UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
For the quarterly period ended September 30, 2015
Commission file number 001-34096
BRIDGE BANCORP, INC.
(Exact name of registrant as specified in its charter)
Registrant’s telephone number, including area code: (631) 537-1000
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 xNo ¨
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).
Yesx 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. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
There were 17,384,490 shares of common stock outstanding as of November 5, 2015.
Table of Contents
See accompanying condensed notes to the Unaudited Consolidated Financial Statements.
BRIDGE BANCORP, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income (unaudited)
(In thousands)
Consolidated Statements of Stockholders’ Equity (unaudited)
(In thousands, except per share amounts)
Consolidated Statements of Cash Flows (unaudited)
CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. BASIS OF PRESENTATION
Bridge Bancorp, Inc. (the “Company”) is a bank holding company incorporated under the laws of the State of New York. The Company’s business currently consists of the operations of its wholly-owned subsidiary, The Bridgehampton National Bank (the “Bank”). The Bank’s operations include its real estate investment trust subsidiary, Bridgehampton Community, Inc. (“BCI”), a financial title insurance subsidiary, Bridge Abstract LLC (“Bridge Abstract”), and Bridge Financial Services, Inc. (“Bridge Financial Services”), an investment services subsidiary. In addition to the Bank, the Company has another subsidiary, Bridge Statutory Capital Trust II which was formed in 2009. In accordance with current accounting guidance, the trust is not consolidated in the Company’s financial statements.
The accompanying Unaudited Consolidated Financial Statements, which include the accounts of the Company and its wholly-owned subsidiary, the Bank, have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The Unaudited Consolidated Financial Statements included herein reflect all normal recurring adjustments that are, in the opinion of management, necessary for a fair presentation of the results for the interim periods presented. In preparing the interim financial statements, management has made estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expense during the reported periods. Such estimates are subject to change in the future as additional information becomes available or previously existing circumstances are modified. Actual future results could differ significantly from those estimates. The annualized results of operations for the three and nine months ended September 30, 2015 are not necessarily indicative of the results of operations that may be expected for the entire fiscal year. Certain information and note disclosures normally included in the financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Certain reclassifications have been made to prior year amounts, and the related discussion and analysis, to conform to the current year presentation. These reclassifications did not have an impact on net income or total stockholders’ equity. The Unaudited Consolidated Financial Statements should be read in conjunction with the Audited Consolidated Financial Statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.
2. EARNINGS PER SHARE
Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) No. 260-10-45 addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing earnings per share (“EPS”). The restricted stock awards and certain restricted stock units granted by the Company contain non-forfeitable rights to dividends and therefore are considered participating securities. The two-class method for calculating basic EPS excludes dividends paid to participating securities and any undistributed earnings attributable to participating securities.
The computation of EPS for the three and nine months ended September 30, 2015 and 2014 is as follows:
There were 41,100 options outstanding at September 30, 2014 that were not included in the computation of diluted earnings per share because the options’ exercise prices were greater than the average market price of common stock and were, therefore, antidilutive. There were no stock options that were antidilutive at September 30, 2015. The $16.0 million in convertible trust preferred securities outstanding at September 30, 2015 and September 30, 2014 were not included in the computation of diluted earnings per share because the assumed conversion of the trust preferred securities was antidilutive.
3. STOCK BASED COMPENSATION PLANS
The Compensation Committee of the Board of Directors determines stock options and restricted stock awarded under the Bridge Bancorp, Inc. Equity Incentive Plan (“Plan”) and the Company accounts for this Plan under the FASB ASC No. 718 and 505. On May 4, 2012, the stockholders of the Company approved the Company’s 2012 Stock-Based Incentive Plan which supersedes the Bridge Bancorp, Inc. Equity Incentive Plan that was approved in 2006 (the “2006 Plan”). The plan provides for the grant of stock-based and other incentive awards to officers, employees and directors of the Company.
No new grants of stock options were awarded and no compensation expense was attributable to stock options for the nine months ended September 30, 2015 and September 30, 2014 because all stock options were vested.
