UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
FOR THE QUARTERLY PERIOD ENDED June 30, 2014
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 000-49883
PLUMAS BANCORP
(Exact Name of Registrant as Specified in Its Charter)
(State or Other Jurisdiction of
Incorporation or Organization)
(I.R.S. Employer
Identification No.)
Registrant’s Telephone Number, Including Area Code (530) 283-7305
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 x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 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 x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of August 4, 2014. 4,795,139 shares
PART I – FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(In thousands, except share data)
Assets
Cash and cash equivalents
Investment securities available for sale
Loans, less allowance for loan losses of $5,358 at June 30, 2014 and $5,517 at December 31, 2013
Premises and equipment, net
Bank owned life insurance
Real estate and vehicles acquired through foreclosure
Accrued interest receivable and other assets
Total assets
Liabilities and Shareholders’ Equity
Deposits:
Non-interest bearing
Interest bearing
Total deposits
Repurchase agreements
Note payable
Subordinated debenture
Accrued interest payable and other liabilities
Junior subordinated deferrable interest debentures
Total liabilities
Commitments and contingencies (Note 6)
Shareholders’ equity:
Common stock, no par value; 22,500,000 shares authorized; issued and outstanding – 4,795,139 shares at June 30, 2014 and 4,787,739 at December 31, 2013
Retained earnings
Accumulated other comprehensive loss
Total shareholders’ equity
Total liabilities and shareholders’ equity
See notes to unaudited condensed consolidated financial statements.
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CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
Interest Income:
Interest and fees on loans
Interest on investment securities
Other
Total interest income
Interest Expense:
Interest on deposits
Interest on note payable
Interest on subordinated debenture
Interest on junior subordinated deferrable interest debentures
Total interest expense
Net interest income before provision for loan losses
Provision for Loan Losses
Net interest income after provision for loan losses
Non-Interest Income:
Service charges
Gain on sale of loans
Total non-interest income
Non-Interest Expenses:
Salaries and employee benefits
Occupancy and equipment
Total non-interest expenses
Income before provision for income taxes
Provision for Income Taxes
Net income
Discount on Redemption of Preferred Stock
Preferred Stock Dividends and Discount Accretion
Net income available to common shareholders
Basic earnings per share
Diluted earnings per share
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CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
Other comprehensive income (loss) :
Change in net unrealized gains
Less: reclassification adjustments for net gains included in net income
Net unrealized holding gains (losses)
Income tax effect
Other comprehensive income (loss)
Total comprehensive income (loss)
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CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash Flows from Operating Activities:
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses
Change in deferred loan origination costs/fees, net
Depreciation and amortization
Stock-based compensation expense
Amortization of investment security premiums
Gain on sale of OREO and other vehicles
Gain on sale of loans held for sale
Loans originated for sale
Proceeds from loan sales
Provision from change in OREO valuation
Earnings on bank-owned life insurance
(Increase) decrease in accrued interest receivable and other assets
Increase (decrease) in accrued interest payable and other liabilities
Net cash provided by operating activities
Cash Flows from Investing Activities:
Proceeds from matured and called available-for-sale investment securities
Proceeds from principal repayments from available-for-sale government-sponsored mortgage-backed securities
Purchases of available-for-sale securities
Net increase in loans
Proceeds from sale of OREO
Proceeds from sale of other vehicles
Purchase of premises and equipment
Net cash used in investing activities
Continued on next page.
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(Continued)
Cash Flows from Financing Activities:
Net increase in demand, interest bearing and savings deposits
Net decrease in time deposits
Issuance of subordinated debenture, net of discount
Issuance of common stock warrant
Repurchase of common stock warrant
Redemption of preferred stock
Payment of dividends on preferred stock
Net decrease in securities sold under agreements to repurchase
Proceeds from exercise of stock options
Net cash provided by financing activities
(Decrease) increase in cash and cash equivalents
Cash and Cash Equivalents at Beginning of Year
Cash and Cash Equivalents at End of Period
Supplemental Disclosure of Cash Flow Information:
Cash paid during the period for:
Interest expense
Income taxes
Non-Cash Investing Activities:
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. GENERAL
During 2002, Plumas Bancorp (the “Company”) was incorporated as a bank holding company for the purpose of acquiring Plumas Bank (the “Bank”) in a one bank holding company reorganization. This corporate structure gives the Company and the Bank greater flexibility in terms of operation, expansion and diversification. The Company formed Plumas Statutory Trust I (“Trust I”) for the sole purpose of issuing trust preferred securities on September 26, 2002. The Company formed Plumas Statutory Trust II (“Trust II”) for the sole purpose of issuing trust preferred securities on September 28, 2005.
The Bank operates eleven branches in California, including branches in Alturas, Chester, Fall River Mills, Greenville, Kings Beach, Portola, Quincy, Redding, Susanville, Tahoe City, and Truckee. The Bank’s administrative headquarters is in Quincy, California. In addition, the Bank operates a loan administrative office in Reno, Nevada, lending offices specializing in government-guaranteed lending in Auburn, California and Beaverton, Oregon and a commercial/agricultural lending office in Chico, California. The Bank’s primary source of revenue is generated from providing loans to customers who are predominately small and middle market businesses and individuals residing in the surrounding areas.
2. REGULATORY MATTERS
On February 15, 2012, the Bank received notice from the Federal Deposit Insurance Corporation (FDIC) and the California Department of Financial Institutions (“DFI”) that the Consent Order with the FDIC and the DFI which was effective on March 16, 2011 had been terminated. Effective February 8, 2012, the Bank entered into an informal agreement with the FDIC and DFI which, among other things, requested that the Bank continue to maintain a Tier 1 Leverage Capital Ratio of 9% which is in excess of that required for well capitalized institutions and continue to reduce its level of classified asset balances that were outstanding as of September 30, 2011 to not more than 50% of Tier 1 Capital plus the allowance for loan losses. At December 31, 2012 this ratio was 32% and the Bank’s Tier 1 Leverage Capital Ratio was 10.4%. The FDIC and DFI terminated the informal agreement effective January 24, 2013. Effective July 1, 2013, the California Department of Corporations and the DFI merged to form the Department of Business Oversight (“DBO”).
On July 28, 2011 the Company entered into an agreement with the Federal Reserve Bank of San Francisco (the “FRB Agreement”). Under the terms of the FRB Agreement, Plumas Bancorp agreed to take certain actions that were designed to maintain its financial soundness so that it may continue to serve as a source of strength to the Bank. Among other things, the FRB Agreement required prior written approval related to the payment or taking of dividends and distributions, making any distributions of interest, principal or other sums on subordinated debentures or trust preferred securities, incurrence of debt, and the purchase or redemption of stock. On April 19, 2013 the Company received notice that the FRB Agreement had been terminated.
3. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The condensed consolidated financial statements include the accounts of the Company and the accounts of its wholly-owned subsidiary, Plumas Bank. Plumas Statutory Trust I and Plumas Statutory Trust II are not consolidated into the Company’s consolidated financial statements and, accordingly, are accounted for under the equity method. In the opinion of management, the unaudited condensed consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the Company’s financial position at June 30, 2014 and the results of its operations and its cash flows for the three-month and six month periods ended June 30, 2014 and 2013. Our condensed consolidated balance sheet at December 31, 2013 is derived from audited financial statements. Certain reclassifications have been made to prior period’s balances to conform to classifications used in 2014.
The unaudited condensed consolidated financial statements of the Company have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim reporting on Form 10-Q. Accordingly, certain disclosures normally presented in the notes to the annual consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been omitted. The Company believes that the disclosures are adequate to make the information not misleading.
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These interim financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s 2013 Annual Report to Shareholders on Form 10-K. The results of operations for the three-month and six-month periods ended June 30, 2014 may not necessarily be indicative of future operating results. In preparing such financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the periods reported. Actual results could differ significantly from those estimates.
Management has determined that because all of the commercial banking products and services offered by the Company are available in each branch of the Bank, all branches are located within the same economic environment and management does not allocate resources based on the performance of different lending or transaction activities, it is appropriate to aggregate the Bank branches and report them as a single operating segment. No single customer accounts for more than 10% of the revenues of the Company or the Bank.
4. INVESTMENT SECURITIES AVAILABLE FOR SALE
The amortized cost and estimated fair value of investment securities at June 30, 2014 and December 31, 2013 consisted of the following, in thousands:
Available-for-Sale:
Debt securities:
U.S. Government-sponsored agencies
U.S. Government-sponsored agencies collateralized by mortgage obligations-residential
Obligations of states and political subdivisions
Corporate debt securities
Net unrealized loss on available-for-sale investment securities totaling $458,000 were recorded, net of $189,000 in tax benefits, as accumulated other comprehensive income within shareholders’ equity at June 30, 2014. No securities were sold during the six months ended June 30, 2014.
Net unrealized loss on available-for-sale investment securities totaling $1,980,000 were recorded, net of $817,000 in tax benefits, as accumulated other comprehensive income within shareholders’ equity at December 31, 2013. No securities were sold during the year ended December 31, 2013.
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There were no transfers of available-for-sale investment securities during the six months ended June 30, 2014 and twelve months ended December 31, 2013. There were no securities classified as held-to-maturity at June 30, 2014 or December 31, 2013.
Investment securities with unrealized losses at June 30, 2014 and December 31, 2013 are summarized and classified according to the duration of the loss period as follows, in thousands:
June 30, 2014
U.S. Government agencies collateralized by mortgage obligations-residential
December 31, 2013
At June 30, 2014, the Company held 97 securities of which 48 were in a loss position. Of the securities in a loss position, all but 13 were in a loss position for less than twelve months. Of the 48 securities 4 are U.S. Government-sponsored agencies 36 are U.S. Government-sponsored agencies collateralized by residential mortgage obligations and 8 were obligations of states and political subdivisions. The unrealized losses relate principally to market rate conditions. All of the securities continue to pay as scheduled. When analyzing an issuer’s financial condition, management considers the length of time and extent to which the market value has been less than cost; the historical and implied volatility of the security; the financial condition of the issuer of the security; and the Company’s intent and ability to hold the security to recovery. As of June 30, 2014, management does not have the intent to sell these securities nor does it believe it is more likely than not that it will be required to sell these securities before the recovery of its amortized cost basis. Based on the Company’s evaluation of the above and other relevant factors, the Company does not believe the securities that are in an unrealized loss position as of June 30, 2014 are other than temporarily impaired.
The amortized cost and estimated fair value of investment securities at June 30, 2014 by contractual maturity are shown below, in thousands.
Within one year
After one year through five years
After five years through ten years
After ten years
Investment securities not due at a single maturity date:
Government-sponsored mortgage-backed securities
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Expected maturities will differ from contractual maturities because the issuers of the securities may have the right to call or prepay obligations with or without call or prepayment penalties. Investment securities with amortized costs totaling $52,665,000 and $54,373,000 and estimated fair values totaling $52,413,000 and $53,493,000 June 30, 2014 and December 31, 2013, respectively, were pledged to secure deposits and repurchase agreements.
