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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

(Mark One)

☒

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

 

For the quarterly period ended September 30, 2020

 

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: 000-25805

 

Fauquier Bankshares, Inc.

(Exact name of registrant as specified in its charter)

 

Virginia

 

54-1288193

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

10 Courthouse Square, Warrenton, Virginia

 

20186

(Address of principal executive offices)

 

(Zip Code)

 

(540) 347-2700

(Registrant’s telephone number, including area code)

 

(Not applicable)

(Former name, former address and former fiscal year, if changed since last report)

 

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

 

Title of each class

Trading Symbol(s)

Name of each exchange

on which registered

Common Stock
Par value $3.13 per share

FBSS

The Nasdaq Capital Market

 

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

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes ☒ No ☐

 

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

 

Large accelerated filer

☐

 

 

Accelerated filer

☒

Non-accelerated filer

☐

 

 

Smaller reporting company

☒

 

 

 

 

Emerging growth company

☐

 

If an emerging growth company, indicate by check mark if the registrant has elected to not use 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 registrant had 3,794,725 shares of common stock outstanding as of November 6, 2020.

 

FAUQUIER BANKSHARES, INC.

INDEX

 

Part I.  FINANCIAL INFORMATION

 

 

 

Page

Item 1.

Financial Statements

2

 

 

 

 

Consolidated Balance Sheets (Unaudited)

2

 

 

 

 

Consolidated Statements of Operations (Unaudited)

3

 

 

 

 

Consolidated Statements of Comprehensive Income (Unaudited)

4

 

 

 

 

Consolidated Statements of Changes in Shareholders’ Equity (Unaudited)

5

 

 

 

 

Consolidated Statements of Cash Flows (Unaudited)

6

 

 

 

 

Notes to Consolidated Financial Statements

7

 

 

 

Item 2.

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

26

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

41

 

 

 

Item 4.

Controls and Procedures

41

 

 

 

Part II.  OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

41

 

 

 

Item 1A.

Risk Factors

41

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

43

 

 

 

Item 3.

Defaults Upon Senior Securities

43

 

 

 

Item 4.

Mine Safety Disclosures

43

 

 

 

Item 5.

Other Information

43

 

 

 

Item 6.

Exhibits

44

 

 

 

SIGNATURES

45

 

1

Part I. FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

Fauquier Bankshares, Inc. and Subsidiaries

Consolidated Balance Sheets

 

(In thousands, except share and per share data)

 

September 30,

2020

(Unaudited)

 

 

December 31,

2019

 

Assets

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

10,994

 

 

$

9,124

 

Interest-bearing deposits in other banks

 

 

62,666

 

 

 

37,203

 

Federal funds sold

 

 

13

 

 

 

14

 

Securities available for sale, at fair value

 

 

84,590

 

 

 

79,783

 

Restricted investments

 

 

1,835

 

 

 

2,016

 

Mortgage loans held for sale

 

 

235

 

 

 

247

 

Loans

 

 

638,103

 

 

 

550,226

 

Allowance for loan losses

 

 

(6,701

)

 

 

(5,227

)

Loans, net

 

 

631,402

 

 

 

544,999

 

Premises and equipment, net

 

 

16,790

 

 

 

17,492

 

Accrued interest receivable

 

 

2,635

 

 

 

1,984

 

Other real estate owned, net

 

 

1,356

 

 

 

1,356

 

Bank-owned life insurance

 

 

14,231

 

 

 

13,961

 

Other assets

 

 

13,539

 

 

 

13,992

 

Total assets

 

$

840,286

 

 

$

722,171

 

Liabilities

 

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

 

Noninterest-bearing checking

 

$

179,650

 

 

$

123,492

 

Interest-bearing:

 

 

 

 

 

 

 

 

Checking

 

 

252,627

 

 

 

242,531

 

Savings and money market accounts

 

 

235,718

 

 

 

182,007

 

Time deposits

 

 

71,839

 

 

 

74,125

 

Total interest-bearing

 

 

560,184

 

 

 

498,663

 

Total deposits

 

 

739,834

 

 

 

622,155

 

Federal Home Loan Bank advances

 

 

12,629

 

 

 

16,695

 

Junior subordinated debt

 

 

4,124

 

 

 

4,124

 

Other liabilities

 

 

11,492

 

 

 

12,075

 

Total liabilities

 

 

768,079

 

 

 

655,049

 

Shareholders’ Equity

 

 

 

 

 

 

 

 

Common stock, par value $3.13, and additional paid-in capital; authorized: 8,000,000 shares; issued and outstanding: 3,794,725 and 3,783,724 shares including 19,843 and 20,352 unvested restricted shares, respectively

 

 

16,152

 

 

 

15,964

 

Retained earnings

 

 

52,885

 

 

 

49,787

 

Accumulated other comprehensive income, net

 

 

3,170

 

 

 

1,371

 

Total shareholders’ equity

 

 

72,207

 

 

 

67,122

 

Total liabilities and shareholders’ equity

 

$

840,286

 

 

$

722,171

 

 

See accompanying Notes to Consolidated Financial Statements.

2

Fauquier Bankshares, Inc. and Subsidiaries

Consolidated Statements of Operations

(Unaudited)

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

(In thousands, except per share data)

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest and fees on loans

 

$

6,348

 

 

$

6,651

 

 

$

19,322

 

 

$

19,795

 

Interest and dividends on securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable interest income

 

 

338

 

 

 

355

 

 

 

1,081

 

 

 

1,089

 

Tax-exempt interest

 

 

107

 

 

 

89

 

 

 

306

 

 

 

263

 

Dividends

 

 

29

 

 

 

57

 

 

 

84

 

 

 

127

 

Interest on deposits in other banks

 

 

19

 

 

 

210

 

 

 

113

 

 

 

547

 

Total interest income

 

 

6,841

 

 

 

7,362

 

 

 

20,906

 

 

 

21,821

 

Interest Expense

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest on deposits

 

 

420

 

 

 

930

 

 

 

1,666

 

 

 

2,727

 

Interest on federal funds purchased

 

 

-

 

 

 

-

 

 

 

-

 

 

 

14

 

Interest on Federal Home Loan Bank advances

 

 

78

 

 

 

190

 

 

 

225

 

 

 

523

 

Interest on Junior subordinated debt

 

 

49

 

 

 

51

 

 

 

148

 

 

 

149

 

Total interest expense

 

 

547

 

 

 

1,171

 

 

 

2,039

 

 

 

3,413

 

Net interest income

 

 

6,294

 

 

 

6,191

 

 

 

18,867

 

 

 

18,408

 

Provision for loan losses

 

 

345

 

 

 

-

 

 

 

1,606

 

 

 

255

 

Net interest income after provision for loan losses

 

 

5,949

 

 

 

6,191

 

 

 

17,261

 

 

 

18,153

 

Noninterest Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Trust and estate fees

 

 

681

 

 

 

442

 

 

 

1,641

 

 

 

1,285

 

Brokerage fees

 

 

127

 

 

 

115

 

 

 

393

 

 

 

333

 

Service charges on deposit accounts

 

 

259

 

 

 

382

 

 

 

831

 

 

 

1,142

 

Interchange fee income, net

 

 

333

 

 

 

394

 

 

 

900

 

 

 

979

 

Bank-owned life insurance

 

 

90

 

 

 

92

 

 

 

270

 

 

 

275

 

Other income (loss)

 

 

(27

)

 

 

188

 

 

 

(59

)

 

 

392

 

Gain on sale of securities available for sale

 

 

-

 

 

 

-

 

 

 

-

 

 

 

79

 

Gain (loss) on sale of mortgage loans held for sale, net

 

 

15

 

 

 

(3

)

 

 

60

 

 

 

2

 

Total noninterest income

 

 

1,478

 

 

 

1,610

 

 

 

4,036

 

 

 

4,487

 

Noninterest Expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Salaries and benefits

 

 

3,076

 

 

 

3,035

 

 

 

8,463

 

 

 

8,968

 

Occupancy

 

 

586

 

 

 

561

 

 

 

1,829

 

 

 

1,781

 

Furniture and equipment

 

 

196

 

 

 

269

 

 

 

577

 

 

 

827

 

Marketing and business development

 

 

114

 

 

 

129

 

 

 

329

 

 

 

487

 

Legal, audit and consulting

 

 

301

 

 

 

270

 

 

 

875

 

 

 

801

 

Data processing

 

 

338

 

 

 

353

 

 

 

1,074

 

 

 

1,031

 

Federal Deposit Insurance Corporation assessment

 

 

95

 

 

 

-

 

 

 

260

 

 

 

187

 

Merger related expenses

 

 

43

 

 

 

-

 

 

 

43

 

 

 

-

 

Other operating expenses

 

 

921

 

 

 

802

 

 

 

2,713

 

 

 

2,561

 

Total noninterest expenses

 

 

5,670

 

 

 

5,419

 

 

 

16,163

 

 

 

16,643

 

Income before income taxes

 

 

1,757

 

 

 

2,382

 

 

 

5,134

 

 

 

5,997

 

Income tax expense

 

 

210

 

 

 

330

 

 

 

613

 

 

 

749

 

Net Income

 

$

1,547

 

 

$

2,052

 

 

$

4,521

 

 

$

5,248

 

Earnings per share, basic

 

$

0.41

 

 

$

0.54

 

 

$

1.19

 

 

$

1.39

 

Earnings per share, diluted

 

$

0.41

 

 

$

0.54

 

 

$

1.19

 

 

$

1.38

 

Dividends per share

 

$

0.125

 

 

$

0.12

 

 

$

0.375

 

 

$

0.36

 

 

See accompanying Notes to Consolidated Financial Statements.

3

Fauquier Bankshares, Inc. and Subsidiaries

Consolidated Statements of Comprehensive Income

(Unaudited)

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

(In thousands)

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Net income

 

$

1,547

 

 

$

2,052

 

 

$

4,521

 

 

$

5,248

 

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Change in fair value of securities available for sale, net of tax, $9, $(100), $(571) and $(619), respectively

 

 

(34

)

 

 

374

 

 

 

2,147

 

 

 

2,328

 

Reclassification adjustment for gains on securities available for sale, net of tax, $0, $0, $0 and $17, respectively

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(62

)

Change in fair value of interest rate swap, net of tax, $(11), $37, $93 and $98, respectively

 

 

45

 

 

 

(141

)

 

 

(348

)

 

 

(369

)

Total other comprehensive income, net of tax, $(2), $(63), $(478) and $(504), respectively

 

 

11

 

 

 

233

 

 

 

1,799

 

 

 

1,897

 

Total comprehensive income

 

$

1,558

 

 

$

2,285

 

 

$

6,320

 

 

$

7,145

 

 

See accompanying Notes to Consolidated Financial Statements.

4

Fauquier Bankshares, Inc. and Subsidiaries

Consolidated Statements of Changes in Shareholders’ Equity

(Unaudited)

 

 

(In thousands, except share and per share data)

 

Common

Stock and Additional Paid-In Capital

 

 

Retained

Earnings

 

 

Accumulated

Other

Comprehensive

Income

 

 

Total

 

Balance, June 30, 2019

 

$

15,890

 

 

$

47,090

 

 

$

1,126

 

 

$

64,106

 

Net income

 

 

-

 

 

 

2,052

 

 

 

-

 

 

 

2,052

 

Other comprehensive income, net of tax, $(63)

 

 

-

 

 

 

-

 

 

 

233

 

 

 

233

 

Cash dividends ($0.12 per share)

 

 

-

 

 

 

(455

)

 

 

-

 

 

 

(455

)

Amortization of unearned compensation, restricted stock awards

 

 

40

 

 

 

-

 

 

 

-

 

 

 

40

 

Balance, September 30, 2019

 

$

15,930

 

 

$

48,687

 

 

$

1,359

 

 

$

65,976

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2020

 

$

16,117

 

 

$

51,812

 

 

$

3,159

 

 

$

71,088

 

Net income

 

 

-

 

 

 

1,547

 

 

 

-

 

 

 

1,547

 

Other comprehensive income, net of tax, $(2)

 

 

-

 

 

 

-

 

 

 

11

 

 

 

11

 

Cash dividends ($0.125 per share)

 

 

-

 

 

 

(474

)

 

 

-

 

 

 

(474

)

Amortization of unearned compensation, restricted stock awards

 

 

35

 

 

 

-

 

 

 

-

 

 

 

35

 

Balance, September 30, 2020

 

$

16,152

 

 

$

52,885

 

 

$

3,170

 

 

$

72,207

 

 

 

(In thousands, except share and per share data)

 

Common

Stock and Additional Paid-In Capital

 

 

Retained

Earnings

 

 

Accumulated

Other

Comprehensive

Income (Loss)

 

 

Total

 

Balance, December 31, 2018

 

$

15,742

 

 

$

44,803

 

 

$

(538

)

 

$

60,007

 

Net income

 

 

-

 

 

 

5,248

 

 

 

-

 

 

 

5,248

 

Other comprehensive income, net of tax effect, $(504)

 

 

-

 

 

 

-

 

 

 

1,897

 

 

 

1,897

 

Cash dividends ($0.36 per share)

 

 

-

 

 

 

(1,364

)

 

 

-

 

 

 

(1,364

)

Amortization of unearned compensation, restricted stock awards

 

 

114

 

 

 

-

 

 

 

-

 

 

 

114

 

Issuance of common stock - unvested shares (5,884 shares)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Issuance of common stock - vested shares  (4,149 shares)

 

 

95

 

 

 

-

 

 

 

-

 

 

 

95

 

Repurchase of common stock (960 shares)

 

 

(21

)

 

 

-

 

 

 

-

 

 

 

(21

)

Balance, September 30, 2019

 

$

15,930

 

 

$

48,687

 

 

$

1,359

 

 

$

65,976

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2019

 

$

15,964

 

 

$

49,787

 

 

$

1,371

 

 

$

67,122

 

Net income

 

 

-

 

 

 

4,521

 

 

 

-

 

 

 

4,521

 

Other comprehensive income, net of tax, $(478)

 

 

-

 

 

 

-

 

 

 

1,799

 

 

 

1,799

 

Cash dividends ($0.375 per share)

 

 

-

 

 

 

(1,423

)

 

 

-

 

 

 

(1,423

)

Amortization of unearned compensation, restricted stock awards

 

 

104

 

 

 

-

 

 

 

-

 

 

 

104

 

Issuance of common stock - unvested shares (7,889 shares)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Issuance of common stock - vested shares (4,293 shares)

 

 

90

 

 

 

-

 

 

 

-

 

 

 

90

 

Issuance of common stock - performance-based restricted stock units (826 shares)

 

 

18

 

 

 

-

 

 

 

-

 

 

 

18

 

Repurchase of common stock (2,007 shares)

 

 

(24

)

 

 

-

 

 

 

-

 

 

 

(24

)

Balance, September 30, 2020

 

$

16,152

 

 

$

52,885

 

 

$

3,170

 

 

$

72,207

 

 

See accompanying Notes to Consolidated Financial Statements.

5

Fauquier Bankshares, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

(Unaudited)

 

 

 

Nine Months Ended September 30,

 

(In thousands)

 

2020

 

 

2019

 

Cash Flows from Operating Activities

 

 

 

 

 

 

 

 

Net income

 

$

4,521

 

 

$

5,248

 

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

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

809

 

 

 

967

 

Provision for loan losses

 

 

1,606

 

 

 

255

 

(Gain) loss on interest rate swaps

 

 

(3

)

 

 

8

 

Gain on sales of securities available for sale

 

 

-

 

 

 

(79

)

Amortization of security premiums, net

 

 

377

 

 

 

330

 

Amortization of unearned compensation, net of forfeiture

 

 

22

 

 

 

190

 

Issuance of vested restricted stock

 

 

108

 

 

 

95

 

Bank-owned life insurance income

 

 

(270

)

 

 

(275

)

Originations of mortgage loans held for sale

 

 

(2,761

)

 

 

(2,362

)

Proceeds from mortgage loans held for sale

 

 

2,833

 

 

 

864

 

Gain on mortgage loans held for sale

 

 

(60

)

 

 

(2

)

Changes in assets and liabilities:

 

 

 

 

 

 

 

 

Increase in other assets

 

 

(678

)

 

 

(4,998

)

Increase (decrease) in other liabilities

 

 

(993

)

 

 

4,916

 

Net cash provided by operating activities

 

 

5,511

 

 

 

5,157

 

Cash Flows from Investing Activities

 

 

 

 

 

 

 

 

Proceeds from sales, maturities, calls and principal payments of securities

available for sale

 

 

10,500

 

 

 

19,934

 

Purchase of securities available for sale

 

 

(12,966

)

 

 

(17,990

)

Purchase of premises and equipment

 

 

(107

)

 

 

(500

)

(Purchase) redemption of restricted investments, net

 

 

181

 

 

 

(331

)

Loan originations, net

 

 

(87,953

)

 

 

4,270

 

Net cash provided by (used in) investing activities

 

 

(90,345

)

 

 

5,383

 

Cash Flows from Financing Activities

 

 

 

 

 

 

 

 

Increase (decrease) in noninterest-bearing checking, interest-bearing checking, savings and money market accounts

 

 

119,965

 

 

 

(29,926

)

Increase (decrease) in time deposits

 

 

(2,286

)

 

 

8,288

 

Increase (decrease) in Federal Home Loan Bank advances

 

 

(4,066

)

 

 

5,937

 

Cash dividends paid on common stock

 

 

(1,423

)

 

 

(1,364

)

Repurchase of common stock

 

 

(24

)

 

 

(21

)

Net cash provided by (used in) financing activities

 

 

112,166

 

 

 

(17,086

)

Increase (decrease) in cash and cash equivalents

 

 

27,332

 

 

 

(6,546

)

Cash and Cash Equivalents

 

 

 

 

 

 

 

 

Beginning

 

 

46,341

 

 

 

67,110

 

Ending

 

$

73,673

 

 

$

60,564

 

Supplemental Disclosures of Cash Flow Information

 

 

 

 

 

 

 

 

Cash payments for:

 

 

 

 

 

 

 

 

Interest

 

$

2,121

 

 

$

3,159

 

Income taxes

 

$

785

 

 

$

640

 

 

 

 

 

 

 

 

 

 

Supplemental Disclosures of Noncash Investing Activities

 

 

 

 

 

 

 

 

Unrealized gain on securities available for sale, net of tax

 

$

2,147

 

 

$

2,266

 

Unrealized loss on interest rate swap, net of tax

 

$

(348

)

 

$

(369

)

 

See accompanying Notes to Consolidated Financial Statements.

6

FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

 

Note 1.General

 

The consolidated financial statements include the accounts of Fauquier Bankshares, Inc. (the “Company”) and its wholly-owned subsidiary, The Fauquier Bank (the “Bank”), and the Bank’s wholly-owned subsidiaries, Fauquier Bank Services, Inc. and Specialty Properties Acquisitions - VA, LLC. Specialty Properties Acquisitions - VA, LLC was formed with the sole purpose of holding foreclosed property. The consolidated financial statements do not include the accounts of Fauquier Statutory Trust II, a wholly-owned subsidiary of the Company. In consolidation, significant intercompany financial balances and transactions have been eliminated.  In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring accruals) necessary to present fairly the financial position as of September 30, 2020 and the results of operations for the three and nine months ended September 30, 2020 and 2019, in accordance with accounting principles generally accepted in the United States of America (“GAAP”).  The notes included herein should be read in conjunction with the consolidated financial statements and accompanying notes included in the Company’s 2019 Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”).

