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Section 1: 10-Q (10-Q)

Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10 – Q

[X]         QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 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 0-16587 
395618783_sfglogousethisonea58.jpg
Summit Financial Group, Inc.
(Exact name of registrant as specified in its charter)
West Virginia
55-0672148
(State or other jurisdiction of
(IRS Employer
incorporation or organization)
Identification No.)
300 North Main Street
 
Moorefield, West Virginia
26836
(Address of principal executive offices)
(Zip Code)
(304) 530-1000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities and 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 þ
No o

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer o               Accelerated filer þ    Non-accelerated filer o
                  Smaller reporting company o     Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o
No þ

Indicate the number of shares outstanding of each of the issuer’s classes of Common Stock as of the latest practicable date.
Common Stock, $2.50 par value
12,474,062 shares outstanding as of October 31, 2018



Table of Contents


 
 
 
Page
PART  I.
FINANCIAL INFORMATION
 
 
 
 
 
 
Item 1.
Financial Statements
 
 
 
 
 
 
 
Consolidated balance sheets September 30, 2018 (unaudited) and
December 31, 2017
 
 
 
 
 
 
Consolidated statements of income
for the three months and nine months ended September 30, 2018 and 2017 (unaudited)
 
 
 
 
 
 
Consolidated statements of comprehensive income
for the three months and nine months ended September 30, 2018 and 2017 (unaudited)
 
 
 
 
 
 
Consolidated statements of shareholders’ equity
for the nine months ended
September 30, 2018 and 2017 (unaudited)
 
 
 
 
 
 
Consolidated statements of cash flows
for the nine months ended
September 30, 2018 and 2017 (unaudited)
 
 
 
 
 
 
Notes to consolidated financial statements (unaudited)
 
 
 
 
 
Item 2.
Management's Discussion and Analysis of Financial Condition
and Results of Operations
 
 
 
 
 
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
 
 
 
 
 
Item 4.
Controls and Procedures
PART II.
OTHER INFORMATION
 
 
Item 1.
Legal Proceedings
 
 
 
 
 
Item 1A.
Risk Factors
 
 
 
 
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
None
 
 
 
 
 
Item 3.
Defaults upon Senior Securities
None
 
 
 
 
 
Item 4.
Mine Safety Disclosures
None
 
 
 
 
 
Item 5.
Other Information
None
 
 
 
 
 
Item 6.
Exhibits
 
 
 
 
EXHIBIT INDEX
 
 
 
 
 
SIGNATURES
 

2


Item 1. Financial Statements



Consolidated Balance Sheets (unaudited)

 
September 30,
2018
 
December 31,
2017
Dollars in thousands, except per share amounts
(unaudited)
 
(*)
ASSETS
 
 
 

Cash and due from banks
$
9,382

 
$
9,641

Interest bearing deposits with other banks
44,452

 
42,990

Cash and cash equivalents
53,834

 
52,631

Securities available for sale
288,040

 
328,723

Other investments
14,232

 
14,934

Loans held for sale
348

 

Loans, net
1,632,747

 
1,593,744

Property held for sale
22,017

 
21,470

Premises and equipment, net
36,888

 
34,209

Accrued interest receivable
8,630

 
8,329

Goodwill and other intangible assets
26,252

 
27,513

Cash surrender value of life insurance policies
42,208

 
41,358

Other assets
13,531

 
11,329

Total assets
$
2,138,727

 
$
2,134,240

 
 
 
 
LIABILITIES AND SHAREHOLDERS' EQUITY
 

 
 

Liabilities
 

 
 

Deposits
 

 
 

Non interest bearing
$
232,697

 
$
217,493

Interest bearing
1,418,367

 
1,383,108

Total deposits
1,651,064

 
1,600,601

Short-term borrowings
238,403

 
250,499

Long-term borrowings
739

 
45,751

Subordinated debentures owed to unconsolidated subsidiary trusts
19,589

 
19,589

Other liabilities
15,376

 
16,295

Total liabilities
1,925,171

 
1,932,735

 
 
 
 
Commitments and Contingencies


 


 
 
 
 
Shareholders' Equity
 

 
 

Preferred stock, $1.00 par value, authorized 250,000 shares

 

Common stock and related surplus, $2.50 par value; authorized 20,000,000 shares; issued: 2018 - 12,474,062 shares and 2017 - 12,465,296 shares; outstanding: 2018 - 12,382,450 shares and 2017 - 12,358,562
81,822