5. LOANS AND THE ALLOWANCE FOR LOAN LOSSES
Outstanding loans are summarized below, in thousands:
Commercial
Agricultural
Real estate – residential
Real estate – commercial
Real estate – construction and land development
Equity lines of credit
Auto
Deferred loan costs, net
Allowance for loan losses
Changes in the allowance for loan losses, in thousands, were as follows:
Balance, beginning of year
Provision charged to operations
Losses charged to allowance
Recoveries
Balance, end of year
The recorded investment in impaired loans totaled $8,854,000 and $9,815,000 at June 30, 2014 and December 31, 2013, respectively. The Company had specific allowances for loan losses of $824,000 on impaired loans of $2,604,000 at June 30, 2014 as compared to specific allowances for loan losses of $629,000 on impaired loans of $2,322,000 at December 31, 2013. The balance of impaired loans in which no specific reserves were required totaled $6,250,000 and $7,493,000 at June 30, 2014 and December 31, 2013, respectively. The average recorded investment in impaired loans for the six months ended June 30, 2014 and June 30, 2013 was $8,982,000 and $16,076,000, respectively. The Company recognized $64,000 and $210,000 in interest income on a cash basis for impaired loans during the six months ended June 30, 2014 and 2013, respectively. During the three months ended June 30, 2014 and 2013 the Company recognized ($31,000) and $107,000 in interest income on a cash basis for impaired loans, respectively.
Included in impaired loans are troubled debt restructurings. A troubled debt restructuring is a formal restructure of a loan where the Company for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower. The concessions may be granted in various forms to include one or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk; or a permanent reduction of the recorded investment in the loan.
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In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the Company’s internal underwriting policy.
The carrying value of troubled debt restructurings at June 30, 2014 and December 31, 2013 was $6,590,000 and $7,616,000, respectively. The Company has allocated $455,000 and $284,000 of specific reserves on loans to customers whose loan terms have been modified in troubled debt restructurings as of June 30, 2014 and December 31, 2013, respectively. The Company has not committed to lend additional amounts on loans classified as troubled debt restructurings at June 30, 2014 and December 31, 2013.
There were no troubled debt restructurings that occurred during the six months ending June 30, 2014.
During the three and six month periods ended June 30, 2013, the terms of certain loans were modified as troubled debt restructurings. Modifications involving a reduction of the stated interest rate of the loan was for periods ranging from 1 month to 10 years and those with decreases in rates ranged from 0% to 1.5%.
The following table presents loans by class modified as troubled debt restructurings that occurred during the six months ending June 30, 2013, dollars in thousands:
Troubled Debt Restructurings:
Total
The troubled debt restructurings described above resulted in no allowance for loan losses or charge-offs during the six months ending June 30, 2013. There were no new troubled debt restructurings during the three months ending June 30, 2013.
There were no troubled debt restructurings for which there was a payment default within twelve months following the modification during the six months ended June 30, 2014.
The following table presents loans by class modified as troubled debt restructurings for which there was a payment default within twelve months following the modification during the six months ended June 30, 2013, dollars in thousands.
The troubled debt restructuring described above increased the allowance for loan losses by $154,000 and resulted in no charge-offs during the six months ending June 30, 2013. There were no loans for which there was a payment default within twelve months following the modification during the three months ended June 30, 2013.
The terms of certain other loans were modified during the six months ending June 30, 2014 and year ending December 31, 2013 that did not meet the definition of a troubled debt restructuring. These loans have a total recorded investment as of June 30, 2014 and December 31, 2013 of $14 million and $14 million, respectively.
These loans which were modified during the six months ended June 30, 2014 and year ended December 31, 2013 did not meet the definition of a troubled debt restructuring as the modification was a delay in a payment ranging from 30 days to 3 months that was considered to be insignificant or the borrower was not considered to be experiencing financial difficulties.
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At June 30, 2014 and December 31, 2013, nonaccrual loans totaled $6,869,000 and $5,519,000, respectively. Interest foregone on nonaccrual loans totaled $204,000 and $170,000 for the six months ended June 30, 2014 and 2013, respectively. Interest foregone on nonaccrual loans totaled $103,000 and $80,000 for the three months ended June 30, 2014 and 2013, respectively. Loans past due 90 days or more and on accrual status totaled $21,000 and $17,000 at June 30, 2014 and December 31, 2013, respectively.
Salaries and employee benefits totaling $675,000 and $672,000 have been deferred as loan origination costs during the six months ended June 30, 2014 and 2013, respectively. Salaries and employee benefits totaling $334,000 and $378,000 have been deferred as loan origination costs during the three months ended June 30, 2014 and 2013, respectively.
The Company assigns a risk rating to all loans, with the exception of automobile and other loans and periodically, but not less than annually, performs detailed reviews of all such loans over $100,000 to identify credit risks and to assess the overall collectability of the portfolio. These risk ratings are also subject to examination by independent specialists engaged by the Company and the Company’s regulators. During these internal reviews, management monitors and analyzes the financial condition of borrowers and guarantors, trends in the industries in which borrowers operate and the fair values of collateral securing these loans. These credit quality indicators are used to assign a risk rating to each individual loan.
The risk ratings can be grouped into five major categories, defined as follows:
Pass – A pass loan is a strong credit with no existing or known potential weaknesses deserving of management’s close attention.
Watch – A Watch loan has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or in the Company’s credit position at some future date. Watch loans are not adversely classified and do not expose the Company to sufficient risk to warrant adverse classification.
Substandard – A substandard loan is not adequately protected by the current sound worth and paying capacity of the borrower or the value of the collateral pledged, if any. Loans classified as substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. Well defined weaknesses include a project’s lack of marketability, inadequate cash flow or collateral support, failure to complete construction on time or the project’s failure to fulfill economic expectations. They are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.
Doubtful – Loans classified doubtful have all the weaknesses inherent in those classified as substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, conditions and values, highly questionable and improbable.
Loss – Loans classified as loss are considered uncollectible and charged off immediately.
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The following table shows the loan portfolio allocated by management’s internal risk ratings at the dates indicated, in thousands:
Grade:
Pass
Watch
Substandard
Doubtful
Performing
Non-performing
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The following tables show the allocation of the allowance for loan losses at the dates indicated, in thousands:
Six months ended June 30, 2014:
Allowance for Loan Losses
Beginning balance
Charge-offs
Provision
Ending balance
Three months ended June 30, 2014:
Six months ended June 30, 2013:
Three months ended June 30, 2013:
June 30, 2014:
Ending balance: individually evaluated for impairment
Ending balance: collectively evaluated for impairment
Loans
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December 31, 2013:
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The following table shows an aging analysis of the loan portfolio by the time past due, in thousands:
As of June 30, 2014
Commercial:
Real estate – construction
Real estate
Residential:
Equity LOC
Consumer:
As of December 31, 2013
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The following tables show information related to impaired loans at the dates indicated, in thousands:
As of June 30, 2014:
With no related allowance recorded:
Equity Lines of Credit
With an allowance recorded:
Total:
As of December 31, 2013:
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6. COMMITMENTS AND CONTINGENCIES
The Company is party to claims and legal proceedings arising in the ordinary course of business. In the opinion of the Company’s management, the amount of ultimate liability with respect to such proceedings will not have a material adverse effect on the financial condition or result of operations of the Company taken as a whole.
In the normal course of business, there are various outstanding commitments to extend credit, which are not reflected in the financial statements, including loan commitments of $85,804,000 and $84,229,000 and stand-by letters of credit of $50,000 and $60,000 at June 30, 2014 and December 31, 2013, respectively.
Of the loan commitments outstanding at June 30, 2014, $12,004,000 are real estate construction loan commitments that are expected to fund within the next twelve months. The remaining commitments primarily relate to revolving lines of credit or other commercial loans, and many of these are expected to expire without being drawn upon. Therefore, the total commitments do not necessarily represent future cash requirements. Each loan commitment and the amount and type of collateral obtained, if any, are evaluated on an individual basis. Collateral held varies, but may include real property, bank deposits, debt or equity securities or business assets.
Stand-by letters of credit are conditional commitments written to guarantee the performance of a customer to a third party. These guarantees are primarily related to the purchases of inventory by commercial customers and are typically short-term in nature. Credit risk is similar to that involved in extending loan commitments to customers and accordingly, evaluation and collateral requirements similar to those for loan commitments are used. The deferred liability related to the Company’s stand-by letters of credit was not significant at June 30, 2014 or December 31, 2013.
7. EARNINGS PER SHARE
Basic earnings per share is computed by dividing income available to common shareholders 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, such as stock options, result in the issuance of common stock which shares in the earnings of the Company. The treasury stock method has been applied to determine the dilutive effect of stock options in computing diluted earnings per share.
Net Income:
Discount on redemption of preferred stock
Dividends and discount accretion on preferred shares
Earnings Per Share:
Weighted Average Number of Shares Outstanding:
Basic shares
Diluted shares
Shares of common stock issuable under stock options and warrants for which the exercise prices were greater than the average market prices were not included in the computation of diluted earnings per share due to their antidilutive effect. Stock options and warrants not included in the computation of diluted earnings per share, due to shares not being in-the-money and having an antidilutive effect, were approximately 267,000 and 200,000 for the three month periods ended June 30, 2014 and 2013, respectively. Stock options and warrants not included in the computation of diluted earnings per share, due to shares not being in-the-money and having an antidilutive effect, were approximately 267,000 and 320,000 for the six month periods ended June 30, 2014 and 2013, respectively.
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8. STOCK-BASED COMPENSATION
Stock Options
In 2001, the Company established a Stock Option Plan (the “2001 Plan”) for which 339,209 shares of common stock remain reserved for issuance to employees and directors and no shares are available for future grants as of June 30, 2014.
A summary of the activity within the 2001 Plan follows:
Options outstanding at January 1, 2014
Options cancelled
Options exercised
Options outstanding at June 30, 2014
Options exercisable at June 30, 2014
Expected to vest after June 30, 2014
Compensation cost related to stock options recognized in operating results under the 2001 Plan was $24,000 and $19,000 for the six months ended June 30, 2014 and 2013, respectively. The associated future income tax benefit recognized was $1,000 for the six months ended June 30, 2014 and 2013. Compensation cost related to stock options recognized in operating results was $14,000 and $10,000 for the quarters ended June 30, 2014 and 2013. There was no associated future income tax benefit recognized for the quarters ended June 30, 2014 and 2013.
At June 30, 2014, there was $30,000 of total unrecognized compensation cost related to non-vested stock option awards which is expected to be recognized over a weighted-average period of 1 year.
The total fair value of options vested during the six months ended June 30, 2014 was $49,000. The total intrinsic value of options exercised during the six months ended June 30, 2014 was $30,000.