 

The results of operations for the three and nine months ended September 30, 2020 and 2019 are not necessarily indicative of the results expected for the full year or any other interim period.  Due to the significant uncertainties related to the ultimate duration of the novel coronavirus (“COVID-19”) pandemic and measures taken in response thereto, it is reasonably possible that estimates made in the financial statements could be materially and adversely impacted in the near term as a result of these conditions, including that the credit quality of the Company’s loan portfolio may decline and loan defaults could increase.

 

Certain amounts in the 2019 consolidated financial statements have been reclassified to conform to the 2020 presentation. No reclassifications were significant and there was no effect on net income.

 

Business Combination   

 

On October 1, 2020, the Company and Virginia National Bankshares Corporation (“Virginia National”) announced a definitive agreement to combine in a strategic merger (the “Merger Agreement”) pursuant to which the Company will merge with and into Virginia National (the “Merger”).  As a result of the Merger, the holders of shares of the Company's common stock will receive 0.6750 shares of Virginia National common stock for each share of the Company's common stock held immediately prior to the effective date of the Merger. The transaction is expected to be completed in the first quarter of 2021, subject to approval of both companies' shareholders, regulatory approvals and other customary closing conditions.

 

Recent Accounting Pronouncements and Other Regulatory Statements

 

In June 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update (“ASU”) No. 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.”  The amendments, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available for sale debt securities and purchased financial assets with credit deterioration. The FASB has issued multiple updates to ASU No. 2016-13 as codified in Topic 326, including ASU Nos. 2019-04, 2019-05, 2019-10, 2019-11, 2020-02, and 2020-03.  These ASUs have provided for various minor technical corrections and improvements to the codification as well as other transition matters.  Smaller reporting companies who file with the SEC and all other entities who do not file with the SEC are required to apply the guidance for fiscal years, and interim periods within those years, beginning after December 15, 2022. Changes under ASU No. 2016-13 and subsequent updates represent a fundamental shift from existing GAAP and may result in a material increase to the Company's accounting for credit losses on financial instruments. To prepare for implementation of the new standard the Company established a working group to evaluate the impact these changes will have on the Company’s financial statements and related disclosures. The Company also contracted with a third-party for credit modeling in accordance with ASU No. 2016-13.  The Company has focused on model validations, the

7

development of processes and related controls, and the evaluation of parallel runs. The Company has not yet determined an estimate of the effect of these changes.

 

Effective November 25, 2019, the SEC adopted Staff Accounting Bulletin (“SAB”) 119.  SAB 119 updated portions of the SEC’s interpretative guidance to align with FASB Accounting Standards Codification (“ASC”) 326, “Financial Instruments – Credit Losses.”  The SAB covers topics including (i) measuring current expected credit losses; (ii) development, governance, and documentation of a systematic methodology; (iii) documenting the results of a systematic methodology; and (iv) validating a systematic methodology.

 

In August 2018, the FASB issued ASU No. 2018-13, “Fair Value Measurement (Topic 820): “Changes to the Disclosure Requirements for Fair Value Measurement.”  ASU No. 2018-13 modified the disclosure requirements on fair value measurements by requiring that Level 3 fair value disclosures include the range and weighted average of significant unobservable inputs used to develop those fair value measurements. For certain unobservable inputs, an entity may disclose other quantitative information in lieu of the weighted average if the entity determines that other quantitative information would be a more reasonable and rational method to reflect the distribution of unobservable inputs used to develop Level 3 fair value measurements. Certain disclosure requirements in Topic 820 were also removed or modified. ASU No. 2018-13 was effective for the Company on January 1, 2020.  The Company’s adoption of ASU No. 2018-13 has not had a material impact on its consolidated financial statements.

 

In August 2018, the FASB issued ASU No. 2018-14, “Compensation - Retirement Benefits - Defined Benefit Plans - General (Subtopic 715-20): Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans.”  These amendments modify the disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. Certain disclosure requirements were deleted while the following disclosure requirements were added: the weighted-average interest crediting rates for cash balance plans and other plans with promised interest crediting rates and an explanation of the reasons for significant gains and losses related to changes in the benefit obligation for the period. The amendments also clarify the disclosure requirements in paragraph 715-20-50-3, which state that the following information for defined benefit pension plans should be disclosed: The projected benefit obligation (“PBO”) and fair value of plan assets for plans with PBOs in excess of plan assets and the accumulated benefit obligation (“ABO”) and fair value of plan assets for plans with ABOs in excess of plan assets. The amendments are effective for fiscal years ending after December 15, 2020. Early adoption is permitted.  The Company does not expect the adoption of ASU No. 2018-14 to have a material impact on its consolidated financial statements.

 

In December 2019, the FASB issued ASU No. 2019-12, “Income Taxes (Topic 740) - Simplifying the Accounting for Income Taxes.”  This ASU is expected to reduce the cost and complexity related to the accounting for income taxes by removing specific exceptions to general principles in Topic 740 (eliminating the need for an organization to analyze whether certain exceptions apply in a given period) and improving financial statement preparers’ application of certain income tax-related guidance. This ASU is part of the FASB’s simplification initiative to make narrow-scope simplifications and improvements to accounting standards through a series of short-term projects.  For public business entities, the amendments are effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years.  Early adoption is permitted. The Company is currently assessing the impact that ASU No. 2019-12 will have on its consolidated financial statements.

 

In January 2020, the FASB issued ASU No. 2020-01, “Investments - Equity Securities (Topic 321), Investments - Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815) – Clarifying the Interactions between Topic 321, Topic 323, and Topic 815.”  This ASU is based on a consensus of the Emerging Issues Task Force and is expected to increase comparability in accounting for these transactions.  ASU No. 2016-01 made targeted improvements to accounting for financial instruments, including providing an entity the ability to measure certain equity securities without a readily determinable fair value at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer.  Among other topics, the amendments clarified that an entity should consider observable transactions that require it to either apply or discontinue the equity method of accounting.  For public business entities, the amendments in this ASU are effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years.  Early adoption is permitted. The Company does not expect the adoption of ASU No. 2020-01 to have a material impact on its consolidated financial statements.

 

In March 2020, the FASB issued ASU No. 2020-04 “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” These amendments provide temporary optional guidance to ease the

8

potential burden in accounting for reference rate reform. This ASU also provides optional expedients and exceptions for applying GAAP to contract modifications and hedging relationships, subject to meeting certain criteria, that reference London Inter-Bank Offered Rate (“LIBOR”) or another reference rate expected to be discontinued. It is intended to help stakeholders during the global market-wide reference rate transition period. The guidance is effective for all entities as of March 12, 2020 through December 31, 2022. The Company continues to evaluate the impact of the reference rate reform on the Company’s consolidated financial statements.

 

On June 28, 2018, the SEC adopted amendments to the definition of “smaller reporting company” that were effective on September 10, 2018.  Under the amended definition, generally, a company qualifies as a “smaller reporting company” if (i) it has public float of less than $250 million or (ii) it has less than $100 million in annual revenues and (a) no public float or (b) public float of less than $700 million.  Because of the Company’s public float being less than $250 million as of the measurement date in 2019, the Company is considered a smaller reporting company with respect to its SEC filings. On March 12, 2020, the SEC finalized amendments to its definitions of “accelerated filer” and “large accelerated filer.”  The amendments increase the threshold criteria for meeting these filer classifications and are effective on April 27, 2020. Any changes in filer status are to be applied beginning with the filer’s first annual report filed with the SEC subsequent to the effective date.  For the Company, this will be its annual report on Form 10-K with respect to the year ending December 31, 2020.  Pursuant to Section 404(b) of the Sarbanes-Oxley Act, the classifications of “accelerated filer” and “large accelerated filer” require a public company to obtain an external auditor attestation concerning the effectiveness of a company’s internal control over financial reporting (“ICFR”) and include the opinion on ICFR in its annual report on Form 10-K. The Company has complied with such requirements during the years it was considered an accelerated filer.  The SEC’s March 2020 definition amendments exclude from the accelerated filer and large accelerated filer definitions an issuer that (i) is eligible to be a smaller reporting company and (ii) had annual revenues of less than $100 million in the most recent fiscal year.  Such entity can now be considered a “non-accelerated filer.”  With respect to the 2020 fiscal year, the Company expects to continue to be a smaller reporting company and no longer be considered an accelerated filer. This would mean the Company would not be required to obtain the external auditor attestation of its ICFR.  If the Company’s annual revenues exceed $100 million, its category may change back to that of an accelerated filer.  Non-accelerated filers have additional time to file quarterly and annual financial statements. 

 

In March 2020 (revised in April 2020), various regulatory agencies, including the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation (collectively, “the agencies”), issued an interagency statement on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The interagency statement was effective immediately and impacted accounting for loan modifications. Under ASC 310-40, “Receivables - Troubled Debt Restructurings by Creditors,” a restructuring of debt constitutes a troubled debt restructuring (“TDR”) if the creditor, for economic or legal reasons related to the debtor’s financial difficulties, grants a concession to the debtor that it would not otherwise consider. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not to be considered TDRs. This includes short-term modifications such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. Borrowers considered current are those that are less than 30 days past due on their contractual payments at the time a modification program is implemented. See Note 3 of the consolidated financial statements for additional disclosure of TDRs as of September 30, 2020.  

 

In August 2020, the FASB issued ASU No. 2020-06 “Debt – Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging – Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity.” The ASU simplifies accounting for convertible instruments by removing major separation models required under current U.S. GAAP. Consequently, more convertible debt instruments will be reported as a single liability instrument and more convertible preferred stock as a single equity instrument with no separate accounting for embedded conversion features. The ASU removes certain settlement conditions that are required for equity contracts to qualify for the derivative scope exception. The ASU also simplifies the diluted earnings per share calculation in certain areas. In addition, the amendment updates the disclosure requirements for convertible instruments to increase the information transparency. For public business entities, excluding smaller reporting companies, the amendments in the ASU are effective for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years.  For all other entities, the standard will be effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted. The Company does not expect the adoption of ASU 2020-06 to have a material impact on its consolidated financial statements.

 

9

In October 2020, the FASB issued ASU No. 2020-08, “Codification Improvements to Subtopic 310-20, Receivables – Nonrefundable fees and Other Costs.” This ASU clarifies that an entity should reevaluate whether a callable debt security is within the scope of ASC paragraph 310-20-35-33 for each reporting period. For public business entities, the ASU is effective for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years.  Early adoption is not permitted. ASU No. 2020-08 states that all entities should apply the amendments in this ASU on a prospective basis as of the beginning of the period of adoption for existing or newly purchased callable debt securities. The Company does not expect the adoption of ASU 2020-06 to have a material impact on its consolidated financial statements.

 

Note 2.Securities

The amortized cost and fair value of securities available for sale, with unrealized gains and losses follows:

 

 

 

September 30, 2020

 

(In thousands)

 

Amortized

Cost

 

 

Gross

Unrealized

Gains

 

 

Gross

Unrealized

(Losses)

 

 

Fair Value

 

Obligations of U.S. Government corporations and agencies

 

$

60,791

 

 

$

3,040

 

 

$

(16

)

 

$

63,815

 

Obligations of states and political subdivisions

 

 

19,444

 

 

 

1,401

 

 

 

(70

)

 

 

20,775

 

 

 

$

80,235

 

 

$

4,441

 

 

$

(86

)

 

$

84,590

 

 

 

 

December 31, 2019

 

(In thousands)

 

Amortized

Cost

 

 

Gross

Unrealized

Gains

 

 

Gross

Unrealized

(Losses)

 

 

Fair Value

 

Obligations of U.S. Government corporations and agencies

 

$

63,090

 

 

$

937

 

 

$

(86

)

 

$

63,941

 

Obligations of states and political subdivisions

 

 

15,054

 

 

 

802

 

 

 

(14

)

 

 

15,842

 

 

 

$

78,144

 

 

$

1,739

 

 

$

(100

)

 

$

79,783

 

 

The amortized cost and fair value of securities available for sale, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without penalties.

 

 

 

September 30, 2020

 

(In thousands)

 

Amortized

Cost

 

 

Fair Value

 

 

 

 

 

 

 

 

 

 

Due in one year or less

 

$

1,055

 

 

$

1,065

 

Due after one year through five years

 

 

16,204

 

 

 

17,221

 

Due after five years through ten years

 

 

10,396

 

 

 

11,032

 

Due after ten years

 

 

52,580

 

 

 

55,272

 

 

 

$

80,235

 

 

$

84,590

 

 

During the nine months ended September 30, 2020 and 2019, securities purchased were $13.0 million and $18.0 million, respectively. During the nine months ended September 30, 2020 and 2019, proceeds from maturities, calls and principal payments of securities were $10.5 million and $13.9 million, respectively.  During the nine months ended September 30, 2020 there were no securities sold.  During the nine months ended September 30, 2019, securities sold were $6.0 million.  There were no impairment losses on securities during the three and nine months ended September 30, 2020 and 2019.

10

 

The following table shows the Company’s securities with gross unrealized losses, by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2020 and December 31, 2019.

 

(In thousands)

 

Less than 12 Months

 

 

12 Months or More

 

 

Total

 

September 30, 2020

 

Fair Value

 

 

Unrealized

(Losses)

 

 

Fair Value

 

 

Unrealized

(Losses)

 

 

Fair Value

 

 

Unrealized

(Losses)

 

Obligations of U.S. Government corporations and

agencies

 

$

6,097

 

 

$

(16

)

 

$

-

 

 

$

-

 

 

$

6,097

 

 

$

(16

)

Obligations of states and political subdivisions

 

 

4,081

 

 

 

(70

)

 

 

-

 

 

 

-

 

 

 

4,081

 

 

 

(70

)

Total temporary impaired securities

 

$

10,178

 

 

$

(86

)

 

$

-

 

 

$

-

 

 

$

10,178

 

 

$

(86

)

 

(In thousands)

 

Less than 12 Months

 

 

12 Months or More

 

 

Total

 

December 31, 2019

 

Fair Value

 

 

Unrealized

(Losses)

 

 

Fair Value

 

 

Unrealized

(Losses)

 

 

Fair Value

 

 

Unrealized

(Losses)

 

Obligations of U.S. Government corporations and

agencies

 

$

11,460

 

 

$

(42

)

 

$

5,651

 

 

$

(44

)

 

$

17,111

 

 

$

(86

)

Obligations of states and political subdivisions

 

 

2,049

 

 

 

(14

)

 

 

-

 

 

 

-

 

 

 

2,049

 

 

 

(14

)

Total temporary impaired securities

 

$

13,509

 

 

$

(56

)

 

$

5,651

 

 

$

(44

)

 

$

19,160

 

 

$

(100

)

 

There were 12 debt securities totaling $10.1 million of aggregate fair value considered temporarily impaired at September 30, 2020. The primary cause of the temporary impairments in the Company’s investments in debt securities was fluctuations in interest rates. The Company concluded that no other-than-temporary impairment existed in its securities portfolio at September 30, 2020, and no other-than-temporary impairment loss has been recognized in net income, based primarily on the fact that changes in fair value were caused primarily by fluctuations in interest rates, there were no securities with unrealized losses that were significant relative to their carrying amounts, no securities have been in an unrealized loss position continuously for more than 12 months, securities with unrealized losses had generally high credit quality, the Company intends to hold these investments in debt securities to maturity and it is more-likely-than-not that the Company will not be required to sell these investments before a recovery of its investment, and issuers have continued to make timely payments of principal and interest. Additionally, the Company’s mortgage-backed securities are entirely issued by either U.S. government agencies or U.S. government-sponsored enterprises.  Collectively, these entities provide a guarantee, which is either explicitly or implicitly supported by the full faith and credit of the U.S. government, that investors in such mortgage-backed securities will receive timely principal and interest payments. 

 

The carrying value of securities pledged to secure deposits and for other purposes was $16.7 million and $16.6 million at September 30, 2020 and December 31, 2019, respectively.

 

Note 3.Loans and Allowance for Loan Losses

 

The Company’s allowance for loan losses has three basic components: specific, general, and unallocated. The specific component is used to individually allocate an allowance for larger balance, non-homogeneous loans identified as impaired. The general component is used to estimate the loss on pools of smaller balance, homogeneous loans, including 1-4 family mortgage loans and other consumer loans. The general component is also used for the remaining pool of larger balance, non-homogeneous loans, not identified as impaired. The unallocated component reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

 

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was enacted to, among other provisions, provide emergency assistance for individuals, families and businesses affected by COVID-19.  A provision in the CARES Act included the creation of the Paycheck Protection Program (“PPP”) through the Small Business Administration (“SBA”).  Loans provided by the Bank through the PPP may be forgiven based on the borrowers’ compliance with the terms of the program.  The SBA provides a 100% guaranty to the lender of principal and interest, unless the lender violates an obligation under the agreement.  As loan losses are expected to be immaterial, if any at all, due to the SBA guaranty, there is no provision allocated for PPP loans within the allowance for loan loss calculation. The Commercial and

11

Industrial loan portfolio segment in the tables below include 549 PPP loans that totaled $53.1 million at September 30, 2020. There were no loans that were forgiven at September 30, 2020.

 

The following tables present the total allowance for loan losses by portfolio segment for the periods presented.

