MainStreet Bancshares, Inc 10-K for FY2019
MainStreet Bancshares, Inc. (MNSB)
About this 10-K
MainStreet Bancshares, Inc filed this 10-K on March 23, 2020, covering the fiscal year ended December 31, 2019 (FY2019).
Headline figures
Fiscal year ended December 31, 2019, as reported in this filing, compared with the same period a year earlier where the filing states it.
- Net income
- $13.95M
- up 51.5% from net income of $9.21M a year earlier
- Diluted EPS
- $1.69
- up 22.5% from $1.38 a year earlier
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
| ☒ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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For the fiscal year ended December 31, 2019
OR
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO |
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Commission File Number 001-38817
MainStreet Bancshares, Inc.
(Exact name of Registrant as specified in its Charter)
| Virginia | 81-2871064 |
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| ( State or other jurisdiction of<br><br>incorporation or organization) | (I.R.S. Employer<br><br>Identification No.) |
| 10089 Fairfax Boulevard<br><br>Fairfax, VA | 22030 |
| (Address of principal executive offices) | (Zip Code) |
Registrant’s telephone number, including area code: (703) 481-4567
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Trading<br><br>Symbol(s) | Name of each exchange on which registered | ||
|---|---|---|---|---|
| Common Stock | MNSB | The Nasdaq Stock Market LLC |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YES ☐ NO ☒
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. YES ☐ NO ☒
Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES ☒ NO ☐
Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files). YES ☒ NO ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
| Large accelerated filer | ☐ | Accelerated filer | ☐ | |||
|---|---|---|---|---|---|---|
| Non-accelerated filer | ☒ | Smaller reporting company | ☒ | |||
| Emerging growth company | ☒ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ☐ NO ☒
As of June 28, 2019, the last business day of the Registrant’s most recently completed second fiscal quarter, the aggregate market value of the shares of common equity held by non-affiliates of the Registrant, based on the closing price of the shares of common stock on The NASDAQ Stock Market, was $180,215,069.
The number of shares of Registrant’s Common Stock outstanding as of March 10, 2020 was 8,320,231.
DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part III of this Annual Report on Form 10-K will be found in the Company’s definitive proxy statement for its 2020 Annual Meeting of Shareholders, to be filed pursuant to Regulation 14A under the Securities Exchange Act of 1934, and such information is incorporated herein by this reference.
As used herein, The “Company,” “we,” “our,” and “us” refer to MainStreet Bancshares, Inc., and the “Bank” refers to MainStreet Bank.
Overview
MainStreet Bancshares, Inc. is a commercial bank holding company. MainStreet Bank is a community bank focused on serving the borrowing, cash management and depository needs of small to medium-sized businesses and professional practices and retail customers. We emphasize providing responsive and personalized services to our clients. Due to the consolidation of financial institutions in our primary market area, we believe there is a significant opportunity for a local bank to provide a full range of financial services. By offering highly professional, personalized banking products and service delivery methods and employing advanced banking technologies, we seek to distinguish ourselves from larger, regional banks operating in our market area and are able to compete effectively with other community banks.
We believe we have a solid franchise that meets the financial needs of our clients and communities by providing an array of personalized products and services delivered by seasoned banking professionals with decisions made at the local level. We believe a significant customer base in our market prefers to do business with a local institution that has a local management team, a local Board of Directors and local founders and that this customer base may not be satisfied with the responsiveness of larger regional banks. By providing quality services, coupled with the opportunities provided by the economies in our market area, we have generated and expect to continue to generate organic growth.
We service Northern Virginia as well as the greater Washington, D.C. metropolitan area. Our goal is to deliver a customized and targeted mix of products and services that meets or exceeds customer expectations. To accomplish this goal, we have deployed a premium operating system that gives customers access to up-to-date banking technology. These systems and our highly skilled staff have allowed us to compete aggressively with larger financial institutions. The combination of sophisticated technology and personal service sets us apart from our competition. We strive to be the leading community bank in our market.
We offer a full range of banking services to individuals, small to medium-sized businesses and professional service organizations through both traditional and electronic delivery. We were the first community bank in the Washington, D.C. metropolitan area to offer a full online business banking solution, including remote check scanners on a business customer’s desktop. We offer mobile banking apps for iPhones, iPads and Android devices that provide for remote deposit of checks. In addition, we were the first bank headquartered in the Commonwealth of Virginia to offer CDARS, the Certificate of Deposit Account Registry Service, an innovative deposit insurance solution that provides Federal Deposit Insurance Corporation (“FDIC”) insurance on deposits up to $140 million. We believe that enhanced electronic delivery systems and technology increase profitability through greater productivity and cost control, and allow us to offer new and better products and services.
Our products and services include: business and consumer checking, premium interest-bearing checking, business account analysis, savings, certificates of deposit and other depository services, as well as a broad array of commercial, real estate and consumer loans. Internet account access is available for all personal and business accounts, internet bill payment services are available on most accounts, and a robust online cash management system is available for business customers.
Both the Company and the Bank are incorporated in and chartered by the Commonwealth of Virginia. The Bank is a member of the Federal Reserve System, and its deposits are insured by the FDIC. The Bank opened for business on May 26, 2004 and is headquartered in Fairfax, Virginia. We currently operate seven Bank branches; located in Herndon, Fairfax, Fairfax City, McLean, Clarendon, Leesburg Virginia, and one in Washington D.C.
The Company’s executive offices are located at 10089 Fairfax Boulevard, Fairfax, Virginia. Our telephone number is (703) 481-4567, and our internet address is www.mstreetbank.com. The information contained on our website shall not be considered part of this Memorandum and the Investor Presentation, and the reference to our website does not constitute incorporation by reference of the information contained on the website.
Emerging Growth Company Status
We qualify as an “emerging growth company” under the JOBS Act and as defined in Section 2(a) of the Securities Act. For as long as we are an emerging growth company, we may choose to take advantage of exemptions from various reporting requirements applicable to other public companies but not to emerging growth companies. See “Risk Factors”—We are an emerging growth company, and any decision on our part to comply only with certain reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.
As an emerging growth company:
| • | we may present as few as two years of audited financial statements and two years of related management discussion and analysis of financial condition and results of operations, in contrast to other reporting companies which must provide audited financial statements for three fiscal years; | |
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| • | we are exempt from the requirement to obtain an attestation and report from our auditors on management’s assessment of our internal control over financial reporting under the Sarbanes-Oxley Act of 2002; | |
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| • | we are permitted to provide less extensive disclosure about our executive compensation arrangements; and | |
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| • | we are permitted to include less extensive narrative disclosures than required of other reporting companies, particularly with respect to executive compensation. | |
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In this Form 10-K we have elected to take advantage of the reduced disclosure requirements relating to executive compensation, and in the future we may take advantage of any or all of these exemptions for so long as we remain an emerging growth company. We will remain an emerging growth company until the earliest of (i) the end of the first fiscal year during which we have total annual gross revenues of $1.07 billion or more, (ii) the end of the fiscal year following the fifth anniversary of the completion of our initial registered public offering of common equity securities, (iii) the date on which we have, during the previous three-year period, issued more than $1.0 billion in non-convertible debt and (iv) the date on which we are deemed to be a “large accelerated filer” as defined in Rule 12b-2 under the Securities Exchange Act of 1934 (the “Exchange Act”).
In addition to the relief described above, the JOBS Act permits us an extended transition period for complying with new or revised accounting standards affecting public companies. We have elected not to take advantage of this extended transition period, which means that the financial statements included in this Form 10-K, as well as any financial statements that we file in the future, will be subject to all new or revised accounting standards generally applicable to public companies.
Nasdaq Listing
We were approved to list shares of our common stock on the Nasdaq Capital Market under our current symbol “MNSB” as of April 22, 2019.
MainStreet Bancshares, Inc.
MainStreet Bancshares Inc. is a bank holding company incorporated under the laws of the Commonwealth of Virginia whose principal activity is the ownership and management of MainStreet Bank. The Company is authorized to issue 10,000,000 shares of common stock, par value $4.00 per share. Additionally, the Company is authorized to issue 2,000,000 shares of preferred stock, par value $1.00 per share. There is currently no preferred stock outstanding.
The Company is a registered bank holding company under the Bank Holding Company Act of 1956, as amended, and as such, is subject to inspection, examination, and supervision by the Board of Governors of the Federal Reserve System (the “Federal Reserve”).
MainStreet Bank
MainStreet Bank is a community commercial bank incorporated in and chartered by the Commonwealth of Virginia. The Bank is a member of the Federal Reserve Bank of Richmond, and its deposits are insured by the FDIC. The Bank opened for business in 2004 and is headquartered in Fairfax, Virginia.
In May 2016, the Bank’s shareholders approved a Reorganization Agreement and a related Plan of Share Exchange whereby the Bank would reorganize into a holding company structure. Pursuant to the Plan of Share Exchange, each outstanding share of Bank common stock was automatically converted into and exchanged for one share of the Company’s common stock. On July 15, 2016, the effective date of the reorganization, the common shareholders of the Bank became the common shareholders of the Company.
Our Business
MainStreet Bank services Northern Virginia as well as the greater Washington, D.C. metropolitan area. The Bank’s goal is to deliver a customized and targeted mix of products and services that meets or exceeds customer expectations. To accomplish this goal, the Bank has deployed a premium operating system that gives customers access to the most up-to-date banking technology. These unique systems and a highly skilled staff have allowed the Bank to compete aggressively with larger financial institutions. The combination of sophisticated technology and personal service differentiates the Bank from its competition.
The Bank markets to individuals, small to medium-sized businesses and professionals. The Bank offers a full range of banking services through traditional and electronic delivery. Services include: basic business and consumer checking, premium interest-bearing checking, business account analysis, savings, certificates of deposit and other depository services, as well as a broad array of commercial, real estate and consumer loans. Internet account access is available for all personal and business accounts, internet bill payment services are available on most accounts, and a robust online cash management system is available for business customers. The Bank has enhanced its mobile banking application to include mobile deposits.
As of December 31, 2019, MainStreet Bancshares, Inc. had total consolidated assets of $1.3 billion, total net loans of $1.0 billion, total deposits of $1.1 billion and total stockholders’ equity of $137.0 million, and total equity to total assets was 10.73%. For the years ended December 31, 2019 and 2018, our return on average assets was 1.19% and 0.97%, respectively, and our return on average equity was 10.79% and 10.38%, respectively.
We are focused on growing business relationships and building core deposits, profitable loans and non-interest income. We believe that we have a solid franchise that meets the financial needs of our clients and communities by providing an array of personalized products and services delivered by seasoned banking professionals with decisions made at the local level. We strive to be the leading community bank in our markets.
We believe that our core lending and deposit business segments continue to perform well. For the fiscal years ended December 31, 2018 and 2019, our net charge-offs to average loans was 0.00% and 0.09%, respectively. As of December 31, 2019, we had no non-performing loans and $1.2 million in non-performing assets which represented 0.09% of total assets.
Management believes that the Company is well positioned to build on its core performance to continue to grow profitably. Although we have successfully attracted new associates, providing depth and talent in key positions, additional employees and infrastructure are expected to be needed to manage the increasing customer relationships that come with sustained growth.
We are a community-oriented financial institution. Our Bank offers a wide-range of commercial and consumer loan and deposit products, as well as mortgage services to individuals, and small and medium sized businesses in our market. We seek to be the provider of choice for financial solutions to customers who value exceptional personalized service, local decision making, and modern banking technology. Our business involves attracting deposits from local businesses and individual customers and using these deposits to originate commercial, mortgage, and consumer loans in our market area. We also invest in securities consisting primarily of obligations of U.S. government sponsored entities, municipal obligations and mortgage-backed securities issued by Fannie Mae, Freddie Mac and Ginnie Mae.
The Federal Reserve and the Virginia State Corporation Commission, through its Bureau of Financial Institutions (the “Bureau”), regulate and monitor operations of the Company and the Bank. We are required to file with the FDIC quarterly financial condition and performance reports. The Federal Reserve and the Bureau of Financial Institutions conduct periodic onsite and offsite examinations. We must comply with a wide variety of reporting requirements and banking regulations. The laws and regulations governing us generally have been promulgated to protect depositors and the federal deposit insurance funds and not to protect shareholders. Additionally, we must bear the cost of compliance with the reporting and regulations; these costs can be significant and may have an effect on our financial performance.
Our executive offices are located at 10089 Fairfax Boulevard, Fairfax, Virginia, and our telephone number is (703) 481-4567. Our internet address is www.mstreetbank.com. The information contained on our website should not be considered part of this Form 10-K, and the reference to our website does not constitute incorporation by reference of the information contained on the website.
Our Market Area. We consider our primary market area to be the northern Virginia counties of Arlington, Fairfax, Loudoun, and Prince William, and the cities of Fairfax, Alexandria, Falls Church, Manassas and Manassas Park, as well as Washington DC and the greater Washington, DC metropolitan area. Our headquarters is located approximately 15 miles west of Washington, D.C., in Fairfax County, Virginia.
Fairfax County: According to the U.S. Census Bureau, the 2018 estimated population of Fairfax County was approximately 1,150,795 people. The median household income was approximately $117,515, as compared to a national average household income of approximately $57,652. Approximately 60.7% adults at least 25 years old in this area, have a bachelor’s degree or higher, as compared to approximately 30.9% nationally. Based on estimates released by the Bureau of Labor Statistics of the U.S. Department of Labor for September 2019, the unemployment rate was 2.0% for Fairfax County, as compared to a national unemployment rate of 3.3%. Per the FDIC Summary of Deposits as of June 2018, total deposits in this county were approximately $63.0 billion.
Loudoun County: According to the U.S. Census Bureau, the 2018 estimated population of Loudoun County was approximately 406,850 people. As of the first quarter 2019, the average household income was approximately $129,588, as compared to a national average household income of approximately $57,652. Approximately 59.8% adults at least 25 years old in this area have a bachelor’s degree or higher, as compared to approximately 30.9% nationally. Based on estimates released by the Bureau of Labor Statistics of the U.S. Department of Labor for September 2019, the unemployment rate was 2.0% for Loudoun County, as compared to a national unemployment rate of 3.3%. Per the FDIC Summary of Deposits as of June 2018, total deposits in this county were approximately $7.0 billion.
Arlington County: According to the U.S. Census Bureau, the 2018 estimated population of Arlington County was approximately 237,521 people. As of the first quarter 2019, the average household income was approximately $112,138, as compared to a national average household income of approximately $57,652. Approximately 74.1% adults at least 25 years old in this area have a bachelor’s degree or higher, as compared to approximately 30.9% nationally. Based on estimates released by the Bureau of Labor Statistics of the U.S. Department of Labor for September 2019, the unemployment rate was 2.2% for Arlington County, as compared to a national unemployment rate of 3.3%. Per the FDIC Summary of Deposits as of June 2018, total deposits in this county were approximately $49.6 billion.
Prince William County: According to the U.S. Census Bureau, the 2018 estimated population of Prince William County was approximately 468,011 people. As of the first quarter 2019, the average household income was approximately $103,445, as compared to a national average household income of approximately $57,652. Approximately 40.1% adults at least 25 years old in this area have a bachelor’s degree or higher, as compared to approximately 30.9% nationally. Based on estimates released by the Bureau of Labor Statistics of the U.S. Department of Labor for September 2019, the unemployment rate was 2.2% for Prince William County, as compared to a national unemployment rate of 3.3%. Per the FDIC Summary of Deposits as of June 2018, total deposits in this county were approximately $4.8 billion.
District of Columbia: According to the U.S. Census Bureau, the 2018 estimated population of the District of Columbia was approximately 702,455 people. As of the first quarter 2019, the average household income was approximately $77,649, as compared to a national average household income of approximately $57,652. Approximately 56.6% adults at least 25 years old in this area have a bachelor’s degree or higher, as compared to approximately 30.9% nationally. Based on estimates released by the Bureau of Labor Statistics of the U.S. Department of Labor for September 2019, the unemployment rate was 5.3% for the District of Columbia, as compared to a national unemployment rate of 3.3%. Per the FDIC Summary of Deposits as of June 2018, total deposits were approximately $53.3 billion.
Competitive Strengths. We continually review our product offerings and based on these reviews may selectively add additional products to provide further diversification of our revenue sources and to capture our customers’ full banking relationships. We believe that the following business strengths have been instrumental to the success of our core operations and will enable us to continue profitable growth and to maximize value to our shareholders, while remaining fundamentally sound.
Community Banking Philosophy. We provide our clients with local decision making and individualized service coupled with products and services offered by our larger institutional competitors. As our business lenders, officers, and Bank directors are based in or reside in the communities we serve, we are able to maintain a high-level of involvement in local organizations and establish a strong understanding of the banking needs of the respective communities. We believe that our customer-centric business philosophy and sales approach enables us to build long-term relationships with desirable customers, which enhances the quality and stability of our funding and lending operations. Our mission and philosophy has positioned us well in the communities across our market area and has enabled us to attract and maintain a very talented and experienced management team.
Disciplined Credit Culture. We achieve our strong credit quality by adherence to sound underwriting and credit administration standards and by maintaining long-term customer relationships. All credit decisions between $250,000 and $750,000 require concurrence of a senior lender and Chief Credit Officer. Approvals of credits in excess of $750,000 require full consensus of the Officer’s Loan Committee. We maintain an independent loan review team, and senior management is actively involved with any credits requiring special attention.
Capital Position. The Bank exceeds the regulatory guidelines to be classified as “well capitalized.” Our capital position is strong and has consistently grown. At December 31, 2019, the Bank had a tier 1 leverage capital ratio of 12.12%, a common equity tier 1 risk-based capital ratio of 12.68%, a tier 1 risk-based capital ratio of 12.68%, and a total risk-based capital ratio of 13.50%. We believe that our capital position enhances our ability to grow organically because it enables the Bank to continue lending and to remain focused on our customers’ needs. For additional information, see Note 15 of Notes to Consolidated Financial Statements.
Technology. We have invested in the technology necessary to meet the developing demands of our commercial and retail customers. We utilize a strong core operating system that enables us to efficiently offer high-end deposit and loan products and have partnered with industry-leading internet banking, cash management, mobile banking, and application-based banking to offer a complete banking experience to all customers, regardless of their preference. We participate in an international nationwide automated teller machine network in order to offer our customers ATM transactions at over 55,000 locations in the United States, Canada, United Kingdom and Mexico.
Growth Opportunities. We believe that we can attract new customers and expand our total loans and deposits within our existing market areas through organic growth, strategic branching and possible acquisition opportunities. We expect our market will continue to create opportunities to attract new clients and, in some cases, may become the catalyst for mergers and acquisitions. We expect to grow our loan portfolio, open new branches and consider acquisitions only after rigorous due diligence and substantial quantitative analysis regarding the financial and capital impacts of any such transactions. We believe that maintaining our financial discipline will generate long-term shareholder value.
Lending Activities. The Bank’s primary market focus is on making loans to small businesses, professionals and other consumers in its local market area, along with various aspects of real estate finance. Owner-occupied and investment commercial real estate loans represent the largest segment of the Bank’s loan portfolio. The Bank’s primary lending activities are principally directed to its defined market area in Northern Virginia, as well as the greater Washington, D.C. metropolitan area.
We offer a diversified loan portfolio consisting primarily of commercial business and owner-occupied and investment commercial real estate loans with higher risk-adjusted returns, shorter maturities and more sensitivity to interest rate fluctuations, while still providing high quality loan products for single-family and multi-family residential borrowers.
Commercial Business Lending. Commercial loans are written for a variety of business purposes, including government contract receivables, plant and equipment, general working capital, contract administration and acquisition lending. Our client base is diverse and we do not have a concentration of commercial business loans in any specific industry segment.
Commercial Real Estate Lending. We finance owner-occupied and investment commercial real estate. Our underwriting policies and processes focus on the client’s ability to repay the loan as well as assessment of the underlying real estate. Risks inherent in managing a commercial real estate portfolio relate to sudden or gradual drops in property values as well as changes in the economic climate. We attempt to mitigate those risks by carefully underwriting loans of this type and by following appropriate loan-to-value standards. Commercial real estate loans represent the largest segment of the Bank’s loan portfolio. At December 31, 2019, approximately 12.87% of our loan portfolio related to owner occupied commercial real estate loans, and approximately 27.61% of our loan portfolio related to investment commercial real estate.
Stress testing has become an important component of our organization, including oversight of commercial real estate loans. We have incorporated stress testing into our traditional risk management procedures, which examine the portfolio for expected losses, provision levels, criticized or classified loans, and loan concentrations. Our stress test considerations include:
| • | An immediate and sustained increase in interest rates, which would increase interest expense for the borrower; | |
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| • | An immediate and sustained increase in vacancy, which would decrease rental income; and | |
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| • | An immediate and sustained change in the capitalization rate, or “cap rate,” which would decrease properties’ collateral values. | |
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Real Estate Construction Lending. This segment of our portfolio is predominately residential in nature and is composed of loans with short durations. We offer real estate construction financing to customers that have in place a permanent loan “take-out,” either by the Bank or another institution. Our approach to this type of lending reduces our credit risk, yet offers a competitive product in the marketplace. We also offer construction financing to many local home builders. These loans are also short duration and carefully underwritten with an increased focus on the builder’s reputation and ability to deliver high quality homes on time and within budget.
We also stress test the construction lending portfolio based upon the percentage completion method by stressing the as-is and as-completed appraised values.
Residential Real Estate Lending. The Bank offers a variety of consumer-oriented residential real estate loans both for purchase and refinancing, most of which are brokered to the secondary market. The bulk of our current residential portfolio is made up of home equity loans to individuals. Our home equity portfolio gives the Bank a diverse client base.
Consumer Installment Lending. We offer a broad array of consumer loans including car loans, term loans, and overdraft protection.
Credit Policies and Administration. The Bank has adopted a comprehensive lending policy, which includes a well-defined risk tolerance and stringent underwriting standards for all types of loans. Management believes that it employs experienced lending officers, secures appropriate collateral and carefully monitors the financial conditions of its borrowers.
In addition to the normal repayment risks, all loans in the Bank’s portfolio are subject to the state of the economy and the related effects on the borrower and/or the real estate market. Generally, longer-term loans have periodic interest rate adjustments and/or call provisions. Senior management monitors the loan portfolio closely to ensure that past due loans are minimized and that potential problem loans are addressed swiftly. In addition to the internal business processes employed in the credit administration area, the Bank engages an outside or independent credit review firm to review the loan portfolio. Results of the credit review are used to validate our internal loan ratings and to review independent commentary on specific loans and loan administration activities.
Lending Limit. As of December 31, 2019, our legal lending limit for loans to one borrower was approximately $23.7 million. Our loan policy prescribes a sub-limit to borrowers based upon our determination of each borrower’s credit quality. We routinely participate loan amounts in excess of our policy limits to other financial institutions.
For additional information, see Note 1 and Note 5 of Notes to Consolidated Financial Statements.
Investments and Funding. The Bank balances its liquidity needs based on loan and deposit growth through the investment portfolio and purchased funds. It is the Bank’s goal to provide adequate liquidity to support the loan growth of the Bank. In the event the Bank has excess liquidity, investment securities are used to generate additional income. In the event deposit growth does not fully support the Bank’s loan growth, the Bank will rely upon deposit listing services, borrowed funds, or incorporate a combination of sales of investment securities, federal funds and other purchased/borrowed funds in order to augment the Bank’s funding position.
The current investment policy authorizes the Bank to invest in debt securities issued by the United States Government, agencies of the United States Government, or United States Government-sponsored enterprises. The policy permits investments in mortgage-backed securities, including pass-through securities, issued and guaranteed by Fannie Mae, Freddie Mac and Ginnie Mae. The investment policy also permits investments in federal funds and deposits in other insured institutions. In addition, management is authorized to invest in investment grade state and municipal obligations, and private mortgage-backed securities. The Bank does not engage in any hedging or trading activities in its investment portfolio.
Generally accepted accounting principles require that, at the time of purchase, the Bank designate a security as “held-to-maturity,” “available-for-sale,” or “trading,” depending on our ability and intent to hold such security. Securities available for sale are reported at fair value, while securities held to maturity are reported at amortized cost. The Bank does not maintain a trading portfolio. Establishing a trading portfolio would require specific authorization by the Board of Directors.
The investment portfolio is actively managed and consists of investments classified as available-for-sale and held-to-maturity. Under available-for sale classification, investment instruments may be sold as deemed appropriate by management. On a monthly basis, the investment portfolio is marked to market as required by ASC 320. Additionally, the investment portfolio is used to balance the Bank’s asset and liability position. The Bank invests in fixed rate or floating rate instruments as necessary to reduce interest rate risk exposure.
At December 31, 2019, the held-to-maturity portfolio, which is primarily composed of municipal securities and is carried at amortized cost, totaled $23.9 million. At that date, the available-for-sale portfolio, which is composed of U.S. Treasury securities, collateralized mortgage-backed securities, subordinated debt of other financial institutions and U.S. Government agency securities and is carried at fair value, totaled $92.8 million. For additional information, See Note 3 of Notes to Consolidated Financial Statements.
Subordinated Notes. On December 30, 2016, the Company completed the issuance and sale of $14.3 million in aggregate principal amount of fixed-to-floating rate subordinated notes in a private placement transaction to various accredited investors. During the first quarter of 2017, an additional $700 thousand of subordinated notes was issued for a total issuance of $15.0 million. The net proceeds of the offering supported growth and were used for other general business purposes. The notes have a maturity date of December 31, 2026 and have an annual fixed interest rate of 6.25% until December 31, 2021. Thereafter, the notes will have a floating interest rate based on three-month LIBOR rate plus 425 basis points (4.25%) (computed on the basis of a 360-day year of twelve 30-day months) from and including January 1, 2022 to the maturity date or any early redemption date. Interest will be paid semi-annually, in arrears, on July 1 and January 1 of each year during the time that the notes remain outstanding through the fixed interest rate period or earlier redemption date. Interest will be paid quarterly, in arrears, on April 1, July 1, October 1 and January 1 throughout the floating interest rate period or earlier redemption date.
Deposit Activities. Deposits are the major source of funding for the Bank. The Bank offers a broad array of deposit products that include demand, NOW, money market and savings accounts as well as certificates of deposit. The Bank typically pays a competitive rate on the interest-bearing deposits. As a relationship-oriented organization, we seek generally to obtain deposit relationships with our loan clients.
We offer a full range of consumer and commercial deposit products, including on-line banking with bill pay, cash management, sweep accounts, wire transfer, check imaging, remote deposit capture and courier services.
As the Bank’s overall balance sheet positions dictate, we may become more or less competitive in our interest rate structure as our liquidity position changes. Additionally, we may use wholesale deposits through sources such as deposit listing services, school systems, government entities and other sources to augment our funding position.
We can also arrange for FDIC insurance for deposits up to $140 million through CDARS, the Certificate of Deposit Account Registry Service, which provides a convenient method for a depositor to enjoy full FDIC insurance on deposits up to $140 million through a single banking relationship.
For additional information on deposits, see Note 8 of Notes to Consolidated Financial Statements.
Payment Service Solutions. Beginning in 2016, the Board and management identified an opportunity for alternative sources of low-cost deposits and fee income. We determined that Financial Technology (FinTech) firms were strong and growing nationwide, and we expanded our strategic plan to include banking customers that require payment service solutions.
Bank management and the Board understand that businesses operating in this space require enhanced vetting and due diligence prior to boarding and thereafter, enhanced risk monitoring (including independent risk auditing) on an ongoing basis throughout the life of the relationship.
Consistent with our culture, we have worked over the past four years to develop an infrastructure to identify, measure, monitor and control the risks associated with payment systems. We started with one “Beta” customer in 2016. During a period of initial development, the Bank designed and implemented comprehensive legal, strategic, procedural and policy documents to guide business opportunities.
In 2018, the total volume of cashless payments in the United States reached approximately $97 trillion. The percentage of Americans using payment apps rose to 60%, and 2019 saw a surge of new payment methods, technologies and the increasing general acceptance of alternative currencies such as Bitcoin, Ripple, and Etherium entering the financial lexicon of the average consumer.
Based upon recent activity, we assume that 2020 will continue to show growth in the variety of payment solutions. The companies providing payments to consumers are a mix of old and new and are currently dependent upon traditional banking and payment systems to offer their services to consumers.
While there have been attempts to divest this dependency, most notably by the efforts of the Office of the Comptroller of the Currency (the “OCC”) with the FinTech Charter, it is clear that at least for now there is a growing opportunity for banks to continue to partner with payment companies. As this industry develops, there is an anticipated opportunity for stable and dependable banks to provide the backbone of the payment industry. In fact, the greatest need is expected to be a bank who is fully prepared to navigate the complex regulatory environment with a strong risk-based approach.
MainStreet Bank is fully committed to support the payments industry. We recognize that, in many cases, payments companies fulfill a critical need to the communities that they serve. We see this as an extension of our mission as well as the OCC’s mission of financial inclusion. It is the goal of the Bank to continue to provide strong partnership and thought leadership in the payments industry.
Competition. We face significant competition for the origination of loans and the attraction of deposits. Our competition for loans comes primarily from financial institutions in our market area and, to a lesser extent, from other financial service providers, such as mortgage companies and mortgage brokers. Competition for loans also comes from the increasing number of non-depository financial service companies entering the mortgage market, such as insurance companies, securities companies and specialty finance companies. Our most direct competition for deposits has historically come from other financial institutions operating in our market area. We also face competition for investors’ funds from money market funds, mutual funds and other corporate and government securities.
Employees
At December 31, 2019, the Company had 126 full-time employees and no part-time employees.
Supervision, Regulation and Other Factors
General. As a bank holding company, the Company is subject to extensive regulation under the Bank Holding Company Act of 1956, as amended, and to the examination and reporting requirements of the Federal Reserve. The Company is also subject to the rules and regulations of the SEC under the federal securities laws.
As a Virginia-chartered bank that is a member of the Federal Reserve System, the Bank is subject to regulation, supervision and examination by the Bureau and the Federal Reserve. State and federal laws also govern the activities in which the Bank engages, the investments that it makes and the aggregate amount of loans that may be granted to one borrower. The Bureau and the Federal Reserve also regulate the branching authority of the Bank. In addition, various consumer and compliance laws and regulations affect the Bank’s operations.
The earnings of the Company’s subsidiaries, and therefore the earnings of the Company, are affected by general economic conditions, management policies, changes in state and federal legislation and actions of various regulatory authorities, including those referred to above. The following description summarizes some of the significant state and federal and state laws to which the Company and the Bank are subject. To the extent that statutory or regulatory provisions or proposals are described, the description is qualified in its entirety by reference to the particular statutory or regulatory provisions or proposals.
Legislation is introduced from time to time in the United States Congress that may affect our operations. In addition, the regulations that govern us may be amended from time to time. Any such legislation or regulatory changes in the future could adversely affect our operations and financial condition.
Financial Regulatory Reform. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), which was enacted in July 2010, imposed various new restrictions on, and an expanded framework of regulatory oversight for, financial entities, including depository institutions and their holding companies.
In May 2018, the Economic Growth, Regulatory Relief and Consumer Protection Act (the “Regulatory Relief Act”) was enacted to modify or remove certain financial reform rules and regulations, including certain of those implemented under the Dodd-Frank Act. While the Regulatory Relief Act maintains most of the regulatory structure established by the Dodd-Frank Act, it amends some aspects of the regulatory framework for small depository institutions with assets of less than $10 billion and for large banks with assets of more than $50 billion. Certain of these changes could result in meaningful regulatory changes for community banks and their holding companies, such as the Bank and the Company.
In February 2020, the Bank applied to the OCC to convert from a Virginia-chartered bank to a national banking association. Assuming that the OCC approves the Bank’s application and the charter conversion is completed, the Bank will become subject to regulation, supervision and examination by the OCC rather than by the Bureau and the Federal Reserve. Following the proposed charter conversion, the Bank’s business activities, investments and legal lending limit will be governed by the National Bank Act and the regulations and rulings of the OCC. While the applicable provisions of the National Bank Act and OCC regulations differ in various ways from Virginia law and the regulations of the Federal Reserve, the Bank’s management has determined that any such differences would have no material effect on the operations of the Bank. Furthermore, the branching authority of the Bank will remain the same following the proposed charter conversion, and its operations will remain subject to the same consumer and compliance laws and regulations.
The Regulatory Relief Act, among other matters, expands the definition of qualified mortgages that may be held by a financial institution and simplifies the regulatory capital rules for financial institutions and their holding companies with total consolidated assets of less than $10 billion by instructing the federal banking regulators to establish a single “Community Bank Leverage Ratio” of between 8 and 10 percent. See “-Regulation of the Bank – Regulatory Capital Requirements.” In addition, the Regulatory Relief Act includes certain regulatory relief regarding such matters as call reports, the Volcker Rule (proprietary trading prohibitions), mortgage disclosures and risk weights for certain high-risk commercial real estate loans.
Regulation of the Bank. The Bank is subject to regulation and supervision by the Bureau and by the Federal Reserve, which regulation and supervision extends to all aspects of its operations, including but not limited to requirements concerning an allowance for loan losses, lending and mortgage operations, interest rates received on loans and paid on deposits, the payment of dividends to the Company, loans to officers and directors, mergers and acquisitions, capital adequacy, and the opening and closing of branches.
As a state-chartered bank that is a member of the Federal Reserve System, the Bank is subject to periodic examinations by the Bureau and by the Federal Reserve Bank of Richmond. In these examinations, the examiners assess compliance with state and federal banking regulations and the safety and soundness standards on such matters as loan underwriting and documentation, asset quality, earnings standards, internal controls and audit systems, interest rate risk exposure, and employee compensation and benefits. The Regulatory Relief Act increases the asset threshold for depository institutions qualifying for an 18-month on-site examination cycle from $1 billion to $3 billion in total consolidated assets.
The Bureau and the Federal Reserve have enforcement responsibility over the Bank and the authority to bring actions against the Bank and certain institution-affiliated parties, including officers, directors, and employees, for violations of laws or regulations and for engaging in unsafe and unsound practices. Formal enforcement actions include the issuance of a capital directive or cease and desist order, civil money penalties, removal of officers and/or directors, and receivership or conservatorship of the institution.
As noted above, the Bank has applied to the OCC for approval of the Bank’s conversion from a Virginia-chartered bank to a national bank. Upon completion of the proposed conversion, the Bank will be subject to regulation, supervision and examination by the OCC rather than by the Bureau and the Federal Reserve, and the enforcement authority of the OCC will replace that of the Bureau and the Federal Reserve. The Bank’s conversion to a national bank, and the OCC’s replacement of the Bureau and the Federal Reserve as the Bank’s regulatory and supervisory authority, are not expected to have any material effect on the Bank’s operations.
Insurance of Deposit Accounts. The FDIC insures deposits at federally insured financial institutions like the Bank. Deposit accounts in the Bank are insured by the FDIC generally up to a maximum of $250,000 per separately insured depositor and up to a maximum of $250,000 for self-directed retirement accounts.
The FDIC charges insured depository institutions assessments to maintain the Deposit Insurance Fund. Assessment rates for small institutions (those with less than $10 billion in assets) are based on an institution’s weighted average CAMELS component ratings and certain financial ratios and are applied to the institution’s assessment base, which equals its average total assets minus its average tangible equity. Currently, assessment rates (which are subject to certain adjustments) range from 3 to 16 basis points for institutions with CAMELS composite ratings of 1 or 2, 6 to 30 basis points for those with a CAMELS composite score of 3, and 16 to 30 basis points for those with CAMELS Composite scores of 4 or 5.
The FDIC has authority to increase insurance assessments. Any significant increases would have an adverse effect on the operating expenses and results of operations of the Bank. We cannot predict what the FDIC assessment rates will be in the future.
Insurance of deposits may be terminated by the FDIC upon a finding that an institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC. We do not know of any practice, condition or violation that may lead to termination of our deposit insurance.
Regulatory Capital Requirements. The Bank is required to maintain specified levels of regulatory capital under federal banking regulations. The capital requirements are quantitative measures established by regulation that require the Bank to maintain minimum amounts and ratios of capital. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by bank regulators that, if undertaken, could have a direct material effect on the Company’s financial statements.
A new comprehensive regulatory capital framework, implementing the regulatory capital reforms required by the Dodd-Frank Act as well as by the Basel Committee on Banking Supervision, became effective January 1, 2015 (with certain final changes taking effect on January 1, 2019). The currently effective capital rule requires the maintenance of “Common Equity Tier 1” (“CET1”) capital, Tier 1 capital and Total capital to risk-weighted assets of at least 4.5%, 6% and 8%, respectively. The rule also established a minimum leverage ratio of at least 4% Tier 1 capital to average consolidated assets. In addition to the above minimum requirements, the capital rule limits capital distributions and certain discretionary bonus payments if a banking organization does not hold a “capital conservation buffer” consisting of 2.5% of CET1 capital to risk-weighted assets above the amount necessary to meet its minimum risk-based capital requirements. The capital conservation buffer requirement effectively increases the minimum required risk-based capital ratios to 7% for CET1, 8.5% for Tier 1 capital and 10.5% for Total capital.
In determining the amount of risk-weighted assets for purposes of calculating risk-based capital ratios, a bank’s assets, including certain off-balance sheet assets (e.g., recourse obligations, direct credit substitutes, residual interests), are multiplied by a risk weight factor assigned by the capital regulations based on the risk deemed inherent in the type of asset. Higher levels of capital are required for asset categories believed to present greater risk. For example, a risk weight of 0% is assigned to cash and U.S. government securities, a risk weight of 50% is generally assigned to prudently underwritten first lien one- to four-family residential mortgages, a risk weight of 100% is assigned to commercial and consumer loans, a risk weight of 150% is assigned to non-residential mortgage loans that are 90 days past due or otherwise on non-accrual status, and a risk weight of between 0% to 600% is assigned to permissible equity interests, depending on certain specified factors.
Under applicable federal statute, the federal bank regulatory agencies are required to take “prompt corrective action” with respect to institutions that do not meet specified minimum capital requirements. For these purposes, the statute establishes five capital categories: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. Under the implementing regulations, in order to be considered well-capitalized, a bank must have a ratio of CET1 capital to risk-weighted assets of 6.5%, a ratio of Tier 1 capital to risk-weighted assets of 8%, a ratio of total capital to risk-weighted assets of 10%, and a leverage ratio of 5%. In order to be considered adequately capitalized, a bank must have the minimum capital ratios required by the regulatory capital rule described above. Institutions with lower capital ratios are assigned to lower capital categories. Based on safety and soundness concerns, a bank may be assigned to a lower capital category than would otherwise apply based on its capital ratios. A bank that is not well-capitalized is subject to certain restrictions on brokered deposits and interest rates on deposits. A bank that is not at least adequately capitalized is subject to numerous additional restrictions, and a guaranty by its holding company is required. A bank with a ratio of tangible equity to total assets of 2.0% or less is subject to the appointment of the FDIC as receiver if its capital level does not improve within 90 days
As of December 31, 2019, the Bank was in compliance with all regulatory capital standards and qualified as “well capitalized.” See Note 15 of Notes to Consolidated Financial Statements.
The Regulatory Relief Act, enacted in May 2018, simplified the regulatory capital rules for financial institutions and their holding companies with total consolidated assets of less than $10 billion by instructing the federal banking regulators to establish a single “Community Bank Leverage Ratio” of tangible equity capital divided by average consolidated assets (“CBLR”) of between 8 and 10 percent. Under the statute, any qualifying depository institution or holding company that maintains a leverage ratio exceeding the CBLR will be considered to satisfy the generally applicable leverage and risk-based regulatory capital requirements.
On September 17, 2019 the federal banking agencies issued a final rule that introduces an optional simplified measure of capital adequacy for qualifying community banking organizations (i.e., the community bank leverage ratio (CBLR) framework), as required by the Regulatory Relief Act. The CBLR framework is designed to reduce burden by removing the requirements for calculating and reporting risk-based capital ratios for qualifying community banking organizations that opt into the framework.
In order to qualify for the CBLR framework, a community banking organization must have a tier 1 leverage ratio of at least 9 percent, less than $10 billion in total consolidated assets, and limited amounts of off-balance-sheet exposures and trading assets and liabilities. A qualifying community banking organization that opts into the CBLR framework and meets all requirements under the framework will be considered to have met the well-capitalized ratio requirements under the prompt corrective action regulations and will not be required to report or calculate risk-based capital.
The CBLR framework will be available for banks to use in their March 31, 2020 Call Report.
Transactions with Related Parties. The Bank is subject to the Federal Reserve’s Regulation W, which comprehensively implements the restrictions of Sections 23A and 23B of the Federal Reserve Act on transactions between a bank and its “affiliates.” The sole “affiliate” of the Bank, as defined in Regulation W, is the Company.
Section 23A and the implementing provisions of Regulation W generally place limits on the amount of a bank’s loans or extensions of credit to, investments in, or certain other transactions with its affiliates, and on the amount of advances to third parties collateralized by the securities or obligations of affiliates. Section 23B and Regulation W generally require a bank’s transactions with affiliates to be on terms substantially the same, or at least as favorable to the bank, as those prevailing at the time for comparable transactions with non-affiliated companies.
The Bank is also subject to certain restrictions on extensions of credit to executive officers, directors, certain principal shareholders and their related interests. Such extensions of credit must be made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with third parties and must not involve more than the normal risk of repayment or present other unfavorable features.
Community Reinvestment Act and Fair Lending Laws. All insured depository institutions have a responsibility under the Community Reinvestment Act of 1977 (the “CRA”) and federal regulations thereunder to help meet the credit needs of their communities, including low- and moderate-income neighborhoods. In connection with its examination of a state-chartered Federal Reserve member bank like the Bank, the Federal Reserve is required to assess our record of meeting the credit needs of our entire community. The CRA requires the Bank’s record of compliance with the CRA to be taken into account in the evaluation of applications by the Bank or the Company for approval of an expansionary proposal, such as a merger or other acquisition of another bank or the opening of a new branch office. The Bank received a “satisfactory” CRA rating in its most recent assessment received on October 10, 2019 by the Federal Reserve.
In addition, the Equal Credit Opportunity Act and the Fair Housing Act prohibit lenders from discriminating in their lending practices on the basis of characteristics specified in those statutes. A failure to comply with the Equal Credit Opportunity Act or the Fair Housing Act could result in enforcement actions by a bank’s principal federal regulatory agency, as well as by other federal regulatory agencies or the Department of Justice.
Other Consumer Protection Laws. In connection with our deposit-taking, lending and other activities, the Bank’s lending and deposit-taking operations are subject to numerous federal and state laws designed to protect consumers. The Consumer Financial Protection Bureau (“CFPB”) issues regulations and standards under the federal consumer protection laws, which include, among others, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act, the Truth in Lending Act, the Equal Credit Opportunity Act, the Electronic Fund Transfer Act, the Truth in Savings Act, the Fair Credit Reporting Act, and the Dodd-Frank Act’s prohibition on unfair, deceptive or abusive acts or practices. The Bank’s consumer financial products and services are subject to examination by the Federal Reserve for compliance with these and other CFPB regulations and standards.
In addition, customer privacy statutes and regulations limit the ability of the Bank to disclose nonpublic consumer information to non-affiliated third parties. These laws require us to provide notice to our customers regarding privacy policies and practices and to give our customers an option to prevent their non-public personal information from being shared with non-affiliated third parties or with our affiliates.