Cash received for options exercised during the six months ended June 30, 2014 was $22,000. The tax benefit realized for the tax deductions from option exercise totaled $8,000 and $0, respectively, for the six months ended June 30, 2014 and 2013.
In May 2013, the Company established the 2013 Stock Option Plan (the “2013 Plan”) for which 500,000 shares of common stock are reserved and 389,600 shares are available for future grants as of June 30, 2014. The Plan requires that the option price may not be less than the fair market value of the stock at the date the option is granted, and that the stock must be paid in full at the time the option is exercised. Payment in full for the option price must be made in cash, with Company common stock previously acquired by the optionee and held by the optionee for a period of at least six months, in options of the Optionee that are fully vested and exercisable or in any combination of the foregoing. The options expire on dates determined by the Board of Directors, but not later than ten years from the date of grant.
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The fair value of each option is estimated on the date of grant using the following assumptions in 2014.
Expected life of stock options
Interest rate—stock options
Volatility—stock options
Dividend yields
Weighted-average fair value of options granted during the period
A summary of the activity within the 2013 Plan follows:
Options granted
Compensation cost related to stock options recognized in operating results under the 2013 Plan was $10,000 for the three and six months ended June 30, 2014 and $0 for 2013. The associated future income tax benefit recognized was $1,000 for the three and six months ended June 30, 2014 and $0 for 2013. As of June 30, 2014, there was $214,000 of total unrecognized compensation cost related to non-vested, share-based compensation arrangements granted under the 2013 Plan. That cost is expected to be recognized over a weighted average period of 3.8 years.
9. INCOME TAXES
The Company files its income taxes on a consolidated basis with its subsidiary. Income tax expense is the total of current year income tax due or refundable and the change in deferred tax assets and liabilities.
Deferred tax assets and liabilities are recognized for the tax consequences of temporary differences between the reported amount of assets and liabilities and their tax bases. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment. A valuation allowance is recognized if, based on the weight of available evidence management believes it is more likely than not that some portion or all of the deferred tax assets will not be realized. On the consolidated balance sheet, net deferred tax assets are included in accrued interest receivable and other assets.
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 percent 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.
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Interest expense and penalties associated with unrecognized tax benefits, if any, are classified as income tax expense in the consolidated income statement. There have been no significant changes to unrecognized tax benefits or accrued interest and penalties for the three months ended June 30, 2014.
10. FAIR VALUE MEASUREMENT
The Company measures fair value under the fair value hierarchy described below.
Level 1: Quoted prices for identical instruments traded in active exchange markets.
Level 2: Quoted prices (unadjusted) for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-based valuation techniques for which all significant assumptions are observable or can be corroborated by observable market data.
Level 3: Model based techniques that use one significant assumption not observable in the market. These unobservable assumptions reflect the Company’s estimates of assumptions that market participants would use on pricing the asset or liability. Valuation techniques include management judgment and estimation which may be significant.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.
Management monitors the availability of observable market data to assess the appropriate classification of financial instruments within the fair value hierarchy. Changes in economic conditions or model-based valuation techniques may require the transfer of financial instruments from one fair value level to another. In such instances, the transfer is reported at the beginning of the reporting period.
Management evaluates the significance of transfers between levels based upon the nature of the financial instrument and size of the transfer relative to total assets, total liabilities or total earnings.
Fair Value of Financial Instruments
The carrying amounts and estimated fair values of financial instruments, at June 30, 2014 and December 31, 2013 are as follows, in thousands:
Financial assets:
Investment securities
Loans, net
FHLB stock
Accrued interest receivable
Financial liabilities:
Deposits
Accrued interest payable
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These estimates do not reflect any premium or discount that could result from offering the Company’s entire holdings of a particular financial instrument for sale at one time, nor do they attempt to estimate the value of anticipated future business related to the instruments. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of these estimates.
The following methods and assumptions were used by management to estimate the fair value of its financial instruments:
Cash and cash equivalents: The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.
Investment securities: Fair values for securities available for sale are generally determined by matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2).
Loans: Fair values of loans, excluding loans held for sale, are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.
FHLB stock: It was not practicable to determine the fair value of the FHLB stock due to restrictions placed on its transferability.
Deposits: The fair values disclosed for demand deposits, including interest and non-interest demand accounts, savings, and certain types of money market accounts are, by definition, equal to the carrying amount at the reporting date resulting in a Level 1 classification. Fair values for fixed rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.
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Repurchase agreements: The fair value of securities sold under repurchase agreements is estimated based on bid quotations received from brokers using observable inputs and are included as Level 2.
Note payable: The fair value of the Company’s Note Payable is estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.
Subordinated debentures: The fair values of the Company’s Subordinated Debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.
Junior subordinated deferrable interest debentures: The fair values of the Company’s Subordinated Debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.
Accrued interest and payable: The carrying amounts of accrued interest approximate fair value and are considered to be linked in classification to the asset or liability for which they relate.
Commitments to extend credit and letters of credit: The fair value of commitments are estimated using the fees currently charged to enter into similar agreements and are not significant and, therefore, not presented. Commitments to extend credit are primarily for variable rate loans and letters of credit.
Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding current economic conditions, risk characteristics of various financial instruments and other factors. Those estimates that are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision are included in Level 3. Changes in assumptions could significantly affect the fair values presented.
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The following tables present information about the Company’s assets and liabilities measured at fair value on a recurring and non-recurring basis as of June 30, 2014 and December 31, 2013, and indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value:
Assets and liabilities measured at fair value on a recurring basis at June 30, 2014 and December 31, 2013 are summarized below, in thousands:
Assets:
U.S. Government-sponsored agencies collateralized by mortgage obligations- residential
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The fair value of securities available-for-sale equals quoted market price, if available. If quoted market prices are not available, fair value is determined using quoted market prices for similar securities or matrix pricing. There were no changes in the valuation techniques used during 2014 or 2013. Transfers between hierarchy measurement levels are recognized by the Company as of the beginning of the reporting period. Changes in fair market value are recorded in other comprehensive income.
Assets and liabilities measured at fair value on a non-recurring basis at June 30, 2014 are summarized below, in thousands:
Impaired loans:
Total impaired loans
Other real estate:
Total other real estate
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Assets and liabilities measured at fair value on a non-recurring basis at December 31, 2013 are summarized below, in thousands:
The Company has no liabilities which are reported at fair value.
The following methods were used to estimate fair value.
Impaired Loans: The fair value of collateral dependent impaired loans with specific allocations of the allowance for loan losses or loans that have been subject to partial charge-offs are generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Total (losses)/gains of ($363,000) and $75,000 represent impairment charges recognized during the six months ended June 30, 2014 and 2013, respectively, related to the above impaired loans.
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Other Real Estate: Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned (OREO) are measured at fair value, less costs to sell. Fair values are based on recent real estate appraisals. These appraisals may use a single valuation approach or a combination of approaches including comparable sales and the income approach.
Appraisals for both collateral-dependent impaired loans and other real estate are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed and verified by the Company. Once received, a member of the Loan Administration Department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics. On a quarterly basis, the Company compares the actual selling price of similar collateral that has been liquidated to the most recent appraised value for unsold properties to determine what additional adjustment, if any, should be made to the appraisal value to arrive at fair value. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available.
The following table presents quantitative information about Level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at June 30, 2014 and December 31, 2013 (dollars in thousands):
Description
Valuation
Technique
Significant Unobservable Input
Impaired Loans:
RE – Residential
RE – Commercial
Land and Construction
Other Real Estate:
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11. ADOPTION OF NEW ACCOUNTING STANDARDS
Recently Adopted Accounting Pronouncements
In July 2013, the FASB issued ASU 2013-11, Income Taxes, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. The FASB issued ASU 2013-11 to eliminate the diversity in the presentation of unrecognized tax benefits in those instances. The amendments in this update are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. The Company has determined the provisions for ASU 2013-11 did not have a material impact on the financial statements.
Pending Accounting Pronouncements
In January 2014, the FASB issued ASU No. 2014-04, Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. The objective of this guidance is to clarify when an in substance repossession or foreclosure occurs, that is, when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan receivable should be derecognized and the real estate property recognized. ASU No. 2014-04 states that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, ASU No. 2014-04 requires interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. ASU No. 2014-04 is effective for interim and annual reporting periods beginning after December 15, 2014. The adoption of ASU No. 2014-04 is not expected to have a material impact on the Company’s Financial Statements.
In May 2014, the FASB issued ASU No. 2014-09 Revenue from Contracts with Customers. This update to the ASC is the culmination of efforts by the FASB and the International Accounting Standards Board (IASB) to develop a common revenue standard for U.S. GAAP and International Financial Reporting Standards (IFRS). ASU 2014-09 supersedes Topic 605 – Revenue Recognition and most industry-specific guidance. The core principal of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance in ASU 2014-09 describes a 5-step process entities can apply to achieve the core principle of revenue recognition and requires disclosures sufficient to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers and the significant judgments used in determining that information. The amendments in ASU 2014-9 are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period and early application is not allowed. The Company is currently evaluating the effects of ASU 2014-04 on its financial statements and disclosures, if any.
In June 2014, the FASB issued ASU No. 2014-12, Compensation – Stock Compensation –Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Services Period. The amendments in ASU 2014-12 provide guidance for determining compensation cost under specific circumstances when an employee is eligible to vest in an award regardless of whether the employee is rendering service on the date the performance target is achieved. ASU 2014-12 becomes effective for annual and interim periods beginning after December 15, 2015 with early adoption permitted. The adoption of ASU No. 2014-12 is not expected to have a material impact on the Company’s Financial Statements.
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Certain matters discussed in this Quarterly Report are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. Such risks and uncertainties include, among others, (1) significant increases in competitive pressures in the financial services industry; (2) changes in the interest rate environment resulting in reduced margins; (3) general economic conditions, either nationally or regionally, maybe less favorable than expected, resulting in, among other things, a deterioration in credit quality; (4) changes in regulatory environment; (5) loss of key personnel; (6) fluctuations in the real estate market; (7) changes in business conditions and inflation; (8) operational risks including data processing systems failures or fraud; and (9) changes in securities markets. Therefore, the information set forth herein should be carefully considered when evaluating the business prospects of Plumas Bancorp (the “Company”).
When the Company uses in this Quarterly Report the words “anticipate”, “estimate”, “expect”, “project”, “intend”, “commit”, “believe” and similar expressions, the Company intends to identify forward-looking statements. Such statements are not guarantees of performance and are subject to certain risks, uncertainties and assumptions, including those described in this Quarterly Report. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated, expected, projected, intended, committed or believed. The future results and stockholder values of the Company may differ materially from those expressed in these forward-looking statements. Many of the factors that will determine these results and values are beyond the Company’s ability to control or predict. For those statements, the Company claims the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.