 

 

 

September 30, 2020

 

(In thousands)

 

Commercial and Industrial

 

 

Commercial Real Estate

 

 

Construction and Land

 

 

Consumer

 

 

Student

 

 

Residential

Real Estate

 

 

Home Equity Lines of Credit

 

 

Unallocated

 

 

Total

 

Allowance for Loan Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance, December 31, 2019

 

$

296

 

 

$

1,788

 

 

$

652

 

 

$

154

 

 

$

65

 

 

$

1,596

 

 

$

326

 

 

$

350

 

 

$

5,227

 

Charge-offs

 

 

(148

)

 

 

-

 

 

 

-

 

 

 

(21

)

 

 

(8

)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(177

)

Recoveries

 

 

11

 

 

 

14

 

 

 

-

 

 

 

20

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

45

 

Provision (recovery)

 

 

699

 

 

 

361

 

 

 

294

 

 

 

(18

)

 

 

31

 

 

 

263

 

 

 

(24

)

 

 

-

 

 

 

1,606

 

Ending balance,

September 30, 2020

 

$

858

 

 

$

2,163

 

 

$

946

 

 

$

135

 

 

$

88

 

 

$

1,859

 

 

$

302

 

 

$

350

 

 

$

6,701

 

Ending balances individually evaluated for impairment

 

$

20

 

 

$

60

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

80

 

Ending balances collectively evaluated for impairment

 

$

838

 

 

$

2,103

 

 

$

946

 

 

$

135

 

 

$

88

 

 

$

1,859

 

 

$

302

 

 

$

350

 

 

$

6,621

 

Loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

$

509

 

 

$

8,369

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

377

 

 

$

-

 

 

 

 

 

 

$

9,255

 

Collectively evaluated for impairment

 

 

88,473

 

 

 

191,404

 

 

 

72,465

 

 

 

6,264

 

 

 

7,333

 

 

 

232,147

 

 

 

30,762

 

 

 

 

 

 

 

628,848

 

Ending balance, September 30, 2020

 

$

88,982

 

 

$

199,773

 

 

$

72,465

 

 

$

6,264

 

 

$

7,333

 

 

$

232,524

 

 

$

30,762

 

 

 

 

 

 

$

638,103

 

 

 

 

 

September 30, 2019

 

(In thousands)

 

Commercial and Industrial

 

 

Commercial Real Estate

 

 

Construction and Land

 

 

Consumer

 

 

Student

 

 

Residential

Real Estate

 

 

Home Equity Lines of Credit

 

 

Unallocated

 

 

Total

 

Allowance for Loan Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance, December 31, 2018

 

$

483

 

 

$

1,738

 

 

$

635

 

 

$

145

 

 

$

68

 

 

$

1,311

 

 

$

446

 

 

$

350

 

 

$

5,176

 

Charge-offs

 

 

(93

)

 

 

-

 

 

 

-

 

 

 

(24

)

 

 

(12

)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(129

)

Recoveries

 

 

2

 

 

 

77

 

 

 

-

 

 

 

14

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

93

 

Provision (recovery)

 

 

162

 

 

 

(34

)

 

 

15

 

 

 

10

 

 

 

9

 

 

 

137

 

 

 

(44

)

 

 

-

 

 

 

255

 

Ending balance, September 30, 2019

 

$

554

 

 

$

1,781

 

 

$

650

 

 

$

145

 

 

$

65

 

 

$

1,448

 

 

$

402

 

 

$

350

 

 

$

5,395

 

12

 

 

 

December 31, 2019

 

(In thousands)

 

Commercial and Industrial

 

 

Commercial Real Estate

 

 

Construction and Land

 

 

Consumer

 

 

Student

 

 

Residential

Real Estate

 

 

Home Equity Lines of Credit

 

 

Unallocated

 

 

Total

 

Allowance for Loan Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance, December 31, 2018

 

$

483

 

 

$

1,738

 

 

$

635

 

 

$

145

 

 

$

68

 

 

$

1,311

 

 

$

446

 

 

$

350

 

 

$

5,176

 

Charge-offs

 

 

(328

)

 

 

-

 

 

 

-

 

 

 

(50

)

 

 

(13

)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(391

)

Recoveries

 

 

2

 

 

 

80

 

 

 

-

 

 

 

14

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

96

 

Provision (recovery)

 

 

139

 

 

 

(30

)

 

 

17

 

 

 

45

 

 

 

10

 

 

 

285

 

 

 

(120

)

 

 

-

 

 

 

346

 

Ending balance, December 31, 2019

 

$

296

 

 

$

1,788

 

 

$

652

 

 

$

154

 

 

$

65

 

 

$

1,596

 

 

$

326

 

 

$

350

 

 

$

5,227

 

Ending balances individually evaluated for impairment

 

$

-

 

 

$

229

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

-

 

 

$

229

 

Ending balances collectively evaluated for impairment

 

$

296

 

 

$

1,559

 

 

$

652

 

 

$

154

 

 

$

65

 

 

$

1,596

 

 

$

326

 

 

$

350

 

 

$

4,998

 

Loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

$

187

 

 

$

2,847

 

 

$

233

 

 

$

-

 

 

$

-

 

 

$

379

 

 

$

-

 

 

 

 

 

 

$

3,646

 

Collectively evaluated for impairment

 

 

27,217

 

 

 

179,051

 

 

 

64,998

 

 

 

5,958

 

 

 

8,151

 

 

 

224,937

 

 

 

36,268

 

 

 

 

 

 

 

546,580

 

Ending balance, December 31, 2019

 

$

27,404

 

 

$

181,898

 

 

$

65,231

 

 

$

5,958

 

 

$

8,151

 

 

$

225,316

 

 

$

36,268

 

 

 

 

 

 

$

550,226

 

 

 

Loans by credit quality indicators were as follows at the dates presented:

 

 

 

September 30, 2020

 

(In thousands)

 

Commercial and Industrial

 

 

Commercial Real Estate

 

 

Construction and Land

 

 

Consumer

 

 

Student

 

 

Residential

Real Estate

 

 

Home Equity Lines of Credit

 

 

Total

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

88,139

 

 

$

188,682

 

 

$

70,110

 

 

$

6,261

 

 

$

7,333

 

 

$

225,260

 

 

$

28,785

 

 

$

614,570

 

Special mention

 

 

212

 

 

 

9,291

 

 

 

2,289

 

 

 

3

 

 

 

-

 

 

 

321

 

 

 

127

 

 

 

12,243

 

Substandard

 

 

631

 

 

 

1,800

 

 

 

66

 

 

 

-

 

 

 

-

 

 

 

6,943

 

 

 

1,850

 

 

 

11,290

 

Doubtful

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Loss

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Total

 

$

88,982

 

 

$

199,773

 

 

$

72,465

 

 

$

6,264

 

 

$

7,333

 

 

$

232,524

 

 

$

30,762

 

 

$

638,103

 

13

 

 

December 31, 2019

 

(In thousands)

Commercial and Industrial

 

 

Commercial Real Estate

 

 

Construction and Land

 

 

Consumer

 

 

Student

 

 

Residential

Real Estate

 

 

Home Equity Lines of Credit

 

 

Total

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

$

26,555

 

 

$

175,063

 

 

$

62,231

 

 

$

5,955

 

 

$

8,151

 

 

$

218,686

 

 

$

34,218

 

 

$

530,859

 

Special mention

 

422

 

 

 

3,487

 

 

 

2,594

 

 

 

3

 

 

 

-

 

 

 

336

 

 

 

127

 

 

 

6,969

 

Substandard

 

427

 

 

 

3,348

 

 

 

406

 

 

 

-

 

 

 

-

 

 

 

6,294

 

 

 

1,923

 

 

 

12,398

 

Doubtful

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Loss

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

Total

$

27,404

 

 

$

181,898

 

 

$

65,231

 

 

$

5,958

 

 

$

8,151

 

 

$

225,316

 

 

$

36,268

 

 

$

550,226

 

 

The past due status of loans at the dates presented were:

  

 

 

September 30, 2020

 

(In thousands)

 

30-59 Days

Past Due

 

 

60-89 Days

Past Due

 

 

90+ Days Past Due

 

 

Total Past Due

 

 

Current

 

 

Total Loans

 

 

90+ Days Past Due and Accruing

 

 

Nonaccruals

 

Commercial and industrial

 

$

11

 

 

$

43

 

 

$

640

 

 

$

694

 

 

$

88,288

 

 

$

88,982

 

 

$

131

 

 

$

509

 

Commercial real estate

 

 

-

 

 

 

-

 

 

 

357

 

 

 

357

 

 

 

199,416

 

 

 

199,773

 

 

 

-

 

 

 

357

 

Construction and land

 

 

318

 

 

 

-

 

 

 

-

 

 

 

318

 

 

 

72,147

 

 

 

72,465

 

 

 

-

 

 

 

-

 

Consumer

 

 

24

 

 

 

-

 

 

 

7

 

 

 

31

 

 

 

6,233

 

 

 

6,264

 

 

 

7

 

 

 

-

 

Student

 

 

311

 

 

 

265

 

 

 

509

 

 

 

1,085

 

 

 

6,248

 

 

 

7,333

 

 

 

509

 

 

 

-

 

Residential real estate

 

 

708

 

 

 

383

 

 

 

379

 

 

 

1,470

 

 

 

231,054

 

 

 

232,524

 

 

 

-

 

 

 

379

 

Home equity lines of credit

 

 

129

 

 

 

-

 

 

 

-

 

 

 

129

 

 

 

30,633

 

 

 

30,762

 

 

 

-

 

 

 

-

 

Total

 

$

1,501

 

 

$

691

 

 

$

1,892

 

 

$

4,084

 

 

$

634,019

 

 

$

638,103

 

 

$

647

 

 

$

1,245

 

 

 

 

December 31, 2019

 

(In thousands)

 

30-59 Days

Past Due

 

 

60-89 Days

Past Due

 

 

90+ Days Past Due

 

 

Total Past Due

 

 

Current

 

 

Total Loans

 

 

90+ Days Past Due and Accruing

 

 

Nonaccruals

 

Commercial and industrial

 

$

330

 

 

$

-

 

 

$

34

 

 

$

364

 

 

$

27,040

 

 

$

27,404

 

 

$

34

 

 

$

-

 

Commercial real estate

 

 

-

 

 

 

-

 

 

 

989

 

 

 

989

 

 

 

180,909

 

 

 

181,898

 

 

 

-

 

 

 

989

 

Construction and land

 

 

5,472

 

 

 

-

 

 

 

-

 

 

 

5,472

 

 

 

59,759

 

 

 

65,231

 

 

 

-

 

 

 

-

 

Consumer

 

 

11

 

 

 

1

 

 

 

-

 

 

 

12

 

 

 

5,946

 

 

 

5,958

 

 

 

-

 

 

 

-

 

Student

 

 

345

 

 

 

220

 

 

 

1,204

 

 

 

1,769

 

 

 

6,382

 

 

 

8,151

 

 

 

1,205

 

 

 

-

 

Residential real estate

 

 

739

 

 

 

109

 

 

 

397

 

 

 

1,245

 

 

 

224,071

 

 

 

225,316

 

 

 

397

 

 

 

-

 

Home equity lines of credit

 

 

389

 

 

 

-

 

 

 

-

 

 

 

389

 

 

 

35,879

 

 

 

36,268

 

 

 

-

 

 

 

-

 

Total

 

$

7,286

 

 

$

330

 

 

$

2,624

 

 

$

10,240

 

 

$

539,986

 

 

$

550,226

 

 

$

1,636

 

 

$

989

 

 

14

The following table presents information related to impaired loans, by portfolio segment, at the dates presented.

 

 

 

September 30, 2020

 

(In thousands)

 

Recorded Investment

 

 

Unpaid Principal Balance

 

 

Related Allowance

 

 

Average Recorded Investment

 

 

Interest Income Recognized

 

With no specific allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

7,578

 

 

$

7,578

 

 

$

-

 

 

$

7,938

 

 

$

242

 

Residential real estate

 

 

377

 

 

 

377

 

 

 

-

 

 

 

378

 

 

 

4

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial and industrial

 

$

509

 

 

$

509

 

 

$

20

 

 

$

509

 

 

$

8

 

Commercial real estate

 

 

791

 

 

 

791

 

 

 

60

 

 

 

801

 

 

 

28

 

Total:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial and industrial

 

$

509

 

 

$

509

 

 

$

20

 

 

$

509

 

 

$

8

 

Commercial real estate

 

 

8,369

 

 

 

8,369

 

 

 

60

 

 

 

8,739

 

 

 

270

 

Residential real estate

 

 

377

 

 

 

377

 

 

 

-

 

 

 

378

 

 

 

4

 

Total

 

$

9,255

 

 

$

9,255

 

 

$

80

 

 

$

9,626

 

 

$

282

 

 

 

 

December 31, 2019

 

(In thousands)

 

Recorded Investment

 

 

Unpaid Principal Balance

 

 

Related Allowance

 

 

Average Recorded Investment

 

 

Interest Income Recognized

 

With no specific allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial and industrial

 

$

187

 

 

$

187

 

 

$

-

 

 

$

287

 

 

$

13

 

Commercial real estate

 

 

1,048

 

 

 

1,048

 

 

 

-

 

 

 

1,213

 

 

 

61

 

Construction and land

 

 

233

 

 

 

233

 

 

 

-

 

 

 

494

 

 

 

25

 

Residential real estate

 

 

379

 

 

 

379

 

 

 

-

 

 

 

384

 

 

 

16

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

 

1,799

 

 

 

1,813

 

 

 

229

 

 

 

1,806

 

 

 

38

 

Total:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial and industrial

 

$

187

 

 

$

187

 

 

$

-

 

 

$

287

 

 

$

13

 

Commercial real estate

 

 

2,847

 

 

 

2,861

 

 

 

229

 

 

 

3,019

 

 

 

99

 

Construction and land

 

 

233

 

 

 

233

 

 

 

-

 

 

 

494

 

 

 

25

 

Residential real estate

 

 

379

 

 

 

379

 

 

 

-

 

 

 

384

 

 

 

16

 

Total

 

$

3,646

 

 

$

3,660

 

 

$

229

 

 

$

4,184

 

 

$

153

 

 

TDRs are those loans for which a concession has been granted to a borrower experiencing financial difficulties. TDRs are identified at the point when the borrower enters into a modification agreement.  The following table summarizes a modification that was classified as a TDR during the nine months ended September 30, 2020.  There were no loan modifications that were classified as TDRs during the three months ended September 30, 2020 or during the three and nine months ended September 30, 2019.

 

(Dollars in thousands)

 

Nine Months Ended

September 30, 2020

 

Class of Loan

 

Number of Contracts

 

Pre-Modification Outstanding Recorded Investment

 

 

Post-Modification Outstanding Recorded Investment

 

Commercial real estate

 

1

 

$

6,221

 

 

$

6,221

 

 

TDRs are considered impaired loans and are individually evaluated for impairment in the determination of the allowance for loan losses.  TDR payment defaults occur when, within 12 months of the original TDR modification, either a full or partial charge-off occurs or the TDR becomes 90 days or more past due. There were no TDR defaults during the three and nine months ended September 30, 2020 and 2019.  At September 30, 2020, there were five loans totaling $8.4 million that have

15

been identified as TDRs, which were current and performing in accordance with the modified terms.  At December 31, 2019, there were five loans in the portfolio, totaling $2.5 million, that were identified as TDRs, which were current and performing in accordance with the modified terms.   

 

At September 30, 2020 and 2019, the Company had no foreclosed residential real estate property in its possession or in the process of foreclosure.  

 

In response to COVID-19 and under the provisions of the CARES Act, the Company established a short-term loan modification program, allowing the deferral of scheduled payments for a 90-day period beginning in April 2020.  Modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief were not considered TDRs. Borrowers who were considered current were ones whose loans were less than 30 days past due on their contractual payments at the time the modification was entered.  The Company modified 194 loans totaling $92.8 million under this initial payment deferral program.  As of September 30, 2020, 94% of these deferments have ended and have returned to their normal payment schedules, while subsequent deferments totaling $5.5 million have been granted to 7 borrowers, consisting of 2 commercial and industrial loans, 1 commercial real estate loan, 1 construction and land loan, and 3 residential real estate loans.  These additional deferrals remained within the CARES Act and the March 2020 interagency guidance and were not considered TDRs.

 

Note 4.Junior Subordinated Debt

 

On September 21, 2006, the Company’s wholly-owned Connecticut statutory business trust, Fauquier Statutory Trust II (“Trust II”), privately issued $4.0 million face amount of the trust’s Floating Rate Capital Securities in a pooled capital securities offering. Simultaneously, Trust II used the proceeds of that sale to purchase $4.0 million principal amount of the Company’s Floating Rate Junior Subordinated Deferrable Interest Debentures due 2036. The interest rate on the capital security resets every three months at 1.70% above the then current three-month LIBOR. Interest is paid quarterly. Total capital securities at September 30, 2020 and December 31, 2019 were $4.1 million. The Trust II issuance of capital securities and the respective subordinated debentures are callable at any time. The subordinated debentures are an unsecured obligation of the Company and are junior in right of payment to all present and future senior indebtedness of the Company. The capital securities are guaranteed by the Company on a subordinated basis.

 

Note 5.Derivative Instruments and Hedging Activities

 

The Company uses interest rate swaps to reduce interest rate risk and to manage net interest income.  Interest differentials paid or received under the swap agreements are reflected as adjustments to interest income. These interest rate swap agreements include both cash flow and fair value hedge derivative instruments that qualify for hedge accounting. The notional amounts of the interest rate swaps are not exchanged and do not represent exposure to credit loss. In the event of default by a counter party, the risk in these transactions is the cost of replacing the agreements at current market rates.

 

The Company entered into an interest rate swap agreement on July 1, 2010 to manage the interest rate exposure on its Junior Subordinated Debt due 2036.  By entering into this agreement, the Company converted a floating rate liability into a fixed rate liability through the maturity date of September 15, 2020. Under the terms of the agreement, the Company received interest quarterly at the rate equivalent to the three-month LIBOR plus 1.70%, repricing every three months on the same date as the Company’s Junior Subordinated Debt and paid interest monthly at the fixed rate of 3.21%. In addition, on June 24, 2016, the Company entered into a forward interest rate swap agreement to convert the floating rate liability on the same Junior Subordinated Debt to fixed from 2020 to 2031. Interest expense on these interest rate swaps was $28,000 and $9,000 for the three months ended September 30, 2020 and 2019, respectively, and $69,000 and $20,000 for the nine months ended September 30, 2020 and 2019, respectively. These swaps are designated as cash flow hedges with changes in the fair value recorded through other comprehensive income.

 

The Company entered into two swap agreements to manage the interest rate risk related to two commercial loans on February 11, 2015 and April 7, 2015. The agreements allow the Company to convert fixed rate assets to floating rate assets through 2022 and 2025. The Company receives interest monthly at the rate equivalent to one-month LIBOR plus a spread repricing on the same date as the loans and pays interest at fixed rates. Interest expense on these swaps was $19,000 for the three months ended September 30, 2020 and interest income was $7,000 for the three months ended September 30, 2019.  Interest expense for these swaps was $37,000 for the nine months ended September 30, 2020 and interest income was

16

$25,000 for the nine months ended September 30, 2019. These swaps are designated as fair value hedges and changes in fair value are recorded in current earnings.  On July 28, 2020, one of these swap agreements with a notional/contract amount of $1.2 million was terminated resulting in a termination fee of $89,200.

 

Cash collateral held at other banks for these swaps was $1.1 million and $730,000 at September 30, 2020 and December 31, 2019, respectively. Collateral is dependent on the market valuation of the underlying hedges.

The following table summarizes the Company’s derivative instruments as of September 30, 2020 and December 31, 2019:

 

(In thousands)

 

September 30, 2020

Derivatives designated as hedging instruments

 

Notional/Contract Amount

 

 

Fair Value

 

 

Fair Value

Balance Sheet Location

 

Expiration Date

Interest rate swap - cash flow

 

$

4,000

 

 

$

(541

)

 

Other Liabilities

 

6/15/2031

Interest rate swap - fair value

 

 

4,112

 

 

 

(93

)

 

Other Liabilities

 

2/12/2022

 

(In thousands)

 

December 31, 2019

Derivatives designated as hedging instruments

 

Notional/Contract Amount

 

 

Fair Value

 

 

Fair Value

Balance Sheet Location

 

Expiration Date

Interest rate swap - cash flow

 

$

4,000

 

 

$

(41

)

 

Other Liabilities

 

9/15/2020

Interest rate forward swap - cash flow

 

 

4,000

 

 

 

(59

)

 

Other Liabilities

 

6/15/2031

Interest rate swap - fair value

 

 

1,167

 

 

 

(17

)

 

Other Liabilities

 

4/9/2025

Interest rate swap - fair value

 

 

4,230

 

 

 

(23

)

 

Other Liabilities

 

2/12/2022

 

Note 6.Earnings Per Share

 

The components of the Company’s earnings per share calculations are as follows:

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

 

 

Shares

 

 

Per Share Amount

 

 

Shares

 

 

Per Share Amount

 

 

Shares

 

 

Per Share Amount

 

 

Shares

 

 

Per Share Amount

 

Basic earnings per share

 

 

3,794,725

 

 

$

0.41

 

 

 

3,784,934

 

 

$

0.54

 

 

 

3,792,700

 

 

$

1.19

 

 

 

3,782,943

 

 

$

1.39

 

Effect of dilutive stock awards

 

 

6,554

 

 

 

 

 

 

 

5,912

 

 

 

 

 

 

 

6,544

 

 

 

 

 

 

 

8,320

 

 

 

 

 

Diluted earnings per share

 

 

3,801,279

 

 

$

0.41

 

 

 

3,790,846

 

 

$

0.54

 

 

 

3,799,244

 

 

$

1.19

 

 

 

3,791,263

 

 

$

1.38

 

 

Unvested restricted shares have voting rights and receive nonforfeitable dividends during the vesting period; therefore, they are included in calculating basic earnings per share. The portion of unvested performance-based restricted stock units that are expected to vest, but have not yet been awarded, are included in the calculation of diluted earnings per share.  Performance-based restricted stock units are expected to vest prior to the completion of the Merger.