Bank Secrecy Act / Anti-Money Laundering Laws. The Bank is subject to the Bank Secrecy Act and other anti-money laundering laws and regulations, including the USA PATRIOT Act of 2001. These laws and regulations require the Bank to implement policies, procedures, and controls to detect, prevent, and report money laundering and terrorist financing and to verify the identity of their customers. Violations of these requirements can result in substantial civil and criminal sanctions. In addition, provisions of the USA PATRIOT Act require the federal financial institution regulatory agencies to consider the effectiveness of a financial institution's anti-money laundering activities when reviewing mergers and acquisitions.
Commercial Real Estate Lending Concentrations. The federal banking agencies have issued guidance on sound risk management practices for concentrations in commercial real estate lending. The particular focus is on exposure to commercial real estate loans that are dependent on the cash flow from the real estate held as collateral and that are likely to be sensitive to conditions in the commercial real estate market (as opposed to real estate collateral held as a secondary source of repayment or as an abundance of caution). The purpose of the guidance is not to limit a bank’s commercial real estate lending but to guide banks in developing risk management practices and capital levels commensurate with the level and nature of real estate concentrations. The guidance directs the federal banking agencies to focus their supervisory resources on institutions that may have significant commercial real estate loan concentration risk. A bank that has experienced rapid growth in commercial real estate lending, has notable exposure to a specific type of commercial real estate loan, or is approaching or exceeding the following supervisory criteria may be identified for further supervisory analysis with respect to real estate concentration risk:
| • | Total reported loans for construction, land development and other land represent 100% or more of the bank’s total regulatory capital; or | |
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| • | Total commercial real estate loans (as defined in the guidance) represent 300% or more of the bank’s total regulatory capital and the outstanding balance of the bank’s commercial real estate loan portfolio has increased 50% or more during the prior 36 months. | |
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The guidance provides that the strength of an institution’s lending and risk management practices with respect to such concentrations will be taken into account in supervisory guidance on evaluation of capital adequacy.
Regulation of the Company. As a bank holding company under the Bank Holding Company Act, we are subject to regulation, supervision, and examination by the Federal Reserve. We are required to file quarterly reports with the Federal Reserve and provide such additional information as the Federal Reserve may require. The Federal Reserve has extensive enforcement authority over bank holding companies, including, among other things, the ability to assess civil money penalties, to issue cease and desist or removal orders and to require that a holding company divest subsidiaries (including its bank subsidiaries). In general, enforcement actions may be initiated for violations of law and regulations and unsafe or unsound practices. We are also required to file certain reports with, and otherwise comply with the rules and regulations of, the SEC.
Regulatory Capital Requirements. The federal regulatory capital rules apply to all depository institutions as well as to bank holding companies with consolidated assets of $3 billion or more. However, the regulatory capital requirements generally do not apply on a consolidated basis to a bank holding company with total consolidated assets of less than $3 billion unless the holding company: (1) is engaged in significant nonbanking activities either directly or through a nonbank subsidiary; (2) conducts significant off-balance sheet activities (including securitization and asset management or administration) either directly or through a nonbank subsidiary; or (3) has a material amount of debt or equity securities outstanding (other than trust preferred securities) that are registered with the Securities and Exchange Commission. The Federal Reserve may apply the regulatory capital standards at its discretion to any bank holding company, regardless of asset size, if such action is warranted for supervisory purposes.
Because the Company has total consolidated assets of less than $3 billion and does not engage in activities that would trigger application of the federal regulatory capital rules, it is not at present subject to consolidated capital requirements under the such rules.
Acquisitions. Under the Bank Holding Company Act, we are required to obtain the prior approval of the FRB to acquire ownership or control of more than 5% of the voting shares or substantially all of the assets of any bank holding company or bank or merge or consolidate with another bank holding company. Federal law authorizes bank holding companies to make interstate acquisitions of banks without geographic limitation.
Permissible Activities. In general, the Bank Holding Company Act limits the activities of a bank holding company to those of banking, managing or controlling banks, or any other activity that the Federal Reserve has determined to be so closely related to banking or to managing or controlling banks that an exception is allowed for those activities. Bank holding companies that qualify and elect to be treated as “financial holding companies” may engage in a broad range of additional activities that are (i) financial in nature or incidental to such financial activities or (ii) complementary to a financial activity and do not pose a substantial risk to the safety and soundness of depository institutions or the financial system generally. These activities include securities underwriting and dealing, insurance agency and underwriting, and making merchant banking investments. We have not made an election to be treated as a financial holding company.
Incentive Compensation. Federal banking agencies have issued guidance on incentive compensation policies intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The guidance, which covers all employees that have the ability to materially affect the risk profile of an organization, is based upon the key principles that a banking organization’s incentive compensation arrangements should (i) provide incentives that do not encourage risk-taking beyond the organization’s ability to effectively identify and manage risks, (ii) be compatible with effective internal controls and risk management, and (iii) be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors. In accordance with the Dodd-Frank Act, the federal banking agencies prohibit incentive-based compensation arrangements that encourage inappropriate risk taking by covered financial institutions (generally institutions that have over $1 billion in assets) and are deemed to be excessive, or that may lead to material losses.
The Federal Reserve will review, as part of its standard, risk-focused examination process, the incentive compensation arrangements of banking organizations (such as the Company) that are not “large, complex banking organizations.” These reviews will be tailored to each organization based on the scope and complexity of the organization’s activities and the prevalence of incentive compensation arrangements. The findings of the supervisory initiatives will be included in reports of examination. Deficiencies will be incorporated into the organization’s supervisory ratings, which can affect the organization’s ability to make acquisitions and take other actions. Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies. The scope and content of the U.S. banking regulators’ policies on executive compensation is likely to continue to evolve. It cannot be determined at this time whether compliance with such policies will adversely affect the Company’s ability to hire, retain and motivate its key employees.
Source of Strength. Under the Bank Holding Company Act, a bank holding company is required to act as a source of financial and managerial strength to each of its subsidiary banks and to commit resources to support each subsidiary bank. Under this source of strength doctrine, the FRB may require a bank holding company to make capital injections into a troubled subsidiary bank. The FRB may charge the bank holding company with engaging in unsafe and unsound practices if it fails to commit resources to such a subsidiary bank or if it undertakes actions that the FRB believes might jeopardize its ability to commit resources to such subsidiary bank. A capital injection may be required at times when the holding company does not have the resources to provide it.
In addition, any loans by a holding company to a subsidiary bank are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary bank. In the event of a bank holding company’s bankruptcy, the bankruptcy trustee will assume any commitment by the holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank. Moreover, the bankruptcy law provides that claims based on any such commitment will be entitled to a priority of payment over the claims of the institution’s general unsecured creditors, including the holders of its note obligations.
Payment of Dividends. The Company is subject to various restrictions relating to the payment of dividends. The Federal Reserve has issued guidance indicating that bank holding companies should generally pay dividends only if the company’s net income available to common shareholders over the past year has been sufficient to fully fund the dividends, and the prospective rate of earnings retention appears consistent with the company’s capital needs, asset quality and overall financial condition. The Federal Reserve’s guidance also states that a bank holding company should inform and consult with its regional Federal Reserve Bank in advance of declaring or paying a dividend that exceeds earnings for the period for which the dividend is being paid or that could result in a material adverse change to the organization’s capital structure. In addition, under Virginia law, the Company generally may not pay dividends or distributions to holders of common stock if it would be unable to pay its debts as they become due in the ordinary course of business or if its total assets would be less than the sum of its total liabilities plus the amount of the liquidation preference of any class of shares with superior rights than common stock.
As the majority of the Company’s revenues result from dividends paid to the Company by the Bank, the Company’s ability to pay dividends to our shareholders largely depends on the receipt of such dividends from the Bank. The Bank is subject to various laws and regulations limiting the amount of dividends that it can pay. Under Virginia law, without the permission of the Virginia State Corporation Commission, a state bank may not pay dividends, except from retained earnings. Under federal law applicable to state-chartered Federal Reserve member banks, a bank may not declare or pay a dividend without prior Federal Reserve approval if the total of all dividends declared during the calendar year, including the proposed dividend, exceeds the sum of the bank’s net income during the current calendar year and the retained net income of the prior two calendar years. The Federal Reserve may also object to a proposed dividend based on safety and soundness concerns. Upon the completion of the Bank’s proposed conversion to a national banking association, dividends by the Bank, as a national bank, will be subject to restriction under the National Bank Act and regulations of the OCC rather than under Virginia law and the regulations of the Federal Reserve. The OCC’s regulatory dividend restrictions are effectively the same as those of the Federal Reserve: a national bank may not declare or pay a dividend without prior OCC approval if the total of all dividends declared during the calendar year, including the proposed dividend, exceeds the sum of the bank’s net income during the current calendar year and the retained net income of the prior two calendar years.
No insured depository institution may pay a dividend if, after paying the dividend, the institution would be undercapitalized. In addition, as noted above, if the Bank does not maintain the capital conservation buffer required by applicable regulatory capital rules, its ability to pay dividends to the Company will be limited.
Federal Securities Law. The Company’s common stock is registered under Section 12(b) of the Exchange Act, and the Company is subject to the periodic reporting and other requirements of the SEC under Section 12(b) of the Exchange Act.
This section highlights the material risks that the Company currently faces. Any of the risks described below could materially adversely affect our business, financial condition, and results of operations.
Our business, like that of most banking organizations, is highly susceptible to credit risk.
As a lender, the Bank is exposed to the risk that customers will be unable to repay their loans according to terms of the loan agreements and that the collateral securing payment of the loans (if any) may not be sufficient to assure repayment. Credit losses could have a material adverse effect on our operating results and financial condition.
We have significant exposure to risks associated with commercial and residential real estate.
A substantial portion of our loan portfolio consists of commercial and residential real estate-related loans, including construction and residential and commercial mortgage loans. As of December 31, 2019, we had approximately $134.1 million of owner-occupied and $287.8 million of investment commercial real estate loans outstanding, which represented approximately 12.9% and 27.6%, respectively, of our loan portfolio as of December 31, 2019. As of that same date, we had approximately $272.6 million of construction real estate loans and $150.8 million of residential real estate loans, which represent 26.1% and 14.5% respectively.
The adverse consequences from real estate-related credit risks tend to be cyclical and are often driven by local and national economic developments that are not controllable or entirely foreseeable by us or our borrowers. As a result:
| • | we have a greater risk of loan defaults and losses in the event of economic weaknesses associated with commercial and residential real estate in our market area and nationally, which may have a negative effect on the ability of our borrowers to timely repay their loans; and | |
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| • | loan concentrations and the associated risks related to commercial and residential real estate may pose additional regulatory credit risk concerns, including interest rate risk due to maturity considerations, liquidity risk due to funding considerations and risks to earnings and capital. | |
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Since we engage in lending secured by real estate and may be forced to foreclose on the collateral property and own the underlying real estate, we may be subject to the increased costs and risks associated with the ownership of real property, which could have an adverse effect on our business and results of operations.
A significant portion of our loan portfolio is secured by real property. During the ordinary course of business, we may foreclose on and take title to properties securing certain loans, in which case, we become exposed to the risks inherent in the ownership of real estate. The amount that we, as a mortgagee, may realize after a default is dependent upon factors outside of our control, including:
| • | general or local economic conditions; | |
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| • | environmental clean-up liabilities; | |
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| • | neighbourhood values; | |
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| • | interest rates; | |
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| • | real estate tax rates; | |
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| • | operating expenses of the foreclosed properties; | |
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| • | supply of and demand for rental units or properties; | |
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| • | ability to obtain and maintain adequate occupancy of the properties; | |
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| • | zoning laws; | |
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| • | governmental rules, regulations and fiscal policies; and | |
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| • | extreme weather conditions or other natural or man-made disasters. | |
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Certain expenditures associated with the ownership of real estate, principally real estate taxes and maintenance costs, may also adversely affect our operating expenses.
Commercial and industrial loans may expose us to greater financial and credit risk than other loans.
Commercial and industrial loans generally carry larger loan balances and can involve a greater degree of financial and credit risk than other loans, including less collateral at liquidation. Any significant failure to pay on time by our customers would hurt our earnings. The increased financial and credit risks associated with these types of loans result from several factors, including the concentration of principal in a limited number of loans and borrowers, the size of loan balances, the effects of general economic conditions on income-producing properties and the increased difficulty of evaluating and monitoring these types of loans. In addition, when underwriting a commercial or industrial loan, we may take a security interest in commercial real estate, and, in some instances upon a default by the borrower, we may foreclose on and take title to the property, which may lead to additional risks for us under applicable environmental laws. If hazardous substances were to be discovered on any of these properties, we may be liable to governmental agencies or third parties for the costs of remediation of the hazard, as well as for personal injury and property damage. Many environmental laws can impose liability regardless of whether we knew of, or were responsible for, the contamination.
The small-to-midsized businesses that we lend to may have fewer resources to weather adverse business developments, which may impair a borrower’s ability to repay a loan, and such impairment could have a material adverse effect on our business, financial condition and results of operations.
We focus our business development and marketing strategy primarily on small-to-midsized businesses. Small-to-midsized businesses frequently have smaller market shares than their competition, may be more vulnerable to economic downturns, often need substantial additional capital to expand or compete and may experience substantial volatility in operating results, any of which may impair a borrower’s ability to repay a loan. In addition, the success of a small-to-midsized business often depends on the management skills, talents and efforts of one or two people or a small group of people, and the death, disability or resignation of one or more of these people could have an adverse impact on the business and its ability to repay its loan. If general economic conditions negatively impact the markets in which we operate and small-to-midsized businesses are adversely affected or our borrowers are otherwise harmed by adverse business developments, this, in turn, could have a material adverse effect on our business, financial condition and results of operations.
The borrowing needs of our customers may increase, especially during a challenging economic environment, which could result in increased borrowing against our contractual obligations to extend credit.
A commitment to extend credit is a formal agreement to lend funds to a customer as long as there is no violation of any condition established under the agreement. The actual borrowing needs of our customers under these credit commitments have historically been lower than the contractual amount of the commitments. A significant portion of these commitments expire without being drawn upon. Because of the credit profile of our customers, we typically have a substantial amount of total unfunded credit commitments, which is not reflected on our balance sheet. As of December 31, 2019, we had $251.5 million in unfunded credit commitments to our customers. Actual borrowing needs of our customers may exceed our expectations, especially during a challenging economic environment when our customers’ companies may be more dependent on our credit commitments due to the lack of available credit elsewhere, the increasing costs of credit, or the limited availability of financings from venture firms. This could adversely affect our liquidity, which could impair our ability to fund operations and meet obligations as they become due and could have a material adverse effect on our business, financial condition and results of operations.
We may not be able to manage the risks associated with our anticipated growth and expansion through de novo branching.
Our business strategy includes evaluating strategic opportunities to grow through de novo branching, and we believe that banking location expansion has been meaningful to our growth since inception. De novo branching carries with it certain potential risks, including significant startup costs and anticipated initial operating losses; an inability to gain regulatory approval; an inability to secure the services of qualified senior management to operate the de novo banking location and successfully integrate and promote our corporate culture; poor market reception for de novo banking locations established in markets where we do not have a preexisting reputation; challenges posed by local economic conditions; challenges associated with securing attractive locations at a reasonable cost; and the additional strain on management resources and internal systems and controls. Failure to adequately manage the risks associated with our anticipated growth through de novo branching could have an adverse effect on our business, financial condition and results of operations.
Our allowance for loan losses may not be adequate to cover actual future losses.
We maintain an allowance for loan losses to cover estimable and observable loan losses inherent in our portfolio. Every loan we make carries a certain risk of non-repayment, and we make various assumptions and judgments about the collectability of our loan portfolio including the creditworthiness of our borrowers and the value of the real estate and other assets serving as collateral for the repayment of loans. Through a periodic review of the loan portfolio, management determines the amount of the allowance for loan losses by considering general market conditions, credit quality of the loan portfolio, the collateral supporting the loans and performance of customers relative to their financial obligations with us. The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates, which may be beyond our control, and these losses may exceed current estimates. We cannot fully predict the amount or timing of losses or whether the loss allowance will be adequate in the future. If our assumptions prove to be incorrect, our allowance for loan losses may not be sufficient to cover losses inherent in our loan portfolio, resulting in additions to the allowance. Excessive loan losses could have a material adverse impact on our financial condition and results of operations.
We may be required to increase our provisions for loan losses and to charge off loans in the future, which increases and charges could materially adversely affect us.
There is no precise method of predicting the timing of loan losses. We can give no assurance that our allowance for loan losses is or will be sufficient to absorb actual loan losses. We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, that represents management’s estimable and observable losses within the existing portfolio of loans. The level of the allowance reflects management’s evaluation of, among other factors, the status of specific impaired loans, trends in historical loss experience, delinquency trends, credit concentrations and economic conditions within our market area. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and judgment and requires us to make significant estimates of current credit risks and future trends, all of which may undergo material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require us to increase our allowance for loan losses. Increases in nonperforming loans have a significant impact on our allowance for loan losses.
In addition, bank regulatory agencies periodically review our allowance for loan losses and may require us to increase the provision for loan losses or to recognize further loan charge-offs, based on judgments that differ from those of management. If loan charge-offs in future periods exceed our allowance for loan losses, we will need to record additional provisions to increase our allowance for loan losses. Furthermore, growth in our loan portfolio would generally lead to an increase in the provision for loan losses. Generally, increases in our allowance for loan losses will result in a decrease in net income and shareholders’ equity, and may have a material adverse effect on our financial condition, results of operations and cash flows. Material additions to our allowance could also materially decrease our net income.
The Company may be required to increase its allowance for credit losses as a result of a recently issued accounting standard.
In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The amendments in this ASU, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration.
At the FASB’s October 16, 2019 meeting, the Board affirmed its decision to amend the effective date of this ASU for many companies. Public business entities that are SEC filers, excluding those meeting the smaller reporting company definition, will retain the initial required implementation date of fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. All other entities will be required to apply the guidance for fiscal years, and interim periods within those years, beginning after December 15, 2022.
The revised methodology required by ASU 2016-13, which will be effective for the Company beginning after December 15, 2022, represents a significant change from existing GAAP and may result in material changes to the Company’s accounting for financial instruments. For most debt securities, the transition approach requires a cumulative-effect adjustment to the statement of financial position as of the beginning of the first reporting period the guidance is effective. For other-than-temporarily impaired debt securities, the guidance will be applied prospectively. The Company will record a one-time adjustment to its credit loss allowance, as of the beginning of the first quarter of 2023, equal to the difference between the amounts of its credit loss allowance under the incurred loss methodology and under CECL. The Company cannot yet determine the magnitude of any such one-time cumulative adjustment or of the overall impact of the new standard on its financial condition or results of operations. In anticipation of the ASU, the Company is working with a third party to compile data and develop an estimate using historical and qualitative data based on the requirements of ASU 2016-13.
A significant portion of our loan portfolio is unseasoned.
Since December 31, 2016, our loan portfolio has increased approximately 115.5%, from $464 million at December 31, 2016 to $1.0 billion at December 31, 2019. While we believe our underwriting standards are designed to manage normal lending risks, it is difficult to assess the future performance of our loan portfolio due to the recent origination of many of our loans. As a result, it is difficult to determine whether these loans will become non-performing or delinquent, or whether we will hold non-performing or delinquent loans that may adversely affect our future performance.
New lines of business, products, product enhancements or services may subject us to additional risks.
From time to time, we implement new lines of business, or offer new products and product enhancements as well as new services within our existing lines of business and we will continue to do so in the future. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In implementing, developing or marketing new lines of business, products, product enhancements or services, we may invest significant time and resources, although we may not assign the appropriate level of resources or expertise necessary to make these new lines of business, products, product enhancements or services successful or to realize their expected benefits. Further, initial timetables for the introduction and development of new lines of business, products, product enhancements or services may not be achieved, and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives and shifting market preferences, may also impact the ultimate implementation of a new line of business or offerings of new products, product enhancements or services. Furthermore, any new line of business, product, product enhancement or service could have a significant impact on the effectiveness of our system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business or offerings of new products, product enhancements or services could have an adverse impact on our business, financial condition or results of operations.
In 2016, we added a new funding source by way of facilitating payment services. We are continuing to identify and solicit new customers in need of these specialized services. The primary reasons for expanding into payment services are to secure an additional source of low-cost deposits and to capture additional fee income. A bank’s risks when dealing with a processor account are similar to risks from other activities in which customers conduct transactions through the bank on behalf of the customers’ clients. It is necessary for a bank to implement an adequate processor approval, monitoring and auditing program that extends beyond credit risk management and is conducted on an ongoing basis. When a bank is not able to identify and understand the nature and source of transactions processed through accounts, the bank’s risks and the likelihood of suspicious activity can increase. Without these precautions, a bank could be vulnerable to processing illicit or sanctioned transactions.
Strong competition within our market area could reduce our profits and slow growth.
We face competition in making loans, attracting deposits and hiring and retaining experienced employees. Price competition for loans and deposits may result in our charging lower interest rates on loans and paying higher interest rates on deposits, thereby reducing our net interest income. Price competition also may limit our ability to originate loans. Competition makes it more difficult and costly to attract and retain qualified employees.
Changes in interest rates may negatively affect our earnings, income and financial condition as well as the value of our assets.
Our earnings and cash flows depend substantially upon our net interest income. Net interest income is the difference between interest income earned on interest-earning assets, such as loans and investment securities, and interest expense paid on interest-bearing liabilities, such as deposits and borrowed funds. Interest rates are sensitive to many factors that are beyond our control, including general economic conditions, competition and policies of various governmental and regulatory agencies and, in particular, the policies of the Board of Governors of the Federal Reserve System (the “Federal Reserve”).
In an attempt to help the overall economy, the Federal Reserve has kept interest rates low through its targeted Fed Funds rate. During 2018, the Federal Reserve increased the targeted Fed Funds rate four times, each time by 25 basis points, however, in 2019, the Fed Reserve decreased the targeted Fed Funds rate three times, each time by 25 basis points. The Federal Reserve has indicated that further changes would be subject to economic conditions. As the Federal Reserve increases and decreases the targeted Fed Funds rate, overall interest rates will likely be impacted.
Changes in monetary policy, including changes in interest rates, not only could influence the interest we receive on loans and investment securities and the amount of interest we pay on deposits and borrowings, but such changes could also affect: (1) our ability to originate loans and obtain deposits; (2) the fair value of our financial assets and liabilities, including our securities portfolio; and (3) the average duration of our interest-earning assets. Interest-earning assets may be more responsive to changes in interest rates than interest-bearing liabilities, or vice versa (repricing risk), individual interest rates or rate indices underlying various interest-earning assets and interest-bearing liabilities may not change in the same degree over a given time period (basis risk), and interest rate relationships may change across the spectrum of interest-earning asset and interest-bearing liability maturities (yield curve risk), including a prolonged flat or inverted yield curve environment. Any substantial, unexpected, prolonged change in market interest rates could have a material adverse effect on our financial condition and results of operations.
Liquidity risk could impair our ability to fund operations and jeopardize our financial condition.
Liquidity is essential to our business. An inability to raise funds through deposits, borrowings, the sale of loans and other sources could have a substantial negative effect on our liquidity. Our access to funding sources in amounts adequate to finance our activities, or on terms that are acceptable to us, could be impaired by factors that affect us specifically or the financial services industry or the economy in general. Factors that could detrimentally affect our access to liquidity sources include, among other things, a decrease in the level of our business activity as a result of a downturn in the markets in which our loans are concentrated and an adverse regulatory action against us. Our ability to borrow could also be impaired by factors that are not specific to us, such as a disruption in the financial markets or negative views and expectations about the prospects for the financial services industry.
Among other sources of funds, we rely heavily on deposits for funds to make loans and provide for our other liquidity needs. However, our loan demand has historically exceeded the rate at which we have been able to build core deposits for which there is substantial competition from a variety of different competitors, so we have relied on interest-sensitive deposits, including wholesale deposits, as sources of funds. Those deposits may not be as stable as other types of deposits and, in the future, depositors may not renew those deposits when they mature, or we may have to pay a higher rate of interest to attract or retain them or to replace them with other deposits or with funds from other sources. Not being able to attract deposits, or to retain or replace them as they mature, would adversely affect our liquidity. Paying higher deposit rates to attract, retain or replace those deposits could have a negative effect on our interest margin and operating results.
We may face increasing deposit-pricing pressures, which may, among other things, reduce our profitability.
Deposit pricing pressures may result from competition as well as changes to the interest rate environment. Current economic conditions have intensified competition for deposits. The competition has had an impact on interest rates paid to attract deposits as well as fees charged on deposit products. In addition to the competitive pressures from other depository institutions, we face heightened competition from non-depository financial products such as securities and other alternative investments.
Furthermore, technology and other market changes have made it more convenient for bank customers to transfer funds for investing purposes. Bank customers also have greater access to deposit vehicles that facilitate spreading deposit balances among different depository institutions to maximize FDIC insurance coverage. In addition to competitive forces, we also are at risk from market forces as they affect interest rates. It is not uncommon when interest rates transition from a low interest rate environment to a rising rate environment, for deposit and other funding costs to rise in advance of yields on earning assets. In order to keep deposits required for funding purposes, it may be necessary to raise deposit rates without commensurate increases in asset pricing in the short term.
Changes in general business, economic and political conditions, especially in Northern Virginia, could adversely affect our earnings.
In recent years there has been improvement in the U.S. economy as evidenced by a rebound in the housing market, lower unemployment and higher equities markets. However, economic growth has been uneven, and opinions vary on the strength and direction of the economy. Uncertainties have also arisen regarding the impact that actions and policies of the Trump administration may have on economic and market conditions.
Our success depends, to a certain extent, upon economic and political conditions, local and national, as well as governmental monetary policies. Conditions such as inflation, recession, unemployment, changes in interest rates, money supply and other factors beyond our control may adversely affect our asset quality, deposit levels and loan demand and, therefore our earnings. Because we have a significant amount of real estate loans, decreases in real estate values could adversely affect the value of property used as collateral and our ability to sell the collateral upon foreclosure. Adverse changes in the economy may also have a negative effect on the ability of our borrowers to make timely repayments of their loans, which would have an adverse impact on our earnings. If during a period of reduced real estate values we are required to liquidate the collateral securing a loan to satisfy the debt or to increase our allowance for loan losses, it could materially reduce our profitability and adversely affect our financial condition. The substantial majority of our loans are to individuals and businesses in Northern Virginia. Consequently, significant declines in the economy in Northern Virginia could have a materially adverse effect on our financial condition and results of operations.
Additionally, the emergence of widespread health emergencies or pandemics, such as the potential spread of coronavirus (“Covid-19”), could lead to quarantines, business shutdowns, increases in unemployment, labor shortages, disruptions to supply chains, and overall economic instability. Events such as these may become more common in the future and could cause significant damage such as disrupt power and communication services, impact the stability of our facilities and result in additional expenses, impair the ability of our borrowers to repay their loans, reduce the value of collateral securing the repayment of our loans, which could result in the loss of revenue. While we have established and regularly test disaster recovery procedures, the occurrence of any such event could have a material adverse effect on our business, operations and financial condition.
Historically low interest rates may adversely affect our net interest income and profitability.
In recent years it has been the policy of the Federal Reserve to maintain interest rates at historically low levels through its targeted federal funds rate and the purchase of mortgage-backed securities. As a result, market rates on the loans we have originated and the yields on securities we have purchased have been at historically low levels. As discussed above, rates are fluctuating, and due to a number of factors including changes in monetary policies of the Federal Reserve, will likely continue to fluctuate.
Additional required capital may not be available.
We are required by federal regulatory authorities to maintain adequate levels of capital to support our operations. In addition, we may elect to raise additional capital to support our business or to finance acquisitions, if any, or we may otherwise elect or be required to raise additional capital. Our ability to raise additional capital, if needed, will depend on conditions in the capital markets, economic conditions and a number of other factors, many of which are outside of our control, and on our financial performance. Accordingly, there can be no assurance that we can raise additional capital if needed or on terms acceptable to us. If we cannot raise additional capital when needed, it may have a material adverse effect on our financial condition, results of operations and prospects.
The Tax Cuts and Jobs Act may have an unanticipated impact on our business.
On December 22, 2017, President Trump signed the Tax Cuts and Jobs Act (the “Act”) into law. The Act contains the most extensive changes to the Internal Revenue Code in over 30 years. Among other things, the Tax Act reduces the federal corporate tax rate from a maximum of 35% to a flat 21%, doubles the standard deduction for individuals, limits the deductibility of state and local income, property and sales taxes by individuals to $10,000 per year, eliminates the deductibility of interest on home equity loans, and eliminates the deductibility of interest on new home mortgages in excess of $750,000 (down from $1.0 million previously). The Act also eliminates loss carrybacks and limits the deductibility of loss carryforwards to 80% of current-year taxable income. The Act allows 100% expensing for all non-real property capital expenditures for five years but limits the deductibility of net interest expense (interest expense minus interest income) to 30% of taxable income for businesses with average annual gross receipts of more than $25 million.
While we expect to benefit from the lower federal tax rate in the future, the lower tax rate reduced the value of existing other deferred tax assets, which we were required to revalue during the 2017 fiscal year. Lower tax rates will also reduce the attractiveness of certain tax-advantaged bank investments such as municipal bonds and bank-owned life insurance. Various other provisions of the Act could have unanticipated effects on the business of the Bank. By reducing the tax advantages of home ownership through its limits on the deductibility of mortgage interest and property taxes and the elimination of the deductibility of interest on certain home equity loans, the Act could affect demand for housing and residential mortgages in the future. The value of the properties securing loans in our loan portfolio may be adversely impacted as a result of the changing economics of home ownership, as such an impact could require an increase in our provision for loan losses, which would reduce our profitability and could materially adversely affect our business, financial condition and results of operations. The higher standard deduction could also affect mortgage financing by reducing the number of taxpayers who itemize deductions and therefore benefit from these
deductions. Furthermore, the lower corporate tax rates and new limits on the deductibility of net interest expense may reduce demand for loans from larger business borrowers and increase competition for lending to smaller business borrowers.
We operate in a highly regulated environment, and we may be adversely affected by changes in laws and regulations.
We are subject to extensive regulation, supervision and examination by the Federal Reserve, our primary federal regulator, the Virginia Bureau of Financial Institutions, our chartering authority and the FDIC, as insurer of our deposits. Such regulation and supervision govern the activities in which we and the Bank may engage, and are intended primarily for the protection of the insurance fund and the depositors and borrowers of the Bank rather than for holders of our common stock. Various consumers and compliance laws also affect our operations.
Regulatory authorities have extensive discretion in their supervisory and enforcement activities, including the imposition of restrictions on our operations, the classification of our assets and determination of the level of our allowance for loan losses.
Any change in such regulation and oversight, whether in the form of regulatory policy, regulations, legislation or supervisory action, may have a material impact on our operations.
The earnings of the Bank, and therefore the earnings of the Company, are affected by changes in federal and state legislation and actions of various regulatory authorities.
The Bank may be required to pay significantly higher FDIC premiums or special assessments that could adversely affect its earnings.
The Bank is generally unable to control the amount of premiums that it is required to pay for FDIC insurance. As a result, the Bank may be required to pay significantly higher premiums or additional special assessments that could adversely affect the Bank’s earnings. If the rate of bank failures materially increases, or if the cost of resolving prior failures exceeds expectations, the FDIC may impose still higher FDIC premiums. Any future increases or required prepayments in FDIC insurance premiums may materially adversely affect our results of operations.
The Bank has become subject to more stringent regulatory capital requirements.
The Bank is subject to the comprehensive, consolidated supervision and regulation of the FRB and the Bureau of Financial Institutions, including risk-based and leverage capital requirements. The Bank must maintain certain risk-based and leverage capital ratios as required by our banking regulators, which can change depending on general economic conditions and on the Bank’s particular condition, risk profile and growth plans. If at any time we fail to meet minimum regulatory capital standards or other regulatory requirements, our financial condition would be materially and adversely affected.
In addition, the capital requirements implemented by the federal banking regulators under Basel III could, among other things, result in lower returns on invested capital, adversely affect our ability to pay dividends or repurchase shares, require the raising of additional capital, and result in regulatory actions if we were to be unable to comply with such requirements. Compliance with current or new capital requirements may limit operations that require the intensive use of capital and could adversely affect our ability to expand or maintain present business levels. Additional information, including the Bank’s compliance with applicable capital requirements at December 31, 2019, is provided in Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations.
We extend credit to a variety of customers based on internally established standards and judgment. We manage credit risk through a program of underwriting standards, the review of certain credit decisions and an on-going process of assessment of the quality of the credit already extended. Our credit standards and ongoing process of credit assessment might not protect us from significant credit losses.
We take credit risk by virtue of making loans, extending loan commitments and letters of credit and, to a lesser degree, purchasing non-governmental securities. Our exposure to credit risk is managed through the use of consistent underwriting standards, and we avoid highly leveraged transactions as well as excessive industry and other concentrations. Our credit administration function employs risk management techniques to ensure that loans adhere to corporate policy and problem loans are promptly identified. While these procedures are designed to provide us with the information needed to implement policy adjustments where necessary, and to take proactive corrective actions, there can be no assurance that such measures will be effective in avoiding undue credit risk.
We will depend on our management team to implement our business strategy and execute successful operations, and we could be harmed by the loss of their services.
We are dependent upon the services of the members of our senior management team who direct our strategy and operations. Members of our senior management team, as well as commercial lending specialists who possess expertise in our markets and key business relationships, could be difficult to replace. The loss of these persons, or our inability to hire additional qualified personnel, could impact our ability to implement our business strategy and could have a material adverse effect on our results of operations and our ability to compete in our markets.
We may not be able to attract and retain skilled people.
Our success depends, in large part, on our ability to attract and retain key people. Competition for the best people in most activities in which we engage can be intense, and we may not be able to retain or hire the people we want or need. In order to attract and retain qualified employees, we must compensate our employees at market levels. If we are unable to continue to attract and retain qualified employees, or do so at rates necessary to maintain our competitive position, our performance, including our competitive position, could suffer, and, in turn, adversely affect our business, financial condition and results of operations. The number of experienced banking professionals in our markets may not be the same as in certain other markets.
The decreased soundness of other financial institutions could adversely affect us.
Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services institutions are interrelated as a result of trading, clearing, counterparty or other relationships. We have exposure to many different industries and counterparties, and we routinely execute transactions with counterparties in the financial industry. As a result, defaults by, or even rumors or questions about, one or more financial services institutions, or the financial services industry generally, have led in the past to market-wide liquidity problems and could lead to losses or defaults by us or by other institutions. Many of these transactions expose us to credit risk in the event of default of our counterparty or client. In addition, our credit risk may be exacerbated when the collateral that we hold cannot be realized upon or is liquidated at prices insufficient to recover the full amount of the loan. We cannot assure you that any such losses would not materially and adversely affect our business, financial condition or results of operations.
Our financial performance will be negatively affected if we are unable to execute our growth strategy.
Our stated growth strategy is to grow organically and supplement that growth with select acquisitions, if available. Our success depends primarily on generating loans and deposits of acceptable risk and expense. There can be no assurance that we will be successful in continuing our organic, or internal, growth strategy. Our ability to identify appropriate markets for expansion, recruit and retain qualified personnel, and fund growth at reasonable cost, depends upon prevailing economic conditions, maintenance of sufficient capital, competitive factors, changes in banking laws, and other factors.
We cannot be certain as to our ability to manage increased levels of assets and liabilities without increased expenses and higher levels of nonperforming assets. We may be required to make additional investments in equipment and personnel to manage higher asset levels and loan balances, which may adversely affect earnings, shareholder returns, and our efficiency ratio. Increases in operating expenses or nonperforming assets may decrease our earnings and the value of the Company’s common stock.
We face risks related to our operational, technological and organizational infrastructure.
Our ability to grow and compete is dependent on the Bank’s ability to build or acquire the necessary operational and technological infrastructure and to manage the cost of that infrastructure as we expand. In our case, operational risk can manifest itself in many ways, such as errors related to failed or inadequate processes, faulty or disabled computer systems, fraud by employees or outside persons and exposure to external events. As discussed below, we are dependent on our operational infrastructure to help manage these risks. In addition, we are heavily dependent on the strength and capability of our technology systems that the Bank uses both to interface with customers and to manage internal financial and other systems. Our ability to develop and deliver new products that meet the needs of our existing customers and attract new ones depends on the functionality of our technology systems. Additionally, our ability to run our business in compliance with applicable laws and regulations is dependent on these infrastructures.
We continuously monitor our operational and technological capabilities and make modifications and improvements as circumstances warrant. In some instances, the Bank may build and maintain these capabilities itself. We outsource many of these functions to third parties. These third parties may experience errors or disruptions that could adversely impact the Bank and over which it may have limited control. We also face risk from the integration of new infrastructure platforms and/or new third-party providers of such platforms into the Bank’s existing businesses.
Many of our larger competitors have substantially greater resources to invest in technological improvements. As a result, they may be able to offer additional or superior products compared to those that we will be able to provide, which would put us at a competitive disadvantage. Accordingly, we may lose customers seeking new technology-driven products and services to the extent we are unable to provide such products and services.
A failure in our operational systems or infrastructure, or those of third parties, could impair our liquidity, disrupt our business, result in the unauthorized disclosure of confidential information, damage our reputation and cause financial losses.
Our business is dependent on our ability to process and monitor, on a daily basis, a number of transactions. These transactions, as well as the information technology services we provide to clients, often must adhere to client-specific guidelines, as well as legal and regulatory standards. Developing and maintaining our operational systems and infrastructure is challenging, particularly as a result of rapidly evolving legal and regulatory requirements and technological shifts. Our financial, accounting, data processing or other operating systems and facilities may fail to operate properly or become disabled as a result of events that are wholly or partially beyond the Bank’s control, such as a spike in transaction volume, cyber-attack or other unforeseen catastrophic events, which may adversely affect our ability to process these transactions or provide services.
In addition, our operations rely on the secure processing, storage and transmission of confidential and other information on our computer systems and networks. Although we take protective measures to maintain the confidentiality, integrity and availability of our and our clients’ information across all geographic and product lines, and endeavor to modify these protective measures as circumstances warrant, the nature of the threats continues to evolve. As a result, our computer systems, software and networks may be vulnerable to unauthorized access, loss or destruction of data (including confidential client information), account takeovers, unavailability of service, computer viruses or other malicious code, cyber-attacks and other events that could have an adverse security impact. Despite the defensive measures we take to manage our internal technological and operational infrastructure, these threats may originate externally from third parties such as foreign governments, organized crime and other hackers, and outsource or infrastructure-support providers and application developers, or may originate internally from within our organization. Given the increasingly high volume of our transactions, certain errors may be repeated or compounded before they can be discovered and rectified.
We also face the risk of operational disruption, failure, termination or capacity constraints of any of the third parties that facilitate our business activities, including exchanges, clearing agents, clearing houses or other financial intermediaries. Such parties could also be the source of an attack on, or breach of, our operational systems, data or infrastructure. In addition, as interconnectivity with our clients grows, we increasingly face the risk of operational failure with respect to our clients’ systems.
If one or more of these events occurs, it could potentially jeopardize the confidential, proprietary and other information processed and stored in, and transmitted through, the Bank’s computer systems and networks, or otherwise cause interruptions or malfunctions in our, as well as our clients’ or other third parties’ operations, which could result in damage to our reputation, substantial costs, regulatory penalties and/or client dissatisfaction or loss.
Potential costs of a cyber incident may include, but would not be limited to, remediation costs, increased protection costs, lost revenue from the unauthorized use of proprietary information or the loss of current and/or future customers, and litigation.
We maintain an insurance policy through the Bank’s blanket bond at the maximum of currently available limits. However, we cannot assure you that this policy would be sufficient to cover all financial losses, damages, penalties, including lost revenues, should the Bank experience any one or more of our or a third party’s systems failing or experiencing attack.
We rely on third parties to provide key components of our business infrastructure, and a failure of these parties to perform for any reason could disrupt our operations.
Third parties provide key components of our business infrastructure such as data processing, internet connections, network access, core application processing, statement production and account analysis. Our business depends on the successful and uninterrupted functioning of our information technology and telecommunications systems and third-party servicers. The failure of these systems, or the termination of a third-party software license or service agreement on which any of these systems is based, could interrupt our operations. Because our information technology and telecommunications systems interface with and depend on third-party systems, we could experience service denials if demand for such services exceeds capacity or such third-party systems fail or experience interruptions. Replacing vendors or addressing other issues with our third-party service providers could entail significant delay and expense. If we are unable to efficiently replace ineffective service providers, or if we experience a significant, sustained or repeated, system failure or service denial, it could compromise our ability to operate effectively, damage our reputation, result in a loss of customer business, and subject us to additional regulatory scrutiny and possible financial liability, any of which could have an adverse effect on our business, financial condition and results of operations.
Reputational risk and social factors may impact our results.
Our ability to originate and maintain accounts is highly dependent upon consumer and other external perceptions of our business practices and/or our financial health. Adverse perceptions could damage our reputation in both the customer and funding markets, leading to difficulties in generating and maintaining accounts as well as in financing them. Adverse developments with respect to the consumer or other external perceptions regarding the practices of our competitors, or our industry as a whole, may also adversely impact our reputation. In addition, adverse reputational impacts on third parties with whom we have important relationships may also adversely impact our reputation. Adverse impacts on our reputation, or the reputation of our industry, may also result in greater regulatory and/or legislative scrutiny, which may lead to laws or regulations that may change or constrain the manner in which the Bank engages with its customers and the products the Bank offers. Adverse reputational impacts or events may also increase our litigation risk. We carefully monitor internal and external developments for areas of potential reputational risk and have established governance structures to assist in evaluating such risks in our business practices and decisions.
We could be subject to losses, regulatory action or reputational harm due to fraudulent and negligent acts on the part of loan applicants, our employees and vendors.
In deciding whether to extend credit or enter into other transactions with clients and counterparties, and the terms of any such transaction, we may rely on information furnished by or on behalf of clients and counterparties, including financial statements, property appraisals, title information, employment and income documentation, account information and other financial information. We may also rely on representations of clients and counterparties as to the accuracy and completeness of that information and, with respect to financial statements, on reports of independent auditors. Any such misrepresentation or incorrect or incomplete information, whether fraudulent or inadvertent, may not be detected prior to funding. In addition, one or more of our employees or vendors could cause a significant operational breakdown or failure, either as a result of human error or where an individual purposefully sabotages or fraudulently manipulates our loan documentation, operations or systems. Whether a misrepresentation is made by the applicant or another third party, we generally bear the risk of loss associated with the misrepresentation. A loan subject to a material misrepresentation is typically unsellable or subject to repurchase if it is sold prior to detection of the misrepresentation. The sources of the misrepresentations may also be difficult to locate, and we may be unable to recover any of the monetary losses we may suffer as a result of the misrepresentations. Any of these developments could have an adverse effect on our business, financial condition and results of operations.
We may be subject to increased litigation which could result in legal liability and damage to our reputation.
We may be named from time to time as a defendant in litigation relating to its business and activities. Litigation may include claims for substantial compensatory or punitive damages or claims for indeterminate amounts of damages. We are also involved from time to time in other reviews, investigations and proceedings (both formal and informal) by governmental and self- regulatory agencies regarding its business. These matters also could result in adverse judgments, settlements, fines, penalties, injunctions or other relief.
