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Section 1: 10-Q (10-Q)

fpbk-10q_20180331.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

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

for the Quarterly Period Ended March 31, 2018

or

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the Transition Period from                   to                  

Commission File Number No. 333-183118

 

FIRST PRIORITY FINANCIAL CORP.

 

 

Pennsylvania

 

20-8420347

(State or other jurisdiction of

incorporation)

 

(I.R.S. Employer

Identification No.)

 

 

 

2 West Liberty Boulevard, Suite 104

Malvern, Pennsylvania

 

19355

(Address of principal executive offices)

 

(Zip Code)

Registrant’s telephone number, including area code: (877) 533-4420

 

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 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and has been subject to such filing requirements for the past 90 days.    Yes      No  

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes      No  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, 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 not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

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

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

 

Title of Each Class

  

Number of Shares Outstanding as of May 7, 2018

Common Stock, $1.00 Par Value

  

6,646,369 Outstanding Shares

 

 

 

 


TABLE OF CONTENTS

 

 

 

Page

PART I—FINANCIAL INFORMATION

 

 

Item 1.

Financial Statements (Unaudited)

2

 

Item 2.

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

31

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

48

 

Item 4.

Controls and Procedures

48

 

PART II—OTHER INFORMATION

49

 

Item 1.

Legal Proceedings

49

 

Item 1A.

Risk Factors

49

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

49

 

Item 3.

Defaults Upon Senior Securities

49

 

Item 4.

Mine Safety Disclosures

49

 

Item 5.

Other Information

49

 

Item 6.

Exhibits

50

 

 

 

 


CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements, and as such, statements containing the words “believes,” “expects,” “anticipates,” “estimates,” “plans,” “projects,” “predicts,” “intends,” “seeks,” “will,” “may,” “should,” “would,” “continues,” “hope” and similar expressions, or the negative of these terms, constitute forward-looking statements that involve risks and uncertainties. Such statements are based on current expectations and are subject to risks, uncertainties and changes in condition, significance, value, and effect. Such risks, uncertainties and changes in condition, significance, value and effect could cause First Priority Financial Corp.’s (“First Priority” or the “Company”) actual results to differ materially from those anticipated.

Although the Company believes its plans, intentions, and expectations as reflected in or suggested by these forward-looking statements are reasonable, it can give no assurance that its plans, intentions, or expectations will be achieved. Accordingly, you should not place undue reliance on them. Listed below, and discussed elsewhere, are some important risks, uncertainties, and contingencies that could cause actual results, performances, or achievements to be materially different from the forward-looking statements made in this document. These factors, risks, uncertainties, and contingencies include, but are not limited to, the following:

the strength of the United States economy in general and the strength of the regional and local economies in which First Priority conducts operations;

the effects of changing economic conditions in First Priority’s market areas and nationally;

the effects of, and changes in, trade, monetary, and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System;

changes in federal and state banking, insurance, and investment laws and regulations which could impact First Priority’s operations;

inflation, interest rate, market, and monetary fluctuations;

First Priority’s timely development of competitive new products and services in a changing environment and the acceptance of such products and services by customers;

the impact of changes in financial services policies, laws, and regulations, including laws, regulations, policies, and practices concerning taxes, banking, capital, liquidity, proper accounting treatment, securities, and insurance, and the application thereof by regulatory bodies and the impact of changes in and interpretations of generally accepted accounting principles;

the occurrence of adverse changes in the securities markets;

the effects of changes in technology or in consumer spending and savings habits;

terrorist attacks in the United States or upon United States interests abroad, or armed conflicts involving the United States military;

security breaches and other disruptions to our information and data processing systems or those of third party providers could disrupt our business or compromise our information and expose us to liability, which would cause our business and reputation to suffer;

regulatory or judicial proceedings;

changes in asset quality;

the ability to obtain requisite approvals and satisfy other closing conditions to complete the Merger in a timely manner; and

First Priority’s success in managing the risks involved in the foregoing.

The effects of these factors are difficult to predict. New factors emerge from time to time, and we are not able to assess the impact of any such factor on the business or the extent to which any factor, or combination of factors, may cause results to differ materially from those contained in any forward-looking statement. Any forward-looking statements speak only as of the date of this document.

Because these forward-looking statements are subject to assumptions and uncertainties, actual results may differ materially from those expressed or implied by these forward-looking statements. You are cautioned not to place undue reliance on these statements, which speak only as of the date of this Quarterly Report or the date of any document incorporated by reference in this Quarterly Report.

 

 

 

 

1


PART I

Item 1.  Financial Statements.

First Priority Financial Corp.