Note 7.Share-based Compensation

 

Stock Incentive Plan

 

17

On May 21, 2019, the shareholders of the Company approved the Fauquier Bankshares, Inc. Amended and Restated Stock Incentive Plan (the “Plan”).  The Plan superseded the Company’s stock incentive plan that was approved by shareholders in 2009.  Under the Plan, awards of options, restricted stock, and other stock-based awards may be granted to employees, directors or consultants of the Company or any affiliate.  The effective date of the Plan was May 21, 2019.  The Plan has a termination date of May 21, 2029. The Company’s Board of Directors may terminate, suspend or modify the Plan within certain restrictions. The Plan authorizes for issuance 350,000 shares of the Company’s common stock.

 

Restricted Shares

 

Restricted shares are accounted for using the fair market value of the Company’s common stock on the date on which these shares were awarded. The restricted shares issued to certain executive officers are subject to a vesting period, whereby the restrictions on the shares lapse on the third anniversary of the date the shares were awarded. Compensation expense for these shares is recognized over the three-year period. The restricted shares issued to nonemployee directors are not subject to a vesting period and compensation expense is recognized on the date the shares are granted.  Compensation expense for restricted shares was $35,000 and $40,000, net of forfeitures, for the three months ended September 30, 2020 and 2019, respectively, and $194,000 and $208,000 for the nine months ended September 30, 2020 and 2019, respectively.  The total unrecognized compensation expense related to restricted shares was $203,000 and $200,000 for the nine months ended September 30, 2020 and 2019, respectively.  This expense is expected to be recognized through 2023.  Restricted stock expense is expected to be accelerated upon the completion of the Merger.

 

A summary of the status of the Company’s unvested restricted shares granted under the Plan is presented below:

 

 

 

September 30, 2020

 

 

September 30, 2019

 

 

 

Shares

 

 

Weighted Average Grant Date Fair Value

Per Share

 

 

Shares

 

 

Weighted Average Grant Date Fair Value

Per Share

 

Unvested shares, beginning

 

 

20,352

 

 

$

20.20

 

 

 

22,569

 

 

$

17.98

 

Granted

 

 

12,182

 

 

 

20.95

 

 

 

12,058

 

 

 

21.69

 

Vested

 

 

(10,684

)

 

 

19.14

 

 

 

(10,553

)

 

 

17.84

 

Forfeited or surrendered

 

 

(2,007

)

 

 

19.21

 

 

 

(440

)

 

 

14.98

 

Unvested shares, ending

 

 

19,843

 

 

$

21.33

 

 

 

23,634

 

 

$

20.10

 

 

Performance-based Restricted Stock Units

 

The Company grants performance-based restricted stock units to certain executive officers.  Performance-based restricted stock units are accounted for using the fair market value of the Company’s common stock on the date awarded, and adjusted for subsequent changes in the market value.  Performance-based restricted stock units are subject to a vesting period, whereby the restrictions on the rights lapse on the third anniversary of the date the units were awarded.  Until vesting, the shares underlying the units are not issued and are not included in shares outstanding.  Vesting is contingent upon the Company’s reaching predetermined performance goals as compared with a predetermined peer group of banks.  Compensation expense for performance-based restricted stock units was $17,000, net of forfeitures, for each of the three months ended September 30, 2020 and 2019, and $(82,000) and $71,000 for the nine months ended September 30, 2020 and 2019, respectively.  The total unrecognized compensation expense related to performance-based restricted stock units was $98,000 and $104,000 for the nine months ended September 30, 2020 and 2019, respectively.  This expense is expected to be recognized through 2023.  Expenses associated with performance-based restricted stock units are expected to be accelerated upon the completion of the Merger.  

18

A summary of the status of the Company’s unvested performance-based restricted stock units is presented below:

 

 

 

September 30, 2020

 

 

September 30, 2019

 

 

 

Restricted Stock Units

 

 

Weighted Average Grant Date Fair Value

Per Share

 

 

Restricted Stock Units

 

 

Weighted Average Grant Date Fair Value

Per Share

 

Unvested shares, beginning

 

 

30,012

 

 

$

18.90

 

 

 

22,103

 

 

$

17.90

 

Granted

 

 

7,889

 

 

 

20.95

 

 

 

7,909

 

 

 

21.69

 

Vested

 

 

(826

)

 

 

19.74

 

 

 

-

 

 

 

-

 

Forfeited

 

 

(11,701

)

 

 

16.92

 

 

 

-

 

 

 

-

 

Unvested shares, ending

 

 

25,374

 

 

$

20.43

 

 

 

30,012

 

 

$

18.98

 

 

Note 8.Employee Benefit Plans

 

The Company has supplemental executive retirement plans (“SERP”) for certain executives in which the contributions are solely funded by the Company.  Benefits are to be paid in monthly installments following retirement or death. The SERP liability was $2.9 million at September 30, 2020 and December 31, 2019. For the three months ended September 30, 2020 and 2019, SERP expenses were $71,000 and $75,000, respectively, and $213,000 and $222,000 for the nine months ended September 30, 2020 and 2019, respectively.

 

The Company has a defined contribution retirement plan under Internal Revenue Code of 1986 Section 401(k) covering all employees who are at least 18 years of age and worked more than 20 hours per week. Under the plan, a participant may contribute an amount up to 100% of their covered compensation for the year, not to exceed the dollar limit set by law (Code Section 402(g)). The Company will make an annual matching contribution equal to 100% on the first 6% of compensation deferred, for a maximum match of 6% of compensation. The Company makes an additional safe harbor contribution equal to 3% of compensation to all eligible participants. The Company’s 401(k) plan expenses were $176,000 and $181,000 for the three months ended September 30, 2020 and 2019, respectively, and $582,000 and $592,000 for the nine months ended September 30, 2020 and 2019, respectively.

 

The Company maintains a Director Deferred Compensation Plan (“Deferred Compensation Plan”). This plan provides that any nonemployee director of the Company may elect to defer receipt of all or any portion of his or her compensation as a director. A participating director may elect to have amounts held in a deferred cash account, which is credited on a quarterly basis with interest equal to the highest rate offered by the Bank at the end of the preceding quarter. Alternatively, a participant may elect to have a deferred stock account in which deferred amounts are treated as if invested in the Company’s common stock at the fair market value on the date of deferral. The value of a stock account will change based upon the fair market value of an equivalent number of shares of common stock. In addition, the deferred amounts deemed invested in common stock will be credited with dividends on an equivalent number of shares. Amounts considered invested in the Company’s common stock are paid, at the election of the director, either in cash or in whole shares of the common stock and cash-in-lieu of fractional shares. Directors may elect to receive amounts contributed to their respective accounts in one or up to five installments. There were no directors participating in the Deferred Compensation Plan during the three and nine months ended September 30, 2020 and 2019.

 

The Company has a nonqualified deferred compensation program for a former key employee’s retirement, in which the contribution expense is funded solely by the Company. The retirement benefit to be provided is variable based upon the performance of underlying life insurance policy assets. Deferred compensation expense for the three months ended September 30, 2020 and 2019 was $6,000 and $20,000, respectively, and $21,000 and $57,000 for the nine months ended September 30, 2020 and 2019, respectively.  Concurrent with the establishment of the deferred compensation program, the Company purchased life insurance policies on this employee with the Company named as owner and beneficiary. These life insurance policies are intended to be utilized as a source of funding the deferred compensation program.  Income on these life insurance policies was $7,000 for each of the three months ended September 30, 2020 and 2019, respectively, and $21,000 for each of the nine months ended September 30, 2020 and 2019, respectively.  The Company has recorded on its consolidated balance sheets $1.4 million in cash surrender value of these policies at September 30, 2020 and December 31, 2019 and accrued liabilities of $155,000 and $153,000 at September 30, 2020 and December 31, 2019, respectively.

Note 9.Fair Value Measurement

 

19

GAAP requires the Company to record fair value adjustments to certain assets and liabilities. The fair value of certain assets and liabilities is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market in an orderly transaction between market participants as of the measurement date.

 

GAAP requires that valuation techniques maximize the use of observable inputs and minimize the use of unobservable inputs.  GAAP also establishes a fair value hierarchy which prioritizes the valuation inputs into three broad levels. Based on the underlying inputs, each fair value measurement in its entirety is reported in one of the three levels. These levels are:

 

Level 1:Inputs are defined as quoted prices (unadjusted) in active markets for identical assets or liabilities.

 

Level 2:

Inputs are defined as inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.

Level 3:Inputs are defined as unobservable inputs for the asset or liability.

 

The following describes the valuation techniques used by the Company to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the consolidated financial statements:

 

Securities available for sale:  Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data (Level 2). If the inputs used to provide the evaluation for certain securities are unobservable and/or there is little, if any, market activity, then the security would fall to the lowest level of the hierarchy (Level 3). The Company’s investment portfolio is primarily valued using fair value measurements that are considered to be Level 2. The Company has contracted with an independent pricing service that uses Intercontinental Exchange (“ICE”) as the primary source for valuation. ICE utilizes evaluated pricing models that vary by asset class and include available trade, bid, and other market information.  Generally, the methodology includes broker quotes, proprietary models, vast descriptive terms and conditions databases, as well as extensive quality control programs.

 

Interest rate swaps:  The Company recognizes interest rate swaps at fair value and classifies as Level 2.  The Company has contracted with a third-party to provide valuations for interest rate swaps using standard valuation techniques.

 

The following table presents the balances of financial assets and liabilities measured at fair value on a recurring basis:

 

 

 

Fair Value Measurements

 

(In thousands)

 

Balance

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Assets at September 30, 2020:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Available for sale securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of U.S. Government corporations and agencies

 

$

63,815

 

 

$

-

 

 

$

63,815

 

 

$

-

 

Obligations of states and political subdivisions

 

 

20,775

 

 

 

-

 

 

 

20,775

 

 

 

-

 

Total available for sale securities

 

 

84,590

 

 

 

-

 

 

 

84,590

 

 

 

-

 

Mutual funds

 

 

419

 

 

 

419

 

 

 

-

 

 

 

-

 

Total

 

$

85,009

 

 

$

419

 

 

$

84,590

 

 

$

-

 

Liabilities at September 30, 2020:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps

 

$

634

 

 

$

-

 

 

$

634

 

 

$

-

 

Total

 

$

634

 

 

$

-

 

 

$

634

 

 

$

-

 

Assets at December 31, 2019:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Available for sale securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of U.S. Government corporations and agencies

 

$

63,941

 

 

$

-

 

 

$

63,941

 

 

$

-

 

Obligations of states and political subdivisions

 

 

15,842

 

 

 

-

 

 

 

15,842

 

 

 

-

 

Total available for sale securities

 

 

79,783

 

 

 

-

 

 

 

79,783

 

 

 

-

 

Mutual funds

 

 

403

 

 

 

403

 

 

 

-

 

 

 

-

 

Total

 

$

80,186

 

 

$

403

 

 

$

79,783

 

 

$

-

 

Liabilities at December 31, 2019:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps

 

 

140

 

 

$

-

 

 

$

140

 

 

$

-

 

Total

 

$

140

 

 

$

-

 

 

$

140

 

 

$

-

 

The Company may be required, from time to time, to measure and recognize certain assets at fair value on a nonrecurring basis in accordance with GAAP. The following describes the valuation techniques and inputs used by the Company in

20

determining the fair value of certain assets recorded at fair value on a nonrecurring basis in the consolidated financial statements.

 

Mortgage Loans Held for Sale:  Mortgage loans held for sale are carried at lower of cost or market value. These loans currently consist of 1-4 family residential loans originated for sale in the secondary market. Fair value is based on the price secondary markets are currently offering for similar loans using observable market data which is not materially different than cost due to the short duration between origination and sale (Level 2).  No nonrecurring fair value adjustments were recorded on mortgage loans held for sale during the three and nine months ended September 30, 2020 and 2019. Net gains and losses on the sale of loans are recorded as a component of noninterest income on the consolidated statements of operations.

 

Impaired Loans:  A loan is designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on either the observable market price of the loans or the fair value of the collateral securing the loans, or the present value of the cash flows. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the Company’s collateral is real estate.  The value of real estate collateral is determined utilizing an income or market valuation approach based on an appraisal of one year or less, conducted by an independent, licensed appraiser using observable market data (Level 2). However, if the collateral is in the process of construction or if an appraisal of the real estate property is more than one-year old and not solely based on observable market comparables or management determines the fair value of the collateral is further impaired below the appraised value, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal of one-year or less, if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivable collateral are based on financial statement balances or aging reports (Level 3).  Any fair value adjustments are recorded in the period incurred as provision for loan losses on the consolidated statements of operations.

 

Other Real Estate Owned: Other real estate owned is measured at fair value less estimated selling costs. Fair value is based upon independent market prices, appraised values of the collateral, or management’s estimation of the value of the collateral. The Company considers other real estate owned as Level 3.

The following table summarizes the Company’s financial assets that were measured at fair value on a nonrecurring basis at September 30, 2020 and December 31, 2019.

 

 

 

September 30, 2020

 

(In thousands)

 

Balance

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mortgage loans held for sale

 

$

235

 

 

$

-

 

 

$

235

 

 

$

-

 

Impaired loans, net

 

 

1,220

 

 

 

-

 

 

 

-

 

 

 

1,220

 

Other real estate owned, net

 

 

1,356

 

 

 

-

 

 

 

-

 

 

 

1,356

 

 

 

 

December 31, 2019

 

(In thousands)

 

Balance

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mortgage loans held for sale

 

$

247

 

 

$

-

 

 

$

247

 

 

$

-

 

Impaired loans, net

 

 

1,570

 

 

 

-

 

 

 

-

 

 

 

1,570

 

Other real estate owned, net

 

 

1,356

 

 

 

-

 

 

 

-

 

 

 

1,356

 

 

21

The following table displays quantitative information about Level 3 fair value measurements at September 30, 2020 and December 31, 2019.

 

 

 

September 30, 2020

 

(Dollars in thousands)

 

Fair Value

 

 

Valuation Technique

 

Unobservable Input

 

Weighted Average Discount

 

Impaired loans, net

 

$

1,220

 

 

Appraised values

 

Age of appraisal, current market conditions, experience within local market

 

 

5

%

Other real estate owned, net

 

 

1,356

 

 

Appraised values

 

Age of appraisal, current market conditions and selling costs

 

 

18

%

Total

 

$

2,576

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2019

 

(Dollars in thousands)

 

Fair Value

 

 

Valuation Technique

 

Unobservable Input

 

Weighted Average Discount

 

Impaired loans, net

 

$

1,570

 

 

Appraised values

 

Age of appraisal, current market conditions, experience within local market

 

 

13

%

Other real estate owned, net

 

 

1,356

 

 

Appraised values

 

Age of appraisal, current market conditions and selling costs

 

 

18

%

Total

 

$

2,926

 

 

 

 

 

 

 

 

 

 

ASC 825, “Financial Instruments”, requires disclosure about fair value of financial instruments, including those financial assets and financial liabilities that are not required to be measured and reported at fair value on a recurring or nonrecurring basis. ASC 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company. Additionally, the Company uses the exit price notion, rather than the entry price notion, in calculating the fair values of financial instruments not measured at fair value on a recurring basis.

 

22

The estimated fair values and related carrying amounts of the Company’s financial instruments are as follows:

 

 

 

September 30, 2020

 

(In thousands)

 

Carrying Amount

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

 

Fair Value

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and short-term investments

 

$

73,673

 

 

$

73,673

 

 

$

-

 

 

$

-

 

 

$

73,673

 

Securities available for sale

 

 

84,590

 

 

 

-

 

 

 

84,590

 

 

 

-

 

 

 

84,590

 

Restricted investments

 

 

1,835

 

 

 

-

 

 

 

1,835

 

 

 

-

 

 

 

1,835

 

Mortgage loans held for sale

 

 

235

 

 

 

-

 

 

 

235

 

 

 

-

 

 

 

235

 

Loans, net

 

 

631,402

 

 

 

-

 

 

 

-

 

 

 

630,236

 

 

 

630,236

 

Accrued interest receivable

 

 

2,635

 

 

 

-

 

 

 

2,635

 

 

 

-

 

 

 

2,635

 

Mutual funds

 

 

419

 

 

 

419

 

 

 

-

 

 

 

-

 

 

 

419

 

Bank-owned life insurance

 

 

14,231

 

 

 

-

 

 

 

14,231

 

 

 

-

 

 

 

14,231

 

Total financial assets

 

$

809,020

 

 

$

74,092

 

 

$

103,526

 

 

$

630,236

 

 

$

807,854

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

$

739,834

 

 

$

-

 

 

$

740,308

 

 

$

-

 

 

$

740,308

 

FHLB advances

 

 

12,629

 

 

 

-

 

 

 

13,199

 

 

 

-

 

 

 

13,199

 

Junior subordinated debt

 

 

4,124

 

 

 

-

 

 

 

4,058

 

 

 

-

 

 

 

4,058

 

Accrued interest payable

 

 

135

 

 

 

-

 

 

 

135

 

 

 

-

 

 

 

135

 

Interest rate swaps

 

 

634

 

 

 

-

 

 

 

634

 

 

 

-

 

 

 

634

 

Total financial liabilities

 

$

757,356

 

 

$

-

 

 

$

758,334

 

 

$

-

 

 

$

758,334

 

 

 

 

December 31, 2019

 

(In thousands)

 

Carrying Amount

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

 

Fair Value

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and short-term investments

 

$

46,341

 

 

$

46,341

 

 

$

-

 

 

$

-

 

 

$

46,341

 

Securities available for sale

 

 

79,783

 

 

 

-

 

 

 

79,783

 

 

 

-

 

 

 

79,783

 

Restricted investments

 

 

2,016

 

 

 

-

 

 

 

2,016

 

 

 

-

 

 

 

2,016

 

Mortgage loans held for sale

 

 

247

 

 

 

 

 

 

 

247

 

 

 

-

 

 

 

247

 

Loans, net

 

 

544,999

 

 

 

-

 

 

 

-

 

 

 

541,367

 

 

 

541,367

 

Accrued interest receivable

 

 

1,984

 

 

 

-

 

 

 

1,984

 

 

 

-

 

 

 

1,984

 

Mutual funds

 

 

403

 

 

 

403

 

 

 

-

 

 

 

-

 

 

 

403

 

Bank-owned life insurance

 

 

13,961

 

 

 

-

 

 

 

13,961

 

 

 

-

 

 

 

13,961

 

Total financial assets

 

$

689,734

 

 

$

46,744

 

 

$

97,991

 

 

$

541,367

 

 

$

686,102

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

$

622,155

 

 

$

-

 

 

$

622,295

 

 

$

-

 

 

$

622,295

 

FHLB advances

 

 

16,695

 

 

 

-

 

 

 

16,724

 

 

 

-

 

 

 

16,724

 

Junior subordinated debt

 

 

4,124

 

 

 

-

 

 

 

4,446

 

 

 

-

 

 

 

4,446

 

Accrued interest payable

 

 

217

 

 

 

-

 

 

 

217

 

 

 

-

 

 

 

217

 

Interest rate swaps

 

 

140

 

 

 

-

 

 

 

140

 

 

 

-

 

 

 

140

 

Total financial liabilities

 

$

643,331

 

 

$

-

 

 

$

643,822

 

 

$

-

 

 

$

643,822

 

 

The Company assumes interest rate risk (the risk that general interest rate levels will change) during its normal operations. As a result, the fair values of the Company’s financial instruments will change when interest rate levels change and that change may be either favorable or unfavorable to the Company. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment.  Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Company’s overall interest rate risk.