 
81,098

Unallocated common stock held by Employee Stock Ownership Plan - 2018 - 91,612 shares and 2017 - 106,734 shares
(989
)
 
(1,152
)
Retained earnings
135,628

 
119,827

Accumulated other comprehensive (loss) income
(2,905
)
 
1,732

Total shareholders' equity
213,556

 
201,505

 
 
 
 
Total liabilities and shareholders' equity
$
2,138,727

 
$
2,134,240


(*) - Derived from audited consolidated financial statements



See Notes to Consolidated Financial Statements

Table of Contents
3


Consolidated Statements of Income (unaudited)


 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
Dollars in thousands, (except per share amounts)
 
2018
 
2017
 
2018
 
2017
Interest income
 
 
 
 
 
 
 
 
Interest and fees on loans
 
 
 
 
 
 
 
 
Taxable
 
$
21,154

 
$
19,387

 
$
62,196

 
$
54,487

Tax-exempt
 
141

 
103

 
428

 
391

Interest and dividends on securities
 
 

 
 

 
 

 
 

Taxable
 
1,227

 
1,283

 
3,838

 
3,742

Tax-exempt
 
1,140

 
1,114

 
3,222

 
2,855

Interest on interest bearing deposits with other banks
 
138

 
149

 
412

 
466

Total interest income
 
23,800

 
22,036

 
70,096

 
61,941

Interest expense
 
 

 
 

 
 

 
 

Interest on deposits
 
4,714

 
2,963

 
12,572

 
7,987

Interest on short-term borrowings
 
1,437

 
1,160

 
4,084

 
3,233

Interest on long-term borrowings and subordinated debentures
 
436

 
681

 
1,695

 
2,012

Total interest expense
 
6,587

 
4,804

 
18,351

 
13,232

Net interest income
 
17,213

 
17,232

 
51,745

 
48,709

Provision for loan losses
 
500

 
375

 
1,750

 
875

Net interest income after provision for loan losses
 
16,713

 
16,857

 
49,995

 
47,834

Noninterest income
 
 

 
 

 
 

 
 

Insurance commissions
 
1,062

 
1,043

 
3,188

 
3,000

Trust and wealth management fees
 
687

 
589

 
2,026

 
1,284

Service charges on deposit accounts
 
1,215

 
1,162

 
3,421

 
2,910

Bank card revenue
 
793

 
738

 
2,343

 
1,955

Realized securities gains, net
 
8

 
26

 
828

 
58

Bank owned life insurance income
 
250

 
255

 
773

 
758

Other
 
196

 
187

 
656

 
531

Total noninterest income
 
4,211

 
4,000

 
13,235

 
10,496

Noninterest expenses
 
 

 
 

 
 

 
 

Salaries, commissions and employee benefits
 
6,806

 
6,610

 
20,550

 
18,555

Net occupancy expense
 
856

 
847

 
2,528

 
2,239

Equipment expense
 
1,118

 
1,093

 
3,271

 
2,859

Professional fees
 
503

 
373

 
1,222

 
1,012

Advertising and public relations
 
170

 
137

 
461

 
393

Amortization of intangibles
 
413

 
448

 
1,261

 
974

FDIC premiums
 
210

 
310

 
690

 
815

Bank card expense
 
384

 
395

 
1,080

 
1,113

Foreclosed properties expense, net of losses
 
169

 
233

 
843

 
824

Litigation settlement
 

 

 

 
9,900

Merger-related expenses
 
86

 
11

 
86

 
1,575

Other
 
1,643

 
1,990

 
5,415

 
5,140

Total noninterest expenses
 
12,358

 
12,447

 
37,407

 
45,399

Income before income tax expense
 
8,566

 
8,410

 
25,823

 
12,931

Income tax expense
 
1,667

 
2,480

 
5,201

 
3,339

Net income
 
$
6,899

 
$
5,930

 
$
20,622

 
$
9,592

 
 
 
 
 
 
 
 
 
Basic earnings per common share
 
$
0.56

 
$
0.48

 
$
1.67

 
$
0.81

Diluted earnings per common share
 
$
0.55

 
$
0.48

 
$
1.66

 
$
0.81


See Notes to Consolidated Financial Statements 

Table of Contents
4


Consolidated Statements of Comprehensive Income (unaudited)


 
For the Three Months Ended 
 September 30,
Dollars in thousands
2018
 
2017
Net income
$
6,899

 
$
5,930

Other comprehensive (loss) income:
 

 
 

