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Section 1: 10-Q (FORM 10-Q)

Document
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
þ
 
Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2019
OR
¨
 
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission file number 001-34095
FIRST BUSINESS FINANCIAL SERVICES, INC.
(Exact name of registrant as specified in its charter)
Wisconsin
 
39-1576570
 
 
 
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
401 Charmany Drive, Madison, WI
 
53719
 
 
 
(Address of Principal Executive Offices)
 
(Zip Code)
(608) 238-8008
Registrant’s telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act:
 
 
 
 
 
Title of each class
 
Trading Symbol(s)
 
Name of each exchange on which registered
Common Stock, $0.01 par value
 
FBIZ
 
The Nasdaq Stock Market LLC
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and such files). Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or 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. (Check one):
Large accelerated filer ¨
 
Accelerated filer þ
 
Non-accelerated filer ¨
 
Smaller reporting company þ
 
Emerging growth company ¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
The number of shares outstanding of the registrant’s sole class of common stock, par value $0.01 per share, on October 18, 2019 was 8,589,422 shares.


Table of Contents

FIRST BUSINESS FINANCIAL SERVICES, INC.
INDEX — FORM 10-Q






Table of Contents

PART I. Financial Information
Item 1. Financial Statements
First Business Financial Services, Inc.
Consolidated Balance Sheets
 
 
September 30,
2019
 
December 31,
2018
 
 
(Unaudited)
 
 
 
(In Thousands, Except Share Data)
Assets
 
 
 
 
Cash and due from banks
 
$
33,594

 
$
23,319

Short-term investments
 
27,364

 
63,227

Cash and cash equivalents
 
60,958

 
86,546

Securities available-for-sale, at fair value
 
160,665

 
138,358

Securities held-to-maturity, at amortized cost
 
33,400

 
37,731

Loans held for sale
 
3,070

 
5,287

Loans and leases receivable, net of allowance for loan and lease losses of $20,170 and $20,425, respectively
 
1,700,372

 
1,597,230

Premises and equipment, net
 
2,740

 
3,284

Foreclosed properties
 
2,902

 
2,547

Right-of-use assets
 
7,524

 

Bank-owned life insurance
 
42,432

 
41,538

Federal Home Loan Bank stock, at cost
 
8,315

 
7,240

Goodwill and other intangible assets
 
11,946

 
12,045

Accrued interest receivable and other assets
 
58,469

 
34,651

Total assets
 
$
2,092,793

 
$
1,966,457

Liabilities and Stockholders’ Equity
 
 
 
 
Deposits
 
$
1,508,816

 
$
1,455,299

Federal Home Loan Bank advances and other borrowings
 
332,897

 
298,944

Junior subordinated notes
 
10,044

 
10,033

Lease liabilities
 
7,866

 

Accrued interest payable and other liabilities
 
42,378

 
21,474

Total liabilities
 
1,902,001

 
1,785,750

Stockholders’ equity:
 
 
 
 
Preferred stock, $0.01 par value, 2,500,000 shares authorized, none issued or outstanding
 

 

Common stock, $0.01 par value, 25,000,000 shares authorized, 9,157,010 and 9,069,199 shares issued, 8,636,085 and 8,785,480 shares outstanding at September 30, 2019 and December 31, 2018, respectively
 
92

 
91

Additional paid-in capital
 
80,740

 
79,623

Retained earnings
 
124,628

 
110,310

Accumulated other comprehensive loss
 
(1,655
)
 
(1,684
)
Treasury stock, 520,925 and 283,719 shares at September 30, 2019 and December 31, 2018, respectively, at cost
 
(13,013
)
 
(7,633
)
Total stockholders’ equity
 
190,792

 
180,707

Total liabilities and stockholders’ equity
 
$
2,092,793

 
$
1,966,457


See accompanying Notes to Unaudited Consolidated Financial Statements.


1

Table of Contents

First Business Financial Services, Inc.
Consolidated Statements of Income (Unaudited)
 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
 
2019
 
2018
 
2019
 
2018
 
 
(In Thousands, Except Per Share Data)
Interest income
 
 
 
 
 
 
 
 
Loans and leases
 
$
23,922

 
$
22,266

 
$
72,033

 
$
63,171

Securities
 
1,194

 
1,002

 
3,464

 
2,796

Short-term investments
 
322

 
295

 
930

 
787

Total interest income
 
25,438

 
23,563

 
76,427

 
66,754

Interest expense
 
 
 
 
 
 
 
 
Deposits
 
6,006

 
4,232

 
18,060

 
10,271

Federal Home Loan Bank advances and other borrowings
 
2,376

 
1,957

 
6,153

 
5,424

Junior subordinated notes
 
280

 
280

 
832

 
832

Total interest expense
 
8,662

 
6,469

 
25,045

 
16,527

Net interest income
 
16,776

 
17,094

 
51,382

 
50,227

Provision for loan and lease losses
 
1,349

 
(546
)
 
613

 
4,508

Net interest income after provision for loan and lease losses
 
15,427

 
17,640

 
50,769

 
45,719

Non-interest income
 
 
 
 
 
 
 
 
Trust and investment service fees
 
2,060

 
1,941

 
6,125

 
5,826

Gain on sale of Small Business Administration loans
 
454

 
641

 
993

 
1,184

Service charges on deposits
 
795

 
788

 
2,314

 
2,292

Loan fees
 
439

 
459

 
1,316

 
1,375

Increase in cash surrender value of bank-owned life insurance
 
305

 
301

 
894

 
890

Net loss on sale of securities
 
(4
)
 

 
(5
)
 

