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

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2019

¨TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______________ to _______________

 

Commission File No. 001-39090

 

Provident Bancorp, Inc.

(Exact name of registrant as specified in its charter)

 

Maryland  Applied for
(State or other jurisdiction of  (I.R.S. Employer
incorporation or organization)  Identification Number)
    
5 Market Street, Amesbury, Massachusetts  01913
(Address of Principal Executive Offices)  Zip Code

 

(978) 834-8555

(Registrant’s telephone number)

 

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

 

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

 

Title of each class  Trading Symbol  Name of each exchange on which registered
Common stock  PVBC  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 requirements for the past 90 days.

YES x 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 during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). YES x NO ¨

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, 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 x
Non-accelerated filer ¨  Smaller reporting company x
Emerging growth company x   

 

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. x

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨ NO x

 

As of November 04, 2019, there were 19,484,493 shares of the Registrant’s common stock, $0.01 par value per share, outstanding.

 

 

 

 

 

Provident Bancorp, Inc.

Form 10-Q

 

     Page
Part I. Financial Information 
      
Item 1. Interim Financial Statements   
      
  Consolidated Balance Sheets as of September 30, 2019 (unaudited) and December 31, 2018  2
      
  Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2019 and 2018 (unaudited)  3
      
  Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2019 and 2018 (unaudited)  4
      
  Consolidated Statements of Changes in Shareholders’ Equity for the Three and Nine Months Ended September 30, 2019 and 2018 (unaudited)  5
      
  Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2019 and 2018 (unaudited)  6
      
  Notes to Consolidated Financial Statements (unaudited)  8
      
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operation  26
      
Item 3. Quantitative and Qualitative Disclosures about Market Risk  43
      
Item 4. Controls and Procedures  43
      
Part II. Other Information   
      
Item 1. Legal Proceedings  43
      
Item 1A. Risk Factors  43
      
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds  44
      
Item 3. Defaults upon Senior Securities  44
      
Item 4. Mine Safety Disclosures  44
      
Item 5. Other Information  44
      
Item 6. Exhibits  44
      
Signatures    45

 

 

 

Part I.  Financial Information
Item 1.  Financial Statements

 

PROVIDENT BANCORP, INC.

CONSOLIDATED BALANCE SHEETS

 

   At   At 
   September 30,   December 31, 
(Dollars in thousands)  2019   2018 
   (unaudited)     
Assets          
Cash and due from banks  $13,729   $10,941 
Short-term investments   25,238    17,672 
Cash and cash equivalents   38,967    28,613 
Investments in available-for-sale securities (at fair value)   45,328    51,403 
Federal Home Loan Bank stock, at cost   1,636    2,650 
Loans, net   926,281    835,528 
Bank owned life insurance   26,752    26,226 
Premises and equipment, net   24,057    16,086 
Other real estate owned   1,740    1,676 
Accrued interest receivable   2,567    2,638 
Deferred tax asset, net   6,347    6,437 
Other assets   4,690    2,822 
Total assets  $1,078,365   $974,079 
           
Liabilities and Equity          
Deposits:          
Noninterest-bearing  $235,082   $195,293 
Interest-bearing   662,198    572,803 
Total deposits   897,280    768,096 
Borrowings   29,983    68,022 
Operating lease liabilities   3,881    - 
Other liabilities   11,370    12,377 
Total liabilities   942,514    848,495 
Shareholders' equity:          
Preferred stock; authorized 50,000 shares: no shares issued and outstanding   -    - 
Common stock, no par value: 30,000,000 shares authorized; 9,658,284 shares issued, 9,621,822 shares outstanding at September 30, 2019 and 9,662,181 shares issued, 9,625,719 shares outstanding at December 31, 2018   -    - 
Additional paid-in capital   46,911    45,895 
Retained earnings   91,609    83,351 
Accumulated other comprehensive income (loss)   559    (255)
Unearned compensation - ESOP   (2,440)   (2,619)
Treasury stock: 36,462 shares   (788)   (788)
Total shareholders' equity   135,851    125,584 
Total liabilities and shareholders' equity  $1,078,365   $974,079 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 2 

 

 

PROVIDENT BANCORP, INC.

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30, 
(Dollars in thousands, except per share data)  2019   2018   2019   2018 
   (unaudited) 
Interest and dividend income:                    
Interest and fees on loans  $12,841   $10,219   $36,810   $29,420 
Interest and dividends on securities   406    411    1,230    1,256 
Interest on short-term investments   69    203    136    287 
Total interest and dividend income   13,316    10,833    38,176    30,963 
Interest expense:                    
Interest on deposits   1,691    1,225    4,659    3,154 
Interest on borrowings   568    204    1,701    522 
Total interest expense   2,259    1,429    6,360    3,676 
Net interest and dividend income   11,057    9,404    31,816    27,287 
Provision for loan losses   833    1,421    3,649    2,715 
Net interest and dividend income after provision for loan losses   10,224    7,983    28,167    24,572 
Noninterest income:                    
Customer service fees on deposit accounts   404    380    1,089    1,081 
Service charges and fees - other   450    502    1,368    1,551 
Gain on sale of securities, net   -    -    113    - 
Bank owned life insurance income   175    172    525    515 
Other income   11    5    47    43 
Total noninterest income   1,040    1,059    3,142    3,190 
Noninterest expense:                    
Salaries and employee benefits   4,478    4,150    13,046    12,583 
Occupancy expense   373    456    1,567    1,323 
Equipment expense   105    118    320    361 
Data processing   188    200    542    597 
Marketing expense   115    54    239    168 
Professional fees   120    274    1,038    851 
Directors' compensation   188    141    557    467 
Other   893    830    2,780    2,660 
Total noninterest expense   6,460    6,223    20,089    19,010 
Income before income tax expense   4,804    2,819    11,220    8,752 
Income tax expense   1,295    741    2,962    2,262 
Net income  $3,509   $2,078   $8,258   $6,490 
                     
Earnings per share:                    
Basic  $0.38   $0.22   $0.89   $0.70 
Diluted  $0.37   $0.22   $0.88   $0.70 
                     
Weighted Average Shares:                    
Basic   9,294,821    9,247,367    9,281,073    9,233,760 
Diluted   9,383,497    9,355,410    9,338,413    9,309,712 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 3 

 

 

PROVIDENT BANCORP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30, 
(In thousands)  2019   2018   2019   2018 
Net income  $3,509   $2,078   $8,258   $6,490 
Other comprehensive income (loss):                    
Unrealized holding gains (losses)   227    (411)   1,203    (1,717)
Reclassification adjustment for realized gains in net income   -    -    (113)   - 
Unrealized gain (loss)   227    (411)   1,090    (1,717)
Income tax effect   (52)   100    (276)   428 
Net of tax amount   175    (311)   814    (1,289)
Total comprehensive income  $3,684   $1,767   $9,072   $5,201 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 4 

 

 

PROVIDENT BANCORP, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)

 

   For the three months ended September 30, 2019 and 2018 
               Accumulated             
   Shares of   Additional       Other   Unearned         
   Common   Paid-in   Retained   Comprehensive   Compensation   Treasury     
(In  thousands, except share data)  Stock   Capital   Earnings   Income (Loss)   ESOP   Stock   Total 
Balance, June 30, 2019   9,621,822   $46,567   $88,100   $384   $(2,500)  $(788)  $131,763 
Net income   -    -    3,509    -    -    -    3,509 
Other comprehensive income   -    -    -    175    -    -    175 
Stock-based compensation expense   -    245    -    -    -    -    245 
ESOP shares earned   -    99    -    -    60    -    159 
Balance, September 30, 2019   9,621,822   $46,911   $91,609   $559   $(2,440)  $(788)  $135,851 
                                    
Balance, June 30, 2018   9,628,796   $45,250   $78,459   $(389)  $(2,738)  $(594)  $119,988 
Net income   -    -    2,078    -    -    -    2,078 
Other comprehensive loss   -    -    -    (311)   -    -    (311)
Stock-based compensation expense   -    215    -    -    -    -    215 
Restricted stock award grants   4,862    -    -    -    -    -    - 
Exercise of stock options   1,010    -    (21)   -    -    21    - 
ESOP shares earned   -    107    -    -    59    -    166 
Balance, September 30, 2018   9,634,668   $45,572   $80,516   $(700)  $(2,679)  $(573)  $122,136 

 

   For the nine months ended September 30, 2019 and 2018 
               Accumulated             
   Shares of   Additional       Other   Unearned         
   Common   Paid-in   Retained   Comprehensive   Compensation   Treasury     
(In  thousands, except share data)  Stock   Capital   Earnings   Income (Loss)   ESOP   Stock   Total 
Balance, December 31, 2018   9,625,719   $45,895   $83,351   $(255)  $(2,619)  $(788)  $125,584 
Net income   -    -    8,258    -    -    -    8,258 
Other comprehensive income   -    -    -    814    -    -    814 
Stock-based compensation expense   -    755    -    -    -    -    755 
Restricted stock award grant forfeiture   (3,897)   -    -    -    -    -    - 
ESOP shares earned   -    261    -    -    179    -    440 
Balance, September 30, 2019   9,621,822   $46,911   $91,609   $559   $(2,440)  $(788)  $135,851 
                                    
Balance, December 31, 2017   9,628,796   $44,592   $74,047   $589   $(2,857)  $(594)  $115,777 
Net income   -    -    6,490    -    -    -    6,490 
Other comprehensive loss   -    -    -    (1,289)   -    -    (1,289)
Stock-based compensation expense   -    695    -    -    -    -    695 
Restricted stock award grants   4,862    -    -    -    -    -    - 
Exercise of stock options   1,010    -    (21)   -    -    21    - 
ESOP shares earned   -    285    -    -    178    -    463 
Balance, September 30, 2018   9,634,668   $45,572   $80,516   $(700)  $(2,679)  $(573)  $122,136 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 5 