Consolidated Balance Sheets

(Unaudited, in thousands, except share and per share data)

 

 

March 31,

2018

 

 

December 31,

2017

 

Assets

 

 

 

 

 

 

 

Cash and due from banks

$

5,474

 

 

$

5,591

 

Interest-bearing deposits in banks

 

25,021

 

 

 

2,666

 

Total cash and cash equivalents

 

30,495

 

 

 

8,257

 

Securities available for sale, at fair value (amortized cost: $36,371 and $52,379,

   respectively)

 

35,798

 

 

 

52,373

 

Securities held to maturity, at amortized cost (fair value: $19,231 and $19,665,

   respectively)

 

18,548

 

 

 

18,665

 

Loans receivable

 

518,252

 

 

 

518,927

 

Less: allowance for loan losses

 

3,405

 

 

 

3,405

 

Net loans

 

514,847

 

 

 

515,522

 

Restricted investments in bank stocks

 

2,032

 

 

 

1,416

 

Premises and equipment, net

 

2,025

 

 

 

1,607

 

Bank owned life insurance

 

3,342

 

 

 

3,326

 

Accrued interest receivable

 

1,896

 

 

 

2,007

 

Other real estate owned

 

440

 

 

 

550

 

Deferred taxes

 

937

 

 

 

923

 

Goodwill

 

2,725

 

 

 

2,725

 

Intangible assets with finite lives, net

 

154

 

 

 

169

 

Other assets

 

1,395

 

 

 

2,402

 

Total Assets

$

614,634

 

 

$

609,942

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

Non-interest bearing

$

69,457

 

 

$

65,634

 

Interest-bearing

 

442,529

 

 

 

457,516

 

Total deposits

 

511,986

 

 

 

523,150

 

Federal Home Loan Bank of Pittsburgh advances

 

40,025

 

 

 

24,625

 

Subordinated debt

 

9,238

 

 

 

9,231

 

Accrued interest payable

 

841

 

 

 

844

 

Other liabilities

 

1,321

 

 

 

1,596

 

Total Liabilities

 

563,411

 

 

 

559,446

 

Shareholders’ Equity:

 

 

 

 

 

 

 

Preferred stock, Series C, 9%, $100 par value; authorized 10,000,000 shares:

 

 

 

 

 

 

 

liquidation value: $1,000 per share, 3,404 shares issued and outstanding;

 

 

 

 

 

 

 

liquidation value: $3,404 as of each date presented.

 

3,404

 

 

 

3,404

 

Common stock, $1 par value; authorized 20,000,000 shares

 

 

 

 

 

 

 

   issued and outstanding: 2018: 6,646,469; 2017: 6,577,969

 

6,646

 

 

 

6,578

 

Surplus

 

41,267

 

 

 

40,843

 

Retained earnings (accumulated deficit)

 

362

 

 

 

(323

)

Accumulated other comprehensive loss

 

(456

)

 

 

(6

)

Total Shareholders’ Equity

 

51,223

 

 

 

50,496

 

Total Liabilities and Shareholders’ Equity

$

614,634

 

 

$

609,942

 

 

See notes to unaudited consolidated financial statements.

 

 

2


First Priority Financial Corp.

Consolidated Statements of Operations

(Unaudited, in thousands, except per share data)

 

 

For the Three Months Ended March 31,

 

 

2018

 

 

2017

 

Interest and Dividend Income

 

 

 

 

 

 

 

Loans receivable, including fees

$

5,885

 

 

$

5,293

 

Securities—taxable

 

328

 

 

 

268

 

Securities—exempt from federal taxes

 

97

 

 

 

137

 

Interest bearing deposits and other

 

44

 

 

 

42

 

Total Interest and Dividend Income

 

6,354

 

 

 

5,740

 

Interest Expense

 

 

 

 

 

 

 

Deposits

 

1,333

 

 

 

1,000

 

Short-term borrowings

 

125

 

 

 

58

 

Long-term debt

 

36

 

 

 

35

 

Subordinated debt

 

173

 

 

 

172

 

Total Interest Expense

 

1,667

 

 

 

1,265

 

Net Interest Income

 

4,687

 

 

 

4,475

 

Provision for Loan Losses

 

20

 

 

 

10

 

Net Interest Income after Provision for Loan Losses

 

4,667

 

 

 

4,465

 

Non-Interest Income

 

 

 

 

 

 

 

Wealth management fee income

 

41

 

 

 

39

 

Gains on sales of investment securities

 

 

 

 

25

 

Bank owned life insurance income

 

16

 

 

 

18

 

Other

 

107

 

 

 

96

 

Total Non-Interest Income

 

164

 

 

 

178

 

Non-Interest Expenses

 

 

 

 

 

 

 

Salaries and employee benefits

 

2,215

 

 

 

2,026

 

Occupancy and equipment

 

501

 

 

 

455

 

Data processing equipment and operations

 

258

 

 

 

228

 

Professional fees

 

211

 

 

 

172

 

Marketing, advertising, and business development

 

58

 

 

 

40

 

FDIC insurance assessments

 

142

 

 

 

146

 

Pennsylvania bank shares tax expense

 

98

 

 

 

90

 

Other real estate owned (gains) expense, net

 

(45

)

 

 

32

 

Merger related costs

 

92

 

 

 

 

Other

 

329

 

 

 

309

 

Total Non-Interest Expenses

 

3,859

 

 

 

3,498

 

Income before Income Tax Expense

 

972

 

 

 

1,145

 

Income Tax Expense

 

210

 

 

 

363

 

Net Income

$

762

 

 

$

782

 

Preferred dividends

 

77

 

 

 

77

 

Income to Common Shareholders

$

685

 

 

$

705

 

Income per common share:

 

 

 

 

 

 

 

Basic

$

0.10

 

 

$

0.11

 

Diluted

$

0.10

 

 

$

0.11

 

Weighted average common shares outstanding:

 

 

 

 

 

 

 

Basic

 

6,636

 

 

 

6,534

 

Diluted

 

6,974

 

 

 

6,705

 

 

See notes to unaudited consolidated financial statements.