Commercial loan swap fees
 
374

 
306

 
1,898

 
1,009

Other non-interest income
 
1,369

 
435

 
2,699

 
943

Total non-interest income
 
5,792

 
4,871

 
16,234

 
13,519

Non-interest expense
 
 
 
 
 
 
 
 
Compensation
 
10,324

 
9,819

 
30,991

 
28,006

Occupancy
 
580

 
560

 
1,730

 
1,632

Professional fees
 
751

 
1,027

 
2,745

 
2,990

Data processing
 
654

 
512

 
1,923

 
1,748

Marketing
 
548

 
593

 
1,611

 
1,518

Equipment
 
277

 
403

 
938

 
1,089

Computer software
 
859

 
814

 
2,485

 
2,235

FDIC insurance
 
1

 
457

 
595

 
1,125

Collateral liquidation costs
 
110

 
230

 
108

 
454

Net loss on foreclosed properties
 
262

 
30

 
241

 
30

Tax credit investment (recovery) impairment
 
(120
)
 
113

 
3,982

 
554

SBA recourse (benefit) provision
 
(427
)
 
314

 
167

 
118

Other non-interest expense
 
897

 
874

 
2,406

 
2,621

Total non-interest expense
 
14,716

 
15,746

 
49,922

 
44,120

Income before income tax expense (benefit)
 
6,503

 
6,765

 
17,081

 
15,118

Income tax expense (benefit)
 
1,418

 
1,464

 
(475
)
 
2,879

Net income
 
$
5,085

 
$
5,301

 
$
17,556

 
$
12,239


2

Table of Contents

Earnings per common share
 
 
 
 
 
 
 
 
Basic
 
$
0.59

 
$
0.60

 
$
2.01

 
$
1.40

Diluted
 
0.59

 
0.60

 
2.01

 
1.40

Dividends declared per share
 
0.15

 
0.14

 
0.45

 
0.42


See accompanying Notes to Unaudited Consolidated Financial Statements.

3

Table of Contents

First Business Financial Services, Inc.
Consolidated Statements of Comprehensive Income (Unaudited)

 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
 
2019
 
2018
 
2019
 
2018
 
 
(In Thousands)
Net income
 
$
5,085

 
$
5,301

 
$
17,556

 
$
12,239

Other comprehensive income, before tax
 
 
 
 
 
 
 
 
Securities available-for-sale:
 
 
 
 
 
 
 
 
Unrealized securities gains (losses) arising during the period
 
68

 
(634
)
 
3,307

 
(2,524
)
Securities held-to-maturity:
 
 
 
 
 
 
 
 
Amortization of net unrealized losses transferred from available-for-sale
 
14

 
18

 
42

 
54

Interest rate swaps:
 
 
 
 
 
 
 
 
Unrealized (losses) gains on interest rate swaps arising during the period
 
(846
)
 
382

 
(3,310
)
 
1,412

Income tax benefit (expense)
 
195

 
58

 
(10
)
 
296

     Total other comprehensive (loss) income
 
(569
)
 
(176
)
 
29

 
(762
)
Comprehensive income
 
$
4,516

 
$
5,125

 
$
17,585

 
$
11,477


See accompanying Notes to Unaudited Consolidated Financial Statements.

4

Table of Contents

First Business Financial Services, Inc.
Consolidated Statements of Changes in Stockholders’ Equity (Unaudited)

 
 
Common Shares Outstanding
 
Common
Stock
 
Additional
Paid-in
Capital
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Loss
 
Treasury
Stock
 
Total
 
 
(In Thousands, Except Share Data)
Balance at January 1, 2018
 
8,763,539

 
$
90

 
$
78,620

 
$
98,906

 
$
(1,238
)
 
$
(7,100
)
 
$
169,278

Net income
 

 

 

 
3,649

 

 

 
3,649

Other comprehensive loss
 

 

 

 

 
(503
)
 

 
(503
)
Share-based compensation - restricted shares, net
 
1,055

 

 
286

 

 

 

 
286

Cash dividends ($0.14 per share)
 

 

 

 
(1,226
)
 

 

 
(1,226
)
Treasury stock purchased
 
(174
)
 

 

 

 

 
(4
)
 
(4
)
Balance at March 31, 2018
 
8,764,420

 
90

 
78,906

 
101,329

 
(1,741
)
 
(7,104
)
 
171,480

Net income
 

 

 

 
3,289

 

 

 
3,289

Other comprehensive loss
 

 

 

 

 
(83
)
 

 
(83
)
Share-based compensation - restricted shares, net
 
(4,087
)
 

 
220

 

 

 

 
220

Cash dividends ($0.14 per share)
 

 

 

 
(1,227
)
 

 

 
(1,227
)
Treasury stock purchased
 
(230
)
 

 

 

 

 
(7
)
 
(7
)
Balance at June 30, 2018
 
8,760,103

 
90

 
79,126

 
103,391

 
(1,824
)
 
(7,111
)
 
173,672

Net income
 

 

 

 
5,301

 

 

 
5,301

Other comprehensive loss
 

 

 

 

 
(176
)
 

 
(176
)
Share-based compensation - restricted shares, net
 
45,831

 
1

 
243

 

 

 

 
244

Cash dividends ($0.14 per share)
 

 

 

 
(1,232
)
 

 

 
(1,232
)
Treasury stock purchased
 
(11,993
)
 

 

 

 

 
(267
)
 
(267
)
Balance at September 30, 2018
 
8,793,941

 
$
91

 
$
79,369

 
$
107,460

 
$
(2,000
)
 
$
(7,378
)
 
$
177,542



5

Table of Contents

 
 
Common Shares Outstanding
 
Common
Stock
 
Additional
Paid-in
Capital
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Loss (Income)
 