INTRODUCTION
The following discussion and analysis sets forth certain statistical information relating to the Company as of June 30, 2014 and December 31, 2013 and for the six and three month periods ended June 30, 2014 and 2013. This discussion should be read in conjunction with the condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and the consolidated financial statements and notes thereto included in Plumas Bancorp’s Annual Report filed on Form 10-K for the year ended December 31, 2013.
Plumas Bancorp trades on The NASDAQ Capital Market under the ticker symbol “PLBC”.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
There have been no changes to the Company’s critical accounting policies from those disclosed in the Company’s 2013 Annual Report to Shareholders on Form 10-K.
This discussion should be read in conjunction with our unaudited condensed consolidated financial statements, including the notes thereto, appearing elsewhere in this report.
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OVERVIEW
The Company recorded net income of $2.1 million for the six months ended June 30, 2014, up $560 thousand from net income of $1.5 million during the six months ended June 30, 2013. The components of this increase were a $529 thousand increase in net interest income, a $650 thousand decline in the provision for loan losses and a $184 thousand increase in non-interest income. These items were partially offset by an increase of $349 thousand in non-interest expense and a $454 thousand increase in the provision for income taxes.
Net income allocable to common shareholders increased from $1.8 million or $0.36 per diluted share during the six months ended June 30, 2013 to $2.1 million or $0.42 per diluted share during the current six month period. Income allocable to common shareholders is calculated by subtracting dividends and discount amortized on preferred stock from net income. During the 2013 period income allocable to common shareholders benefited from a $530 thousand discount on redemption of preferred stock partially offset by $110 thousand in dividends and discount accretion on preferred stock.
Total assets at June 30, 2014 were $521 million, an increase of $5.5 million from December 31, 2013. This increase included an increase in net loans of $18.2 million partially offset by declines of $9.9 million in cash and cash equivalents, $2.5 million in Other Real Estate Owned (OREO) and $0.3 million in all other assets. Net loan balances increased from $334.4 million at December 31, 2013 to $352.6 million at June 30, 2014. Cash and cash equivalents declined from $49.9 million at December 31, 2013 to $40.0 million at June 30, 2014 and OREO declined from $6.4 million at December 31, 2013 to $3.9 million at June 30, 2014.
Deposits totaled $456.7 million at June 30, 2014, an increase of $7.3 million from December 31, 2013. Non-interest bearing demand deposits increased by $8.0 million while savings and money market accounts increased by $6.0 million. Interest bearing transaction accounts (NOW) accounts decreased by $3.4 million and time deposits declined by $3.3 million. Shareholders’ equity increased by $3.0 million from $30.6 million at December 31, 2013 to $33.6 million at June 30, 2014.
The annualized return on average assets was 0.80% for the six months ended June 30, 2014 up from 0.63% for the six months ended June 30, 2013. The annualized return on average common equity increased from 11.6% during the first six months of 2013 to 12.8% during the current six month period.
The following is a detailed discussion of each component affecting change in net income and the composition of our balance sheet.
RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 2014
Net interest income before provision for loan losses. Net interest income, on a nontax-equivalent basis, for the six months ended June 30, 2014 was $9.3 million, an increase of $529 thousand from the $8.8 million earned during the same period in 2013. The increase in net interest income includes an increase of $707 thousand in interest income and a decline of $44 thousand in interest expense on deposits. These items were partially offsetting by an increase in interest expense on other interest-bearing liabilities of $222 thousand. Related to the increase in interest expense on other interest-bearing liabilities and a decline in yield on the Company’s loan portfolio, net interest margin for the six months ended June 30, 2014 decreased 13 basis points, or 3%, to 4.02%, down from 4.15% for the same period in 2013.
Interest income increased by $707 thousand, or 7%, to $10.2 million for the six months ended June 30, 2014, up from $9.5 million during the same period in 2013. Interest and fees on loans increased $470 thousand to $9.4 million for the six months ended June 30, 2014 as compared to $8.9 million during the first half of 2013. The Company’s average loan balances were $344 million for the six months ended June 30, 2014, up $28.3 million, or 9%, from $316 million for the same period in 2013. The Company is focused on growing loan balances through a balanced and diversified approach.
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The following table compares loan balances by type at June 30, 2014 and 2013.
Real estate—residential
Real estate—commercial
Real estate—construction
Total Gross Loans
The average rate earned on the Company’s loan balances decreased by 19 basis points to 5.48% during the first six months of 2014 compared to 5.67% during the first six months of 2013. We attribute much of the decrease in yield to price competition in our service area.
Interest on investment securities increased by $230 thousand as a result of an increase in yield of 36 basis points from 1.33% during the first half of 2013 to 1.69% during the six months ended June 30, 2014 and an increase in average balance from $79.9 million in 2013 to $90.1 million in 2014. The increase in yield incudes an increase in government sponsored agency residential mortgage backed securities as a percentage of total securities and an increase in market yields.
Interest expense on deposits decreased by $44 thousand, or 14%, to $264 thousand for the six months ended June 30, 2014, down from $308 thousand during the 2013 period. This decrease mostly relates to decreases in the average balance and rate paid on time deposits.
Interest on time deposits declined by $37 thousand. Average time deposits declined by $7.1 million from $67.9 million during the six months ended June 30, 2013 to $60.8 million during the current period. We attribute much of the reduction in time deposit to the unusually low interest rate environment as we have seen a movement out of time into more liquid deposit types. The average rate paid on time deposits decreased from 0.45% during the six months ended June 30, 2013 to 0.38% during the current period. This decrease primarily relates to a decline in market rates paid in the Company’s service area and the maturity of higher rate deposits.
Interest expense on NOW accounts declined by $9 thousand. Rates paid on NOW accounts declined by 2 basis points from 0.11% during the six months ended June 30, 2013 to 0.09% during the six months ended June 30, 2014 related to a decline in market rates.
Interest expense on money market accounts decreased by $6 thousand related to a decrease in rate paid on these accounts of 3 basis points from 0.17% during the 2013 period to 0.14% during the current period. Interest expense on savings accounts increased by $8 thousand related to an increase in average balance from $78.1 million during the six months ended June 30, 2013 to $100.2 million during the current period.
Interest expense on other interest-bearing liabilities increased by $222 thousand from $370 thousand during the six months ending June 30, 2013 to $592 thousand during the current six month period. On April 15, 2013, to help fund the repurchase of preferred stock during 2013, the Company issued a $7.5 million subordinated debenture. The subordinated debt bears an interest rate of 7.5% per annum, has a term of 8 years with no prepayment allowed during the first two years and was made in conjunction with an eight-year warrant (the “Lender Warrant”) to purchase up to 300,000 shares of the Bancorp’s common stock, no par value at an exercise price, subject to anti-dilution adjustments, of $5.25 per share. The effective yield on the debenture was 10.4% which was in excess of the 7.5% rate due to amortization of a $75 thousand commitment fee and a discount recorded on issuance of $318 thousand. Interest expense related to the debenture increased by $217 thousand related to the debt being outstanding for an additional three and one-half months in 2014.
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On October 24, 2013 the Bancorp issued a $3 million promissory note payable to an unrelated commercial bank. The note bears interest at the U.S. “Prime Rate” plus three-quarters percent per annum (currently 4%), has a term of 18 months and is secured by 100 shares of Plumas Bank stock representing the Company’s 100% ownership interest in Plumas Bank. Proceeds from this note were used to help fund the redemption of the remaining preferred shares. Interest expense on this note for 2014 totaled $63 thousand.
Interest expense on junior subordinated debentures, which decreased by $10 thousand from 2013, fluctuates with changes in the 3-month London Interbank Offered Rate (LIBOR) rate. In addition, as a result of deferring our interest payments under the debentures during much of the first quarter of 2013 we were required to pay interest on the deferred interest payments. This had the effect of increasing interest expense and effective yield on the debentures. The deferred interest on the debentures was repaid in March of 2013.
Interest expense on other liabilities declined by $48 thousand from $51 thousand during the 2013 period to $3 thousand during the six months ended June 30, 2014. This item included interest on deferred dividends and interest on repurchase agreements during 2013, but during 2014 represents solely interest on repurchase agreements.
The following table presents for the six-month periods indicated the distribution of consolidated average assets, liabilities and shareholders’ equity. It also presents the amounts of interest income from interest-earning assets and the resultant annualized yields, as well as the amounts of interest expense on interest-bearing liabilities and the resultant cost expressed in both dollars and annualized rate percentages. Average balances are based on daily averages. Nonaccrual loans are included in the calculation of average loans while nonaccrued interest thereon is excluded from the computation of yields earned:
Interest-earning assets:
Loans (1) (2) (3)
Investment securities (1)
Interest-bearing deposits
Total interest-earning assets
Cash and due from banks
Other assets
Interest-bearing liabilities:
NOW deposits
Money market deposits
Savings deposits
Time deposits
Note Payable
Subordinated debentures
Junior subordinated debentures
Other interest-bearing liabilities
Total interest-bearing liabilities
Non-interest bearing deposits
Other liabilities
Shareholders’ equity
Total liabilities & equity
Cost of funding interest-earning assets (4)
Net interest income and margin (5)
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The following table sets forth changes in interest income and interest expense for the six-month periods indicated and the amount of change attributable to variances in volume, rates and the combination of volume and rates based on the relative changes of volume and rates:
Interest bearing deposits
Net interest income
Provision for loan losses. During the six months ended June 30, 2014 we recorded a provision for loan losses of $450 thousand down $650 thousand from the $1.1 million provision recorded during the first half of 2013. Approximately $0.7 million of the $1.1 million provision during 2013 was related to a specific reserve required on a significant land development loan. During June, 2013 this loan, which had a book balance of $2.3 million, was transferred to OREO and during the second quarter of 2014 the related OREO was sold. See “Analysis of Asset Quality and Allowance for Loan Losses” for further discussion of loan quality trends and the provision for loan losses.
The allowance for loan losses is maintained at a level that management believes will be appropriate to absorb probable incurred losses on existing loans based on an evaluation of the collectability of the loans and prior loan loss experience. The evaluations take into consideration such factors as changes in the nature and volume of the portfolio, overall portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrower’s ability to repay their loan. The allowance for loan losses is based on estimates, and ultimate losses may vary from the current estimates. These estimates are reviewed not less than quarterly and, as adjustments become necessary, they are reported in earnings in the periods in which they become known.
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Based on information currently available, management believes that the allowance for loan losses is appropriate to absorb probable incurred losses in the portfolio. However, no assurance can be given that the Company may not sustain charge-offs which are in excess of the allowance in any given period.