 

 

 

 

3


First Priority Financial Corp.

Consolidated Statements of Comprehensive Income

(Unaudited, in thousands)

 

 

For the Three Months Ended March 31,

 

 

2018

 

 

2017

 

Net income

$

762

 

 

$

782

 

Other comprehensive (loss) income:

 

 

 

 

 

 

 

Securities available for sale:

 

 

 

 

 

 

 

Change in unrealized (loss) gain on securities available for sale

 

(567

)

 

 

196

 

Reclassification adjustment for realized gains on sale of investment securities included in net income

 

-

 

 

 

(25

)

Tax effect

 

119

 

 

 

(58

)

Net (losses) gains arising during the period

 

(448

)

 

 

113

 

Net unrealized holding losses on securities transferred

   between available for sale and held to maturity:

 

 

 

 

 

 

 

Amortization of net unrealized holding losses to interest and

   dividend income on taxable securities during the period

 

(3

)

 

 

(5

)

Tax effect

 

1

 

 

 

2

 

Net unrealized holding losses on securities

   transferred during the period

 

(2

)

 

 

(3

)

Total other comprehensive (loss) income

 

(450

)

 

 

110

 

Total comprehensive income

$

312

 

 

$

892

 

 

See notes to unaudited consolidated financial statements.

 

 

 

 

4


First Priority Financial Corp.

Consolidated Statements of Shareholders’ Equity

For the Three Months Ended March 31, 2018 and 2017

(Unaudited, dollars in thousands)

 

 

Preferred Stock

 

 

Common Stock

 

 

Surplus

 

 

Accumulated Deficit

 

 

Accumulated Other

Comprehensive

Income (loss)

 

 

Total

 

Balance – December 31, 2016

$

3,404

 

 

$

6,530

 

 

$

40,629

 

 

$

(2,475

)

 

$

(42

)

 

$

48,046

 

Preferred stock dividends

 

 

 

 

 

 

 

 

 

 

(77

)

 

 

 

 

 

(77

)

Issuance of 11,200 shares of restricted common stock, net of forfeitures

 

 

 

 

11

 

 

 

(11

)

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

 

 

 

 

 

782

 

 

 

 

 

 

782

 

Other comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

110

 

 

 

110

 

Stock based compensation expense

 

 

 

 

 

 

 

55

 

 

 

 

 

 

 

 

 

55

 

Balance—March 31, 2017

$

3,404

 

 

$

6,541

 

 

$

40,673

 

 

$

(1,770

)

 

$

68

 

 

$

48,916

 

Balance – December 31, 2017

$

3,404

 

 

$

6,578

 

 

$

40,843

 

 

$

(323

)

 

$

(6

)

 

$

50,496

 

Preferred stock dividends

 

 

 

 

 

 

 

 

 

 

(77

)

 

 

 

 

 

(77

)

Issuance of 7,500 shares of restricted common stock, net of forfeitures

 

 

 

 

7

 

 

 

(7

)

 

 

 

 

 

 

 

 

 

Exercise of 61,000 shares of common stock options

 

 

 

 

61

 

 

 

296

 

 

 

 

 

 

 

 

 

357

 

Net income

 

 

 

 

 

 

 

 

 

 

762

 

 

 

 

 

 

762

 

Other comprehensive loss

 

 

 

 

 

 

 

 

 

 

 

 

 

(450

)

 

 

(450

)

Stock based compensation expense

 

 

 

 

 

 

 

135

 

 

 

 

 

 

 

 

 

135

 

Balance—March 31, 2018

$

3,404

 

 

$

6,646

 

 

$

41,267

 

 

$

362

 

 

$

(456

)

 

$

51,223

 

 

See notes to unaudited consolidated financial statements.

 

 

 

 

5


First Priority Financial Corp.