Net unrealized gain on cashflow hedge of:
2018 - $336, net of deferred taxes of $81; 2017 - $497, net of deferred taxes of $184
255

 
313

Net unrealized (loss) gain on securities available for sale of:
2018 - ($2,861), net of deferred taxes of ($687) and reclassification adjustment for net realized gains included in net income of $8, net of tax of $2; 2017 - $608, net of deferred taxes of $225 and reclassification adjustment for net realized gains included in net income of $26, net of tax of $10
(2,174
)
 
383

Total other comprehensive (loss) income
(1,919
)
 
696

Total comprehensive income
$
4,980

 
$
6,626


 
For the Nine Months Ended 
 September 30,
Dollars in thousands
2018
 
2017
Net income
$
20,622

 
$
9,592

Other comprehensive (loss) income:
 

 
 

Net unrealized gain on cashflow hedge of:
2018 - $1,772, net of deferred taxes of $425; 2017 - $1,556, net of deferred taxes of $576
1,347

 
980

Net unrealized (loss) gain on securities available for sale of:
2018 - ($7,873), net of deferred taxes of ($1,889) and reclassification adjustment for net realized gains included in net income of $828, net of tax of $199; 2017 - $3,892, net of deferred taxes of $1,440 and reclassification adjustment for net realized gains included in net income of $58, net of tax of $21
(5,984
)
 
2,452

Net unrealized gain on other post-retirement benefits of:
2017 - $348, net of deferred taxes of $129

 
219

Total other comprehensive (loss) income
(4,637
)
 
3,651

Total comprehensive income
$
15,985

 
$
13,243




















See Notes to Consolidated Financial Statements

Table of Contents
5


Consolidated Statements of Shareholders’ Equity (unaudited)


Dollars in thousands (except per share amounts)
Common
Stock and
Related
Surplus
 
Unallocated Common Stock Held by ESOP
 
Retained
Earnings
 
Accumulated
Other
Compre-
hensive
(Loss)
Income
 
Total
Share-
holders'
Equity
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2017
$
81,098

 
$
(1,152
)
 
$
119,827

 
$
1,732

 
$
201,505

 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2018
 

 
 
 
 

 
 

 
 

Net income

 

 
20,622

 

 
20,622

Other comprehensive loss

 

 

 
(4,637
)
 
(4,637
)
Exercise of stock options - 1,600 shares
29

 

 

 

 
29

Share-based compensation expense
292

 

 

 

 
292

Unallocated ESOP shares committed to be released - 15,122 shares
224

 
163

 

 

 
387

Common stock issuances from reinvested dividends - 7,166 shares
179

 

 

 

 
179

Common stock cash dividends declared ($0.39 per share)

 

 
(4,821
)
 

 
(4,821
)
Balance, September 30, 2018
$
81,822

 
$
(989
)
 
$
135,628

 
$
(2,905
)
 
$
213,556

 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2016
$
46,757

 
$
(1,583
)
 
$
113,448

 
$
(3,262
)
 
$
155,360

 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2017
 

 
 
 
 

 
 

 
 

Net income

 

 
9,592

 

 
9,592

Other comprehensive income

 

 

 
3,651

 
3,651

Exercise of stock options - 2,000 shares
12

 

 

 

 
12

Share-based compensation expense
285

 

 

 

 
285

Unallocated ESOP shares committed to be released - 29,920 shares
358

 
323

 

 

 
681

Acquisition of First Century Bankshares, Inc. - 1,537,912 shares, net of issuance costs
32,968

 

 

 

 
32,968

Common stock issuances from reinvested dividends - 4,921 shares
116

 

 

 

 
116

Common stock cash dividends declared ($0.33 per share)

 

 
(3,883
)
 

 
(3,883
)
Balance, September 30, 2017
$
80,496

 
$
(1,260
)
 
$
119,157

 
$
389

 
$
198,782





















See Notes to Consolidated Financial Statements

Table of Contents
6


Consolidated Statements of Cash Flows (unaudited)


 
 
Nine Months Ended
Dollars in thousands
 
September 30,
2018
 
September 30,
2017
Cash Flows from Operating Activities
 
 
 
 
Net income
 
$
20,622

 
$
9,592

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

 
 

Depreciation
 
1,609

 
1,364

Provision for loan losses
 
1,750

 
875

Share-based compensation expense
 
292

 
285

Deferred income tax benefit
 
(164
)
 
(364
)
Loans originated for sale
 
(11,197
)
 