Treasury
Stock
 
Total
 
 
(In Thousands, Except Share Data)
Balance at January 1, 2019
 
8,785,480

 
$
91

 
$
79,623

 
$
110,310

 
$
(1,684
)
 
$
(7,633
)
 
$
180,707

Cumulative effect of adoption of ASC Topic 842
 

 

 

 
687

 

 

 
687

Net income
 

 

 

 
5,899

 

 

 
5,899

Other comprehensive income
 

 

 

 

 
279

 

 
279

Share-based compensation - restricted shares, net
 
49,730

 

 
318

 

 

 

 
318

Cash dividends ($0.15 per share)
 

 

 

 
(1,312
)
 

 

 
(1,312
)
Treasury stock purchased
 
(70,074
)
 

 

 

 

 
(1,478
)
 
(1,478
)
Balance at March 31, 2019
 
8,765,136

 
91

 
79,941

 
115,584

 
(1,405
)
 
(9,111
)
 
185,100

Net income
 

 

 

 
6,572

 

 

 
6,572

Other comprehensive income
 

 

 

 

 
319

 

 
319

Share-based compensation - restricted shares, net
 
31,151

 

 
410

 

 

 

 
410

Cash dividends ($0.15 per share)
 

 

 

 
(1,315
)
 

 

 
(1,315
)
Treasury stock purchased
 
(96,831
)
 

 

 

 

 
(2,231
)
 
(2,231
)
Balance at June 30, 2019
 
8,699,456

 
91

 
80,351

 
120,841

 
(1,086
)
 
(11,342
)
 
188,855

Net income
 

 

 

 
5,085

 

 

 
5,085

Other comprehensive loss
 

 

 

 

 
(569
)
 

 
(569
)
Share-based compensation - restricted shares, net
 
6,930

 
1

 
389

 

 

 

 
390

Cash dividends ($0.15 per share)
 

 

 

 
(1,298
)
 

 

 
(1,298
)
Treasury stock purchased
 
(70,301
)
 

 

 

 

 
(1,671
)
 
(1,671
)
Balance at September 30, 2019
 
8,636,085

 
$
92

 
$
80,740

 
$
124,628

 
$
(1,655
)
 
$
(13,013
)
 
$
190,792



See accompanying Notes to Unaudited Consolidated Financial Statements.


6

Table of Contents

First Business Financial Services, Inc.
Consolidated Statements of Cash Flows (Unaudited)
 
 
For the Nine Months Ended September 30,
 
 
2019
 
2018
 
 
(In Thousands)
Operating activities
 
 
 
 
Net income
 
$
17,556

 
$
12,239

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Deferred income taxes, net
 
105

 
382

Impairment of tax credit investments
 
3,982

 
554

Provision for loan and lease losses
 
613

 
4,508

SBA recourse provision
 
167

 
118

Depreciation, amortization and accretion, net
 
2,252

 
1,099

Share-based compensation
 
1,118

 
750

Net loss on sale of available-for-sale securities
 
5

 

Gain on sale of a state tax credit
 
(206
)
 

Increase in value of bank-owned life insurance policies
 
(894
)
 
(890
)
Origination of loans for sale
 
(39,799
)
 
(68,246
)
Sale of loans originated for sale
 
43,009

 
66,912

Gain on sale of SBA loans originated for sale
 
(993
)
 
(1,184
)
Net loss on foreclosed properties, including impairment valuation
 
241

 
30

Loan servicing right impairment valuation
 
25

 
69

Excess tax benefit from share-based compensation
 
(74
)
 
(43
)
Payments on operating leases
 
(1,143
)
 

Net increase in accrued interest receivable and other assets
 
(24,918
)
 
(1,242
)
Net increase in accrued interest payable and other liabilities
 
19,710

 
4,827

Net cash provided by operating activities
 
20,756

 
19,883

Investing activities
 
 
 
 
Proceeds from maturities, redemptions, and paydowns of available-for-sale securities
 
21,225

 
26,719

Proceeds from maturities, redemptions, and paydowns of held-to-maturity securities
 
4,282

 
2,655

Proceeds from sale of available-for-sale securities
 
15,249

 

Purchases of available-for-sale securities
 
(55,608
)
 
(38,486
)
Purchases of held-to-maturity securities

 

 
(4,867
)
Net increase in loans and leases
 
(104,229
)
 
(100,185
)
Investments in limited partnerships
 
(1,250
)
 

Returns of investments in limited partnerships
 
1,499

 
729

Investment in historic development entities
 
(4,505
)
 
(905
)
Investment in Federal Home Loan Bank stock
 
(4,700
)
 
(8,118
)
Proceeds from the sale of Federal Home Loan Bank stock
 
3,625

 
6,898

Purchases of leasehold improvements and equipment, net
 
(108
)
 
(720
)
Net cash used in investing activities
 
(124,520
)
 
(116,280
)
Financing activities
 
 
 
 
Net increase in deposits
 
53,517

 
14,572

Repayment of Federal Home Loan Bank advances
 
(401,000
)
 
(698,600
)
Proceeds from Federal Home Loan Bank advances
 
435,000

 
772,100

Repayment of subordinated notes payable
 
(15,000
)
 

Proceeds from issuance of subordinated notes payable
 
15,000

 

Net (decrease) increase in long-term borrowed funds
 
(36
)
 
42

Cash dividends paid
 
(3,925
)
 
(3,685
)
Purchase of treasury stock
 
(5,380
)
 
(278
)
Net cash provided by financing activities
 
78,176

 
84,151

Net decrease in cash and cash equivalents
 
(25,588
)
 