Consolidated Statements of Cash Flows

(Unaudited, dollars in thousands)

 

 

For the Three Months Ended March 31,

 

 

2018

 

 

2017

 

Cash Flows from Operating Activities

 

 

 

 

 

 

 

Net income

$

762

 

 

$

782

 

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

 

 

 

 

 

 

 

Provision for loan losses

 

20

 

 

 

10

 

Write down of other real estate owned

 

9

 

 

 

11

 

Depreciation and amortization of premises and equipment

 

72

 

 

 

69

 

Net amortization

 

68

 

 

 

97

 

Stock based compensation expense

 

135

 

 

 

55

 

Net amortization of investment securities premiums and discounts

 

34

 

 

 

34

 

Net gains on sales of investment securities

 

 

 

 

(25

)

Net gain on sale of other real estate owned

 

(105

)

 

 

(47

)

Net loss on disposal of premises and equipment

 

 

 

 

1

 

Bank owned life insurance policy income

 

(16

)

 

 

(18

)

Deferred income tax expense

 

105

 

 

 

338

 

Decrease in accrued interest receivable

 

111

 

 

 

57

 

Decrease (increase) in other assets

 

1,007

 

 

 

(404

)

(Increase) decrease in accrued interest payable

 

(3

)

 

 

84

 

Decrease in other liabilities

 

(275

)

 

 

(2,641

)

Net Cash Provided by (Used in) Operating Activities

 

1,924

 

 

 

(1,597

)

Cash Flows from Investing Activities

 

 

 

 

 

 

 

Net repayments in loans

 

610

 

 

 

376

 

Purchases of securities available for sale

 

 

 

 

(7,176

)

Purchases of restricted stock

 

(616

)

 

 

(248

)

Proceeds from maturities or calls of securities available for sale

 

15,993

 

 

 

40,703

 

Proceeds from maturities or calls of securities held to maturity

 

95

 

 

 

95

 

Proceeds from the sale of securities available for sale

 

 

 

 

436

 

Proceeds from the sale of other real estate owned

 

206

 

 

 

860

 

Purchases of premises and equipment

 

(490

)

 

 

(16

)

Net Cash Provided by Investing Activities

 

15,798

 

 

 

35,030

 

Cash Flows from Financing Activities

 

 

 

 

 

 

 

Net (decrease) increase in deposits

 

(11,164

)

 

 

289

 

Net increase in short-term borrowings

 

15,400

 

 

 

6,200

 

Proceeds from the exercise of common stock options

 

357

 

 

 

 

Cash dividends paid on preferred stock

 

(77

)

 

 

(77

)

Net Cash Provided by Financing Activities

 

4,516

 

 

 

6,412

 

Net Increase in Cash and Cash Equivalents

 

22,238

 

 

 

39,845

 

Cash and Cash Equivalents—Beginning

 

8,257

 

 

 

4,761

 

Cash and Cash Equivalents—Ending

$

30,495

 

 

$

44,606

 

Supplementary Disclosures of Cash Flows Information

 

 

 

 

 

 

 

Noncash activity:

 

 

 

 

 

 

 

Trade date accounting for investment securities purchased

$

 

 

$

321

 

Cash paid for interest on deposits and borrowings

$

1,670

 

 

$

1,187

 

Cash paid for income taxes

$

15

 

 

$

25

 

 

See notes to unaudited consolidated financial statements.

 

 

6


First Priority Financial Corp.

Notes to Unaudited Consolidated Financial Statements

 

Note 1—Summary of Significant Accounting Policies

Organization and Nature of Operations

First Priority Financial Corp.

First Priority Financial Corp. (“First Priority” or the “Company”) is a bank holding company incorporated under the laws of the Commonwealth of Pennsylvania on February 13, 2007. On May 11, 2007, as a result of a reorganization and merger, First Priority Bank (the “Bank”) became a wholly-owned subsidiary of First Priority.  First Priority, primarily through the Bank, serves residents and businesses in the Delaware Valley with branches in Berks, Bucks, Chester and Montgomery counties in Pennsylvania.  The Bank, headquartered in Malvern, PA, has eight retail branch office locations and one loan production office and is a locally managed community bank providing commercial banking products, primarily loans and deposits. First Priority provides banking services through the Bank and does not engage in any activities other than banking and related activities.

First Priority Bank

The Bank is a state-chartered commercial banking institution which was incorporated under the laws of the Commonwealth of Pennsylvania on May 25, 2005. The Bank’s deposits are insured by the FDIC up to the maximum amount permitted for all banks.  

The Bank engages in a full service commercial and consumer banking business with strong private banking and individual wealth management services. The Bank offers a variety of consumer, private banking and commercial loans, mortgage products and commercial real estate financing. The Company’s operations are significantly affected by prevailing economic conditions, competition, and the monetary, fiscal, and regulatory policies of governmental agencies. Lending activities are influenced by a number of factors, including the general credit needs of individuals and small and medium-sized businesses in the Company’s market area, competition, the current regulatory environment, the level of interest rates, and the availability of funds. Deposit flows and costs of funds are influenced by prevailing market rates of interest, competition, account maturities, and the level of personal income and savings in the market area.

The Bank also offers certain financial planning and investment management services. These investment services are provided by First Priority Financial Services, a Division of First Priority Bank, through third party providers. In addition, the Bank has entered into solicitation agreements with several investment advisors to provide portfolio management services to customers of the Bank.

The Bank currently seeks deposits and commercial and private banking relationships through its banking offices. The Bank provides deposit products that include checking, money market and savings accounts, and certificates of deposit as well as other deposit services, including cash management, electronic banking and mobile products as well as online account opening capabilities. The Bank obtains funding in the local community by providing excellent service and competitive rates to its customers and utilizes various advertising to attract current and potential deposit customers. The Bank also uses brokered certificates of deposit as a cost effective funding alternative.