 

 

PROVIDENT BANCORP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

   Nine Months Ended 
   September 30, 
(In thousands)  2019   2018 
Cash flows from operating activities:          
Net income  $8,258   $6,490 
Adjustments to reconcile net income to net cash provided by operating activities:          
Amortization of securities premiums, net of accretion   129    215 
ESOP expense   440    463 
Gain on sale of securities, net   (113)   - 
Change in deferred loan fees, net   761    101 
Provision for loan losses   3,649    2,715 
Depreciation and amortization   960    550 
Gain on disposals of premises and equipment   (9)   - 
Decrease (increase) in accrued interest receivable   71    (239)
Deferred tax benefit   (185)   - 
Share-based compensation expense   755    695 
Increase in cash surrender value of life insurance   (526)   (515)
Principal repayments of operating lease obligations   (57)   - 
Increase in other assets   (1,868)   (478)
(Decrease) increase in other liabilities   (905)   2,073 
Net cash provided by operating activities   11,360    12,070 
           
Cash flows from investing activities:          
Purchases of available-for-sale securities   (13,729)   - 
Proceeds from sales of available-for-sale securities   13,565    - 
Proceeds from pay downs, maturities and calls of available-for-sale securities   7,313    7,022 
Redemption (purchase) of Federal Home Loan Bank stock   1,014    (71)
Loan originations and purchases, net of paydowns   (95,163)   (43,970)
Additions to premises and equipment   (5,172)   (1,079)
Additions to assets held-for-sale   -    (147)
Proceeds from the sale of equipment   85    - 
Additions to other real estate owned   (64)   - 
 Net cash used in investing activities   (92,151)   (38,245)

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 6 

 

 

PROVIDENT BANCORP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)

(Unaudited)

 

   Nine Months Ended 
   September 30, 
(In thousands)  2019   2018 
Cash flows from financing activities:          
Net increase in demand deposits, NOW and savings accounts   111,907    12,189 
Net increase (decrease) increase in time deposits   17,277    (10,776)
Proceeeds from advances from Federal Home Loan Bank   -    10,000 
Net change in short-term borrowings   (38,039)   (6,939)
Net cash provided by  financing activities   91,145    4,474 
           
Net increase (decrease)  in cash and cash equivalents   10,354    (21,701)
Cash and cash equivalents at beginning of period   28,613    47,689 
Cash and cash equivalents at end of period  $38,967   $25,988 
           
Supplemental disclosures:          
Interest paid  $6,359   $3,716 
Income taxes paid   3,369    2,520 
Recognition of right-of-use assets in premises and equipment (1)   3,836    - 
Recognition of operating lease liabilities (1)   3,938    - 
Reclassification of accrued rent from other liabilities to premises and equipment (1)   102    - 
Assets held-for-sale transferred to premises and equipment   -    3,433 

 

(1) Adoption of ASU 2016-02, Leases (Note 15)  

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 7 

 

 

PROVIDENT BANCORP, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

(1) Basis of Presentation

 

The accompanying unaudited financial statements of Provident Bancorp, Inc., a Massachusetts corporation (the “Company”), were prepared in accordance with the instructions for Form 10-Q and with Regulation S-X and do not include information or footnotes necessary for a complete presentation of the financial condition, results of operations, and cash flows in conformity with U.S. generally accepted accounting principles (“GAAP”). However, in the opinion of management, all adjustments (consisting only of normal and recurring adjustments) necessary for a fair presentation of the financial statements have been included. The results of operations for the three and nine-month periods ended September 30, 2019 are not necessarily indicative of the results that may be expected for future periods, including the entire fiscal year. Certain amounts in 2018 have been reclassified to be consistent with the 2019 consolidated financial statement presentation, and had no effect on the net income reported in the consolidated statement of income. These financial statements should be read in conjunction with the annual financial statements and notes thereto included in the annual report on Form 10-K the Company filed with the Securities and Exchange Commission on March 14, 2019.

 

The consolidated financial statements include the accounts of the Company, its wholly owned subsidiary, The Provident Bank (the “Bank”), and the Bank’s wholly owned subsidiaries, Provident Security Corporation and 5 Market Street Security Corporation. Provident Security Corporation and 5 Market Street Security Corporation were established to buy, sell, and hold investments for their own account. All significant inter-company balances and transactions have been eliminated in consolidation.

 

(2) Corporate Structure

 

The Company was a Massachusetts-chartered corporation organized for the purpose of owning all of the outstanding capital stock of The Provident Bank (the “Bank”). Provident Bancorp, the Company’s mutual holding company (the “MHC”), owned approximately 52.3% of the Company’s stock.

 

On June 5, 2019, the Board of Trustees of Provident Bancorp (“MHC”) and the Board of Directors of the Company adopted a Plan of Conversion and Reorganization (the “Plan”). Pursuant to the Plan, the MHC has converted from the mutual holding company form of organization to the fully public form. The MHC merged into the Company, and the MHC no longer exists. The Company has merged into a new Maryland corporation named Provident Bancorp, Inc. As part of the conversion, the MHC’s ownership interest of the Company was offered for sale in a public offering. The existing publicly held shares of the Company, which represent the remaining ownership interest in the Company, were exchanged for new shares of common stock of Provident Bancorp, Inc., the new Maryland Corporation. The exchange ratio ensured that immediately after the conversion and public offering, the public shareholders of the Company own the same aggregate percentage of Provident Bancorp, Inc. common stock that they owned immediately prior to that time (excluding shares purchased in the stock offering and cash received in lieu of fractional shares), adjusted to reflect assets held by the MHC. The conversion and offering were completed October 16, 2019 and, as a result, all of the capital stock of The Provident Bank is owned by Provident Bancorp, Inc., the Maryland corporation.

 

The Plan provides for the establishment, upon the completion of the conversion, of special “liquidation accounts” for the benefit of certain depositors of The Provident Bank in an amount equal to the MHC’s ownership interest in the retained earnings of the Company as of the date of the latest balance sheet contained in the prospectus plus the MHC’s net assets (excluding its ownership of the Company). Following the completion of the conversion, the Company and The Provident Bank are not permitted to pay dividends on their capital stock if the shareholders’ equity of Provident Bancorp, Inc., the Maryland corporation, or the shareholder’s equity of The Provident Bank, would be reduced below the amount of the liquidation accounts. The liquidation accounts will be reduced annually to the extent that eligible account holders have reduced their qualifying deposits. Subsequent increases will not restore an eligible account holder’s interest in the liquidation accounts.

 

 8 

 

 

Direct costs of the conversion and public offering were deferred and reduce the proceeds from the shares sold in the public offering. Costs of $819,000 have been incurred related to the conversion as of September 30, 2019.

 

Because the conversion and offering were completed after September 30, 2019, financial and other information is that of the Company, unless indicated.

 

The Bank, headquartered in Amesbury, Massachusetts operates its business from seven banking offices located in Amesbury and Newburyport, Massachusetts and Portsmouth, Exeter, Bedford, and Seabrook, New Hampshire. The Bank also has four loan production offices in Boston, Hingham, and Dedham, Massachusetts and Portsmouth, New Hampshire. The Bank provides a variety of financial services to individuals and small businesses. Its primary deposit products are checking, savings and term certificate accounts and its primary lending products are commercial mortgages and commercial loans.

 

(3) Recent Accounting Pronouncements

 

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842). The amendments in this update require lessees to recognize, on the balance sheet, assets and liabilities for the rights and obligations created by leases. Accounting by lessors will remain largely unchanged. The guidance was effective for the Company on January 1, 2019. In July 2018, the FASB issued 2018-11, which allows a modified retrospective transition where the lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented or as a cumulative effect adjustment as of the date of adoption. The Company adopted ASU 2016-02 on January 1, 2019 as a cumulative effect adjustment as of that date. The Company’s assets and liabilities increased by $3.8 million at the adoption date (see Note 15).

 

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): “Measurement of Credit Losses on Financial Instruments.” The ASU changes the impairment model for most financial assets and certain other instruments. For trade and other receivables, held-to-maturity debt securities, loans and other instruments, entities will be required to use a new forward-looking “expected loss” model that will replace today’s “incurred loss” model and can result in the earlier recognition of credit losses. For available-for-sale debt securities with unrealized losses, entities will measure credit losses in a manner similar to current practice, except that the losses will be recognized as an allowance. On October 16, 2019, FASB approved a delay on the implementation until January 2023 for smaller reporting companies as defined by the SEC. The amendments in this update will be effective for the Company on January 1, 2023. Early adoption is permitted as of the fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Management is currently evaluating the impact of its pending adoption of this guidance on the Company’s financial statements.

 

In March 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 ASU shortens the amortization period for certain callable debt securities held at a premium. Specifically, the amendments require the premium to be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. The amendments were effective for the Company on January 1, 2019. The Company adopted this guidance on January 1, 2019 and there was no impact on the Company’s financial statements.

 

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): “Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement.” This ASU eliminates, adds and modifies certain disclosure requirements for fair value measurements. Among the changes, entities will no longer be required to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, but will be required to disclose the range and weighted average used to develop significant unobservable inputs for Level 3 fair value measurements. This ASU will be effective for the Company on January 1, 2020. As the guidance only revises disclosure requirements, the adoption of this guidance is not expected to have a material impact on the Company’s financial statements.