(11,305
)
Proceeds from sale of loans
 
11,057

 
11,492

Gains on loans held for sale
 
(208
)
 
(231
)
Realized securities gains, net
 
(828
)
 
(58
)
Loss (gain) on disposal of assets
 
2

 
(93
)
Write-downs of foreclosed properties
 
458

 
538

Amortization of securities premiums, net
 
2,698

 
3,125

Accretion related to acquisitions, net
 
(393
)
 
(870
)
Amortization of intangibles
 
1,261

 
974

Earnings on bank owned life insurance
 
(850
)
 
(425
)
Increase in accrued interest receivable
 
(301
)
 
(752
)
Decrease in other assets
 
115

 
1,808

Increase (decrease) in other liabilities
 
2,172

 
(221
)
Net cash provided by operating activities
 
28,095

 
15,734

Cash Flows from Investing Activities
 
 

 
 

Proceeds from maturities and calls of securities available for sale
 
1,050

 
2,610

Proceeds from sales of securities available for sale
 
92,048

 
131,345

Principal payments received on securities available for sale
 
19,770

 
24,349

Purchases of securities available for sale
 
(81,929
)
 
(118,346
)
Purchases of other investments
 
(9,922
)
 
(13,116
)
Proceeds from redemptions of other investments
 
9,665

 
13,274

Net loan originations
 
(42,807
)
 
(26,099
)
Purchases of premises and equipment
 
(4,288
)
 
(5,672
)
Proceeds from disposal of premises and equipment
 
12

 

Improvements to property held for sale
 
(1,118
)
 
(269
)
Proceeds from sales of repossessed assets & property held for sale
 
1,723

 
4,463

Cash and cash equivalents acquired in acquisition, net of $14,989 cash consideration paid
 

 
39,053

Net cash (used in) provided by investing activities
 
(15,796
)
 
51,592

Cash Flows from Financing Activities
 
 

 
 

Net increase (decrease) in demand deposit, NOW and savings accounts
 
53,110

 
(9,812
)
Net decrease in time deposits
 
(2,485
)
 
(19,305
)
Net decrease in short-term borrowings
 
(12,096
)
 
(28,782
)
Repayment of long-term borrowings
 
(45,012
)
 
(915
)
Net proceeds from issuance of common stock
 
179

 
(43
)
Exercise of stock options
 
29

 
12

Dividends paid on common stock
 
(4,821
)
 
(3,883
)
Net cash used in financing activities
 
(11,096
)
 
(62,728
)
Increase in cash and cash equivalents
 
1,203

 
4,598

Cash and cash equivalents:
 
 

 
 

Beginning
 
52,631

 
46,616

Ending
 
$
53,834

 
$
51,214

 
(Continued)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
See Notes to Consolidated Financial Statements
 
 
 
 

Table of Contents
7


Consolidated Statements of Cash Flows (unaudited) - continued


 
 
Nine Months Ended
Dollars in thousands
 
September 30,
2018
 
September 30,
2017
Supplemental Disclosures of Cash Flow Information
 
 
 
 
Cash payments for:
 
 
 
 
Interest
 
$
18,199

 
$
13,055

Income taxes
 
$
5,674

 
$
3,557

 
 
 
 
 
Supplemental Disclosures of Noncash Investing and Financing Activities
 
 
 
 

Real property and other assets acquired in settlement of loans
 
$
1,542

 
$
289























































See Notes to Consolidated Financial Statements

Table of Contents
8



NOTE 1.  BASIS OF PRESENTATION

We, Summit Financial Group, Inc. and subsidiaries, prepare our consolidated financial statements in accordance with accounting principles generally accepted in the United States of America for interim financial information and with instructions to Form 10-Q and Regulation S-X.  Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for annual year end financial statements.  In our opinion, all adjustments considered necessary for a fair presentation have been included and are of a normal recurring nature.

The presentation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us 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 materially from these estimates.

The results of operations for the three and nine months ended September 30, 2018 are not necessarily indicative of the results to be expected for the full year.  The consolidated financial statements and notes included herein should be read in conjunction with our 2017 audited financial statements and Annual Report on Form 10-K. 