Merger with Mid Penn Bancorp, Inc.

As previously announced on January 16, 2018, First Priority entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Mid Penn Bancorp, Inc. (“Mid Penn”) pursuant to which First Priority will merge with and into Mid Penn (the “Merger”), with Mid Penn being the surviving corporation in the Merger. On a pro forma basis, at December 31, 2017, the combined company would have approximately $2.2 billion in total assets, $1.6 billion in loans, $1.8 billion in deposits and $170 million in equity capital.   Under the terms of the Merger Agreement, shareholders of First Priority will receive 0.3481 shares of Mid Penn common stock for each share of First Priority common stock they own. Subject to customary closing conditions including regulatory and shareholder approvals, it is expected that the Merger will be completed in the third quarter of 2018.  The combination would, upon completion, establish a community bank with 37 retail locations serving 12 counties in Pennsylvania and would have a geographical presence in southeastern Pennsylvania in Berks, Bucks Chester and Montgomery counties, central Pennsylvania in Cumberland, Dauphin, Lancaster, Luzerne, Northumberland and Schuylkill counties and western Pennsylvania in Fayette and Westmoreland counties resulting from Mid Penn’s acquisition of Scottdale Bank & Trust on January 8, 2018.

Basis of Presentation

The accompanying unaudited consolidated financial statements consist of the Company and the Company’s wholly owned consolidated subsidiary, the Bank.  All significant intercompany accounts and transactions have been eliminated in consolidation.

 

7


These statements are prepared in accordance with instructions to Form 10-Q, and therefore, do not include information or all footnotes necessary for a complete presentation of financial position, results of operations and cash flows in conformity with accounting principles generally accepted in the United States (“GAAP”). However, all normal recurring adjustments that, in the opinion of management, are necessary for a fair presentation of these financial statements have been included. These financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto for First Priority Financial Corp. for the year ended December 31, 2017, included in the Company’s Form 10-K filed with the Securities and Exchange Commission on March 23, 2018. The results of interim periods presented are not necessarily indicative of the results that may be expected for the year ending December 31, 2018.  

Subsequent Events

Management has evaluated events and transactions occurring subsequent to March 31, 2018 for items that should potentially be recognized or disclosed in these Consolidated Financial Statements. The evaluation was conducted through the date these financial statements were issued.

Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the valuation of acquired loans, the determination of the allowance for loan losses, stock-based compensation, impairment of goodwill, impairment of investments, the valuation of deferred tax assets and the valuation of other real estate owned.

Allowance for Loan Losses

The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded lending commitments. The allowance for loan losses represents management’s estimate of losses inherent in the loan portfolio as of the balance sheet date and is recorded as a reduction to loans. The reserve for unfunded lending commitments, totaling $35 thousand as of both March 31, 2018 and December 31, 2017, represents management’s estimate of potential losses inherent in its unfunded loan commitments and is recorded in other liabilities on the consolidated balance sheets. The allowance for loan losses is increased by the provision for loan losses, and decreased by charge-offs, net of recoveries. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance. All, or part, of the principal balance of loans receivable are charged off to the allowance as soon as it is determined that the repayment of all, or part, of the principal balance is highly unlikely. Because all identified losses are immediately charged off, no portion of the allowance for loan losses is restricted to any individual loan or groups of loans, and the entire allowance is available to absorb any and all loan losses.

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

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as impaired. For loans that are classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers pools of loans by loan class including commercial loans not considered impaired, as well as smaller balance homogeneous loans, such as residential real estate, home equity and other consumer loans. These pools of loans are evaluated for loss exposure based upon historical loss rates for each of these categories of loans, adjusted for qualitative factors. These qualitative risk factors include:

1.

Lending policies and procedures, including underwriting standards and collection, charge-off, and recovery practices.

2.

National, regional, and local economic and business conditions as well as the condition of various market segments, including the value of underlying collateral for collateral dependent loans.

3.

Nature and volume of the portfolio and terms of loans.

4.

Management team with experience, depth, and knowledge in banking and in many areas of lending. Each contributes to the sound credit culture and control within the Company.

5.

Volume and severity of past due, classified and nonaccrual loans as well as other loan modifications.

6.

The Company engages a third party to perform an independent review of the loan portfolio as a measure for quality and consistency in credit evaluation and credit decisions.

 

8


7.

Existence and effect of any concentrations of credit and changes in the level of such concentrations.

8.

Effect of external factors, such as competition and legal and regulatory requirements.

Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation. Adjustments to the factors are supported through documentation of changes in conditions in a narrative accompanying the allowance for loan loss calculation.

A majority of the Company’s loans are to business owners of many types. The Company makes commercial loans for real estate development and other business purposes required by our customers.

The Company’s credit policies determine advance rates against the different forms of collateral that can be pledged against commercial loans. Typically, the majority of loans will be limited to a percentage of their underlying collateral values such as real estate values, equipment, eligible accounts receivable and inventory. Individual loan advance rates may be higher or lower depending upon the financial strength of the borrower and/or term of the loan.