 

 9 

 

 

(4) Investment Securities

 

The following summarizes the amortized cost of investment securities classified as available-for-sale and their approximate fair values at September 30, 2019 and December 31, 2018:

 

   Amortized   Gross   Gross     
   Cost   Unrealized   Unrealized   Fair 
(In thousands)  Basis   Gains   Losses   Value 
September 30, 2019                    
State and municipal securities  $10,824   $436   $-   $11,260 
Asset-backed securities   5,676    126    2    5,800 
Government mortgage-backed securities   28,100    256    88    28,268 
Total available-for-sale securities  $44,600   $818   $90   $45,328 
                     
December 31, 2018                    
State and municipal securities  $20,118   $272   $135   $20,255 
Asset-backed securities   6,512    -    141    6,371 
Government mortgage-backed securities   25,135    138    496    24,777 
Total available-for-sale securities  $51,765   $410   $772   $51,403 

 

The scheduled maturities of debt securities were as follows at September 30, 2019:

 

   Available-for-Sale 
   Amortized   Fair 
(In thousands)  Cost   Value 
Due after one year through five years   605    606 
Due after five years through ten years   1,520    1,535 
Due after ten years   8,699    9,119 
Government mortgage-backed securities   28,100    28,268 
Asset-backed securities   5,676    5,800 
   $44,600   $45,328 

 

 10 

 

 

The aggregate fair value and unrealized losses of securities that have been in a continuous unrealized loss position for less than twelve months and for twelve months or longer are as follows at September 30, 2019 and December 31, 2018:

 

   Less than 12 Months   12 Months or Longer   Total 
   Fair   Unrealized   Fair   Unrealized   Fair   Unrealized 
(In thousands)  Value   Losses   Value   Losses   Value   Losses 
September 30, 2019                        
Temporarily impaired securities:                              
Asset-backed securities  $608   $2   $-   $-   $608   $2 
Government mortgage-backed securities   3,898    13    5,830    75    9,728    88 
Total temporarily impaired securities  $4,506   $15   $5,830   $75   $10,336   $90 
                               
December 31, 2018                              
Temporarily impaired securities:                              
State and municipal securities  $6,137   $115   $597   $20   $6,734   $135 
Asset-backed securities   3,833    98    2,538    43    6,371    141 
Government mortgage-backed securities   2,864    32    14,152    464    17,016    496 
Total temporarily impaired securities  $12,834   $245   $17,287   $527   $30,121   $772 

 

Government mortgage-backed and asset-backed securities: Management believes that no individual unrealized loss at September 30, 2019 represents an other-than-temporary impairment (OTTI) because the decline in fair value of these securities is primarily attributable to changes in market interest rates and not credit quality, and because the Company has the intent and ability to hold these investments until market price recovery or maturity.

 

(5) Loans

 

A summary of loans is as follows:

 

   At   At 
   September 30,   December 31, 
   2019   2018 
(Dollars in thousands)  Amount   Percent   Amount   Percent 
Commercial real estate  $412,214    43.82%  $364,867    43.00%
Commercial   422,972    44.96%   361,782    42.64%
Residential real estate   49,073    5.22%   57,361    6.76%
Construction and land development   41,139    4.37%   44,606    5.26%
Consumer   15,305    1.63%   19,815    2.34%
    940,703    100.00%   848,431    100.00%
Allowance for loan losses   (12,437)        (11,680)     
Deferred loan fees, net   (1,985)        (1,223)     
Net loans  $926,281        $835,528      

 

 11 

 

 

The following tables set forth information regarding the activity in the allowance for loan losses by portfolio segment for the three and nine months ended September 30, 2019 and 2018:

 

   For the three months ended September 30, 
(In thousands)  Commercial
Real Estate
   Commercial   Residential
Real Estate
   Construction
and Land
Development
   Consumer   Unallocated   Total 
Allowance for loan losses:                                   
                                    
Balance at June 30, 2019  $4,579   $5,289   $231   $649   $928   $114   $11,790 
Charge-offs   -    -    -    -    (240)   -    (240)
Recoveries   -    20    3    -    31    -    54 
Provision (credit)   366    339    (6)   15    63    56    833 
Balance at September 30, 2019  $4,945   $5,648   $228   $664   $782   $170   $12,437 
                                    
Balance at June 30, 2018  $4,106   $4,512   $282   $968   $735   $27   $10,630 
Charge-offs   (790)   (50)   -    -    (128)   -    (968)
Recoveries   -    26    2    -    23    -    51 
Provision (credit)   969    272    (22)   25    200    (23)   1,421 
Balance at September 30, 2018  $4,285   $4,760   $262   $993   $830   $4   $11,134 

 

   For the nine months ended September 30, 
(In thousands)  Commercial
Real Estate
   Commercial   Residential
Real Estate
   Construction
and Land
Development
   Consumer   Unallocated   Total 
Allowance for loan losses:                                   
                                    
Balance at December 31, 2018  $4,152   $5,742   $251   $738   $710   $87   $11,680 
Charge-offs   -    (2,223)   -    -    (787)   -    (3,010)
Recoveries   -    35    7    -    76    -    118 
Provision (credit)   793    2,094    (30)   (74)   783    83    3,649 
Balance at September 30, 2019  $4,945   $5,648   $228   $664   $782   $170   $12,437 
                                    
Balance at December 31, 2017  $4,483   $3,280   $300   $965   $649   $80   $9,757 
Charge-offs   (790)   (101)   -    -    (526)   -    (1,417)
Recoveries   -    27    2    -    50    -    79 
Provision (credit)   592    1,554    (40)   28    657    (76)   2,715 
Balance at September 30, 2018  $4,285   $4,760   $262   $993   $830   $4   $11,134 

 

 12 

 

 

The following table sets forth information regarding the allowance for loan losses and related loan balances by segment at September 30, 2019 and December 31, 2018:

 

(In thousands)  Commercial
Real Estate
   Commercial   Residential
Real Estate
   Construction
and Land
Development
   Consumer   Unallocated   Total 
September 30, 2019                                   
Allowance for loan losses:                                   
Ending balance:                                   
Individually evaluated for impairment  $-   $133   $-   $-   $-   $-   $133 
Ending balance:                                   
Collectively evaluated for impairment   4,945    5,515    228    664    782    170    12,304 
Total allowance for loan losses ending balance  $4,945   $5,648   $228   $664   $782   $170   $12,437 
                                    
Loans:                                   
Ending balance:                                   
Individually evaluated for impairment  $2,399   $3,902   $184   $216   $-        $6,701 
Ending balance:                                   
Collectively evaluated for impairment   409,815    419,070    48,889    40,923    15,305         934,002 
Total loans ending balance  $412,214   $422,972   $49,073   $41,139   $15,305        $940,703 
                                    
December 31, 2018                                   
Allowance for loan losses:                                   
Ending balance:                                   
Individually evaluated for impairment  $62   $1,039   $-   $-   $-   $-   $1,101 
Ending balance:                                   
Collectively evaluated for impairment   4,090    4,703    251    738    710    87    10,579 
Total allowance for loan losses ending balance  $4,152   $5,742   $251   $738   $710   $87   $11,680 
                                    
Loans:                                   
Ending balance:                                   
Individually evaluated for impairment  $1,853   $5,291   $388   $-   $-        $7,532 
Ending balance:                                   
Collectively evaluated for impairment   363,014    356,491    56,973    44,606    19,815         840,899 
Total loans ending balance  $364,867   $361,782   $57,361   $44,606   $19,815        $848,431 

 

 13 

 

 

The following tables set forth information regarding non-accrual loans and loan delinquencies by portfolio segment at September 30, 2019 and December 31, 2018:

 

                           90 Days     
           90 Days   Total           or More     
   30 - 59   60 - 89   or More   Past   Total   Total   Past Due   Non-accrual 
(In thousands)  Days   Days   Past Due   Due   Current   Loans   and Accruing   Loans 
September 30, 2019                                        
Commercial real estate  $-   $-   $781   $781   $411,433   $412,214   $   -   $1,123 
Commercial   116    -    238    354    422,618    422,972    -    3,519 
Residential real estate   261    -    735    996    48,077    49,073    -    1,049 
Construction and land development   -    -    216    216    40,923    41,139    -    216 
Consumer   94    87    80    261    15,044    15,305    -    80 
Total  $471   $87   $2,050   $2,608   $938,095   $940,703   $-   $5,987 
                                         
December 31, 2018                                        
Commercial real estate  $742   $-   $519   $1,261   $363,606   $364,867   $-   $519 
Commercial   40    -    3,167    3,207    358,575    361,782    -    4,830 
Residential real estate   321    223    30    574    56,787    57,361         850 
Construction and land development   -    -    -    -    44,606    44,606    -    - 
Consumer   62    46    59    167    19,648    19,815    -    62 
Total  $1,165   $269   $3,775   $5,209   $843,222   $848,431   $-   $6,261 

 

 14 

 

 

Information about the Company’s impaired loans by portfolio segment was as follows at and for the nine months ended September 30, 2019 and at and for the year ended December 31, 2018:

 

          Unpaid           Average     Interest  
    Recorded     Principal     Related     Recorded     Income  
(In thousands)   Investment     Balance     Allowance     Investment     Recognized  
September 30, 2019                                        
With no related allowance recorded:                                        
Commercial real estate   $ 2,399     $ 2,406     $ -     $ 2,442     $ 45  
Commercial     1,995       2,133       -       2,397       20  
Residential real estate     184       184       -       334       15  
Construction and land development     216       216       -       216       -  
Consumer     -       -       -       -       -  
Total impaired with no related allowance     4,794       4,939       -       5,389       80  
                                         
With an allowance recorded:                                        
Commercial real estate     -       -       -       -       -  
Commercial     1,907       1,981       133       3,133       -  
Residential real estate     -       -       -       -       -  
Construction and land development     -       -       -       -       -  
Consumer     -       -       -       -       -  
Total impaired with an allowance recorded     1,907       1,981       133       3,133       -  
                                         
Total                                        
Commercial real estate     2,399       2,406       -       2,442       45  
Commercial     3,902       4,114       133       5,530       20  
Residential real estate     184       184       -       334       15  
Construction and land development     216       216       -       216       -  
Consumer     -       -       -       -       -  
Total impaired loans   $ 6,701     $ 6,920     $ 133     $ 8,522     $ 80  
                                         