23

 

Note 10.Accumulated Other Comprehensive Income (Loss)

Changes in accumulated other comprehensive income (loss), net of tax, for the nine months ended September 30, 2020 and 2019 were:

(In thousands)

 

Gains (Losses) on Cash Flow Hedges

 

 

Unrealized Gains (Losses) on Available for Sale Securities

 

 

Supplemental Executive Retirement Plans

 

 

Total

 

Balance, December 31, 2018

 

$

172

 

 

$

(850

)

 

$

140

 

 

$

(538

)

Other comprehensive income (loss) before reclassifications

 

 

(369

)

 

 

2,266

 

 

 

-

 

 

 

1,897

 

Balance, September 30, 2019

 

$

(197

)

 

$

1,416

 

 

$

140

 

 

$

1,359

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2019

 

$

(78

)

 

$

1,292

 

 

$

157

 

 

$

1,371

 

Other comprehensive income (loss) before reclassifications

 

 

(348

)

 

 

2,147

 

 

 

-

 

 

 

1,799

 

Balance, September 30, 2020

 

$

(426

)

 

$

3,439

 

 

$

157

 

 

$

3,170

 

 

Note 11.Investment in Affordable Housing Projects

 

The Company invests in certain qualified affordable housing projects located in the Commonwealth of Virginia.  The general purpose of these investments is to develop and preserve affordable housing for low income families through residential rental property projects. The Company exerts no control over the operating or financial policies of the partnerships. Return on these investments is through receipt of tax credits and other tax benefits which are subject to recapture by taxing authorities based on compliance features at the project level. The investments are due to expire by 2035. The Company accounts for the affordable housing investments using the equity method and has recorded $3.9 million and $4.2 million in other assets at September 30, 2020 and December 31, 2019, respectively, and $397,000 and $749,000 in other liabilities related to unfunded capital calls through 2023 at September 30, 2020 and December 31, 2019, respectively. The related federal tax credits, included in income tax expense in the consolidated statements of operations, for the nine months ended September 30, 2020 and 2019 were $350,000 and $414,000, respectively.  There were $89,000 and $47,000 in flow-through losses recorded in noninterest income during the three months ended September 30, 2020 and 2019, respectively, and $317,000 and $191,000 for the nine months ended September 30, 2020 and 2019, respectively.

 

Note 12.Leases

 

The following tables present information about the Company’s leases at the dates indicated:

 

(Dollars in thousands)

 

September 30, 2020

 

Lease liability

 

$

4,697

 

Right-of-use asset

 

$

4,634

 

Weighted average remaining lease term

 

8.04 years

 

Weighted average discount rate

 

 

3.55

%

 

24

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

(In thousands)

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Lease Expense

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease expense

 

$

200

 

 

$

200

 

 

$

611

 

 

$

610

 

Short-term lease expense

 

 

7

 

 

 

5

 

 

 

16

 

 

 

11

 

Total lease expense

 

$

207

 

 

$

205

 

 

$

627

 

 

$

621

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash paid for amounts included in lease liabilities

 

$

168

 

 

$

165

 

 

$

502

 

 

$

533

 

 

The following table presents a maturity schedule of undiscounted cash flows that contribute to the lease liability at September 30, 2020:

 

(In thousands)

 

 

 

 

Undiscounted Cash Flow

 

September 30, 2020

 

Three months ending December 31, 2020

 

$

112

 

Twelve months ending December 31, 2021

 

 

682

 

Twelve months ending December 31, 2022

 

 

694

 

Twelve months ending December 31, 2023

 

 

707

 

Twelve months ending December 31, 2024

 

 

646

 

Thereafter

 

 

2,603

 

Total undiscounted cash flows

 

$

5,444

 

Less:  Discount

 

 

(747

)

Lease liability

 

$

4,697

 

 

25

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

 

Business Combination

On October 1, 2020, Fauquier Bankshares, Inc. (the “Company”, or “Fauquier”) and Virginia National Bankshares Corporation (“Virginia National”) announced a definitive agreement (the “Merger Agreement”) to combine in a strategic merger pursuant to which Fauquier will merge with and into Virginia National (the “Merger”) with Virginia National as the surviving company.  As a result of the Merger, the holders of shares of Fauquier’s common stock will receive 0.6750 shares of Virginia National common stock for each share of the Company's common stock held immediately prior to the effective date of the Merger. The transaction is expected to be completed in the first quarter of 2021, subject to approval of both companies' shareholders, regulatory approvals and other customary closing conditions.

 

Cautionary Note Regarding Forward-Looking Statements

This report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, but are not limited to, statements about (i) the benefits, expenses and expected completion date of the merger between Virginia National and Fauquier; (ii) Fauquier’s plans, objectives, expectations and intentions and other statements contained in this report that are not historical facts; and (iii) other statements identified by words such as “may”, “assumes”, “approximately”, “will”, “expects”, “anticipates”, “intends”, “plans”, “believes”, “seeks”, “estimates”, “targets”, “projects”, or words of similar meaning generally intended to identify forward-looking statements. These forward-looking statements are based upon the current beliefs and expectations of the management of Fauquier and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond the control of the Company. In addition, these forward-looking statements are subject to various risks, uncertainties and assumptions with respect to future business strategies and decisions that are subject to change and difficult to predict with regard to timing, extent, likelihood and degree of occurrence. As a result, although Fauquier believes that its expectations with respect to forward-looking statements are based upon reasonable assumptions within the bounds of its existing knowledge of its business and operations, actual results may differ materially from any projected future results performance or achievements expressed or implied by such forward-looking statements.  

 

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements: (1) the businesses of Virginia National and Fauquier may not be combined successfully, or such combination may take longer, be more difficult, time-consuming or costly to accomplish than expected; (2) the expected growth opportunities or cost savings from the Merger may not be fully realized or may take longer to realize than expected; (3) deposit attrition, operating costs, customer losses and business disruption following the Merger, including adverse effects on relationships with employees and customers, may be greater than expected; (4) the regulatory approvals required for the Merger may not be obtained on the proposed terms or on the anticipated schedule; (5) the shareholders of Virginia National or Fauquier may fail to approve the Merger; (6) economic, legislative or regulatory changes, including changes in accounting standards, may adversely affect the businesses in which Virginia National and Fauquier are engaged; (7) the interest rate environment may further compress margins and adversely affect net interest income; (8) results may be adversely affected by continued diversification of assets and adverse changes to credit quality; (9) competition from other financial services companies in Virginia National’s and Fauquier’s markets could adversely affect operations; (10) an economic slowdown could adversely affect credit quality and loan originations; (11) the novel coronavirus (“COVID-19”) pandemic is adversely affecting Virginia National, Fauquier, and their respective customers, employees and third-party service providers; the adverse impacts of the pandemic on their respective business, financial position, operations and prospects have been material, and it is not possible to accurately predict the extent, severity or duration of the pandemic or when normal economic and operation conditions will return; and (12) other factors that may affect future results of Virginia National and Fauquier, including: changes in asset quality and credit risk; the inability to sustain revenue and earnings growth; changes in interest rates and capital markets; inflation; customer borrowing, repayment, investment and deposit practices; the impact, extent and timing of technological changes; capital management activities; and other actions of the bank regulatory agencies and legislative and regulatory actions and reforms. Additional factors that could cause actual results to differ materially from those expressed in the forward-looking statements are discussed in Fauquier’s reports (such as Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K) filed with the SEC and available on the SEC’s Internet site (http://www.sec.gov).

 

Readers are cautioned not to rely too heavily on the forward-looking statements contained in this report.  Forward-looking statements speak only as of the date they are made and Fauquier does not undertake any obligation to update, revise or clarify these forward-looking statements, whether as a result of new information, future events or otherwise.

26

GENERAL

 

The Company was incorporated under the laws of the Commonwealth of Virginia on January 13, 1984. The Company is a registered bank holding company and owns all of the shares of The Fauquier Bank (the “Bank”).  The Company engages in its business through the Bank, a Virginia state-chartered bank that commenced operations in 1902. The Company has no significant operations other than owning the stock of the Bank.  The Bank has 11 full-service branch offices located in the Virginia communities of Old Town-Warrenton, Warrenton, Catlett, The Plains, Sudley Road-Manassas, New Baltimore, Bealeton, Bristow, Haymarket, Gainesville, and Centreville Road-Manassas. The executive offices of the Company and the main office of the Bank are located at 10 Courthouse Square, Warrenton, Virginia 20186.

 

The Bank provides a full range of financial services, including internet banking, mobile banking, commercial, retail, insurance, wealth management and financial planning services.  Retail banking services to individuals and businesses include various types of interest and noninterest-bearing checking accounts, money market and savings accounts, and time deposits.  In addition, the Bank provides secured and unsecured commercial and real estate loans, standby letters of credit, secured and unsecured lines of credit, personal loans, residential mortgages and home equity loans, and automobile and other types of consumer financing.

 

The Bank operates a Wealth Management Services (“WMS”) division that began with the granting of trust powers to the Bank in 1919. This division provides personalized services including investment management, financial planning, trust, estate settlement, retirement, insurance, and brokerage services.

 

The Bank, through its subsidiary Fauquier Bank Services, Inc., has equity ownership interests in Bankers Insurance, LLC, a Virginia independent insurance company, and Bankers Title Shenandoah, LLC, a title insurance company, which are each owned by a consortium of Virginia community banks.  Fauquier Bank Services, Inc. previously had an equity ownership interest in Infinex Investments, Inc., a full-service broker/dealer, owned by banks and banking associations in various states, whose ownership was sold by Fauquier Bank Services, Inc. in January 2019.

 

The revenues of the Bank are primarily derived from interest on and fees received in connection with, real estate and other loans, and from interest and dividends from investment securities. The principal sources of funds for the Bank’s lending activities are its deposits, repayment of loans, maturity of investment securities, and borrowings from the Federal Home Loan Bank of Atlanta (“FHLB”). Additional revenues are derived from fees for deposit related and WMS related services.  

 

The Bank’s operations are influenced by general economic conditions and by related monetary and fiscal policies of regulatory agencies, including the Federal Reserve. As a Virginia-chartered bank and a member of the Federal Reserve, the Bank is supervised and examined by the Federal Reserve and the Virginia State Corporation Commission. Interest rates on competing investments and general market rates of interest influence deposit flows and costs of funds. Lending activities are affected by the demand for financing of real estate and other types of loans, which in turn is affected by the interest rate environment and its impact on local demand and the availability of funds. The Bank faces strong competition in the attraction of deposits, its primary source of lendable funds, and in the origination of loans.

 

CRITICAL ACCOUNTING POLICIES

 

GENERAL. The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The financial information contained within the Company’s statements is, to a significant extent, based on measures of the financial effects of transactions and events that have already occurred. A variety of factors, including judgements made related to the effect of the COVID-19 pandemic, could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. The Company uses historical loss factors as one factor in determining the inherent loss that may be present in its loan portfolio. Actual losses could differ significantly from the historical factors that the Company uses in its estimates. In addition, GAAP itself may change from one previously acceptable accounting method to another method. Although the economics of the Company’s transactions would be the same, the timing of the recognition of the Company’s transactions could change.

 

ALLOWANCE FOR LOAN LOSSES. The Company establishes the allowance for loan losses through charges to earnings in the form of a provision for loan losses. Loan losses are charged against the allowance when it is believed that the collection of the principal is unlikely. Subsequent recoveries of losses previously charged against the allowance are credited to the allowance. The allowance represents an amount that, in management’s judgment, will be adequate to absorb probable losses

27

inherent in the loan portfolio. Management’s judgment in determining the level of the allowance is based on evaluations of the collectability of loans while taking into consideration such factors as trends in delinquencies and charge-offs for relevant periods of time, changes in the nature and volume of the loan portfolio, current economic conditions that may affect a borrower’s ability to repay and the value of collateral, overall portfolio quality and review of specific potential losses. This evaluation is inherently subjective because it requires estimates that are susceptible to significant revision as more information becomes available.  Note 1 to the Consolidated Financial Statements presented in Item 8, Financial Statements and Supplementary Data, of the Annual Report on Form 10-K for the year ended December 31, 2019, provides additional information related to the allowance for loan losses.

 

The Company employs an independent outsourced loan review function, which annually substantiates and/or adjusts internally generated risk ratings. This independent review function reports directly to the Company’s Board of Directors’ audit committee, and the results of this review are factored into the calculation of the allowance for loan losses.

 

OTHER-THAN-TEMPORARY IMPAIRMENT (“OTTI”) FOR SECURITIES. Impairment of securities occurs when the fair value of a security is less than its amortized cost. For debt securities, impairment is considered other-than-temporary and recognized in its entirety in net income if either (i) the Company intends to sell the security or (ii) it is more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis. If, however, the Company does not intend to sell the security and it is not more likely than not that the Company will be required to sell the security before recovery, the Company must determine what portion of the impairment is attributable to a credit loss, which occurs when the amortized cost basis of the security exceeds the present value of the cash flows expected to be collected from the security. If there is no credit loss, there is no OTTI. If there is a credit loss, OTTI exists, and the credit loss must be recognized in net income and the remaining portion of impairment must be recognized in other comprehensive income. For equity securities, impairment is considered to be other-than-temporary based on the Company’s ability and intent to hold the investment until recovery of fair value. OTTI of an equity security results in a write-down that must be included in net income. The Company regularly reviews each investment security for OTTI based on criteria that includes the extent to which cost exceeds market price, the duration of that market decline, the financial health of and specific prospects for the issuer, the best estimate of the present value of cash flows expected to be collected from debt securities, the intention with regard to holding the security to maturity and the likelihood that the Company would be required to sell the security before recovery.

 

IMPACT OF COVID-19

 

On March 11, 2020, the World Health Organization declared COVID-19 a pandemic as a result of the global spread of the illness.  In response to the outbreak, federal and state authorities in the U.S. introduced various measures to try to limit or slow the spread of the virus, including travel restrictions, nonessential business closures, stay-at-home orders and strict social distancing.  

 

To the extent the economic impacts of COVID-19 continue for a prolonged period and conditions stagnate or worsen, the Company’s provision for loan losses, net interest income and overall profitability may be adversely affected.

 

Business Continuity

The Company remains committed to adhering to health and safety-related requirements and best practices across all locations by taking proactive and disciplined steps to promote safety and overall wellbeing of employees, clients, shareholders and communities.  The Company’s Enterprise Risk Management framework, which is governed by the Board of Directors, the Company’s Business Continuity Plan and the Bank’s Incident Response Plan remain integral parts of monitoring day to day business activities.  The Company has not furloughed nor does the Company expect to furlough any employees. Management continues to closely monitor business activities and has or will adjust accordingly as the health and safety of all constituents continues to be the priority.

 

Paycheck Protection Program (“PPP”)

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was enacted to, among other provisions, provide emergency assistance for individuals, families and businesses affected by COVID-19.  The CARES Act included the creation of the PPP through the Small Business Administration (“SBA”).  Loans provided by the Bank through the PPP may be forgiven based on the borrowers’ compliance with the terms of the program.  The SBA provides a 100% guaranty to the lender of principal and interest, unless the lender violates an obligation under the agreement.  As loan losses are expected to be immaterial, if any at all, due to the SBA guaranty, there is no provision allocated for PPP loans

28

within the allowance for loan loss calculation.  The Company disbursed $53.1 million in PPP loans to 549 borrowers through September 30, 2020.  There were no loans that were forgiven during the three and nine months ended September 30, 2020, however as of October 26, 2020, approximately $600,000 of PPP loans have been forgiven.

 

The following table summarizes the details of the Company’s PPP loans:

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

(Dollars in thousands)

 

September 30, 2020

 

 

September 30, 2020

 

PPP loans originated

 

$

324

 

 

$

53,082

 

Average PPP loans outstanding

 

$

54,725

 

 

$

30,876

 

PPP average loan size

 

$

46

 

 

$

97

 

PPP interest income, net

 

$

330

 

 

$

500

 

PPP weighted average processing fee

 

 

5.00

%

 

 

4.00

%

Average yield on PPP loans

 

 

2.34

%

 

 

3.43

%

 

Short-term Loan Modifications

In response to COVID-19 and under the provisions of the CARES Act, the Company established a short-term loan modification program, allowing the deferral of scheduled payments for a 90-day period beginning in April 2020.  Modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief were not considered TDRs.  Borrowers who were considered current were ones whose loans were less than 30 days past due on their contractual payments at the time the modification was entered.  The Company modified 194 loans totaling $92.8 million under this initial payment deferral program.  As of September 30, 2020, 94% of these deferments have ended and have returned to their normal payment schedules, while subsequent deferments totaling $5.5 million have been granted to 7 borrowers, consisting of 2 commercial and industrial loans, 1 commercial real estate loan, 1 construction and land loan, and 3 residential real estate loans.  These additional deferrals remained within the CARES Act and the March 2020 interagency guidance and were not considered TDRs.  The following table summarizes loans modified by category at September 30, 2020 and June 30, 2020.  