The assets financed through commercial and industrial loans are used within the business for its ongoing operation. Repayment of these kinds of loans generally comes from the cash flow of the business or the ongoing conversions of assets.

Commercial real estate loans include long-term loans financing commercial properties. Repayment of this kind of loan is dependent upon either the ongoing cash flow of the borrowing entity or the resale of or lease of the subject property. Commercial real estate loans typically require a loan to value ratio of not greater than 80% and vary in terms.

Construction loans consists of acquisition, construction and development loans serving a diverse customer base in its primary market areas.  The composition of this portfolio can change based on local economic conditions such as supply and demand, interest rates and real estate values.  The Company typically lends to builders and developers with established relationships, successful operating histories and sound financial resources.

Construction loans include both commercial and residential related loans.  The commercial portion consists of loans for the purpose of acquiring, developing and constructing a commercial-use structure and for the acquisition, development and/or construction of residential properties, such as single-family homes or smaller multi-family buildings, by residential developers and builders.  This may also include the acquisition and development of land on a selective basis.  The residential portion consists of loans for the acquisition of and/or construction on land where a residential dwelling is to be built and occupied by the home-owner.  

Residential mortgages and home equity loans are secured by the borrower’s residential real estate in either a first or second lien position. Residential mortgages and home equity loans have varying loan rates depending on the loan terms. Residential mortgages have amortizations up to 30 years and home equity loans have amortizations up to 15 years.  Residential mortgages and home equity loans typically require a loan to value ratio of not greater than 80%.  

Other consumer loans include installment loans, car loans, and overdraft lines of credit. The majority of these loans are secured.

An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case by case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed.  Impairment is measured on a loan by loan basis by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.  An allowance for loan losses is established for an impaired loan if its carrying value exceeds its estimated fair value. The estimated fair values of substantially all of the Company’s impaired loans are measured based on the estimated fair value of the loan’s collateral.

For commercial loans secured by real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio

 

9


based on the original appraisal and the condition of the property. Appraised values may be discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.

For commercial and industrial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable aging or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets.

The allowance calculation methodology includes further segregation of loan classes into risk rating categories. The borrower’s overall financial condition, repayment sources, guarantors and value of collateral, if appropriate, are evaluated annually for commercial loans or when credit deficiencies arise, such as delinquent loan payments, for commercial and consumer loans. Credit quality risk ratings include regulatory classifications of special mention, substandard, doubtful and loss. Loans criticized special mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects. Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans classified as a loss are considered uncollectible and are charged to the allowance for loan losses. Loans not classified are rated pass.

In addition, Federal regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses and may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination, which may not be currently available to management. Based on management’s comprehensive analysis of the loan portfolio, management believes the current level of the allowance for loan losses is adequate.

Comprehensive Income (Loss)

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

Total reclassifications from accumulated other comprehensive income (loss) for the periods presented are as follows:

 

Details about Accumulated Other Comprehensive Income (Loss) Components

 

Amounts Reclassified from Accumulated

Other Comprehensive Income (Loss)

 

 

Affected Line Item in the

Statement where Net Income

is Presented

 

 

For the Three Months Ended March 31,

 

 

 

 

 

2018

 

 

2017

 

 

 

 

 

(Dollars in thousands)

 

 

 

Sale of investment securities available for sale

 

$

 

 

$

(25

)

 

Gains on sales of investment securities

Amortization of unrealized holding losses on securities transferred from available for sale to held to maturity

 

 

(3

)

 

 

(5

)

 

Interest and dividend Income on taxable securities

Tax effect

 

 

1

 

 

 

10

 

 

Income Tax Expense

Total reclassification

 

$

(2

)

 

$

(20

)

 

 

 

Accumulated other comprehensive income (loss) as of March 31, 2018 and December 31, 2017 consisted of the following:

 

 

 

March 31,

 

 

December 31,

 

 

 

2018

 

 

2017

 

 

 

(Dollars in thousands)

 

Net unrealized loss on available for sale securities

 

$

(453

)

 

$

(4

)

Net unrealized holding loss on securities transferred from available for sale to held to maturity

 

 

(3

)

 

 

(2

)

Total

 

$

(456

)

 

$

(6

)

 

 

10


Note 2—Recently Issued Accounting Standards

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers (Topic 606).” ASU 2014-09 implements a common revenue standard that clarifies the principles for recognizing revenue. The core principle of this ASU is an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, an entity should apply the following steps: (i) identify the contract(s) with a customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) the entity satisfies a performance obligation. First Priority’s revenue is comprised of net interest income on financial assets and liabilities, which is explicitly excluded from the scope of ASU 2014-09, and non-interest income. First Priority adopted this new accounting guidance at January 1, 2018 and is using the modified retrospective approach. The modified retrospective approach uses a cumulative-effect adjustment to retained earnings to reflect uncompleted contracts in the initial application of the guidance. The Company has assessed its revenue streams and has reviewed its contracts with customers that could be affected by the new guidance; including wealth management fees, fees on deposits, gains and losses on the sale of other real estate owned and debit card interchange fees; and there have been no material changes to the timing or amount of revenue recognition.  The adoption of this accounting guidance does not have a significant impact on the Company’s financial condition or results of operations. See Note 10 Revenue Recognition, for more information.