NOTE 2.  SIGNIFICANT NEW AUTHORITATIVE ACCOUNTING GUIDANCE

Recently Adopted
We adopted ASU 2014-09, Revenue from Contracts with Customers: Topic 606, and its related amendments on its required effective date of January 1, 2018 utilizing the modified retrospective approach. Since there was no net income impact upon adoption of the new guidance, a cumulative effect adjustment to opening retained earnings was not deemed necessary. We concluded that ASU 2014-09 did not materially change the method in which we currently recognize revenue for these revenue streams. We also completed our evaluation of certain costs related to these revenue streams to determine whether such costs should be presented as expenses or contra-revenue (i.e., gross vs. net). Based on our evaluation, we determined that any classification changes were immaterial to both revenue and expense.
ASU 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, among other things, (i) requires equity investments, with certain exceptions, to be measured at fair value with changes in fair value recognized in net income, (ii) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment, (iii) eliminates the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet, (iv) requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes, (v) requires 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 in accordance with the fair value option for financial instruments, (vi) requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or the accompanying notes to the financial statements and (viii) clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale. ASU 2016-01 was effective for us on January 1, 2018 and did not have a significant impact on our financial statements. In accordance with (iv) above, we measure the fair value of our loan portfolio using exit price notion (see Note 3. Fair Value Measurements).

Pending Adoption
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). Among other things, in the amendments in ASU 2016-02, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date: (1) A lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) A right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. Certain targeted improvements were made to align, where necessary, lessor accounting with the lessee accounting model and Topic 606, Revenue from Contracts with Customers. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted upon issuance. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach.

Table of Contents
9


The FASB made subsequent amendments to Topic 842 in July 2018 through ASU 2018-10 Codification Improvements to Topic 842, Leases. and ASU 2018-11 Leases (Topic 842): Targeted Improvements. Among these amendments is the provision in ASU 2018-11 that provides entities with an additional (and optional) transition method to adopt the new leases standard. Under this new transition method, an entity initially applies the new leases standard at the adoption date and recognizes a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. Consequently, an entity’s reporting for the comparative periods presented in the financial statements in which it adopts the new leases standard will continue to be in accordance with current GAAP (Topic 840, Leases). While we are currently assessing the impact of the adoption of this pronouncement, we expect the primary impact to our consolidated financial position upon adoption will be the recognition, on a discounted basis, of our minimum commitments under non-cancellable operating leases on our consolidated balance sheets resulting in the recording of right of use assets and lease obligations. Our current minimum commitments under long-term operating leases are disclosed in Note 12, Commitments and Contingencies.
During June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments. The amendments in this ASU, 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 amendments in this ASU are effective for SEC filers for fiscal years and interim periods within those fiscal years, beginning after December 15, 2019. We will adopt the guidance by the first quarter of 2020 with a cumulative-effect adjustment to retained earnings as of the beginning of the year of adoption. In this regard, we have a cross-functional implementation team comprised of personnel from risk management, operations and information technology, loan administration and finance and engaged a third-party to assist us. The team has developed a project plan, identified key decision points and prepared a readiness assessment and gap analysis relative to required data which serves to direct our areas of focus. In addition, we have collected applicable historical data and made preliminary decisions regarding methodology and loan pool structures. We will continue to evaluate the impact the new standard will have on our consolidated financial statements as the final impact will be dependent, among other items, upon the loan portfolio composition and credit quality at the adoption date, as well as economic conditions, financial models used and forecasts at that time.
In March of 2017, the FASB issued ASU No. 2017-08, Receivables-Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities. This guidance shortens the amortization period for premiums on certain callable debt securities to the earliest call date (with an explicit, noncontingent call feature that is callable at a fixed price and on a preset date), rather than contractual maturity date as currently required under GAAP. The ASU does not impact instruments without preset call dates such as mortgage-backed securities.  For instruments with contingent call features, once the contingency is resolved and the security is callable at a fixed price and preset date, the security is within the scope of the ASU.  ASU 2017-08 is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, and early adoption is permitted.  The adoption of the new pronouncement will not have a significant impact on our consolidated financial statements.

In August 2017, the FASB issued ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities which will make more financial and nonfinancial hedging strategies eligible for hedge accounting. It also amends the presentation and disclosure requirements and changes how companies assess effectiveness. It is intended to more closely align hedge accounting with companies’ risk management strategies, simplify the application of hedge accounting, and increase transparency as to the scope and results of hedging programs. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted, including adoption in an interim period. We do not expect it to have a material impact on our consolidated financial statements.

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement. The amendments modify the disclosure requirements in Topic 820 to add disclosures regarding changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty. Certain disclosure requirements in Topic 820 are also removed or modified. The amendments are effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Certain of the amendments are to be applied prospectively while others are to be applied retrospectively. Early adoption is permitted. We do not expect the adoption of ASU 2018-13 to have a material impact on our consolidated financial statements.