  

 

 

September 30, 2020

 

 

June 30, 2020

 

(Dollars in thousands)

 

Balance

 

 

Loan

Deferrals

 

 

Deferrals to

Total Loans

 

 

Balance

 

 

Loan

Deferrals

 

 

Deferrals to

Total Loans

 

Commercial and industrial

 

$

88,982

 

 

$

36

 

 

 

0.01

%

 

$

87,044

 

 

$

6,612

 

 

 

1.06

%

Commercial real estate

 

 

199,773

 

 

 

2,575

 

 

 

0.40

%

 

 

187,004

 

 

 

67,789

 

 

 

10.89

%

Construction and land

 

 

72,465

 

 

 

1,546

 

 

 

0.24

%

 

 

73,701

 

 

 

2,676

 

 

 

0.43

%

Consumer

 

 

6,264

 

 

 

-

 

 

 

-

 

 

 

6,428

 

 

 

147

 

 

 

0.02

%

Student

 

 

7,333

 

 

 

-

 

 

 

-

 

 

 

7,832

 

 

 

-

 

 

 

-

 

Residential real estate

 

 

232,524

 

 

 

1,353

 

 

 

0.21

%

 

 

227,917

 

 

 

15,591

 

 

 

2.50

%

Home equity lines of credit

 

 

30,762

 

 

 

-

 

 

 

-

 

 

 

32,734

 

 

 

-

 

 

 

-

 

Total

 

$

638,103

 

 

$

5,510

 

 

 

0.86

%

 

$

622,660

 

 

$

92,815

 

 

 

14.91

%

 

Borrowers whose industries are expected to be stressed by COVID-19, include, but are not limited to, religious organizations, hospitality, childcare and restaurants.  The following table summarizes these industries as it relates to the Company’s loan portfolio at September 30, 2020 and June 30, 2020:

 

29

(Dollars in thousands)

 

September 30, 2020

 

Loan Category

 

Balance

 

 

Percent of

Total Loans

 

Religious Organizations

 

$

25,842

 

 

 

4.05

%

Hospitality

 

 

14,532

 

 

 

2.28

%

Childcare

 

 

14,632

 

 

 

2.29

%

Restaurants

 

 

12,296

 

 

 

1.93

%

 

 

$

67,302

 

 

 

10.55

%

 

 

 

 

 

 

 

 

 

Refer to Note 3 of the consolidated financial statements for additional disclosures related to TDRs as of September 30, 2020.

 

Net Interest income

While net interest income has been significantly impacted by the lower interest rate environment during 2020, the Company’s interest income has benefited from PPP loans and related processing fees.  PPP loans carry a fixed rate of 1.0% with a two-year contractual maturity.  For the three and nine months ended September 30, 2020, PPP loans contributed approximately $322,000 and $483,000, respectively to the Company’s net interest income, with the average yield of 2.34% and 3.43% for the three and nine months ended September 30, 2020 and 2019, respectively.  At September 30, 2020, the Company collected $2.1 million in processing fees, of which $1.8 million remains unearned.  

 

EXECUTIVE OVERVIEW

 

This discussion is intended to focus on certain financial information regarding the Company and the Bank and may not contain all the information that is important to the reader. The purpose of this discussion is to provide the reader with a more thorough understanding of the Company’s financial statements. As such, this discussion should be read carefully in conjunction with the consolidated financial statements and accompanying notes contained elsewhere in this report.

 

Financial highlights include:  

 

•

Net income of $1.5 million for the third quarter, a decrease of 24.61% when compared to the third quarter of 2019.  Year to date net income of $4.5 million, a decrease of 13.85% compared to the first nine months of 2019;    

 

•

Net interest margin of 3.22% for the third quarter, a decrease 51 basis points when compared to the third quarter of 2019.  Year to date net interest margin of 3.48%, a decrease of 30 basis points compared to the first nine months of 2019;

 

•

Total loans of $638.1 million, an increase of 15.97% when compared to December 31, 2019;  

 

•

Allowance for loan losses increased to $6.7 million, compared to $5.2 million as of December 31, 2019;  

 

•

Provision for loan losses of $345,000 for the third quarter of 2020 compared to no provision for loan losses for the third quarter of 2019.  Year to date provision for loan losses increased to $1.6 million compared to $255,000 for the first nine months of 2019;  

 

•

Deposits of $739.8 million, an increase of 18.91% compared to December 31, 2019, respectively;  

 

•

Regulatory capital remained strong with ratios exceeding the well capitalized thresholds in all categories.  

 

Net income was $1.5 million, or $0.41 per diluted share for the third quarter, compared with $2.1 million or $0.54 per diluted share for the third quarter of 2019.  For the nine months ended September 30, 2020, net income was $4.5 million, or $1.19 per diluted share compared with $5.2 million, or $1.38 per diluted share for the nine months ended September 30, 2019.  

 

For the quarter ended September 30, 2020, the Company’s return on average equity (“ROE”) and return on average assets (“ROA”) were 8.58% and 0.74%, respectively, compared to 12.46% and 1.14%, for the third quarter of 2019, respectively.  For the nine months ended September 30, 2020, ROE and ROA were 8.60% and 0.77%, respectively, compared to 11.10% and 1.00%, respectively, for the nine months ended September 30, 2019.

 


30

OPERATING RESULTS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2020 AND 2019

 

NET INTEREST INCOME AND EXPENSE

 

Net interest income is the largest component of net income, and is the difference between income generated on interest-earning assets and interest expense incurred on interest-bearing liabilities. Future trends regarding net interest income are dependent on the absolute level of market interest rates, the shape of the yield curve, the amount of lost income from nonperforming assets, the amount of prepaying loans, the mix and amount of various deposit types, competition for loans and deposits, and many other factors. These factors are individually difficult to predict, and when taken together, the uncertainty of future trends compounds.  

 

Net interest income increased $103,000 or 1.66% to $6.3 million for the third quarter of 2020 from $6.2 million for the third quarter of 2019.  Net interest income increased $459,000 or 2.49% to $18.9 million for the nine months ended September 30, 2020 from $18.4 million for the nine months ended September 30, 2019.  The net interest margin decreased to 3.22% for the third quarter of 2020 from 3.73% for the third quarter of 2019.  The net interest margin decreased to 3.48% for the nine months ended September 30, 2020 from 3.78% for the nine months ended September 30, 2019.  While the average loan balances increased from $545.3 million for the third quarter of 2019 to $624.7 million for the third quarter of 2020, the tax equivalent yield decreased 80 basis points to 4.04% for the third quarter of 2020, compared with 4.84% for the third quarter of 2019.  Average balances for loans were $596.8 million and $545.3 million for the nine months ended September 30, 2020 and 2019, respectively, resulting in the tax equivalent yield of 4.32% and 4.85% for the nine months ended September 30, 2020 and 2019, respectively.  Total average earning assets increased primarily from organic loan growth of $24.7 million and $20.6 million for the three and nine months ended September 30, 2020, respectively, when compared to the three and nine months ended September 30, 2020 and 2019 and from the origination of PPP loans of $54.7 million and $30.9 million for the three and nine months ended September 30, 2020, respectively.  This, coupled with the decrease in funding costs contributed to the increase in net interest income.  However as a result of the lower interest rate environment and the fixed rate of 1% on PPP loans, yields on investments and loans have declined during the three and nine months ended September 30, 2020, giving rise to a negative impact on the net interest margin.  Given the current interest rate environment, net interest income and the net interest margin could decrease in future periods.

 

Average interest-bearing deposit balances increased from $477.7 million for the third quarter of 2019, to $542.6 million for the third quarter of 2020.  Interest expense decreased $624,000 or 53.29% from $1.2 million for the third quarter of 2019 to $547,000 for the third quarter of 2020.  Cost of funds decreased to 0.28% for the third quarter of 2020 from 0.70% for the third quarter of 2019.  Average interest-bearing deposit balances increased to $519.0 million for the nine months ended September 30, 2020 from $478.0 million for the nine months ended September 30, 2019.   Interest expense decreased $1.4 million or 40.26% from $3.4 million for the nine months ended September 30, 2019 to $2.0 million for the nine months ended September 30, 2020.  Cost of funds were 0.37% and 0.70% for the nine months ended September 30, 2020 and 2019, respectively.    The increase in interest-bearing deposit balances is primarily the result of organic deposit growth from new and existing personal and business clients.  The decreases in the cost of funds is the result of the Company’s response to interest rate trends and the reduction of rates on certain interest-bearing transaction accounts, and lower funding costs on FHLB advances.  

 


31

The following tables set forth information, for the periods indicated, relating to the Company’s average balance sheet which reflects the average yield on assets, average cost of liabilities and average yields and rates paid. These yields and costs are derived by dividing income or expense by the average daily balances of assets and liabilities, respectively.

 

Average Balances, Income and Expense, and Average Yields and Rates

 

 

 

Three Months Ended

September 30, 2020

 

 

Three Months Ended

September 30, 2019

 

(Dollars in thousands)

 

Average

 

 

Income/

 

 

Average

 

 

Average

 

 

Income/

 

 

Average

 

Assets

 

Balances

 

 

Expense

 

 

Rate

 

 

Balances

 

 

Expense

 

 

Rate

 

Loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

623,686

 

 

$

6,348

 

 

 

4.05

%

 

$

543,101

 

 

$

6,651

 

 

 

4.86

%

Nonaccrual (1)

 

 

1,015

 

 

 

-

 

 

 

-

 

 

 

2,188

 

 

 

-

 

 

 

-

 

Total loans

 

 

624,701

 

 

 

6,348

 

 

 

4.04

%

 

 

545,289

 

 

 

6,651

 

 

 

4.84

%

Securities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

65,887

 

 

 

367

 

 

 

2.25

%

 

 

61,138

 

 

 

412

 

 

 

2.72

%

Tax-exempt (2)

 

 

18,143

 

 

 

136

 

 

 

2.99

%

 

 

14,010

 

 

 

113

 

 

 

3.21

%

Total securities

 

 

84,030

 

 

 

503

 

 

 

2.41

%

 

 

75,148

 

 

 

525

 

 

 

2.81

%

Deposits in other banks

 

 

72,773

 

 

 

19

 

 

 

0.10

%

 

 

41,539

 

 

 

210

 

 

 

2.00

%

Federal funds sold

 

 

14

 

 

 

-

 

 

 

0.06

%

 

 

14

 

 

 

-

 

 

 

2.15

%

Total earning assets

 

 

781,518

 

 

 

6,870

 

 

 

3.50

%

 

 

661,990

 

 

 

7,386

 

 

 

4.43

%

Less: Allowance for loan losses

 

 

(6,599

)

 

 

 

 

 

 

 

 

 

 

(5,550

)

 

 

 

 

 

 

 

 

Total nonearning assets

 

 

60,541

 

 

 

 

 

 

 

 

 

 

 

57,298

 

 

 

 

 

 

 

 

 

Total Assets

 

$

835,460

 

 

 

 

 

 

 

 

 

 

$

713,738

 

 

 

 

 

 

 

 

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand

 

$

174,312

 

 

 

 

 

 

 

 

 

 

$

124,507

 

 

 

 

 

 

 

 

 

Interest-bearing

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOW

 

 

255,564

 

 

$

79

 

 

 

0.12

%

 

 

221,881

 

 

$

233

 

 

 

0.42

%

Money market

 

 

107,839

 

 

 

83

 

 

 

0.31

%

 

 

77,193

 

 

 

162

 

 

 

0.84

%

Savings

 

 

108,058

 

 

 

14

 

 

 

0.05

%

 

 

87,529

 

 

 

72

 

 

 

0.33

%

Time deposits

 

 

71,168

 

 

 

244

 

 

 

1.37

%

 

 

91,122

 

 

 

463

 

 

 

2.01

%

Total interest-bearing deposits

 

 

542,629

 

 

 

420

 

 

 

0.31

%

 

 

477,725

 

 

 

930

 

 

 

0.77

%

Federal funds purchased

 

 

1

 

 

 

-

 

 

 

0.70

%

 

 

-

 

 

 

-

 

 

 

-

 

FHLB advances

 

 

30,685

 

 

 

78

 

 

 

1.01

%

 

 

29,727

 

 

 

190

 

 

 

2.54

%

Junior subordinated debt

 

 

4,124

 

 

 

49

 

 

 

4.64

%

 

 

4,124

 

 

 

51

 

 

 

4.83

%

Total interest-bearing liabilities

 

 

577,439

 

 

 

547

 

 

 

0.38

%

 

 

511,576

 

 

 

1,171

 

 

 

0.91

%

Other liabilities

 

 

13,514

 

 

 

 

 

 

 

 

 

 

 

12,313

 

 

 

 

 

 

 

 

 

Shareholders’ equity

 

 

70,195

 

 

 

 

 

 

 

 

 

 

 

65,342

 

 

 

 

 

 

 

 

 

Total Liabilities & Shareholders’ Equity

 

$

835,460

 

 

 

 

 

 

 

 

 

 

$

713,738

 

 

 

 

 

 

 

 

 

Net interest income (tax-equivalent basis)

 

 

 

 

 

$

6,323

 

 

 

3.12

%

 

 

 

 

 

$

6,215

 

 

 

3.52

%

Less: tax-equivalent adjustment

 

 

 

 

 

 

(29

)

 

 

 

 

 

 

 

 

 

 

(24

)

 

 

 

 

Net interest income

 

 

 

 

 

$

6,294

 

 

 

 

 

 

 

 

 

 

$

6,191

 

 

 

 

 

Interest expense as a percent of

average earning assets

 

 

 

 

 

 

 

 

 

 

0.28

%

 

 

 

 

 

 

 

 

 

 

0.70

%

Net interest margin

 

 

 

 

 

 

 

 

 

 

3.22

%

 

 

 

 

 

 

 

 

 

 

3.73

%

 

(1)

Nonaccrual loans are included in the average balance of total loans and total earning assets.

(2)

Income and rates on non-taxable assets are computed on a tax-equivalent basis using a federal tax rate of 21%.

32

 

 

For the Nine Months Ended

September 30, 2020

 

 

For the Nine Months Ended

September 30, 2019

 

(Dollars in thousands)

 

Average

 

 

Income/

 

 

Average

 

 

Average

 

 

Income/

 

 

Average

 

Assets

 

Balances

 

 

Expense

 

 

Rate

 

 

Balances

 

 

Expense

 

 

Rate

 

Loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

595,684

 

 

$

19,322

 

 

 

4.33

%

 

$

543,248

 

 

$

19,795

 

 

 

4.87

%

Nonaccrual (1)

 

 

1,082

 

 

 

-

 

 

 

-

 

 

 

2,034

 

 

 

-

 

 

 

-

 

Total loans

 

 

596,766

 

 

 

19,322

 

 

 

4.32

%

 

 

545,282

 

 

 

19,795

 

 

 

4.85

%

Securities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

66,305

 

 

 

1,165

 

 

 

2.36

%

 

 

59,888

 

 

 

1,216

 

 

 

2.72

%

Tax-exempt (2)

 

 

16,739

 

 

 

388

 

 

 

3.04

%

 

 

13,520

 

 

 

333

 

 

 

3.28

%

Total securities

 

 

83,044

 

 

 

1,553

 

 

 

2.50

%

 

 

73,408

 

 

 

1,549

 

 

 

2.82

%

Deposits in other banks

 

 

48,324

 

 

 

113

 

 

 

0.31

%

 

 

34,818

 

 

 

547

 

 

 

2.10

%

Federal funds sold

 

 

14

 

 

 

-

 

 

 

0.44

%

 

 

14

 

 

 

-

 

 

 

2.56

%

Total earning assets

 

 

728,148

 

 

 

20,988

 

 

 

3.85

%

 

 

653,522

 

 

 

21,891

 

 

 

4.48

%

Less: Allowance for loan losses

 

 

(5,925

)

 

 

 

 

 

 

 

 

 

 

(5,426

)

 

 

 

 

 

 

 

 

Total nonearning assets

 

 

58,603

 

 

 

 

 

 

 

 

 

 

 

56,788

 

 

 

 

 

 

 

 

 

Total Assets

 

$

780,826

 

 

 

 

 

 

 

 

 

 

$

704,884

 

 

 

 

 

 

 

 

 

Liabilities and Shareholders' Equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand

 

$

151,377

 

 

 

 

 

 

 

 

 

 

$

119,723

 

 

 

 

 

 

 

 

 

Interest-bearing

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOW

 

 

249,815

 

 

$

422

 

 

 

0.23

%

 

 

228,463

 

 

$

787

 

 

 

0.46

%

Money market

 

 

97,611

 

 

 

322

 

 

 

0.44

%

 

 

73,398

 

 

 

451

 

 

 

0.82

%

Savings

 

 

99,827

 

 

 

81

 

 

 

0.11

%

 

 

87,720

 

 

 

227

 

 

 

0.35

%

Time

 

 

71,711

 

 

 

841

 

 

 

1.56

%

 

 

88,407

 

 

 

1,262

 

 

 

1.91

%

Total interest-bearing deposits

 

 

518,964

 

 

 

1,666

 

 

 

0.43

%

 

 

477,988

 

 

 

2,727

 

 

 

0.76

%

Federal funds purchased

 

 

1

 

 

 

-

 

 

 

1.07

%

 

 

660

 

 

 

14

 

 

 

2.90

%

FHLB advances

 

 

24,247

 

 

 

225

 

 

 

1.23

%

 

 

26,953

 

 

 

523

 

 

 

2.59

%

Junior subordinated debt

 

 

4,124

 

 

 

148

 

 

 

4.77

%

 

 

4,124

 

 

 

149

 

 

 

4.83

%

Total interest-bearing liabilities

 

 

547,336

 

 

 

2,039

 

 

 

0.50

%

 

 

509,725

 

 

 

3,413

 

 

 

0.90

%

Other liabilities

 

 

10,318

 

 

 

 

 

 

 

 

 

 

 

12,243

 

 

 

 

 

 

 

 

 

Shareholders' equity

 

 

71,795

 

 

 

 

 

 

 

 

 

 

 

63,193

 

 

 

 

 

 

 

 

 

Total Liabilities & Shareholders' Equity

 

$

780,826

 

 

 

 

 

 

 

 

 

 

$

704,884

 

 

 

 

 

 

 

 

 

Net interest income (tax equivalent basis)

 

 

 

 

 

$

18,949

 

 

 

3.35

%

 

 

 

 

 

$

18,478

 

 

 

3.58

%

Less: tax equivalent adjustment

 

 

 

 

 

 

(82

)

 

 

 

 

 

 

 

 

 

 

(70

)

 

 

 

 

Net interest income

 

 

 

 

 

$

18,867

 

 

 

 

 

 

 

 

 

 

$

18,408

 

 

 

 

 

Interest expense as a percent of

average earning assets

 

 

 

 

 

 

 

 

 

 

0.37

%

 

 

 

 

 

 

 

 

 

 

0.70

%

Net interest margin

 

 

 

 

 

 

 

 

 

 

3.48

%

 

 

 

 

 

 

 

 

 

 

3.78

%

 

(1)

Nonaccrual loans are included in the average balance of total loans and total earning assets.

(2)

Income and rates on non-taxable assets are computed on a tax-equivalent basis using a federal tax rate of 21%.

 


33

RATE VOLUME ANALYSIS

 

The following tables set forth certain information regarding changes in interest income and interest expense for the periods indicated. For each category of interest-earning asset and interest-bearing liability, information is provided on changes attributable to changes in volume (change in volume multiplied by old rate) and changes in rates (change in rate multiplied by old volume). Changes in rate and volume, which cannot be separately identified, are allocated proportionately between changes in rate and changes in volume.