In January 2016, the FASB issued Accounting Standards Update 2016-01, “Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities” (“ASU 2016-01”). ASU 2016-01 changes current U.S. GAAP for public entities by requiring the following, among others: (1) equity securities, except those accounted for under the equity method of accounting, to be measured at fair value with changes in fair value recognized in net income; (2) the use of the exit price when measuring fair value of financial instruments for disclosure purposes; (3) an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value; and (4) separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or notes to the financial statements. ASU 2016-01 is effective for annual periods beginning after December 15, 2017, including interim periods.  The Company does not hold any equity investments (excluding restricted investments in bank stocks) that do not have a readily determinable market value.  Fair values on loans receivable are estimated using a discounted cash flow analysis to achieve an exit price measurement.  See Note 9 Fair Value Measurements and Fair Values of Financial Instruments, for more information.  The Company has determined the implementation of this standard does not have a material impact to the financial statements and disclosures.

In February 2016, the FASB issued ASU No. 2016-02, “Leases”. From the lessee's perspective, the new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement for a lessee. From the lessor's perspective, the new standard requires a lessor to classify leases as either sales-type, finance or operating. A lease will be treated as a sale if it transfers all of the risks and rewards, as well as control of the underlying asset, to the lessee. If risks and rewards are conveyed without the transfer of control, the lease is treated as a financing. If the lessor doesn’t convey risks and rewards or control, an operating lease results. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. A modified retrospective transition approach is required for lessors for sales-type, direct financing, and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Company has nine leases related to its current office locations, all of which are classified as operating leases, which upon implementation of the new standard in January 2019, will result in both a right-of-use asset and a corresponding lease liability in its consolidated balance sheets currently estimated at approximately $6.4 million.  The Company does not expect the implementation of this standard to have a material impact on its consolidated statement of operations.

In September 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326).” The main objective of this ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date.  The amendments in this ASU replace the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates.  For public business entities, this ASU is effective for financial statements issued for fiscal years beginning after December 15, 2019, and interim periods therein.  Early adoption is permitted.  The Company is reviewing our system and data collection to determine necessary changes to our current practice.

 

11


In August 2016, the FASB issued ASU 2016-15, “Classification of Certain Cash Receipts and Cash Payments.”  This ASU clarifies how certain cash receipts and cash payments are presented in the statement of cash flows.  This update addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice.  The Company adopted this ASU beginning January 1, 2018 and has determined that there is no impact on its consolidated financial statements and disclosures. Historically the cash flows, addressed by this standard, have been infrequent and immaterial.

In January 2017, the FASB issued ASU 2017-04, “Intangibles ─ Goodwill and Other (Topic 350).”  This update intends to simplify the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. The amendments in this Update modify the concept of impairment from the condition that exists when the carrying amount of goodwill exceeds its implied fair value to the condition that exists when the carrying amount of a reporting unit exceeds its fair value. For public business entities this ASU is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019, and interim periods therein.  Early adoption is permitted.  The Company does not expect the implementation of this standard to have a material impact on its consolidated statement of operations.

In March 2017, the FASB issued ASU 2017-08, “Premium Amortization on Purchased Callable Debt Securities”, which amends the amortization period for certain purchased callable debt securities held at a premium, shortening such period to the earliest call date. The ASU is effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. For all other entities, the ASU is effective for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. Earlier application is permitted for all entities, including adoption in an interim period. If an entity early adopts the ASU in an interim period, any adjustments must be reflected as of the beginning of the fiscal year that includes that interim period. The Company does not expect the implementation of this standard to have a material impact on its consolidated statement of operations.

In February 2018, the FASB issued ASU No. 2018-02, “Income Statement Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income” (“ASU 2018-02”).  ASU 2018-02 states that an entity may elect to reclassify the income tax effects of the Tax Cuts and Jobs Act on items within accumulated other comprehensive income to retained earnings.  The amendments in this update are effective for all entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years.  Early adoption is permitted, and the Company adopted this accounting guidance effective December 31, 2017.  The amount of this reclassification was immaterial.

Note 3—Earnings Per Common Share

Diluted earnings per common share take into account the potential dilution that could occur if securities or other contracts to issue common stock are exercised and converted into common stock. Proceeds assumed to have been received on such exercise or conversion, are assumed to be used to purchase shares of the Company’s common stock at the average market price during the period, as required by the “treasury stock method” of accounting for common stock equivalents. For purposes of calculating the basic and diluted earnings per share, the Company’s reported net income is adjusted for dividends on preferred stock to determine the net income to common shareholders.  As of March 31, 2018, all outstanding options to purchase common stock are included in the computation of diluted shares; however as of December 31, 2017, 54,029 options to purchase common shares were not included in the computation because to do so would have been anti-dilutive.