10


NOTE 3.  FAIR VALUE MEASUREMENTS

The table below presents the recorded amount of assets and liabilities measured at fair value on a recurring basis.
 
Balance at
 
Fair Value Measurements Using:
Dollars in thousands
September 30, 2018
 
Level 1
 
Level 2
 
Level 3
Securities available for sale
 
 
 
 
 
 
 
U.S. Government sponsored agencies
$
27,279

 
$

 
$
27,279

 
$

Mortgage backed securities:
 

 
 

 
 

 
 

Government sponsored agencies
72,942

 

 
72,942

 

Nongovernment sponsored entities
685

 

 
685

 

State and political subdivisions
18,774

 

 
18,774

 

Corporate debt securities
11,687

 

 
11,687

 

Asset-backed securities
21,792

 

 
21,792

 

Other equity securities
137

 

 
137

 

Tax-exempt state and political subdivisions
134,744

 

 
134,744

 

Total securities available for sale
$
288,040

 
$

 
$
288,040

 
$

 
 
 
 
 
 
 
 
Derivative financial assets
 
 
 
 
 
 
 
Interest rate swaps
$
1,063

 
$

 
$
1,063

 
$

 
 
 
 
 
 
 
 
Derivative financial liabilities
 

 
 

 
 

 
 

Interest rate swaps
$
284

 
$

 
$
284

 
$



 
Balance at
 
Fair Value Measurements Using:
Dollars in thousands
December 31, 2017
 
Level 1
 
Level 2
 
Level 3
Securities available for sale
 
 
 
 
 
 
 
U.S. Government sponsored agencies
$
31,613

 
$

 
$
31,613

 
$

Mortgage backed securities:
 

 
 

 
 

 
 

Government sponsored agencies
121,321

 

 
121,321

 

Nongovernment sponsored entities
2,077

 

 
2,077

 

State and political subdivisions
17,677

 

 
17,677

 

Corporate debt securities
16,245

 

 
16,245

 

Other equity securities
137

 

 
137

 

Tax-exempt state and political subdivisions
139,653

 

 
139,653

 

Total securities available for sale
$
328,723

 
$

 
$
328,723

 
$

 
 
 
 
 
 
 
 
Derivative financial assets
 
 
 
 
 
 
 
Interest rate swaps
$
312

 
$

 
$
312

 
$

 
 
 
 
 
 
 
 
Derivative financial liabilities
 

 
 

 
 

 
 

Interest rate swaps
$
2,057

 
$

 
$
2,057

 
$



We may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. generally accepted accounting principles.  These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period.  Assets measured at fair value on a nonrecurring basis are included in the table below.

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11


 
Balance at
 
Fair Value Measurements Using:
Dollars in thousands
September 30, 2018
 
Level 1
 
Level 2
 
Level 3
Residential mortgage loans held for sale
$
348

 
$

 
$
348

 
$

 
 
 
 
 
 
 
 
Collateral-dependent impaired loans
 

 
 

 
 

 
 

Commercial
$
57

 
$

 
$
8

 
$
49

Commercial real estate
437

 
$

 
437

 

Construction and development
297

 
$

 
297

 

Residential real estate
721

 

 
721

 

Total collateral-dependent impaired loans
$
1,512

 
$

 
$
1,463

 
$
49

 
 
 
 
 
 
 
 
Property held for sale
 

 
 

 
 

 
 

Commercial real estate
$
1,677

 
$

 
$
1,677

 
$

Construction and development
16,526

 

 
16,526

 

Residential real estate
403

 

 
403

 

Total property held for sale
$
18,606

 
$

 
$
18,606

 
$



 
Balance at
 
Fair Value Measurements Using:
Dollars in thousands
December 31, 2017
 
Level 1
 
Level 2
 
Level 3
Residential mortgage loans held for sale
$

 
$

 
$

 
$

 
 
 
 
 
 
 
 
Collateral-dependent impaired loans
 

 
 

 
 

 
 

Commercial real estate
$
518

 
$

 
$
518

 
$

Construction and development
940

 

 
940

 

Residential real estate
203

 

 
203

 

Total collateral-dependent impaired loans
$
1,661

 
$

 
$
1,661

 
$

 
 
 
 
 
 
 
 
Property held for sale
 

 
 

 
 

 
 

Commercial real estate
$
1,493

 
$

 
$
1,493

 
$

Construction and development
16,177

 

 
16,177

 