(12,246
)
Cash and cash equivalents at the beginning of the period
 
86,546

 
52,539

Cash and cash equivalents at the end of the period
 
$
60,958

 
$
40,293

Supplementary cash flow information
 
 
 
 
Cash paid during the period for:
 
 
 
 
Interest paid on deposits and borrowings
 
$
25,828

 
$
15,214

Income taxes paid
 
1,303

 
882

Non-cash investing and financing activities:
 
 
 
 
Transfer from loans and leases to foreclosed properties
 
596

 
415

See accompany Notes to Unaudited Consolidated Financial Statements

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Table of Contents

Notes to Unaudited Consolidated Financial Statements

Note 1 — Nature of Operations and Summary of Significant Accounting Policies
Nature of Operations
The accounting and reporting practices of First Business Financial Services, Inc. (the “Corporation”), through our wholly-owned subsidiary, First Business Bank (“FBB” or the “Bank”), have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). FBB operates as a commercial banking institution primarily in the Wisconsin and greater Kansas City markets. FBB also offers trust and investment services through First Business Trust & Investments (“FBTI”) and investment portfolio administrative and asset/liability management services through First Business Consulting Services (“FBCS”), both divisions of FBB. The Bank provides a full range of financial services to businesses, business owners, executives, professionals, and high net worth individuals. The Bank is subject to competition from other financial institutions and service providers and is also subject to state and federal regulations. FBB has the following wholly owned subsidiaries: First Business Capital Corp. (“FBCC”), First Madison Investment Corp. (“FMIC”), First Business Equipment Finance, LLC (“FBEF”), ABKC Real Estate, LLC (“ABKC”), FBB Real Estate 2, LLC (“FBB RE 2”), Rimrock Road Investment Fund, LLC (“Rimrock Road”), BOC Investment, LLC (“BOC”), Mitchell Street Apartments Investment, LLC (“Mitchell Street”), and FBB Tax Credit Investment LLC (“FBB Tax Credit”). FMIC is located in and was formed under the laws of the state of Nevada.
Basis of Presentation
The accompanying unaudited Consolidated Financial Statements were prepared in accordance with GAAP and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements and should be read in conjunction with the Corporation’s Consolidated Financial Statements and footnotes thereto included in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2018. The unaudited Consolidated Financial Statements include the accounts of the Corporation and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. In accordance with the provisions of Accounting Standards Codification (“ASC”) Topic 810, the Corporation’s ownership interest in FBFS Statutory Trust II (“Trust II”) has not been consolidated into the financial statements.
Management of the Corporation is required 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 as well as reported amounts of revenues and expenses during the reporting period. Actual results could differ significantly from those estimates. Material estimates that could significantly change in the near-term include the value of securities and interest rate swaps, level of the allowance for loan and lease losses, lease residuals, property under operating leases, goodwill, level of the Small Business Administration (“SBA”) recourse reserve, and income taxes. The results of operations for the three and nine month periods ended September 30, 2019 are not necessarily indicative of results that may be expected for any other interim period or the entire fiscal year ending December 31, 2019. Certain amounts in prior periods may have been reclassified to conform to the current presentation. Subsequent events have been evaluated through the date of the issuance of the unaudited Consolidated Financial Statements. No significant subsequent events have occurred through this date requiring adjustment to the financial statements or disclosures.
The Corporation has not changed its significant accounting and reporting policies from those disclosed in the Corporation’s Form 10-K for the year ended December 31, 2018.
Special Note Regarding Smaller Reporting Company Status
In June 2018, the SEC issued Release 33-10513; 34-83550, Amendments to Smaller Reporting Company Definition, which changes the definition of a smaller reporting company in Rule 12b-2 of the Securities Exchange Act of 1934, as amended. Under this release, the new thresholds for qualifying are (1) public float of less than $250 million or (2) annual revenue of less than $100 million and public float of less than $700 million (including no public float). The rule change was effective on September 10, 2018. Under this release, the Corporation currently qualifies as a smaller reporting company based on its public float as of the last business day of its second fiscal quarter of fiscal year 2019. A smaller reporting company may choose to comply with scaled or non-scaled financial and non-financial disclosure requirements on an item-by-item basis. The Corporation has not scaled its disclosures of financial and non-financial information in this Quarterly Report. The Corporation may determine to provide scaled disclosures of financial or non-financial information in future quarterly reports, annual reports and/or proxy statements if it remains a smaller reporting company under SEC rules.

8

Table of Contents

Recent Accounting Pronouncements
In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments- Credit Losses (Topic 326).” The ASU replaces the incurred loss impairment methodology for recognizing credit losses with a methodology that reflects all expected credit losses. The ASU also requires consideration of a broader range of information to inform credit loss estimates, including such factors as past events, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. The amendments affect loans, debt securities, trade receivables, net investments in leases, off-balance sheet credit exposures, and any other financial asset not excluded from the scope under which the Corporation has the contractual right to receive cash. Entities will apply the amendments in the ASU through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The ASU is effective for public companies for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. A cross-functional committee has been established and a third-party software solution has been implemented to assist with the adoption of the standard. Management has gathered all necessary data and reviewed potential methods to calculate the expected credit losses. Management is currently calculating sample expected loss computations and developing the allowance methodology and assumptions that will be used under the new standard.
In October 2019, the FASB voted to delay the effective date for the credit losses standard to January 2023 for certain entities, including certain Securities and Exchange Commission filers, public business entities, and private companies. As a smaller reporting company, the Corporation is eligible for the delay and will be deferring adoption. Management will continue to progress on its implementation project plan and improve the Corporation’s approach throughout the deferral period.
In August 2018, the FASB issued ASU No. 2018-15, “Intangibles-Goodwill and Other Internal-Use Software (Subtopic 350-40).” The ASU aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). Implementation costs incurred in the application development stage are capitalized depending on the nature of the costs, while costs incurred during the preliminary project and post implementation stages are expensed as the activities are performed. The amendment also requires entities to expense the capitalized implementation costs of a hosting arrangement that is a service contract over the term of the hosting arrangement and in the same income statement line item as the fees associated with the hosting element. The ASU is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted. The Corporation is in the process of evaluating the impact of this standard but does not expect this standard to have a material impact on its results of operations, financial position, and liquidity.