 

The calculations of basic and diluted earnings per common share are presented below for the three months ended March 31, 2018 and 2017:

 

 

For the Three Months Ended

March 31,

 

 

(In thousands, except per share information)

 

 

2018

 

 

2017

 

Net income

$

762

 

 

$

782

 

Less: preferred stock dividends, Series C

 

(77

)

 

 

(77

)

Income to common shareholders

$

685

 

 

$

705

 

Average basic common shares outstanding

 

6,636

 

 

 

6,534

 

Effect of dilutive stock options

 

338

 

 

 

171

 

Average number of common shares used to calculate

   diluted earnings per common share

 

6,974

 

 

 

6,705

 

Basic earnings per common share

$

0.10

 

 

$

0.11

 

Diluted earnings per common share

$

0.10

 

 

$

0.11

 

 

 

12


 

Note 4—Securities

The amortized cost, unrealized gains and losses, and the fair value of the Company’s investment securities available for sale and held to maturity are as follows for the periods presented:

 

 

March 31, 2018

 

 

Amortized

Cost

 

 

Gross Unrealized Gains

 

 

Gross Unrealized Losses

 

 

Estimated Fair

Value

 

 

(Dollars in thousands)

 

Available For Sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of U.S. government agencies and corporations

$

5,994

 

 

$

 

 

$

(30

)

 

$

5,964

 

Obligations of states and political subdivisions

 

4,213

 

 

 

60

 

 

 

(7

)

 

 

4,266

 

Federal agency mortgage-backed securities

 

24,563

 

 

 

 

 

 

(671

)

 

 

23,892

 

Federal agency collateralized mortgage obligations

 

101

 

 

 

 

 

 

(2

)

 

 

99

 

Other debt securities

 

1,500

 

 

 

77

 

 

 

 

 

 

1,577

 

Total investment securities available for sale

$

36,371

 

 

$

137

 

 

$

(710

)

 

$

35,798

 

Held To Maturity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of states and political subdivisions

$

18,065

 

 

$

650

 

 

$

(11

)

 

$

18,704

 

Other debt securities

 

483

 

 

 

44

 

 

 

 

 

 

527

 

Total investment securities held to maturity

$

18,548

 

 

$

694

 

 

$

(11

)

 

$

19,231

 

 

 

 

December 31, 2017

 

 

Amortized

Cost

 

 

Gross Unrealized Gains

 

 

Gross Unrealized Losses

 

 

Estimated Fair

Value

 

 

(Dollars in thousands)

 

Available For Sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of U.S. government agencies and corporations

$

20,991

 

 

$

 

 

$

(20

)

 

$

20,971

 

Obligations of states and political subdivisions

 

4,218

 

 

 

168

 

 

 

 

 

 

4,386

 

Federal agency mortgage-backed securities

 

25,524

 

 

 

16

 

 

 

(251

)

 

 

25,289

 

Federal agency collateralized mortgage obligations

 

111

 

 

 

 

 

 

(2

)

 

 

109

 

Other debt securities

 

1,500

 

 

 

83

 

 

 

 

 

 

1,583

 

Money market mutual fund

 

35

 

 

 

 

 

 

 

 

 

35

 

Total investment securities available for sale

$

52,379

 

 

$

267

 

 

$

(273

)

 

$

52,373

 

Held To Maturity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of states and political subdivisions

$

18,183

 

 

$

953

 

 

$

(4

)

 

$

19,132

 

Other debt securities

 

482

 

 

 

51

 

 

 

 

 

 

533

 

Total investment securities held to maturity

$

18,665

 

 

$

1,004

 

 

$

(4

)

 

$

19,665

 

 

The Company previously transferred investment securities from available for sale to held to maturity securities.  Related to these transfers, there were net unrealized holding losses of $5 thousand and $3 thousand, before the impact of taxes, as of March 31, 2018 and December 31, 2017, respectively, which are being amortized over the remaining life of the related securities as an adjustment of yield in a manner consistent with the accretion of discount on the same transferred debt securities. This will have no impact on the Company’s net income because the amortization of the unrealized holding loss reported in equity will offset the effect on the interest income of the accretion of the discount on these securities.

 

13


Included in unrealized losses are market losses on securities that have been in a continuous unrealized loss position for twelve months or more and those securities that have been in a continuous unrealized loss position for less than twelve months. The table below details the aggregate unrealized losses and aggregate fair value of the underlying securities whose fair values are below their amortized cost at March 31, 2018 and December 31, 2017.

 

 

 

As of March 31, 2018

 

 

 

Less than 12 Months

 

 

12 Months or longer

 

 

Total

 

 

 

Fair Value

 

 

Unrealized Losses

 

 

Count

 

 

Fair Value

 

 

Unrealized Losses

 

 

Count

 

 

Fair Value

 

 

Unrealized Losses

 

 

Count

 

 

 

(Dollars in thousands)

 

Available for Sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations of U.S. government agencies and corporations

 

$

3,966

 

 

$

(28

)

 

 

3

 

 

$

1,998

 

 

$

(2

)