Residential real estate
322

 

 
322

 

Total property held for sale
$
17,992

 
$

 
$
17,992

 
$




Table of Contents
12


The carrying values and estimated fair values of our financial instruments are summarized below:
 
 
September 30, 2018
 
Fair Value Measurements Using:
Dollars in thousands
 
Carrying
Value
 
Estimated
Fair
Value
 
Level 1
Level 2
Level 3
Financial assets
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
$
53,834

 
$
53,834

 
$

$
53,834

$

Securities available for sale
 
288,040

 
288,040

 

288,040


Other investments
 
14,232

 
14,232

 

14,232


Loans held for sale, net
 
348

 
348

 

348


Loans, net
 
1,632,747

 
1,610,856

 

1,463

1,609,393

Accrued interest receivable
 
8,630

 
8,630

 

8,630


Derivative financial assets
 
1,063

 
1,063

 

1,063


 
 
$
1,998,894

 
$
1,977,003

 
$

$
367,610

$
1,609,393

Financial liabilities
 
 

 
 

 
 

 

 
Deposits
 
$
1,651,064

 
$
1,648,845

 
$

$
1,648,845

$

Short-term borrowings
 
238,403

 
238,403

 

238,403


Long-term borrowings
 
739

 
834

 

834


Subordinated debentures owed to unconsolidated subsidiary trusts
 
19,589

 
19,589

 

19,589


Accrued interest payable
 
1,068

 
1,068

 

1,068


Derivative financial liabilities
 
284

 
284

 

284


 
 
$
1,911,147

 
$
1,909,023

 
$

$
1,909,023

$


 
 
December 31, 2017
 
Fair Value Measurements Using:
Dollars in thousands
 
Carrying
Value
 
Estimated
Fair
Value
 
Level 1
Level 2
Level 3
Financial assets
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
$
52,631

 
$
52,631

 
$

$
52,631

$

Securities available for sale
 
328,723

 
328,723

 

328,723


Other investments
 
14,934

 
14,934

 

14,934


Loans held for sale, net
 

 

 



Loans, net
 
1,593,744

 
1,592,821

 

1,661

1,591,160

Accrued interest receivable
 
8,329

 
8,329

 

8,329


Derivative financial assets
 
312

 
312

 

312


 
 
$
1,998,673

 
$
1,997,750

 
$

$
406,590

$
1,591,160

Financial liabilities
 
 

 
 

 
 

 

 
Deposits
 
$
1,600,601

 
$
1,620,033

 
$

$
1,620,033

$

Short-term borrowings
 
250,499

 
250,499

 

250,499


Long-term borrowings
 
45,751

 
46,530

 

46,530


Subordinated debentures owed to unconsolidated subsidiary trusts
 
19,589

 
19,589

 

19,589


Accrued interest payable
 
987

 
987

 

987


Derivative financial liabilities
 
2,057

 
2,057

 

2,057


 
 
$
1,919,484

 
$
1,939,695

 
$

$
1,939,695

$




Table of Contents
13


NOTE 4.  EARNINGS PER SHARE

The computations of basic and diluted earnings per share follow:
 
 
For the Three Months Ended September 30,
 
 
2018
 
2017
Dollars in thousands,
except per share amounts
 
Income
(Numerator)
 
Common
Shares
(Denominator)
 
Per
Share
 
Income
(Numerator)
 
Common
Shares
(Denominator)
 
Per
Share
Net income
 
$
6,899

 
 
 
 
 
$
5,930

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Basic earnings per share
 
$
6,899

 
12,374,350

 
$
0.56

 
$
5,930

 
12,299,987

 
$
0.48

 
 
 
 
 
 
 
 
 
 
 
 
 
Effect of dilutive securities:
 
 
 
 
 
 

 
 
 
 
 
 

Stock options
 
 
 
7,349

 
 

 
 
 
10,911

 
 

Stock appreciation rights (SARs)
 
 
 
57,352

 
 
 
 
 
8,061

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Diluted earnings per share
 
$
6,899

 
12,439,051

 
$
0.55

 
$
5,930

 
12,318,959

 
$
0.48


 
 
For the Nine Months Ended September 30,
 
 
2018
 
2017
Dollars in thousands,
except per share amounts
 
Income
(Numerator)
 
Common
Shares
(Denominator)
 
Per
Share
 
Income
(Numerator)
 
Common
Shares
(Denominator)
 
Per
Share
Net income
 
$
20,622

 
 
 
 