Non-interest income. During the six months ended June 30, 2014 non-interest income totaled $3.6 million an increase of $184 thousand from the six months ended June 30, 2013. The largest component of this increase was an increase of $240 thousand in service charge income which we attribute to growth in the Company’s demand deposit accounts, an increase in debit card interchange income and a restructuring of our service charge fee structure beginning in August of 2013. Other non-interest income increased by $126 thousand mostly related to increases in loan servicing income on previously sold SBA loans and an increase in dividends received on our Federal Home Loan Bank (FHLB) stock. These items were partially offset by a decline of $181 thousand in gains on the sale of government guaranteed loans. During the current period, proceeds from SBA loan sales totaled $11.8 million resulting in a gain on sale of $776 thousand. This compares to proceeds of $13.8 million and gain on sale of $957 thousand during the first half of 2013. Loans originated for sale were $9.1 million and $7.6 million during the six months ended June 30, 2014 and 2013, respectively.
The following table describes the components of non-interest income for the six-month periods ending June 30, 2014 and 2013, dollars in thousands:
Service charges on deposit accounts
Earnings on life insurance policies
Non-interest expense. During the six months ended June 30, 2014, total non-interest expense increased by $349 thousand, or 4%, to $9.0 million, up from $8.7 million for the comparable period in 2013. The largest components of this increase were $461 thousand in salary and benefit expense, $201 thousand in outside service fees, $115 thousand in OREO costs and $113 thousand in occupancy and equipment expense. The largest declines in non-interest expense were $279 thousand in provision for OREO losses, $151 thousand in professional fees and $87 thousand in deposit premium amortization.
Salaries and employee benefits increased by $461 thousand primarily related to an increase in bonus expense of $300 thousand. The Bank’s bonus plan for 2014 provides for a bonus pool of 60% of the amount that pretax income exceeds budgeted pretax income with a cap of $600 thousand. There was no bonus accrual during the first half of 2013. Salary expense increased by $97 thousand as a decline in one employee was offset by merit and promotional increases. In addition, payroll tax expense increased by $36 thousand.
Of the $201 thousand increase in outside service fees, $108 thousand was related to the outsourcing of our item processing beginning in June of 2013. This cost as been offset by savings in salary and benefit expense and software expense.
OREO represents real property acquired by the Bank either through foreclosure or through a deed in lieu thereof from the borrower. The increase in OREO costs during 2014 includes an increase of $76 thousand in legal expense as we are actively pursuing additional recoveries on selected OREO properties through legal channels. In addition OREO expense during 2014 includes costs to renovate several properties in an effort to increase their marketability.
The largest components of the increase in occupancy and equipment expense relate to an increase in rental expense at our Tahoe City branch related to a new lease agreement and an increase in equipment expense related to replacing our Windows XP personal computers with new computers utilizing Windows 7 as Windows XP is no longer being supported.
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When other real estate is acquired, any excess of the Bank’s recorded investment in the loan balance and accrued interest income over the estimated fair market value of the property less costs to sell is charged against the allowance for loan losses. A valuation allowance for losses on other real estate is maintained to provide for temporary declines in value. The allowance is established through a provision for subsequent losses on other real estate which is included in other expenses. Subsequent gains or losses on sales or write-downs resulting from impairment are recorded in other income or expensed as incurred. The provision for OREO losses declined by $279 thousand from $414 thousand during the six months ended June 30, 2014 to $135 thousand during the current period. During the second quarter of 2013 we recorded a $300 thousand provision related to one land development property.
Professional fees benefited from reductions in legal expense related to loan collection activities, corporate legal expense mostly related the repurchase of the preferred stock in 2013 and audit expense related to a change in audit firms beginning in 2014. The deposit premium intangible asset was fully amortized at the end of September, 2013 resulting in a savings of $87 thousand during the comparison periods.
The following table describes the components of non-interest expense for the six-month periods ending June 30, 2014 and 2013, dollars in thousands:
Outside service fees
Professional fees
OREO expense
FDIC insurance
Telephone and data communication
Director compensation and retirement
Provision for OREO losses
Business development
Advertising and shareholder relations
Armored car and courier
Loan and collection expenses
Stationery and supplies
Insurance expense
Postage
Deposit premium amortization
Gain on sale of OREO
Total non-interest expense
Provision for income taxes. The Company recorded an income tax provision of $1.4 million, or 39.7% of pre-tax income for the six months ended June 30, 2014. This compares to an income tax provision of $906 thousand, or 37.5% of pre-tax income for the six months ended June 30, 2013. The percentages for 2014 and 2013 differ from the statutory rate as tax exempt income such as earnings on Bank owned life insurance and municipal loan and investment income decrease the tax provision.
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Deferred tax assets and liabilities are recognized for the tax consequences of temporary differences between the reported amount of assets and liabilities and their tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The determination of the amount of deferred income tax assets which are more likely than not to be realized is primarily dependent on projections of future earnings, which are subject to uncertainty and estimates that may change given economic conditions and other factors. The realization of deferred income tax assets is assessed and a valuation allowance is recorded if it is “more likely than not” that all or a portion of the deferred tax asset will not be realized. “More likely than not” is defined as greater than a 50% chance. All available evidence, both positive and negative is considered to determine whether, based on the weight of that evidence, a valuation allowance is needed. Based upon the analysis of available evidence, management has determined that it is “more likely than not” that all deferred income tax assets as of June 30, 2014 and December 31, 2013 will be fully realized and therefore no valuation allowance was recorded. On the consolidated balance sheet, net deferred tax assets are included in accrued interest receivable and other assets.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 2014
Net Income. The Company recorded net income of $1.1 million for the three months ended June 30, 2014, up $234 thousand from net income of $891 thousand during the three months ended June 30, 2013. The components of this increase were a $276 thousand increase in net interest income, a $100 thousand decline in the provision for loan losses and a $196 thousand increase in non-interest income. These items were partially offset by a $163 thousand increase in non-interest expense and a $175 thousand increase in the provision for income taxes.
Net income allocable to common shareholders decreased from $1.3 million or $0.27 per diluted share during the three months ended June 30, 2013 to $1.1 million or $0.23 per diluted share during the current quarter. Income allocable to common shareholders is calculated by subtracting dividends and discount amortized on preferred stock from net income. In addition, during the 2013 quarter income allocable to common shareholders benefited from a $530 thousand discount on redemption of preferred stock.
The following is a detail discussion of each component of the change in net income.
Net interest income before provision for loan losses. Net interest income, on a nontax-equivalent basis, was $4.7 million for the three months ended June 30, 2014, an increase of $276 thousand, or 6%, from $4.5 million for the same period in 2013. The increase in net interest income includes an increase of $290 thousand in interest income and a decline of $22 thousand in interest expense on deposits. These items were partially offset by an increase in interest expense on other interest-bearing liabilities of $36 thousand. Mostly related to a decline in loan yield, net interest margin for the three months ended June 30, 2014 decreased 10 basis points, or 2%, to 4.04%, down from 4.14% for the same period in 2013.
Interest income increased by $290 thousand, or 6%, to $5.2 million for the three months ended June 30, 2014, up from $4.9 million during the same period in 2013. Interest and fees on loans increased $178 thousand to $4.8 million for the three months ended June 30, 2014 as compared to $4.6 million during the second quarter of 2013. The Company’s average loan balances were $352 million for the three months ended June 30, 2014, up $31.7 million, or 10%, from $320 million for the same period in 2013. The Company is focused on growing loan balances through a balanced and diversified approach.
The average yield on loans was 5.42% during the second quarter of 2014 down from 5.74% for same quarter in 2013. We attribute much of the decrease in yield to price competition in our service area.
Interest on investment securities increased by $111 thousand as a result of an increase in yield of 35 basis points from 1.36% during the second quarter of 2013 to 1.71% during the three months ended June 30, 2014 and an increase in average balance from $79.4 million in 2013 to $89.4 million in 2014. The increase in yield incudes an increase in government sponsored agency residential mortgage backed securities as a percentage of total securities and an increase in market yields.
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Interest expense on deposits decreased by $22 thousand, or 14%, to $131 thousand for the three months ended June 30, 2014, down from $153 thousand during the 2013 quarter. This decrease mostly relates to decreases in the average balance and rate paid on time deposits.
Interest on time deposits declined by $16 thousand. Average time deposits declined by $6.8 million from $66.9 million during the three months ended June 30, 2013 to $60.1 million during the current quarter. We attribute much of the reduction in time deposits to the unusually low interest rate environment as we have seen a movement out of time into more liquid deposit types. The average rate paid on time deposits decreased from 0.43% during the three months ended June 30, 2013 to 0.37% during the current quarter. This decrease primarily relates to a decline in market rates paid in the Company’s service area and the maturity of higher rate deposits.
Interest expense on NOW accounts declined by $5 thousand mostly related in a decline in rate paid. Rates paid on NOW accounts declined by 2 basis points from 0.11% during the quarter ended June 30, 2013 to 0.09% during the three months ended June 30, 2014 related to a decline in market rates.
Interest expense on money market accounts decreased by $4 thousand related to a decrease in rate paid on these accounts of 4 basis points from 0.17% during the 2013 quarter to 0.13% during the current quarter. Interest expense on savings accounts increased by $3 thousand related to an increase in average balance from $81.2 million during the three months ended June 30, 2013 to $100.9 million during the current quarter. The average rate paid on these accounts declined by 2 basis points to 0.16% during the three months ended June 30, 2014.
Interest expense on other interest-bearing liabilities increased by $36 thousand from $260 thousand during the three months ending June 30, 2013 to $296 thousand during the quarter ending June 30, 2014 related to an increase of interest expense on subordinated debt and the issuance of a $3 million promissory note in October 2013. Interest expense on the Company’s subordinated debenture totaled $189 thousand during the three months ended June 30, 2014 an increase of $29 thousand from $160 thousand during the same quarter in 2013. During the 2013 period this debenture was outstanding 77 days, while it was outstanding for the entire quarter in 2014.
On October 24, 2013 the Bancorp issued a $3 million promissory note payable to an unrelated commercial bank. The note bears interest at the U.S. “Prime Rate” plus three-quarters percent per annum (currently 4%), has a term of 18 months and is secured by 100 shares of Plumas Bank stock representing the Company’s 100% ownership interest in Plumas Bank. Proceeds from this note were used to help fund the redemption of the remaining preferred shares. Interest expense on this note for 2014 totaled $31 thousand.
Interest expense on other liabilities declined by $23 thousand from $24 thousand during the 2013 period to $1 thousand during the three months ended June 30, 2014. This item included interest on deferred dividends and interest on repurchase agreements during 2013, but during 2014 represents solely interest on repurchase agreements.
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The following table presents for the three-month periods indicated the distribution of consolidated average assets, liabilities and shareholders’ equity. It also presents the amounts of interest income from interest earning assets and the resultant annualized yields expressed in both dollars and annualized yield percentages, as well as, the amounts of interest expense on interest bearing liabilities and the resultant cost expressed in both dollars and annualized rate percentages. Average balances are based on daily averages. Nonaccrual loans are included in the calculation of average loans while nonaccrued interest thereon is excluded from the computation of yields earned:
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The following table sets forth changes in interest income and interest expense for the three-month periods indicated and the amount of change attributable to variances in volume, rates and the combination of volume and rates based on the relative changes of volume and rates:
Provision for loan losses. The Company recorded a $300 thousand provision for loan losses for the three months ended June 30, 2014 compared to the $400 thousand provision for loan losses for the three months ended June 30, 2013.