In addition, in recent years, a number of judicial decisions have upheld the right of borrowers to sue lending institutions on the basis of various evolving legal theories, collectively termed “lender liability.” Generally, lender liability is founded on the premise that a lender has either violated a duty, whether implied or contractual, of good faith and fair dealing owed to the borrower or has assumed a degree of control over the borrower resulting in the creation of a fiduciary duty owed to the borrower or its other creditors or shareholders.
Substantial legal liability or significant regulatory action against the Company could materially adversely affect its business, financial condition or results of operations, or cause significant harm to our reputation.
We are subject to environmental liability risk associated with our lending activities.
In the course of our business, we may purchase real estate, or we may foreclose on and take title to real estate. Although we exercise prudent due diligence when making loans, we could be subject to environmental liabilities with respect to these properties. We may be held liable to a governmental entity or to third parties for property damage, personal injury, investigation and clean-up costs incurred by these parties in connection with environmental contamination or may be required to investigate or clean up hazardous or toxic substances or chemical releases at a property. The costs associated with investigation or remediation activities could be substantial. In addition, if we are the owner or former owner of a contaminated site, we may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from the property. Any significant environmental liabilities could cause an adverse effect on our business, financial condition and results of operations.
We are subject to claims and litigation pertaining to intellectual property.
Banking and other financial services companies, such as ours, rely on technology companies to provide information technology products and services necessary to support their day-to-day operations. Technology companies frequently enter into litigation based on allegations of patent infringement or other violations of intellectual property rights. In addition, patent holding companies seek to monetize patents they have purchased or otherwise obtained. Competitors of our vendors, or other individuals or companies, may from time to time claim to hold intellectual property sold to us by our vendors. Such claims may increase in the future as the financial services sector becomes more reliant on information technology vendors. The plaintiffs in these actions frequently seek injunctions and substantial damages.
Regardless of the scope or validity of such patents or other intellectual property rights, or the merits of any claims by potential or actual litigants, we may have to engage in protracted litigation. Such litigation is often expensive, time-consuming, disruptive to our operations and distracting to management. If we are found to infringe one or more patents or other intellectual property rights, we may be required to pay substantial damages or royalties to a third party. In certain cases, we may consider entering into licensing agreements for disputed intellectual property, although no assurance can be given that such licenses can be obtained on acceptable terms or that litigation will not occur. These licenses may also significantly increase our operating expenses. If legal matters related to intellectual property claims were resolved against us or settled, we could be required to make payments in amounts that could have an adverse effect on our business, financial condition and results of operations.
If we do not adjust to rapid changes in the financial services industry, our financial performance may suffer.
We face substantial competition for customer relationships, as well as other sources of funding in the communities it serves. Competing providers include other banks, savings institutions and trust companies, insurance companies, mortgage banking operations, credit unions, finance companies, title companies, money market funds and other financial and nonfinancial companies which may offer products functionally equivalent to those offered by the Bank. Many competing providers have greater financial resources than we do and offer services within and outside the market areas we serve. In addition to this challenge of attracting and retaining customers for traditional banking services, our competitors include securities dealers, brokers, mortgage bankers, investment advisors and finance and insurance companies who seek to offer one-stop financial services to their customers that may include services that financial institutions have not been able or allowed to offer to their customers in the past. The increasingly competitive environment is primarily a result of changes in regulation, changes in technology and product delivery systems and the accelerating pace of consolidation among financial service providers. If we are unable to adjust both to increased competition for traditional banking services and changing customer needs and preferences, our financial performance and your investment in our common stock could be adversely affected.
Our reported financial results depend on management’s selection of accounting methods and certain assumptions and estimates.
Our accounting policies and assumptions are fundamental to the Company’s reported financial condition and results of operations. Management must exercise judgment in selecting and applying many of these accounting policies and methods so that they comply with generally accepted accounting principles and reflect management’s judgment of the most appropriate manner to report our financial condition and results. In some cases, management must select the accounting policy or method to apply from two or more alternatives, any of which may be reasonable under the circumstances, yet may result in the Company’s reporting materially different results than would have been reported under an alternative method.
We are an emerging growth company, and any decision on our part to comply only with certain reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.
We are an emerging growth company, and, for as long as we continue to be an emerging growth company, we may choose to take advantage of exemptions from various reporting requirements applicable to other public companies but not to emerging growth companies, including, but not limited to, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. As an emerging growth company, we also will not be subject to Section 404(b) of the Sarbanes Oxley Act of 2002, which would require that our independent auditors review and attest as to the effectiveness of our internal control over financial reporting. In this Form 10-K we have elected to take advantage of the reduced disclosure requirements relating to executive compensation, and in the future we may take advantage of any or all of these exemptions for so long as we remain an emerging growth company. In addition to the relief described above, the JOBS Act permits us an extended transition period for complying with new or revised accounting standards affecting public companies. We have elected not to take advantage of this extended transition period, which means that the financial statements included in this Form 10-K, as well as any financial statements that we file in the future, will be subject to all new or revised accounting standards generally applicable to public companies.
We will cease to be an emerging growth company upon the earliest of: (i) the first fiscal year after our annual gross revenues are $1.07 billion or more; (ii) the date on which we have, during the previous three-year period, issued more than $1.0 billion in non-convertible debt securities; or (iii) the end of any fiscal year in which the market value of our common stock held by non-affiliates exceeded $700 million as of the end of the second quarter of that fiscal year, or five years after completing our initial public offering. Investors may find our common stock less attractive if we choose to rely on these exemptions. If some investors find our common stock less attractive as a result of any choices to reduce future disclosure, there may be a less active trading market for our common stock and the price of our common stock may be more volatile.
The obligations associated with being a public company require significant resources and management attention.
As a public company, we face increased legal, accounting, administrative and other costs and expenses that we have not previously incurred, particularly after we are no longer an emerging growth company. We are subject to the reporting requirements of the Exchange Act, which requires that we file annual, quarterly and current reports with respect to our business and financial condition and proxy and other information statements, and the applicable rules and regulations implemented by the SEC, the Sarbanes-Oxley Act, the Dodd-Frank Act, the PCAOB and the Nasdaq Stock Market, each of which imposes additional reporting and other obligations on public companies.
As a public company, we are required to:
We expect these rules and regulations and changes in laws, regulations and standards relating to corporate governance and public disclosure, which have created uncertainty for public companies, to increase legal and financial compliance costs and make some activities more time consuming and costly. These laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. Our investment in compliance with existing and evolving regulatory requirements will result in increased administrative expenses and a diversion of management’s time and attention from revenue-generating activities to compliance activities, which could have an adverse effect on our business, financial condition and results of operations. These increased costs could require us to divert a significant amount of money that we could otherwise use to expand our business and achieve our strategic objectives.
Uncertainty about the future of the London InterBank Offered Rate (LIBOR) may adversely affect our business.
In 2017, the Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it intends to halt persuading or compelling banks to submit rates for the calculation of LIBOR after 2021. As a result, LIBOR, as currently operated, may not continue after 2021. It is impossible to predict whether and to what extent banks will continue to provide LIBOR submissions to the administrator of LIBOR or whether any additional reforms to LIBOR may be enacted in the United Kingdom or elsewhere. At this time, little consensus exists as to what rate or rates may become accepted alternatives to LIBOR. One leading alternative rate, the Secured Overnight Financing Rate (SOFR) published by the Federal Reserve Bank of New York, is not directly comparable to LIBOR and cannot easily or simply be substituted for it in outstanding instruments. Key differences between the two are: SOFR is based on secured lending, while LIBOR is not; and SOFR is limited to overnight lending, while LIBOR encompasses serval short-term maturity periods. It is impossible to predict the effect of any alternatives on the value of LIBOR-based securities and variable rate loans. Our primary exposures to LIBOR are in interest rate loan swaps on commercial loans and subordinated debt. The lack of a leading alternative to LIBOR means that LIBOR continues to be used in many new instruments. In addition, it is not known how a transition away from LIBOR, or to a new version of LIBOR, will impact our ability to use hedge accounting after 2021.
Certain instruments issued by us, including our outstanding subordinated debt, have floating terms based on LIBOR.
As mentioned above, it is not known whether LIBOR will continue after 2021 in a legally workable form. There is a risk that an adverse outcome of the LIBOR transition after 2021 could increase our interest and other costs relative to our outstanding subordinated debt. We may not be able to refinance those instruments on terms that reduce those costs to the level we would have expected if LIBOR were to continue indefinitely, unchanged. A transition from LIBOR could impact or change our hedge accounting practices.
Item 1B. Unresolved Staff Comments
None.
As of December 31, 2019, the net book value of our office properties was $9.5 million, and the net book value of our furniture, fixtures and equipment was $1.3 million. The following table sets forth information regarding our offices.
| Net Book Value | |||||||
|---|---|---|---|---|---|---|---|
| Leased or | Year Acquired | of Real | |||||
| Location | Owned | or Leased | Property | ||||
| (In thousands) | |||||||
| Headquarters: | |||||||
| 10089 Fairfax Blvd. | 5,434 | ||||||
| Fairfax, VA 22030 | Owned | 2010 | |||||
| Other Properties: | |||||||
| Herndon Branch | |||||||
| 722 Elden Street | Leased | 2004 | — | ||||
| Herndon, VA 20170 | |||||||
| Fairfax Branch | |||||||
| 4029 Chain Bridge Road | Leased | 2006 | — | ||||
| Fairfax, VA 22030 | |||||||
| McLean Branch | |||||||
| 1354 Old Chain Bridge Road | Owned | 2014 | 1,301 | ||||
| McLean, VA 22101 | |||||||
| Clarendon Branch | |||||||
| 1000 N. Highland Street | Owned | 2009 | 598 | ||||
| Arlington, VA 22201 | |||||||
| Leesburg Branch | |||||||
| 307 E. Market Street | Owned | 2017 | 2,160 | ||||
| Leesburg, VA 20176 | |||||||
| Washington D.C. Branch | |||||||
| 1130 Connecticut Avenue, N.W. | Leased | 2019 | — | ||||
| Washington , D.C. 20036 |
All values are in US Dollars.
We believe that current facilities are adequate to meet our present and foreseeable needs, subject to possible future expansion. See Note 7 of Notes to the December 31, 2019, Consolidated Financial Statements, for additional disclosures related to the Company’s properties.
At December 31, 2019, the Company was not involved in any pending legal proceedings other than routine legal proceedings occurring in the ordinary course of business which involve amounts in the aggregate believed by management to be immaterial to the financial condition and operating results of the Company. In addition, no material proceedings are pending or known to be threatened or contemplated against the Company or its subsidiary by governmental authorities.
Item 4 . Mine Safety Disclosures
Not Applicable
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
As of April 22, 2019, our common stock is traded on the Nasdaq Capital Market, under the symbol “MNSB.”
In order to list our stock on the Nasdaq Capital Market, we are required to have at least three broker-dealers who will make a market in our common stock. We cannot assure you that an active trading market will continue for the common stock.
The development of an active trading market depends on the existence of willing buyers and sellers, the presence of which is not within our control, or that of any market maker. The number of active buyers and sellers of the shares of common stock at any particular time may be limited. In addition, our public “float,” which is the total number of our outstanding shares less the shares held by our directors and executive officers, is likely to be quite limited. As a result, it is unlikely that an active trading market for our common stock will develop or that, if it develops, it will continue. Under such circumstances, shareholders could have difficulty selling their shares of common stock on short notice, and, therefore, shareholders should not view the shares of common stock as a short-term investment.
Holders
At December 31, 2019 the Company had approximately 280 known shareholders of record.
Dividends
To date, we have not paid a cash dividend on our common stock. Holders of our common stock are only entitled to receive dividends when, as and if declared by the Board of Directors out of funds legally available for dividends. As the Company is a bank holding company and does not engage directly in business activities of a material nature, its ability to pay dividends on our common stock will depend, in large part, upon the receipt of dividends from the Bank. Any future determination relating to our dividend policy will be made by the Board of Directors and will depend on a number of factors, including general and economic conditions, industry standards, our financial condition and operating results, our available cash and current and anticipated cash needs, capital requirements, our ability to service debt obligations senior to our common stock, banking regulations, contractual, legal, tax and regulatory restrictions, and limitations on the payment of dividends by the Company to its shareholders or by the Bank, and such other factors as the Board of Directors may deem relevant.
A discussion of applicable regulatory restrictions on dividends by the Company and the Bank is provided in Item 1 (“Business”) under “Supervision, Regulation and Other Factors – Payment of Dividends.”
Securities Authorized For Issuance Under Equity Compensation Plans
The following table provides information concerning securities authorized for issuance under equity compensation plans, the weighted average price of such securities and the number of securities remaining available for future issuance, as of December 31, 2019.
| Equity Compensation Plan Category | Number of<br><br>securities to be<br><br>issued upon<br><br>exercise of<br><br>outstanding<br><br>options,<br><br>warrants<br><br>and rights (3) | Weighted-<br>average<br>exercise<br>price of<br>outstanding<br>options,<br>warrants<br>and rights (1) | Number of<br><br>securities<br><br>remaining and<br><br>available for<br><br>future<br><br>issuance ^(2)^ | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| Plans approved by shareholders | 160,961 | — | 640,000 | ||||||||
| Plans not approved by shareholders | — | — | — | ||||||||
| Total | 160,961 | — | 640,000 |
All values are in US Dollars.
| (1) | Restricted stock shares were not included when calculating the weighted-average exercise price. |
|---|---|
| (2) | Remaining shares available for issuance include 640,000 shares under the 2019 Equity Incentive Plan (“2019 Plan”). Shares remaining to be issued subsequent to December 31, 2019 under the 2019 Plan can be issued either as a restricted stock grant or upon exercise of stock options. |
| --- | --- |
| --- | --- |
Unregistered Sales and Issuer Repurchases of Common Stock
Set forth below is information concerning sales of common stock by the Company during the past 3 years that were not registered under the Securities Act.
At the 2016 Annual Meeting, the shareholders of the Bank approved an Agreement and Plan of Reorganization and a related Plan of Share Exchange between the Bank and the Company pursuant to which the Bank became a wholly-owned subsidiary of the Company and each outstanding share of the Bank’s common stock was automatically exchanged for one share of the Company’s common stock. Upon consummation of the share exchange, the Company had no significant assets other than securities of the Bank. The Bank’s shareholders received, after the reorganization, the same proportional share interests in the Company as they held in the Bank. The rights and interests of shareholders in the Company are substantially the same as those of shareholder previously in the Bank. Upon completion of the reorganization, the Company had substantially the same assets and liabilities, on a consolidated basis, as the Bank had prior to the transaction. The effective date of the reorganization was July 15, 2016. The Company relied upon the exemption from registration under Section 3(a)(12) of the Securities Act. No commissions were paid in connection with the reorganization.
On December 30, 2016, the Company issued and sold $14,300,000 in aggregate principal amount of fixed-to-floating rate subordinated notes in a private placement transaction to accredited investors. An additional $700,000 of similar subordinated notes were issued in the first quarter of 2017. The Company relied upon the exemption from registration under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D promulgated thereunder. Sales commissions of $198,250 were paid to FIG Partners, LLC, the sole placement agent. See Note 23 of Notes to Consolidated Financial Statements.
On October 24, 2017, the Company issued and sold 1,150,000 shares of common stock at $16.00 per share, for a total of $18,400,000, to accredited investors. The Company relied upon the exemption from registration under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D promulgated thereunder. Sales commissions of $287,360 were paid to FinPro Capital Advisors, Inc., the sole placement agent.
On August 24, 2018, the Company issued and sold 2,368,421 shares of common stock at $19.00 per share, for a total of $49,999,999, to accredited investors. The Company relied upon the exemption from registration under Section 4(a)(2) of the Securities Act and Rule 506 of Regulation D promulgated thereunder. Sales commissions of $1,899,212 were paid to FIG Partners, LLC, the sole placement agent. See Note 22 of Notes to Consolidated Financial Statements.
In 2016, the Board of Directors of the Bank and the Bank’s shareholders approved the MainStreet Bank 2016 Equity Incentive Plan (the “2016 Plan”), to provide officers, other selected employees and directors with additional incentives to promote growth and performance. The terms and conditions of the 2016 Plan were subsequently converted into and deemed to be the terms and conditions of a substantially identical Company incentive compensation plan. A total of 204,971 shares of restricted common stock were awarded under the 2016 Plan, of which 98,506 shares have vested. The Bank relied on the exemption from registration under Section 3(a)(2) of the Securities Act. The Company relied upon the exemption from registration under Rule 701 promulgated under the Securities Act. See Note 17 of Notes to Consolidated Financial Statements.
In 2019, the Board of Directors of the Bank and the Bank’s shareholders approved the MainStreet Bank 2019 Equity Incentive Plan (the “2019 Plan”), to provide officers, other selected employees and directors with additional incentives to promote growth and performance. The terms and conditions of the 2019 Plan were subsequently converted into and deemed to be the terms and conditions of a substantially identical Company incentive compensation plan. To date, a total of 10,000 shares of restricted common stock have been awarded under the 2019 Plan, of which awards for no shares have vested. See Note 17 of Notes to Consolidated Financial Statements. In August 2019, the Company registered with the SEC, on Form S-8, the shares of common stock that would then be issuable under the 2019 Plan. As a result of the stockholders’ approval of the 2019 Plan, no additional awards have been or will be made under the Bank’s 2016 Plan, although all awards that were outstanding under the 2016 Plan as of July 17, 2019 remained outstanding in accordance with their terms.
On September 18, 2019, the Board of Directors of the Company authorized a common stock repurchase program to repurchase up to $10.0 million of the Company’s common stock at the discretion of management. The Company did not repurchase any of its shares during the year ended December 31, 2019.
Item 6. Selected Financial Data
Selected Financial Data
The following table sets forth summarized historical consolidated financial information for each of the periods indicated. This information should be read together with Management's Discussion and Analysis of Financial Condition and Results of Operations below and with the accompanying consolidated financial statements included in this Form 10-K. The historical information indicated as of and for the years ended December 31, 2019 and 2018, has been derived from the Company's audited consolidated financial statements for the years ended December 31, 2019 and 2018. Historical results set forth below and elsewhere in this Form 10-K are not necessarily indicative of future performance.
| At December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | 2017 | |||||||
| (In thousands) | |||||||||
| Selected Financial Condition Data: | |||||||||
| Total assets | 1,277,358 | 1,100,613 | 807,951 | ||||||
| Total cash and cash equivalents | 64,844 | 58,076 | 37,493 | ||||||
| Total investment securities | 116,705 | 82,157 | 78,831 | ||||||
| Loans receivable, net | 1,030,425 | 917,125 | 654,339 | ||||||
| Bank-owned life insurance | 24,562 | 14,064 | 13,637 | ||||||
| Premises and equipment, net | 14,153 | 14,222 | 13,965 | ||||||
| Total deposits | 1,071,623 | 920,137 | 667,655 | ||||||
| FHLB advances and other borrowings | 40,000 | 40,000 | 53,780 | ||||||
| Subordinated debt | 14,805 | 14,776 | 14,748 | ||||||
| Total stockholders’ equity | 137,034 | 121,251 | 68,801 |
All values are in US Dollars.
| For the year ended December 31, | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | 2017 | |||||||
| (In thousands) | |||||||||
| Selected Operating Data: | |||||||||
| Interest income | 58,813 | 43,835 | 26,954 | ||||||
| Interest expense | 19,377 | 12,666 | 5,472 | ||||||
| Net interest income | 39,436 | 31,169 | 21,482 | ||||||
| Provision for loan losses | 1,618 | 3,126 | 1,885 | ||||||
| Net interest income after provision for loan losses | 37,818 | 28,043 | 19,597 | ||||||
| Total non-interest income | 4,862 | 3,239 | 2,278 | ||||||
| Total non-interest expenses | 25,376 | 19,979 | 15,658 | ||||||
| Income before income taxes | 17,304 | 11,303 | 6,217 | ||||||
| Income tax expense | 3,354 | 2,094 | 2,335 | ||||||
| Net income | 13,950 | 9,209 | 3,882 | ||||||
| Basic and diluted net income per common share ^(1)^ | 1.69 | 1.38 | 0.81 |
All values are in US Dollars.
| (1) | Per share amounts reflect the effect of a 5% stock dividend paid on April 30, 2018. | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| At or For the Years Ended December 31, | ||||||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- |
| 2019 | 2018 | 2017 | ||||||||||
| Performance Ratios: | ||||||||||||
| Return on average assets | 1.19 | % | 0.97 | % | 0.60 | % | ||||||
| Return on average equity | 10.79 | % | 10.38 | % | 7.45 | % | ||||||
| Interest rate spread | 2.88 | % | 2.94 | % | 3.18 | % | ||||||
| Net interest margin | 3.50 | % | 3.41 | % | 3.48 | % | ||||||
| Efficiency ratio | 57.28 | % | 58.07 | % | 65.90 | % | ||||||
| Non-interest expense to average assets | 2.16 | % | 2.11 | % | 2.43 | % | ||||||
| Average interest-earning assets to average interest-bearing<br><br>liabilities | 136.14 | % | 134.55 | % | 134.81 | % | ||||||
| Capital Ratios (Bank) | ||||||||||||
| Common equity tier 1(CET1) capital to risk-weighted<br><br>assets | 12.68 | % | 12.90 | % | 10.65 | % | ||||||
| Total risk-based capital to risk-weighted assets | 13.50 | % | 13.75 | % | 11.43 | % | ||||||
| Tier 1 capital to risk-weighted assets | 12.68 | % | 12.90 | % | 10.65 | % | ||||||
| Tier 1 capital to average assets | 12.12 | % | 12.41 | % | 10.42 | % | ||||||
| Average equity to average assets | 11.02 | % | 9.35 | % | 8.08 | % | ||||||
| Asset Quality Ratios | ||||||||||||
| Allowance for loan losses as a percentage of total loans | 0.92 | % | 0.95 | % | 0.86 | % | ||||||
| Allowance for loan losses as a percentage of non-performing<br><br>assets | 7.94 | 4.53 | 2.81 | |||||||||
| Net charge-offs to average outstanding loans during the<br><br>period | 0.09 | % | 0.00 | % | 0.03 | % | ||||||
| Non-performing loans as a percentage of total loans | 0.00 | % | 0.21 | % | 0.31 | % | ||||||
| Non-performing assets as a percentage of total assets | 0.09 | % | 0.18 | % | 0.25 | % | ||||||
| Other Data: | ||||||||||||
| Number of offices | 7 | 6 | 5 | |||||||||
| Number of full-time equivalent employees | 126 | 110 | 96 |
Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
The purpose of this discussion is to focus on significant changes in the financial condition and results of operations of the Company during the years ended December 31, 2019 and 2018. The following discussion supplements and provides information about the major components of the results of operations, financial condition, liquidity and capital resources of the Corporation. This discussion and analysis should be read in conjunction with the accompanying consolidated financial statements.
Forward-Looking Statements
This Annual Report on Form 10-K contains certain forward-looking statements and information relating to the Company within the meaning of the Private Securities Litigation Reform Act of 1995 that are based on the beliefs of management as well as assumptions made by and information currently available to management. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include words like “believe,” “expect,” “anticipate,” “estimate,” and “intend” or future or conditional verbs such as “will,” “should,” “could,” or “may” and similar expressions or the negative thereof. Important factors that could cause actual results to differ materially from those in the forward–looking statements included herein include, but are not limited to:
| • | general economic conditions, either nationally or in our market area, that are worse than expected; | |
|---|---|---|
| • | competition among depository and other financial institutions, particularly intensified competition for deposits; | |
| --- | --- | --- |
| • | inflation and an interest rate environment that may reduce our margins or reduce the fair value of financial instruments; | |
| --- | --- | --- |
| • | adverse changes in the securities markets; | |
| --- | --- | --- |
| • | changes in laws or government regulations or policies affecting financial institutions, including changes in regulatory structure and in regulatory fees and capital requirements; | |
| --- | --- | --- |
| • | our ability to enter new markets successfully and capitalize on growth opportunities; | |
| --- | --- | --- |
| • | our ability to successfully integrate acquired entities; | |
| --- | --- | --- |
| • | changes in consumer spending, borrowing and savings habits; | |
| --- | --- | --- |
| • | changes in accounting policies and practices; | |
| --- | --- | --- |
| • | changes in our organization, compensation and benefit plans; | |
| --- | --- | --- |
| • | our ability to attract and retain key employees; | |
| --- | --- | --- |
| • | changes in our financial condition or results of operations that reduce capital; | |
| --- | --- | --- |
| • | changes in the financial condition or future prospects of issuers of securities that we own; | |
| --- | --- | --- |
| • | the concentration of our business in the Northern Virginia as well as the greater Washington, DC metropolitan area and the effect of changes in the economic, political and environmental conditions on this market; | |
| --- | --- | --- |
| • | adequacy of our allowance for loan losses; | |
| --- | --- | --- |
| • | deterioration of our asset quality; | |
| --- | --- | --- |
| • | cyber threats, attacks or events | |
| --- | --- | --- |
| • | reliance on third parties for key services | |
| --- | --- | --- |
| • | future performance of our loan portfolio with respect to recently originated loans; | |
| --- | --- | --- |
| • | additional risks related to new lines of business, products, product enhancements or services; | |
| --- | --- | --- |
| • | results of examination of us by our regulators, including the possibility that our regulators may require us to increase our allowance for loan losses or to write-down assets or take other supervisory action; | |
| --- | --- | --- |
| • | the effectiveness of our internal controls over financial reporting and our ability to remediate any future material weakness in our internal controls over financial reporting; | |
| --- | --- | --- |
| • | liquidity, interest rate and operational risks associated with our business; and | |
| --- | --- | --- |
| • | implications of our status as a smaller reporting company and as an emerging growth company | |
| --- | --- | --- |
Should one or more of these risks or uncertainties materialize or should underlying assumptions prove incorrect, actual results may vary materially from those described herein. We caution readers not to place undue reliance on forward-looking statements. The Company disclaims any obligation to revise or update any forward-looking statements contained in this Form 10-K to reflect future events or developments. The discussion of the critical accounting policies and analysis set forth below is intended to supplement and highlight information contained in the accompanying Consolidated Financial Statements and the selected financial data presented elsewhere in this Form 10-K.
The accounting and financial reporting policies of the Company conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. Accordingly, the financial statements require certain estimates, judgments, and assumptions, which are believed to be reasonable, based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the periods presented. Critical accounting policies comprise those that management believes are the most critical to aid in fully understanding and evaluating our reported financial results. These policies require numerous estimates or economic assumptions that may prove inaccurate or may be subject to variations which may significantly affect our reported results and financial condition for the current period or in future periods.
The accounting principles followed by the Company and the methods of applying these principles conform with accounting principles generally accepted in the United States of America and with general practices within the banking industry. The Company’s critical accounting policies relate to (1) the allowance for loan losses, (2) fair value of financial instruments, (3) income taxes, (4) derivative financial instruments, and (5) other real estate owned. These critical accounting policies require the use of estimates, assumptions and judgments which are based on information available as of the date of the financial statements. Accordingly, as this information changes, future financial statements could reflect the use of different estimates, assumptions and judgments. Certain determinations inherently have a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported.
Allowance for Loan Losses: Management’s policy is to maintain the allowance for loan losses at a level sufficient to absorb estimated probable incurred losses inherent in the loan portfolio. Management performs periodic and systematic detailed reviews of its loan portfolio to identify trends and to assess the overall collectability of the loan portfolio. Accounting standards require that loan losses be recorded when management determines it is probable that a loss has been incurred and the amount of the loss can be reasonably estimated.
The allowance consists of a specific component and a general component. The specific component relates to loans that are classified as impaired, and is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. For impaired collateral dependent loans, an updated appraisal will typically be ordered if a current one is not on file. Appraisals are performed by independent third-party appraisers with relevant industry experience. Adjustments to the appraised value may be made based on recent sales of like properties or general market conditions when appropriate. The general component covers non-classified or performing loans and those loans classified as substandard or special mention that are not impaired. The general component is based on historical loss experience adjusted for qualitative factors, such as current economic conditions, including current home sales and foreclosures, unemployment rates and retail sales. Non-impaired classified loans are assigned a higher allowance factor based on an internal migration analysis, which increases with the severity of classification, than non-classified loans.
Estimates for the allowance for loan losses are determined by analyzing historical losses, historical migration to charge-off experience, current trends in delinquencies and charge-offs, the results of regulatory examinations and changes in the size, composition and risk assessment of the loan portfolio. Also included in management’s estimate for the allowance for loan losses are considerations with respect to the impact of current economic events. These events may include, but are not limited to, fluctuations in overall interest rates, political conditions, legislation that may directly or indirectly affect the banking industry and economic conditions affecting specific geographical areas and industries in which the Company conducts business.
While management uses the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses and methodology may be necessary if economic or other conditions differ substantially from the assumptions used in making the estimates. Such adjustments to original estimates, as necessary, are made in the period in which these factors and other relevant considerations indicate that loss levels vary from previous estimates. A detailed discussion of the methodology used in determining the allowance for loan losses is included in Note 1, Basis of Presentation, in Notes to Consolidated Financial Statements.
Fair Value of Financial Instruments: A portion of the Company’s assets and liabilities is carried at fair value, with changes in fair value recorded either in earnings or accumulated other comprehensive income (loss). These include investment securities available for sale and interest rate loan swaps on qualifying commercial loans. Periodically, the estimation of fair value also affects investment securities held to maturity when it is determined that an impairment write-down is other than temporary. Fair value determination is also relevant for certain other assets such as other real estate owned, which is recorded at the lower of the recorded balance or fair value, less estimated costs to sell. The determination of fair value also impacts certain other assets that are periodically evaluated for impairment using fair value estimates, including impaired loans.
Fair value is generally based upon quoted market prices, when available. If such quoted market prices are not available, fair value is based upon internally developed models that primarily use observable market-based parameters as inputs. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments may include amounts to reflect counterparty credit quality and the Company’s creditworthiness, among other things, as well as other unobservable parameters. Any such valuation adjustments are applied consistently over time. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.
See Note 19, Fair Value Presentation, in Notes to Consolidated Financial Statements for a detailed discussion of determining fair value, including pricing validation processes.
Income Taxes: The Company’s income tax expense, deferred tax assets and liabilities, and reserves for unrecognized tax benefits reflect management’s best assessment of estimated taxes due. The calculation of each component of the Company’s income tax provision is complex and requires the use of estimates and judgments in its determination. As part of the Company’s evaluation and implementation of business strategies, consideration is given to the regulations and tax laws that apply to the specific facts and circumstances for any tax positions under evaluation. Management closely monitors tax developments on both the federal and state level in order to evaluate the effect they may have on the Company’s overall tax position and the estimates and judgments used in determining the income tax provision and records adjustments as necessary.
Deferred income taxes arise from temporary differences between the tax and financial statement recognition of revenue and expenses. In evaluating the Company’s ability to recover its deferred tax assets within the jurisdiction from which they arise, the Company must consider all available evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning strategies and the results of recent operations. A valuation allowance is recognized for a deferred tax asset if, based on the available evidence, it is more likely than not that some portion or all of a deferred tax asset will not be realized. See Note 10, Income Taxes, in Notes to Consolidated Financial Statements for additional information.
Derivative Financial Instruments: The Bank recognizes derivative financial instruments at fair value as either other assets or other liabilities in the consolidated balance sheet. The Bank’s derivative financial instruments include interest rate swaps with certain qualifying commercial loan customers and dealer counterparties. Because the interest rate swaps with loan customers and dealer counterparties are not designated as hedging instruments, adjustments to reflect unrealized gains and losses resulting from changes in fair value of these instruments are reported as noninterest income or noninterest expense, as applicable. The Bank’s interest rate swaps with loan customers and dealer counterparties are described more fully in Note 18 in the December 31, 2019, Consolidated Financial Statements.
Other Real Estate Owned: Assets acquired through, or in lieu of, foreclosure are held for sale and are initially recorded at fair value less estimated costs to sell at the date of foreclosure. Subsequent to foreclosure, management periodically performs valuations of the foreclosed assets based on updated appraisals, general market conditions, recent sales of similar properties, length of time the properties have been held, and our ability and intention with regard to continued ownership of the properties. The Company may incur additional write-downs of foreclosed assets to fair value less estimated costs to sell if valuations indicate a further deterioration in market conditions.
Analysis of Results of Operations for the Years Ended December 31, 2019 and 2018
Net Income
The following table sets forth the principal components of net income for the periods indicated.
| For the Year Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | % Change | ||||||||
| (In thousands) | ||||||||||
| Interest income | 58,813 | 43,835 | 34.17 | % | ||||||
| Interest expense | 19,377 | 12,666 | 52.98 | % | ||||||
| Net interest income | 39,436 | 31,169 | 26.52 | % | ||||||
| Provision for loan losses | 1,618 | 3,126 | -48.24 | % | ||||||
| Net interest income after provision | 37,818 | 28,043 | 34.86 | % | ||||||
| Non-interest income | 4,862 | 3,239 | 50.11 | % | ||||||
| Non-interest expense | 25,376 | 19,979 | 27.01 | % | ||||||
| Net income before income taxes | 17,304 | 11,303 | 53.09 | % | ||||||
| Income tax expense | 3,354 | 2,094 | 60.17 | % | ||||||
| Net income | 13,950 | 9,209 | 51.48 | % |
All values are in US Dollars.
Net income for the year ended December 31, 2019, was $14.0 million, an increase of $4.7 million, or 51.48% compared to $9.2 million earned during the year ended December 31, 2018. The increase in net income was due to $8.3 million of additional net interest income, primarily driven by increased loan production and an increase in net interest margin of 9 basis points. The increase in non-interest expenses was due to a $3.9 million increase in salaries and employee benefits as a result of additional employee growth during the year ended.
Net Interest Income and Net Interest Margin
Net interest income is the principal component of the Company’s income stream and represents the difference, or spread, between interest and fee income generated from earning assets and the interest expense paid on deposits and borrowed funds. Net interest margin, stated as a percentage, is the yield obtained by dividing the difference between interest income generated on earning assets and the interest expense paid on all funding sources by average earning assets. Fluctuations in interest rates as well as changes in the volume and mix of earning assets and interest-bearing liabilities can impact net interest income and net interest margin.
Net interest income before provision for loan losses totaled $39.4 million for the year ended December 31, 2019, compared to $31.2 million for the year ended December 31, 2018. The increase in net interest income was driven by a significant increase in loan production during the year, in addition to our net interest margin increasing 9 basis points for the year ended December 31, 2019.
The net interest margin was 3.50% for the year ended December 31, 2019, compared to 3.41% for the year ended December 31, 2018. The increase in net interest margin primarily resulted from an increase in average rates earned on our loan portfolio and investment in higher yielding securities. This increase was offset by increasing rates on our cost of funds, primarily in wholesale deposits and other borrowings.
The yield for the year ended December 31, 2019 for the loan portfolio was 5.61% compared to 5.19% for the year ended December 31, 2018. The increase primarily reflects the maturity of lower yielding loans and higher yields on new loans based on higher interest rates in the first half of the year. However, the Federal Reserve made three separate quarter point rate adjustments decreasing its benchmark interest rate, which offset the higher yields obtained on new loans.
For the year ended December 31, 2019, the yield on the total investment securities portfolio was 3.09% compared to 2.66% for the year ended December 31, 2018. The increase of 43 basis points was primarily due to higher yields on investment securities purchased during the period.
The rate paid on interest bearing deposits increased to 2.25% during the year ended December 31, 2019, from 1.75% during the year ended December 31, 2018. This increase was a result of higher rates paid on brokered deposits and wholesale funding needed to fund the loan growth experienced during the year.
The rate paid on FHLB borrowings for the year ended December 31, 2019 was 2.59% compared to 1.96% for the corresponding period in 2018. This increase was primarily due to rising interest rates for these types of borrowings.
The following table sets forth the major components of net interest income and the related yields and rates for the year ended December 31, 2019 compared to the year ended December 31, 2018.
Average Balances, Net Interest Income, Yields Earned and Rates Paid
The following table shows for the periods indicated the total dollar amount of interest from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates, and the net interest margin. All average balances are based on daily balances.
| For the Year Ended December 31, | ||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||||||||||||||||
| Average<br>Balance | Interest<br>Income/<br>Expense | Yield/<br><br>Cost | Average<br>Balance | Interest<br>Income/<br>Expense | Yield/<br><br>Cost | |||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||
| Interest-earning assets: | ||||||||||||||||||||
| Loans (1) | 984,014 | 55,208 | 5.61 | % | 795,130 | 41,270 | 5.19 | % | ||||||||||||
| Investment securities | 71,149 | 2,202 | 3.09 | % | 55,219 | 1,470 | 2.66 | % | ||||||||||||
| Federal funds and interest-bearing<br><br>deposits | 72,643 | 1,403 | 1.93 | % | 63,536 | 1,095 | 1.72 | % | ||||||||||||
| Total interest-earning assets | 1,127,806 | 58,813 | 5.21 | % | 913,885 | 43,835 | 4.80 | % | ||||||||||||
| Non-interest-earning assets | 45,282 | 35,159 | ||||||||||||||||||
| Total assets | 1,173,088 | 949,044 | ||||||||||||||||||
| Interest-bearing liabilities: | ||||||||||||||||||||
| Interest-bearing demand deposits | 56,675 | 998 | 1.76 | % | 57,357 | 900 | 1.57 | % | ||||||||||||
| Money market deposits | 129,606 | 2,379 | 1.84 | % | 115,846 | 1,708 | 1.47 | % | ||||||||||||
| Savings and NOW deposits | 62,047 | 289 | 0.47 | % | 50,509 | 251 | 0.50 | % | ||||||||||||
| Time deposits | 544,084 | 14,196 | 2.61 | % | 401,259 | 8,065 | 2.01 | % | ||||||||||||
| Total interest-bearing deposits | 792,412 | 17,862 | 2.25 | % | 624,971 | 10,924 | 1.75 | % | ||||||||||||
| Federal funds purchased | 37 | 1 | 2.70 | % | 463 | 12 | 2.59 | % | ||||||||||||
| Federal Home Loan Bank advances | 21,162 | 548 | 2.59 | % | 39,042 | 764 | 1.96 | % | ||||||||||||
| Subordinated debt | 14,791 | 966 | 6.53 | % | 14,762 | 966 | 6.54 | % | ||||||||||||
| Total interest-bearing liabilities | 828,402 | 19,377 | 2.34 | % | 679,238 | 12,666 | 1.86 | % | ||||||||||||
| Non-interest-bearing liabilities: | ||||||||||||||||||||
| Demand deposits and other liabilities | 215,405 | 181,098 | ||||||||||||||||||
| Total liabilities | 1,043,807 | 860,336 | ||||||||||||||||||
| Stockholders’ Equity | 129,281 | 88,708 | ||||||||||||||||||
| Total liabilities and Stockholders’<br><br>equity | 1,173,088 | 949,044 | ||||||||||||||||||
| Net interest income | 39,436 | 31,169 | ||||||||||||||||||
| Interest rate spread (2) | 2.88 | % | 2.94 | % | ||||||||||||||||
| Net interest-earning assets (3) | 299,404 | 234,647 | ||||||||||||||||||
| Net interest margin (4) | 3.50 | % | 3.41 | % | ||||||||||||||||
| Average interest-earning assets to<br><br>average interest-bearing liabilities | 136.14 | % | 134.55 | % |
All values are in US Dollars.
| (1) | Includes loans classified as non-accrual |
|---|---|
| (2) | Interest rate spread represents the difference between the average yield on average interest–earning assets and the average cost of average interest-bearing liabilities. |
| --- | --- |
| (3) | Net interest earning assets represent total average interest–earning assets less total interest–bearing liabilities. |
| --- | --- |
| (4) | Net interest margin represents net interest income divided by total average interest-earning assets. |
| --- | --- |
The following table presents the effects of changing rates and volumes on net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The net column represents the sum of the prior columns. For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately, based on the changes due to rate and the changes due to volume.
| For the Twelve Months Ended | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| December 31, 2019 and 2018 | |||||||||
| Increase (Decrease) Due to | Total Increase | ||||||||
| Volume | Rate | (Decrease) | |||||||
| (In thousands) | |||||||||
| Interest-earning assets: | |||||||||
| Loans | 10,396 | 3,542 | 13,938 | ||||||
| Investment securities | 470 | 262 | 732 | ||||||
| Federal funds and interest-bearing deposits | 167 | 141 | 308 | ||||||
| Total interest-bearing assets | 11,033 | 3,945 | 14,978 | ||||||
| Interest-bearing liabilities: | |||||||||
| Interest-bearing demand deposits | (11 | ) | 109 | 98 | |||||
| Money market deposit accounts | 215 | 456 | 671 | ||||||
| Savings and NOW deposits | 54 | (16 | ) | 38 | |||||
| Time deposits | 3,334 | 2,797 | 6,131 | ||||||
| Total deposits | 3,592 | 3,346 | 6,938 | ||||||
| Federal funds purchased | (12 | ) | 1 | (11 | ) | ||||
| Federal Home Loan Bank advances | (416 | ) | 200 | (216 | ) | ||||
| Subordinated debt | 1 | (1 | ) | - | |||||
| Total interest-bearing liaibilties | 3,165 | 3,546 | 6,711 | ||||||
| Change in net interest income | 7,868 | 399 | 8,267 |
All values are in US Dollars.
Provision for Loan Losses
We establish a provision for loan losses, which is charged to operations, in order to maintain the allowance for loan losses at a level we consider necessary to absorb credit losses incurred in the loan portfolio that are both probable and reasonably estimated at the balance sheet date. In determining the level of the allowance for loan losses, we consider past and current loss experience, evaluations of real estate collateral, current economic conditions, volume and type of lending, adverse situations that may affect a borrower’s ability to repay a loan and the levels of non-performing loans. The amount of the allowance is based on estimates, and actual losses may vary from such estimates as more information becomes available or economic conditions change.
This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as circumstances change as more information becomes available. The allowance for loan losses is assessed on a monthly basis and provisions are made for loan losses as required in order to maintain the allowance.
The provision for loan losses decreased to $1.6 million for the year ended December 31, 2019 from $3.1 million for the year ended December 31, 2018. The reduction is primarily due to a reduction in loan originations which totalled $396.2 million for the year ended December 31, 2018 compared to loan originations of $230.8 million for the year ended December 31, 2019. Non-performing loans decreased $1.9 million, or 100% from $1.9 million at December 31, 2018 to $0 as of December 31, 2019, as a result of the Bank foreclosing on its only non-performing loan. The foreclosed loan had a specific reserve of $733,000 that was charged to the allowance for loans losses upon foreclosure. During the year ended December 31, 2019, substandard loans increased $2.9 million for a balance of $3.3 million; however, much of the balance was isolated to one relationship. Management believes there is a very nominal risk of loss on this relationship and the grading is only cautionary due to temporary conditions. The entire relationship did not meet the definition of impaired at December 31, 2019. During the year ended December 31, 2019, there were $929,000 in charge-offs and recoveries of $64,000 were received. During the year ended December 31, 2018, there were charge-offs recorded and recoveries received of $44,000 each.