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Note 2 — Earnings per Common Share
Earnings per common share are computed using the two-class method. Basic earnings per common share are computed by dividing net income allocated to common shares by the weighted-average number of shares outstanding during the applicable period, excluding outstanding participating securities. Participating securities include unvested restricted shares. Unvested restricted shares are considered participating securities because holders of these securities receive non-forfeitable dividends, or dividend equivalents, at the same rate as holders of the Corporation’s common stock. Diluted earnings per share are computed by dividing net income allocated to common shares, adjusted for reallocation of undistributed earnings of unvested restricted shares, by the weighted-average number of shares determined for the basic earnings per common share computation plus the dilutive effect of common stock equivalents using the treasury stock method.
 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
 
2019
 
2018
 
2019
 
2018
 
 
(Dollars in Thousands, Except Share Data)
Basic earnings per common share
 
 
 
 
 
 
 
 
Net income
 
$
5,085

 
$
5,301

 
$
17,556

 
$
12,239

Less: earnings allocated to participating securities
 
111

 
77

 
340

 
180

Basic earnings allocated to common stockholders
 
$
4,974

 
$
5,224

 
$
17,216

 
$
12,059

Weighted-average common shares outstanding, excluding participating securities
 
8,492,445

 
8,650,057

 
8,546,192

 
8,634,890

Basic earnings per common share
 
$
0.59

 
$
0.60

 
$
2.01

 
$
1.40

 
 
 
 
 
 
 
 
 
Diluted earnings per common share
 
 
 
 
 
 
 
 
Earnings allocated to common stockholders, diluted
 
$
4,974

 
$
5,224

 
$
17,216

 
$
12,059

Weighted-average diluted common shares outstanding, excluding participating securities
 
8,492,445

 
8,650,057

 
8,546,192

 
8,634,890

Diluted earnings per common share
 
$
0.59

 
$
0.60

 
$
2.01

 
$
1.40


Note 3 — Share-Based Compensation
The Corporation adopted the 2019 Equity Incentive Plan (the “Plan”) during the quarter ended June 30, 2019. The Plan is administered by the Compensation Committee of the Board of Directors of the Corporation and provides for the grant of equity ownership opportunities through incentive stock options and nonqualified stock options (“Stock Options”), restricted stock, restricted stock units, dividend equivalent units, and any other type of award permitted by the Plan. The Plan authorized 185,000 shares, plus all shares previously available for grant under the 2012 Equity Incentive Plan (the “2012 Plan”). No new grants will be made under the 2012 Plan. As of September 30, 2019, 261,095 shares were available for future grants under the Plan. Shares covered by awards that expire, terminate, or lapse will again be available for the grant of awards under the Plan. The Corporation may issue new shares and shares from its treasury stock for shares delivered under the Plan.
Restricted Stock
Under the Plan, the Corporation may grant restricted stock awards, restricted stock units, and other stock-based awards to plan participants, subject to forfeiture upon the occurrence of certain events until the dates specified in the participant’s award agreement. While restricted stock is subject to forfeiture, restricted stock award participants may exercise full voting rights and will receive all dividends and other distributions paid with respect to the restricted shares. Restricted stock units do not have voting rights and are provided dividend equivalents. The restricted stock granted under the Plan is typically subject to a vesting period. Compensation expense for restricted stock is recognized over the requisite service period of generally four years for the entire award on a straight-line basis. Upon vesting of restricted stock, the benefit of tax deductions in excess of recognized compensation expense is reflected as an income tax benefit in the unaudited Consolidated Statements of Income.
Beginning in 2019, the Corporation issued a combination of performance based restricted stock units and restricted stock awards to its executive officers. Vesting of the performance based restricted stock units will be measured on Total Shareholder Return (“TSR”) and Return on Equity (“ROE”) and will cliff-vest after a three-year measurement period based on the Corporation’s performance relative to a custom peer group. At the end of the performance period, the number of actual shares to be awarded varies between 0% and 200% of target amounts. The restricted stock awards issued to executive officers will vest
ratably over a three-year period. Compensation expense is recognized for performance based restricted stock units over the requisite service and performance period of generally three years for the entire expected award on a straight-line basis. The compensation expense for the awards expected to vest for the percentage of performance based restricted stock units subject to the ROE metric will be adjusted if there is a change in the expectation of ROE. The compensation expense for the awards expected to vest for the percentage of performance based restricted stock units subject to the TSR metric are never adjusted, and are amortized utilizing the accounting fair value provided using a Monte Carlo pricing model.
Restricted stock activity for the year ended December 31, 2018 and the nine months ended September 30, 2019 was as follows:
 
 
Number of
Restricted Shares/Units
 
Weighted Average
Grant-Date
Fair Value
Nonvested balance as of January 1, 2018
 
130,441

 
$
21.43

Granted
 
66,498

 
20.57

Vested
 
(46,034
)
 
21.01

Forfeited
 
(19,284
)
 
22.25

Nonvested balance as of December 31, 2018
 
131,621

 
21.02

Granted (1)
 
89,555

 
23.58

Vested
 
(42,270
)
 
20.50

Forfeited
 
(1,744
)
 
23.67

Nonvested balance as of September 30, 2019
 
177,162

 
$
22.41

(1)
The number of restricted shares/units shown includes the shares that would be granted if the target level of performance is achieved related to the performance based restricted stock units. The number of shares actually issued may vary.