Based on information currently available, management believes that the allowance for loan losses is appropriate to absorb probable incurred losses in the portfolio. However, no assurance can be given that the Company may not sustain charge-offs which are in excess of the allowance in any given period. See “Analysis of Asset Quality and Allowance for Loan Losses” for further discussion of loan quality trends and the provision for loan losses.
Non-interest income. During the three months ended June 30, 2014 non-interest income increased by $196 thousand to $1.9 million up from $1.7 million during the three months ended June 30, 2013. The largest component of this increase was an increase of $121 thousand in service charge income which we attribute to growth in the Company’s demand deposit accounts, an increase in debit card interchange income and a restructuring of our service charge fee structure beginning in August of 2013. Other non-interest income increased by $63 thousand mostly related to increases in loan servicing income on previously sold SBA loans and an increase in dividends received on our FHLB stock. Gains on sale of SBA loans increased by $8 thousand from $436 thousand during the three months ended June 30, 2013 to $444 thousand during the current quarter.
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The following table describes the components of non-interest income for the three-month periods ending June 30, 2014 and 2013, dollars in thousands:
Non-interest expenses. Non-interest expense totaled $4.5 million during the three months ended June 30, 2014 an increase of $163 thousand from $4.3 million during the same period in 2013. The largest components of this increase were $311 thousand in salary and benefit expense, $117 thousand in outside service fees and $91 thousand in occupancy and equipment expense. The largest declines in non-interest expense were $300 thousand in provision for OREO losses, $79 thousand in professional fees and $43 thousand in deposit premium amortization.
Salaries and employee benefits increased by $311 thousand primarily related to increases in bonus expense of $150 thousand and salaries of $55 thousand. In addition, deferred loan origination costs, which reduce salary expense, decreased by $43 thousand. Salary expense increased by $55 thousand as a decline in one employee was offset by merit and promotional increases.
Of the $117 thousand increase in outside service fees, $55 thousand was related to the outsourcing of our item processing beginning in June of 2013. This cost as been offset by savings in salary and benefit expense and software expense. Additionally, $30 thousand of the increase was a recruitment fee for a new loan officer.
The provision for OREO losses declined by $300 thousand from $300 thousand during the three months ended June 30, 2013 to $0 during the current quarter. The $300 thousand provision recorded during the second quarter of 2013 was related to one land development property.
Professional fees benefited from reductions in legal expense related to loan collection activities and audit expense related to a change in audit firms beginning in 2014. The deposit premium intangible asset was fully amortized at the end of September, 2013 resulting in a savings of $43 thousand during the comparison quarters.
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The following table describes the components of non-interest expense for the three-month periods ending June 30, 2014 and 2013, dollars in thousands:
FDIC insurance and assessments
Provision for income taxes. The Company recorded income tax expense of $742 thousand, or 39.7% of pre-tax income for the three months ended June 30, 2014. This compares to income tax expense of $567 thousand, or 38.9% of pre-tax income for the three months ended June 30, 2013. The percentages for 2014 and 2013 differ from the statutory rate as tax exempt income such as earnings on Bank owned life insurance and municipal loan and investment income decrease taxable income.
FINANCIAL CONDITION
Loan Portfolio. Net loans increased by $18.2 million, an annualized rate of 11%, from $334.4 million at December 31, 2013 to $352.6 million at June 30, 2014. The Company continues to manage the mix of its loan portfolio consistent with its identity as a community bank serving the financing needs of all sectors of the area it serves. Although the Company offers a broad array of financing options, it continues to concentrate its focus on small to medium sized commercial businesses. These commercial loans offer diversification as to industries and types of businesses, thus limiting material exposure in any industry concentrations. The Company offers both fixed and floating rate loans and obtains collateral in the form of real property, business assets and deposit accounts, but looks to business and personal cash flows as its primary source of repayment.
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As shown in the following table the Company’s largest lending categories are commercial real estate loans, equity lines of credit, and automobile loans.
Construction and land development loans represented 5.9% and 5.3% of the loan portfolio as of June 30, 2014 and December 31, 2013, respectively. The construction and land development portfolio component has been identified by Management as a higher-risk loan category. The quality of the construction and land development category is highly dependent on property values both in terms of the likelihood of repayment once the property is transacted by the current owner as well as the level of collateral the Company has securing the loan in the event of default. Loans in this category are characterized by the speculative nature of commercial and residential development properties and can include property in various stages of development from raw land to finished lots. The decline in these loans as a percentage of the Company’s loan portfolio from over 21% at December 31, 2007 to less than 6% during the last two years reflects management’s efforts, which began in 2009, to reduce its exposure to construction and land development loans.
The Company’s real estate related loans, including real estate mortgage loans, real estate construction loans, consumer equity lines of credit, and agricultural loans secured by real estate comprised 76% of the total loan portfolio at June 30, 2014. Moreover, the business activities of the Company currently are focused in the California counties of Plumas, Nevada, Placer, Lassen, Modoc, Shasta, Sierra and in Washoe County in Northern Nevada. Consequently, the results of operations and financial condition of the Company are dependent upon the general trends in these economies and, in particular, the residential and commercial real estate markets. In addition, the concentration of the Company’s operations in these areas of Northeastern California and Northwestern Nevada exposes it to greater risk than other banking companies with a wider geographic base in the event of catastrophes, such as earthquakes, fires and floods in these regions.
The rates of interest charged on variable rate loans are set at specific increments in relation to the Company’s lending rate or other indexes such as the published prime interest rate or U.S. Treasury rates and vary with changes in these indexes. At June 30, 2014 and December 31, 2013, approximately 72% and 73%, respectively of the Company’s loan portfolio was comprised of variable rate loans. At June 30, 2014 and December 31, 2013, 41% and 40%, respectively of the variable loans were at their respective floor rate. While real estate mortgage, commercial and consumer lending remain the foundation of the Company’s historical loan mix, some changes in the mix have occurred due to the changing economic environment and the resulting change in demand for certain loan types. The most significant change has been an increase in indirect auto lending with automobile loans increasing from 2.5% of gross loans at December 31, 2011 to 10.7% of gross loans at June 30, 2014. The automobile portfolio provides diversification to the loan portfolio in terms of rate, term and balance as these loans tend to have a much shorter term and balance than commercial real-estate loans and are fixed rate. In addition, the Company remains committed to the agricultural industry in Northeastern California and will continue to pursue high quality agricultural loans. Agricultural loans include both commercial and commercial real estate loans. The Company’s agricultural loan balances totaled $32 million at June 30, 2014 and $31 million at December 31, 2013.
Analysis of Asset Quality and Allowance for Loan Losses. The Company attempts to minimize credit risk through its underwriting and credit review policies. The Company’s credit review process includes internally prepared credit reviews as well as contracting with an outside firm to conduct periodic credit reviews. The Company’s management and lending officers evaluate the loss exposure of classified and impaired loans on a quarterly basis, or more frequently as loan conditions change. The Management Asset Resolution Committee (MARC) reviews the asset quality of criticized and past due loans on a bimonthly basis and reports the findings to the full Board of Directors. The Board’s Loan Committee reviews the asset quality of new loans on a monthly basis and reports the findings to the full Board of Directors. In management’s opinion, this loan review system helps facilitate the early identification of potential criticized loans.
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The Company has implemented MARC to develop an action plan to significantly reduce nonperforming loans. It consists of members of executive management and credit administration management, and the activities are governed by a formal written charter. The MARC meets at least monthly and reports to the Board of Directors.
More specifically, a formal plan to effect repayment and/or disposition of every significant nonperforming loan relationship is developed and documented for review and on-going oversight by the MARC. Some of the strategies used include but are not limited to: 1) obtaining additional collateral, 2) obtaining additional investor cash infusion, 3) sale of the promissory note to an outside party, 4) proceeding with foreclosure on the underlying collateral, and 5) legal action against borrower/guarantors to encourage settlement of debt and/or collect any deficiency balance owed. Each step includes a benchmark timeline to track progress.
MARC also provides guidance for the maintenance and timely disposition of OREO properties; including developing financing and marketing programs to incent individuals to purchase OREO.
The allowance for loan losses is established through charges to earnings in the form of the provision for loan losses. Loan losses are charged to and recoveries are credited to the allowance for loan losses. The allowance for loan losses is maintained at a level deemed appropriate by management to provide for known and inherent risks in the loan portfolio. The adequacy of the allowance for loan losses is based upon management’s continuing assessment of various factors affecting the collectability of loans; including current economic conditions, maturity of the portfolio, size of the portfolio, industry concentrations, borrower credit history, collateral, the existing allowance for loan losses, independent credit reviews, current charges and recoveries to the allowance for loan losses and the overall quality of the portfolio as determined by management, regulatory agencies, and independent credit review consultants retained by the Company. There is no precise method of predicting specific losses or amounts which may ultimately be charged off on particular segments of the loan portfolio. The collectability of a loan is subjective to some degree, but must relate to the borrower’s financial condition, cash flow, quality of the borrower’s management expertise, collateral and guarantees, and state of the local economy.
Formula allocations are calculated by applying loss factors to outstanding loans with similar characteristics. Loss factors are based on the Company’s historical loss experience as adjusted for changes in the business cycle and may be adjusted for significant factors that, in management’s judgment, affect the collectability of the portfolio as of the evaluation date. Historical loss data from the beginning of the latest business cycle are incorporated in the loss factors.
The discretionary allocation is based upon management’s evaluation of various loan segment conditions that are not directly measured in the determination of the formula and specific allowances. The conditions may include, but are not limited to, general economic and business conditions affecting the key lending areas of the Company, credit quality trends, collateral values, loan volumes and concentrations, and other business conditions.
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The following table provides certain information for the dates indicated with respect to the Company’s allowance for loan losses as well as charge-off and recovery activity.
Balance at beginning of period
Charge-offs:
Commercial and agricultural
Real estate mortgage
Real estate construction
Consumer (includes equity LOC & Auto)
Total charge-offs
Recoveries:
Total recoveries
Net charge-offs
Balance at end of period
Net charge-offs during the period to average loans (annualized for the six month periods)
Allowance for loan losses to total loans
During the six months ended June 30, 2014 we recorded a provision for loan losses of $450 thousand down $650 thousand from the $1.1 million provision recorded during the six months ended June 30, 2013. Net charge-offs totaled $609 thousand a decline of $914 thousand from net charge-offs of $1.5 million during the six months ended June 30, 2013.