Our primary sources of non-interest income are service charges on deposit accounts, such as interchange fees and statement fees, income earned on bank owned life insurance, fees earned from executing interest rate swaps on commercial loans, and gains realized on the sale of the guaranteed portion of Small Business Administration (“SBA”) loans.
The following table presents, for the period indicated, the major categories of non-interest income:
| For the Year Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | % Change | ||||||||
| (In thousands) | ||||||||||
| Non-interest income | ||||||||||
| Deposit account service charges | 1,668 | 1,103 | 51.22 | % | ||||||
| Bank owned life insurance income | 498 | 427 | 16.63 | % | ||||||
| Loan swap fee income | 989 | 713 | 38.71 | % | ||||||
| Net gain on available-for-sale securities | 5 | — | 100.00 | % | ||||||
| Net gain on sale of loans | 566 | — | 100.00 | % | ||||||
| Other fee income | 1,136 | 996 | 14.06 | % | ||||||
| Total non-interest income | 4,862 | 3,239 | 50.11 | % |
All values are in US Dollars.
Non-interest income increased $1.6 million, or 50.1%, to $4.9 million for the year ended December 31, 2019 from $3.2 million for the year ended December 31, 2018. The increase in non-interest income was primarily due to an increase in service fees on our merchant service business accounts, additional processing fees and gains realized on sale of the guaranteed portion of SBA loans for the year ended December 31, 2019. The Bank has focused on expanding these areas and expects similar opportunities throughout 2020. Deposit account service fees increased $565,000 to $1.7 million for the year ended December 31, 2019 from $1.1 million for the year ended December 31, 2018 primarily as a result of an increased customer deposit portfolio and fee structure. Bank owned life insurance income increased $71,000 for the year ended December 31, 2019 compared to the year ended December 31, 2018 due to additional policies purchased during the year. Fees earned on interest rate swaps for commercial loans increased $276,000, or 38.7%, to $989,000 for the year ended December 31, 2019 from $713,000 for the year ended December 31, 2018.
Non-Interest Expense
Generally, non-interest expense is composed of all employee expenses and costs associated with operating our facilities, obtaining and retaining customer relationships and providing bank services. The largest component of non-interest expense is salaries and employee benefits. Non-interest expense also includes operational expenses, such as occupancy and equipment expenses, professional fees, advertising expenses and other general and administrative expenses, including FDIC assessments, communications, travel, meals, training, supplies and postage. The following table presents, for the periods indicated, the major categories of non-interest expense:
| For the Year Ended December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | % Change | ||||||||
| (In thousands) | ||||||||||
| Non-interest expense | ||||||||||
| Salaries and employee benefits | 15,776 | 11,845 | 33.19 | % | ||||||
| Occupancy expenses | 864 | 736 | 17.39 | % | ||||||
| Furniture and equipment expenses | 1,728 | 1,859 | -7.05 | % | ||||||
| Advertising and marketing | 906 | 614 | 47.56 | % | ||||||
| Outside services | 863 | 838 | 2.98 | % | ||||||
| Administrative expenses | 731 | 576 | 26.91 | % | ||||||
| Franchise tax | 1,229 | 685 | 79.42 | % | ||||||
| FDIC insurance | 680 | 733 | -7.23 | % | ||||||
| Data processing | 995 | 811 | 22.69 | % | ||||||
| Other operating expenses | 1,604 | 1,282 | 25.12 | % | ||||||
| Total non-interest expense | 25,376 | 19,979 | 27.01 | % |
All values are in US Dollars.
Non-interest expense increased $5.4 million or 27.0% to $25.4 million for the year ended December 31, 2019 from $20.0 million for the year ended December 31, 2018 primarily as a result of increases in salary and employee benefits of $3.9 million, franchise tax of $544,000 and other operating expenses of $322,000. Salaries and employee benefits expense increased by $3.9 million to $15.8 million for the year ended December 31, 2019 from $11.8 million for the year ended December 31, 2018 primarily as a result of adding sixteen employees and the increases in additional health insurance premium expense for these additional employees. Other operating expenses increased $322,000, or 25.1%, to $1.6 million for the year ended December 31, 2019 from $1.2 million for the year ended December 31, 2018 due to increases in professional and consulting fees and fees related to investments in technology infrastructure. Franchise tax increased approximately $544,000 to $1.2 million for the year ended December 31, 2019 from $685,000 for the year ended December 31, 2018 as a result of the increase in the Company’s capital as of December 31, 2019 compared to the balance sheet as of December 31, 2018.
Income Tax Expense
Income tax expense increased $1.3 million, or 60.2%, to $3.4 million for the year ended December 31, 2019 from $2.1 million for the year ended December 31, 2018. The increase in federal income tax expense for the year ended December 31, 2019 compared to the same period a year ago was driven by the increase in income before income taxes of $6.0 million, or 53.1%, to $17.3 million as of December 31, 2019 compared to $11.3 million for the same period in the prior year. As a result of recent tax regulation, the Company has included assessments in income tax expense for state tax liabilities during 2019. For the year ended December 31, 2019, the Bank had an effective federal tax rate of 19.4%, compared to effective federal tax rate of 18.5% for the year ended December 31, 2018.
Comparison of Statements of Financial Condition at December 31, 2019 and at December 31, 2018
Total Assets
Total assets increased $176.7 million, or 16.1%, to $1.3 billion at December 31, 2019 from $1.1 billion at December 31, 2018. The increase was primarily the result of increases of $114.1 million in gross loans receivable, $34.5 million in available-for-sale securities, $10.5 million in Bank owned life insurance and $10.0 million in other assets.
Investment Securities
We use our securities portfolio to provide a source of liquidity, provide an appropriate return on funds invested, manage interest rate risk, meet collateral requirements and meet regulatory capital requirements. Our investment policy is established and reviewed annually by the Board of Directors. We are permitted under federal law to invest in various types of liquid assets, including United States Government obligations, securities of various federal agencies and of state and municipal governments, mortgage-backed securities, time deposits of federally insured institutions, certain bankers’ acceptances and federal funds.
Our investment objectives are to maintain high asset quality, to provide and maintain liquidity, to establish an acceptable level of interest rate and credit risk, to provide an alternate source of low-risk investments when demand for loans is weak and to generate a favorable return. The Board of Directors has the overall responsibility for the investment portfolio, including approval of our investment policy. The Board of Directors is also responsible for implementation of the investment policy and monitoring investment performance. The Board of Directors reviews the status of the investment portfolio on a quarterly basis, or more frequently if warranted.
Generally accepted accounting principles require that, at the time of purchase, we designate a security as held to maturity, available-for-sale, or trading, depending on our ability and intent to hold such security. Securities available for sale are reported at fair value, while securities held to maturity are reported at amortized cost. We do not maintain a trading portfolio. Establishing a trading portfolio would require specific authorization by the Board of Directors.
The total investment securities portfolio, including both investment securities available for sale and investment securities held to maturity, was $116.7 million at December 31, 2019, an increase of $34.5 million compared with December 31, 2018. At December 31, 2019, the investment securities portfolio includes $92.8 million of investment securities available for sale and $23.9 million of investment securities held to maturity compared to $56.0 million of investment securities available for sale and $26.2 million of investment securities held to maturity at December 31, 2018.
During the year ended December 31, 2019, the Company sold seven securities in the available-for-sale investment portfolio. Of these seven, four were sold at a loss of $18,000 and three were sold at a gain of $23,000 for a net gain of $5,000. The Company did not sell any securities within the investment portfolio for the year ended December 31, 2018.
While all securities are reviewed by the Company for other-than-temporary impairments (“OTTI”), the securities that typically are impacted by credit impairment are non-agency collateralized mortgage obligations and asset-backed securities. Refer to Note 3, in Notes to Consolidated Financial Statements for further details. To date, we have had no OTTI.
Securities Portfolio Composition. The following table sets forth the amortized cost and estimated fair value of our available for sale and held to maturity securities at the dates indicated.
| December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||||||||
| (Dollars in thousands) | Amortized<br>Cost | Fair<br>Value | Amortized<br>Cost | Fair<br>Value | ||||||||
| Available-for-sale: | ||||||||||||
| U.S. Treasury Securities | 49,999 | 49,998 | 29,996 | 29,997 | ||||||||
| Collateralized Mortgage Backed | 17,659 | 17,673 | 4,967 | 4,893 | ||||||||
| Subordinated Debt | 2,500 | 2,554 | 2,000 | 2,015 | ||||||||
| Municipal Securities | 13,888 | 14,631 | 8,869 | 8,833 | ||||||||
| U.S Governmental Agencies | 8,135 | 7,935 | 10,515 | 10,241 | ||||||||
| Total | 92,181 | 92,791 | 56,347 | 55,979 | ||||||||
| Held-to-maturity: | ||||||||||||
| Municipal securities | 22,414 | 23,178 | 24,678 | 24,733 | ||||||||
| Subordinated Debt | 1,500 | 1,500 | 1,500 | 1,500 | ||||||||
| Total | 23,914 | 24,678 | 26,178 | 26,233 |
All values are in US Dollars.
Portfolio Maturities and Yields. The composition and maturities of the investment securities portfolio at December 31, 2019, are summarized in the following table. Maturities are based on the final contractual payment date, and do not reflect the effect of scheduled principal repayments, prepayments, or early redemptions that may occur. Adjustable-rate mortgage-backed securities are included in the period in which interest rates are next scheduled to adjust.
| More than One Year | More than Five Years | More than | ||||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| One Year or Less | through Five Years | through Ten Years | Ten Years | Total | ||||||||||||||||||||||||||||||||||
| Weighted | Weighted | Weighted | Weighted | Weighted | ||||||||||||||||||||||||||||||||||
| Amortized | Average | Amortized | Average | Amortized | Average | Amortized | Average | Amortized | Fair | Average | ||||||||||||||||||||||||||||
| Cost | Yield | Cost | Yield | Cost | Yield | Cost | Yield | Cost | Value | Yield | ||||||||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||||||||||||||
| Securities available for sale: | ||||||||||||||||||||||||||||||||||||||
| U.S. Treasury Securities | 49,999 | 0.79 | % | — | — | — | — | — | — | 49,999 | 49,998 | 0.79 | % | |||||||||||||||||||||||||
| Collateralized Mortgage<br><br>Securities | 15 | 4.76 | % | — | — | — | — | 17,644 | 2.90 | % | 17,659 | 17,673 | 2.91 | % | ||||||||||||||||||||||||
| Subordinated Debt | — | — | — | — | 2,500 | 5.57 | % | — | — | 2,500 | 2,554 | 5.57 | % | |||||||||||||||||||||||||
| Municipal Securities | — | — | — | — | 1,016 | 2.69 | % | 12,872 | 3.51 | % | 13,888 | 14,631 | 3.45 | % | ||||||||||||||||||||||||
| U.S. Government Agencies | — | — | — | — | — | — | 8,135 | 3.52 | % | 8,135 | 7,935 | 3.52 | % | |||||||||||||||||||||||||
| Total | 50,014 | 0.79 | % | — | — | 3,516 | 4.74 | % | 38,651 | 3.23 | % | 92,181 | 92,791 | 3.36 | % | |||||||||||||||||||||||
| Securities held to maturity: | ||||||||||||||||||||||||||||||||||||||
| Municipal Securities | — | — | 831 | 2.70 | % | 7,776 | 2.97 | % | 13,807 | 2.99 | % | 22,414 | 23,178 | 2.97 | % | |||||||||||||||||||||||
| Subordinated Debt | — | — | — | — | 1,500 | 6.50 | % | — | — | 1,500 | 1,500 | 6.50 | % | |||||||||||||||||||||||||
| Total Securities | — | — | 831 | 2.70 | % | 9,276 | 3.54 | % | 13,807 | 2.99 | % | 23,914 | 24,678 | 3.19 | % |
All values are in US Dollars.
Loan Portfolio
Our primary source of income is derived from interest earned on loans. Our loan portfolio consists of loans secured by real estate as well as commercial business loans and consumer loans, substantially all of which are secured by corresponding deposits at the Bank. Our loan customers primarily consist of small- to medium-sized businesses, professionals, real estate investors, small residential builders and individuals. Our owner occupied and investment commercial real estate loans, residential construction loans and commercial business loans provide us with higher risk-adjusted returns, shorter maturities and more sensitivity to interest rate fluctuations, and are complemented by our relatively lower risk residential real estate loans to individuals. Our lending activities are principally directed to our market area consisting of the Washington, D.C. and Northern Virginia metropolitan areas.
Average loans represented 87.3% of average interest-earning assets for the year ended December 31, 2019, compared to 87.0% for the year ended December 31, 2018. The following table presents the Company’s loan portfolio by portfolio segment at December 31, 2019 and December 31, 2018.
| At December 31, | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||||||||||
| Amount | Percent | Amount | Percent | |||||||||||
| (Dollars in thousands) | ||||||||||||||
| Residential real estate: | ||||||||||||||
| Single family | 143,535 | 13.77 | % | 139,620 | 15.05 | % | ||||||||
| Multifamily | 6,512 | 0.62 | % | 9,182 | 0.99 | % | ||||||||
| Farmland | 801 | 0.08 | % | 825 | 0.09 | % | ||||||||
| Commercial real estate: | ||||||||||||||
| Owner occupied | 134,116 | 12.87 | % | 121,622 | 13.11 | % | ||||||||
| Non-owner occupied | 287,754 | 27.61 | % | 256,139 | 27.62 | % | ||||||||
| Construction and land development | 272,620 | 26.16 | % | 183,551 | 19.79 | % | ||||||||
| Commercial – non-real estate: | ||||||||||||||
| Commercial and industrial | 121,225 | 11.63 | % | 114,221 | 12.32 | % | ||||||||
| Consumer – non-real estate: | ||||||||||||||
| Unsecured | 599 | 0.06 | % | 1,402 | 0.15 | % | ||||||||
| Secured | 74,984 | 7.20 | % | 100,875 | 10.88 | % | ||||||||
| Total gross loans | 1,042,146 | 100.00 | % | 927,437 | 100.00 | % | ||||||||
| Less: unearned fees | (2,118 | ) | (1,400 | ) | ||||||||||
| Less: unamortized discount on secured loans | (19 | ) | (81 | ) | ||||||||||
| Less: allowance for loan losses | (9,584 | ) | (8,831 | ) | ||||||||||
| Net loans | 1,030,425 | 917,125 |
All values are in US Dollars.
The consumer loans above include $599,000 and $452,190 of overdrafts reclassified as loans for the years ended December 31, 2019 and 2018, respectively.
The Bank held no loans for sale at December 31, 2019 and 2018.
Loan Portfolio Maturities and Yields. The following table summarizes the scheduled repayments of our loan portfolio at December 31, 2019. Demand loans, having no stated repayment schedule or maturity, and overdraft loans are reported as being due in one year or less. Maturities are based on the final contractual payment date and do not reflect the impact of prepayments and scheduled principal amortization.
| As of December 31, 2019 | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Single-Family | Multi-Family | Farmland | Owner<br>Occupied | Non-owner<br>Occupied | |||||||||||
| (In thousands) | |||||||||||||||
| Amounts due in: | |||||||||||||||
| One year or less | 30,624 | — | — | 6,644 | 35,467 | ||||||||||
| After one year through two years | 10,341 | 1,580 | — | 12,677 | 21,400 | ||||||||||
| After two years through three years | 3,754 | — | — | 3,407 | 26,076 | ||||||||||
| After three years through five years | 12,680 | 1,383 | 700 | 21,392 | 39,019 | ||||||||||
| After five years through ten years | 53,971 | 3,549 | — | 69,865 | 146,398 | ||||||||||
| After ten years through fifteen years | 1,894 | — | 101 | 14,237 | 19,394 | ||||||||||
| After fifteen years | 30,271 | — | — | 5,894 | — | ||||||||||
| Total | 143,535 | 6,512 | 801 | 134,116 | 287,754 |
All values are in US Dollars.
| Construction<br>and Land<br>Development | Commercial<br>and Industrial | Consumer | Total | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Amounts due in: | (In thousands) | |||||||||||
| One year or less | 117,580 | 54,353 | 1,900 | 246,568 | ||||||||
| After one year through two years | 45,933 | 12,706 | 4,593 | 109,230 | ||||||||
| After two years through three years | 6,857 | 3,072 | 13,032 | 56,198 | ||||||||
| After three years through five years | 31,705 | 14,067 | 43,494 | 164,440 | ||||||||
| After five years through ten years | 52,249 | 19,130 | 12,564 | 357,726 | ||||||||
| After ten years through fifteen years | 16,604 | 17,897 | — | 70,127 | ||||||||
| After fifteen years | 1,692 | — | — | 37,857 | ||||||||
| Total | 272,620 | 121,225 | 75,583 | 1,042,146 |
All values are in US Dollars.
The following table sets forth our fixed and adjustable-rate loans at December 31, 2019 that are contractually due after December 31, 2019.
| Due After December 31, 2019 | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| Fixed | Adjustable | ||||||||
| Rates | Rates | Total | |||||||
| (In thousands) | |||||||||
| Residential real estate: | |||||||||
| Single family | 30,391 | 113,144 | 143,535 | ||||||
| Multifamily | 936 | 5,576 | 6,512 | ||||||
| Farmland | 801 | — | 801 | ||||||
| Commercial real estate: | |||||||||
| Owner occupied | 46,452 | 87,664 | 134,116 | ||||||
| Non-owner occupied | 86,677 | 201,077 | 287,754 | ||||||
| Construction and land development | 37,284 | 235,336 | 272,620 | ||||||
| Commercial – non-real estate: | |||||||||
| Commercial and industrial | 47,505 | 73,720 | 121,225 | ||||||
| Consumer – non-real estate: | |||||||||
| Unsecured | 599 | — | 599 | ||||||
| Secured | 74,792 | 192 | 74,984 | ||||||
| Totals | 325,437 | 716,709 | 1,042,146 |
All values are in US Dollars.
The following table shows our loan originations, participations, purchases, sales and repayment activities for the periods indicated.
| Years Ended December 31, | ||||||
|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||
| (In thousands) | ||||||
| Total loans at beginning of year: | 927,437 | 660,633 | ||||
| Loans originated: | ||||||
| Real estate loans: | ||||||
| Residential real estate: | ||||||
| Single family | 32,906 | 60,546 | ||||
| Multifamily | — | 3,827 | ||||
| Commercial real estate: | ||||||
| Owner occupied | 28,079 | 45,831 | ||||
| Non-owner occupied | 44,429 | 114,239 | ||||
| Construction and land development | 85,940 | 84,628 | ||||
| Commercial – non-real estate: | ||||||
| Commercial and industrial | 28,928 | 45,106 | ||||
| Consumer – non-real estate: | ||||||
| Unsecured | — | 42 | ||||
| Secured | 10,480 | 42,000 | ||||
| Total loans originated: | 230,762 | 396,219 | ||||
| Loan principal repayments: | ||||||
| Principal repayments | 116,053 | 129,415 | ||||
| Loans transferred to other real estate owned: | ||||||
| Transfers to other real estate owned | 1,207 | — | ||||
| Net loan activity | 114,709 | 266,804 | ||||
| Total loans at the end of year | 1,042,146 | 927,437 |
All values are in US Dollars.
Loans, net of unearned income, totaled $1.0 billion at December 31, 2019, an increase of $114.1million from December 31, 2018. The increase in total loans was primarily driven by growth in the overall loan portfolio, with significant increases in the commercial real estate and construction portfolios.
Asset Quality
The Company’s asset quality remained strong during the year ended December 31, 2019. Nonperforming assets, which includes nonaccrual loans, accruing loans 90 days past due, accruing troubled debt restructured (“TDR”) loans 90 days past due, and other real estate owned totaled $1.2 million at December 31, 2019 compared to $2.0 million at December 31, 2018. The decrease in nonperforming assets was primarily due to foreclosure on a previously identified TDR loan. The loan had a specific reserve of $732,892 that was charged off during the foreclosure process.
A loan’s past due status is based on the contractual due date of the most delinquent payment due. All loans which are 30 or more days past due at the end of the month are reported to the Board of Directors. Commercial loans are generally placed on nonaccrual status when the collection of principal or interest is 90 days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. Consumer loans are generally placed on nonaccrual status when the collection of principal or interest is 120 days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. Loans greater than 90 days past due may remain on accrual status if management determines it has adequate collateral to cover the principal and interest. For those loans that are carried on nonaccrual status, payments are first applied to principal outstanding. A loan may be returned to accrual status if the borrower has demonstrated a sustained period of repayment performance in accordance with the contractual terms of the loan and there is reasonable assurance the borrower will continue to make payments as agreed.
As a percentage of total assets, nonperforming assets were 0.09% at December 31, 2019 compared with 0.18% at December 31, 2018. As of December 31, 2019, the Company did not have any loans placed on nonaccrual status.
See Note 1, Organization, Basis of Presentation, and Impact of Recently Issued Accounting Pronouncements and Note 5, Allowance for Loan Losses, in Notes to Consolidated Financial Statements for further information on the Company’s credit grade categories, which are derived from standard regulatory rating definitions.
The following table summarizes asset quality information at December 31, 2019 and December 31, 2018.
| December 31, | December 31, | |||||
|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||
| (Dollars in thousands) | ||||||
| Non-accrual loans: | ||||||
| Commercial real estate | — | 1,939 | ||||
| Total non-accrual loans | — | 1,939 | ||||
| Consumer loans accruing past 120 days: | ||||||
| Credit card | — | 11 | ||||
| Total non-performing loans | — | 1,950 | ||||
| Other real estate owned | 1,207 | — | ||||
| Total non-performing assets | 1,207 | 1,950 | ||||
| Accruing TDRs: | ||||||
| Residential real estate | 1,482 | 1,510 | ||||
| Total accuring TDRs | 1,482 | 1,510 | ||||
| Ratios: | ||||||
| Total non-performing loans to gross loans receivable | 0.00 | % | 0.21 | % | ||
| Total non-performing loans to total assets | 0.00 | % | 0.18 | % | ||
| Total non-performing assets to total assets | 0.09 | % | 0.18 | % | ||
| Total non-performing assets and accruing troubled debt restructured loans to total assets | 0.21 | % | 0.31 | % |
All values are in US Dollars.
Interest income that would have been recorded for the years ended December 31, 2019 and 2018 had non-accruing loans been current according to their original terms amounted to $0 and $142,962 respectively. We did not recognize any interest income for these loans for the years ended December 31, 2019 and 2018, respectively.
As of December 31, 2019, there were no loans not disclosed in the above table, where known information about possible credit problems of borrowers causes management to have serious doubts as to the ability of such borrowers to comply with the present loan repayment terms.
Delinquent Loans. The following table sets forth our delinquent loans at December 31, 2019 and 2018.
| December 31, 2019 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | 30-59<br>Days Past<br>Due | 60-89<br>Days Past<br>Due | Greater<br>than 90<br>Days | Total Past<br>Due | Current | Total<br>Loans<br>Receivable | Nonaccrual | ||||||||||||||
| Residential Real Estate: | |||||||||||||||||||||
| Single Family | — | — | — | — | 143,535 | 143,535 | — | ||||||||||||||
| Multifamily | — | — | — | — | 6,512 | 6,512 | — | ||||||||||||||
| Farmland | — | — | — | — | 801 | 801 | — | ||||||||||||||
| Commercial Real Estate: | |||||||||||||||||||||
| Owner occupied | — | 150 | — | 150 | 133,966 | 134,116 | — | ||||||||||||||
| Non-owner occupied | — | — | — | — | 287,754 | 287,754 | — | ||||||||||||||
| Construction & Land Development | — | — | — | — | 272,620 | 272,620 | — | ||||||||||||||
| Commercial – Non Real Estate: | |||||||||||||||||||||
| Commercial & industrial | — | — | — | — | 121,225 | 121,225 | — | ||||||||||||||
| Consumer – Non Real Estate: | |||||||||||||||||||||
| Unsecured | — | — | — | — | 599 | 599 | — | ||||||||||||||
| Secured | 124 | — | — | 124 | 74,860 | 74,984 | — | ||||||||||||||
| Total | 124 | 150 | — | 274 | 1,041,872 | 1,042,146 | — |
All values are in US Dollars.
| December 31, 2018 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | 30-59<br>Days Past<br>Due | 60-89<br>Days Past<br>Due | Greater<br>than 90<br>Days | Total Past<br>Due | Current | Total<br>Loans<br>Receivable | Nonaccrual | ||||||||||||||
| Residential Real Estate: | |||||||||||||||||||||
| Single Family | — | — | — | — | 139,620 | 139,620 | — | ||||||||||||||
| Multifamily | — | — | — | — | 9,182 | 9,182 | — | ||||||||||||||
| Farmland | — | — | — | — | 825 | 825 | — | ||||||||||||||
| Commercial Real Estate: | |||||||||||||||||||||
| Owner occupied | — | — | — | — | 119,683 | 121,622 | 1,939 | ||||||||||||||
| Non-owner occupied | — | — | — | — | 256,139 | 256,139 | — | ||||||||||||||
| Construction & Land Development | — | — | — | — | 183,551 | 183,551 | — | ||||||||||||||
| Commercial – Non Real Estate: | |||||||||||||||||||||
| Commercial & industrial | — | — | — | — | 114,221 | 114,221 | — | ||||||||||||||
| Consumer – Non Real Estate: | |||||||||||||||||||||
| Unsecured | 50 | 9 | 11 | 70 | 1,332 | 1,402 | — | ||||||||||||||
| Secured | 57 | 5 | — | 62 | 100,813 | 100,875 | — | ||||||||||||||
| Total | 107 | 14 | 11 | 132 | 925,366 | 927,437 | 1,939 |
All values are in US Dollars.
Classified Assets. Federal regulations provide for the classification of loans and other assets that are considered to be of lesser quality as substandard, doubtful, or loss assets. Loans not classified as impaired are assigned a higher allowance factor based on an internal migration analysis, which increases with the severity of classification, than pass rated loans. The characteristics of the loan ratings are as follows:
| • | Pass rated loans are to persons or business entities with an acceptable financial condition, appropriate collateral margins, appropriate cash flow to service the existing loan, and an appropriate leverage ratio. The borrower has paid all obligations as agreed and it is expected that this type of payment history will continue. When necessary, acceptable personal guarantors support the loan. | |
|---|---|---|
| • | Special mention loans have a specific defined weakness in the borrower’s operations and the borrower’s ability to generate positive cash flow on a sustained basis. The borrower’s recent payment history is characterized by late payments. The Bank’s risk exposure is mitigated by collateral supporting the loan. The collateral is considered to be well-margined, well maintained, accessible and readily marketable. | |
| --- | --- | --- |
| • | Substandard loans are considered to have specific and well-defined weaknesses that jeopardize the viability of the Bank’s credit extension. The payment history for the loan has been inconsistent and the expected or projected primary repayment source may be inadequate to service the loan. The estimated net liquidation value of the collateral pledged and/or ability of the personal guarantor(s) to pay the loan may not adequately protect the Bank. There is a distinct possibility that the Bank will sustain some loss if the deficiencies associated with the loan are not corrected in the near term. A substandard loan would not automatically meet our definition of impaired unless the loan is significantly past due and the borrower’s performance and financial condition provide evidence that it is probable that the Bank will be unable to collect all amounts due. | |
| --- | --- | --- |
| • | Doubtful rated loans have all the weaknesses inherent in a loan that is classified substandard but with the added characteristics that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. The possibility of loss is extremely high. | |
| --- | --- | --- |
| • | Loss rated loans are not considered collectible under normal circumstances and there is no realistic expectation for any future payment on the loan. Loss rated loans are fully charged off. | |
| --- | --- | --- |
In connection with the filing of our periodic reports with the Federal Reserve Board and in accordance with our classification of assets policy, we regularly review the problem loans in our portfolio to determine whether any loans require classification in accordance with applicable regulations.
On the basis of this review of our assets, our classified and special mention assets, at the dates indicated were as follows.
| December 31, 2019 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Pass | Watch | Special<br>Mention | Substandard | Doubtful | Total | ||||||||||||
| Residential Real Estate: | ||||||||||||||||||
| Single Family | 143,019 | — | — | 516 | — | 143,535 | ||||||||||||
| Multifamily | 6,512 | — | — | — | — | 6,512 | ||||||||||||
| Farmland | 801 | — | — | — | — | 801 | ||||||||||||
| Commercial Real Estate: | ||||||||||||||||||
| Owner occupied | 133,966 | — | — | 150 | — | 134,116 | ||||||||||||
| Non-owner occupied | 287,754 | — | — | — | — | 287,754 | ||||||||||||
| Construction & Land Development | 272,620 | — | — | — | — | 272,620 | ||||||||||||
| Commercial – Non Real Estate: | ||||||||||||||||||
| Commercial & industrial | 109,106 | 3,772 | 5,685 | 2,662 | — | 121,225 | ||||||||||||
| Consumer – Non Real Estate: | ||||||||||||||||||
| Unsecured | 599 | — | — | — | — | 599 | ||||||||||||
| Secured | 74,984 | — | — | — | — | 74,984 | ||||||||||||
| Total | 1,029,361 | 3,772 | 5,685 | 3,328 | — | 1,042,146 |
All values are in US Dollars.
| December 31, 2018 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Pass | Watch | Special<br>Mention | Substandard | Doubtful | Total | ||||||||||||
| Residential Real Estate: | ||||||||||||||||||
| Single Family | 138,483 | 755 | — | 382 | — | 139,620 | ||||||||||||
| Multifamily | 9,182 | — | — | — | — | 9,182 | ||||||||||||
| Farmland | 825 | — | — | — | — | 825 | ||||||||||||
| Commercial Real Estate: | ||||||||||||||||||
| Owner occupied | 117,906 | 1,777 | — | — | 1,939 | 121,622 | ||||||||||||
| Non-owner occupied | 256,139 | — | — | — | — | 256,139 | ||||||||||||
| Construction & Land Development | 183,551 | — | — | — | — | 183,551 | ||||||||||||
| Commercial – Non Real Estate: | ||||||||||||||||||
| Commercial & industrial | 110,631 | 1,333 | 2,257 | — | — | 114,221 | ||||||||||||
| Consumer – Non Real Estate: | ||||||||||||||||||
| Unsecured | 1,402 | — | — | — | — | 1,402 | ||||||||||||
| Secured | 100,875 | — | — | — | — | 100,875 | ||||||||||||
| Total | 918,994 | 3,865 | 2,257 | 382 | 1,939 | 927,437 |
All values are in US Dollars.
Analysis and Determination of the Allowance for Loan Losses. The allowance for loan losses is maintained at a level which, in management’s judgment, is adequate to absorb probable credit losses inherent in the loan portfolio. The amount of the allowance is based on management’s evaluation of the collectability of the loan portfolio, including the nature of the portfolio, credit concentrations, trends in historical loss experience, specific impaired loans, and economic conditions. Allowances for impaired loans are generally determined based on collateral values or the present value of estimated cash flows. Because of uncertainties associated with regional economic conditions, collateral values, and future cash flows on impaired loans, it is reasonably possible that management’s estimate of probable credit losses inherent in the loan portfolio and the related allowance may change materially in the near-term. The allowance is increased by a provision for loans losses which is charged to expense and reduced by full and partial charge-offs, net of recoveries. Changes in the allowance relating to impaired loans are charged or credited to the provision for loan losses. Management’s periodic evaluation of the adequacy of the allowance is based on various factors, including, but not limited to, management’s ongoing review and grading of loans, facts and issues related to specific loans, historical loan loss or loan pools, the fair value of the underlying collateral, current economic conditions and other qualitative and quantitative factors which could affect potential credit losses. An an integral part of their examination process, the Federal Reserve Board will periodically review our allowance for loan losses, and as a result of such reviews, we may have to adjust our allowance for loan losses.
The following table sets forth activity in our allowance for loan losses for the periods indicated.
| For the Year Ended December 31, | For the Year Ended December 31, | |||||
|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||
| (Dollars in thousands) | ||||||
| Balance at beginning of year | 8,831 | 5,705 | ||||
| Charge-offs: | ||||||
| Commercial real estate | (733 | ) | — | |||
| Commercial industrial | (98 | ) | — | |||
| Consumer | (98 | ) | (44 | ) | ||
| Total charge-offs | (929 | ) | (44 | ) | ||
| Recoveries: | ||||||
| Residential real estate | 58 | 1 | ||||
| Commercial real estate | 1 | 38 | ||||
| Commercial and industrial | 5 | 2 | ||||
| Consumer | — | 3 | ||||
| Total recoveries | 64 | 44 | ||||
| Net charge-offs | (865 | ) | — | |||
| Provision for loan losses | 1,618 | 3,126 | ||||
| Balance at end of period | 9,584 | 8,831 | ||||
| Ratios: | ||||||
| Net charge offs to average loans outstanding (annualized) | 0.09 | % | 0.00 | % | ||
| Allowance for loan losses to non-performing loans at end of<br><br>period | N/A | 4.55 | ||||
| Allowance for loan losses to gross loans at end of period | 0.92 | % | 0.95 | % |
All values are in US Dollars.
At December 31, 2019, our allowance for loan losses represented 0.92% of total loans and had no non-performing loans. The allowance for loan losses increased to $9.6 million at December 31, 2019 from $8.8 million at December 31, 2018 primarily attributable to provision expense on newly originated loans. There were $865,000 and $0 in net loan charge-offs during the years ended December 31, 2019 and December 31, 2018, respectively.
Allocation of Allowance for Loan Losses. The following table sets forth the allowance for loan losses allocated by loan category and the percent of the allowance in each category to the total allocated allowance at the dates indicated. The allowance for loan losses allocated to each category is not necessarily indicative of future losses in any particular category and does not restrict the use of the allowance to absorb losses in other categories.
| At December 31, | ||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||||||||||||||||||
| (Dollars in thousands) | Allowance<br>for Loan<br>Losses | Percent of<br><br>Allowance<br><br>in Each<br><br>Category<br><br>to Total<br><br>Allocated<br><br>Allowance | Percent of<br><br>Loans<br><br>in Each<br><br>Category to<br><br>Total Loans | Allowance for<br>Loan Losses | Percent of<br><br>Allowance<br><br>in Each<br><br>Category<br><br>to Total<br><br>Allocated<br><br>Allowance | Percent of<br><br>Loans<br><br>in Each<br><br>Category to<br><br>Total Loans | ||||||||||||||||
| Residential Real Estate: | ||||||||||||||||||||||
| Single family | 980 | 10.2 | % | 13.8 | % | 981 | 11.1 | % | 15.1 | % | ||||||||||||
| Multifamily | 45 | 0.5 | % | 0.6 | % | 38 | 0.5 | % | 1.0 | % | ||||||||||||
| Farmland | 5 | 0.1 | % | 0.1 | % | — | — | 0.1 | % | |||||||||||||
| Commercial Real Estate: | ||||||||||||||||||||||
| Owner occupied | 1,352 | 14.1 | % | 12.9 | % | 1,750 | 19.8 | % | 13.1 | % | ||||||||||||
| Non-owner occupied | 2,902 | 30.3 | % | 27.6 | % | 2,549 | 28.9 | % | 27.6 | % | ||||||||||||
| Construction and Land Development | 2,180 | 22.7 | % | 26.2 | % | 1,468 | 16.6 | % | 19.8 | % | ||||||||||||
| Commercial – Non Real Estate: | ||||||||||||||||||||||
| Commercial and industrial | 1,552 | 16.2 | % | 11.6 | % | 1,218 | 13.8 | % | 12.3 | % | ||||||||||||
| Consumer – Non Real Estate: | ||||||||||||||||||||||
| Unsecured | 4 | 0.0 | % | 0.1 | % | 12 | 0.1 | % | 0.1 | % | ||||||||||||
| Secured | 564 | 5.9 | % | 7.1 | % | 815 | 9.2 | % | 10.9 | % | ||||||||||||
| Total | 9,584 | 100.0 | % | 100.0 | % | 8,831 | 100.0 | % | 100.0 | % |
All values are in US Dollars.
Derivative Financial Instruments
The Bank uses derivative financial instruments (“derivatives”) primarily to manage risks to the Bank associated with changing interest rates, and to assist customers with their risk management objectives. The Bank classifies these items as free standing derivatives consisting of customer accommodation loan swaps (“loan swaps”). The Bank enters into interest rate swaps with certain qualifying commercial loan customers to meet their interest rate risk management needs. The Bank simultaneously enters into interest rate swaps with dealer counterparties, with identical notional amounts and terms. The net result of these interest rate swaps is that the customer pays a fixed rate of interest and the Bank receives a floating rate. These back-to-back loan swaps qualify as financial derivatives with fair values reported in “Other assets” and “Other liabilities” in the Consolidated Balance Sheet. Changes in fair value are recorded in other noninterest expense and net to zero because of the identical amounts and terms of the swaps.
The following tables summarize key elements of the Banks’s derivative instruments as of the dates indicated.
| December 31, 2019 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Customer-related interest rate<br><br>contracts | ||||||||||||||||
| (Dollars in thousands) | Notional<br>Amount | Positions | Assets | Liabilities | Collateral<br>Pledges | |||||||||||
| Matched interest rate swap with borrower | 71,860 | 12 | 4,039 | — | 6,400 | |||||||||||
| Matched interest rate swap with counterparty | 71,860 | 12 | — | 4,039 | 6,400 |
All values are in US Dollars.
| December 31, 2018 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Customer-related interest rate<br><br>contracts | ||||||||||||||||
| (Dollars in thousands) | Notional<br>Amount | Positions | Assets | Liabilities | Collateral<br>Pledges | |||||||||||
| Matched interest rate swap with borrower | 36,607 | 5 | 1,192 | — | 1,290 | |||||||||||
| Matched interest rate swap with counterparty | 36,607 | 5 | — | 1,192 | 1,290 |
All values are in US Dollars.
Funding Activities
Deposits are the primary source of funds for lending and investing activities and their cost is the largest category of interest expense. The Company also utilizes brokered deposits as a funding source in addition to customer deposits. Scheduled payments, as well as prepayments, and maturities from portfolios of loans and investment securities also provide a stable source of funds. FHLB advances, other secured borrowings, federal funds purchased, and other short-term borrowed funds, as well as longer-term debt issued through the capital markets, all provide supplemental liquidity sources. The Company’s funding activities are monitored and governed through the Company’s asset/liability management process
Deposits
Total deposits increased by $151.5 million from December 31, 2018 to December 31, 2019. Brokered deposits, which are included in the table below, totaled $236.9 million and $140.8 million at December 31, 2019 and December 31, 2018, respectively. The following table presents the Company’s average deposits segregated by major category for the year ended December 31, 2019:
| At December 31, | ||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||||||||||||||||||
| Average<br>Balance | Percent | Weighted<br><br>Average<br><br>Rate | Average<br>Balance | Percent | Weighted<br><br>Average<br><br>Rate | |||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||
| Deposit type: | ||||||||||||||||||||||
| Interest-bearing demand | 56,675 | 5.69 | % | 1.76 | % | 57,357 | 7.09 | % | 1.57 | % | ||||||||||||
| Money market | 129,606 | 13.00 | % | 1.84 | % | 115,846 | 14.33 | % | 1.47 | % | ||||||||||||
| Savings and NOW | 62,047 | 6.22 | % | 0.47 | % | 50,509 | 6.25 | % | 0.50 | % | ||||||||||||
| Time deposits | 544,084 | 54.58 | % | 2.61 | % | 401,259 | 49.63 | % | 2.01 | % | ||||||||||||
| Interest-bearing deposits | 792,412 | 79.49 | % | 2.25 | % | 624,971 | 77.30 | % | 1.75 | % | ||||||||||||
| Non-interest bearing demand | 204,500 | 20.51 | % | 181,098 | 22.70 | % | ||||||||||||||||
| Total deposits | 996,912 | 100.00 | % | 1.94 | % | 806,069 | 100.00 | % | 1.36 | % |
All values are in US Dollars.
The overall increase in total deposits was primarily driven by an increase in non-interest bearing demand deposits and time deposits. The increase was partially offset by a decrease in interest bearing demand deposits. Certificates and other time deposits increased from December 31, 2019 compared to December 31, 2018 primarily as a result of an increase in brokered deposits.
At December 31, 2019, the aggregate amount of all our certificates of deposit in amounts greater than or equal to $250,000 was approximately $217.2 million. The following table sets forth the maturity of these certificates as of December 31, 2019.
| December 31,<br>2019 | |||
|---|---|---|---|
| (In thousands) | |||
| Maturity period: | |||
| Three months or less | 7,326 | ||
| Over three through twelve months | 41,608 | ||
| Over twelve months through three years | 83,545 | ||
| Over three years | 84,700 | ||
| Total | 217,179 |
All values are in US Dollars.
The following table sets forth all of our time deposits classified by interest rate as of the dates indicated.
| At December 31, | ||||||
|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||
| (In thousands) | ||||||
| Interest Rate Range: | ||||||
| 0.01 – 0.99% | 809 | 1,910 | ||||
| 1.00 – 1.99% | 83,577 | 87,046 | ||||
| 2.00 – 2.99% | 434,808 | 336,989 | ||||
| 3.00 and greater | 41,663 | 32,331 | ||||
| Total | 560,857 | 458,276 |
All values are in US Dollars.
The following table sets forth by interest rate ranges information concerning the maturities of our certificates of deposit as of December 31, 2019.
| Period to Maturity | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Less Than<br>or Equal to<br>One Year | More Than<br>One to Two<br>Years | More Than<br>Two to<br>Three<br>Years | More Than<br>Three Years | Total | Percent of<br><br>Total<br><br>Certificate<br><br>Accounts | ||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Interest Rate Range: | |||||||||||||||||||
| 0.01 – 0.99% | 729 | 80 | — | — | 809 | 0.14 | % | ||||||||||||
| 1.00 – 1.99% | 72,206 | 7,411 | 3,608 | 352 | 83,577 | 14.90 | % | ||||||||||||
| 2.00 – 2.99% | 195,416 | 100,503 | 58,388 | 80,501 | 434,808 | 77.53 | % | ||||||||||||
| 3.00 and greater | 11,699 | 11,284 | 4,844 | 13,836 | 41,663 | 7.43 | % | ||||||||||||
| Total | 280,050 | 119,278 | 66,840 | 94,689 | 560,857 | 100.00 | % |
All values are in US Dollars.
Borrowed Funds
We may obtain advances from the Federal Home Loan Bank of Richmond upon the security of the common stock we own in that bank and certain of our residential mortgage loans, provided certain standards related to creditworthiness have been met. These advances are made pursuant to several credit programs, each of which has its own interest rate and range of maturities. Federal Home Loan Bank advances are generally available to meet seasonal and other withdrawals of deposit accounts and to permit increased lending.
At December 31, 2019 and 2018, we were permitted to borrow up to an aggregate total of $308.4 million and $264.1 million, respectively, from the Federal Home Loan Bank of Richmond. There were Federal Home Loan Bank borrowings of $40.0 million outstanding at December 31, 2019 and 2018. Additionally, we had credit availability of $49.0 million with correspondent banks for short-term liquidity needs, if necessary. There were borrowings outstanding of $5.6 million at December 31, 2018, under this facility. No borrowings were outstanding at December 31, 2019, under this facility.