As of September 30, 2019, the Corporation had $3.5 million of unvested compensation expense, which the Corporation expects to recognize over a weighted-average period of approximately 2.70 years.

Share-based compensation expense related to restricted stock included in the unaudited Consolidated Statements of Income was as follows:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
 
(In Thousands)
Share-based compensation expense
$
390

 
$
244

 
$
1,118

 
$
750





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Note 4 — Securities
The amortized cost and fair value of securities available-for-sale and the corresponding amounts of gross unrealized gains and losses recognized in accumulated other comprehensive income were as follows:

 
 
As of September 30, 2019
 
 
Amortized Cost
 
Gross
Unrealized Gains
 
Gross
Unrealized Losses
 
Fair Value
 
 
(In Thousands)
Available-for-sale:
 
 
 
 
 
 
 
 
U.S. government agency securities - government-sponsored enterprises
 
$
1,000

 
$
1

 
$

 
$
1,001

Municipal securities
 
160

 

 

 
160

Mortgage backed securities - government issued
 
48,221

 
472

 
(74
)
 
48,619

Mortgage backed securities - government-sponsored enterprises
 
107,751

 
1,159

 
(258
)
 
108,652

Other securities
 
2,205

 
28

 

 
2,233

 
 
$
159,337

 
$
1,660

 
$
(332
)
 
$
160,665


 
 
As of December 31, 2018
 
 
Amortized Cost
 
Gross
Unrealized Gains
 
Gross
Unrealized Losses
 
Fair Value
 
 
(In Thousands)
Available-for-sale:
 
 
 
 
 
 
 
 
U.S. government agency securities - government-sponsored enterprises
 
$
999

 
$

 
$
(9
)
 
$
990

Municipal securities
 
5,953

 
2

 
(69
)
 
5,886

Mortgage backed securities - government issued
 
20,007

 
47

 
(426
)
 
19,628

Mortgage backed securities - government-sponsored enterprises
 
110,928

 
279

 
(1,729
)
 
109,478

Other securities
 
2,450

 

 
(74
)
 
2,376

 
 
$
140,337

 
$
328

 
$
(2,307
)
 
$
138,358


The amortized cost and fair value of securities held-to-maturity and the corresponding amounts of gross unrealized gains and losses were as follows:

 
 
As of September 30, 2019
 
 
Amortized Cost
 
Gross
Unrealized Gains
 
Gross
Unrealized Losses
 
Fair Value
 
 
(In Thousands)
Held-to-maturity:
 
 
 
 
 
 
 
 
Municipal securities
 
$
19,744

 
$
317

 
$
(1
)
 
$
20,060

Mortgage backed securities - government issued
 
6,219

 
46

 
(7
)
 
6,258

Mortgage backed securities - government-sponsored enterprises
 
7,437

 
219

 
(11
)
 
7,645

 
 
$
33,400

 
$
582

 
$
(19
)
 
$
33,963



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As of December 31, 2018
 
 
Amortized Cost
 
Gross
Unrealized Gains
 
Gross
Unrealized Losses
 
Fair Value
 
 
(In Thousands)
Held-to-maturity:
 
 
 
 
 
 
 
 
Municipal securities
 
$
21,066

 
$
72

 
$
(59
)
 
$
21,079

Mortgage backed securities - government issued
 
7,358

 

 
(172
)
 
7,186

Mortgage backed securities - government-sponsored enterprises
 
9,307

 
2

 
(165
)
 
9,144

 
 
$
37,731

 
$
74

 
$
(396
)
 
$
37,409


U.S. government agency securities - government-sponsored enterprises represent securities issued by the Federal Home Loan Bank (“FHLB”), the Federal Home Loan Mortgage Corporation (“FHLMC”), and the Federal National Mortgage Association (“FNMA”). Municipal securities include securities issued by various municipalities located primarily within the State of Wisconsin and are primarily general obligation bonds that are tax-exempt in nature. Mortgage backed securities - government issued represent securities guaranteed by the Government National Mortgage Association and the SBA. Mortgage backed securities - government-sponsored enterprises include securities guaranteed by FHLMC and FNMA. Other securities represent certificates of deposit of insured banks and savings institutions with an original maturity greater than three months. There were 37 and 46 sales of available-for-sale securities that occurred during the three and nine months ended September 30, 2019, respectively. No sales of available-for-sale securities occurred during the three and nine months ended September 30, 2018.

At September 30, 2019 and December 31, 2018, securities with a fair value of $33.7 million and $11.5 million, respectively, were pledged to secure various obligations, including interest rate swap contracts and municipal deposits.
The amortized cost and fair value of securities by contractual maturity at September 30, 2019 are shown below. Actual maturities may differ from contractual maturities because issuers have the right to call or prepay certain obligations with or without call or prepayment penalties.
 