The following table provides a breakdown of the allowance for loan losses at June 30, 2014 and December 31, 2013:
The allowance for loan losses totaled $5.4 million at June 30, 2014 and $5.5 million at December 31, 2013. Specific reserves related to impaired loans increased from $629 thousand at December 31, 2013 to $824 thousand at June 30, 2014. At least quarterly the Company evaluates each specific reserve and if it determines that the loss represented by the specific reserve is uncollectable it records a charge-off for the uncollectable portion. General reserves decreased by $354 thousand to $4.5 million at June 30, 2014. The allowance for loan losses as a percentage of total loans decreased from 1.63% at December 31, 2013 to 1.50% at June 30, 2014. The percentage of general reserves to unimpaired loans decreased from 1.49% at December 31, 2013 to 1.30% primarily related to reductions in historical net charge-offs.
The Company places loans 90 days or more past due on nonaccrual status unless the loan is well secured and in the process of collection. A loan is considered to be in the process of collection if, based on a probable specific event, it is expected that the loan will be repaid or brought current. Generally, this collection period would not exceed 90 days. When a loan is placed on nonaccrual status the Company’s general policy is to reverse and charge against current income previously accrued but unpaid interest. Interest income on such loans is subsequently recognized only to the extent that cash is received and future collection of principal is deemed by management to be probable. Where the collectability of the principal or interest on a loan is considered to be doubtful by management, it is placed on nonaccrual status prior to becoming 90 days delinquent.
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Impaired loans are measured based on the present value of the expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent. The amount of impaired loans is not directly comparable to the amount of nonperforming loans disclosed later in this section. The primary difference between impaired loans and nonperforming loans is that impaired loan recognition considers not only loans 90 days or more past due, restructured loans and nonaccrual loans but also may include identified problem loans other than delinquent loans where it is considered probable that we will not collect all amounts due to us (including both principal and interest) in accordance with the contractual terms of the loan agreement.
A restructuring of a debt constitutes a troubled debt restructuring (TDR) if the Company, for economic or legal reasons related to the debtor’s financial difficulties, grants a concession to the debtor that it would not otherwise consider. Restructured workout loans typically present an elevated level of credit risk as the borrowers are not able to perform according to the original contractual terms. Loans that are reported as TDRs are considered impaired and measured for impairment as described above.
Loans restructured (TDRs) and not included in nonperforming loans in the following table totaled $2.1 million, $4.5 million, $5.4 million, $8.6 million and $2.0 million at June 30, 2014 and December 31, 2013, 2012, 2011 and 2010, respectively. For additional information related to restructured loans see Note 5 of the Company’s Condensed Consolidated Financial Statements in this quarterly report on form 10Q.
The following table sets forth the amount of the Company’s nonperforming assets as of the dates indicated.
Nonaccrual loans
Loans past due 90 days or more and still accruing
Total nonperforming loans
Other real estate owned
Other vehicles owned
Total nonperforming assets
Interest income forgone on nonaccrual loans
Interest income recorded on a cash basis on nonaccrual loans
Nonperforming loans to total Loans
Nonperforming assets to total Assets
Nonperforming loans at June 30, 2014 were $6.9 million, an increase of $1.4 million from the $5.5 million balance at December 31, 2013. Specific reserves on nonaccrual loans totaled $787 thousand at June 30, 2014 and $578 thousand at December 31, 2013, respectively. Performing loans past due thirty to eighty-nine days decreased from $1.5 million at December 31, 2013 to $1.1 million at June 30, 2014.
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A substandard loan is not adequately protected by the current sound worth and paying capacity of the borrower or the value of the collateral pledged, if any. Total substandard loans increased by $211 thousand from $7.5 million at December 31, 2013 to $7.7 million at June 30, 2014. Loans classified as watch decreased by $1.6 million from $5.8 million at December 31, 2013 to $4.2 million at June 30, 2014. At June 30, 2014, $2.2 million of performing loans were classified as substandard. Further deterioration in the credit quality of individual performing substandard loans or other adverse circumstances could result in the need to place these loans on nonperforming status.
At June 30, 2014 and December 31, 2013, the Company’s recorded investment in impaired loans totaled $8.9 million and $9.8 million, respectively. The specific allowance for loan losses related to impaired loans totaled $824 thousand and $629 thousand at June 30, 2014 and December 31, 2013, respectively. Additionally, $0.7 million has been charged off against the impaired loans at June 30, 2014 and December 31 2013.
It is the policy of management to make additions to the allowance for loan losses so that it remains appropriate to absorb the inherent risk of loss in the portfolio. Management believes that the allowance at June 30, 2014 is appropriate. However, the determination of the amount of the allowance is judgmental and subject to economic conditions which cannot be predicted with certainty. Accordingly, the Company cannot predict whether charge-offs of loans in excess of the allowance may occur in future periods.
OREO represents real property acquired by the Bank either through foreclosure or through a deed in lieu thereof from the borrower. Repossessed assets include vehicles and other commercial assets acquired under agreements with delinquent borrowers. OREO holdings represented twenty-two properties totaling $3.9 million at June 30, 2014 and twenty-six properties totaling $6.4 million at December 31, 2013. During June 2014 the Company sold its largest property in OREO, a land development property with an OREO value of $2.2 million which represented 36% of the total OREO balance prior to sale. A gain of $28 thousand was recorded on the sale of this property. Nonperforming assets as a percentage of total assets were 2.07% at June 30, 2014 and 2.33% at December 31, 2013.
The following table provides a summary of the change in the number and balance of OREO properties for the six months ended June 30, 2014 and 2013, dollars in thousands:
Beginning Balance
Additions
Dispositions
Ending Balance
Investment Portfolio and Federal Funds Sold. Total investment securities increased by $0.5 million from $90.3 million as of December 31, 2013 to $90.8 million as of June 30, 2014. The investment portfolio at June 30, 2014 consisted of $84.3 million in securities of U.S. Government-sponsored agencies, 24 municipal securities totaling $6.0 million and one corporate security totaling $0.5 million. Included in the $90.3 million at December 31, 2013 were $89.0 million in securities of U.S. Government-sponsored agencies and six municipal securities totaling $1.3 million.
There were no Federal funds sold at June 30, 2014 and December 31, 2013; however, the Bank maintained interest earning balances at the Federal Reserve Bank (FRB) totaling $17.2 million at June 30, 2014 and $29.1 million at December 31, 2013. These balances currently earn 25 basis points.
The Company classifies its investment securities as available-for-sale or held-to-maturity. Currently all securities are classified as available-for-sale. Securities classified as available-for-sale may be sold to implement the Company’s asset/liability management strategies and in response to changes in interest rates, prepayment rates and similar factors.
Deposits. During 2013 and continuing into 2014 we have experienced strong core deposit growth and have benefited from the closing of two branches of a large national bank in our service area. Total deposits increased by $7.3 million from $449 million at December 31, 2013 to $457 million at June 30, 2014.
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The Company continues to manage the mix of its deposits consistent with its identity as a community bank serving the financial needs of its customers. The following table shows the distribution of deposits by type at June 30, 2014 and December 31, 2013.
NOW
Money Market
Savings
Time
Total Deposits
Deposits represent the Bank’s primary source of funds. Deposits are primarily core deposits in that they are demand, savings and time deposits generated from local businesses and individuals. These sources are considered to be relatively stable, long-term relationships thereby enhancing steady growth of the deposit base without major fluctuations in overall deposit balances. The Company experiences, to a small degree, some seasonality with the slower growth period between November through April, and the higher growth period from May through October. In order to assist in meeting any funding demands, the Company maintains a secured borrowing arrangement with the Federal Home Loan Bank of San Francisco (FHLB). There were no brokered deposits at June 30, 2014 or December 31, 2013.
Short-term Borrowing Arrangements. The Company is a member of the FHLB and can borrow up to $114,000,000 from the FHLB secured by commercial and residential mortgage loans with carrying values totaling $190,000,000. The Company is required to hold FHLB stock as a condition of membership. At June 30, 2014 and December 31, 2013, the Company held $2,380,000 and $2,226,000, respectively of FHLB stock which is recorded as a component of other assets. Based on this level of stock holdings at June 30, 2014, the Company can borrow up to $50,600,000. To borrow the $114,000,000 in available credit the Company would need to purchase $2,978,000 in additional FHLB stock. In addition to its FHLB borrowing line, the Company has unsecured short-term borrowing agreements with three of its correspondent banks in the amounts of $11 million, $10 million and $10 million. There were no outstanding borrowings under the FHLB or the correspondent bank borrowing lines at June 30, 2014 or December 31, 2013.
Note Payable. On October 24, 2013 the Bancorp issued a $3 million promissory note (the “Note”) payable to an unrelated commercial bank. The note bears interest at the U.S. “Prime Rate” plus three-quarters percent per annum, 4.00% at June 30, 2014 and December 31, 2013, has a term of 18 months and is secured by 100 shares of Plumas Bank stock representing the Company’s 100% ownership interest in Plumas Bank. Interest expense related to this note for the six months ended June 30, 2014 totaled $63,000. Under the Note the Bank is required to maintain specified levels of capital and to meet or exceed certain capital and asset quality ratios. The Bank was in compliance with all such requirements at June 30, 2014.
On July 28, 2014, Plumas Bancorp entered into a Renewal, Extension, and Modification of Loan Agreement (the “Agreement”) related to its promissory note dated October 24, 2013. This Agreement provides for the following changes, among others:
The above provisions are subject to the following conditions:
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Repurchase Agreements. In 2011 Plumas Bank introduced a product for their larger business customers which use repurchase agreements as an alternative to interest-bearing deposits. The balance in this product at June 30, 2014 was $4.1 million a decline of $5.0 million from the December 31, 2013 balance of $9.1 million. Interest paid on this product is similar to that which is paid on the Bank’s premium money market account; however, these are not deposits and are not FDIC insured.
Subordinated Debentures. On April 15, 2013, to help fund the repurchase of preferred stock during 2013, the Company issued a $7.5 million subordinated debenture. The subordinated debt bears an interest rate of 7.5% per annum, has a term of 8 years with no prepayment allowed during the first two years and was made in conjunction with an eight-year warrant (the “Lender Warrant”) to purchase up to 300,000 shares of the Bancorp’s common stock, no par value at an exercise price, subject to anti-dilution adjustments, of $5.25 per share. The effective yield on the debenture was 10.4% which was in excess of the 7.5% rate due to amortization of a $75 thousand commitment fee and a discount recorded on issuance of $318 thousand. Interest expense related to the subordinated debt for the six months ended June 30, 2014 and 2013 was $377 thousand and $160 thousand, respectively.
The subordinated debt agreement provides that in the event of default with respect to the subordinated debt, the Bancorp will be subject to certain restrictions on the payment of dividends and distributions to shareholders, repurchase or redemption of the Bancorp’s securities and payment on certain debts or guarantees. The subordinated debenture agreement also provides that in the event of default, Lender will have the right to appoint a director to the Bancorp’s board of directors and/or the Plumas Bank board in certain limited circumstances.
Under current capital guidelines the subordinated debt qualifies as Tier 2 capital; however, under Basel III guidelines effective January 1, 2015 it does not qualify for regulatory capital.