December 31, 2018                                        
With no related allowance recorded:                                        
Commercial real estate   $ 1,334     $ 1,334     $ -     $ 5,614     $ 69  
Commercial     4,050       4,110       -       4,894       38  
Residential real estate     388       388       -       396       20  
Construction and land development     -       -       -       -       -  
Consumer     -       -       -       -       -  
Total impaired with no related allowance     5,772       5,832       -       10,904       127  
                                         
With an allowance recorded:                                        
Commercial real estate     519       519       62       519       -  
Commercial     1,241       1,267       1,039       1,695       52  
Residential real estate     -       -       -       -       -  
Construction and land development     -       -       -       -       -  
Consumer     -       -       -       -       -  
Total impaired with an allowance recorded     1,760       1,786       1,101       2,214       52  
                                         
Total                                        
Commercial real estate     1,853       1,853       62       6,133       69  
Commercial     5,291       5,377       1,039       6,589       90  
Residential real estate     388       388       -       396       20  
Construction and land development     -       -       -       -       -  
Consumer     -       -       -       -       -  
Total impaired loans   $ 7,532     $ 7,618     $ 1,101     $ 13,118     $ 179  

 

 15 

 

 

The following summarizes troubled debt restructurings entered into during the nine months ended September 30, 2019:

 

(Dollars in thousands)  Number
of
Contracts
   Pre-
Modification
Outstanding
Recorded
Investment
   Post-
Modification
Outstanding
Recorded
Investment
 
September 30, 2019               
Troubled debt restructurings:               
Commercial   1   $1,963   $1,963 
    1   $1,963   $1,963 

 

In the nine months ended September 30, 2019, the Company approved one troubled debt restructuring totaling $1.9 million. This commercial loan was placed on an extended 12-month interest-only period with re-amortization to follow. An impairment analysis was performed and a specific reserve of $133,000 was allocated to this relationship.

 

There were no troubled debt restructurings during the nine months ended September 30, 2018.

 

The following tables present the Company’s loans by risk rating and portfolio segment at September 30, 2019 and December 31, 2018:

 

(In thousands)  Commercial
Real Estate
   Commercial   Residential
Real Estate
   Construction
and Land
Development
   Consumer   Total 
September 30, 2019                              
Grade:                              
Pass  $387,921   $406,968   $-   $41,061   $-   $835,950 
Special mention   5,188    11,463    -    -    -    16,651 
Substandard   19,105    4,541    1,199    78    -    24,923 
Not formally rated   -    -    47,874    -    15,305    63,179 
Total  $412,214   $422,972   $49,073   $41,139   $15,305   $940,703 
                               
December 31, 2018                              
Grade:                              
Pass  $356,415   $339,079   $-   $44,606   $-   $740,100 
Special mention   6,531    11,339    -    -    -    17,870 
Substandard   1,921    10,447    571    -    -    12,939 
Doubtful   -    917    -    -    -    917 
Not formally rated   -    -    56,790    -    19,815    76,605 
Total  $364,867   $361,782   $57,361   $44,606   $19,815   $848,431 

 

 16 

 

 

Credit Quality Information

 

The Company utilizes a seven grade internal loan risk rating system for commercial real estate, construction and land development, and commercial loans as follows:

 

Loans rated 1-3: Loans in these categories are considered “pass” rated loans with low to average risk.

 

Loans rated 4: Loans in this category are considered “special mention.” These loans are starting to show signs of potential weakness and are being closely monitored by management.

 

Loans rated 5: Loans in this category are considered “substandard.” Generally, a loan is considered substandard if it is inadequately protected by the current net worth and paying capacity of the obligors and/or the collateral pledged. There is a distinct possibility that the Company will sustain some loss if the weakness is not corrected.

 

Loans rated 6: Loans in this category are considered “doubtful.” Loans classified as doubtful have all the weaknesses inherent in those classified substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, highly questionable and improbable.

 

Loans rated 7: Loans in this category are considered uncollectible “loss” and of such little value that their continuance as loans is not warranted.

 

On an annual basis, or more often if needed, the Company formally reviews the ratings on all commercial real estate, construction and land development, and commercial loans.

 

For residential real estate and consumer loans, the Company initially assesses credit quality based upon the borrower’s ability to pay and rates such loans as pass. Subsequent risk rating downgrades are based upon the borrower’s payment activity.

 

(6) Deposits

 

A summary of deposit balances, by type is as follows:

 

   September 30,   December 31, 
(In thousands)  2019   2018 
NOW and demand  $323,225   $332,064 
Regular savings   201,883    109,322 
Money market deposits   257,499    229,314 
Total non-certificate accounts   782,607    670,700 
           
Certificate accounts of $250,000 or more   17,804    14,164 
Certificate accounts less than $250,000   96,869    83,232 
Total certificate accounts   114,673    97,396 
Total deposits  $897,280   $768,096 

 

In connection with the Company’s second-step conversion and related stock offering, cash proceeds of $86.9 million from stock subscription deposits were received during the third quarter of 2019 and are included as savings deposits as of September 30, 2019.

 

 17 

 

 

(7) Federal Home Loan Bank Advances

 

Borrowings from the Federal Home Loan Bank (the “FHLB”) are secured by a blanket lien on qualified collateral, consisting primarily of loans with first mortgages secured by one to four family properties, certain commercial real estate loans and other qualified assets.

 

Maturities of advances from the FHLB as of September 30, 2019 are summarized as follows:

 

(In thousands)   
Fiscal Year-End  Dollar Amount
2019  $4,997
2020   11,486
2021   5,000
2023   8,500
Total  $29,983

 

(8) Fair Value Measurements

 

The Company reports certain assets at fair value in accordance with GAAP, which defines fair value and establishes a framework for measuring fair value in accordance with generally accepted accounting principles. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The guidance establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair values:

 

Basis of Fair Value Measurements

·Level 1 - Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
·Level 2 - Quoted prices in markets that are not active, or inputs that are observable either directly or indirectly, for substantially the full term of the asset or liability;
·Level 3 - Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).

 

An asset’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

 

Fair Values of Assets Measured on a Recurring Basis

 

The Company’s investments in state and municipal, asset-backed and government mortgage-backed available-for-sale securities are generally classified within Level 2 of the fair value hierarchy. For these investments, the Company obtains fair value measurements from independent pricing services. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, trading levels, market consensus prepayment speeds, credit information and the instrument’s terms and conditions.

 

 18 

 

 

The following summarizes financial instruments measured at fair value on a recurring basis at September 30, 2019 and December 31, 2018:

 

   Fair Value Measurements at Reporting Date Using 
(In thousands)  Total   Quoted Prices in
Active Markets for
Identical Assets
Level 1
   Significant
Other Observable
Inputs
Level 2
   Significant
Unobservable
Inputs
Level 3
 
September 30, 2019                    
State and municipal securities  $11,260   $-   $11,260   $- 
Asset-backed securities   5,800    -    5,800    - 
Mortgage-backed securities   28,268    -    28,268    - 
Totals  $45,328   $-   $45,328   $- 
                     
December 31, 2018                    
State and municipal securities  $20,255   $-   $20,255   $- 
Asset-backed securities   6,371    -    6,371    - 
Mortgage-backed securities   24,777    -    24,777    - 
Totals  $51,403   $-   $51,403   $- 

  

Fair Values of Assets Measured on a Non-Recurring Basis

 

The Company’s only assets measured at fair value on a nonrecurring basis are loans identified as impaired for which a write-off or specific reserve has been recorded, and other real estate owned. Certain impaired loans of the Company are reported at the fair value of the underlying collateral, less estimated selling costs. The Company classifies impaired loans as Level 3 in the fair value hierarchy. Collateral values are estimated using Level 2 inputs based upon appraisals of similar properties obtained from a third party, but can be adjusted and therefore classified as Level 3. The Company classifies other real estate owned as Level 2 in the fair value hierarchy if the Company has received a purchase and sales agreement.

 

The following summarizes assets measured at fair value on a nonrecurring basis at September 30, 2019 and December 31, 2018:

 

   Fair Value Measurements at Reporting Date Using: 
(In thousands)  Total   Quoted Prices in
Active Markets for
Identical Assets
Level 1
   Significant
Other Observable
Inputs
Level 2
   Significant
Unobservable
Inputs Level 3
 
September 30, 2019                    
Impaired loans  $1,986   $-   $-   $1,986 
Other real estate owned   1,740    -    1,740    - 
                     
December 31, 2018                    
Impaired loans  $659   $-   $-   $659 
Other real estate owned   1,676    -    1,676    - 

 

 19 

 

 

The following is a summary of the valuation methodology and unobservable inputs for Level 3 assets measured at fair value on a nonrecurring basis at September 30, 2019 and December 31, 2018:

 

(In thousands)  Fair Value   Valuation Technique  Unobservable Input
September 30, 2019           
Impaired loans  $1,986    Business valuation   Comparable company evaluations
            
December 31, 2018           
Impaired loans  $659    Real estate appraisals and business valuation   Discount for dated appraisals and comparable company evaluations

 

(9) Fair Value of Financial Instruments

 

GAAP requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. Certain financial instruments and all nonfinancial instruments are excluded from the disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.