The following table shows certain information regarding Federal Home Loan Bank advances at or for the dates indicated:
| For the Years Ended December 31, | ||||||
|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||
| (Dollars in thousands) | ||||||
| Balance at end of period | 40,000 | 40,000 | ||||
| Average balance during the period | 21,162 | 39,042 | ||||
| Weighted average interest rate at end of period | 1.98 | % | 2.51 | % | ||
| Weighted average interest rate during the period | 2.59 | % | 1.98 | % |
All values are in US Dollars.
On December 30, 2016, the Company completed the issuance of $14.3 million in aggregate principal amount of fixed-to-floating rate subordinated notes in a private placement transaction to various accredited investors. During the first quarter 2017, an additional $700,000 of subordinated notes was issued for a total issuance of $15.0 million. The net proceeds of the offering are intended to support growth and be used for other general business purposes. The notes have a maturity date of December 31, 2026 and have an annual fixed interest rate of 6.25% until December 31, 2021. Thereafter, the notes will have a floating interest rate based on three-month London Interbank Offered Rate (“LIBOR”) rate plus 425 basis points (4.25%) (computed on the basis of a 360-day year of twelve 30-day months) from and including January 1, 2022 to the maturity date or any early redemption date. Interest will be paid semi-annually, in arrears, on July 1 and January 1 of each year during the time that the notes remain outstanding through the fixed interest rate period or earlier redemption date. Interest will be paid quarterly, in arrears, on April 1, July 1, October 1 and January 1 throughout the floating interest rate period or earlier redemption date.
Stockholders’ Equity
Total stockholders’ equity at December 31, 2019 was $137.0 million, an increase of $15.8 million compared to December 31, 2018. Stockholders' equity increased $14.0 million primarily due to net income during the period. In addition, accumulated other comprehensive income increased $790,000, primarily as a result of a decrease in the fair value of investment securities available for sale.
Liquidity and Capital Resources
Liquidity is the ability of the Company to convert assets into cash or cash equivalents without significant loss and to raise additional funds by increasing liabilities. Liquidity management involves maintaining the Company’s ability to meet the day-to-day cash flow requirements of its customers, whether they are depositors wishing to withdraw funds or borrowers requiring funds to meet their credit needs. Without proper liquidity management, the Company would not be able to perform the primary function of a financial intermediary and would, therefore, not be able to meet the needs of the communities it serves.
The Company assesses liquidity needs on a daily basis using a sophisticated monitoring system that identifies daily sources and uses for a rolling 30-day period. The Company also assesses liquidity needs under various scenarios of market conditions, asset growth and changes in credit ratings. The assessment includes liquidity stress testing which measures various sources and uses of funds under the different scenarios. The assessment provides regular monitoring of unused borrowing capacity and available sources of contingent liquidity to prepare for unexpected liquidity needs and to cover unanticipated events that could affect liquidity.
The asset portion of the balance sheet provides liquidity primarily through unencumbered securities available for sale, loan principal and interest payments, maturities and prepayments of investment securities held to maturity and, to a lesser extent, sales of investment securities available for sale. Other short-term investments such as federal funds sold and maturing interest- bearing deposits with other banks, are additional sources of liquidity.
The liability portion of the balance sheet provides liquidity through various customers’ interest-bearing and noninterest-bearing deposit accounts and through FHLB and other borrowings. Brokered deposits, federal funds purchased, and other short-term borrowings are additional sources of liquidity and, basically, represent the Company’s incremental borrowing capacity. These sources of liquidity are used as necessary to fund asset growth and meet short-term liquidity needs.
In addition to the Company’s financial performance and condition, liquidity may be impacted by the Company’s structure as a bank holding company that is a separate legal entity from the Bank. The Company requires cash for various operating needs that could include payment of dividends to its stockholder, the servicing of debt, and the payment of general corporate expenses. The primary source of liquidity for the Company is dividends paid by the Bank. Applicable federal and state statutes and regulations impose restrictions on the amount of dividends that may be paid by the Bank. In addition to the formal statutes and regulations, regulatory authorities also consider the adequacy of the Bank’s total capital in relation to its assets, deposits and other such items. Any future dividends must be set forth in the Company's capital plans before any dividends can be paid.
The Company’s ability to raise funding at competitive prices is affected by the rating agencies’ views of the Company’s credit quality, liquidity, capital and earnings. Management meets with the rating agencies on a routine basis to discuss the current outlook for the Company.
The Board of Director and the Asset Liability Committee (ALCO) are responsible for establishing and monitoring our liquidity targets and strategies in order to ensure that sufficient liquidity exists for meeting the borrowing needs and deposit withdrawals of our customers as well as unanticipated contingencies. We believe that we have enough sources of liquidity to satisfy our short and long-term liquidity needs as of December 31, 2019.
We monitor and adjust our investments in liquid assets based upon our assessment of: (1) expected loan demand; (2) expected deposit flows; (3) yields available on interest-earning deposits and securities; and (4) the objectives of our asset/liability management program. Excess liquid assets are invested generally in interest-earning deposits and short-and intermediate-term securities.
While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and cash equivalents, which include federal funds sold and interest-earning deposits in other banks. The levels of these assets are dependent on our operating, financing, lending and investing activities during any given period. At December 31, 2019, cash and cash equivalents totaled $64.8 million. Securities classified as available-for-sale, which provide additional sources of liquidity, totaled $92.8 million at December 31, 2019.
Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. Net cash provided by operating activities was $16.7 million and $12.6 million for the twelve months ended December 31, 2019 and December 31, 2018, respectively. Net cash used in investing activities, which consists primarily of disbursements for loan originations and the purchase of securities, offset by principal collections on loans and proceeds from maturing securities, was $161.4 million and $273.4 million for the twelve months ended December 31, 2019 and December 31, 2018, respectively. During the twelve months ended December 31, 2019, the Company realized gains on sale of available-for-sale securities of $5,000. There were no sales of available-for-sale securities in 2018. Net cash provided by financing activities was $151.5 million and $281.4 million for the twelve months ended December 31, 2019 and 2018, respectively, which consisted primarily of increases in interest bearing deposits of $110.5 million and $212.3 million offset by net repayments of $13.8 million from the Federal Home Loan Bank for the twelve months ended December 31, 2018. There were no net repayments from the Federal Home Loan Bank for the same period in 2019.
We are committed to maintaining a strong liquidity position. We monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments. Certificates of deposit due within one year of December 31, 2019, totaled $279.6 million of total deposits. If these deposits do not remain with us, we will be required to seek other sources of funds in the normal course of business, including other deposits and Federal Home Loan Bank advances. Depending on market conditions, we may be required to pay higher rates on such deposits or borrowings than we currently pay. We believe, however, based on past experience that a significant portion of such deposits will remain with us. We have the ability to attract and retain deposits by adjusting the interest rates offered. Management believes that the current sources of liquidity are adequate to meet the Company’s requirements and plans for continued growth.
Off Balance Sheet Arrangements
Commitments. As a financial services provider, we routinely are a party to various financial instruments with off-balance-sheet risks, such as commitments to extend credit and unused lines of credit. While these contractual obligations represent our future cash requirements, a significant portion of commitments to extend credit may expire without being drawn upon. Such commitments are subject to the same credit policies and approval process accorded to loans we make. The following table presents information about the Company's commitments at December 31, 2019.
| Commitments | |||
|---|---|---|---|
| December 31, 2019 | |||
| (In Thousands) | |||
| Commitments to extend credit | 251,508 | ||
| Standby and commercial letters of credit | 672 | ||
| Total | 252,180 |
All values are in US Dollars.
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 possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s consolidated 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 assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
The federal regulatory capital rules apply to all depository institutions as well as to bank holding companies with consolidated assets of $3 billion or more. However, the regulatory capital requirements generally do not apply on a consolidated basis to a bank holding company with total consolidated assets of less than $3 billion unless the holding company: (1) is engaged in significant nonbanking activities either directly or through a nonbank subsidiary; (2) conducts significant off-balance sheet activities (including securitization and asset management or administration) either directly or through a nonbank subsidiary; or (3) has a material amount of debt or equity securities outstanding (other than trust preferred securities) that are registered with the Securities and Exchange Commission. The Federal Reserve may apply the regulatory capital standards at its discretion to any bank holding company, regardless of asset size, if such action is warranted for supervisory purposes.
Because the Company has total consolidated assets of less than $3 billion and does not engage in activities that would trigger application of the federal regulatory capital rules, it is not at present subject to consolidated capital requirements under the such rules.
The Basel III Capital Rules, a comprehensive capital framework for U.S. banking organizations, became effective for the Company and the Bank on January 1, 2015 (subject to a phase-in period for certain provisions). Under the Basel III rules, the Company must hold a capital conservation buffer above the adequately capitalized risk-based capital ratios. The capital conservation buffer is being phased in from 0.0% for 2015 to 2.50% by 2019. The capital conservation buffer for 2019 is 2.50% and 1.875% for 2018. Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios of Total capital, Common Equity Tier 1 capital, and Tier 1 capital (as defined in the regulations) to risk weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2019, the Company and the Bank meets all capital adequacy requirements to which it is subject.
As of December 31, 2019 and 2018, the most recent notification from the Federal Reserve Bank of Richmond categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Common Equity Tier 1 risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the Bank’s category.
The Bank’s actual regulatory capital amounts and ratios as of December 31, 2019 and 2018 are presented in the table below.
| Actual | Capital Adequacy<br>Purposes | To Be Well Capitalized<br>Under the Prompt<br>Corrective Action<br>Provision | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||
| As of December 31, 2019 | |||||||||||||||||
| Total capital (to risk-weighted assets) | 157,892 | 13.50 | % | 93,576 | ≥ 8.0% | 116,970 | ≥ 10.0% | ||||||||||
| Common equity tier 1 capital (to risk-weighted assets) | 148,308 | 12.68 | % | 52,636 | ≥ 4.5% | 93,576 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to risk-weighted assets) | 148,308 | 12.68 | % | 70,182 | ≥ 6.0% | 93,576 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to average assets) | 148,308 | 12.12 | % | 48,937 | ≥ 4.0% | 61,171 | ≥ 5.0% | ||||||||||
| As of December 31, 2018 | |||||||||||||||||
| Total capital (to risk-weighted assets) | 142,360 | 13.75 | % | 82,807 | ≥ 8.0% | 103,509 | ≥ 10.0% | ||||||||||
| Common equity tier 1 capital (to risk-weighted assets) | 133,529 | 12.90 | % | 46,579 | ≥ 4.5% | 82,807 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to risk-weighted assets) | 133,529 | 12.90 | % | 62,105 | ≥ 6.0% | 82,807 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to average assets) | 133,529 | 12.41 | % | 43,056 | ≥ 4.0% | 53,820 | ≥ 5.0% |
All values are in US Dollars.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Market Risk Management
The effective management of market risk is essential to achieving the Company’s strategic financial objectives. As a financial institution, the Company’s most significant market risk exposure is interest rate risk in its balance sheet; however, market risk also includes product liquidity risk, price risk and volatility risk in the Company’s lines of business. The primary objectives of market risk management are to minimize any adverse effect that changes in market risk factors may have on net interest income, and to offset the risk of price changes for certain assets recorded at fair value.
Interest Rate Market Risk
The Company’s net interest income and the fair value of its financial instruments are influenced by changes in the level of interest rates. The Company manages its exposure to fluctuations in interest rates through policies established by its Asset/Liability Committee. The Asset/Liability Committee meets regularly and has responsibility for approving asset/liability management policies, formulating strategies to improve balance sheet positioning and/or earnings and reviewing the interest rate sensitivity of the Company.
We estimate what our net interest income would be for a 12-month period. We then calculate what the net interest income would be for the same period under different interest rate assumptions. These estimates require certain assumptions to be made, including loan and mortgage-related investment prepayment speeds, reinvestment rates, and deposit maturity and decay rates. These assumptions are inherently uncertain. As a result, no simulation model can precisely predict the impact of changes in interest rates on our net interest income.
The table below sets forth, as of December 31, 2019, the calculation of the estimated changes in our net interest income that would result from changes in market interest rates over one year if we take no action from our current plan..
| Basis Point Change in | Net Interest Income | Year 1 Change | |||||
|---|---|---|---|---|---|---|---|
| Interest Rates | Year 1 Forecast | From Level | |||||
| (Dollars in thousands) | |||||||
| +400 | 24,978 | 49.54 | % | ||||
| +300 | 23,025 | 37.84 | % | ||||
| +200 | 20,939 | 25.35 | % | ||||
| +100 | 18,820 | 12.67 | % | ||||
| Level | 16,704 | — | |||||
| -100 | 14,647 | -12.31 | % | ||||
| -200 | 11,779 | -29.48 | % |
All values are in US Dollars.
Economic Value of Equity (“EVE”). We analyze the sensitivity of our financial condition to changes in interest rates through our economic value of equity model. This analysis measures the difference between predicted changes in the fair value of our assets and predicted changes in the present value of our liabilities assuming various changes in current interest rates. The table below represents an analysis of our interest rate risk as measured by the estimated changes in our economic value of equity, resulting from an instantaneous and sustained parallel shift in the yield curve at December 31, 2019.
| Estimated Increase | EVE as a Percentage of Fair | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Decrease) EVE | Value of Assets^(3)^ | |||||||||||||||||
| Basis Point | Increase | |||||||||||||||||
| Change in | Estimated | EVE | (Decrease) | |||||||||||||||
| Interest Rates^(1)^ | EVE(2) | Amount | Percent | Ratio^(4)^ | Basis Points | |||||||||||||
| (Dollars in thousands) | ||||||||||||||||||
| +400 | 145,248 | 5,129 | 3.66 | % | 12.08 | % | 111 | |||||||||||
| +300 | 146,159 | 6,040 | 4.31 | % | 11.97 | % | 100 | |||||||||||
| +200 | 147,843 | 7,724 | 5.51 | % | 11.91 | % | 94 | |||||||||||
| +100 | 145,524 | 5,405 | 3.86 | % | 11.55 | % | 58 | |||||||||||
| Level | 140,119 | — | — | 10.97 | % | — | ||||||||||||
| -200 | 133,573 | (6,546 | ) | (4.67 | )% | 10.30 | % | (67 | ) | |||||||||
| -100 | 115,775 | (24,344 | ) | (17.37 | )% | 8.79 | % | (218 | ) |
All values are in US Dollars.
| ^(1)^ | Assumes an immediate uniform change in interest rates at all maturities. |
|---|---|
| ^(2)^ | EVE is the fair value of expected cash flows from assets, less fair value of the expected cash flows arising from our liabilities adjusted for the value of off-balance sheet contracts. |
| --- | --- |
| ^(3)^ | Fair value of assets represents the amount at which an asset could be exchanged between knowledgeable and willing parties in an arms-length transaction. |
| --- | --- |
| ^(4)^ | EVE Ratio represents EVE divided by the fair value of assets. |
| --- | --- |
Market Interest Rate Shift
The financial statements and related data presented herein have been prepared in accordance with generally accepted accounting principles in the United States of America which require the measurement of financial position and operating results in terms of historical dollars without considering changes in relative purchasing power of money over time due to inflation.
The majority of assets and liabilities of a financial institution are monetary in nature; therefore, a financial institution differs greatly from most commercial and industrial companies, which have significant investments in fixed assets or inventories that are greatly impacted by inflation. However, inflation does have an important impact on the growth of total assets in the banking industry and the resulting need to increase equity capital at higher than normal rates in order to maintain an appropriate equity-to-assets ratio. Inflation also affects other expenses that tend to rise during periods of general inflation.
Management believes the most significant potential impact of inflation on financial results is a direct result of the Company’s ability to manage the impact of changes in interest rates. Management attempts to maintain a balanced position between rate-sensitive assets and liabilities in order to minimize the impact of interest rate fluctuations on net interest income. However, this goal can be difficult to completely achieve in times of rapidly changing interest rates and is one of many factors considered in determining the Company’s interest rate positioning. The Company is asset sensitive as of December 31, 2019. Refer to the Net Interest Income Sensitivity table for additional details on the Company’s interest rate sensitivity.
The Bank also uses derivative financial instruments to manage risk to the Bank associated with changing interest rates, and to assist customers with their risk management objectives. The Bank enters into interest rate swaps with certain qualifying commercial loan customers to meet their interest rate risk management needs. The net result of these interest rate swaps is that the customer pays a fixed rate of interest and the Bank receives a floating rate thus allowing the Bank another tool to further manage the interest rate risk for certain products. These back-to-back loan swaps qualify as financial derivatives with fair values reported in “Other assets” and “Other liabilities” in the Consolidated Balance Sheet.
We believe that our current interest rate exposure is manageable and does not indicate any significant exposure to interest rate changes.
Item 8. Financial Statements and Supplementary Data
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
MainStreet Bancshares, Inc.
Fairfax, Virginia
Opinion on the Financial Statements
We have audited the accompanying consolidated statements of financial condition of MainStreet Bancshares, Inc. and its Subsidiary (the Company) as of December 31, 2019 and 2018, the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows for the years then ended, and the related notes to the consolidated financial statements (collectively, the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2019 and 2018, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Yount, Hyde & Barbour, P.C.
We have served as the Company's auditor since 2008.
Richmond, Virginia
March 23, 2020
Item 8 – Financial Statements and Supplementary Data
Consolidated Financial Statements
Consolidated Statements of Financial Condition as of December 31, 2019 and December 31, 2018 (Dollars in thousands, except per share data)
| At December 31,<br>2019 | At December 31,<br>2018 | ||||
|---|---|---|---|---|---|
| Assets | |||||
| Cash and due from banks | 53,376 | 27,886 | |||
| Federal funds sold | 11,468 | 30,190 | |||
| Cash and cash equivalents | 64,844 | 58,076 | |||
| Investment securities available-for-sale, at fair value | 92,791 | 55,979 | |||
| Investment securities held-to-maturity | 23,914 | 26,178 | |||
| Restricted securities, at cost | 6,157 | 5,894 | |||
| Loans, net of allowance for loan losses of 9,584 and 8,831, respectively | 1,030,425 | 917,125 | |||
| Premises and equipment, net | 14,153 | 14,222 | |||
| Other real estate owned, net | 1,207 | — | |||
| Accrued interest and other receivables | 5,420 | 5,148 | |||
| Bank owned life insurance | 24,562 | 14,064 | |||
| Other assets | 13,885 | 3,927 | |||
| Total Assets | 1,277,358 | 1,100,613 | |||
| Liabilities and Stockholders’ Equity | |||||
| Liabilities | |||||
| Non-interest bearing deposits | 252,707 | 211,749 | |||
| Interest bearing demand deposits | 53,707 | 60,588 | |||
| Savings and NOW deposits | 63,015 | 51,371 | |||
| Money market deposits | 141,337 | 138,152 | |||
| Time deposits | 560,857 | 458,277 | |||
| Total deposits | 1,071,623 | 920,137 | |||
| Federal Home Loan Bank advances | 40,000 | 40,000 | |||
| Subordinated debt, net | 14,805 | 14,776 | |||
| Other liabilities | 13,896 | 4,449 | |||
| Total Liabilities | 1,140,324 | 979,362 | |||
| Stockholders’ Equity | |||||
| Preferred stock, 1.00 par value, 2,000,000 shares authorized; no shares issued and<br>outstanding as of December 31, 2019 and December 31, 2018 | — | — | |||
| Common stock, 4.00 par value, 10,000,000 shares authorized; issued and outstanding<br>8,260,259 shares (including 160,961 nonvested shares) for December 31, 2019 and<br>8,177,978 shares (including 133,869 nonvested shares) for December 31, 2018 | 32,397 | 32,176 | |||
| Capital surplus | 75,117 | 74,256 | |||
| Retained earnings | 29,097 | 15,186 | |||
| Accumulated other comprehensive gain (loss) | 423 | (367 | ) | ||
| Total Stockholders’ Equity | 137,034 | 121,251 | |||
| Total Liabilities and Stockholders’ Equity | 1,277,358 | 1,100,613 |
All values are in US Dollars.
See Notes to the Audited Consolidated Financial Statements
Audited Consolidated Statements of Income for the Twelve Months Ended December 31, 2019 and 2018 (Dollars in thousands, except per share data).
| For the Year<br>Ended December 31, | ||||||
|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||
| Interest Income | ||||||
| Interest and fees on loans | 55,208 | 41,270 | ||||
| Interest on investments securities | 2,202 | 1,470 | ||||
| Interest on federal funds sold | 1,403 | 1,095 | ||||
| Total Interest Income | 58,813 | 43,835 | ||||
| Interest Expense | ||||||
| Interest on interest bearing DDA deposits | 998 | 900 | ||||
| Interest on savings and NOW deposits | 289 | 251 | ||||
| Interest on money market deposits | 2,379 | 1,708 | ||||
| Interest on time deposits | 14,196 | 8,065 | ||||
| Interest on federal fund purchases | 1 | 6 | ||||
| Interest on Federal Home Loan Bank advances | 548 | 770 | ||||
| Interest on subordinated debt | 966 | 966 | ||||
| Total Interest Expense | 19,377 | 12,666 | ||||
| Net interest income | 39,436 | 31,169 | ||||
| Provision for Loan Losses | 1,618 | 3,126 | ||||
| Net interest income after provision for loan losses | 37,818 | 28,043 | ||||
| Non-Interest Income | ||||||
| Deposit account service charges | 1,668 | 1,103 | ||||
| Bank owned life insurance income | 498 | 427 | ||||
| Loan swap fee income | 989 | 713 | ||||
| Net gain on available-for-sale securities | 5 | — | ||||
| Net gain on sale of loans | 566 | — | ||||
| Other fee income | 1,136 | 996 | ||||
| Total Non-Interest Income | 4,862 | 3,239 | ||||
| Non-Interest Expense | ||||||
| Salaries and employee benefits | 15,776 | 11,845 | ||||
| Furniture and equipment expenses | 1,728 | 1,859 | ||||
| Advertising and marketing | 906 | 614 | ||||
| Occupancy expenses | 864 | 736 | ||||
| Outside services | 863 | 838 | ||||
| Franchise tax | 1,229 | 685 | ||||
| FDIC insurance | 680 | 733 | ||||
| Data processing | 995 | 811 | ||||
| Administrative expenses | 731 | 576 | ||||
| Other operating expenses | 1,604 | 1,282 | ||||
| Total Non-Interest Expense | 25,376 | 19,979 | ||||
| Income before income taxes | 17,304 | 11,303 | ||||
| Income Tax Expense | 3,354 | 2,094 | ||||
| Net Income | 13,950 | 9,209 | ||||
| Net Income per common share: | ||||||
| Basic | 1.69 | 1.38 | ||||
| Diluted | 1.69 | 1.38 |
All values are in US Dollars.
See Notes to the Audited Consolidated Financial Statements
Audited Consolidated Statements of Comprehensive Income for the Twelve Months Ended December 31, 2019 and 2018 (Dollars in thousands)
| For the Year<br>Ended December 31, | |||||
|---|---|---|---|---|---|
| 2019 | 2018 | ||||
| Comprehensive Income, net of taxes | |||||
| Net Income | 13,950 | 9,209 | |||
| Other comprehensive gain (loss), net of tax: | |||||
| Unrealized gains (losses) on available for sale securities arising<br>during the period (net of tax (benefit), 206 and (103), respectively) | 772 | (375 | ) | ||
| Less: reclassification adjustment for securities gains included in<br>net income (net of tax, (1) and 0, respectively) | (4 | ) | — | ||
| Add: reclassification adjustment for amortization of unrealized<br>losses on securities transferred from available for sale to held<br>to maturity (net of tax, 6 and 7, respectively) | 22 | 28 | |||
| Other comprehensive income (loss) | 790 | (347 | ) | ||
| Comprehensive Income | 14,740 | 8,862 |
All values are in US Dollars.
See Notes to the Audited Consolidated Financial Statements
Audited Consolidated Statements of Stockholders’ Equity for the Twelve Months Ended December 31, 2019 and 2018 (Dollars in thousands).
| Accumulated<br>Other | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Common | Capital | Retained | Comprehensive | ||||||||||||
| Stock | Surplus | Earnings | Loss | Total | |||||||||||
| Balance, December 31, 2017 | 21,442 | 35,693 | 11,686 | (20 | ) | 68,801 | |||||||||
| Proceeds from sale of common stock, net of issuance costs | 9,474 | 33,238 | — | — | 42,712 | ||||||||||
| Vesting of restricted stock | 182 | (182 | ) | — | — | — | |||||||||
| Stock based compensation expense | — | 883 | — | — | 883 | ||||||||||
| Stock dividend | 1,078 | 4,624 | (5,702 | ) | — | — | |||||||||
| Cash in lieu of fractional shares | — | — | (7 | ) | — | (7 | ) | ||||||||
| Net income | — | — | 9,209 | — | 9,209 | ||||||||||
| Other comprehensive loss | — | — | — | (347 | ) | (347 | ) | ||||||||
| Balance, December 31, 2018 | 32,176 | 74,256 | 15,186 | (367 | ) | 121,251 | |||||||||
| Accumulated<br>Other | |||||||||||||||
| Common | Capital | Retained | Comprehensive | ||||||||||||
| Stock | Surplus | Earnings | Income(Loss) | Total | |||||||||||
| Balance, December 31, 2018 | 32,176 | 74,256 | 15,186 | (367 | ) | 121,251 | |||||||||
| Vesting of restricted stock | 221 | (221 | ) | — | — | — | |||||||||
| Stock based compensation expense | — | 1,043 | — | — | 1,043 | ||||||||||
| Net income | — | — | 13,950 | — | 13,950 | ||||||||||
| Other changes related to restricted stock awards | — | 39 | (39 | ) | — | — | |||||||||
| Other comprehensive income | — | — | — | 790 | 790 | ||||||||||
| Balance, December 31, 2019 | 32,397 | 75,117 | 29,097 | 423 | 137,034 |
All values are in US Dollars.
See Notes to the Audited Consolidated Financial Statements
Audited Consolidated Statements of Cash Flows (Dollars in thousands)
| Year Ended December 31, | 2019 | 2018 | ||||
|---|---|---|---|---|---|---|
| Cash Flows from Operating Activities | ||||||
| Net income | 13,950 | 9,209 | ||||
| Adjustments to reconcile net income to net cash provided by operating activities: | ||||||
| Depreciation, amortization, and accretion, net | 1,593 | 1,669 | ||||
| Deferred income tax benefit | (462 | ) | (1,036 | ) | ||
| Provision for loan losses | 1,618 | 3,126 | ||||
| Stock based compensation expense | 1,043 | 883 | ||||
| Income from bank owned life insurance | (498 | ) | (427 | ) | ||
| Subordinated debt amortization expense | 29 | 29 | ||||
| (Gain) Loss on disposal of premises and equipment | (67 | ) | 109 | |||
| Gain on sale of available-for-sale securities | (5 | ) | — | |||
| Change in: | ||||||
| Accrued interest receivable and other receivables | (250 | ) | (1,299 | ) | ||
| Other assets | (9,706 | ) | (1,153 | ) | ||
| Other liabilities | 9,447 | 1,481 | ||||
| Net cash provided by operating activities | 16,692 | 12,591 | ||||
| Cash Flows from Investing Activities | ||||||
| Activity in available-for-sale securities: | ||||||
| Payments | 4,831 | 4,254 | ||||
| Maturities, sales, called, refunded | 134,844 | 115,000 | ||||
| Purchases | (175,894 | ) | (124,915 | ) | ||
| Activity in held-to-maturity securities: | ||||||
| Purchases | — | (500 | ) | |||
| Maturities, called, refunded | 2,110 | 1,655 | ||||
| Purchases of restricted investment in bank stock | (5,109 | ) | (6,163 | ) | ||
| Redemption of restricted investment in bank stock | 4,846 | 4,510 | ||||
| Net increase in loan portfolio | (116,125 | ) | (265,912 | ) | ||
| Purchases of bank owned life insurance | (10,000 | ) | — | |||
| Proceeds from sale of premises and equipment | 77 | 31 | ||||
| Purchases of premises and equipment | (990 | ) | (1,375 | ) | ||
| Net cash used in investing activities | (161,410 | ) | (273,415 | ) | ||
| Cash Flows from Financing Activities | ||||||
| Net increase in non-interest deposits | 40,958 | 40,177 | ||||
| Net increase in interest bearing demand, savings, and time deposits | 110,528 | 212,305 | ||||
| Net decrease in Federal Home Loan Bank advances and other borrowings | — | (13,780 | ) | |||
| Cash paid in lieu of fractional shares | — | (7 | ) | |||
| Net proceeds from sale of common stock, net of offering costs | — | 42,712 | ||||
| Net cash provided by financing activities | 151,486 | 281,407 | ||||
| Increase in Cash and Cash Equivalents | 6,768 | 20,583 | ||||
| Cash and Cash Equivalents, beginning of period | 58,076 | 37,493 | ||||
| Cash and Cash Equivalents, end of period | 64,844 | 58,076 | ||||
| Supplementary Disclosure of Cash Flow Information | ||||||
| Cash paid during the period for interest | 19,498 | 12,068 | ||||
| Cash paid during the period for income taxes | 4,159 | 2,620 | ||||
| Right of use assets obtained in exchange for new operating lease liabilities | 6,693 | — | ||||
| Transfers from loans to other real estate owned | 1,207 | — | ||||
| Net unrealized gain (loss) on securities available-for-sale | 967 | (489 | ) |
All values are in US Dollars.
See Notes to the Audited Consolidated Financial Statements
MAINSTREET BANCSHARES, INC. AND SUBSIDIARY
Notes to Unaudited Consolidated Financial Statements
Note 1. Organization, Basis of Presentation and Impact of Recently Issued Accounting Pronouncements
Organization
MainStreet Bancshares Inc. (the “Company”) is a bank holding company incorporated under the laws of the Commonwealth of Virginia whose principal activity is the ownership and management of MainStreet Bank. On May 18, 2016, the stockholders of MainStreet Bank (the “Bank”) approved a Reorganization Agreement and Plan of Share Exchange (“Reorganization”) whereby the Bank would reorganize into a holding company structure. The Plan of Share Exchange called for each outstanding share of Bank common stock to be automatically converted into and exchanged for one share of the Company’s common stock, and the common stockholders of the Bank would become the common stockholders of the Company on the effective date of the Reorganization. The Company is authorized to issue 10,000,000 shares of common stock with a par value of $4.00 per share. Additionally, the Company is authorized to issue 2,000,000 shares of preferred stock at a par value $1.00 per share. There is currently no preferred stock outstanding.
On July 15, 2016, the Reorganization became effective, and the Bank became a wholly-owned subsidiary of the Company. The holding company is regulated under the Bank Holding Company Act of 1956, as amended (“BHC Act”) and is subject to inspection, examination, and supervision by the Federal Reserve Board.
On April 18, 2019, the Company completed the registration of its common stock with the Securities Exchange Commission through its filing of a General Form for Registration of Securities on Form 10 (“Form 10”), pursuant to Section 12(b) of the Securities Exchange Act of 1934. The Company is considered an “emerging growth company” under the Jumpstart Our Business Startups Act of 2012, or the “JOBS Act,” and as defined in Section 2(a) of the Securities Act of 1933, as amended, or the “Securities Act.” We are also a “smaller reporting company” as defined in Exchange Act Rule 12b-2. As such, we may elect to comply with certain reduced public company reporting requirements in future reports that we file with the Securities and Exchange Commission, or the “SEC.”
We were approved to list shares of our common stock on the Nasdaq Capital Market under our current symbol “MNSB” as of April 22, 2019.
MainStreet Bank is headquartered in Fairfax, Virginia where it also operates a branch. The Bank was incorporated on March 28, 2003 and received its charter from the Bureau of Financial Institutions of the Commonwealth of Virginia (the “Bureau”) on March 16, 2004. The Bank commenced regular operations on May 26, 2004 and is supervised by the Bureau and the Federal Reserve Bank of Richmond. The Bank is a member of the Federal Reserve System and the Federal Deposit Insurance Corporation. The Bank places special emphasis on serving the needs of individuals, and small and medium-sized business and professional concerns in the Washington, D.C. metropolitan area.
Basis of Presentation
The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“US GAAP”) as applicable to a smaller reporting company.
Principles of Consolidation – The consolidated financial statements include accounts of the Company and its wholly-owned subsidiary, the Bank. All significant intercompany transactions and balances have been eliminated in consolidation.
Cash and cash equivalents – For the purpose of presentation in the Statements of Cash Flows, the Bank has defined cash and cash equivalents as those amounts included in the balance sheet captions “Cash and due from banks” and “Federal funds sold.”
Investment securities – The Bank’s investment securities are classified as either held to maturity, available for sale or trading. At December 31, 2019 and December 31, 2018, the Bank held approximately $23.9 million and $26.2 million, respectively, in securities classified as held to maturity. The Bank held no securities classified as trading. Municipal securities that were originally purchased as available for sale were transferred to held to maturity during 2013. The unrealized loss on the securities transferred to held to maturity is being amortized over the expected life of the securities. At December 31, 2019 and December 31, 2018, the unamortized unrealized loss was $81,076 and $109,420, respectively, before tax, and remains in accumulated other comprehensive loss, net of tax.
Securities which are not classified as held to maturity or trading are classified as securities available for sale. Securities available for sale are reported at fair value. Any unrealized gain or loss, net of applicable income taxes, is reported as a separate addition to or reduction from stockholders’ equity. Gains and losses arising from the sale of securities available for sale are recognized based on the specific identification method on a trade-date basis and included in results of operations.
Securities held to maturity includes securities purchased with the ability and positive intent to hold to maturity. Debt securities are stated at historical cost adjusted for amortization of premiums and accretion of discount. Any investment security, for which there has been a value impairment deemed by management to be other than temporary, is written down to its estimated fair value with a charge to current operations.
Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In determining whether other-than-temporary impairment exists, management considers many factors, including (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) whether the Bank intends to sell the security, whether it is more likely than not that the Bank will be required to sell the security before recovery of its amortized cost basis, and whether the Bank expects to recover the security’s entire amortized cost basis. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.
Restricted equity securities consist of the Federal Reserve Bank and Federal Home Loan Bank of Atlanta (“FHLB”) stock in the amount of $3.3 million and $2.7 million respectively, as of December 31, 2019, compared to $3.3 million and $2.4 million, respectively, as of December 31, 2018. Restricted equity securities also consisted of $126,800 in Community Bankers Bank stock at December 31, 2019 and December 31, 2018. This restricted stock is recorded at cost because its ownership is restricted and it lacks a market for resale. The Bank is required to maintain Federal Reserve Bank stock at a level of 6% of capital and surplus. The FHLB requires the Bank to maintain stock, at a minimum, in an amount equal to 4.5% of outstanding borrowings and 0.20% of total assets. When evaluating restricted stock for impairment, its value is based on ultimate recoverability of the par value rather than by recognizing temporary declines in value. The Bank does not consider these investments to be impaired at December 31, 2019 or December 31, 2018 and no previous impairment has been recognized.
Loans - The Bank makes commercial and consumer loans to customers. Our recorded investment in loans that management has the intent and ability to hold for the foreseeable future, or until maturity or pay-off, generally are reported at their unpaid principal balances adjusted for charge-offs, unearned discounts, any deferred fees or costs on originated loans, and the allowance for loan losses. Interest on loans is credited to operations based on the principal amount outstanding. Loan fees and origination costs are deferred and the net amount is amortized as an adjustment of the related loan’s yield using the effective interest method. The Bank is amortizing these amounts over the contractual life of the related loans.
A loan’s past due status is based on the contractual due date of the most delinquent payment due. All loans which are 30 or more days past due at the end of the month are reported to the Board of Directors. Commercial loans are generally placed on nonaccrual status when the collection of principal or interest is 90 days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. Consumer loans are generally placed on nonaccrual status when the collection of principal or interest is 120 days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. Loans greater than 90 days past due may remain on accrual status if management determines it has adequate collateral to cover the principal and interest. For those loans that are carried on nonaccrual status, payments are first applied to principal outstanding. A loan may be returned to accrual status if the borrower has demonstrated a sustained period of repayment performance in accordance with the contractual terms of the loan and there is reasonable assurance the borrower will continue to make payments as agreed. It is Bank policy to charge-off loans whose collectability is sufficiently questionable and can no longer be justified as an asset on the balance sheet. To determine if a loan should be charged-off, all possible sources of repayment are analysed, including: (1) the potential for future cash flow, (2) the value of the Bank’s collateral, and (3) the strength of co-makers or guarantors. All principal and previously accrued interest is charged to the allowance for loan losses. All future payments received on the loan are credited to the allowance for loan losses as a recovery. These policies are applied consistently across our loan portfolio.
Impairment of a loan - The Bank considers a loan impaired when it is probable that the Bank will be unable to collect all interest and principal payments as scheduled in the loan agreement when due. A loan is not considered impaired during a period of an insignificant delay in payment if the ultimate collectability of all amounts due is expected. Impairment is measured on a loan by loan basis for all commercial, construction and residential loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price or the fair value of the collateral if the loan is collateral dependent. Consistent with the Bank’s method for nonaccrual loans, payments on impaired loans are first applied to principal outstanding. Smaller balance consumer loans are not individually evaluated for impairment.
Troubled Debt Restructuring (TDR) occurs when the Bank agrees to modify the original terms of a loan due to the deterioration in the financial condition of the borrower. TDRs are considered impaired loans. Upon designation as a TDR, the Bank evaluates the borrower’s payment history, past due status and ability to make payments based on the revised terms of the loan. If a loan was accruing prior to being modified as a TDR and if the Bank concludes that the borrower is able to continue making such payments, and there are no other factors or circumstances that would cause it to conclude otherwise, the loan will remain on an accruing status. If a loan was on nonaccrual status at the time of the TDR, the loan will remain on nonaccrual status following the modification and may be returned to accrual status based on the policy for returning loans to accrual status as noted above. Restructured loans for which there was no rate concession, and therefore made at a market rate of interest, may be eligible to be removed from TDR status in periods subsequent to the restructuring depending on the performance of the loan. As of December 31, 2019, and December 31, 2018, the Bank had approximately $1.5 million and $3.4 million of loans classified as TDR, respectively. At December 31, 2019 and December 31, 2018, TDR loans consisted of one and two loans, respectively. The one currently identified TDR loan in the amount of approximately $1.5 million is currently performing in accordance with its modified terms.
Allowance for Loan Losses - The allowance for loan losses is established through charges to earnings in the form of a provision for loan losses. Loan losses are charged against the allowance for loan losses for the difference between the carrying value of the loan and the estimated net realizable value or fair value of the collateral, if collateral dependent, when:
| • | Management believes that the collectability of the principal is unlikely regardless of delinquency status. | |
|---|---|---|
| • | The loan is a consumer loan and is 120 days past due. | |
| --- | --- | --- |
| • | The loan is a non-consumer loan, unless the loan is well secured and recovery is probable. | |
| --- | --- | --- |
| • | The borrower is in bankruptcy, unless the debt has been reaffirmed, is well secured and recovery is probable. | |
| --- | --- | --- |
Subsequent recoveries, if any, are credited to the allowance.
The allowance represents an amount that, in management’s judgment, will be adequate to absorb probable losses inherent in the loan portfolio. Management’s judgment in determining the level of the allowance is based on evaluations of the collectability of loans while taking into consideration such factors as trends in delinquencies and charge-offs, changes in the nature and volume of the loan portfolio, current economic conditions that may affect a borrower’s ability to repay and the value of collateral, overall portfolio quality and review of specific potential losses. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. The evaluation also considers the following risk characteristics of each loan portfolio segment:
| • | Real estate residential mortgage loans, including equity lines of credit, carry risks associated with the continued credit-worthiness of the borrower and the changes in the value of the collateral. | |
|---|---|---|
| • | Real estate construction loans and land improvement carry risks that the project will not be finished according to schedule, the project will not be finished according to budget and the value of the collateral may, at any point in time, be less than the principal amount of the loan. Construction loans also bear the risk that the general contractor, who may or may not be a loan customer, may be unable to finish the construction project as planned because of financial pressure unrelated to the project. | |
| --- | --- | --- |
| • | Commercial real estate loans carry risks of the client’s ability to repay the loan from the cash flow derived from the underlying real estate. Risks inherent in managing a commercial real estate portfolio relate to sudden or gradual drops in property values as well as changes in the economic climate. Real estate security diminishes risks only to the extent that a market exists for the subject collateral. These risks are attempted to be mitigated by carefully underwriting loans of this type and by following appropriate loan-to-value standards. | |
| --- | --- | --- |
| • | Commercial and industrial loans carry risks associated with the successful operation of a business or a real estate project, in addition to other risks associated with the ownership of real estate, because the repayment of these loans may be dependent upon the profitability and cash flows of the business or project. In addition, there is risk associated with the value of collateral other than real estate which may depreciate over time and cannot be appraised with as much precision. | |
| --- | --- | --- |
| • | Consumer secured loans (indirect lending) carry risks associated with the continued credit-worthiness of the borrower and the value of the collateral (e.g., rapidly-depreciating assets such as automobiles). These risks are attempted to be mitigated by following appropriate loan-to-value standards and an experienced management team for this type of portfolio. | |
| --- | --- | --- |
| • | Consumer unsecured loans (credit cards) carry risks associated with the continued credit-worthiness of the borrower. Consumer unsecured loans are more likely to be immediately adversely affected by job loss, divorce, illness or personal bankruptcy. | |
| --- | --- | --- |
The allowance consists of specific and general components. The specific component relates to loans that are classified as impaired and is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. For collateral dependent loans, an updated appraisal will be ordered if a current one is not on file. Appraisals are performed by independent third-party appraisers with the relevant industry experience. Adjustments to the appraised value may be made based on recent sales of like properties or general market conditions when appropriate. The general component covers non-classified or performing loans and those loans classified as substandard or special mention that are not impaired. The general component is based on historical loss experience adjusted for qualitative factors, such as current economic conditions, including current home sales and foreclosures, unemployment rates and retail sales. Non-impaired classified loans are assigned a higher allowance factor based on an internal migration analysis, which increases with the severity of classification, than non-classified loans. The characteristics of the loan ratings are as follows:
Other Real Estate Owned (“OREO”) - Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less costs to sell at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, management periodically performs valuations of the foreclosed assets based on updated appraisals, general market conditions, and recent sales of like properties, length of time the properties have been held and our ability and intention with regard to continued ownership of the properties. The Bank may incur additional write-downs of foreclosed assets to fair value less costs to sell if valuations indicate a further deterioration in market values. Revenue and expenses from operations and changes in the valuation allowance are included in net expenses from foreclosed assets and improvements are capitalized.
Interest income on loans – Interest on loans is accrued and credited to income on daily balances of the principal amount outstanding. The accrual of interest on loans is discontinued when, in the opinion of management, there is an indication that the borrower may be unable to meet payments as they become due. Upon such discontinuance, all unpaid accrued interest is reversed.
Generally, the Bank will return a loan to accrual status when all delinquent interest and principal becomes current and remains current for six consecutive months under the terms of the loan agreement or the loan is well-secured or in process of collection. Upon returning to accrual status, interest payments applied to the principal balance of a loan while in nonaccrual status are recognized as a yield adjustment over the remaining life.
Loan origination and commitment fees and certain related direct costs - Loan origination and commitment fees charged by the Bank and certain direct loan origination costs are deferred and the net amount is amortized as a yield adjustment. The Bank amortizes these net amounts over the life of the related loans or, in the case of demand loans, over the estimated life. Net fees related to standby letters of credit are recognized over the commitment period.