The intrinsic value for stock options is calculated based on the exercise price of the underlying awards and the market price of our common stock as of the exercise or reporting date. The intrinsic value of options exercised during the nine months ended September 30, 2015 and September 30, 2014, was $6,000 and $1,000, respectively. The intrinsic value of options outstanding and exercisable at September 30, 2015 and September 30, 2014 was $48,000 and $0, respectively.
A summary of the status of the Company’s stock options as of and for the nine months ended September 30, 2015 is as follows:
During the nine months ended September 30, 2015, restricted stock awards of 66,987 shares were granted. Of the 66,987 shares granted, 30,625 shares vest over seven years with a third vesting after years five, six and seven, 24,812 shares vest over five years with a third vesting after years three, four and five, 10,550 shares vest ratably over five years and the remaining 1,000 shares vest ratably over approximately two years. During the nine months ended September 30, 2014, restricted stock awards of 80,073 shares were granted. Of the 80,073 shares granted, 53,425 shares vest over seven years with a third vesting after years five, six and seven, 20,398 shares vest over five years with a third vesting after years three, four and five and the remaining 6,250 shares vest ratably over approximately two years. Compensation expense attributable to restricted stock awards was $328,000 and $932,000 for the three and nine months ended September 30, 2015, respectively, and $289,000 and $803,000 for the three and nine months ended September 30, 2014, respectively.
A summary of the status of the Company’s unvested restricted stock as of and for the nine months ended September 30, 2015 is as follows:
Effective for 2015, the Board revised the design of the Long Term Incentive Plan (“LTI Plan”) for Named Executive Officers (“NEOs”) to include performance based awards. The LTI Plan includes 60% performance vested awards based on 3-year relative Total Shareholder Return (“TSR”) to the proxy peer group and 40% time vested awards. The awards are in the form of restricted stock units and cliff vest after five years and require an additional two year holding period before the restricted stock units are delivered in shares of common stock. The Company recorded expenses of approximately $23,000 and $59,000 for the three and nine months ended September 30, 2015, respectively.
In April 2009, the Company adopted a Directors Deferred Compensation Plan. Under the Plan, independent directors may elect to defer all or a portion of their annual retainer fee in the form of restricted stock units. In addition, Directors receive a non-election retainer in the form of restricted stock units. These restricted stock units vest ratably over one year and have dividend rights but no voting rights. In connection with this Plan, the Company recorded expenses of approximately $115,000 and $227,000 for the three and nine months ended September 30, 2015, respectively, and $34,000 and $113,000 for the three and nine months ended September 30, 2014, respectively.
4. SECURITIES
The following table summarizes the amortized cost and fair value of the available for sale and held to maturityinvestment securities portfolio at September 30, 2015 and December 31, 2014 and the corresponding amounts of unrealized gains and losses therein:
The following table summarizes the amortized cost, fair value and maturities of the available for sale and held to maturityinvestment securities portfolio at September 30, 2015. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Securities with unrealized losses at September 30, 2015 and December 31, 2014, aggregated by category and length of time that individual securities have been in a continuous unrealized loss position, are as follows:
Other-Than-Temporary-Impairment
Management evaluates securities for other-than-temporary impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant. The investment securities portfolio is evaluated for OTTI by segregating the portfolio into two general segments and applying the appropriate OTTI model. Investment securities classified as available for sale or held-to-maturity are generally evaluated for OTTI under FASB ASC 320, Accounting for Certain Investments in Debt and Equity Securities. In determining OTTI under the FASB ASC 320 model, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the Company has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery.If either of the criteria regarding intent or requirement to sell is met, the entire difference between amortized cost and fair value is recognized as impairment through earnings. For debt securities that do not meet the aforementioned criteria, the amount of impairment is split into two components as follows: (1) OTTI related to credit loss, which must be recognized in the income statement and (2) OTTI related to other factors, which is recognized in other comprehensive income. The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis.The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.
At September 30, 2015, the majority of unrealized losses on both the available for sale and held to maturity securities are related to the Company’s U.S. GSE residential collateralized mortgage obligations and other asset backed securities. The decrease in fair value of these securities is attributable to changes in interest rates and not credit quality. The Company does not have the intent to sell these securities and it is more likely than not that it will not be required to sell the securities before their anticipated recovery. Therefore, the Company does not consider these securities to be other-than-temporarily impaired at September 30, 2015.