 

The carrying amounts and estimated fair values of the Company's financial instruments, all of which are held or issued for purposes other than trading, are as follows at September 30, 2019 and December 31, 2018:

 

   Carrying   Fair Value 
(In thousands)  Amount   Level 1   Level 2   Level 3   Total 
September 30, 2019                         
Financial assets:                         
Cash and cash equivalents  $38,967   $38,967   $-   $-   $38,967 
Available-for-sale securities   45,328    -    45,328    -    45,328 
Federal Home Loan Bank of Boston stock   1,636    1,636    -    -    1,636 
Loans, net   926,281    -    -    924,719    924,719 
Accrued interest receivable   2,567    -    2,567    -    2,567 
Financial liabilities:                         
Deposits   897,280    -    -    898,145    898,145 
Borrowings   29,983    -    30,349    -    30,349 
                          
December 31, 2018                         
Financial assets:                         
Cash and cash equivalents  $28,613   $28,613   $-   $-   $28,613 
Available-for-sale securities   51,403    -    51,403    -    51,403 
Federal Home Loan Bank of Boston stock   2,650    2,650    -    -    2,650 
Loans, net   835,528    -    -    827,090    827,090 
Accrued interest receivable   2,638    -    2,638    -    2,638 
Financial liabilities:                         
Deposits   768,096    -    -    768,010    768,010 
Borrowings   68,022    -    67,846    -    67,846 

 

 20 

 

 

(10) Regulatory Capital

 

The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

 

Effective January 1, 2015 (with a phase-in period of two to four years for certain components), the Bank became subject to capital regulations adopted by the Federal Deposit Insurance Corporation (“FDIC”), which implement the Basel III regulatory capital reforms and the changes required by the Dodd-Frank Act. The regulations require a new Common Equity Tier 1 (“CET1”) capital ratio of 4.5%, a minimum Tier 1 capital to risk-weighted assets ratio of 6.0%, a minimum total capital to risk-weighted assets ratio of 8.0% and a minimum Tier 1 leverage ratio of 4.0%. CET1 generally consists of common stock and retained earnings, subject to applicable adjustments and deductions. Under new prompt corrective action regulations, in order to be considered “well capitalized,” the Bank must maintain a CET1 capital ratio of 6.5% and a Tier 1 ratio of 8.0%, a total risk based capital ratio of 10% and a Tier 1 leverage ratio of 5.0%. As of September 30, 2019 and December 31, 2018, the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action.

 

In addition to establishing the minimum regulatory capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the institution does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted asset above the amount necessary to meet its minimum risk-based capital requirements. The capital conservation buffer requirement began being phased in starting on January 1, 2016 at 0.625% of risk-weighted assets and increased each year until fully implemented at 2.5% on January 1, 2019. At September 30, 2019, the Bank exceeded the fully phased in regulatory requirement for the capital conservation buffer.

 

The Bank’s actual capital amounts and ratios are presented in the following table.

 

       For Capital   To Be Well
Capitalized Under
Prompt Corrective
 
   Actual   Adequacy Purposes   Action Provisions 
(dollars in thousands)  Amount   Ratio   Amount   Ratio   Amount    Ratio 
September 30, 2019                                
Total Capital (to Risk Weighted Assets)  $139,712    14.01%  $79,750  >   8.0%  $99,688  >   10.0%
Tier 1 Capital (to Risk Weighted Assets)   127,275    12.77   $59,813  >   6.0    79,750  >   8.0 
Common Equity Tier 1 Capital (to Risk Weighted Assets)   127,275    12.77   $44,860  >   4.5    64,797  >   6.5 
Tier 1 Capital (to Average Assets)   127,275    12.00   $42,413  >   4.0    53,016  >   5.0 
December 31, 2018                                
Total Capital (to Risk Weighted Assets)  $128,939    14.55%  $70,891  >   8.0%  $88,614  >   10.0%
Tier 1 Capital (to Risk Weighted Assets)   117,855    13.30    53,168  >   6.0    70,891  >   8.0 
Common Equity Tier 1 Capital (to Risk Weighted Assets)   117,855    13.30    39,876  >   4.5    57,599  >   6.5 
Tier 1 Capital (to Average Assets)   117,855    12.69    37,157  >   4.0    46,446  >   5.0 

 

 21 

 

 

As a result of the recently enacted Economic Growth, Regulatory Relief, and Consumer Protection Act, the federal banking agencies, including the FDIC, were required to establish for qualifying institutions with assets of less than $10 billion of assets a “community bank leverage ratio” of between 8% to 10% tangible equity/consolidated assets. Institutions with capital levels meeting or exceeding the specified requirement will be considered to comply with the applicable regulatory capital requirements, including all risk-based requirements. A final rule issued by the federal regulators established a 9% community bank leverage ratio minimum for institutions to opt into the alternative framework, effective March 31, 2020.

 

From time to time, the Company may use capital management tools such as cash dividends and common share repurchases. In January 2017, the Company received a non-objection from the Federal Reserve Board to adopt a stock repurchase program for up to 625,015 shares of its common stock, or approximately 6.6% of the current outstanding shares. Through September 30, 2019, the Company had repurchased at an average price of $21.57 per share, a total of 37,471 shares out of the 625,015 shares authorized for repurchase under the Company’s repurchase program.

 

Liquidation Account

 

Upon the completion of the Company’s stock offering in 2015, a special “liquidation account” was established for the benefit of certain depositors of the Bank in an amount equal to the percentage ownership interest in the equity of the Company to be held by persons other than the MHC as of the date of the latest balance sheet contained in the prospectus utilized in connection with the offering. The Company is not permitted to pay dividends on its capital stock if the Company’s shareholders’ equity would be reduced below the amount of the liquidation account. The liquidation account is reduced annually to the extent that eligible account holders have reduced their qualifying deposits. Subsequent increases will not restore an eligible account holder’s interest in the liquidation account.

 

(11) Employee Stock Ownership Plan

 

The Bank maintains an Employee Stock Ownership Plan (“ESOP”) to provide eligible employees the opportunity to own Company stock. This plan is a tax-qualified retirement plan for the benefit of Bank employees. Contributions are allocated to eligible participants on the basis of compensation, subject to federal tax limits. The number of shares committed to be released per year through 2029 is 23,810.

 

The Company loaned funds to the ESOP to purchase 357,152 shares of the Company’s common stock at a price of $10.00 per share. The loan is payable annually over 15 years at a rate per annum equal to the Prime Rate as of December 31 (5.50% at December 31, 2018). Loan payments are principally funded by cash contributions from the Bank.

 

Shares held by the ESOP include the following:

 

   September 30, 2019   December 31, 2018 
Allocated   95,240    71,430 
Committed to be allocated   17,858    23,810 
Unallocated   244,054    261,912 
Total   357,152    357,152 

 

The fair value of unallocated shares was approximately $5.9 million at September 30, 2019.

 

Total compensation expense recognized in connection with the ESOP for the three months ended September 30, 2019 and 2018 was $159,000 and $166,000, respectively. Total compensation expense recognized for the nine months ended September 30, 2019 and 2018 was $440,000 and $463,000, respectively.

 

 22 

 

 

(12) Earnings Per Common Share

 

Basic earnings per share represents income available to common stockholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed in a manner similar to that of basic earnings per share except that the weighted-average number of common shares outstanding is increased to include the number of incremental common shares (computed using the treasury method) that would have been outstanding if all potentially dilutive common stock equivalents were issued during the period. Unallocated ESOP shares, treasury stock and unvested restricted stock is not deemed outstanding for earnings per share calculations.

 

  

Three Months Ended

  

Nine Months Ended

 
   September 30,  

September 30,

 
(Dollars in thousands, except per share amounts)  2019   2018   2019   2018 
Net Income attributable to common shareholders  $3,509   $2,078   $8,258   $4,412 
                     
Average number of common shares issued   9,658,284    9,660,543    9,659,569    9,658,405 
Less:                    
average unallocated ESOP shares   (255,742)   (274,452)   (262,923)   (280,274)
average unvested restricted stock   (71,439)   (110,230)   (79,291)   (115,659)
average treasury stock acquired   (36,282)   (28,494)   (36,282)   (28,712)
Average number of common shares outstanding to calculate basic earnings per common share   9,294,821    9,247,367    9,281,073    9,233,760 
                     
Effect of dilutive unvested restricted stock and stock option awards   88,676    108,043    57,340    75,952 
Average number of common shares outstanding to calculate diluted earnings per common share   9,383,497    9,355,410    9,338,413    9,309,712 
                     
Earnings per common share:                    
Basic  $0.38   $0.22   $0.89   $0.70 
Diluted  $0.37   $0.22   $0.88   $0.70 

 

(13) Share-Based Compensation

 

Under the Provident Bancorp, Inc. 2016 Equity Incentive Plan (the "Equity Plan"), the Company may grant options, restricted stock, restricted units or performance awards to its directors, officers and employees. Both incentive stock options and non-qualified stock options may be granted under the Equity Plan, with the total shares reserved for options equaling 446,440. The exercise price of each option equals the market price of the Company’s stock on the date of grant and the term of each option is generally ten years. The total number of shares reserved for restricted stock or restricted units is 178,575. Options and other awards vest ratably over five years.

 

Expense related to options and restricted stock granted to directors is recognized in directors’ compensation within non-interest expense.

 

Stock Options

 

The fair value of each option is estimated on the date of the grant using the Black-Scholes option-pricing model with the following assumptions:

 

·Volatility is based on peer group volatility because the Company does not have a sufficient trading history.
·Expected life represents the period of time that the option is expected to be outstanding, taking into account the contractual term, and the vesting period.
·The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant for a period equivalent to the expected life of the option.

 

 23 

 

 

A summary of the status of the Company’s stock option grants for the nine months ended September 30, 2019, is presented in the table below:

 

   Stock Option
Awards
   Weighted
Average
Exercise
Price
   Weighted Average
Remaining
Contractual Term
(years)
   Aggregate
Intrinsic
Value
 
Outstanding at December 31, 2018   396,438   $17.89           
Granted   -                
Forfeited   -                
Exercised   -                
Outstanding at September 30, 2019   396,438   $17.89    7.24   $2,435,000 
Outstanding and expected to vest at September 30, 2019   396,438   $17.89    7.24   $2,435,000 
Vested and Exercisable at September 30, 2019   153,706   $17.65    7.17   $980,000 
Unrecognized compensation cost  $929,000               
Weighted average remaining recognition period (years)   2.24                

 

For the three months ended September 30, 2019 and 2018, total expense for the stock options was $103,000 and $94,000, respectively. For the nine months ended September 30, 2019 and 2018, total expense for the stock options was $304,000 and $295,000, respectively.