Premises and equipment – Land is carried at cost. Premises and equipment are stated at cost, less accumulated depreciation and amortization computed principally on the straight-line basis over the estimated useful life of each asset, which ranges from 3 to 39 years. Leasehold improvements are amortized over the shorter of the related lease term or the estimated useful lives of the improvements. Construction in progress includes assets which will be reclassified and depreciated once placed into service.
Income taxes – The Bank uses an asset and liability approach in financial accounting and reporting for income taxes. Deferred income tax assets and liabilities are computed for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future. The principal items relate primarily to differences between the allowance for loan losses, deferred loan fees, and accumulated depreciation and amortization. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense (benefit) is the tax payable or refundable for the period plus or minus the change during the period in deferred tax assets and liabilities.
When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained. The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. Tax positions taken are not offset or aggregated with other positions. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50% likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination. As of December 31, 2019, and December 31, 2018, there were no such liabilities recorded.
Interest and penalties associated with unrecognized tax benefits, if any, would be classified as additional income taxes in the statement of income.
Comprehensive income – Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although, certain changes in assets and liabilities, such as unrealized gains and losses on available for sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.
Stock compensation plans – Stock compensation accounting guidance (FASB ASC 718, “Compensation – Stock Compensation”) requires that the compensation cost relating to share-based payment transactions be recognized in financial statements. That cost will be measured based on the grant date fair value of the equity or liability instruments issued.
The stock compensation accounting guidance requires that compensation cost for all stock awards be calculated and recognized over the employees’ service period, generally defined as the vesting period. For awards with graded-vesting, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award. A Black-Sholes model is used to estimate the fair value of stock options, while the market price of the Bank’s common stock at the date of grant is used for restricted stock awards. No stock options were granted during 2019 and 2018.
Earnings per share – Net income per common share has been determined under the provisions of FASB ASC 260, “Earnings Per Share” and has been computed based on the weighted average common shares outstanding during the year ended December 31, (8,251,302 for 2019 and 6,652,979 for 2018 as adjusted for a 5% stock dividend issued April 30, 2018). Diluted earnings per share reflect additional potential common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance.
The only potential dilutive stock of the Bank as defined in FASB ASC 260 would be stock options granted to various directors, officers, and employees of the Bank. There were no such options outstanding at December 31, 2019 or December 31, 2018. Restricted stock is included in the computation of basic earnings per share as the holder is entitled to full benefits of a stockholder during the vesting period.
Off-balance sheet instruments – In the ordinary course of business, the Bank has entered into off-balance sheet financial instruments consisting of commitments to extend credit, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded, or related fees are incurred or received.
Advertising and marketing expense – Advertising and marketing costs are expensed as incurred.
Use of estimates – The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from the estimates.
The Company’s critical accounting policies relate to (1) the allowance for loan losses, (2) fair value of financial instruments, (3) derivative financial instruments, (4) income taxes, and (5) other real estate owned. These critical accounting policies require the use of estimates, assumptions and judgments which are based on information available as of the date of the financial statements. Accordingly, as this information changes, future financial statements could reflect the use of different estimates, assumptions and judgments. Certain determinations inherently have a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. In connection with the determination of the allowances for losses on loans and valuation of other real estate owned management obtains independent appraisals for significant properties.
Fair value of financial instruments – Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in Note 19. Fair value estimates involve uncertainties and matters of significant judgment. Changes in assumptions or in market conditions could significantly affect the estimates.
Derivative Financial Instruments – The Bank recognizes derivative financial instruments at fair value as either an other asset or other liability in the consolidated balance sheet. The Bank’s derivative financial instruments include interest rate swaps with certain qualifying commercial loan customers and dealer counterparties. Because the interest rate swaps with loan customers and dealer counterparties are not designated as hedging instruments, adjustments to reflect unrealized gains and losses resulting from changes in fair value of these instruments are reported as noninterest income or noninterest expense, as applicable. The Bank’s interest rate swaps with loan customers and dealer counterparties are described more fully in Note 18.
Transfers of financial assets – Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Bank – put presumptively beyond reach of the transferor and its creditors, even in bankruptcy or other receivership, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Bank does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity or the ability to unilaterally cause the holder to return specific assets.
During 2018, the Company adopted Accounting Standards Update (ASU) 2014-09, “Revenue from Contracts with Customers (Topic 606),” and all amendments thereto (collectively, ASU 2014-09), which (i) creates a single framework for recognizing revenue from contracts with customers that fall within its scope and (ii) revises when it is appropriate to recognize a gain/loss from the transfer of nonfinancial assets, such as other real estate owned (OREO). The Company adopted ASU 2014-09 using the modified retrospective method applied to all contracts not completed as of January 1, 2018. Results for reporting periods beginning after January 1, 2018 are presented under ASU 2014-09. The adoption of ASU 2014-09 did not result in a change to the accounting for any of the in-scope revenue streams; therefore, no cumulative effect adjustment was recorded.
Most revenue associated with the Company’s financial instruments, including interest income and gains/losses on investment securities, derivatives and sales of financial instruments are outside the scope of ASU 2014-09. The Company’s services that fall within the scope of ASU 2014-09 are presented within noninterest income and are recognized as revenue. A description of the primary revenue streams accounted for under ASU 2014-09 follows:
Service Charges on Deposit Accounts. The Company earns fees from its deposit customers for overdraft and account maintenance services. Overdraft fees are recognized when the overdraft occurs. Account maintenance fees, which relate primarily to monthly maintenance, are earned over the course of a month, representing the period over which the company satisfies the performance obligation.
Other Service Charges and Fees. The Company earns fees from its customers for transaction-based services. Such services include safe deposit box, ATM, stop payment, wire transfer, mortgage origination and interest rate swap fees. In each case, these service charges and fees are recognized in income at the time or within the same period that the Company’s performance obligation is satisfied.
Interchange Income. The Company earns interchange fees from debit and credit cardholder transactions conducted through various payment networks. Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction processing services.
Impact of Recently Issued Accounting Pronouncements
In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The amendments in this ASU, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The amendments in this ASU are effective for SEC filers for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. For public business entities that meet the definition of a U.S. Securities and Exchange Commission (SEC) filer, excluding smaller reporting companies, the standard is effective for fiscal years beginning after December 15, 2019, including interim periods in those fiscal years. All other entities will be required to apply the guidance for fiscal years, and interim periods within those years, beginning after December 15, 2022. The Company is currently assessing the impact that ASU 2016-13 will have on its consolidated financial statements. The Company has formed a Committee to oversee the accounting impact of this ASU. In anticipation of the ASU, the Company is working with third party to compile data and develop an estimate using historical and qualitative data based on the requirements of ASU 2016-13.
In August 2018, the FASB issued ASU 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement.” The amendments modify the disclosure requirements in Topic 820 to add disclosures regarding changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty. Certain disclosure requirements in Topic 820 are also removed or modified. The amendments are effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Certain of the amendments are to be applied prospectively while others are to be applied retrospectively. Early adoption is permitted. The Company does not expect the adoption of ASU 2018-13 to have a material impact on its consolidated financial statements.
In April 2019, the FASB issued ASU 2019-04, “Codification Improvements to Topic 326, Financial Instruments—Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments.” This ASU clarifies and improves areas of guidance related to the recently issued standards on credit losses, hedging, and recognition and measurement including improvements resulting from various Transition Resource Group (TRG) Meetings. The amendments are effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Early adoption is permitted. The Company is currently assessing the impact that ASU 2019-04 will have on its consolidated financial statements.
In May 2019, the FASB issued ASU 2019-05, “Financial Instruments—Credit Losses (Topic 326): Targeted Transition Relief.” The amendments in this ASU provide entities that have certain instruments within the scope of Subtopic 326-20 with an option to irrevocably elect the fair value option in Subtopic 825-10, applied on an instrument-by-instrument basis for eligible instruments, upon the adoption of Topic 326. The fair value option election does not apply to held-to-maturity debt securities. An entity that elects the fair value option should subsequently measure those instruments at fair value with changes in fair value flowing through earnings. The effective date and transition methodology for the amendments in ASU 2019-05 are the same as in ASU 2016-13. The Company is currently assessing the impact that ASU 2019-05 will have on its consolidated financial statements.
In November 2019, the FASB issued ASU 2019-11, “Codification Improvements to Topic 326, Financial Instruments – Credit Losses.” This ASU addresses issues raised by stakeholders during the implementation of ASU No. 2016-13, “Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” Among other narrow-scope improvements, the new ASU clarifies guidance around how to report expected recoveries. “Expected recoveries” describes a situation in which an organization recognizes a full or partial write-off of the amortized cost basis of a financial asset, but then later determines that the amount written off, or a portion of that amount, will in fact be recovered. While applying the credit losses standard, stakeholders questioned whether expected recoveries were permitted on assets that had already shown credit deterioration at the time of purchase (also known as PCD assets). In response to this question, the ASU permits organizations to record expected recoveries on PCD assets. In addition to other narrow technical improvements, the ASU also reinforces existing guidance that prohibits organizations from recording negative allowances for available-for-sale debt securities. The ASU includes effective dates and transition requirements that vary depending on whether or not an entity has already adopted ASU 2016-13. The Company is currently assessing the impact that ASU 2019-11 will have on its consolidated financial statements.
In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740) – Simplifying the Accounting for Income Taxes.” The ASU is expected to reduce cost and complexity related to the accounting for income taxes by removing specific exceptions to general principles in Topic 740 (eliminating the need for an organization to analyze whether certain exceptions apply in a given period) and improving financial statement preparers’ application of certain income tax-related guidance. This ASU is part of the FASB’s simplification initiative to make narrow-scope simplifications and improvements to accounting standards through a series of short-term projects. For public business entities, the amendments are effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years. Early adoption is permitted. The Company is currently assessing the impact that ASU 2019-12 will have on its consolidated financial statements.
In January 2020, the FASB issued ASU 2020-01, “Investments – Equity Securities (Topic 321), Investments – Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815) – Clarifying the Interactions between Topic 321, Topic 323, and Topic 815.” The ASU is based on a consensus of the Emerging Issues Task Force and is expected to increase comparability in accounting for these transactions. ASU 2016-01 made targeted improvements to accounting for financial instruments, including providing an entity the ability to measure certain equity securities without a readily determinable fair value at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. Among other topics, the amendments clarify that an entity should consider observable transactions that require it to either apply or discontinue the equity method of accounting. For public business entities, the amendments in the ASU are effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years. Early adoption is permitted. The Company does not expect the adoption of ASU 2020-01 to have a material impact on its consolidated financial statements.
Effective November 25, 2019, the SEC adopted Staff Accounting Bulletin (SAB) 119. SAB 119 updated portions of SEC interpretative guidance to align with FASB ASC 326, “Financial Instruments – Credit Losses.” It covers topics including (1) measuring current expected credit losses; (2) development, governance, and documentation of a systematic methodology; (3) documenting the results of a systematic methodology; and (4) validating a systematic methodology.
Note 2. Restrictions on Cash
To comply with Federal Reserve regulations, the Bank is required to maintain certain average cash reserve balances. The daily average cash reserve requirements were approximately $17.1 million and $7.7 million for the weeks including December 31, 2019 and December 31, 2018, respectively.
Investment securities available-for-sale was comprised of the following:
| December 31, 2019 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amortized<br>Cost | Gross<br>Unrealized<br>Gains | Gross<br>Unrealized<br>Losses | Fair Value | ||||||||
| U.S. Treasury Securities | 49,999 | — | (1 | ) | 49,998 | |||||||
| Collateralized Mortgage Backed | 17,659 | 82 | (68 | ) | 17,673 | |||||||
| Subordinated Debt | 2,500 | 55 | (1 | ) | 2,554 | |||||||
| Municipal Securities | 13,888 | 743 | — | 14,631 | ||||||||
| U.S. Governmental Agencies | 8,135 | — | (200 | ) | 7,935 | |||||||
| Total | 92,181 | 880 | (270 | ) | 92,791 |
All values are in US Dollars.
Investment securities held-to-maturity was comprised of the following:
| December 31, 2019 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amortized<br>Cost | Gross<br>Unrealized<br>Gains | Gross<br>Unrealized<br>Losses | Fair Value | ||||||||
| Municipal Securities | 22,414 | 766 | (2 | ) | 23,178 | |||||||
| Subordinated Debt | 1,500 | — | — | 1,500 | ||||||||
| Total | 23,914 | 766 | (2 | ) | 24,678 |
All values are in US Dollars.
Investment securities available-for-sale was comprised of the following:
| December 31, 2018 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amortized<br>Cost | Gross<br>Unrealized<br>Gains | Gross<br>Unrealized<br>Losses | Fair Value | ||||||||
| U.S. Treasury Securities | 29,996 | 1 | — | 29,997 | ||||||||
| Collateralized Mortgage Backed | 4,967 | 21 | (95 | ) | 4,893 | |||||||
| Subordinated Debt | 2,000 | 15 | — | 2,015 | ||||||||
| Municipal Securities | 8,869 | — | (36 | ) | 8,833 | |||||||
| U.S. Governmental Agencies | 10,515 | — | (274 | ) | 10,241 | |||||||
| Total | 56,347 | 37 | (405 | ) | 55,979 |
All values are in US Dollars.
Investment securities held-to-maturity was comprised of the following:
| December 31, 2018 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amortized<br>Cost | Gross<br>Unrealized<br>Gains | Gross<br>Unrealized<br>Losses | Fair Value | ||||||||
| Municipal Securities | 24,678 | 315 | (260 | ) | 24,733 | |||||||
| Subordinated Debt | 1,500 | — | — | 1,500 | ||||||||
| Total | 26,178 | 315 | (260 | ) | 26,233 |
All values are in US Dollars.
The scheduled maturities of securities available-for-sale and held-to-maturity at December 31, 2019 were as follows:
| December 31, 2019 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Available-for-Sale | Held-to-Maturity | |||||||||||
| (Dollars in thousands) | Amortized<br>Cost | Fair Value | Amortized<br>Cost | Fair Value | ||||||||
| Due in one year or less | 50,014 | 50,014 | — | — | ||||||||
| Due from one to five years | — | — | 831 | 854 | ||||||||
| Due from after five to ten years | 3,516 | 3,578 | 9,276 | 9,601 | ||||||||
| Due after ten years | 38,651 | 39,199 | 13,807 | 14,223 | ||||||||
| Total | 92,181 | 92,791 | 23,914 | 24,678 |
All values are in US Dollars.
Securities with a fair value of $267,899 and $263,307 at December 31, 2019 and December 31, 2018, respectively, were pledged to secure FHLB advances.
There were seven securities sold from the available-for-sale portfolio for the twelve months ended December 31, 2019. There were no sales for the same period in 2018.
The following tables summarize the fair value and unrealized losses at December 31, 2019 and December 31, 2018, aggregated by investment category and length of time that individual securities have been in a continuous loss position:
| December 31, 2019 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Less than 12 Months | 12 Months or Longer | Total | ||||||||||||||||
| (Dollars in thousands) | Fair<br>Value | Unrealized<br>Loss | Fair<br>Value | Unrealized<br>Loss | Fair<br>Value | Unrealized<br>Loss | ||||||||||||
| Available-for-sale: | ||||||||||||||||||
| U.S. Treasury Securities | 49,998 | (1 | ) | — | — | 49,998 | (1 | ) | ||||||||||
| Collateralized Mortgage Backed | 6,223 | (67 | ) | 834 | (1 | ) | 7,057 | (68 | ) | |||||||||
| Subordinated Debt | 499 | (1 | ) | — | — | 499 | (1 | ) | ||||||||||
| U.S Governmental Agencies | — | — | 7,857 | (200 | ) | 7,857 | (200 | ) | ||||||||||
| Total | 56,720 | (69 | ) | 8,691 | (201 | ) | 65,411 | (270 | ) | |||||||||
| Held-to-maturity: | ||||||||||||||||||
| Municipal securities | 537 | (2 | ) | — | — | 537 | (2 | ) | ||||||||||
| Total | 537 | (2 | ) | — | — | 537 | (2 | ) |
All values are in US Dollars.
| December 31, 2018 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Less than 12 Months | 12 Months or Longer | Total | ||||||||||||||||
| (Dollars in thousands) | Fair<br>Value | Unrealized<br>Loss | Fair<br>Value | Unrealized<br>Loss | Fair<br>Value | Unrealized<br>Loss | ||||||||||||
| Available-for-sale: | ||||||||||||||||||
| U.S. Treasury Securities | 4,999 | — | — | — | 4,999 | — | ||||||||||||
| Collateralized Mortgage Backed | 1,706 | (14 | ) | 2,659 | (81 | ) | 4,365 | (95 | ) | |||||||||
| Municipal Securities | 3,683 | (18 | ) | 1,588 | (17 | ) | 5,271 | (35 | ) | |||||||||
| U.S Government Agencies | 6,520 | (121 | ) | 3,586 | (154 | ) | 10,106 | (275 | ) | |||||||||
| Total | 16,908 | (153 | ) | 7,833 | (252 | ) | 24,741 | (405 | ) | |||||||||
| Held-to-maturity: | ||||||||||||||||||
| Municipal Securities | 1,025 | (5 | ) | 8,899 | (255 | ) | 9,924 | (260 | ) | |||||||||
| Total | 1,025 | (5 | ) | 8,899 | (255 | ) | 9,924 | (260 | ) |
All values are in US Dollars.
The factors considered in evaluating securities for impairment include whether the Bank intends to sell the security, whether it is more likely than not that the Bank will be required to sell the security before recovery of its amortized cost basis, and whether the Bank expects to recover the security’s entire amortized cost basis. These unrealized losses are primarily attributable to current financial market conditions for these types of investments, particularly changes in interest rates, causing bond prices to decline, and are not attributable to credit deterioration.
At December 31, 2019, there were two U.S. Treasury securities with a fair value of approximately $50.0 million, three collateralized mortgage backed securities with fair values totaling $6.2 million and one subordinated debt security with a fair value of $499,000 considered temporarily impaired and in an unrealized loss position of less than 12 months. At December 31, 2019, there were two collateralized mortgage backed securities with a fair value totaling $834,000 and nine U.S. government agencies with fair values totaling approximately $7.9 million that were in an unrealized loss position of more than 12 months. At December 31, 2019, there was one held-to-maturity municipal security with a fair value of $537,000 in an unrealized loss position of less than 12 months. The Bank does not consider any of the securities in the available for sale or held to maturity portfolio to be other-than-temporarily impaired at December 31, 2019 and December 31, 2018. There were seven securities sold during 2019; four were sold at a loss of $18,000 and three were sold at gain of $23,000 for a net gain of $5,000, and no securities were sold in 2018.
All municipal securities originally purchased as available for sale were transferred to held to maturity during 2013. The unrealized loss on the securities transferred to held to maturity is being amortized over the expected life of the securities. The unamortized, unrealized loss, before tax, at December 31, 2019 and December 31, 2018 was $81,076 and $109,420, respectively.
Note 4. Loans Receivable
Loans receivable were comprised of the following:
| (Dollars in thousands) | December 31,<br>2019 | December 31,<br>2018 | ||||
|---|---|---|---|---|---|---|
| Residential Real Estate: | ||||||
| Single family | 143,535 | 139,620 | ||||
| Multifamily | 6,512 | 9,182 | ||||
| Farmland | 801 | 825 | ||||
| Commercial Real Estate: | ||||||
| Owner-occupied | 134,116 | 121,622 | ||||
| Non-owner occupied | 287,754 | 256,139 | ||||
| Construction and Land Development | 272,620 | 183,551 | ||||
| Commercial – Non Real-Estate: | ||||||
| Commercial & industrial | 121,225 | 114,221 | ||||
| Consumer – Non Real Estate: | ||||||
| Unsecured | 599 | 1,402 | ||||
| Secured | 74,984 | 100,875 | ||||
| Total Gross Loans | 1,042,146 | 927,437 | ||||
| Less: unearned fees | (2,118 | ) | (1,400 | ) | ||
| Less: unamortized discount on consumer secured loans | (19 | ) | (81 | ) | ||
| Less: allowance for loan losses | (9,584 | ) | (8,831 | ) | ||
| Net Loans | 1,030,425 | 917,125 |
All values are in US Dollars.
The unsecured consumer loans above include $599,009 and $452,190 of overdrafts reclassified as loans for the years ended December 31, 2019 and December 31, 2018, respectively.
The Bank held no loans for sale at December 31, 2019 and December 31, 2018.
If interest on nonaccrual loans had been accrued, such income would have been $0 and $142,962 for the twelve months ended December 31, 2019 and 2018.
The following table presents nonaccrual loans by classes of the loan portfolio as of December 31, 2019 and December 31, 2018:
| (Dollars in thousands) | December 31,<br>2019 | December 31,<br>2018 | ||||
|---|---|---|---|---|---|---|
| Commercial Real Estate: | ||||||
| Owner occupied | — | 1,939 | ||||
| Total | — | 1,939 |
All values are in US Dollars.
The following tables present the segments of the loan portfolio summarized by aging categories as of December 31, 2019 and December 31, 2018:
| December 31, 2019 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | 30-59<br>Days Past<br>Due | 60-89<br>Days Past<br>Due | Greater<br>than 90<br>Days | Total<br>Past Due | Current | Total<br>Loans<br>Receivable | Nonaccrual | ||||||||||||||
| Residential Real Estate: | |||||||||||||||||||||
| Single Family | — | — | — | — | 143,535 | 143,535 | — | ||||||||||||||
| Multifamily | — | — | — | — | 6,512 | 6,512 | — | ||||||||||||||
| Farmland | — | — | — | — | 801 | 801 | — | ||||||||||||||
| Commercial Real Estate: | |||||||||||||||||||||
| Owner occupied | — | 150 | — | 150 | 133,966 | 134,116 | — | ||||||||||||||
| Non-owner occupied | — | — | — | — | 287,754 | 287,754 | — | ||||||||||||||
| Construction & Land Development | — | — | — | — | 272,620 | 272,620 | — | ||||||||||||||
| Commercial – Non Real Estate: | |||||||||||||||||||||
| Commercial & industrial | — | — | — | — | 121,225 | 121,225 | — | ||||||||||||||
| Consumer – Non Real Estate: | |||||||||||||||||||||
| Unsecured | — | — | — | — | 599 | 599 | — | ||||||||||||||
| Secured | 124 | — | — | 124 | 74,860 | 74,984 | — | ||||||||||||||
| Total | 124 | 150 | — | 274 | 1,041,872 | 1,042,146 | — |
All values are in US Dollars.
| December 31, 2018 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | 30-59<br>Days Past<br>Due | 60-89<br>Days Past<br>Due | Greater<br>than 90<br>Days | Total<br>Past Due | Current | Total<br>Loans<br>Receivable | Nonaccrual | ||||||||||||||
| Residential Real Estate: | |||||||||||||||||||||
| Single Family | — | — | — | — | 139,620 | 139,620 | — | ||||||||||||||
| Multifamily | — | — | — | — | 9,182 | 9,182 | — | ||||||||||||||
| Farmland | — | — | — | — | 825 | 825 | — | ||||||||||||||
| Commercial Real Estate: | |||||||||||||||||||||
| Owner occupied | — | — | — | — | 119,683 | 121,622 | 1,939 | ||||||||||||||
| Non-owner occupied | — | — | — | — | 256,139 | 256,139 | — | ||||||||||||||
| Construction & Land Development | — | — | — | — | 183,551 | 183,551 | — | ||||||||||||||
| Commercial – Non Real Estate: | |||||||||||||||||||||
| Commercial & industrial | — | — | — | — | 114,221 | 114,221 | — | ||||||||||||||
| Consumer – Non Real Estate: | |||||||||||||||||||||
| Unsecured | 50 | 9 | 11 | 70 | 1,332 | 1,402 | — | ||||||||||||||
| Secured | 57 | 5 | — | 62 | 100,813 | 100,875 | — | ||||||||||||||
| Total | 107 | 14 | 11 | 132 | 925,366 | 927,437 | 1,939 |
All values are in US Dollars.
The Company may grant a concession or modification for economic or legal reasons related to a borrower’s financial condition that it would not otherwise consider resulting in a modified loan that is then identified as a troubled debt restructuring (“TDR”). The Company may modify loans through rate reductions, extensions of maturity, interest only payments, or payment modifications to better match the timing of cash flows due under the modified terms with the cash flows from the borrowers’ operations. Loan modifications are intended to minimize the economic loss and to avoid foreclosure or repossession of the collateral. TDRs are considered impaired loans for purposes of calculating the Company’s allowance for loan losses. TDRs are restored to accrual status when the obligation is brought current, has performed in accordance with the modified contractual terms for a reasonable period of time, generally six months, and the ultimate collectability of the total contractual principal and interest is no longer in doubt.
The Company may identify loans for potential restructure primarily through direct communication with the borrower and evaluation of the borrower’s financial statements, revenue projections, tax returns, and credit reports. Even if the borrower is not presently in default, management will consider the likelihood that cash flow shortages, adverse economic conditions and negative trends may result in a payment default in the near future.
As of December 31, 2019, and December 31, 2018, the Company had TDRs totalling $1.5 million and $3.4 million, respectively. At December 31, 2019 the Company had one TDR which is performing in compliance with the restructured terms and on accrual status. During the twelve months ended December 31, 2019, the Company foreclosed on the collateral of one loan that was previously identified as a TDR. No other additional modifications occurred to TDR loans during the twelve months ended December 31, 2019. No additional loan commitments were outstanding to these borrowers at December 31, 2019 and December 31, 2018. At December 31, 2019 there was no specific reserve related to TDR loans. As December 31, 2018, there was a specific reserve of $732,892 related to one TDR.
The following table details the Company’s TDRs that are on accrual status and non-accrual status at December 31, 2019:
| As of December 31, 2019 | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Number<br><br>Of Loans | Accrual<br>Status | Non-<br>Accrual<br>Status | Total TDRs | |||||||||
| Residential Real Estate | 1 | 1,482 | — | 1,482 | |||||||||
| Total | 1 | 1,482 | — | 1,482 |
All values are in US Dollars.
The following table details the Company’s TDRs that are on accrual status and non-accrual status at December 31, 2018:
| As of December 31, 2018 | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Number<br><br>Of Loans | Accrual<br>Status | Non-<br>Accrual<br>Status | Total TDRs | |||||||||
| Residential Real Estate | 1 | 1,510 | — | 1,510 | |||||||||
| Commercial Real Estate | 1 | — | 1,939 | 1,939 | |||||||||
| Total | 2 | 1,510 | 1,939 | 3,449 |
All values are in US Dollars.
No loans were modified under the terms of a TDR during the years ended December 31, 2019 and 2018, and there were no loans modified as TDR’s that subsequently defaulted during the years ended December 31, 2019 and 2018 that were modified as TDR’s within the twelve months prior to default.
Note 5. Allowance for Loan Losses
The following tables summarize the activity in the allowance for loan losses by loan class for the twelve months ended December 31, 2019 and 2018:
Allowance for Credit Losses By Portfolio Segment
For the twelve months ended December 31, 2019
| Real Estate | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Residential | Commercial | Construction | Consumer | Commercial | Total | |||||||||||||
| Beginning Balance | 1,019 | 4,299 | 1,468 | 827 | 1,218 | 8,831 | ||||||||||||
| Charge-offs | — | (733 | ) | — | (98 | ) | (98 | ) | (929 | ) | ||||||||
| Recoveries | 58 | 1 | — | 5 | — | 64 | ||||||||||||
| Provision | (47 | ) | 687 | 712 | (166 | ) | 432 | 1,618 | ||||||||||
| Ending Balance | 1,030 | 4,254 | 2,180 | 568 | 1,552 | 9,584 | ||||||||||||
| Ending Balance: | ||||||||||||||||||
| Individually evaluated for Impairment | — | — | — | — | — | — | ||||||||||||
| Collectively evaluated for Impairment | 1,030 | 4,254 | 2,180 | 568 | 1,552 | 9,584 |
All values are in US Dollars.
Allowance for Credit Losses By Portfolio Segment
For the twelve months ended December 31, 2018
| Real Estate | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Residential | Commercial | Construction | Consumer | Commercial | Total | |||||||||||||
| Beginning Balance | 789 | 2,339 | 833 | 742 | 1,002 | 5,705 | ||||||||||||
| Charge-offs | — | — | — | (44 | ) | — | (44 | ) | ||||||||||
| Recoveries | — | 39 | — | 3 | 2 | 44 | ||||||||||||
| Provision | 230 | 1,921 | 635 | 126 | 214 | 3,126 | ||||||||||||
| Ending Balance | 1,019 | 4,299 | 1,468 | 827 | 1,218 | 8,831 | ||||||||||||
| Ending Balance: | ||||||||||||||||||
| Individually evaluated for Impairment | — | 733 | — | — | — | 733 | ||||||||||||
| Collectively evaluated for Impairment | 1,019 | 3,566 | 1,468 | 827 | 1,218 | 8,098 |
All values are in US Dollars.
The Company maintains a general allowance for loan losses based on evaluating known and inherent risks in the loan portfolio, including management’s continuing analysis of the factors underlying the quality of the loan portfolio. These factors include changes in the size and composition of the loan portfolio, actual loan loss experience, and current and anticipated economic conditions. The reserve is an estimate based upon factors and trends identified by management at the time the financial statements are prepared.
The following tables summarize information in regards to the recorded investment in loans receivable by loan class as of December 31, 2019 and December 31, 2018:
| December 31, 2019 | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| Loans Receivable | |||||||||
| (Dollars in thousands) | Ending<br>Balance | Ending<br>Balance:<br>Individually<br>Evaluated<br>for<br>Impairment | Ending<br>Balance:<br>Collectively<br>Evaluated<br>for<br>Impairment | ||||||
| Residential Real Estate | 150,848 | 1,482 | 149,366 | ||||||
| Commercial Real Estate | 421,870 | — | 421,870 | ||||||
| Construction and Land Development | 272,620 | — | 272,620 | ||||||
| Commercial & Industrial | 121,225 | — | 121,225 | ||||||
| Consumer | 75,583 | — | 75,583 | ||||||
| Total | 1,042,146 | 1,482 | 1,040,664 |
All values are in US Dollars.
| December 31, 2018 | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| Loans Receivable | |||||||||
| (Dollars in thousands) | Ending<br>Balance | Ending<br>Balance:<br>Individually<br>Evaluated<br>for<br>Impairment | Ending<br>Balance:<br>Collectively<br>Evaluated<br>for<br>Impairment | ||||||
| Residential Real Estate | 149,627 | 1,510 | 148,117 | ||||||
| Commercial Real Estate | 377,761 | 1,939 | 375,822 | ||||||
| Construction and Land Development | 183,551 | — | 183,551 | ||||||
| Commercial & Industrial | 114,221 | — | 114,221 | ||||||
| Consumer | 102,277 | — | 102,277 | ||||||
| Total | 927,437 | 3,449 | 923,988 |
All values are in US Dollars.
The following table summarizes information in regard to impaired loans by loan portfolio class as of December 31, 2019 and December 31, 2018:
| December 31, 2019 | December 31, 2018 | |||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Recorded<br>Investment | Unpaid<br>Principal<br>Balance | Related<br>Allowance | Recorded<br>Investment | Unpaid<br>Principal<br>Balance | Related<br>Allowance | ||||||||||||
| With no related allowance recorded | ||||||||||||||||||
| Residential Real Estate: | ||||||||||||||||||
| Single family | 1,482 | 1,482 | — | 1,510 | 1,510 | — | ||||||||||||
| 1,482 | 1,482 | — | 1,510 | 1,510 | — | |||||||||||||
| With an allowance recorded | ||||||||||||||||||
| Commercial Real Estate: | ||||||||||||||||||
| Owner occupied | — | — | — | 1,939 | 1,939 | 733 | ||||||||||||
| — | — | — | 1,939 | 1,939 | 733 | |||||||||||||
| Total | 1,482 | 1,482 | — | 3,449 | 3,449 | 733 |
All values are in US Dollars.
The following table presents additional information regarding the impaired loans for the twelve months ended December 31, 2019 and 2018.
| Twelve Months Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2019 | 2018 | |||||||||||
| (Dollars in thousands) | Average<br>Record<br>Investment | Interest<br>Income<br>Recognized | Average<br>Record<br>Investment | Interest<br>Income<br>Recognized | ||||||||
| With no related allowance recorded | ||||||||||||
| Residential Real Estate: | ||||||||||||
| Single family | 1,495 | 60 | 1,526 | 62 | ||||||||
| 1,495 | 60 | 1,526 | 62 | |||||||||
| With an allowance recorded | ||||||||||||
| Commercial Real Estate: | ||||||||||||
| Owner occupied | — | — | 1,939 | — | ||||||||
| — | — | 1,939 | — | |||||||||
| Total | 1,495 | 60 | 3,465 | 62 |
All values are in US Dollars.
No additional funds are committed to be advanced in connection with impaired loans. There were no nonaccrual loans at December 31, 2019 and December 31, 2018 excluded from the impaired loan disclosure.
Credit quality risk ratings include regulatory classifications of Pass, Watch, Special Mention, Substandard, Doubtful and Loss. Loans classified as Pass have quality metrics to support that the loan will be repaid according to the terms established. Loans classified as Watch have similar characteristics as Pass loans with some emerging signs of financial weaknesses that should be monitored closer. Loans classified as Special Mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of prospects for repayment. Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They include loans that are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans classified as a loss are considered uncollectible and are charged to the allowance for loan losses. Loans not classified are rated pass.
The following tables summarize the aggregate Pass and criticized categories of Watch, Special Mention, Substandard and Doubtful within the Company’s internal risk rating system as of December 31, 2019 and December 31, 2018:
| December 31, 2019 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Pass | Watch | Special<br>Mention | Substandard | Doubtful | Total | ||||||||||||
| Residential Real Estate: | ||||||||||||||||||
| Single Family | 143,019 | — | — | 516 | — | 143,535 | ||||||||||||
| Multifamily | 6,512 | — | — | — | — | 6,512 | ||||||||||||
| Farmland | 801 | — | — | — | — | 801 | ||||||||||||
| Commercial Real Estate: | ||||||||||||||||||
| Owner occupied | 133,966 | — | — | 150 | — | 134,116 | ||||||||||||
| Non-owner occupied | 287,754 | — | — | — | — | 287,754 | ||||||||||||
| Construction & Land Development | 272,620 | — | — | — | — | 272,620 | ||||||||||||
| Commercial – Non Real Estate: | ||||||||||||||||||
| Commercial & industrial | 109,106 | 3,772 | 5,685 | 2,662 | — | 121,225 | ||||||||||||
| Consumer – Non Real Estate: | ||||||||||||||||||
| Unsecured | 599 | — | — | — | — | 599 | ||||||||||||
| Secured | 74,984 | — | — | — | — | 74,984 | ||||||||||||
| Total | 1,029,361 | 3,772 | 5,685 | 3,328 | — | 1,042,146 |
All values are in US Dollars.
| December 31, 2018 | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Pass | Watch | Special<br>Mention | Substandard | Doubtful | Total | ||||||||||||
| Residential Real Estate: | ||||||||||||||||||
| Single Family | 138,483 | 755 | — | 382 | — | 139,620 | ||||||||||||
| Multifamily | 9,182 | — | — | — | — | 9,182 | ||||||||||||
| Farmland | 825 | — | — | — | — | 825 | ||||||||||||
| Commercial Real Estate: | ||||||||||||||||||
| Owner occupied | 117,906 | 1,777 | — | — | 1,939 | 121,622 | ||||||||||||
| Non-owner occupied | 256,139 | — | — | — | — | 256,139 | ||||||||||||
| Construction & Land Development | 183,551 | — | — | — | — | 183,551 | ||||||||||||
| Commercial – Non Real Estate: | ||||||||||||||||||
| Commercial & industrial | 110,631 | 1,333 | 2,257 | — | — | 114,221 | ||||||||||||
| Consumer – Non Real Estate: | ||||||||||||||||||
| Unsecured | 1,402 | — | — | — | — | 1,402 | ||||||||||||
| Secured | 100,875 | — | — | — | — | 100,875 | ||||||||||||
| Total | 918,994 | 3,865 | 2,257 | 382 | 1,939 | 927,437 |
All values are in US Dollars.
Note 6. Related Party Transactions
The Bank grants loans and letters of credit to its executive officers, directors and their affiliated entities. Such loans are made in the ordinary course of business on substantially the same terms and conditions, including interest rates and collateral, as those prevailing at the same time for comparable transactions with unrelated persons, and, in the opinion of management, do not involve more than normal risk or present other unfavorable features.
The aggregate amount of such loans outstanding at December 31, 2019 was approximately $998,469 compared to $1.1 million at December 31, 2018. During 2019, new loans and line of credit advances to such related parties was approximately $211,630 compared to $159,975 during 2018. Repayments on loans to directors and officers were $288,320 and $1.4 million during 2019 and 2018, respectively. There was approximately $67,729 in loans that was no longer classified as related party credits. The Bank maintains deposit accounts with some of its executive officers, directors and their affiliated entities. Such deposit accounts at December 31, 2019 and December 31, 2018 amounted to approximately $1.4 million and $3.2 million, respectively.
Note 7. Premises and Equipment
Premises and equipment are summarized as follows at December 31:
| (Dollars in thousands) | 2019 | 2018 | ||||
|---|---|---|---|---|---|---|
| Cost | ||||||
| Building | 12,347 | 12,347 | ||||
| Land | 2,856 | 2,856 | ||||
| Leasehold improvements | 148 | 148 | ||||
| Furniture, fixtures and equipment | 2,509 | 2,319 | ||||
| Computer software and equipment | 1,144 | 1,082 | ||||
| 19,004 | 18,752 | |||||
| Less accumulated depreciation | (5,218 | ) | (4,530 | ) | ||
| Construction in progress | 367 | — | ||||
| Premises and equipment, net | 14,153 | 14,222 |
All values are in US Dollars.
Depreciation and amortization charged to operations were $1.0 million and $977,738 during the years ended December 31, 2019 and December 31, 2018, respectively.
Note 8. Deposits
Time deposits in denominations of $250,000 or more totaled approximately $217.2 million and $117.3 million at December 31, 2019 and 2018, respectively.
At December 31, 2019, maturities of time deposits are as follows:
| (Dollars in thousands) | Year ended<br>December 31, | ||
|---|---|---|---|
| 2020 | 280,050 | ||
| 2021 | 119,278 | ||
| 2022 | 66,840 | ||
| 2023 | 52,854 | ||
| Thereafter | 41,835 | ||
| Total | 560,857 |
All values are in US Dollars.
Brokered deposits, as defined by the FDIC, totaled approximately $236.9 million and $140.8 million at December 31, 2019 and December 31, 2018, respectively.
Note 9. Borrowed Funds
On July 23, 2015, the Bank entered into a nine-month callable fixed rate cred (“FRC”) floater with the FHLB in the amount of $10.0 million. Interest accrues at a rate of 2.58% with a maturity date of October 23, 2020.
On December 31, 2019, the Bank entered into two daily rate credits (“DRC”) with the FHLB in the total amount of $30.0 million. Interest accrues at a rate of 1.78% with a maturity date of December 31, 2020.
The Bank also has a credit availability agreement with the FHLB based on a percentage of total assets. As of December 31, 2019, the credit availability with FHLB is approximately $268.3 million. This credit availability agreement provides the Bank with access to a myriad of advance products offered by the FHLB. The rate of interest charged is based on market conditions. At December 31, 2019, there were commercial real estate, residential 1-4 and multi-family loans totaling $292.9 million were used to collateralize FHLB advances. There was one security pledged as collateral to secure FHLB advances for the amount of $267,899 at December 31, 2019.
The following summarizes the contractual maturities of long-term FHLB advances at December 31, 2019:
| (Dollars in thousands) | |||
|---|---|---|---|
| 2020 | 40,000 | ||
| Total | 40,000 |
All values are in US Dollars.
The average balance on FHLB advances for the years ended December 31, 2019 and December 31, 2018 was approximately $21.2 million and $39.0 million, respectively. The weighted average interest rate paid at December 31, 2019 and 2018 was 2.59% and 2.51%, respectively. The weighted average rate of borrowings outstanding at December 31, 2019 and 2018 was 1.98% and 1.98%, respectively.
Note 10. Income Taxes
The Company files tax returns in the U.S. federal jurisdiction and required states. With few exceptions, the Bank is no longer subject to tax examination by tax authorities for years prior to 2015.
The Commonwealth of Virginia assesses a Bank Franchise Tax on banks instead of a state income tax. The Bank Franchise Tax expense is reported in non-interest expense and the tax’s calculation is unrelated to taxable income.
The provision for income taxes consists of the following components:
| (Dollars in thousands) | 2019 | 2018 | ||||
|---|---|---|---|---|---|---|
| Current expense | 3,816 | 3,130 | ||||
| Deferred (benefit) | (462 | ) | (1,036 | ) | ||
| Total | 3,354 | 2,094 |
All values are in US Dollars.
Income tax expense for the twelve months ended December 31, 2019 and 2018 differed from the federal statutory rate applied to income before income taxes for the following reasons:
| Year ended December 31, | ||||||
|---|---|---|---|---|---|---|
| (Dollars in thousands) | 2019 | 2018 | ||||
| Computed “expected” income tax expense | 3,634 | 2,385 | ||||
| Increase (decrease)in income taxes resulting from: | ||||||
| Non-deductible expense | 36 | 23 | ||||
| Tax exempt Interest | (242 | ) | (173 | ) | ||
| BOLI Income | (105 | ) | (90 | ) | ||
| State Income Taxes | 52 | — | ||||
| Restricted Stock Adjustment | (49 | ) | (51 | ) | ||
| Other Adjustments | 28 | — | ||||
| Total | 3,354 | 2,094 |
All values are in US Dollars.
The tax effects of temporary differences result in deferred tax assets and liabilities as presented below:
| December 31, | ||||||
|---|---|---|---|---|---|---|
| (Dollars in thousands) | 2019 | 2018 | ||||
| Deferred tax assets: | ||||||
| Allowance for loan losses | 2,086 | 1,729 | ||||
| Restricted stock | 262 | 199 | ||||
| Nonaccrual interest | — | 50 | ||||
| Net loan fees | 461 | 294 | ||||
| Organizational costs | 7 | 7 | ||||
| Right-of-use asset | 1,433 | — | ||||
| Unrealized loss on securities available for sale | — | 77 | ||||
| Unrealized losses on securities transferred to held to maturity | 18 | 23 | ||||
| Other | 25 | — | ||||
| Gross deferred tax assets | 4,292 | 2,379 | ||||
| Deferred tax liabilities: | ||||||
| Depreciation | 115 | 45 | ||||
| Unrealized gain on securities available for sale | 134 | — | ||||
| Prepaid expense | 14 | 10 | ||||
| Right-of-use liability | 1,459 | — | ||||
| Gross deferred tax liabilities | 1,722 | 55 | ||||
| Net deferred tax asset | 2,570 | 2,324 |
All values are in US Dollars.
Note 11. Earnings Per Common Share
Basic earnings per share excludes dilution and is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock which then shared in the earnings of the Bank. There were no such potentially dilutive securities outstanding in 2019 or 2018. On April 30, 2018, the Company issued a 5% stock dividend to stockholders on record as of April 9, 2018.