 
$
9,592

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Basic earnings per share
 
$
20,622

 
12,366,612

 
$
1.67

 
$
9,592

 
11,781,342

 
$
0.81

 
 
 
 
 
 
 
 
 
 
 
 
 
Effect of dilutive securities:
 
 

 
 
 
 

 
 
 
 
 
 

Stock options
 
 
 
7,561

 
 

 
 
 
11,336

 
 

Stock appreciation rights (SARs)
 
 
 
56,054

 
 
 
 
 
14,324

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Diluted earnings per share
 
$
20,622

 
12,430,227

 
$
1.66

 
$
9,592

 
11,807,002

 
$
0.81



Stock option and stock appreciation right (SAR) grants are disregarded in this computation if they are determined to be anti-dilutive.  Our anti-dilutive stock options for the three and nine months ended September 30, 2018 were 15,600 shares and for the three and nine months ended September 30, 2017 were 23,400 shares. Our anti-dilutive SARs for the three and nine months ended September 30, 2018 and September 30, 2017 were 87,615.


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14


NOTE 5.  SECURITIES

The amortized cost, unrealized gains, unrealized losses and estimated fair values of securities at September 30, 2018 and December 31, 2017 are summarized as follows:
 
September 30, 2018
 
Amortized
 
Unrealized
 
Estimated
Dollars in thousands
Cost
 
Gains
 
Losses
 
Fair Value
Available for Sale
 
 
 
 
 
 
 
Taxable debt securities
 
 
 
 
 
 
 
U.S. Government and agencies and corporations
$
27,504

 
$
163

 
$
388

 
$
27,279

Residential mortgage-backed securities:
 

 
 

 
 

 
 

Government-sponsored agencies
73,931

 
557

 
1,546

 
72,942

Nongovernment-sponsored entities
682

 
4

 
1

 
685

State and political subdivisions
 

 
 

 
 

 
 

General obligations
6,084

 

 
266

 
5,818

Other revenues
13,462

 

 
506

 
12,956

Corporate debt securities
11,914

 

 
227

 
11,687

Asset-backed securities
21,861

 
10

 
79

 
21,792

Total taxable debt securities
155,438

 
734

 
3,013

 
153,159

Tax-exempt debt securities
 

 
 

 
 

 
 

State and political subdivisions
 

 
 

 
 

 
 

General obligations
72,299

 
239

 
1,200

 
71,338

Water and sewer revenues
18,921

 
75

 
214

 
18,782

Lease revenues
13,305

 
32

 
57

 
13,280

Electric revenues
4,170

 
15

 
63

 
4,122

Other revenues
27,828

 
27

 
633

 
27,222

Total tax-exempt debt securities
136,523

 
388

 
2,167

 
134,744

Equity securities
137

 

 

 
137

Total securities available for sale
$
292,098

 
$
1,122

 
$
5,180

 
$
288,040


 
December 31, 2017
 
Amortized
 
Unrealized
 
Estimated
Dollars in thousands
Cost
 
Gains
 
Losses
 
Fair Value
Available for Sale
 
 
 
 
 
 
 
Taxable debt securities
 
 
 
 
 
 
 
U.S. Government and agencies and corporations
$
31,260

 
$
498

 
$
145

 
$
31,613

Residential mortgage-backed securities:
 

 
 

 
 

 
 

Government-sponsored agencies
120,948

 
1,276

 
903

 
121,321

Nongovernment-sponsored entities
2,045

 
39

 
7

 
2,077

State and political subdivisions
 

 
 

 
 

 
 

General obligations
6,090

 

 
55

 
6,035

Other revenues
11,657

 
47

 
62

 
11,642

Corporate debt securities
16,375

 

 
130

 
16,245

Total taxable debt securities
188,375

 
1,860

 
1,302

 
188,933

Tax-exempt debt securities
 

 
 

 
 

 
 

State and political subdivisions
 

 
 

 
 

 
 

General obligations
65,560

 
1,530

 
198

 
66,892

Water and sewer revenues
23,108

 
566

 
3

 
23,671

Lease revenues
13,024

 
451

 
2

 
13,473

Electric revenues
6,205

 
128

 

 
6,333

Sales tax revenues
4,126

 
140

 

 
4,266

University revenues
5,272

 
38

 
9

 
5,301

Other revenues
19,101

 
616

 

 
19,717

Total tax-exempt debt securities
136,396

 
3,469

 
212

 
139,653

Equity securities
137

 

 

 
137

Total securities available for sale
$
324,908