,000 relates to net charge-offs, net recoveries and net charge-offs, respectively, on loans in our Alabama market for the years ended December 31, 2018, 2017 and 2016, respectively. There have been zero charge-offs for Centennial CFG and SPF since those franchises were formed in 2015 and 2018, respectively.

While the 2018 charge-offs and recoveries consisted of many relationships, there were no individual relationships consisting of a charge-offs greater than $1.0 million.

While the 2017 charge-offs and recoveries consisted of many relationships, there were three individual relationships consisting of a charge-offs greater than $1.0 million. The combined impact of these charge-offs was $4.5 million at December 31, 2017.

We have not charged off an amount less than what was determined to be the fair value of the collateral as presented in the appraisal, less estimated costs to sell (for collateral dependent loans), for any period presented. Loans partially charged-off are placed on non-accrual status until it is proven that the borrower’s repayment ability with respect to the remaining principal balance can be reasonably assured. This is usually established over a period of 6-12 months of timely payment performance.

 

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Table 14 shows the allowance for loan losses, charge-offs and recoveries for loans as of and for the years ended December 31, 2018, 2017, 2016, 2015 and 2014.

Table 14: Analysis of Allowance for Loan Losses

 

     As of December 31,  
     2018     2017     2016     2015     2014  
     (Dollars in thousands)  

Balance, beginning of year

   $ 110,266     $ 80,002     $ 69,224     $ 55,011     $ 43,815  

Loans charged off

          

Real estate:

          

Commercial real estate loans:

          

Non-farm/non-residential

     1,211       3,622       3,586       4,878       4,376  

Construction/land development

     399       1,632       382       644       1,099  

Agricultural

     —         127       —         —         —    

Residential real estate loans:

          

Residential 1-4 family

     2,744       3,895       4,986       4,257       3,218  

Multifamily residential

     —         85       611       460       266  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     4,354       9,361       9,565       10,239       8,959  

Consumer

     285       198       220       567       355  

Commercial and industrial

     2,221       5,578       5,778       2,638       2,323  

Agricultural

     —         —         —         —         —    

Other

     2,128       2,334       1,938       2,508       2,440  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total loans charged off

     8,988       17,471       17,501       15,952       14,077  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Recoveries of loans previously charged off

          

Real estate:

          

Commercial real estate loans:

          

Non-farm/non-residential

     527       1,042       857       762       279  

Construction/land development

     180       462       1,125       236       474  

Agricultural

     —         —         —         —         —    

Residential real estate loans:

          

Residential 1-4 family

     878       621       1,098       845       1,473  

Multifamily residential

     46       55       54       70       37  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

     1,631       2,180       3,134       1,913       2,263  

Consumer

     190       119       209       61       246  

Commercial and industrial

     624       464       5,533       802       306  

Agricultural

     —         —         —         —         —    

Other

     746       722       795       766       913  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total recoveries

     3,191       3,485       9,671       3,542       3,728  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loans charged off (recovered)

     5,797       13,986       7,830       12,410       10,349  

Provision for loan losses

     4,322       44,250       18,608       25,164       22,664  

Increase in FDIC indemnification asset

     —         —         —         1,459       (1,119
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, end of year

   $ 108,791     $ 110,266     $ 80,002     $ 69,224     $ 55,011  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net charge-offs (recoveries) to average loans receivable

     0.05     0.17     0.11     0.22     0.22

Allowance for loan losses to total loans

     0.98       1.07       1.08       1.04       1.09  

Allowance for loan losses to net charge-offs (recoveries)

     1,877       788       1,022       558       532  

 

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Allocated Allowance for Loan Losses. We use a risk rating and specific reserve methodology in the calculation and allocation of our allowance for loan losses. While the allowance is allocated to various loan categories in assessing and evaluating the level of the allowance, the allowance is available to cover charge-offs incurred in all loan categories. Because a portion of our portfolio has not matured to the degree necessary to obtain reliable loss data from which to calculate estimated future losses, the unallocated portion of the allowance is an integral component of the total allowance. Although unassigned to a particular credit relationship or product segment, this portion of the allowance is vital to safeguard against the imprecision inherent in estimating credit losses.

Hurricanes Irma & Michael. In 2017, the Company established a $32.9 million storm-related provision for loans affected by Hurricane Irma. The $32.9 million of storm-related provision for loan losses was calculated by taking a 5.0% allocation on the loans in the Florida Key loans receivable balances, a 5.0% allocation on specific large loans located in the path of the hurricane on the mainland of Florida, and a 0.75% allocation on balances in the remaining counties within the FEMA-designated disaster areas. As of December 31, 2018, $2.5 million in charge-offs had been taken against the storm-related provision for loan losses. As a result, management reevaluated the storm-related allowance for Hurricane Irma. Based on this analysis, management determined a $2.9 million storm-related allowance was still necessary. This amount was calculated by assigning a 0.10% to 0.35% allocation on the loans in the impacted counties, with the counties most heavily impacted receiving the 0.35% allocation. During the fourth quarter of 2018, Hurricane Michael made landfall in the Florida Panhandle as a Category 4 hurricane. Due to this event, the Company’s management performed an analysis on the loans with collateral in the impacted counties in the Florida Panhandle. Based on this analysis, management determined a $20.4 million storm-related provision was necessary. This amount was calculated by taking a 1.0% to 6.0% allocation on the loans in the impacted counties. The counties that experienced the most damage were assigned a 6.0% allocation. After establishing the storm-related provision for Hurricane Michael and adjusting the allowance for Hurricane Irma, the storm-related allowance was $23.3 million for the year ended December 31, 2018. We believe the storm-related allowance recorded as of December 31, 2018 is appropriate.

The changes for the years ended December 31, 2018 and 2017 in the allocation of the allowance for loan losses for the individual types of loans are primarily associated with changes in the ASC 310 calculations, both individual and aggregate, and changes in the ASC 450 calculations. These calculations are affected by changes in individual loan impairments, changes in asset quality, net charge-offs during the period and normal changes in the outstanding loan portfolio, as well any changes to the general allocation factors due to changes within the actual characteristics of the loan portfolio.

 

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Table 15 presents the allocation of allowance for loan losses as of December 31, 2018, 2017, 2016, 2015 and 2014.

Table 15: Allocation of Allowance for Loan Losses

 

     As of December 31,  
     2018     2017     2016     2015     2014  
     Allowance
Amount
     % of
loans(1)
    Allowance
Amount
     % of
loans(1)
    Allowance
Amount
     % of
loans(1)
    Allowance
Amount
     % of
loans(1)
    Allowance
Amount
     % of
loans(1)
 
     (Dollars in thousands)