 

Restricted Stock

 

Shares issued upon the granting of restricted stock may be either authorized but unissued shares or reacquired shares held by the Company. Any shares forfeited because vesting requirements are not met will again be available for issuance under the Equity Plan. The fair market value of shares awarded, based on the market prices at the date of grant, is recorded as unearned compensation and amortized over the applicable vesting period.

 

The following table presents the activity in restricted stock awards under the Equity Plan for the nine months ended September 30, 2019:

 

   Unvested Restricted
Stock Awards
   Weighted Average
Grant Date Price
 
Unvested restricted stock awards at January 1, 2019   98,073   $18.13 
Granted   -      
Forfeited   -      
Vested   (972)   27.20 
Unvested restricted stock awards at September 30, 2019   97,101   $18.04 
Unrecognized compensation cost  $1,273,000      
Weighted average remaining recognition period (years)   2.24      

 

For the three months ended September 30, 2019 and 2018, total expense for the restricted stock awards was $142,000 and $121,000, respectively. For the nine months ended September 30, 2019 and 2018, total expense for the restricted stock awards was $451,000 and $400,000, respectively.

 

 24 

 

 

(14) Commitments and Contingencies

 

Litigation

 

In April 2018, the Bank conducted a foreclosure sale of certain real and personal property which secured four non-accruing loans originally made by the Bank. The aggregate outstanding principal balance of these loans was approximately $7.5 million, of which (a) approximately $4.9 million was due and owing to the Bank and (b) approximately $2.6 million was due and owing to another financial institution who purchased participation interests in certain of these loans (the “Participant”). The Bank received approximately $8.3 million in proceeds from this foreclosure sale. The U.S. Small Business Administration (“SBA”), which also made a secured loan to the same obligors, disputed the Bank’s retention of, and claimed priority to, a portion of the proceeds generated from this foreclosure sale, alleging a breach of contract and sought monetary damages in the approximate amount of $2.0 million. As previously disclosed, we had segregated into a separate deposit account the entire amount in dispute, including the amount that would be provided to the participating institution. In June 2019, we settled this matter with the SBA and the participating institution for the amounts we had segregated and the settlement did not have a significant impact on our financial condition or results of operations.

 

(15)Leases

 

Effective January 1, 2019, the Company adopted ASU No. 2016-02, Leases (Topic 842). This standard required the Company to recognize on the balance sheet right-of-use assets and lease liabilities, which approximate the present value of the Company’s remaining lease payments. As of September 30, 2019, the Company recognized right-of-use assets and operating lease liabilities totaling $3.7 million and $3.9 million, respectively. The right-of-use assets are included in the total for premises and equipment net.

 

In July 2018, the FASB issued ASU No. 2018-11, which provided a practical expedient package for lessees. The Company has elected to use the expedient package and did not reassess whether any existing contracts contain leases; did not reassess the lease classification for existing leases; and did not reassess initial direct costs for any existing leases. As a result, all leases are considered operating leases. The Company’s leases do not provide an implicit rate so an incremental borrowing rate based on the information available at adoption date was used in determining the present value of future payments.

 

The lease liabilities recognized by the Company represent three leased branch locations. The Company’s leases have remaining initial contractual lease terms ranging from nine months to 16.5 years. The Company terminated the lease on the Hampton, New Hampshire branch effective May 2019; therefore, the Company chose to account for this lease using the short-term lease exemption and did not apply the new accounting guidance to this lease. Some of the Company’s leases include options to extend the lease for up to 20 years. The lease liabilities recognized include certain lease extensions as it is expected that the Company will use substantially all lease renewal options. Rent expense for the operating leases has been straight lined for the remaining lease term. For the three and nine months ended September 30, 2019, rent expense for the three operating leases totaled $72,000 and $215,000, respectively.

 

 25 

 

 

The maturities of the annual cash flows for the Company’s lease liabilities and other information as of September 30, 2019 are summarized as follows:

 

(Dollars in thousands)     
Fiscal Year-End   Dollar Amount 
2019   $41 
2020    165 
2021    172 
2022    172 
2023    172 
Thereafter    6,461 
Total lease payments    7,183 
Less imputed interest    (3,302)
Total lease liabilities   $3,881 

 

Weighted-average remaining lease term - operating leases   32.2 years 
Weighted-average discount rate - operating leases   3.78%

 

Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Management’s discussion and analysis of financial condition and results of operations at September 30, 2019 and December 31, 2018 and for the three and nine months ended September 30, 2019 and 2018 is intended to assist in understanding our financial condition and results of operations. Operating results for the three and nine month period ended September 30, 2019 may not be indicative of results for all of 2019 or any other period. The information contained in this section should be read in conjunction with the Unaudited Consolidated Financial Statements and the notes thereto, appearing in Part 1, Item 1 of this report.

 

Forward-Looking Statements

 

This document may contain certain forward-looking statements, such as statements of the Company’s or the Bank’s plans, objectives, expectations, estimates and intentions. Forward-looking statements may be identified by the use of words such as “expects,” “subject,” “believes,” “will,” “intends,” “may,” “will be,” “would” or similar expressions. Readers should not place undue reliance on any forward-looking statements, which reflect management’s analysis of factors only as of the date of which they are given. These statements are subject to change based on various important factors (some of which are beyond the Company’s or the Bank’s control) and actual results may differ materially. These factors include general economic conditions, including trends and levels of interest rates; the ability of our borrowers to repay their loans; the ability of the Company or the Bank to effectively manage its growth; real estate values in the market area; loan demand; competition; changes in accounting policies; changes in laws and regulations; our success in introducing new products or entering new markets; our ability to retain key employees; failures or breaches of our IT systems; and results of regulatory examinations, among other factors. The foregoing list of important factors is not exclusive. Readers should carefully review the factors described in other documents the Company files from time to time with the Securities and Exchange Commission, including Annual and Quarterly Reports on Forms 10-K and 10-Q, and Current Reports on Form 8-K.

 

Except as required by applicable law and regulation, the Company does not undertake — and specifically disclaims any obligation — to update any forward-looking statements after the date of this quarterly report.

 

Critical Accounting Policies

 

Critical accounting estimates are necessary in the application of certain accounting policies and procedures and are particularly susceptible to significant change. Critical accounting policies are defined as those involving significant judgments and assumptions by management that could have a material impact on the carrying value of certain assets or on income under different assumptions or conditions. Management believes that the most critical accounting policies, which involve the most complex or subjective decisions or assessments, are as follows:

 

 26 

 

 

Allowance for Loan Losses. The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the un-collectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.

 

The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectability of loans in light of historical experience, the size and composition of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

 

The Company classifies a loan as impaired when, based on current information and events, it is probable that it 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 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.

 

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, we do not separately identify individual consumer and residential loans for impairment disclosures.

 

The general component of the allowance for loan losses is based on historical loss experience adjusted for qualitative factors stratified by the following loan segments: residential real estate, commercial real estate, construction and land development, commercial and consumer. Management uses a rolling average of historical losses based on a time frame appropriate to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: levels/trends in delinquencies; trends in volume and terms of loans; effects of changes in risk selection and underwriting standards and other changes in lending policies, procedures and practices; experience/ability/depth of lending management and staff; and national and local economic trends and conditions. There were no changes in our policies or methodology pertaining to the general component of the allowance for loan losses during the nine months ended September 30, 2019 or during the year ended December 31, 2018.

 

The qualitative factors are determined based on the various risk characteristics of each loan segment. Risk characteristics relevant to each portfolio segment are as follows:

 

Residential real estate: We generally do not originate loans with a loan-to-value ratio greater than 80% and do not grant subprime loans. Loans with loan to value ratios greater than 80% require the purchase of private mortgage insurance. All loans in this segment are collateralized by owner-occupied residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality in this segment.

 

Commercial real estate: Loans in this segment are primarily income-producing properties throughout Massachusetts and New Hampshire. The underlying cash flows generated by the properties are adversely impacted by a downturn in the economy as evidenced by increased vacancy rates, which in turn, will have an effect on the credit quality in this segment. Management periodically obtains rent rolls and continually monitors the cash flows of these loans.

 

Construction and land development: Loans in this segment primarily include speculative and pre-sold real estate development loans for which payment is derived from sale of the property and a conversion of the construction loans to permanent loans for which payment is then derived from cash flows of the property. Credit risk is affected by cost overruns, time to sell at an adequate price, and market conditions.

 

 27 

 

 

Commercial: Loans in this segment are made to businesses and are generally secured by assets of the business. Repayment is expected from the cash flows of the business. A weakened economy, and resultant decreased consumer spending, will have an effect on the credit quality in this segment.

 

Consumer: Loans in this segment are generally unsecured and repayment is dependent on the credit quality of the individual borrower.

 

The allocated component relates to loans that are classified as impaired. Impairment is measured on a loan by loan basis for commercial, commercial real estate and construction loans 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 is established when the discounted cash flows (or collateral value) of the impaired loan is lower than the carrying value of that loan.

 

We periodically may agree to modify the contractual terms of loans. When a loan is modified and a concession is made to a borrower experiencing financial difficulty, the modification is considered a troubled debt restructuring. All troubled debt restructurings are initially classified as impaired.

 

An unallocated component can be 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 allocated and general reserves in the portfolio.

 

Stock-based Compensation Plans. The Company measures and recognizes compensation cost relating to stock-based payment transactions based on the grant-date fair value of the equity instruments issued. Stock-based compensation is recognized over the period the employee is required to provide services for the award. The Company uses the Black-Scholes option-pricing model to determine the fair value of stock options granted. The determination of fair value involves a number of significant estimates, which require a number of assumptions to determine the model inputs. The fair value of restricted stock is recorded based on the grant date value of the equity instrument issued.