 

 

 

For the Three Months Ended September 30, 2020

Compared to September 30, 2019

 

(In thousands)

 

Change

 

 

Due to Volume

 

 

Due to Rate

 

Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

Loans

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

(303

)

 

$

986

 

 

$

(1,289

)

Securities

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

(45

)

 

 

32

 

 

 

(77

)

Tax-exempt (1)

 

 

23

 

 

 

34

 

 

 

(11

)

Deposits in other banks

 

 

(191

)

 

 

158

 

 

 

(349

)

Total interest income

 

 

(516

)

 

 

1,210

 

 

 

(1,726

)

Interest Expense

 

 

 

 

 

 

 

 

 

 

 

 

NOW

 

 

(154

)

 

 

35

 

 

 

(189

)

Money market

 

 

(79

)

 

 

64

 

 

 

(143

)

Savings

 

 

(58

)

 

 

17

 

 

 

(75

)

Time deposits

 

 

(219

)

 

 

(101

)

 

 

(118

)

FHLB advances

 

 

(112

)

 

 

6

 

 

 

(118

)

Junior subordinated debt

 

 

(2

)

 

 

-

 

 

 

(2

)

Total interest expense

 

 

(624

)

 

 

21

 

 

 

(645

)

Net interest income

 

$

108

 

 

$

1,189

 

 

$

(1,081

)

 

 

(1)

Income and rates on non-taxable assets are computed on a tax equivalent basis using a federal tax rate of 21%.

 

 

 

For the Nine Months Ended September 30, 2020

Compared to September 30, 2019

 

 

 

 

 

 

 

Due to

 

 

Due to

 

(In thousands)

 

Change

 

 

Volume

 

 

Rate

 

Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

Loans

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

(473

)

 

$

1,910

 

 

$

(2,383

)

Securities

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

(51

)

 

 

130

 

 

 

(181

)

Tax-exempt (1)

 

 

55

 

 

 

80

 

 

 

(25

)

Deposits in other banks

 

 

(434

)

 

 

212

 

 

 

(646

)

Total interest income

 

 

(903

)

 

 

2,332

 

 

 

(3,235

)

Interest Expense

 

 

 

 

 

 

 

 

 

 

 

 

NOW

 

 

(365

)

 

 

74

 

 

 

(439

)

Money market

 

 

(129

)

 

 

148

 

 

 

(277

)

Savings

 

 

(146

)

 

 

32

 

 

 

(178

)

Time

 

 

(421

)

 

 

(239

)

 

 

(182

)

Federal funds purchased

 

 

(14

)

 

 

(14

)

 

 

-

 

FHLB advances

 

 

(298

)

 

 

(52

)

 

 

(246

)

Junior subordinated debt

 

 

(1

)

 

 

-

 

 

 

(1

)

Total interest expense

 

 

(1,374

)

 

 

(51

)

 

 

(1,323

)

Net interest income

 

$

471

 

 

$

2,383

 

 

$

(1,912

)

 

(1)

Income and rates on non-taxable assets are computed on a tax equivalent basis using a federal tax rate of 21%.

34

 

PROVISION FOR LOAN LOSSES

 

The provision for loan losses is charged to operations in order to maintain the allowance for loan losses at a level considered necessary to absorb probable incurred credit losses in the loan portfolio. In determining the level of the allowance for loan losses, the Company considers the overall risk characteristics of the loan portfolio, past and current loss experience, trends in the Bank’s delinquent and nonperforming loans, estimated values of collateral, and the impact of current economic conditions. The amount of the allowance is based on estimates and there can be no assurances, however, that future losses will not exceed estimated amounts, or that increased amounts in the provision for loan losses will not be required in future periods as more information becomes available or events change.  The allowance for loan losses is assessed on a quarterly basis and provisions for loan losses are made in order to maintain the allowance.  

 

The full impact of COVID-19 is unknown and rapidly changing.  The pandemic has caused substantial disruption in the U.S. economy.  The outbreak is having a significant adverse impact on certain industries the Company serves, including but not limited to, religious organizations, hospitality, childcare and restaurants.  Due to COVID-19 and the economic impact it could have on the Company’s loan portfolio, additional details about exposures to these stressed industries is included in the above section titled “IMPACT OF COVID-19.”

 

The Company recorded a provision for loan losses of $345,000 for the third quarter of 2020 compared with no provision for loan losses for the third quarter of 2019.  The provision for loan losses was $1.6 million and $255,000 for the nine months ended September 30, 2020 and 2019, respectively.  Of the provision for loan losses of $1.6 million for the nine months ended September 30, 2020, approximately $860,000 was recognized during the second quarter of 2020 due to qualitative adjustments to the loan loss reserve in light of the COVID-19 pandemic and its impact on economic and business conditions.  The primary economic loss driver contributing to the increase in the provision for loan losses was the increased unemployment rate for the Commonwealth of Virginia.  If economic conditions worsen, the Company could recognize elevated levels of provision for loan losses in future periods.  

 

NONINTEREST INCOME

 

Noninterest income decreased $132,000 to $1.5 million for the third quarter of 2020 from $1.6 million for the third quarter of 2019.  Noninterest income decreased $451,000 to $4.0 million for the nine months ended September 30, 2020 from $4.5 million for the nine months ended September 30, 2019.  

 

The following summarizes noninterest income for the three and nine months ended September 30, 2020 and 2019:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended September 30,

 

 

Increase (Decrease)

 

 

Nine Months Ended September 30,

 

 

Increase (Decrease)

 

(Dollars in thousands)

 

2020

 

 

2019

 

 

Amount

 

 

Percent

 

 

2020

 

 

2019

 

 

Amount

 

 

Percent

 

Noninterest income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Trust and estate fees

 

$

681

 

 

$

442

 

 

$

239

 

 

 

54.07

%

 

$

1,641

 

 

$

1,285

 

 

$

356

 

 

 

27.70

%

Brokerage fees

 

 

127

 

 

 

115

 

 

 

12

 

 

 

10.43

%

 

 

393

 

 

 

333

 

 

 

60

 

 

 

18.02

%

Service charges on deposit accounts

 

 

259

 

 

 

382

 

 

 

(123

)

 

 

(32.20

)%

 

 

831

 

 

 

1,142

 

 

 

(311

)

 

 

(27.23

)%

Interchange fee income, net

 

 

333

 

 

 

394

 

 

 

(61

)

 

 

(15.48

)%

 

 

900

 

 

 

979

 

 

 

(79

)

 

 

(8.07

)%

Bank-owned life insurance

 

 

90

 

 

 

92

 

 

 

(2

)

 

 

(2.17

)%

 

 

270

 

 

 

275

 

 

 

(5

)

 

 

(1.82

)%

Other income (loss)

 

 

(27

)

 

 

188

 

 

 

(215

)

 

 

(114.36

)%

 

 

(59

)

 

 

392

 

 

 

(451

)

 

 

(115.05

)%

Gain on sale/call of securities available for sale

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

79

 

 

 

(79

)

 

 

(100.00

)%

Gain (loss) on sale of mortgage loans held for sale, net

 

 

15

 

 

 

(3

)

 

 

18

 

 

 

(600.00

)%

 

 

60

 

 

 

2

 

 

 

58

 

 

 

2900.00

%

Total noninterest income

 

$

1,478

 

 

$

1,610

 

 

$

(132

)

 

 

(8.20

)%

 

$

4,036

 

 

$

4,487

 

 

$

(451

)

 

 

(10.05

)%

 


35

The primary changes in noninterest income were:

 

•

Trust, estate and brokerage fee income increased due to the overall increase in assets under management from $443.7 million at September 30, 2019 to $493.2 million at September 30, 2020.     

 

•

Service charges on deposit accounts continue to decline primarily as a result of the lower volume of fees generated from nonsufficient fund (“NSF”) charges.  Net NSF charges were $184,000 and $320,000 for the three months ended September 30, 2020 and 2019, respectively.  Net NSF charges were $623,000 and $960,000 for the nine months ended September 30, 2020 and 2019, respectively.     

 

•

Changes in other income (loss) was primarily the result of several factors.  Automated teller machine (“ATM”) surcharge income decreased $23,000 and $60,000 for the three and nine months ended September 30, 2020, respectively, when compared to the three and nine months ended September 30, 2019, due to the Company outsourcing this activity.  Losses on the disposal of these ATMs totaled $177,000 during the first quarter of 2020. Partnership income of $214,000 from the Bank’s ownership interest in Bankers Insurance, LLC was received in the first quarter of 2020, which was offset, in part, by pass-through losses from the Bank’s investment in qualified affordable housing projects of $89,000 and $317,000 for the three and nine months ended September 30, 2020, respectively, compared with pass-through losses of $47,000 and $191,000 for the three and nine months ended September 30, 2019, respectively.    

 

NONINTEREST EXPENSE

 

Noninterest expense increased $251,000 to $5.7 million for the third quarter of 2020 from $5.4 million for the third quarter of 2019.  Noninterest expense decreased $480,000 to $16.2 million for the nine months ended September 30, 2020 from $16.6 million for the nine months ended September 30, 2019.  

 

The following summarizes noninterest expense for the three and nine months ended September 30, 2020 and 2019:

 

 

 

Three Months Ended September 30,

 

 

Increase (Decrease)

 

 

Nine Months Ended September 30,

 

 

Increase (Decrease)

 

(Dollars in thousands)

 

2020

 

 

2019

 

 

Amount

 

 

Percent

 

 

2020

 

 

2019

 

 

Amount

 

 

Percent

 

Noninterest Expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Salaries and benefits

 

$

3,076

 

 

$

3,035

 

 

$

41

 

 

 

1.35

%

 

$

8,463

 

 

$

8,968

 

 

$

(505

)

 

 

(5.63

)%

Occupancy

 

 

586

 

 

 

561

 

 

 

25

 

 

 

4.46

%

 

 

1,829

 

 

 

1,781

 

 

 

48

 

 

 

2.70

%

Furniture and equipment

 

 

196

 

 

 

269

 

 

 

(73

)

 

 

(27.14

)%

 

 

577

 

 

 

827

 

 

 

(250

)

 

 

(30.23

)%

Marketing and business development

 

 

114

 

 

 

129

 

 

 

(15

)

 

 

(11.63

)%

 

 

329

 

 

 

487

 

 

 

(158

)

 

 

(32.44

)%

Legal, audit and consulting

 

 

301

 

 

 

270

 

 

 

31

 

 

 

11.48

%

 

 

875

 

 

 

801

 

 

 

74

 

 

 

9.24

%

Data processing

 

 

338

 

 

 

353

 

 

 

(15

)

 

 

(4.25

)%

 

 

1,074

 

 

 

1,031

 

 

 

43

 

 

 

4.17

%

Federal Deposit Insurance Corporation assessment

 

 

95

 

 

 

-

 

 

 

95

 

 

 

-

 

 

 

260

 

 

 

187

 

 

 

73

 

 

 

39.04

%

Merger expenses

 

 

43

 

 

 

-

 

 

 

43

 

 

 

-

 

 

 

43

 

 

 

-

 

 

 

43

 

 

 

-

 

Other operating expenses

 

 

921

 

 

 

802

 

 

 

119

 

 

 

14.84

%

 

 

2,713

 

 

 

2,561

 

 

 

152

 

 

 

5.94

%

Total noninterest expenses

 

$

5,670

 

 

$

5,419

 

 

$

251

 

 

 

4.63

%

 

$

16,163

 

 

$

16,643

 

 

$

(480

)

 

 

(2.88

)%

 

The primary changes in noninterest expense were:

 

•

Furniture and equipment expenses decreased primarily due to a decrease in depreciation and maintenance from ATMs, as noted above in noninterest income, that were removed due to the Bank’s outsourcing this activity.  Depreciation expense for furniture and equipment was $28,000 and $86,000 for the three and nine months ended September 30, 2020, respectively, compared with $83,000 and $273,000 for the three and nine months ended September 30, 2019, respectively.

 

•

Marketing expenses decreased $17,000 and $103,000 for the three and nine months ended September 30, 2020, respectively, when compared with the three and nine months ended September 30, 2019, primarily due to timing differences in marketing campaigns.  Business development activities decreased $28,000 and $46,000 for the three and nine months ended September 30, 2020, respectively, when compared to the three and nine months ended September 30, 2019, as a result of the COVID-19 pandemic.    

36

 

•

Federal Deposit Insurance Corporation assessment increased as a result of the Small Bank Assessment Credit of $162,000 that was received in 2019.  This credit was the portion of the Bank’s assessment that contributed to the growth in the Deposit Insurance Fund reserve ratio from 1.15% to 1.35%.

 

•

Merger expenses are related to the Merger with Virginia National, announced on October 1, 2020.  The Company expects to continue to incur merger expenses until the Merger with Virginia National is completed, which is currently expected to occur during the first half of 2021.

 

INCOME TAXES

 

Income tax expense was $210,000 and $330,000 for the third quarter of 2020 and 2019, respectively, resulting in an effective tax rate of 11.95% and 13.85%, respectively.  Income tax expense was $613,000 and $749,000 for the nine months ended September 30, 2020 and 2019, respectively, resulting in an effective tax rate of 11.94% and 12.49%, respectively.  Income tax expense and the effective tax rate differed from the statutory federal income tax rate of 21% primarily due to the Bank’s investment in tax-exempt securities, income from Bank-owned life insurance, and community development tax credits.  

 

FINANCIAL CONDITION AT SEPTEMBER 30, 2020 AND DECEMBER 31, 2019

 

Summary Balance Sheet

 

 

 

 

 

 

 

 

 

 

 

Increase (Decrease)

 

(Dollars in thousands)

 

September 30,

2020

 

 

December 31,

2019

 

 

Amount

 

 

Percent

 

Total cash and cash equivalents

 

$

73,673

 

 

$

46,341

 

 

$

27,332

 

 

 

58.98

%

Securities available for sale, at fair value

 

 

84,590

 

 

 

79,783

 

 

 

4,807

 

 

 

6.03

%

Total loans

 

 

638,103

 

 

 

550,226

 

 

 

87,877

 

 

 

15.97

%

Allowance for loan losses

 

 

6,701

 

 

 

5,227

 

 

 

1,474

 

 

 

28.20

%

Total assets

 

 

840,286

 

 

 

722,171

 

 

 

118,115

 

 

 

16.36

%

Total deposits

 

 

739,834

 

 

 

622,155

 

 

 

117,679

 

 

 

18.91

%

Federal Home Loan Bank advances

 

 

12,629

 

 

 

16,695

 

 

 

(4,066

)

 

 

(24.35

)%

Total shareholders’ equity

 

 

72,207

 

 

 

67,122

 

 

 

5,085

 

 

 

7.58

%

 

Growth in assets is primarily attributable to the influx of PPP loans during the period and the increase in excess cash held at the Federal Reserve.  Excess cash held at the Federal Reserve is primarily the result of core deposit growth in personal checking, savings and money market accounts.    

 

The increase in total loans is primarily attributable to the influx of PPP loans during the period.  PPP loans totaled $53.1 million at September 30, 2020. As noted in the below table, the commercial and industrial loan segment contributed significantly to net loan growth during the period, which is primarily from PPP loans, while commercial real estate loans and residential real estate loans also contributed to the overall growth in the portfolio.  Overall loan growth, excluding PPP loans, is in line with the Company’s expectations of moderate loan growth as a result of COVID-19 and the related decline in economic conditions in the Company’s market areas.  

  

Summary of Loans by Segment

 

 

 

 

 

 

 

 

 

 

Increase (Decrease)

(Dollars in thousands)

 

September 30,

2020

 

 

December 31,

2019

 

 

Amount

 

 

Commercial and industrial

 

$

88,982

 

 

$

27,404

 

 

$

61,578

 

 

Commercial real estate

 

 

199,773

 

 

 

181,898

 

 

 

17,875

 

 

Construction and land

 

 

72,465

 

 

 

65,231

 

 

 

7,234

 

 

Consumer

 

 

6,264

 

 

 

5,958

 

 

 

306

 

 

Student

 

 

7,333

 

 

 

8,151

 

 

 

(818

)

 

Residential real estate

 

 

232,524

 

 

 

225,316

 

 

 

7,208

 

 

Home equity lines of credit

 

 

30,762

 

 

 

36,268

 

 

 

(5,506

)

 

Total

 

$

638,103

 

 

$

550,226

 

 

$

87,877

 

 

 

37

Certain industry sectors will be more negatively impacted by the economic effects of COVID-19 and related governmental action than others. While the Company believes the commercial portfolio is adequately diversified, COVID-19 could have a significant adverse impact on certain industries the Company serves, including but not limited to, religious organizations, hospitality, childcare and restaurants.  Additional details related to exposures to these stressed industries are included in the above section titled “IMPACT OF COVID-19.”  

 

ASSET QUALITY

 

The Company established a short-term loan modification program, allowing the deferral of scheduled payments for a 90-day period beginning in April 2020.  Modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief were not considered TDRs.  Borrowers who were considered current were ones whose loans were less than 30 days past due on their contractual payments at the time the modification was entered.  The Company modified 194 loans totaling $92.8 million under this initial payment deferral program.  As of September 30, 2020, 94% of these deferments have ended and have returned to their normal payment schedules, while subsequent deferments totaling $5.5 million have been granted to 7 borrowers, consisting of 2 commercial and industrial loans, 1 commercial real estate loan, 1 construction and land loan, and 3 residential real estate loans.  These additional deferrals remained within the CARES Act and the March 2020 interagency guidance and were not considered TDRs.  

 

The following table sets forth certain information with respect of the Company’s nonperforming assets.  The increase in nonperforming loans was primarily due to one commercial real estate relationship totaling $6.2 million that was modified; (non-COVID-19 related modification); and is considered a performing TDR.  Loans 90+ days past due and accruing are largely related to student loans that have a 98% guaranty by the U.S. Department of Education.  We continue to monitor the performance of our entire loan portfolio for indications of stress, including identifying certain commercial loan industries that we believe are more susceptible to risk presented by the pandemic.  

 

  (Dollars in thousands)

 

September 30,

2020

 

 

December 31,

2019

 

 

September 30,

2019

 

Nonaccrual loans

 

$

1,245

 

 

$

989

 

 

$

1,941

 

Restructured loans still accruing

 

 

8,389

 

 

 

2,471

 

 

 

2,518

 

Loans 90+ days past due and accruing

 

 

647

 

 

 

1,636

 

 

 

867

 

Total nonperforming loans

 

 

10,281

 

 

 

5,096

 

 

 

5,326

 

Other real estate owned, net

 

 

1,356

 

 

 

1,356

 

 

 

1,356

 

Total nonperforming assets

 

$

11,637

 

 

$

6,452

 

 

$

6,682

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for loan losses

 

$

6,701

 

 

$

5,227

 

 

$

5,395

 

Allowance for loan losses to total loans

 

 

1.05

%

 

 

0.95

%

 

 

0.99

%

Nonaccrual loans to total loans

 

 

0.20

%

 

 

0.18

%

 

 

0.36

%

Allowance for loan losses to nonperforming loans

 

 

65.18

%

 

 

102.57

%

 

 

101.30

%

Nonperforming loans to total loans

 

 

1.61

%

 

 

0.93

%

 

 

0.98

%

Nonperforming assets to total assets

 

 

1.38

%

 

 

0.89

%

 

 

0.92

%

 

At September 30, 2020, the allowance for loan losses was $6.7 million, or 1.05% of total loans, compared with $5.2 million, or 0.95% of total loans at December 31, 2019 and $5.4 million, or 0.99% of total loans on September 30, 2019.  The increase in the allowance is due primarily to the increase in qualitative factors related to COVID-19 and the current economic conditions, including, but not limited to, the increased unemployment rate for the Commonwealth of Virginia.  The allowance for loan losses was not impacted by PPP loans due to the 100% SBA guaranty for loans funded under this program.  