 
Available-for-Sale
 
Held-to-Maturity
 
 
Amortized Cost
 
Fair Value
 
Amortized Cost
 
Fair Value
 
 
(In Thousands)
Due in one year or less
 
$
1,160

 
$
1,161

 
$
770

 
$
772

Due in one year through five years
 
9,247

 
9,305

 
13,706

 
13,856

Due in five through ten years
 
30,985

 
31,461

 
13,935

 
14,277

Due in over ten years
 
117,945

 
118,738

 
4,989

 
5,058

 
 
$
159,337

 
$
160,665

 
$
33,400

 
$
33,963


The tables below show the Corporation’s gross unrealized losses and fair value of available-for-sale investments aggregated by investment category and length of time that individual investments were in a continuous loss position at September 30, 2019 and December 31, 2018. At September 30, 2019, the Corporation held 42 available-for-sale securities that were in an unrealized loss position. Such securities have not experienced credit rating downgrades; however, they have primarily declined in value due to the current interest rate environment. At September 30, 2019, the Corporation held 30 available-for-sale securities that had been in a continuous unrealized loss position for twelve months or greater.

The Corporation also has not specifically identified available-for-sale securities in a loss position that it intends to sell in the near term and does not believe that it will be required to sell any such securities. The Corporation reviews its securities on a quarterly basis to monitor its exposure to other-than-temporary impairment. Consideration is given to such factors as the length of time and extent to which the security has been in an unrealized loss position, changes in security ratings, and an evaluation of the present value of expected future cash flows, if necessary. Based on the Corporation’s evaluation, it is expected that the Corporation will recover the entire amortized cost basis of each security. Accordingly, no other-than-temporary impairment was recorded in the unaudited Consolidated Statements of Income for the three and nine months ended September 30, 2019 and 2018.

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A summary of unrealized loss information for securities available-for-sale, categorized by security type and length of time for which the security has been in a continuous unrealized loss position, follows:

 
 
As of September 30, 2019
 
 
Less than 12 Months
 
12 Months or Longer
 
Total
 
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
 
(In Thousands)
Available-for-sale:
 
 
 
 
 
 
 
 
 
 
 
 
Mortgage backed securities - government issued
 
$
4,493

 
$
5

 
$
5,220

 
$
69

 
$
9,713

 
$
74

Mortgage backed securities - government-sponsored enterprises
 
17,382

 
98

 
18,246

 
160

 
35,628

 
258

 
 
$
21,875

 
$
103

 
$
23,466

 
$
229

 
$
45,341

 
$
332


 
 
As of December 31, 2018
 
 
Less than 12 Months
 
12 Months or Longer
 
Total
 
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
 
(In Thousands)
Available-for-sale:
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government agency securities - government-sponsored enterprises
 
$

 
$

 
$
990

 
$
9

 
$
990

 
$
9

Municipal securities
 

 

 
4,371

 
69

 
4,371

 
69

Mortgage backed securities - government issued
 

 

 
13,748

 
426

 
13,748

 
426

Mortgage backed securities - government-sponsored enterprises
 
8,178

 
46

 
69,602

 
1,683

 
77,780

 
1,729

Other securities
 
238

 
7

 
2,138

 
67

 
2,376

 
74

 
 
$
8,416

 
$
53

 
$
90,849

 
$
2,254

 
$
99,265

 
$
2,307


The tables below show the Corporation’s gross unrealized losses and fair value of held-to-maturity investments, aggregated by investment category and length of time that individual investments were in a continuous loss position at September 30, 2019 and December 31, 2018. At September 30, 2019, the Corporation held 10 held-to-maturity securities that were in an unrealized loss position. Such securities have not experienced credit rating downgrades; however, they have primarily declined in value due to the current interest rate environment. There were seven held-to-maturity securities that had been in a continuous loss position for twelve months or greater as of September 30, 2019. It is expected that the Corporation will recover the entire amortized cost basis of each held-to-maturity security based upon an evaluation of aforementioned factors. Accordingly, no other-than-temporary impairment was recorded in the unaudited Consolidated Statements of Income for the three and nine months ended September 30, 2019 and 2018.

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Table of Contents


A summary of unrealized loss information for securities held-to-maturity, categorized by security type and length of time for which the security has been in a continuous unrealized loss position, follows:
 
 
As of September 30, 2019
 
 
Less than 12 Months
 
12 Months or Longer
 
Total
 
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
 
(In Thousands)
Held-to-maturity:
 
 
 
 
 
 
 
 
 
 
 
 
Municipal securities
 
$
612

 
$
1

 
$

 
$

 
$
612

 
$
1

Mortgage backed securities - government issued
 

 

 
1,021

 
7

 
1,021

 
7

Mortgage backed securities - government-sponsored enterprises
 

 

 
1,187

 
11

 
1,187

 
11

 
 
$
612

 
$
1

 
$
2,208

 
$
18

 
$
2,820

 
$
19


 
 
As of December 31, 2018
 
 
Less than 12 Months
 
12 Months or Longer
 
Total
 
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
Fair Value
 
Unrealized
Losses
 
 
(In Thousands)
Held-to-maturity:
 
 
 
 
 
 
 
 
 
 
 
 
Municipal securities
 
$
6,876

 
$
14

 
$
4,364

 
$
45

 
$
11,240

 
$
59

Mortgage backed securities - government issued
 

 

 
7,186

 
172

 
7,186

 
172

Mortgage backed securities - government-sponsored enterprises
 
4,038

 
24

 
4,338

 
141

 
8,376

 
165

 
 
$
10,914

 
$
38

 
$
15,888

 
$
358

 
$
26,802

 
$
396



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Table of Contents

Note 5 — Loan and Lease Receivables, Impaired Loans and Leases and Allowance for Loan and Lease Losses

Loan and lease receivables consist of the following:
 
 
September 30,
2019
 
December 31,
2018
 
 
(In Thousands)
Commercial real estate:
 
 
 