 

Income Taxes. The Company recognizes income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are established for the temporary differences between the accounting basis and the tax basis of our assets and liabilities at enacted tax rates expected to be in effect when the amounts related to such temporary differences are realized or settled. A tax valuation allowance is established, as needed, to reduce net deferred tax assets to the amount expected to be realized.

 

The Company examines its significant income tax positions quarterly to determine whether a tax benefit is more likely than not to be sustained upon examination by tax authorities.

 

 28 

 

 

Balance Sheet Analysis

 

Assets. Total assets were $1.1 billion at September 30, 2019, representing an increase of $104.3 million, or 10.7%, from $974.1 million at December 31, 2018. The increase resulted primarily from increases in net loans of $90.8 million, cash and cash equivalents of $10.4 million, premises and equipment of $8.0 million, and other assets of $1.9 million. The increases were partially offset by decreases in available-for-sale investment securities of $6.1 million.

 

Cash and Cash Equivalents. Cash and cash equivalents increased $10.4 million, or 36.2%, to $39.0 million at September 30, 2019 from $28.6 million at December 31, 2018. The increase in cash and cash equivalents resulted primarily from the receipt of stock subscription orders pending completion of our stock offering, offset partially by repayments of borrowings.

 

Loans. At September 30, 2019, net loans were $926.3 million, or 85.9% of total assets, compared to $835.5 million, or 85.8% of total assets, at December 31, 2018. Increases in commercial loans of $61.2 million, or 16.9%, and in commercial real estate loans of $47.3 million, or 13.0%, were partially offset by decreases in residential real estate loans of $8.3 million, or 14.4%, construction and land development loans of $3.5 million, or 7.8%, and consumer loans of $4.5 million, or 22.8%. Our commercial loan growth is attributed to a continued focus on our specialized renewable energy loans and enterprise value loans. Renewable energy loans increased $11.5 million, or 22.7%, to $61.8 million at September 30, 2019 from $50.4 million at December 31, 2018. Enterprise value loans increased $26.1 million, or 18.8%, to $164.9 million at September 30, 2019 from $138.8 million at December 31, 2018. Our commercial real estate loan growth is primarily due to the funding of two real estate purchases of mobile home parks totaling $29.8 million.

 

The following table sets forth the composition of our loan portfolio by type of loan at the dates indicated.

 

   At   At 
   September 30,   December 31, 
  2019   2018 
(Dollars in thousands)  Amount   Percent   Amount   Percent 
Commercial real estate  $412,214    43.82%  $364,867    43.00%
Commercial   422,972    44.96%   361,782    42.64%
Residential real estate   49,073    5.22%   57,361    6.76%
Construction and land development   41,139    4.37%   44,606    5.26%
Consumer   15,305    1.63%   19,815    2.34%
    940,703    100.00%   848,431    100.00%
Allowance for loan losses   (12,437)        (11,680)     
Deferred loan fees, net   (1,985)        (1,223)     
Net loans  $926,281        $835,528      

 

Premises and Equipment. Premises and equipment increased $8.0 million, or 49.6%, to $24.1 million at September 30, 2019, from $16.1 million at December 31, 2018. The increase was primarily due to increases in construction in progress costs and the adoption of FASB ASU No. 2016-02, Leases (Topic 842). In January 2017, the Company purchased a building in Portsmouth, New Hampshire with the intention of using a majority of the space for banking operations. The construction in progress costs increased $4.3 million, or 77.3%, to $9.8 million at September 30, 2019 from $5.6 million at December 31, 2018. ASU No. 2016-02 became effective January 1, 2019 and required us to recognize on our balance sheet right-of-use assets, which approximate the present value of the remaining lease payments. As of September 30, 2019, the balance of the right-of-use assets was $3.7 million.

 

Other Assets. Other assets increased $1.9 million, or 66.3%, to $4.7 million at September 30, 2019 from $2.8 million at December 31, 2018. The increase is primarily due to an increase in receivables and deferred expenses from our second-step conversion and related stock offering.

 

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Securities. Investments in available-for-sale securities decreased $6.1 million, or 11.8%, to $45.3 million at September 30, 2019 from $51.4 million at December 31, 2018. The decrease is primarily due to principal paydowns on government mortgage-backed securities, partially offset by an increase in the fair value of the securities.

 

Deposits. Total deposits increased $129.2 million, or 16.8%, to $897.3 million at September 30, 2019 from $768.1 million at December 31, 2018. The primary reason for the increase in deposits was due to an increase of $92.6 million, or 84.7%, in savings accounts, an increase of $17.3 million, or 17.7%, in time deposits, and an increase in money market accounts of $28.2 million, or 12.3%, partially offset by a decrease in NOW and demand deposits of $8.8 million, or 2.7%. The increase in savings accounts is primarily due to the receipt of stock subscription orders pending completion of our stock offering. The increase in time deposits is primarily due to increases in brokered certificates of deposit of $6.8 million, or 12.1%, and an increase of $8.8 million, or 169.6%, from Qwickrate, where we gather certificates of deposit nationwide by posting rates we will pay on these deposits. Money market deposits increased due to deposit initiatives. NOW and demand deposits decreased due to the decrease in some of our high rate relationships within this category.

 

Borrowings. Borrowings at September 30, 2019 consisted of Federal Home Loan Bank advances and at December 31, 2018 consisted of Federal Home Loan Bank advances and Federal Reserve Bank borrowings from the borrower-in-custody program. Borrowings decreased $38.0 million, or 55.9%, to $30.0 million at September 30, 2019 from $68.0 million at December 31, 2018. The decrease was primarily due to the repayment of borrowings from the receipt of stock subscription proceeds pending completion of our stock offering.

 

Other Liabilities. Other liabilities decreased $1.0 million, or 8.1%, to $11.4 million at September 30, 2019 from $12.4 million at December 31, 2018. The decrease was primarily due to the settlement of the lawsuit involving certain subordinated lienholders that disputed the priority of the Bank’s liens and the right of the Bank to retain proceeds from a foreclosure sale.

 

Shareholders’ Equity. Total shareholders’ equity increased $10.3 million, or 8.2%, to $135.9 million at September 30, 2019, from $125.6 million at December 31, 2018. The increase was due to year-to-date net income of $8.3 million, other comprehensive income of $814,000, stock-based compensation expense of $755,000, and employee stock option plan shares earned of $440,000. Book value per share increased to $14.12 at September 30, 2019 from $13.05 at December 31, 2018.

 

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Asset Quality.

 

The following table sets forth information regarding our non-performing assets at the dates indicated.

 

   At   At 
   September 30,   December 31, 
(Dollars in thousands)  2019   2018 
Non-accrual loans:          
Real estate:          
Commercial  $1,123   $519 
Residential   1,049    850 
Construction and land development   216    - 
Commercial   3,519    4,830 
Consumer   80    62 
Total non-accrual loans   5,987    6,261 
           
Accruing loans past due 90 days or more   -    - 
Other real estate owned   1,740    1,676 
Total non-performing assets  $7,727   $7,937 
           
Total loans (1)  $938,718   $847,208 
Total assets  $1,078,365   $974,079 
Total non-performing loans to total loans (1)   0.64%   0.74%
Total non-performing assets to total assets   0.72%   0.81%

 

(1) Loans are presented before the allowance for loan losses but include deferred fees/costs.

 

The decrease in non-performing commercial loans at September 30, 2019 compared to December 31, 2018 was primarily due to workouts of the portfolio. Non-accrual loans as of September 30, 2019 consist primarily of three commercial relationships. Of the three relationships, one totaling $1.9 million was originated through the BancAlliance network. BancAlliance has a membership of approximately 200 community banks that together participate in middle market commercial and industrial loans as a way to diversify their commercial portfolio. All impaired loan relationships have been evaluated and specific reserves of $133,000 were allocated as of September 30, 2019.

 

The Company has cooperative relationships with the vast majority of its non-performing loan customers. Repayment of non-performing loans is largely dependent on the return of such loans to performing status or the liquidation of the underlying collateral. The Company pursues the resolution of all non-performing loans through collections, restructures, voluntary liquidation of collateral by the borrower and, where necessary, legal action. When attempts to work with a customer to return a loan to performing status, including restructuring the loan, are unsuccessful, the Company will initiate appropriate legal action seeking to acquire property by deed in lieu of foreclosure or through foreclosure, or to liquidate business assets.

 

Allowance for Loan Losses. The allowance for loan losses is maintained at levels considered adequate by management to provide for probable loan losses inherent in the loan portfolio as of the consolidated balance sheet reporting dates. The allowance for loan losses is based on management’s assessment of various factors affecting the loan portfolio, including portfolio composition, delinquent and non-accrual loans, national and local business conditions and loss experience and an overall evaluation of the quality of the underlying collateral.