 

COVID-19 may have a continued adverse effect on the credit quality of the Company’s loan portfolio during the remainder of 2020. Client disruption could result in increased loan delinquencies and defaults.  Management believes impaired loans may also increase in the future as a result of the COVID-19 pandemic.

 


38

CAPITAL

 

One of management’s strategic objectives is to continue to increase the Company’s shareholders’ return on equity while maintaining a strong capital base.  The Company and the Bank are subject to various capital requirements administered by bank regulatory agencies. Failure to meet minimum capital requirements can trigger certain mandatory and discretionary actions by regulators that could have a direct material effect on the Company’s financial condition and results of operations.  

 

Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of its assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. In addition to the regulatory risk-based capital, the Bank must maintain a capital conservation buffer of additional total capital and common equity tier 1 capital as required by the Basel III capital framework as adopted by the Federal Reserve and the Federal Deposit Insurance Corporation.  The phase-in of the capital conservation buffer requirement began on January 1, 2016, at 0.625% of risk-weighted assets, increasing by the same amount each year until it was fully implemented at 2.5% on January 1, 2019.  Under the small bank holding company policy statement of the Board of Governors of the Federal Reserve system, which applies to certain bank holding companies with consolidated total assets of less than $3 billion, the Company is not subject to regulatory capital requirements at the bank holding company level.

 

As a result of recent legislation, the federal banking agencies developed a Community Bank Leverage Ratio (“CBLR”), which is the ratio of a bank’s tangible equity capital to average total consolidated assets, for financial institutions with assets of less than $10.0 billion. A qualifying community bank that exceeds this ratio will be deemed to be in compliance with all other capital and leverage requirements, including the capital requirements to be considered “well capitalized” under prompt corrective action statutes. The federal banking agencies may consider a financial institution’s risk profile when evaluating whether it qualifies as a community bank for purposes of the capital ratio requirement. The federal banking agencies must set the minimum capital for the new CBLR at not less than 8% and not more than 10%. Beginning in the second quarter 2020 and until the end of the year, a banking organization that has a leverage ratio of 8% or greater and meets certain other criteria may elect to use the CBLR framework; and qualified community banks will have until January 1, 2022, before the CBLR requirement is re-established at greater than 9%. Pursuant to the CARES Act and related interim final rules, the CBLR will be 8% for the remainder of calendar year 2020, 8.5% for calendar year 2021, and 9% thereafter.  A financial institution can elect to be subject to this new definition, and opt-out of this new definition, at any time.  Management did not elect to be subject to the CLBR at September 30, 2020.  

 

Management believes the Bank satisfied all capital adequacy requirements to which it was subject as of September 30, 2020 and December 31, 2019 and is considered “well capitalized” as defined by the regulatory authorities.  The following table provides information on the regulatory capital ratios for the Bank at September 30, 2020 and December 31, 2019.  

 

(Dollars in thousands)

 

September 30, 2020

 

 

December 31,

 2019

 

Tier 1 Capital:

 

 

 

 

 

 

 

 

Common equity

 

$

75,542

 

 

$

70,312

 

Unrealized gain on securities available for sale, net

 

 

(3,442

)

 

 

(1,294

)

Unrealized benefit obligation for supplemental retirement plans

 

 

(155

)

 

 

(155

)

Total Common equity tier 1 capital

 

 

71,945

 

 

 

68,863

 

Tier 2 Capital:

 

 

 

 

 

 

 

 

Allowable allowance for loan losses

 

 

6,701

 

 

 

5,227

 

Total Capital

 

$

78,646

 

 

$

74,090

 

Risk Weighted Assets

 

$

577,026

 

 

$

547,202

 

Regulatory Capital Ratios:

 

 

 

 

 

 

 

 

Leverage Ratio

 

 

8.67

%

 

 

9.40

%

Common Equity Tier 1 Capital Ratio

 

 

12.47

%

 

 

12.58

%

Tier 1 Capital Ratio

 

 

12.47

%

 

 

12.58

%

Total Capital Ratio

 

 

13.63

%

 

 

13.54

%

 


39

LIQUIDITY

 

Liquidity management involves meeting the present and future financial obligations of the Company with the sale or maturity of assets or with the occurrence of additional liabilities. Liquidity needs are met with cash on hand, deposits in other banks, federal funds sold, and unencumbered securities classified as available for sale.  At September 30, 2020, liquid assets totaled $140.3 million, or 16.7% of total assets and 18.3% of total liabilities.

 

Securities provide a constant source of liquidity through paydowns and maturities.  The Company maintains short-term borrowing arrangements, namely federal funds lines of credit, with larger financial institutions as an additional source of liquidity and the Bank’s membership with the FHLB also provides a source of borrowings with numerous rate and term structures.

 

The Company believes there could be potential stresses on liquidity management as a direct result of the COVID-19 pandemic. As clients manage their own liquidity stress, the Company could experience an increase in the utilization of existing lines of credit. The Federal Reserve and FHLB have established lending facilities that will allow banks to obtain funding specifically for loans that were made under the PPP, and will allow banks to retain existing sources of liquidity for traditional operations.  The Bank did not choose to participate in these lending facilities during the nine months ended September 30, 2020.  Additionally, on March 15, 2020, in response to the COVID-19 pandemic, the Federal Reserve reduced reserve requirements for insured depository institutions to 0.00%, which further increased the Bank’s available liquidity.  

 

Management monitors the liquidity position regularly and attempts to maintain a position which utilizes available funds most efficiently. As a result, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors’ requirements and meets the credit needs of its clients’ during this period of uncertain economic conditions related to the COVID-19 pandemic.  Management will continue to closely monitor the Company’s liquidity as these conditions change.

 

CONTRACTUAL OBLIGATIONS

 

As of September 30, 2020, there have been no material changes outside the ordinary course of business to the contractual obligations disclosed in “Management’s Discussion and Analysis and Results of Operations” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

 

OFF-BALANCE SHEET ARRANGEMENTS

 

As of September 30, 2020, there have been no material changes to the off-balance sheet arrangements disclosed in “Management’s Discussion and Analysis and Results of Operations” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

 

IMPACT OF INFLATION AND CHANGING PRICES

 

The consolidated financial statements and the accompanying notes presented elsewhere in this document have been prepared in accordance with GAAP, which require the measurement of financial position and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time and due to inflation. Unlike most industrial companies, virtually all the assets and liabilities of the Company and the Bank are monetary in nature. The impact of inflation is reflected in the increased cost of operations. As a result, interest rates have a greater impact on the Company’s performance than inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.

 

CHANGES IN ACCOUNTING PRINCIPLES

 

For information regarding recent accounting pronouncements and their effect on the Company, see “Recent Accounting Pronouncements” in Note 1 of the Notes to Consolidated Financial Statements contained herein.

 

 


40

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

There have been no material changes to the quantitative and qualitative disclosures made in Item 7A, Quantitative and Qualitative Disclosures About Market Risk, of the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

 

ITEM 4.  CONTROLS AND PROCEDURES

 

Disclosure Controls and Procedures

 

The Company maintains disclosure controls and procedures that are designed to provide assurance that the information required to be disclosed in the reports filed or submitted under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods required by the Securities and Exchange Commission. An evaluation of the effectiveness of the Company’s disclosure controls and procedures at the end of the period covered by this report was carried out under the supervision and with the participation of the management of Fauquier Bankshares, Inc., including our Chief Executive Officer and Chief Financial Officer. Based on such an evaluation, the Chief Executive Officer and the Chief Financial Officer concluded the Company’s disclosure controls and procedures were effective as of the end of such period.

 

The Company regularly assesses the adequacy of its internal control over financial reporting and enhances its controls in response to internal control assessments and internal and external audit and regulatory recommendations. There have not been any significant changes in the Company’s internal control over financial reporting or in other factors that have materially affected or are reasonably likely to materially affect, such controls during the quarter ended September 30, 2020.

 

Part II.  OTHER INFORMATION

 

 

There are no pending or threatened legal proceedings to which the Company or the Bank is a party or to which the property of either the Company or the Bank is subject to that, in the opinion of management, may materially impact the financial condition of either the Company or the Bank.

 

ITEM 1A.  RISK FACTORS

 

In addition to the other information contained in this Quarterly Report on Form 10-Q, the following risk factors represent material updates and additions to the risk factors previously disclosed in the Company’s Annual Report on Form 10- K for the year ended December 31, 2019 and our Quarterly Reports on Form 10-Q for the quarters ended March 31, 2020 and June 30, 2020, as filed with the Securities and Exchange Commission.  Additional risks not presently known, or that are currently deemed immaterial, may also adversely affect the Company’s business, financial condition or results of operations. Further, to the extent that any of the information contained in this Quarterly Report on Form 10-Q constitutes forward-looking statements, the risk factors set forth below also are cautionary statements identifying important factors that could cause the Company’s actual results to differ materially from those expressed in any forward-looking statements made by or on behalf of the Company.

 

Merger Agreement with Virginia National

 

Combining Virginia National and the Company may be more difficult, costly or time-consuming than expected.

The success of the Merger will depend, in part, on Virginia National’s ability to realize the anticipated benefits and cost savings from combining the businesses of Virginia National and the Company and to combine the businesses of Virginia National and the Company in a manner that permits growth opportunities and cost savings to be realized without materially disrupting the existing customer relationships of the Company or decreasing revenues due to loss of customers. If Virginia National is not able to achieve these objectives, the anticipated benefits and cost savings of the Merger may not be realized fully or at all or may take longer to realize than expected.

 

Virginia National and the Company have operated, and, until the completion of the Merger, will continue to operate, independently. To realize these anticipated benefits of the Merger, after the completion of the Merger, Virginia National expects to integrate the Company’s business into its own. The integration process in the Merger could result in the loss of key

41

employees, the disruption of each party’s ongoing business, inconsistencies in standards, controls, procedures and policies that affect adversely either party’s ability to maintain relationships with customers and employees or achieve the anticipated benefits of the Merger. The loss of key employees could adversely affect Virginia National’s ability to successfully conduct its business in the markets in which the Company now operates, which could have an adverse effect on Virginia National’s financial results and the value of its common stock. If Virginia National experiences difficulties with the integration process, the anticipated benefits of the Merger may not be realized fully or at all, or may take longer to realize than expected. As with any merger of financial institutions, there also may be disruptions that cause Virginia National and the Company to lose customers or cause customers to withdraw their deposits from the Company’s or Virginia National’s banking subsidiaries, or other unintended consequences that could have a material adverse effect on Virginia National’s results of operations or financial condition after the Merger. These integration matters could have an adverse effect on the Company during this transition period and on Virginia National for an undetermined period after consummation of the Merger.

 

Because the market price of Virginia National common stock will fluctuate, the value of the consideration to be received by the Company’s shareholders in the Merger may change.

Pursuant to the Merger Agreement, each share of the Company’s common stock, except for certain shares of the Company’s common stock owned by the Company or Virginia National, that is issued and outstanding immediately prior to the effective time of the Merger will be converted into the right to receive 0.6750 shares of common stock of Virginia National.  The closing price of Virginia National common stock on the date that the Merger is completed may vary from the closing price of Virginia National common stock on the date the Company and Virginia National announced the signing of the Merger Agreement. Because the Merger consideration is determined by a fixed exchange ratio, at the time of the Company’s special meeting, the Company’s shareholders will not know or be able to calculate the value of the shares of Virginia National common stock they will receive upon completion of the Merger. Any change in the market price of Virginia National common stock prior to completion of the Merger may affect the value of the Merger consideration that the Company’s shareholders will receive upon completion of the Merger. Stock price changes may result from a variety of factors, including general market and economic conditions, changes in the companies’ respective businesses, operations and prospects, and regulatory considerations, among other things. Many of these factors are beyond the control of the Company and Virginia National. The Company’s shareholders should obtain current market quotations for shares of Virginia National common stock and the Company’s common stock before voting their shares at the Company’s special meeting of shareholders.

 

The Merger may distract management of the Company from its other responsibilities.

The Merger could cause the management of the Company to focus its time and energies on matters related to the Merger that otherwise would be directed to its business and operations. Any such distraction on the part of the Company’s management, if significant, could affect its ability to service existing business and develop new business and may adversely affect the business and earnings of the Company before the Merger, or the business and earnings of Virginia National after the Merger.

 

Termination of the Merger Agreement could negatively impact the Company.

Each of the Company’s and Virginia National’s obligation to consummate the Merger remains subject to a number of conditions, and there can be no assurance that all of the conditions will be satisfied, or that the Merger will be completed on the proposed terms, within the expected timeframe, or at all. Any delay in completing the Merger could cause the Company not to realize some or all of the benefits that the Company expects to achieve if the Merger is successfully completed within its expected timeframe. If the Merger Agreement is terminated, the Company’s business may be impacted adversely by the failure to pursue other beneficial opportunities due to the focus of management on the Merger, without realizing any of the anticipated benefits of completing the Merger. Additionally, if the Merger Agreement is terminated, the market price of the Company’s common stock could decline to the extent that the current market prices reflect a market assumption that the Merger will be completed. If the Merger Agreement is terminated under certain circumstances, including circumstances involving a change in recommendation by the Company's board of directors, the Company may be required to pay to Virginia National a termination fee of $2.5 million.

 

In addition, the Company has incurred and will incur substantial expenses in connection with the negotiation and completion of the transactions contemplated by the Merger Agreement. If the Merger is not completed, the Company would have to recognize these expenses and would have committed substantial time and resources by management, without realizing the expected benefits of the Merger. In addition, failure to consummate the Merger also may result in negative reactions from the financial markets or from the Company’s customers, vendors and employees. If the Merger is not completed, these risks may materialize and could have a material adverse effect on the Company’s stock price, business and cash flows, financial condition and results of operations.

 

42

The Merger Agreement limits the ability of the Company to pursue alternatives to the Merger.

The Merger Agreement contains “no-shop” provisions that, subject to limited exceptions, limit the ability of the Company to discuss, facilitate or commit to competing third-party proposals to acquire all or a significant part of the Company. In addition, under certain circumstances, if the Merger Agreement is terminated and the Company, subject to certain restrictions, consummates a similar transaction other than the Merger, the Company must pay to Virginia National a fee of $2.5 million. These provisions might discourage a potential competing acquiror that might have an interest in acquiring all or a significant part of the Company from considering or proposing the acquisition even if it were prepared to pay consideration, with respect to the Company, with a higher per share market price than that proposed in the Merger.

 

The Company will be subject to business uncertainties and contractual restrictions while the Merger is pending.

Uncertainty about the effect of the Merger on employees and customers may have an adverse effect on the Company. These uncertainties may impair the Company’s ability to attract, retain and motivate key personnel until the Merger is completed, and could cause customers and others that deal with the Company to seek to change existing business relationships with the Company. Retention of certain employees by the Company may be challenging while the Merger is pending, as certain employees may experience uncertainty about their future roles with the Company or the combined company following the Merger. If key employees depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with the Company or the combined company following the Merger, the Company’s business, or the business of the combined company following the Merger, could be harmed. In addition, the Company has agreed to operate its business in the ordinary course prior to the closing of the Merger and from taking certain specified actions until the Merger occurs, and the merger agreement restricts the Company from taking other specified actions until the merger occurs without the consent of Virginia National. These restrictions may prevent the Company from pursuing attractive business opportunities that may arise prior to the completion of the merger.

 

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

 

On January 16, 2020, the Company’s Board of Directors authorized the Company to repurchase up to 113,512 shares (3% of common stock outstanding on January 1, 2020) beginning January 16, 2020 and continuing until the next reset approved by the Board of Directors.  During the nine-month period ended September 30, 2020, 2,007 shares of common stock were repurchased at an average price of $20.99 per share. No shares were repurchased during the third quarter of 2020. Under the share repurchase program, the Company has the remaining authority to repurchase up to 111,505 shares of the Company’s common stock as of September 30, 2020.

 

Repurchases may be made through open market purchases or in privately negotiated transactions, and shares repurchased will be returned to the status of authorized and unissued shares of common stock. The actual timing, number, and value of shares repurchased under the program will be determined by management.

 

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4.  MINE SAFETY DISCLOSURES

 

Not applicable.

 

ITEM 5.  OTHER INFORMATION

 

None.

 

43

ITEM 6.  EXHIBITS

 

The following exhibits are filed as part of this report and this list includes the Exhibit Index.

 

 

Exhibit Number

 

Exhibit Description

 

 

 

2.1

 

Agreement and Plan of Reorganization, dated as of October 1, 2020, between Virginia National Bankshares Corporation and Fauquier Bankshares, Inc. (incorporated by reference to Exhibit 2.1 to Current Report on Form 8-K filed on October 2, 2020).

 

 

 

3.1

 

Articles of Incorporation of Fauquier Bankshares, Inc., as amended, incorporated by reference to Exhibit 3.1 to Form 10-K filed March 15, 2010.

 

 

 

3.2

 

Bylaws of Fauquier Bankshares, Inc., as amended and restated, incorporated by reference to Exhibit 3.2 to Form 8-K filed April 7, 2020.

 

 

 

10.1

 

Employment Agreement, dated August 1, 2020, by and between Fauquier Bankshares, Inc., The Fauquier Bank and Christine E. Headly, incorporated by reference to Exhibit 10.1 to Form 8-K filed August 4, 2020.

 

 

 

99.1

 

Form of Affiliate Agreement, dated as of September 30, 2020, by and among Virginia National Bankshares Corporation, Fauquier Bankshares, Inc., and certain shareholders of Fauquier Bankshares, Inc, incorporated by reference to Exhibit 99.1 to Form 8-K filed August 4, 2020.

 

 

 

99.2

 

Form of Affiliate Agreement, dated as of September 30, 2020, by and among Virginia National Bankshares Corporation, Fauquier Bankshares, Inc., and certain shareholders of Virginia National Bankshares Corporation, incorporated by reference to Exhibit 99.2 to Form 8-K filed August 4, 2020.

 

 

 

31.1

 

Certification of CEO pursuant to Rule 13a-14(a).

 

 

 

31.2

 

Certification of CFO pursuant to Rule 13a-14(a).

 

 

 

32.1

 

Certification of CEO pursuant to 18 U.S.C. Section 1350.

 

 

 

32.2

 

Certification of CFO pursuant to 18 U.S.C. Section 1350.

 

 

 

101

 

The following materials from the Company’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2020, formatted in inline XBRL: (1) Consolidated Balance Sheets, (2) Consolidated Statements of Operations, (3) Consolidated Statements of Comprehensive Income, (4) Consolidated Statements of Changes in Shareholders’ Equity, (5) Consolidated Statements of Cash Flows and (6) the Notes to Consolidated Financial Statements.

 

 

 

104

 

The cover page from the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2020, formatted in Inline eXtensible Business Reporting Language (included with Exhibit 101).

 

 

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

FAUQUIER BANKSHARES, INC.

 

(Registrant)

 

 

 

By:  /s/ Marc J. Bogan

 

Marc J. Bogan

 

President & Chief Executive Officer

 

(Principal Executive Officer)

 

Dated:  November 6, 2020

 

 

By:  /s/ Christine E. Headly

 

Christine E. Headly

 

Executive Vice President & Chief Financial Officer

 

(Principal Financial and Accounting Officer)

 

Dated:  November 6, 2020

 

 

 

45