The weighted average number of shares used in the calculation of basic and diluted earnings per share includes unvested restricted shares of the Company’s common stock outstanding. Applicable guidance requires that outstanding unvested share-based payment awards that contain voting rights and rights to non-forfeitable dividends participate in undistributed earnings with common stockholders.
| For the Year Ended December 31, | ||||||
|---|---|---|---|---|---|---|
| (Dollars in thousands, except for share and per share data) | 2019 | 2018 | ||||
| Net income | 13,950 | 9,209 | ||||
| Weighted average number of shares issued,<br><br>basic and diluted <sub>(1)</sub> | 8,251,302 | 6,652,979 | ||||
| Net income per share: | ||||||
| Basic and diluted income per share | 1.69 | 1.38 |
All values are in US Dollars.
| (1) | All share and per share amounts for 2019 and 2018 reflect the effect of the 5% stock dividend on April 30, 2018. |
|---|
Note 12. Commitments and Contingencies
The Bank’s financial statements do not reflect various commitments and contingent liabilities which arise in the normal course of business and which involve elements of credit risk, interest risk and liquidity risk. These commitments and contingent liabilities are commitments to extend credit and standby letters of credit.
The amounts of loan commitments and standby letters of credit are set forth in the following table as of December 31, 2019 and 2018:
| December 31, | ||||||
|---|---|---|---|---|---|---|
| (Dollars in thousands) | 2019 | 2018 | ||||
| Loan commitments | 251,508 | 253,033 | ||||
| Standby letters of credit | 672 | 712 |
All values are in US Dollars.
Commitments to extend credit and standby letters of credit all include exposure to some credit loss in the event of nonperformance of the customer. The Bank’s credit policies and procedures for credit commitments and financial guarantees are the same as those for extensions of credit that are recorded on the statements of financial condition. Because these instruments have fixed maturity dates, and because many of them expire without being drawn upon, they do not generally present any significant liquidity risk to the Bank. The Bank has not incurred any losses on commitments in 2019 or 2018.
Note 13. Leases
On January 1, 2019, the Company adopted ASU No. 2016-02 “Leases (Topic 842)” and all subsequent ASUs that modified Topic 842. The Company elected the optional transition method provided by ASU 2018-11 and did not adjust prior periods for ASC 842. The Company also elected certain practical expedients within the standard and consistent with such elections did not reassess whether any expired or existing contracts are or contain leases, did not reassess the lease classification for any expired or existing leases, and did not reassess any initial direct costs for existing leases. As stated in the Company’s 2018 Form 10 registration document, the implementation of the new standard resulted in recognition of a right-of-use asset and lease liability of $2.7 million at the date of adoption, which is primarily related to the Company’s lease of premises used in operations. The right-of-use asset and lease liability are included in other assets and other liabilities, respectively, in the Consolidated Balance Sheets.
Lease liabilities represent the Company’s obligation to make lease payments and are presented at each reporting date as the net present value of the remaining contractual cash flows. Cash flows are discounted at the Company’s incremental borrowing rate in effect at the commencement date of the lease. The incremental borrowing rate was equal to the rate of borrowing from the FHLB that aligned with the term of the lease contract. Right-of-use assets represent the Company’s right to use the underlying asset for the lease term and are calculated as the sum of the lease liability and if applicable, prepaid rent, initial direct costs and any incentives received from the lessor.
The Company’s long-term lease agreements are classified as operating leases. Certain of these leases offer the option to extend the lease term and the Company has included such extensions in its calculation of the lease liabilities to the extent the options are reasonably assured of being exercised. The lease agreements do not provide for residual value guarantees and have no restrictions or covenants that would impact dividends or require incurring additional financial obligations.
Cash paid for amounts included in the measurement of lease liabilities during the twelve months ended December 31, 2019 was $289,000. The Company adopted ASC 842 effective January 1, 2019. Prior to January 1, 2019, the Company measured lease expense in accordance with FASB ASC Topic 840. During the twelve months ended December 31, 2019, the Company recognized lease expense of $366,000
| As of December 31, | |||
|---|---|---|---|
| (Dollars in thousands) | 2019 | ||
| Lease liabilities | 6,701 | ||
| Right-of-use assets | 6,585 | ||
| Weighted-average remaining lease term – operating leases<br><br>(in months). | 198.5 | ||
| Weighted-average discount rate – operating leases | 3.13 | % | |
| For the year<br>ended December 31, | |||
| (Dollars in thousands) | 2019 | ||
| Lease Cost | |||
| Operating lease cost | 366 | ||
| Total lease costs | 366 | ||
| Cash paid for amounts included in measurement of lease<br><br>liabilities | 289 |
All values are in US Dollars.
The Company is the lessor for three operating leases. One lease is extended on a month-to-month basis while two of these leases have arrangements for over twelve months with an option to extend the lease terms. The lease agreements do not provide for residual value guarantees and have no restrictions or covenants that would impact dividends or require incurring additional financial obligations. Total rent income on these operating leases is approximately $6,000 per month.
As of December 31, 2019, all of the Company’s lease obligations are classified as operating leases. The Company does not have any finance lease obligations.
A maturity analysis of operating lease liabilities and reconciliation of the undiscounted cash flows to the total of operating lease liabilities as of December 31, 2019 is as follows:
| (Dollars in thousands) | |||
|---|---|---|---|
| 2020 | 327 | ||
| 2021 | 529 | ||
| 2022 | 543 | ||
| 2023 | 557 | ||
| 2024 | 572 | ||
| Thereafter | 6,191 | ||
| Total undiscounted cash flows | 8,719 | ||
| Discount | (2,018 | ) | |
| Lease liabilities | 6,701 |
All values are in US Dollars.
Minimum annual rental commitments under the lease obligations are as follows as of December 31, 2018:
| (Dollars in thousands) | |||
|---|---|---|---|
| 2019 | 202 | ||
| 2020 | 199 | ||
| 2021 | 184 | ||
| 2022 | 100 | ||
| Thereafter | 572 | ||
| 1,257 |
All values are in US Dollars.
Note 14. Significant Concentrations of Credit Risk
Substantially all the Bank’s loans, commitments and standby letters of credit have been granted to customers located in the greater Washington, D.C. Metropolitan Area. The concentrations of credit by type of loan are set forth in Note 4.
The Bank maintains its cash and federal funds sold in correspondent bank deposit accounts. The amount on deposit at December 31, 2019 exceeded the insurance limits of the Federal Deposit Insurance Corporation by $25.5 million. The Bank has not experienced any losses in such accounts and believes it is not exposed to any significant credit risks.
Note 15. Regulatory Matters
Information presented for December 31, 2019 and December 31, 2018, reflects the Basel III capital requirements that became effective January 1, 2015 for the Bank. Under these capital requirements 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 classifications are also subject to qualitative judgments by regulators about components, risk- weightings and other factors.
The Basel III Capital Rules, a comprehensive capital framework for U.S. banking organizations, became effective for the Company and the Bank on January 1, 2015 (subject to a phase-in period for certain provisions). Under the Basel III rules, the Company must hold a capital conservation buffer above the adequately capitalized risk-based capital ratios. The capital conservation buffer is being phased in from 0.0% for 2015 to 2.50% by 2019. The capital conservation buffer for 2019 is 2.50% and 1.875% for 2018. Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios of Total capital, Common Equity Tier 1 capital, and Tier 1 capital (as defined in the regulations) to risk weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2019, the Company and the Bank meets all capital adequacy requirements to which it is subject.
On September 17, 2019 the Federal Deposit Insurance Corporation finalized a rule that introduces an optional simplified measure of capital adequacy for qualifying community banking organizations (i.e., the community bank leverage ratio (CBLR) framework), as required by the Economic Growth, Regulatory Relief and Consumer Protection Act. The CBLR framework is designed to reduce burden by removing the requirements for calculating and reporting risk-based capital ratios for qualifying community banking organizations that opt into the framework.
In order to qualify for the CBLR framework, a community banking organization must have a tier 1 leverage ratio of at least 9 percent, less than $10 billion in total consolidated assets, and limited amounts of off-balance-sheet exposures and trading assets and liabilities. A qualifying community banking organization that opts into the CBLR framework and meets all requirements under the framework will be considered to have met the well-capitalized ratio requirements under the Prompt Corrective Action regulations and will not be required to report or calculate risk-based capital.
The CBLR framework will be available for banks to use in their March 31, 2020, Call Report. The Company is currently evaluating whether to opt into the CBLR framework.
The Bank’s actual capital amounts and ratios are presented in the table (dollars in thousands):
| Actual | Capital Adequacy<br>Purposes | To Be Well Capitalized<br>Under the Prompt<br>Corrective Action<br>Provision | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||
| As of December 31, 2019 | |||||||||||||||||
| Total capital (to risk-weighted assets) | 157,892 | 13.50 | % | 93,576 | ≥ 8.0% | 116,970 | ≥ 10.0% | ||||||||||
| Common equity tier 1 capital (to risk-weighted assets) | 148,308 | 12.68 | % | 52,636 | ≥ 4.5% | 93,576 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to risk-weighted assets) | 148,308 | 12.68 | % | 70,182 | ≥ 6.0% | 93,576 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to average assets) | 148,308 | 12.12 | % | 48,937 | ≥ 4.0% | 61,171 | ≥ 5.0% | ||||||||||
| As of December 31, 2018 | |||||||||||||||||
| Total capital (to risk-weighted assets) | 142,360 | 13.75 | % | 82,807 | ≥ 8.0% | 103,509 | ≥ 10.0% | ||||||||||
| Common equity tier 1 capital (to risk-weighted assets) | 133,529 | 12.90 | % | 46,579 | ≥ 4.5% | 82,807 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to risk-weighted assets) | 133,529 | 12.90 | % | 62,105 | ≥ 6.0% | 82,807 | ≥ 8.0% | ||||||||||
| Tier 1 capital (to average assets) | 133,529 | 12.41 | % | 43,056 | ≥ 4.0% | 53,820 | ≥ 5.0% |
All values are in US Dollars.
Note. 16 Defined Contribution Benefit Plan
The Bank adopted a 401(k) defined contribution plan on October 1, 2004, which is administered by UBS Securities. Participants have the right to contribute up to a maximum of 15% of pretax annual compensation or the maximum allowed by the Internal Revenue Code, whichever is less. The Bank began making a matching contribution to the plan on January 1, 2010. The Bank matches dollar for dollar up to 3% of the employee’s contribution and then fifty cents on the dollar on the next two percentage points up to the employee contribution of 5%. The total amount the Bank matched during 2019 and 2018 was $465,064 and $332,762, respectively.
Note 17. Stock Based Compensation Plan
ASC Topic 718, Compensation – Stock Compensation, requires the Bank to recognize expense related to the fair value of share-based compensation awards in net income. Total compensation expense for restricted stock recorded for the years ended December 31, 2019 and December 31, 2018 were $1.0 million and $882,791, respectively.
On May 17, 2006, the Bank’s stockholders approved the MainStreet Bank 2006 Incentive Stock Plan (the “2006 Plan”), which authorizes the granting of stock options, stock appreciation rights, restricted stock, restricted stock units, and stock awards to employees and non-employee directors. Under the 2006 Plan, subject to capital adjustments, the maximum number of shares of the Bank’s common stock that may be issued is 186,638 plus the number of shares of common stock represented by awards previously made under the MainStreet Bank 2004 Stock Option and Incentive Plan (the “2004 Plan”) that were outstanding on, and that expire or are otherwise terminated or forfeited after, May 17, 2006. As a result of the stockholders’ approval of the 2006 Plan, no additional awards have been or will be made under the Bank’s 2004 Plan, although all awards that were outstanding under the 2004 Plan as of May 17, 2006 remained outstanding in accordance with their terms. There are no outstanding awards remaining under the 2004 Plan.
On November 20, 2007, the Bank granted 112,500 shares of restricted stock in connection with employment agreements entered into with two executive officers during December 2007. The restricted stock awards were made outside of the 2006 Plan and are governed by restricted stock agreements entered into by the Bank and each of the officers, dated November 20, 2007. The restricted stock vests in 5%, 10% or 15% increments over a period of 10 years, subject to earlier vesting in the event of certain termination events or a change of control of the Bank. As of December 31, 2019, the total number of restricted shares that have vested are 112,500.
On March 16, 2015, there were 18,000 stock options under the 2004 Plan that expired. There are no remaining options outstanding under the 2004 or 2006 Plans at December 31, 2019. Stock options are no longer issued, and there have been no stock options exercised to date. All options were expired as of December 31, 2016.
In 2016, the Board of Directors of the Bank adopted, and the Bank’s shareholders subsequently approved, the MainStreet Bank 2016 Equity Incentive Plan (the “2016 Plan”), to provide officers, other selected employees and directors of the Bank with additional incentives to promote the growth and performance of the Bank. At December 31, 2018, there were 133,869 restricted shares outstanding that were awarded under the 2016 Plan. During the year ended December 31, 2019, there were 72,281 restricted shares awarded, no restricted shares were forfeited, and no stock options were awarded under the 2016 Plan. The restricted shares awarded during 2019 vest equally on an annual basis over a three, five or ten year period. As a result of the stockholders’ approval of the 2016 Plan, no additional awards have been or will be made under the Bank’s 2006 Plan, although all awards that were outstanding under the 2006 Plan as of May 17, 2006 remained outstanding in accordance with their terms.
On July 17, 2019, the Board of Directors of the Bank adopted, and the Bank’s shareholders subsequently approved, the MainStreet Bank 2019 Equity Incentive Plan (the “2019 Plan”), to provide officers, other selected employees and directors of the Bank with additional incentives to promote the growth and performance of the Bank. At December 31, 2019, there were 10,000 restricted shares outstanding that were awarded under the 2019 Plan. During the year ended December 31, 2019, there were 10,000 restricted shares awarded, no restricted shares were forfeited, and no stock options were awarded under the 2019 Plan. The restricted shares awarded during 2019 vest equally on an annual basis over a ten year period. As a result of the stockholders’ approval of the 2019 Plan, no additional awards have been or will be made under the Bank’s 2016 Plan, although all awards that were outstanding under the 2016 Plan as of July 17, 2019 remained outstanding in accordance with their terms.
A summary of the status of the Bank’s nonvested restricted stock shares as of December 31, 2019 and changes during the year ended December 31, 2019 is presented below:
| Nonvested Restricted Stock Shares (1) | Shares | Weighted<br>Average Grant<br>Date Fair Value | |||||
|---|---|---|---|---|---|---|---|
| Nonvested at January 1, 2019 | 133,869 | 13.67 | |||||
| Granted | 82,281 | 18.08 | |||||
| Vested | (55,189 | ) | 13.45 | ||||
| Nonvested at December 31, 2019 (1) | 160,961 | 16.00 |
All values are in US Dollars.
| (1) | All share and per share amounts for 2019 and 2018 reflect the effect of the 5% stock dividend on April 30, 2018. |
|---|
As of December 31, 2019, there was $1.6 million of total unrecognized compensation cost related to nonvested restricted stock awards. The cost is expected to be recognized over approximately ten years. The total fair value of shares vested during the years ended December 31, 2019 and 2018 was $738,752 and $858,818, respectively.
Note 18. Derivatives and Risk Management Activities
The Bank uses derivative financial instruments (or “derivatives”) primarily to assist customers with their risk management objectives. The Bank classifies these items as free standing derivatives consisting of customer accommodation interest rate loan swaps (or “interest rate loan swaps”). The Bank enters into interest rate swaps with certain qualifying commercial loan customers to meet their interest rate risk management needs. The Bank simultaneously enters into interest rate swaps with dealer counterparties, with identical notional amounts and terms. The net result of these interest rate swaps is that the customer pays a fixed rate of interest and the Bank receives a floating rate. These back-to-back interest rate loan swaps qualify as financial derivatives with fair values reported in “Other assets” and “Other liabilities” in the consolidated financial statements. Changes in fair value are recorded in other noninterest expense and net to zero because of the identical amounts and terms of the interest rate loan swaps.
The following tables summarize key elements of the Banks’s derivative instruments as of December 31, 2019 and December 31, 2018.
| December 31, 2019 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Customer-related interest rate<br><br>contracts | ||||||||||||||||
| (Dollars in thousands) | Notional<br>Amount | Positions | Assets | Liabilities | Collateral<br>Pledges | |||||||||||
| Matched interest rate swap with borrower | 71,860 | 12 | 4,039 | — | 6,400 | |||||||||||
| Matched interest rate swap with counterparty | 71,860 | 12 | — | 4,039 | 6,400 |
All values are in US Dollars.
| December 31, 2018 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Customer-related interest rate<br><br>contracts | ||||||||||||||||
| (Dollars in thousands) | Notional<br>Amount | Positions | Assets | Liabilities | Collateral<br>Pledges | |||||||||||
| Matched interest rate swap with borrower | 36,607 | 5 | 1,192 | — | 1,290 | |||||||||||
| Matched interest rate swap with counterparty | 36,607 | 5 | — | 1,192 | 1,290 |
All values are in US Dollars.
The Company is able to recognize fee income upon execution of the interest rate swap contract and completed its first contract in the fourth quarter of 2018. Interest rate swap fee income for the twelve months ended December 31, 2019 and 2018 was $989,000 and $713,000, respectively.
Note 19. Fair Value Presentation
In accordance with FASB ASC 820, “Fair Value Measurements and Disclosure”, the Bank uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability (“an exit price”) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Bank’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.
The fair value guidance provides a consistent definition of fair value, which focuses on exit price in the principal or most advantageous market for the asset or liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is the most representative of fair value under current market conditions.
In accordance with the guidance, a hierarchy of valuation techniques is based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Bank’s market assumptions. The three levels of the fair value hierarchy under FASB ASC 820 based on these two types of inputs are as follows:
Level 1 –Valuation is based on quoted prices in active markets for identical assets and liabilities that the reporting entity has the ability to access at the measurement date.
Level 2 –Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model-based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market.
Level 3 –Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market.
The following describes the valuation techniques used by the Bank to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the financial statements:
Securities available for sale
Securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2). In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. As of December 31, 2019, and December 31, 2018, the Bank’s entire portfolio of available for sale securities are considered to be Level 2 securities.
Derivative asset (liability) – interest rate swaps on loans
As discussed in “Note 18: Derivatives and Risk Management Activities”, the Bank recognizes interest rate swaps at fair value on a recurring basis. The Bank has contracted with a third party vendor to provide valuations for these interest rate swaps using standard valuation techniques and therefore classifies such interest rate swaps as Level 2.
The following tables provide the fair value for assets required to be measured and reported at fair value on a recurring basis as of December 31, 2019 and December 31, 2018:
| December 31, 2019 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Level 1 | Level 2 | Level 3 | Total | ||||||||
| Assets: | ||||||||||||
| Investment securities available-for-sale: | ||||||||||||
| U.S. Treasury Securities | — | 49,998 | — | 49,998 | ||||||||
| Collateralized Mortgage Backed | — | 17,673 | — | 17,673 | ||||||||
| Subordinated Debt | — | 2,554 | — | 2,554 | ||||||||
| Municipal Securities | — | 14,631 | — | 14,631 | ||||||||
| U.S. Government Agencies | — | 7,935 | — | 7,935 | ||||||||
| Derivative asset – interest rate swap on loans | — | 4,039 | — | 4,039 | ||||||||
| Total | — | 96,830 | — | 96,830 | ||||||||
| Liabilities: | ||||||||||||
| Derivative liability – interest rate swap on loans | — | 4,039 | — | 4,039 | ||||||||
| Total | — | 4,039 | — | 4,039 |
All values are in US Dollars.
| December 31, 2018 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Level 1 | Level 2 | Level 3 | Total | ||||||||
| Assets: | ||||||||||||
| Investment securities available-for-sale: | ||||||||||||
| U.S. Treasury Securities | — | 29,998 | — | 29,998 | ||||||||
| Collateralized Mortgage Backed | — | 4,893 | — | 4,893 | ||||||||
| Subordinated Debt | — | 2,015 | — | 2,015 | ||||||||
| Municipal Securities | — | 8,833 | — | 8,833 | ||||||||
| U.S. Government Agencies | — | 10,241 | — | 10,241 | ||||||||
| Derivative asset – interest rate swap on loans | — | 1,192 | — | 1,192 | ||||||||
| Total | — | 57,172 | — | 57,172 | ||||||||
| Liabilities: | ||||||||||||
| Derivative liability – interest rate swap on loans | — | 1,192 | — | 1,192 | ||||||||
| Total | — | 1,192 | — | 1,192 |
All values are in US Dollars.
Certain assets are measured at fair value on a nonrecurring basis in accordance with GAAP. Adjustments to the fair value of these assets usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets.
The following describes the valuation techniques used by the Bank to measure certain assets recorded at fair value on a nonrecurring basis in the financial statements:
Impaired loans
Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected when due. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Bank using observable market data (Level 2). However, if the collateral value is significantly adjusted due to differences in the comparable properties, or is discounted by the Bank because of marketability, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Impaired loans allocated to the Allowance for Loan Losses are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Statements of Income.
Other real estate owned (“OREO”) is measured at fair value less cost to sell, based on an appraisal conducted by an independent, licensed appraiser outside of the Bank. If the collateral value is significantly adjusted due to differences in the comparable properties, or is discounted by the Bank because of marketability, then the fair value is considered Level 3. OREO is measured at fair value on a nonrecurring basis. Any initial fair value adjustment is charged against the Allowance for Loan Losses. Subsequent fair value adjustments are recorded in the period incurred and included in other noninterest expense on the Statements of Income.
The following table summarizes the value of the Bank’s assets as of December 31, 2019 and December 31, 2018 that were measured at fair value on a nonrecurring basis during the period:
| December 31, 2019 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Level 1 | Level 2 | Level 3 | Total | ||||||||
| Assets: | ||||||||||||
| Other Real Estate Owned | — | — | 1,207 | 1,207 | ||||||||
| Total | — | — | 1,207 | 1,207 | ||||||||
| December 31, 2018 | ||||||||||||
| (Dollars in thousands) | Level 1 | Level 2 | Level 3 | Total | ||||||||
| Assets: | ||||||||||||
| Impaired Loans | ||||||||||||
| Commercial Real Estate | — | — | 1,207 | 1,207 | ||||||||
| Total | — | — | 1,207 | 1,207 |
All values are in US Dollars.
The following table presents quantitative information about Level 3 fair value measurements for financial assets measured at fair value on a nonreoccuring basis as of December 31, 2019
| Fair Value Measurements at December 31, 2019 | |||||||||
|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Fair Value | Valuation Technique(s) | Unobservable Inputs | Range of<br><br>Inputs | |||||
| Other Real Estate Owned, net | 1,207 | Appraisals | Discount to reflect current market<br><br>conditions and estimated selling costs | 6% - 10% | |||||
| Total | 1,207 |
All values are in US Dollars.
Fair Value of Financial Instruments
FASB ASC 825, Financial Instruments, requires disclosure about fair value of financial instruments, including those financial assets and financial liabilities that are not required to be measured and reported at fair value on a recurring or nonrecurring basis. ASC 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company. Additionally, in accordance with ASU 2016-01, which the Company adopted on January 1, 2018 on a prospective basis, the Company uses the exit price notion, rather than the entry price notion, in calculation the fair values of financial instruments not measured at fair value on a recurring basis.
The following tables reflect the carrying amounts and estimated fair values of the Company’s financial instruments whether or not recognized on the Consolidated Balance Sheets at fair value.
| December 31, 2019 | Carrying | Estimated | Quoted<br>Prices in<br>Active<br>Markets for<br>Identical<br>Assets | Significant<br>Other<br>Observable<br>Inputs | Significant<br>Unobservable<br>Inputs | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amount | Fair Value | Level 1 | Level 2 | Level 3 | ||||||||||
| Assets: | |||||||||||||||
| Cash and due from banks | 53,376 | 53,376 | 53,376 | — | — | ||||||||||
| Restricted equity securities | 6,157 | 6,157 | — | 6,157 | — | ||||||||||
| Securities: | |||||||||||||||
| Available for sale | 92,791 | 92,791 | — | 92,791 | — | ||||||||||
| Held to maturity | 23,914 | 24,678 | — | 24,678 | — | ||||||||||
| Loans, net | 1,030,425 | 1,048,181 | — | — | 1,048,181 | ||||||||||
| Derivative asset – interest rate swap on loans | 4,039 | 4,039 | — | 4,039 | — | ||||||||||
| Bank owned life insurance | 24,562 | 24,562 | — | 24,562 | — | ||||||||||
| Accrued interest receivable | 4,282 | 4,282 | — | 4,282 | — | ||||||||||
| Liabilities: | |||||||||||||||
| Deposits | 1,071,623 | 1,079,011 | — | 510,766 | 568,245 | ||||||||||
| Advances from the FHLB | 40,000 | 39,998 | — | 39,998 | — | ||||||||||
| Derivative liability – interest rate swaps on loans | 4,039 | 4,039 | — | 4,039 | — | ||||||||||
| Accrued interest payable | 982 | 982 | — | 982 | — |
All values are in US Dollars.
| December 31, 2018 | Carrying | Estimated | Quoted<br>Prices in<br>Active<br>Markets for<br>Identical<br>Assets | Significant<br>Other<br>Observable<br>Inputs | Significant<br>Unobservable<br>Inputs | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Amount | Fair Value | Level 1 | Level 2 | Level 3 | ||||||||||
| Assets: | |||||||||||||||
| Cash and due from banks | 58,076 | 58,076 | 58,076 | — | — | ||||||||||
| Restricted equity securities | 5,894 | 5,894 | — | 5,894 | — | ||||||||||
| Securities: | |||||||||||||||
| Available for sale | 55,979 | 55,979 | — | 55,979 | — | ||||||||||
| Held to maturity | 26,178 | 26,323 | — | 26,323 | — | ||||||||||
| Loans, net | 917,125 | 897,765 | — | — | 897,765 | ||||||||||
| Derivative asset – interest rate swap on loans | 1,192 | 1,192 | — | 1,192 | — | ||||||||||
| Bank owned life insurance | 14,064 | 14,064 | — | 14,064 | — | ||||||||||
| Accrued interest receivable | 4,333 | 4,333 | — | 4,333 | — | ||||||||||
| Liabilities: | |||||||||||||||
| Deposits | 920,137 | 920,917 | — | 463,552 | 457,365 | ||||||||||
| Advances from the FHLB | 40,000 | 39,848 | — | 39,848 | — | ||||||||||
| Derivative liability – interest rate swaps on loans | 1,192 | 1,192 | — | 1,192 | — | ||||||||||
| Accrued interest payable | 1,103 | 1,103 | — | 1,103 | — |
All values are in US Dollars.
Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Bank’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Bank’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment, and therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Fair value estimates are based on existing on-balance sheet and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets that are not considered financial assets include deferred income taxes and bank premises and equipment. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.
The above information should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only provided for a limited portion of the Company’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Company’s disclosures and those of other companies may not be meaningful. There were no changes in methodologies or transfers between levels at December 31, 2019 from December 31, 2018.
Note 20. Other Real Estate Owned
At December 31, 2019 and 2018, Other Real Estate Owned was $1.2 million and $0, respectively. OREO is comprised of non-residential property associated with a commercial relationship and located in Virginia. Changes in the balance for OREO are as follows:
| (Dollars in thousands) | 2019 | 2018 | ||||
|---|---|---|---|---|---|---|
| Balance, beginning of year | — | 134 | ||||
| Transfers between loans and other real estate owned | 1,207 | — | ||||
| Sales | ― | (134 | ) | |||
| Balance, end of year | 1,207 | — |
All values are in US Dollars.
Expenses applicable to other real estate owned include the following:
| (Dollars in thousands) | 2019 | 2018 | ||||
|---|---|---|---|---|---|---|
| Net loss on sales of real estate | — | 51 | ||||
| Operating expenses, net of rental income | 62 | 3 | ||||
| Balance, end of year | 62 | 54 |
All values are in US Dollars.
As of December 31, 2019, there were no real estate loans in the process of foreclosure.
Note 21. Accumulated Other Comprehensive Gain(Loss)
The following table presents the cumulative balances of the components of accumulated other comprehensive gain(loss) net of deferred taxes, as of December 31, 2019 and December 31, 2018:
| (Dollars in thousands) | 2019 | 2018 | ||||
|---|---|---|---|---|---|---|
| Unrealized gain(loss) on securities | 609 | (358 | ) | |||
| Unrealized loss on securities transferred to HTM | (81 | ) | (109 | ) | ||
| Securities gains included in net income | 5 | — | ||||
| Tax effect | (110 | ) | 100 | |||
| Total accumulated other comprehensive gain(loss) | 423 | (367 | ) |
All values are in US Dollars.
Note 22. Capital
On August 24, 2018, the Company completed a capital offering which raised $42.7 million net of offering costs. The Company sold an aggregate of 2,368,421 shares of common stock at a price of $19.00 per share. The issuance of additional shares of common stock is accretive to the Company’s current book value. The Bank will use the proceeds of the offering to facilitate strategic initiatives, support organic growth and market expansion activities, and for general corporate purposes.
On September 18, 2019, the Board of Directors of the Company authorized a common stock repurchase program to repurchase up to $10.0 million of the Company’s common stock at the discretion of management. The Company did not repurchase any of its shares during the year ended December 31, 2019.
On December 30, 2016, the Company completed the issuance of $14.3 million in aggregate principal amount of fixed-to-floating rate subordinated notes in a private placement transaction to various accredited investors. During the first quarter 2017, an additional $700,000 of subordinated notes was issued for a total issuance of $15.0 million. The net proceeds of the offering are intended to support growth and be used for other general business purposes. The notes have a maturity date of December 31, 2026 and have an annual fixed interest rate of 6.25% until December 31, 2021. Thereafter, the notes will have a floating interest rate based on three-month LIBOR rate plus 425 basis points (4.25%) (computed on the basis of a 360-day year of twelve 30-day months) from and including January 1, 2022 to the maturity date or any early redemption date. Interest will be paid semi-annually, in arrears, on July 1 and January 1 of each year during the time that the notes remain outstanding through the fixed interest rate period or earlier redemption date. Interest will be paid quarterly, in arrears, on April 1, July 1, October 1 and January 1 throughout the floating interest rate period or earlier redemption date.
Note 24. Condensed Parent Company Financial Statements
Condensed financial statements pertaining only to the Company are presented below. The investment in subsidiary is accounted for using the equity method of accounting.
The payment of dividends by the subsidiary is restricted by various regulatory limitations. Banking regulations also prohibit extensions of credit to the parent company unless appropriately secured by assets.
Condensed Balance Sheet
(Dollars in thousands)
All values are in US Dollars.
(Dollars in thousands)
All values are in US Dollars.
Condensed Statement of Cash Flows
(Dollars in thousands)
All values are in US Dollars.
Item 9.Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Disclosure Controls and Procedures. Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) as of December 31, 2019. Based on their evaluation of the Company’s disclosure controls and procedures, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and regulations are designed and operating in an effective manner.
Management’s Report on Internal Control over Financial Reporting. Management of the Company is also responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a‑15(f) under the Exchange Act). Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
Management, including the Company’s principle executive and principle financial officer, assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2019. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated Framework (2013). Based on our assessment, we believe that, as of December 31, 2019, the Company’s internal control over financial reporting was effective based on those criteria.
The Company’s annual report does not include an attestation report of the Company’s independent registered public accounting firm, Yount, Hyde, & Barbour. P.C. (YHB), regarding internal control over financial reporting. Management’s report was not subject to attestation by YHB pursuant to rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in its annual report.
The 2019 consolidated financial statements have been audited by the independent registered public accounting firm of Yount, Hyde, & Barbour. P.C. Personnel from YHB were given unrestricted access to all financial records and related data, including minutes of all meetings of the Board of Directors and Committees thereof. Management believes that all representation made to the independent auditors were valid and appropriate. The resulting report from YHB accompanies the consolidated financial statements.
Changes in Internal Controls. There were no changes in the Company’s internal control over financial reporting during the Company’s fourth quarter ended December 31, 2019 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
None.
Item 10. Directors, Executive Officers and Corporate Governance
The information required by this Item with respect to our directors and certain corporate governance practices is contained in our Proxy Statement for our 2020 Annual Meeting of Shareholders (the “Proxy Statement”) to be filed with the SEC within 120 days after the end of the Company’s fiscal year ended December 31, 2019. Such information is incorporated herein by reference.
Item 11. Executive Compensation
The information required by this Item is incorporated herein by reference to our Proxy Statement to be filed with the SEC within 120 days after the end of the Company’s fiscal year ended December 31, 2019.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required by this Item regarding security ownership of certain beneficial owners and management is incorporated by reference to our Proxy Statement to be filed with the SEC within 120 days after the end of the Company’s fiscal year ended December 31, 2019.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by this Item is incorporated herein by reference to our Proxy Statement to be filed with the SEC within 120 days after the end of the Company’s fiscal year ended December 31, 2019.
Item 14. Principal Accountant Fees and Services
The information required by this Item is incorporated herein by reference to our Proxy Statement to be filed with the SEC within 120 days after the end of the Company’s fiscal year ended December 31, 2019.
Item 15. Exhibits and Financial Statement Schedules
Not Applicable
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| MAINSTREET BANCHSHARES, INC | ||||
|---|---|---|---|---|
| (Registrant) | ||||
| Date: March 23, 2020 | By: | /s/ Jeff W. Dick | ||
| Jeff W. Dick | ||||
| Chairman & Chief Executive Officer | ||||
| (Principal Executive Officer) |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
| Date: March 23, 2020 | By: | /s/ Jeff W. Dick | ||
|---|---|---|---|---|
| Jeff W. Dick | ||||
| Chairman & Chief Executive Officer | ||||
| (Principal Executive Officer) | ||||
| Date: March 23, 2020 | /s/ Thomas J. Chmelik | |||
| Thomas J. Chmelik | ||||
| Senior Executive Vice President and | ||||
| Chief Financial Officer and Director | ||||
| (Principal Financial Officer) | ||||
| Date: March 23, 2020 | /s/ Charles C. Brockett | |||
| Charles C. Brockett | ||||
| President and Director | ||||
| Date: March 23, 2020 | /s/ Richard A. Vari | |||
| Richard A. Vari | ||||
| Vice President and Chief Accounting Officer | ||||
| (Principal Accounting Officer) | ||||
| Date: March 23, 2020 | /s/ Paul Thomas Haddock | |||
| Paul Thomas Haddock | ||||
| Director | ||||
| Date: March 23, 2020 | /s/ Patsy I. Rust | |||
| Patsy I. Rust | ||||
| Director | ||||
| Date: March 23, 2020 | /s/ Terry M. Saeger | |||
| Terry M. Saeger | ||||
| Director | ||||
| Date: March 23, 2020 | /s/ Elizabeth S. Bennett | |||
| Elizabeth S. Bennett | ||||
| Director | ||||
| Date: March 23, 2020 | /s/ Darrell Green | |||
| Darrell Green | ||||
| Director | ||||
| Date: March 23, 2020 | /s/ Russell Echlov | |||
| Russell Echlov | ||||
| Director |
93
mnsb-ex31_218.htm
Exhibit 3.1
AMENDED AND RESTATED ARTICLES OF INCORPORATION
OF
MAINSTREET BANcshares, inc.
ARTICLE I
NAME
The name of the Corporation is: MainStreet Bancshares, Inc.
ARTICLE II
PURPOSES
The purpose of the Corporation is to conduct the business of a corporation and bank holding company and to conduct any and all business, including trust business, and to have any and all corporate powers, which are permitted to corporations organized to conduct the business of a corporation and bank holding company pursuant to the laws of the Commonwealth of Virginia, including such powers as may be granted from time to time by the State Corporation Commission to corporations organized to conduct, and authorized to engage in, the business of a corporation and bank holding company.
article iii
authorized STOCK
1.Number. The aggregate number of shares of stock which the Corporation shall have the authority to issue, and the par value per share, is as follows:
| Class | Number of Shares | Par Value | ||
|---|---|---|---|---|
| Common Stock | 7,500,000 | $4.00 | ||
| Preferred Stock | 2,000,000 | $1.00 |
2.Preemptive Rights. No holder of any class of stock of the Corporation shall have any preemptive rights with respect to any subscriptions, warrants, rights or options to purchase any shares of any class of stock of the Corporation, or obligations convertible into any shares of any class of stock of the Corporation or into subscriptions, warrants, rights or options to purchase any shares of any class of stock of the Corporation.
3.Voting; Liquidation. The holders of the Common Stock shall, to the exclusion of the holders of any other class of stock of the Corporation, have the sole and full power to vote for the election of directors and for all other purposes without limitation except only as otherwise provided in any articles of amendment applicable to any series of Preferred Stock, and as otherwise expressly provided by the then existing statutes of Virginia. The holders of the Common Stock shall have one vote for each share of Common Stock held by them. Except as may be set forth in any articles of amendment applicable to shares of Preferred Stock, the holders of the Common Stock shall be entitled to receive the net assets of the Corporation upon liquidation, dissolution or winding up.
4.Establishing Preferred Stock. Authority is expressly vested in the Board of Directors to divide the Preferred Stock into and issue the same in series and, to the fullest extent permitted by law, to fix and determine the preferences, limitations and relative rights of the shares of any series so established, and to provide for the issuance thereof. Prior to the issuance of any share of a series of Preferred Stock, the Board of Directors shall establish such series by adopting an amendment of the articles of incorporation setting forth the designation and number of shares of the series and the preferences, limitations and relative rights thereof, and the Corporation shall file with the State Corporation Commission articles of amendment as required by law, and the State Corporation Commission shall have issued a certificate of amendment.
article Iv
directors
classified board
1.Number. The management, control and government of the Corporation shall be vested in the Board of Directors, which shall be composed of no fewer than five (5) nor more than fifteen (15) directors which minimum and maximum number of directors may not be changed except by amendment to the Articles of Incorporation.
2.Classified Board. The Board of Directors shall be divided into three groups of directors that shall be designated Group I, Group II, and Group III. The members of each group shall be elected for a term of three years and until their successors are duly elected by the shareholders and qualified. Such groups shall be as nearly equal in number as the then total number of directors constituting the entire Board of Directors shall permit, with the term of office of Group I to expire at the first annual meeting of shareholders, the term of office of Group II to expire at the annual meeting of shareholders one year thereafter, and the term of office of Group III to expire at the annual meeting of shareholders two years thereafter. At each annual meeting of shareholders following such initial classification and election, directors elected to succeed those directors whose terms expire shall be elected for a term of office to expire at the third succeeding annual meeting of shareholders after their election.
Whenever the holders of any one or more series of Preferred Stock of the Corporation shall have the right, voting separately as a class, to elect one or more directors of the Corporation, the Board of Directors shall consist of said directors so elected in addition to the number of directors fixed as provided above in this Article.
article v
quorum at shareholders meetings
SHAREHOLDER APPROVAL OF CERTAIN TRANSACTIONS
1.Quorum at Shareholder Meetings. Unless otherwise required by the Code of Virginia, or these Articles, one-third (1/3) of the votes entitled to be cast on a matter by a voting group at a shareholder meeting shall constitute a quorum of that voting group for action on a matter presented at a shareholder meeting. Once a share is represented for any purpose at a meeting, it is deemed present for quorum purposes for the remainder of the meeting and for any adjournment of that meeting unless a new record date is or shall be set for that adjourned meeting.
2.Shareholder Approval of Certain Actions. An amendment of the Corporation’s Articles of Incorporation, a plan of merger or share exchange, a transaction involving the sale of all or substantially all the Corporation’s assets other than in the regular course of business, and a plan of dissolution shall be approved by the vote of a majority of all the votes entitled to be cast on such transactions by each voting group entitled to vote on the transaction at a meeting at which a quorum of the voting group is present, provided that the transaction has been approved and recommended by at least two-thirds (2/3) of the Directors in office at the time of such approval and recommendation. If the transaction is not so approved and recommended by at least two-thirds (2/3) of the Directors in office, then the transaction shall be approved by the vote of eighty percent (80%) or more of all the votes entitled to be cast on such transactions by each voting group entitled to vote on the transaction.
article vi
INDEMNIFICATION AND ELIMINATION OF LIABILITY
1.Indemnification of Directors and Officers. Except as provided in Section 2 of this Article, the Corporation shall indemnify every individual made a party to a proceeding because he is or was a director or officer against liability incurred in the proceeding if: (i) he conducted himself in good faith; and (ii) he believed, in the case of conduct in his official capacity with the Corporation, that his
conduct was in its best interests and, in all other cases, that his conduct was at least not opposed to its best interests (or in the case of conduct with respect to an employee benefit plan, that his conduct was for a purpose he believed to be in the interests of the participants of and beneficiaries of the plan); and (iii) he had no reasonable cause to believe, in the case of any criminal proceeding, that his conduct was unlawful.
2.Indemnification Not Permitted. The Corporation shall not indemnify any individual against his willful misconduct or a knowing violation of the criminal law or against any liability incurred by him in any proceeding charging improper personal benefit to him, whether or not by or in the right of the Corporation or involving action in his official capacity, in which he was adjudged liable by a court of competent jurisdiction on the basis that personal benefit was improperly received by him.
3.Effect of Judgment or Conviction. The termination of a proceeding by judgment, order, settlement or conviction is not, of itself, determinative that an individual did not meet the standard of conduct set forth in Section 1 of this Article or that the conduct of such individual constituted willful misconduct or a knowing violation of the criminal law.
4.Determination and Authorization. Unless ordered by a court of competent jurisdiction, any indemnification under Section 1 of this Article shall be made by the Corporation only as authorized in the specific case upon a determination that indemnification of the individual is permissible in the circumstances because: (i) he met the standard of conduct set forth in Section 1 of this Article and, with respect to a proceeding by or in the right of the Corporation in which such individual was adjudged liable to the Corporation, he is fairly and reasonably entitled to indemnification in view of all of the relevant circumstances even though he was adjudged liable; and (ii) the conduct of such individual did not constitute willful misconduct or a knowing violation of the criminal law.
Such determination shall be made: (i) by the board of directors by a majority vote of a quorum consisting of directors not at the time parties to the proceeding; or (ii) if such a quorum cannot be obtained, by a majority vote of a committee duly designated by the board of directors (in which designation directors who are parties may participate), consisting solely of two or more directors not at the time parties to the proceeding; or (iii) by special legal counsel selected by the board of directors or its committee in the manner heretofore provided or, if such a quorum of the board of directors cannot be obtained and such a committee cannot be designated, selected by a majority vote of the board of directors (in which selection directors who are parties may participate); or (iv) by the shareholders, but shares owned by or voted under the control of individuals who are at the time parties to the proceeding may not be voted on the determination. Authorization of indemnification, evaluation as to reasonableness of expenses and determination and authorization of advancements for expenses shall be made in the same manner as the determination that indemnification is permissible, except that if the determination is made by special legal counsel, authorization of indemnification and evaluation as to reasonableness of expenses shall be made by those selecting such counsel.
5.Advance for Expenses. If permitted by applicable law, the Corporation shall pay for or reimburse the reasonable expenses incurred by any individual who is a party to a proceeding in advance of final disposition of the proceeding if: (i) he furnished the Corporation a written statement of his good faith belief that he has met the standard of conduct described in Section 1 of this Article and a written undertaking, executed personally or on his behalf, to repay the advance if it is ultimately determined that indemnification of such individual in the specific case is not permissible; and (ii) a determination is made that the facts then known to those making the determination would not preclude indemnification under this Article.