 

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The following table sets forth activity in our allowance for loan losses for the periods indicated:

 

   Nine Months Ended September 30, 
(Dollars in thousands)  2019   2018 
Allowance at beginning of period  $11,680   $9,757 
Provision for loan losses   3,649    2,715 
Charge offs:          
Real estate:          
Commercial   -    790 
Residential   -    - 
Construction and land development   -    - 
Commercial   2,223    101 
Consumer   787    526 
Total charge-offs   3,010    1,417 
           
Recoveries:          
Real estate:          
Commercial   -    - 
Residential   7    2 
Construction and land development   -    - 
Commercial   35    27 
Consumer   76    50 
Total recoveries   118    79 
           
Net charge-offs   2,892    1,338 
           
Allowance at end of period  $12,437   $11,134 
           
Non-performing loans at end of period  $5,987   $7,354 
Total loans outstanding at end of period (1)   938,718    794,426 
Average loans outstanding during the period (1)   892,189    772,839 
           
Allowance to non-performing loans   207.73%   151.40%
Allowance to total loans outstanding at end of period   1.32%   1.40%
Net charge-offs to average loans outstanding during the during the period (annualized)   0.43%   0.23%

 

(1) Loans are presented before the allowance for loan losses but include deferred fees/costs

 

During the nine months ended September 30, 2019, total net charge-offs were $2.9 million compared to net charge-offs of $1.3 million for the same period in 2018. Charge-offs in 2019 primarily resulted from three commercial relationships. The Bank charged-off $601,000 for a traditional commercial and industrial relationship with the acceptance of a short-sale of the business. In addition, the Bank charged-off one commercial and industrial loan totaling $917,000 and accepted a short-sale of another loan, each of which was originated through the BancAlliance network. The accepted short-sale resulted in a charge-off of $589,000 on a $1.2 million loan relationship. As of September 30, 2019, the Bank has seven BancAlliance loan relationships remaining totaling $9.2 million. Out of the seven relationships, four totaling $4.7 million are pass rated and three totaling $4.5 million are substandard. During the nine months ended September 30, 2019, one relationship totaling $1.9 million was put on non-accrual and deemed impaired. We have allocated specific reserves totaling $133,000 for this relationship. Our last BancAlliance loan origination was in February 2017, and at this time we are not anticipating originating any new loans through this network.

 

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Results of Operations for the Three Months Ended September 30, 2019 and 2018

 

General. Net income increased $1.4 million, or 68.9%, to $3.5 million for the three months ended September 30, 2019 from $2.1 million for the three months ended September 30, 2018. The increase was primarily related to an increase of $1.7 million in net interest and dividend income, and a decrease in provision for loan losses of $588,000, partially offset by an increase in noninterest expense of $237,000.

 

Interest and Dividend Income. Interest and dividend income increased $2.5 million, or 22.9%, to $13.3 million for the three months ended September 30, 2019 from $10.8 million for the three months ended September 30, 2018. This increase was primarily attributable to an increase in interest and fees on loans, which increased $2.6 million, or 25.7%, to $12.8 million for the three months ended September 30, 2019 from $10.2 million for the three months ended September 30, 2018.

 

The increase in interest income on loans was due to an increase in the average balance of loans of $151.5 million, or 19.5%, to $930.1 million for the three months ended September 30, 2019, from $778.7 million for the three months ended September 30, 2018. In addition, interest income increased due to the yield on loans increasing 27 basis points to 5.52% for the three months ended September 30, 2019 due to our continued focus on higher-yielding commercial lending.

 

Interest Expense. Interest expense increased $830,000, or 58.1%, to $2.3 million for the three months ended September 30, 2019 from $1.4 million for the three months ended September 30, 2018, caused by an increase in interest expense on deposits and borrowings. Interest expense on deposits increased $466,000, or 38.0%, to $1.7 million for the three months ended September 30, 2019 from $1.2 million for the three months ended September 30, 2018. This is due primarily to an increase in the average rate paid on interest-bearing deposits of 27 basis points to 1.13% for the three months ended September 30, 2019 from 0.86% for the three months ended September 30, 2018. The increase in the average rate was primarily the result of increases in the average rates paid on money market accounts and certificates of deposit, partially offset by a decrease in rates paid on NOW accounts. The average rates paid on money market accounts and certificates of deposit increased due to changes in the market rate environment. The average rate paid on NOW accounts decreased due to decreases in balances of some of our high rate relationships within this category. Interest expense on deposits also increased due to an increase in the average balance of interest-bearing deposits of $31.8 million, or 5.6%, to $599.2 million for the three months ended September 30, 2019 from $567.4 million for the three months ended September 30, 2018. The increase resulted primarily from an increase in the average balance of certificates of deposit, which increased $40.1 million, or 43.4%.

 

Interest expense on borrowings increased $364,000, or 178.4%, to $568,000 for the three months ended September 30, 2019 from $204,000 for the three months ended September 30, 2018. The interest expense on borrowings increased mainly due to the increase in average outstanding balance of $60.9 million, or 199.8%, to $91.4 million for the three months ended September 30, 2019, as we borrowed funds to support loan growth.

 

Net Interest and Dividend Income. Net interest and dividend income increased by $1.7 million, or 17.6%, to $11.1 million for the three months ended September 30, 2019 from $9.4 million for the three months ended September 30, 2018. The growth in net interest and dividend income this quarter over the prior year’s third quarter is primarily the result of an increase in our average interest earning assets of $122.7 million, or 14.0%, and an increase in net interest margin of 13 basis points to 4.44%.

 

Provision for Loan Losses. The provision for loan losses was $833,000 for the three months ended September 30, 2019 compared to $1.4 million for the three months ended September 30, 2018. The changes in the provision were based on management’s assessment of loan portfolio growth and composition changes, historical charge-off trends, levels of problem loans and other asset quality trends. During the three months ended September 30, 2019, we had $186,000 in loan net charge-offs.

 

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The provision recorded resulted in an allowance for loan losses of $12.4 million, or 1.32% of total loans, at September 30, 2019, compared to $11.7 million, or 1.38% of total loans, at December 31, 2018, and $11.1 million, or 1.40% of total loans, at September 30, 2018. Non-accrual loans as of September 30, 2019 consisted primarily of three commercial relationships. Impairment was evaluated and specific reserves of $133,000 were allocated to impaired loans as of September 30, 2019.

 

As of September 30, 2019, the Bank has seven BancAlliance loan relationships remaining totaling $9.2 million. Out of the seven relationships, four totaling $4.7 million are pass rated and three totaling $4.5 million are substandard. Included in the substandard loans is one relationship totaling $1.9 million that is on non-accrual and deemed impaired. We have allocated specific reserves totaling $133,000 for this relationship. Our last BancAlliance loan origination was in February 2017 and at this time we are not anticipating originating any new loans through this network.

 

Noninterest Income. Noninterest income decreased $19,000, or 1.8%, and was $1.0 million for the three months ended September 30, 2019 compared to $1.1 million for the three months ended September 30, 2018. The decrease is primarily due to a decrease in other service charges and fees of $52,000, or 10.4%, partially offset by an increase of $24,000, or 6.3%, in customer service fees on deposit accounts.

 

Noninterest Expense. Noninterest expense increased $237,000, or 3.8%, to $6.5 million for the three months ended September 30, 2019 compared to $6.2 million for the three months ended September 30, 2018. The increase is primarily due to an increase in salaries and employee benefits expense, marketing expense and other expense, partially offset by a decrease in professional fees and occupancy expense. The increase of $328,000, or 7.9%, for the three months ended September 30, 2019 in salary and employee benefits was primarily due to a higher number of sales and operations positions compared to the same period in 2018. The increase in marketing expense of $61,000, or 113%, was primarily due to costs associated with updating the Bank’s website. Other expense increased $63,000, or 7.6%, due to increased telecommunication expenses and other real estate owned expenses. The decrease in professional fees of $154,000, or 56.2%, for the three months ended September 30, 2019 was due to legal expenses incurred in 2018 related to certain subordinated lienholders that disputed the priority of the Bank’s liens and the right of the Bank to retain proceeds from a foreclosure sale. During the three months ending September 30, 2019, the Bank received a partial recovery of the legal costs incurred from the lawsuit from an insurance claim totaling $222,000. Occupancy expense decreased $83,000, or 18.2%, due to the closure of our Hampton, New Hampshire branch.

 

Income Tax Provision. We recorded a provision for income taxes of $1.3 million for the three months ended September 30, 2019, reflecting an effective tax rate of 27.0%, compared to a provision of $741,000 for the three months ended September 30, 2018, reflecting an effective tax rate of 26.3%.

 

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Average Balance Sheet and Related Yields and Rates

 

The following tables set forth the average balance sheets, annualized average yields and costs, and certain other information for the periods indicated. No tax-equivalent yield adjustments have been made, as the amount of tax free interest-earning assets is immaterial. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances. The yields set forth below include the effect of deferred fees, discounts, and premiums that are amortized or accreted to interest income or interest expense.

 

   For the Three Months Ended September 30, 
   2019   2018 
       Interest           Interest     
   Average   Earned/   Yield/   Average   Earned/   Yield/ 
(Dollars in thousands)  Balance   Paid   Rate   Balance   Paid   Rate 
Assets:                              
Interest-earning assets:                              
Loans  $930,115   $12,841    5.52%  $778,646   $10,219    5.25%
Short-term investments   14,459    69    1.91%   38,307    203    2.12%
Investment securities   47,302    346    2.93%   54,405    381    2.80%
Federal Home Loan Bank stock   4,101    60    5.85%   1,945    30    6.17%
Total interest-earning assets   995,977    13,316    5.35%   873,303    10,833    4.96%
Non-interest earning assets   64,622              49,289           
                               
Total assets  $1,060,599             $922,592           
                               
Interest-bearing liabilities:                              
Savings accounts  $137,121    138    0.40%  $123,178    97    0.31%
Money market accounts   232,149    717    1.24%   231,896    630    1.09%
NOW accounts   97,323    76    0.31%   119,821    150    0.50%
Certificates of deposit   132,593    760    2.29%   92,475    348    1.51%
Total interest-bearing deposits   599,186    1,691    1.13%   567,370    1,225    0.86%
Borrowings   91,356    568    2.49%   30,467    204    2.68%
Total interest-bearing liabilities   690,542    2,259    1.31%   597,837    1,429    0.96%
Noninterest-bearing liabilities:                              
Noninterest-bearing deposits   221,409              191,802           
Other noninterest-bearing liabilities   14,553              11,162           
Total liabilities   926,504              800,801           
Total equity   134,095              121,791           
Total liabilities and equity  $1,060,599             $922,592