 
Commercial real estate — owner occupied
 
$
226,307

 
$
203,476

Commercial real estate — non-owner occupied
 
503,102

 
484,427

Land development
 
49,184

 
42,666

Construction
 
111,848

 
161,562

Multi-family
 
227,330

 
167,868

1-4 family
 
31,226

 
34,340

Total commercial real estate
 
1,148,997

 
1,094,339

Commercial and industrial
 
513,672

 
462,321

Direct financing leases, net
 
28,987

 
33,170

Consumer and other:
 
 
 
 
Home equity and second mortgages
 
7,373

 
8,438

Other
 
22,140

 
20,789

Total consumer and other
 
29,513

 
29,227

Total gross loans and leases receivable
 
1,721,169

 
1,619,057

Less:
 
 
 
 
   Allowance for loan and lease losses
 
20,170

 
20,425

   Deferred loan fees
 
627

 
1,402

Loans and leases receivable, net
 
$
1,700,372

 
$
1,597,230

The total amount of the Corporation’s ownership of SBA loans comprised of the following:
 
 
September 30,
2019
 
December 31,
2018
 
 
(In Thousands)
Retained, unguaranteed portions of sold SBA loans
 
$
22,201

 
$
23,898

Other SBA loans(1)
 
22,237

 
22,024

Total SBA loans
 
$
44,438

 
$
45,922

(1)
Primarily consisted of SBA CAPLine, Express, and impaired loans that were repurchased from the secondary market, all of which are not saleable.
As of September 30, 2019 and December 31, 2018, $14.7 million and $13.2 million of SBA loans were considered impaired, respectively.
Loans transferred to third parties consist of the guaranteed portions of SBA loans which the Corporation sold in the secondary market and participation interests in other, non-SBA originated loans. The total principal amount of the guaranteed portions of SBA loans sold during the three months ended September 30, 2019 and 2018 was $4.9 million and $7.8 million, respectively. The total principal amount of the guaranteed portions of SBA loans sold during the nine months ended September 30, 2019 and 2018 was $10.5 million and $10.8 million, respectively. Each of the transfers of these financial assets met the qualifications for sale accounting, and therefore all of the loans transferred during the three and nine months ended September 30, 2019 and 2018 have been derecognized in the unaudited Consolidated Financial Statements. The guaranteed portions of SBA loans were transferred at their fair value and the related gain was recognized upon the transfer as non-interest income in the unaudited Consolidated Financial Statements. The total outstanding balance of sold SBA loans at September 30, 2019 and December 31, 2018 was $74.7 million and $83.3 million, respectively.

The total principal amount of transferred participation interests in other, non-SBA originated loans during the three months ended September 30, 2019 and 2018 was $7.5 million and $17.2 million, respectively. The total principal amount of transferred

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Table of Contents

participation interests in other, non-SBA originated loans during the nine months ended September 30, 2019 and 2018 was $31.5 million and $51.6 million, respectively, all of which were treated as sales and derecognized under the applicable accounting guidance at the time of transfer. No gain or loss was recognized on participation interests in other, non-SBA originated loans as they were transferred at or near the date of loan origination and the payments received for servicing the portion of the loans participated represents adequate compensation. The total outstanding balance of these transferred loans at September 30, 2019 and December 31, 2018 was $136.9 million and $129.7 million, respectively. As of September 30, 2019 and December 31, 2018, the total amount of the Corporation’s partial ownership of these transferred loans on the unaudited Consolidated Balance Sheets was $231.5 million and $208.9 million, respectively. No loans in this participation portfolio were considered impaired as of September 30, 2019 and December 31, 2018. The Corporation does not share in the participant’s portion of any potential charge-offs. The total amount of loan participations purchased on the unaudited Consolidated Balance Sheets as of September 30, 2019 and December 31, 2018 was $512,000 and $569,000, respectively.

The following tables illustrate ending balances of the Corporation’s loan and lease portfolio, including impaired loans by class of receivable, and considering certain credit quality indicators:
 
 
September 30, 2019
 
 
Category
 
 
 
 
I
 
II
 
III
 
IV
 
Total
 
 
(Dollars in Thousands)
Commercial real estate:
 
 
 
 
 
 
 
 
 
 
Commercial real estate — owner occupied
 
$
190,014

 
$
24,044

 
$
8,166

 
$
4,083

 
$
226,307

Commercial real estate — non-owner occupied
 
461,236

 
40,435

 
1,431

 

 
503,102

Land development
 
46,654

 
908

 

 
1,622

 
49,184

Construction
 
111,691

 

 
157

 

 
111,848

Multi-family
 
215,755

 
11,575

 

 

 
227,330

1-4 family
 
30,446

 
91

 
210

 
479

 
31,226

      Total commercial real estate
 
1,055,796

 
77,053

 
9,964

 
6,184

 
1,148,997

Commercial and industrial
 
405,570

 
43,919

 
47,593

 
16,590

 
513,672

Direct financing leases, net
 
21,746

 
4,065

 
3,176

 

 
28,987

Consumer and other:
 
 
 
 
 
 
 
 
 

Home equity and second mortgages
 
7,213

 
68

 
92

 

 
7,373

Other
 
21,979

 

 

 
161

 
22,140

      Total consumer and other
 
29,192

 
68

 
92

 
161

 
29,513

Total gross loans and leases receivable
 
$
1,512,304

 
$
125,105

 
$
60,825

 
$
22,935

 
$
1,721,169

Category as a % of total portfolio
 
87.86
%
 
7.27
%
 
3.54
%
 
1.33
%
 
100.00
%

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Table of Contents

 
 
December 31, 2018
 
 
Category
 
 
 
 
I
 
II
 
III
 
IV
 
Total
 
 
(Dollars in Thousands)
Commercial real estate:
 
 
 
 
 
 
 
 
 
 
Commercial real estate — owner occupied
 
$
177,222

 
$
15,085

 
$