6.Indemnification of Employees and Agents. The Corporation may, but shall not be required to, indemnify and advance expenses to employees and agents of the Corporation to the same extent as provided in this Article with respect to directors and officers.
7.Elimination of Liability of Directors and Officers. Except as provided in Section 8 of this Article, in any proceeding brought by or in the right of the Corporation or brought by or on behalf of shareholders of the Corporation, a director or officer of the Corporation shall not be liable in any monetary amount for damages arising out of or resulting from a single transaction, occurrence or course of conduct.
8.Liability of Directors and Officers Not Eliminated. The liability of a director or officer shall not be eliminated in accordance with the provisions of Section 7 of this Article if the director or officer engaged in willful misconduct or a knowing violation of the criminal law or of any federal or state securities law, including without limitation, any claim of unlawful insider trading or manipulation of the market for any security.
9.Definitions. In this Article:
“Director” and “officer” mean an individual who is or was a director or officer of the Corporation, as the case may be, or who, while a director or officer of the Corporation is or was serving at the Corporation’s request as a director, officer, partner, trustee, employee or agent of another foreign or domestic corporation, partnership, joint venture, trust, employee benefit plan or other enterprise. A director or officer shall be considered to be serving an employee benefit plan at the Corporation’s request if his duties to the Corporation also impose duties on, or otherwise involve services by, him to the plan or to participants in or beneficiaries of the plan.
“Individual” includes, unless the context requires otherwise, the estate, heirs, executors, personal representatives and administrators of an individual.
“Corporation” means the Corporation and any domestic or foreign predecessor entity of the Corporation in a merger or other transaction in which the predecessor’s existence ceased upon the consummation of the transaction.
“Expenses” includes but is not limited to reasonable counsel fees.
“Liability” means the obligation to pay a judgment, settlement, penalty, fine, including any excise tax assessed with respect to an employee benefit plan, or reasonable expenses incurred with respect to a proceeding.
“Official capacity” means: (i) when used with respect to a director, the office of director in the Corporation; (ii) when used with respect to an officer, the office in the Corporation held by him; or (iii) when used with respect to an employee or agent, the employment or agency relationship undertaken by him on behalf of the Corporation. “Official capacity” does not include service for any foreign or domestic corporation or other partnership, joint venture, trust, employee benefit plan or other enterprise.
“Party” includes an individual who was, is or is threatened to be made a named defendant or respondent in a proceeding.
“Proceeding” means any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative and whether formal or informal.
10.Provisions Not Exclusive. As authorized by the Virginia Stock Corporation Act, the provisions of this Article are in addition to and not in limitation of the specific powers of a corporation to indemnify directors and officers set forth therein. If any provision of this Article shall be adjudicated invalid or unenforceable by a court of competent jurisdiction, such adjudication shall not be deemed to invalidate or otherwise affect any other provision hereof or any power of indemnity which the Corporation may have under the Virginia Stock Corporation Act or other laws of the Commonwealth of Virginia.
STATE CORPORATION COMMISSION
ARTICLES OF AMENDMENT OF
MainStreet Bancshares, Inc.
The undersigned, on behalf of the corporation set forth below, pursuant to Title 13.1, Chapter 9, Article 11 of the Code of Virginia, states as follows:
| 1. | Name of Corporation. The name of the corporation is MainStreet Bancshares, Inc. | |||
|---|---|---|---|---|
| 2. | Text of Amendment. The text of the amendment adopted is attached. | |||
| --- | --- | |||
| 3. | Exchange, Reclassification or Cancellation of Issued Shares. Not applicable. | |||
| --- | --- | |||
| 4. | Date of Adoption. The attached amendment was adopted on May 16, 2018. | |||
| --- | --- | |||
| 5. | Method of Approval. The amendment was proposed by the board of directors and submitted to the shareholders in accordance with the provisions of Title 13.1, Chapter 9 of the Code of Virginia, and: | |||
| --- | --- | |||
| (a) | The designation, number of outstanding shares, and number of votes entitled to be cast by each voting group entitled to vote separately on the amendment were: | |||
| --- | --- | --- | ||
| Designation | Number of Outstanding Shares | Number of Votes | ||
| --- | --- | --- | --- | --- |
| Common Stock | 5,533,605 | 5,533,605 | ||
| (b) | The total number of votes cast for and against the amendment by each voting group entitled to vote separately on the amendment was: | |||
| --- | --- | --- | ||
| Voting Group | Total Votes FOR | Total Votes AGAINST | ||
| --- | --- | --- | --- | --- |
| Common Stock | 4,180,199 | 101,452 | ||
| (c) | The number cast for the amendment by each voting group was sufficient for approval by that voting group. | |||
| --- | --- | --- |
Executed in the name of the corporation by:
| /x/ Jeff W. Dick | Date: | June 12, 2018 | |||
|---|---|---|---|---|---|
| (signature) | |||||
| Name: | Jeff W. Dick | Title: | President and Chief Executive Officer |
SCC ID: 08013013
AMENDMENT
TO THE
AMENDED AND RESTATED ARTICLES OF INCORPORATION
OF
MAINSTREET BANCSHARES, INC.
Article III.1 of the Amended and Restated Articles of Incorporation of MainStreet Bancshares, Inc. is hereby amended to read as follows:
ARTICLE III
AUTHORIZED STOCK
1.Number. The aggregate number of shares of stock which the Company shall have the authority to issue, and the par value per share, is as follows:
| Class | Number of Shares | Par Value | ||
|---|---|---|---|---|
| Common Stock | 10,000,000 | $4.00 | ||
| Preferred Stock | 2,000,000 | $1.00 |
mnsb-ex32_219.htm
Exhibit 3.2
MAINSTREET BANCSHARES, INC.
BYLAWS
ARTICLE I
Meeting of Shareholders
Section 1.Places of Meetings. All meetings of the shareholders shall be held at such place, either within or without the Commonwealth of Virginia, as may, from time to time, be fixed by the Board of Directors.
Section 2.Annual Meetings. The annual meeting of the shareholders, for the election of directors and transaction of such other business as may properly come before the meeting, shall be held on such date and at such time as the Board of Directors of the Corporation may designate.
Section 3.Special Meetings. Except as otherwise specifically provided by law, special meetings of shareholders for any purpose or purposes may only be called by the Chief Executive Officer, President, Chairman of the Board or by a majority of the Board of Directors. At a special meeting, no business shall be transacted and no corporate action shall be taken other than that stated in the notice of the meeting.
Section 4.Notice of Meetings. Except as otherwise required by law or these Bylaws, written or printed notice stating the place, day and hour of every meeting of the shareholders and, in case of a special meeting, the purpose or purposes for which the meeting is called, shall be given by mail, postage prepaid, or by any other means permitted by applicable law, not less than 10 nor more than 60 calendar days before the date of the meeting to each shareholder of record entitled to vote at such meeting, at his or her address appearing in the share transfer books of the Corporation or such electronic mail address, facsimile number or other form of address provided by the shareholder for receiving notice.
Section 5.Quorum. Except as otherwise provided by law, a quorum for the transaction of business at any annual or special meeting of shareholders shall consist of shareholders representing, either in person or by proxy, one-third of the outstanding shares of capital stock of the Corporation entitled to vote at such meeting. If less than a quorum shall be in attendance, in person or by proxy, at the time for which a meeting shall have been called, the meeting may be adjourned by a majority of the shareholders in attendance, in person or by proxy, without notice other than by announcement at the meeting, until a quorum is present. Once a share is represented as present at a meeting, either in person or by proxy, it is deemed present for quorum purposes for the remainder of the meeting including adjournment of that meeting unless a new record date is set for adjournment of that meeting.
Section 6.Adjournments. Any meeting of shareholders, annual or special, may be adjourned from time to time to reconvene at the same or some other place, and notice need not be given of any such adjourned meeting if the time and place thereof are announced at the meeting at which the adjournment is taken. At the adjourned meeting the Corporation may transact any business which might have been transacted at the original meeting. If the adjournment is for more than 120 calendar days, or if after the adjournment a new record date is fixed for the adjourned meeting, notice of the adjourned meeting shall be given to each shareholder of record as of the new record date entitled to vote at the meeting.
Section 7.Voting. At any meeting of the shareholders each shareholder of a class entitled to vote on the matters coming before the meeting shall have one vote, in person or by proxy, for each such share standing in his or her name on the books of the Corporation at the record date for such meeting.
Section 8.Record Date. The transfer books for shares of stock of the Corporation may be closed by order of the Board of Directors for a period not exceeding 70 calendar days immediately preceding any shareholders’ meeting for the purpose of determining shareholders entitled to notice of or to vote at any meeting of shareholders or any adjournment thereof, or entitled to receive payment of any dividend or in order to make a determination of shareholders for any other proper purpose. In lieu of closing the stock transfer books, the Board of Directors may fix in advance a date as the record date for any such determination of shareholders, such date to be not more than 70 calendar days preceding the date of the meeting, dividend payment or action requiring such determination of shareholders.
Section 9.Inspector. The Board of Directors or the officer presiding over a meeting of shareholders shall appoint an inspector for a meeting of shareholders. The inspector will open and close the polls, will receive and take charge of proxies and ballots, and will decide all questions as to the qualifications of voters, validity of proxies and ballots, and the number of votes properly cast.
Section 10.Conduct of Meetings. The Chief Executive Officer shall preside over all meetings of shareholders. If such officer is not present, or if there is no Chief Executive Officer, the President shall preside over meetings of shareholders. If such officer is not present, or if there is no President, then either the Secretary or Treasurer shall preside over meetings of shareholders. If none of such officers are present, the Board of Directors shall select a presiding officer for the meeting. The Secretary of the Corporation shall act as secretary of all meetings of shareholders if the Secretary is present. If the Secretary is not present, the presiding officer of the meeting shall appoint a secretary of the meeting.
Section 11.Consent. Any action that may be taken by the shareholders in a meeting may be taken by unanimous written consent of all shareholders entitled to vote on the action.
Section 12.Notice of Shareholder’s Proposals and Nominations. Except as otherwise provided by law, at any annual or special meeting of shareholders only such business shall be conducted as shall have been properly brought before the meeting in accordance with this Section 12.
(a)Annual Meetings of Shareholders.
(i)Nominations of persons for election to the Board of Directors of the Corporation and the proposal of business to be considered by the shareholders shall be properly brought before the meeting only (A) if specified in the written notice of the meeting (or any supplement thereto) given to shareholders of record on the record date for such meeting by or at the direction of the Board of Directors (or any duly authorized committee thereof) (the “Meeting Notice”), (B) if brought before the meeting at the direction of the Board of Directors (or any duly authorized committee thereof) or the officer presiding over the meeting, or (C) if brought by a shareholder of the Corporation, or a duly authorized proxy for a shareholder, who, at the time the notice provided for in this Section 12(a) is delivered to the Secretary of the Corporation, is entitled to vote at the meeting and complies with the notice procedures set forth in this Section 12(a). The nomination by a shareholder of any person for election as a director, other than the persons nominated by the Board of Directors or any duly authorized committee thereof, shall be considered business other than business specified in clauses (A) and (B) of this Section 12(a)(i) and shall be permitted only upon compliance with the requirements of clause (C) of this Section 12(a)(i).
(ii)For director nominations or other business to be properly brought before an annual meeting by a shareholder pursuant to clause (C) of Section 12(a)(i) above, the shareholder must have given timely notice thereof in writing to the Secretary of the Corporation and any such proposed business other than the nominations of persons for election to the Board of Directors must constitute a proper matter for shareholder action. To be timely, a shareholder’s notice shall be delivered to the Secretary at the principal executive offices of the Corporation not later than the close of business on the 120^th^ calendar day prior to the first anniversary of the preceding year’s annual meeting date; provided, however, that in the event the date of the annual meeting is more than 30 calendar days before or after such anniversary date, notice by the shareholder will be considered timely if it is delivered by the close of business on the 10^th^ calendar day following the day on which notice of the date of the annual meeting was first mailed or public announcement of the date of the annual meeting was first made, whichever occurs first. In no event shall the public announcement of an adjournment or postponement of an annual meeting commence a new time period (or extend any time period) for the giving of a shareholder’s notice pursuant to this Section 12(a). Such shareholder’s notice shall set forth as to each matter such shareholder proposes to bring before the annual meeting: (1) a brief description of the business desired to be brought before the annual meeting, including the text of the proposal or business, and the reasons for conducting such business at the annual meeting, and (2) as to the shareholder giving such notice and the beneficial owner, if any, on whose behalf the nomination or proposal is made, (A) the name and address of such shareholder, as they appear on the Corporation’s stock transfer books, and of such beneficial owner, (B) the class or series and number of shares of capital stock of the Corporation that are owned beneficially and of record by such shareholder and such beneficial owner, (C) a description of all arrangements or understandings between such shareholder or beneficial owner and any other person or persons (including their names) in connection with the nomination or proposal of such business by such shareholder and any material interest of such shareholder or beneficial owner, if any, in such business, (D) a representation that such shareholder is a holder of record of stock of the Corporation entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to propose such business or nomination, and (E) a representation whether the shareholder or the beneficial owner, if any, intends or is part of a group that intends (i) to deliver a proxy statement and/or form of proxy to holders of at least the percentage of the Corporation’s outstanding capital stock required to approve or adopt the proposal or elect the nominee and/or (ii) otherwise to solicit proxies from shareholders in support of such proposal or nomination, and (3) in the case of the nomination of a person as a director, a brief description of the background and credentials of such person including (A) the name, age, business address and residence address of such person, (B) the principal occupation or employment of such person, (C) the class or series and number of shares of capital stock of the Corporation that are owned beneficially and of record by such person, (D) any other information relating to such person that would be required to be disclosed in solicitations of proxies for election of directors pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended, if the Corporation were subject to Regulation 14A, and (E) such person’s written consent to being named in a proxy statement as a nominee and to serving as a director if elected. The Corporation may require any proposed nominee for director to furnish such other information as it may reasonably require to determine the eligibility of such proposed nominee to serve as a director of the Corporation.
(b)Special Meetings of Shareholders. Only such business shall be conducted at a special meeting of shareholders as shall have been brought before the meeting pursuant to the Corporation’s notice of meeting. Nominations of persons for election to the Board of Directors may be made at a special meeting of shareholders at which directors are to be elected pursuant to the Corporation’s notice of meeting (i) by or at the direction of the Board of Directors or (ii) provided that the Board of Directors has determined that directors shall be elected at such meeting, by any shareholder of the Corporation who is a shareholder of record at the time the notice provided for in this section is delivered to the Secretary of the Corporation, who is entitled to vote at the meeting and on such election and who complies with the notice procedures set forth in this section. In the event the Corporation calls a special meeting of shareholders for the purpose of electing one or more directors to the Board of Directors, any such shareholder entitled to vote in such election of directors may nominate a person or persons, as the case may be, for election to such position(s) as specified in the Corporation’s notice of meeting, if the shareholder delivers a notice setting forth all of the information required to be set forth in a shareholder’s notice delivered under Section 12(a) to the Secretary at the principal executive offices of the Corporation not later than the close of business on the later of the 90^th^ calendar day prior to such special meeting or the 10^th^ calendar day following the day on which public announcement is first made of the date of the special meeting and of the nominees proposed by the Board of Directors to be elected at such meeting. In no event shall the public announcement of an adjournment or postponement of a special meeting commence a new time period (or extend any time period) for giving of a shareholder’s notice as described above.
(c)General. Only such persons who are nominated in accordance with the procedures set forth in this Section 12 shall be eligible at an annual or special meeting of shareholders of the Corporation to be elected as directors and only such business shall be conducted at a meeting of shareholders as shall have been brought before the meeting in accordance with the procedures set forth in this Section 12. Except as otherwise provided by law, the presiding officer of the meeting shall have the power and duty (A) to determine whether a nomination or any business proposed to be brought before the meeting was made or proposed, as the case may be, in accordance with the procedures set forth in this Section 12 and (B) to declare that such nomination shall be disregarded or that such proposed business shall not be transacted. Notwithstanding the foregoing provisions of this Section 12, if the shareholder (or a designated representative of the shareholder) does not appear at the annual or special meeting of shareholders of the Corporation to present a nomination or business, such nomination shall be disregarded and such proposed business shall not be transacted, notwithstanding that proxies in respect of such vote may have been received by the Corporation.
ARTICLE II
Directors
Section 1.General Powers. The property, affairs and business of the Corporation shall be managed under the direction of the Board of Directors, and except as otherwise expressly provided by law, the Articles of Incorporation or these Bylaws, all of the powers of the Corporation shall be vested in such Board.
Section 2.Number of Directors. The Board of Directors shall consist of no fewer than 5 and no more than 15 persons, with the exact number of directors to be determined from time to time by resolution adopted by the affirmative vote of a majority of the directors then in office or by the Board’s approval of a specific number of director nominees for the annual meeting of shareholders combined with the number of directors continuing in office after such meeting.
Section 3.Qualifications of Directors. To be eligible for election, reelection, appointment or reappointment to the Board of Directors, a person must: (i) have experience in one or more matters pertinent to the Corporation’s business, including without limitation transactional expertise, strategic expertise, corporate governance expertise, operational expertise, marketing expertise, financial expertise, or specific industry expertise in markets targeted by the Corporation; (ii) be at least eighteen years of age; (iii) own in his or her sole name, sufficient shares of the Corporation’s stock to qualify as a director under applicable regulatory requirements; (iv) be a citizen of the United States; (v) reside in, or have his or her primary place of business located within, a 50 mile radius of any operating office or branch of the Corporation or any subsidiary; (vi) not be affiliated with, employed by, a consultant to, or a representative of, or serve as a director of, any individual, corporation, association, partnership, firm, business enterprise or other entity or organization which the Board of Directors, after having such matter formally brought to its attention, determines to be in competition with the Corporation or any of its subsidiaries (any such individual, corporation, association, partnership, firm, business enterprise or other entity or organization being hereinafter referred to as a “Business Competitor”), unless the Board of Directors expressly determines that it would nevertheless be in the Corporation’s best interests for such individual to serve as a director of the Corporation; provided, however, that passive ownership of a debt or equity interest not exceeding 1% of the outstanding debt or equity, as the case may be, in any Business Competitor shall not constitute such affiliation, employment or representation; provided further, that any financial institution shall be presumed to be a Business Competitor unless the Board of Directors determines otherwise; and (vii) not have a significant business affiliation with another director of the Corporation. Except as required by applicable law, the foregoing requirements shall not apply to a person serving as a director on February 17, 2016. In addition, no person shall be eligible for election, reelection, appointment or reappointment to the Board of Directors if such person (i) has been convicted of a crime involving dishonesty or breach of trust, (ii) has been adjudicated bankrupt, or (iii) is currently charged in any information, indictment, or other complaint with the commission of or participation in such a crime.
Section 4.Election of Directors. Directors shall be elected at each annual meeting of shareholders. The Board of Directors shall be divided into three classes, Group I, Group II and Group III, as nearly equal in number as possible, with directors in each group elected for terms of 3 years and until their successors are elected and qualified. The successors to the group of directors whose terms expire shall be identified as being of the same group as the directors they succeed and elected to hold office for a term expiring at the third succeeding annual meeting of shareholders. When the number of directors is changed, any newly created directorships or any decrease in directorships shall be apportioned among the groups by the Board of Directors as to make all groups as nearly equal in number as possible, but in no event will a decrease in the number of directors shorten the term of any director then serving.
Section 5.Regular Meetings. Regular meetings of the Board of Directors may be held without notice at the registered office or principal office of the Corporation or at such other place, within or without the Commonwealth of Virginia, as the Board of Directors may designate from time to time. A regular meeting of the Board of Directors shall be held as soon as practicable after each annual meeting of the shareholders for the purpose of appointing officers and transacting such other business as may properly come before the meeting.
Section 6.Special Meetings. Special meetings of the Board of Directors may be called at any time by the Chairman of the Board of Directors, the Chief Executive Officer, the President or by a majority of the directors. Written notice of the date, time and place of special meetings of the Board shall be given to each director either by personal delivery, by mail or other method of delivery, by electronic mail or by facsimile telecommunication, by or at the direction of the officer or directors calling the meeting, to the address, electronic mail address or the facsimile number of such director as it appears in the records of the Corporation, not less than 24 hours before the date of the meeting. Neither the business to be transacted at, nor the purpose of, any meeting of the Board of Directors need be specified in the notice or any waiver of notice of such meeting. A director’s attendance at or participation in a meeting waives any required notice to him of the meeting unless at the beginning of the meeting or promptly upon the director’s arrival the director objects to holding the meeting or transacting business at the meeting and does not thereafter vote for or assent to the action taken at the meeting.
Section 7.Waiver of Notice. Notice of any meeting may be waived before or after the date and time of the meeting in a writing signed by the director entitled to notice and delivered to the Secretary of the Corporation for inclusion in the minutes of the meeting or filing with the corporate records.
Section 8.Quorum. A quorum at any meeting of the Board of Directors shall be a majority of the number of directors in office immediately before the meeting begins. If less than a quorum is present at a meeting of the Board of Directors, a majority of the directors present may postpone the meeting to a subsequent date without any further notice to any of the directors.
Section 9.Conduct of Meetings. The Chairman of the Board of Directors, or if such officer is not present, the Chief Executive Officer, shall act as chairman of and preside over meetings of the Board of Directors. If no such officer is present, the directors present shall elect a chairman of the meeting. The Secretary, or if such officer is not present, the Assistant Secretary, shall act as secretary of Board meetings. If no such officer is present, the chairman of the meeting shall appoint a secretary of the meeting.
Section 10.Participation by Conference Telephone. The Board of Directors may permit any or all directors to participate in a meeting of the directors by, or conduct the meeting through the use of, conference telephone or any other means of communication by which all directors participating may simultaneously hear each other during the meeting. A director participating in a meeting by such means shall be deemed to be present in person at the meeting.
Section 11.Board Action. If a quorum is present when a vote is taken, the affirmative vote of a majority of directors present at a meeting is the act of the Board of Directors.
Section 12.Action Without Meeting. Any action required or permitted by law to be taken at a meeting of the Board of Directors may be taken without a meeting if the action is taken by all of the members of the Board of Directors. The action shall be evidenced by one or more written consents stating the action taken, signed by each director either before or after the action taken, and included in the minutes or filed with the corporate records reflecting the action taken.
Section 13.Removal. The shareholders entitled to vote may remove any director, with or without cause, by the affirmative vote of a majority of shares entitled to vote in the election of directors. The shareholders may remove a director only at a meeting called for the purpose of removing the director, and the meeting notice must state that the purpose, or one of the purposes of the meeting, is removal of the director.
Section 14.Vacancies. If the office of any director shall become vacant, the directors at the time in office, whether or not a quorum, may, by majority vote of such directors, choose a successor who shall hold office until the next annual meeting of shareholders. In such event, the successor elected by the shareholders at that annual meeting shall hold office for a term that shall coincide with the remaining term of the group of directors to which that person has been elected. Vacancies resulting from an increase in the number of directors shall be filled in the same manner.
Section 15.Resignation. A director may resign at any time by delivering written notice to the Board of Directors, the Chairman of the Board of Directors, the Chief Executive Officer, the President or the Secretary. A resignation shall be effective when delivered, unless the notice specifies a later effective date.
ARTICLE III
Committees
Section 1.Committees. The Board of Directors may, by resolution, create one or more Committees and appoint members of the Board of Directors to serve on them. Each Committee may have two or more members, who serve at the pleasure of the Board of Directors. The Board of Directors shall specify the powers and authorities of the Committee in the resolution creating the Committee, except that a committee may not (i) approve or recommend to the shareholders any action which requires shareholder approval, (ii) fill vacancies on the Board or any other Committees, (iii) amend the articles of incorporation, (iv) adopt, amend, or repeal the Bylaws, (v) approve a plan of merger not requiring shareholder approval, (vi) authorize or approve distributions which do not conform to general formula or method prescribed by the Board of Directors, or (vii) authorize or approve the issuance, sale, or contract for sale of shares of stock, or determine the designation and relative rights, preferences and limitation of a class or series of shares of stock, except as the Board of Directors may authorize a Committee, or a senior executive officer of the Corporation, to do so within the limits specifically prescribed by the Board of Directors. Each Committee shall report its actions to the Board of Directors at the next meeting of the Board.
Section 2.Notice of Committee Meetings; Quorum. The provisions of Sections 6 through 13 of Article II, which provide for, among other things, meetings, action without meetings, notice and waiver of notice, quorum and voting requirements of the Board of Directors, shall apply to committees and their members as well.
ARTICLE IV
Officers
At the regular meeting of the Board of Directors held as soon as practicable after each annual meeting of the shareholders, the Board of Directors shall elect a Chairman of the Board, a Chief Executive Officer, a President , a Secretary, a Treasurer, and may elect or appoint one or more Vice-Presidents or such other officers as it may deem proper. The Chairman of the Board shall be chosen from among the directors. Any officer may hold more than one office simultaneously. All officers shall serve for a term of one year until their respective successors are elected and qualify, but any officer may be removed summarily with or without cause at any time by the vote of a majority of the directors. The directors shall fill any vacancies among the officers. The officers of the Corporation shall have such powers and duties as generally pertain to their respective offices as well as such powers and duties as from time to time may be delegated to them by the Board of Directors.
Indemnification
Section 1.Advances for Expenses. Subject to the terms and conditions of Article VII of the Articles of Incorporation of the Corporation, which shall control, the Corporation shall pay for or reimburse the reasonable expenses incurred by a director, officer, employee or agent who is party to a proceeding if (i) the director, officer, employee, or agent furnishes the Corporation with written statement of his or her good faith belief that he or she has met the standard of conduct described in Article VII, Section 1 of the Articles of Incorporation of the Corporation, (ii) the director, officer, employee, or agent furnishes to the Corporation a written undertaking, executed personally, to repay the advance if it is ultimately determined that he or she did not meet the standard of conduct, and (iii) a determination is made that the facts then known to those making the determination would not preclude indemnification under this Section.
Section 2.Determination and Authorization of Indemnification.
(a)Subject to the terms and conditions of Article VII of the Articles of Incorporation of the Corporation, which shall control, the Corporation will indemnify a director, officer, employee, or agent only as authorized in the specific case upon a determination that indemnification of the director, officer, employee, or agent is permissible in the circumstances because he or she has met the standard of conduct.
(b)The determination shall be made by any of the following:
(1) a majority vote of a committee duly designated by the Board of Directors who are not at the time parties to the proceeding;
(2) a majority vote of a committee duly designated by the Board of Directors consisting solely of one or more directors not at the time parties to the proceeding if a quorum cannot be obtained;
(3) by special legal counsel either selected by the Board of Directors or its committee or, if a quorum of the Board of Directors cannot be obtained and a committee cannot be designated, selected by a majority vote of the vote of the full Board of Directors, in which selection those directors who are parties to the proceeding may participate; or
(4) by the shareholders, excluding shares owned by or voted under the control of directors who are, at the time, parties to the proceeding.
ARTICLE VI
Capital Stock
Section 1.Certificates. The shares of capital stock of the Corporation may be certificated or uncertificated as provided under the Virginia Stock Corporation Act. All certificates representing shares of capital stock of the Corporation shall be in such forms as prescribed by the Board of Directors and executed by the Chairman of the Board, the Chief Executive Officer or the President and by the Secretary or an Assistant Secretary and stating thereon the information required by law. Transfer agents and/or registrars for one or more classes of the stock of the Corporation may be appointed by the Board of Directors and may be required to countersign certificates representing stock of such class or classes. In the event that any officer whose signature
or facsimile thereof shall have been used on a stock certificate shall for any reason cease to be an officer of the Corporation and such certificate shall not then have been delivered by the Corporation, the Board of Directors may nevertheless adopt such certificate and it may then be issued and delivered as though such person had not ceased to be an officer of the Corporation. Within a reasonable time after the issuance or transfer of uncertificated shares of the Corporation, the Corporation shall send, or cause to be sent, to the holder a written statement that shall include the information required by law to be set forth on certificates for shares of capital stock.
Section 2.Lost, Destroyed and Mutilated Certificates. Holders of the stock of the Corporation in certificated form shall immediately notify the Corporation of any loss, destruction or mutilation of the certificate therefor, and the Board of Directors may, in its discretion, cause one or more new certificates or evidence of such holder’s ownership of such shares in uncertificated form for the same number of shares in the aggregate to be issued to such shareholder upon the surrender of the mutilated certificate or upon satisfactory proof of such loss or destruction, and the deposit of a bond in such form and amount and with such surety as the Board of Directors may require.
Section 3.Transfer of Stock. The stock of the Corporation shall be transferable or assignable only on the stock transfer books of the Corporation by the holders in person or by attorney, and in the case of shares of stock of the Corporation represented by a certificate, on surrender of the certificate for such shares duly endorsed and, if sought to be transferred by attorney, accompanied by a written power of attorney to have the same transferred on the stock transfer books of the Corporation. Uncertificated shares shall be transferable or assignable only on the stock transfer books of the Corporation upon proper instruction from the holder of such shares.
Section 4.Holders of Shares. Except as otherwise expressly required by Virginia law, the Corporation may treat the person in whose name shares of stock of the Corporation (whether or not represented by a certificate) stand of record on its stock transfer books as the absolute owner of the shares and the person exclusively entitled to receive notification and distributions, to vote, and to otherwise exercise the rights, powers and privileges of ownership of such shares, and the Corporation shall not be obligated to recognize any equitable or other claim to or interest in any share on the part of any other person, whether or not it shall have express or other notice hereof.
ARTICLE VII
Miscellaneous Provisions
Section 1.Seal. The seal of the Corporation shall consist of a flat-faced circular die (of which there may be any number of counterparts) with the words “SEAL” and “VIRGINIA.”
Section 2.Fiscal Year. The fiscal year of the Corporation shall end on December 31st of each year.
Section 3.Books and Records. The Corporation shall keep correct and complete books and records of account and shall keep minutes of the proceedings of its shareholders and Board of Directors. The Corporation shall keep at its registered office or principal place of business, or at the office of its transfer agent or registrar a record of its shareholders, giving the names and addresses of all shareholders, and the number, class and series of the shares being held.
Section 4.Voting of Stock Held. Unless otherwise designated by the Board of Directors, the President may either appoint attorneys to vote any stock of any other corporation owned by this Corporation or may attend any meeting of the holders of stock of such other corporation and vote such shares in person.
Section 5.Checks, Notes and Drafts. Checks, notes, drafts and other orders for the payment of money shall be signed by such persons as the Board of Directors from time to time may authorize. When the Board of Directors so authorizes, however, the signature of any such person may be a facsimile.
Section 6.Amendment of Bylaws. These Bylaws may be amended or altered at any meeting of the Board of Directors.
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mnsb-ex43_194.htm
Exhibit 4.3
description of the registrant’s COMMON STOCK registered
pursuant to section 12 of the securities exchange act of 1934
As of December 31, 2019, MainStreet Bancshares, Inc. had one class of securities registered under Section 12 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) our common stock.
The following description of our common stock is a summary and does not purport to be complete. It is subject to and qualified in its entirety by reference to our Amended and Restated Articles of Incorporation (the “Articles of Incorporation”) and our Bylaws (the “Bylaws”), each of which is an exhibit to the Annual Report on Form 10-K of which this Exhibit 4.1 is a part. We encourage you to read our Articles of Incorporation, our Bylaws and the applicable provisions of Virginia State Corporation Act for additional information.
Authorized Capitalization
Our authorized capital stock consists of:
| • | 10,000,000 shares of common stock, par value $4.00 per share; and | |
|---|---|---|
| • | 2,000,000 shares of serial preferred stock, par value $1.00 per share. | |
| --- | --- | --- |
Our Board of Directors may issue shares of our common stock from time to time for such consideration as the Board may deem advisable without further shareholder approval, subject to the maximum number of authorized shares provided in our articles of incorporation. Our common stock is non-withdrawable capital, is not an insurable account and is not insured by the FDIC.
Dividend Rights
We may pay dividends as declared from time to time by the Board of Directors out of funds legally available for the payment of dividends, subject to certain restrictions imposed by federal and state laws. The holders of common stock are entitled to receive and share equally in any dividends as may be declared by the Board of Directors.
Voting Rights
In all elections of directors, each shareholder has the right to cast one vote for each share of common stock owned by him or her and is entitled to vote for as many persons as there are directors to be elected. Our shareholders do not have cumulative voting rights. On any other question to be determined by a vote of shares at any meeting of shareholders, each shareholder shall be entitled to one vote for each share of common stock owned by him or her and entitled to vote. Unless otherwise required by the Virginia Stock Corporation Act or our articles of incorporation, one-third of the votes entitled to be cast on a matter by a voting group at a shareholder meeting shall constitute a quorum.
Preemptive Rights
Holders of our common stock have no preemptive rights.
Calls and Assessments
All common stock outstanding is fully paid and nonassessable.
Liquidation Rights
Upon our liquidation, dissolution or winding up, whether voluntary or involuntary, holders of our common stock are entitled to share ratably, after satisfaction in full of all of our liabilities (including deposit liabilities), in all of our remaining assets available for distribution. If preferred stock is issued, holders of preferred stock may have a priority over the holders of the Company’s common stock in the event of liquidation or dissolution.
American Stock Transfer & Trust Co. serves as our registrar and transfer agent.
Provisions That May Affect Change of Control
Our articles of incorporation and the Virginia Stock Corporation Act contain certain provisions designed to enhance the ability of the Board of Directors to deal with attempts to acquire control of the Company. These provisions and the ability to set the voting rights, preferences and other terms thereof may be deemed to have an anti-takeover effect and may discourage takeover attempts which have not been approved by the Board (including takeovers which certain shareholders may deem to be in their best interest). To the extent that such takeover attempts are discouraged, temporary fluctuations in the market price of our common stock resulting from actual or rumored takeover attempts may be inhibited. These provisions also could discourage or make more difficult a merger, tender offer or proxy contest, even though such transaction may be favorable to the interests of shareholders, and could potentially adversely affect the market price of our common stock.
The following briefly summarizes protective provisions that are contained in our articles of incorporation or provided by the Virginia Stock Corporation Act. This summary is necessarily general and is not intended to be a complete description of all the features and consequences of those provisions and is qualified in its entirety by reference to our articles of incorporation and the Virginia Stock Corporation Act.
Supermajority Approval of Certain Actions. Our articles of incorporation require a supermajority of 80% or more of all votes entitled to be cast for shareholder approval of certain actions, unless at least two-thirds of the Board of Directors has approved and recommended the action. Items subject to this supermajority provision include amendments of our articles of incorporation, approval of plans of merger or share exchange, asset sales of all or substantially all of the Company’s assets other than in the regular course of business, and plans of dissolutions. If at least two-thirds of our Board of Directors has approved and recommended one of the above actions, a simple majority vote is required to approve the matter.
Staggered Board of Directors. According to our bylaws, our Board of Directors must have a minimum of five members and a maximum of 15 members. Our Board consists of three groups each of which serves three-year terms, with the term of office of one group expiring each year. According to our articles of incorporation and bylaws, a director may be removed with or without cause by the affirmative vote of a majority in interest of shareholders present at a meeting where a quorum is in attendance.
Authorized Shares of Preferred Stock. The Company is unable to determine the effects of any future issuance of a series of preferred stock on the rights of its shareholders until the Board of Directors determines the rights of the holders of such series. However, such effects might include: (i) a preference in the payment of dividends to holders of preferred stock; (ii) dilution of voting power in the unlikely event that the holders of shares of preferred stock are given voting rights; (iii) dilution of the equity interests and voting power of holders of common stock if the preferred stock is converted into common stock; (iv) a liquidation preference above the holders of common stock; and (v) prevention of mergers with or business combinations by the Company and discouragement of possible tender offers for shares of the Company’s common stock.
Virginia Stock Corporation Act. Articles 14 and 14.1 of the Virginia Stock Corporation Act contain provisions regarding affiliated transactions and control share acquisitions. Both the affiliated transactions statute and the control share acquisitions statute apply to Virginia corporations with more than 300 shareholders of record. As of December 31, 2019, we had approximately 280 shareholders of record. While Articles 14 and 14.1 of the Virginia Stock Corporation Act do not currently apply to the Company, at such time as the number of our shareholders of record exceeds 300, these provisions could have an anti-takeover effect, thereby reducing the control premium that might otherwise be reflected in the value of our common stock. Although Virginia corporations are permitted to opt out of these provisions, we have not done so. Below is a summary of the key provisions of these Articles. You should read the actual provisions of the Virginia Stock Corporation Act for a complete understanding of the restrictions that these provisions place on affiliated transactions and control share acquisitions.
Affiliated Transactions Statute. Article 14 of the Virginia Stock Corporation Act governs “affiliated transactions,” or transactions between a Virginia corporation and an “interested shareholder.” “Interested shareholders” are holders of more than 10% of any class of a corporation’s outstanding voting shares. Subject to certain exceptions discussed below, the affiliated transactions statute requires that, for three years following the date upon which any shareholder becomes an interested shareholder, any affiliated transaction must be approved by the affirmative vote of holders of two-thirds of the outstanding shares of the corporation entitled to vote, other than the shares beneficially owned by the interested shareholder, and by a majority (but not less than two) of the “disinterested directors.” The affiliated transactions statute defines a disinterested director as a member of a corporation’s board of directors who either (i) was a member before the later of January 1, 1988 or the date on which an interested shareholder became an interested shareholder or (ii) was recommended for election by, or was elected to fill a vacancy and received the affirmative vote of, a majority of the disinterested directors then on the corporation’s board of directors. At the expiration of the three-year period after a shareholder becomes an interested shareholder, these provisions require that any affiliated transaction be approved by the affirmative vote of the holders of two-thirds of the outstanding shares of the corporation entitled to vote, other than those beneficially owned by the interested shareholder.
The principal exceptions to the special voting requirement apply to affiliated transactions occurring after the three-year period has expired and require either that the affiliated transaction be approved by a majority of the corporation’s disinterested directors or that the transaction satisfy specific statutory fair price requirements. In general, the fair price requirements provide that the shareholders must receive for their shares the higher of: the highest per share price paid by the interested shareholder for his or its shares during the two-year period prior to becoming an interested shareholder, or the fair market value of the shares. The fair price requirements also require that, during the three years preceding the announcement of the proposed affiliated transaction, all required dividends have been paid and no special financial accommodations have been accorded the interested shareholder, unless approved by a majority of the disinterested directors.
Control Share Acquisitions Statute. With specific enumerated exceptions, Article 14.1 of the Virginia Stock Corporation Act applies to acquisitions of shares of a corporation which would result in an acquiring person’s ownership of the corporation’s shares entitled to be voted in the election of directors falling within any one of the following ranges: 20% to 33 1/3 %, 33 1/3% to 50% or 50% or more. Shares that are the subject of a control share acquisition will not be entitled to voting rights unless the holders of a majority of the “disinterested shares” vote at an annual or special meeting of shareholders of the corporation to accord the control shares with voting rights. Disinterested shares are those outstanding shares entitled to be voted that are not owned by the acquiring person or by officers and inside directors of the target company. Under specific circumstances, the control share acquisitions statute permits an acquiring person to call a special shareholders’ meeting for the purpose of considering granting voting rights to the holders of the control shares. As a condition to having this matter considered at either an annual or special meeting, the acquiring person must provide shareholders with detailed disclosures about his or its identity, the method and financing of the control share acquisition and any plans to engage in specific transactions with, or to make fundamental changes to, the corporation, its management or business. Under specific circumstances, the control share acquisitions statute grants dissenters’ rights to shareholders who vote against granting voting rights to the control shares. Among the acquisitions specifically excluded from the control share acquisitions statute are acquisitions which are a part of certain negotiated transactions to which the corporation is a party and which, in the case of mergers or share exchanges have been approved by the corporation’s shareholders under other provisions of the Virginia Stock Corporation Act.
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mnsb-ex231_11.htm
Exhibit23.1
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in Registration Statements on Form S-8 (No. 333-233077 and No. 333-233078) of MainStreet Bancshares, Inc. of our report, dated March 23, 2020, relating to our audit of the consolidated financial statements included in the Annual Report on Form 10-K of MainStreet Bancshares, Inc. and Subsidiary for the year ended December 31, 2019.
/s/ Yount, Hyde & Barbour, P.C.
Richmond, Virginia
March 23, 2020
mnsb-ex311_8.htm
Exhibit 31.1
Certification
I, Jeff W. Dick, certify that:
| 1. | I have reviewed this annual report on Form 10-K of MainStreet Bancshares, Inc.; | |||
|---|---|---|---|---|
| 2. | Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; | |||
| --- | --- | |||
| 3. | Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; | |||
| --- | --- | |||
| 4. | The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: | |||
| --- | --- | |||
| (a) | Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; | |||
| --- | --- | --- | ||
| (b) | Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; | |||
| --- | --- | --- | ||
| (c) | Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report, based on such evaluation; and | |||
| --- | --- | --- | ||
| (d) | Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and | |||
| --- | --- | --- | ||
| 5. | The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): | |||
| --- | --- | |||
| (a) | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and | |||
| --- | --- | --- | ||
| (b) | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. | |||
| --- | --- | --- | ||
| Dated: March 23, 2020 | /s/ Jeff W. Dick | |||
| --- | --- | --- | --- | --- |
| Jeff W. Dick | ||||
| Chairman and Chief Executive Officer | ||||
| (principal executive officer) |
mnsb-ex312_6.htm
Exhibit 31.2
Certification
I, Thomas J. Chmelik, certify that:
| 1. | I have reviewed this annual report on Form 10-K of MainStreet Bancshares, Inc.; | |||
|---|---|---|---|---|
| 2. | Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; | |||
| --- | --- | |||
| 3. | Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; | |||
| --- | --- | |||
| 4. | The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e))) for the registrant and have: | |||
| --- | --- | |||
| (a) | Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; | |||
| --- | --- | --- | ||
| (b) | Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; | |||
| --- | --- | --- | ||
| (c) | Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report, based on such evaluation; and | |||
| --- | --- | --- | ||
| (d) | Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and | |||
| --- | --- | --- | ||
| 5. | The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): | |||
| --- | --- | |||
| (a) | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and | |||
| --- | --- | --- | ||
| (b) | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. | |||
| --- | --- | --- | ||
| Dated: March 23, 2020 | /s/ Thomas J. Chmelik | |||
| --- | --- | --- | --- | --- |
| Thomas J. Chmelik | ||||
| Senior Executive Vice President and<br><br>Chief Financial Officer | ||||
| (principal financial officer) |
mnsb-ex320_7.htm
Exhibit 32.0
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the annual report on Form 10-K of MainStreet Bancshares, Inc. (the “Company”) for the fiscal year ended December 31, 2019, as filed with the Securities and Exchange Commission (the “Report”), I hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
| 1. | The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and | |
|---|---|---|
| 2. | The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company as of and for the period covered by the Report. | |
| --- | --- | |
| By: | /s/ Jeff W. Dick | |
| --- | --- | --- |
| Jeff W. Dick | ||
| Chairman and Chief Executive Officer | ||
| (principal executive officer)<br><br>March 23, 2020 | ||
| By: | /s/ Thomas J. Chmelik | |
| --- | --- | --- |
| Thomas J. Chmelik | ||
| Senior Executive Vice President and | ||
| Chief Financial Officer | ||
| (principal financial officer) | ||
| March 23, 2020 |