Junior Subordinated Deferrable Interest Debentures. Plumas Statutory Trust I and II are Connecticut business trusts formed by the Company with capital of $301,000 and $160,000, respectively, for the sole purpose of issuing trust preferred securities fully and unconditionally guaranteed by the Company. Under current applicable regulatory guidance, the amount of trust preferred securities (TRUPS) that is eligible as Tier 1 capital is limited to twenty-five percent of the Company’s Tier 1 capital, as defined, on a pro forma basis. At June 30, 2014, all of the trust preferred securities that have been issued qualify as Tier 1 capital. Under Basel III guidelines the twenty-five percent limitation applies to Tier 1 capital exclusive of the TRUPS which we expect will result in a portion of the TRUPS not qualifying as Tier 1 capital. The amount of the TRUPS that does not qualify as Tier 1 capital will be included in Tier 2 capital.
During 2002, Plumas Statutory Trust I issued 6,000 Floating Rate Capital Trust Pass-Through Securities (“Trust Preferred Securities”), with a liquidation value of $1,000 per security, for gross proceeds of $6,000,000. During 2005, Plumas Statutory Trust II issued 4,000 Trust Preferred Securities with a liquidation value of $1,000 per security, for gross proceeds of $4,000,000. The entire proceeds were invested by Trust I in the amount of $6,186,000 and Trust II in the amount of $4,124,000 in Floating Rate Junior Subordinated Deferrable Interest Debentures (the “Subordinated Debentures”) issued by the Company, with identical maturity, repricing and payment terms as the Trust Preferred Securities. The Subordinated Debentures represent the sole assets of Trusts I and II.
Trust I’s Subordinated Debentures mature on September 26, 2032, bear a current interest rate of 3.65% (based on 3-month LIBOR plus 3.40%), with repricing and payments due quarterly. Trust II’s Subordinated Debentures mature on September 28, 2035, bear a current interest rate of 1.72% (based on 3-month LIBOR plus 1.48%), with repricing and payments due quarterly. The interest rate of the Trust Preferred Securities issued by Trust I adjust on each quarterly anniversary date to equal the 3-month LIBOR plus 3.40%. The Trust Preferred Securities issued by Trust II adjust on each quarterly anniversary date to equal the 3-month LIBOR plus 1.48%. Both Trusts I and II have the option to defer payment of the distributions for a period of up to five years, as long as the Company is not in default on the payment of interest on the Subordinated Debentures.
Interest expense recognized by the Company for the six months ended June 30, 2014 and 2013 related to the junior subordinated debentures was $149,000 and $159,000, respectively.
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Capital Resources
Related to total comprehensive income of $3.0 million shareholders’ equity increased from $30.6 million at December 31, 2013 to $33.6 million at June 30, 2014.
It is the policy of the Company to periodically distribute excess retained earnings to the shareholders through the payment of cash dividends. Such dividends help promote shareholder value and capital adequacy by enhancing the marketability of the Company’s stock. All authority to provide a return to the shareholders in the form of a cash or stock dividend or split rests with the Board of Directors (the “Board). The Board will periodically, but on no regular schedule, review the appropriateness of a cash dividend payment. Banking regulations limit the amount of dividends that may be paid without prior approval of regulatory agencies. No common cash dividends were paid during the last five years.
The Company is subject to various restrictions on the payment of dividends.
Capital Standards.
The Company uses a variety of measures to evaluate its capital adequacy, with risk-based capital ratios calculated separately for the Company and the Bank. Management reviews these capital measurements on a monthly basis and takes appropriate action to ensure that they are within established internal and external guidelines. The FDIC has promulgated risk-based capital guidelines for all state non-member banks such as the Bank. These guidelines establish a risk-adjusted ratio relating capital to different categories of assets and off-balance sheet exposures. There are two categories of capital under the guidelines: Tier 1 capital includes common stockholders’ equity, and qualifying trust-preferred securities (including notes payable to unconsolidated special purpose entities that issue trust-preferred securities), less goodwill and certain other deductions, notably the unrealized net gains or losses (after tax adjustments) on available-for-sale investment securities carried at fair market value; Tier 2 capital can include qualifying subordinated debt and the allowance for loan losses, subject to certain limitations. The Series A Preferred Stock qualifies as Tier 1 capital for the Company.
The following table presents the Company’s and the Bank’s capital ratios as of June 30, 2014 and December 31, 2013 (amounts in thousands except percentage amounts).
Tier 1 Leverage Ratio
Plumas Bancorp and Subsidiary
Minimum requirement for “Well-Capitalized” institution under the prompt corrective action plan
Plumas Bank
Minimum regulatory requirement
Tier 1 Risk-Based Capital Ratio
Total Risk-Based Capital Ratio
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Management believes that the Company and the Bank currently meet all their capital adequacy requirements.
The current and projected capital positions of the Company and the Bank and the impact of capital plans and long-term strategies are reviewed regularly by management. The Company policy is to maintain the Bank’s ratios above the prescribed well-capitalized leverage, Tier 1 risk-based and total risk-based capital ratios of 5%, 6% and 10%, respectively, at all times.
New Capital Rules.
On July 2, 2013, the FRB approved the final rules implementing the Basel Committee on Banking Supervision’s capital guidelines for U.S. banks. Under the final rules, minimum requirements will increase for both the quantity and quality of capital held by the Company. The rules include a new common equity Tier 1 capital to risk-weighted assets ratio of 4.5% and a common equity Tier 1 capital conservation buffer of 2.5% of risk-weighted assets. The final rules also raise the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0% and require a minimum leverage ratio of 4.0%. The final rules also implement strict eligibility criteria for regulatory capital instruments. On July 9, 2013, the FDIC also approved, as an interim final rule, the regulatory capital requirements for U.S. banks, following the actions of the FRB. The FDIC’s rule is identical in substance to the final rules issued by the FRB.
The phase-in period for the final rules will begin for the Company on January 1, 2015, with full compliance with all of the final rule’s requirements phased in over a multi-year schedule. Management believes that as of June 30, 2014, the Bank’s capital levels would remain “well-capitalized” under the new rules.
Off-Balance Sheet Arrangements
Loan Commitments. In the normal course of business, there are various commitments outstanding to extend credits that are not reflected in the financial statements. Commitments to extend credit and letters of credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Annual review of commercial credit lines, letters of credit and ongoing monitoring of outstanding balances reduces the risk of loss associated with these commitments. As of June 30, 2014, the Company had $85.8 million in unfunded loan commitments and $50 thousand in letters of credit. This compares to $84.2 million in unfunded loan commitments and $60 thousand in letters of credit at December 31, 2013. Of the $85.8 million in unfunded loan commitments, $44.7 million and $41.1 million represented commitments to commercial and consumer customers, respectively. Of the total unfunded commitments at June 30, 2014, $42.2 million were secured by real estate, of which $15.9 million was secured by commercial real estate and $26.3 million was secured by residential real estate in the form of equity lines of credit. The commercial loan commitments not secured by real estate primarily represent business lines of credit, while the consumer loan commitments not secured by real estate primarily represent revolving credit card lines and overdraft protection lines. Since some of the commitments are expected to expire without being drawn upon the total commitment amounts do not necessarily represent future cash requirements.
Operating Leases. The Company leases one depository branch, three lending offices and one loan administration office and two non-branch automated teller machine locations. Total rental expenses under all operating leases totaled $128,000 and $94,000 during six months ended June 31, 2014 and 2013, respectively. The increase from 2013 mostly relates to an increase in rent at our Tahoe City, California branch. The expiration dates of the leases vary, with the first such lease expiring during 2015 and the last such lease expiring during 2016.
Liquidity
The Company manages its liquidity to provide the ability to generate funds to support asset growth, meet deposit withdrawals (both anticipated and unanticipated), fund customers’ borrowing needs, satisfy maturity of short-term borrowings and maintain reserve requirements. The Company’s liquidity needs are managed using assets or liabilities, or both. On the asset side, in addition to cash and due from banks, the Company maintains an investment portfolio which includes unpledged U.S. Government-sponsored agency securities that are classified as available-for-sale. On the liability side, liquidity needs are managed by charging competitive offering rates on deposit products and the use of established lines of credit.
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The Company is a member of the FHLB and can borrow up to $114,000,000 from the FHLB secured by commercial and residential mortgage loans with carrying values totaling $190,000,000. See “Short-term Borrowing Arrangements” for additional information on our FHLB borrowing capacity. In addition to its FHLB borrowing line, the Company has unsecured short-term borrowing agreements with three of its correspondent banks in the amounts of $11 million, $10 million and $10 million. There were no outstanding borrowings under the FHLB or the correspondent bank borrowing lines at June 30, 2014 or December 31, 2013.
Customer deposits are the Company’s primary source of funds. Total deposits increased by $7.3 million from $449 million at December 31, 2013 to $457 million at June 30, 2014. Deposits are held in various forms with varying maturities. The Company’s securities portfolio, Federal funds sold, FHLB advances, and cash and due from banks serve as the primary sources of liquidity, providing adequate funding for loans during periods of high loan demand. During periods of decreased lending, funds obtained from the maturing or sale of investments, loan payments, and new deposits are invested in short-term earning assets, such as cash held at the FRB, Federal funds sold and investment securities, to serve as a source of funding for future loan growth. Management believes that the Company’s available sources of funds, including borrowings, will provide adequate liquidity for its operations in the foreseeable future.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a smaller reporting company we are not required to provide the information required by this item.
ITEM 4. CONTROLS AND PROCEDURES
The Company’s Chief Executive Officer and Chief Financial Officer, based on their evaluation of the Company’s disclosure controls and procedures as of the end of the Company’s fiscal quarter ended June 30, 2014 (as defined in Exchange Act Rule 13a—15(e), have concluded that the Company’s disclosure controls and procedures are adequate and effective for purposes of Rule 13a—15(e) in timely alerting them to material information relating to the Company required to be included in the Company’s filings with the SEC under the Securities Exchange Act of 1934.
There were no changes in internal control over financial reporting during the fiscal quarter ended June 30, 2014 that have materially affected, or are reasonably likely to materially affect, the registrant’s internal control over financial reporting.
PART II — OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, the Company and/or its subsidiaries are a party to claims and legal proceedings arising in the ordinary course of business. In the opinion of the Company’s management, the amount of ultimate liability with respect to such proceedings will not have a material adverse effect on the financial condition or results of operations of the Company taken as a whole.
ITEM 1A RISK FACTORS
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(b) None.
(c) None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5. OTHER INFORMATION
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ITEM 6. EXHIBITS
The following documents are included or incorporated by reference in this Quarterly Report on Form 10Q:
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SIGNATURES
Pursuant to the requirements 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.
(Registrant)
Date: August 6, 2014
/s/ Richard L. Belstock
Richard L. Belstock
Chief Financial Officer
/s/ Andrew J. Ryback
Andrew J. Ryback
President and Chief Executive Officer
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