There were no proceeds from sales of securities with no gross gains or gross losses realized for the three months ended September 30, 2015. There were $73.8 million of proceeds from sales of securities with gross gains of approximately $0.5 million and gross losses of approximately $0.5 million realized for the nine months ended September 30, 2015. There were $115.3 million of proceeds from sales of securities with gross gains of approximately $0.5 million and gross losses of approximately $0.5 million realized for the three months ended September 30, 2014. There were $348.8 million of proceeds from sales of securities with gross gains of approximately $1.6 million and gross losses of approximately $2.4 million realized for the nine months ended September 30, 2014. Proceeds from calls of securities were $0.4 million and $0.3 million for the three months ended September 30, 2015 and 2014, respectively. Proceeds from calls of securities were $10.9 million and $2.8 million for the nine months ended September 30, 2015 and 2014, respectively
Securities having a fair value of approximately $488.2 million and $451.1 million at September 30, 2015 and December 31, 2014, respectively, were pledged to secure public deposits and Federal Home Loan Bank and Federal Reserve Bank overnight borrowings. The Bank did not hold any trading securities during the nine months ended September 30, 2015 or the year ended December 31, 2014.
The Bank is a member of the Federal Home Loan Bank of New York (“FHLB”). Members are required to own a particular amount of stock based on the level of borrowings and other factors, and may invest in additional amounts. The Bank is a member of the Atlantic Central Banker’s Bank (“ACBB”) and is required to own ACBB stock. The Bank is also a member of the Federal Reserve Bank (“FRB”) system and required to own FRB stock. FHLB, ACBB and FRB stock is carried at cost and periodically evaluated for impairment based on ultimate recovery of par value. Both cash and stock dividends are reported as income. The Bank owned approximately $15.0 million and $10.0 million in FHLB, ACBB and FRB stock at September 30, 2015 and December 31, 2014. These amounts were reported as restricted securities in the consolidated balance sheets.
5. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
FASB ASC No. 820-10 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. FASB ASC 820-10 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair values:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.
Assets and liabilities measured on a recurring basis:
Assets measured at fair value on a non-recurring basis are summarized below:
Impaired loans with allocated allowance for loan losses at September 30, 2015, had a carrying amount of $0.5 million, which is made up of the outstanding balance of $0.5 million, net of a valuation allowance of $0.02 million. No additional provision for loan losses was necessary for the nine months ended September 30, 2015. Impaired loans with allocated allowance for loan losses at December 31, 2014, had a carrying amount of $0.5 million, which is made up of the outstanding balance of $0.7 million, net of a valuation allowance of $0.2 million. This resulted in an additional provision for loan losses of $0.2 million at December 31, 2014.
The Company used the following method and assumptions in estimating the fair value of its financial instruments:
Cash and Due from Banks and Federal Funds Sold: Carrying amounts approximate fair value, since these instruments are either payable on demand or have short-term maturities. Cash on hand and non-interest due from bank accounts are Level 1 and interest bearing Cash Due from Banks and Federal Funds Sold are Level 2.
Securities Available for Sale and Held to Maturity: The estimated fair values are based on independent dealer quotations on nationally recognized securities exchanges, if available (Level 1). For securities where quoted prices are not available, fair value is based on 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).
Restricted Securities: It is not practicable to determine the fair value of FHLB, ACBB and FRB stock due to restrictions placed on its transferability.
Derivatives: Represents interest rate swaps and the estimated fair values are based on valuation models using observable market data as of measurement date (Level 2).
Loans: The estimated fair values of real estate mortgage loans and other loans receivable are based on discounted cash flow calculations that use available market benchmarks when establishing discount factors for the types of loans resulting in a Level 3 classification. Exceptions may be made for adjustable rate loans (with resets of one year or less), which would be discounted straight to their rate index plus or minus an appropriate spread. All nonaccrual loans are carried at their current fair value. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price and therefore, while permissible for presentation purposes under ASC 825-10, do not conform to ASC 820-10.
Impaired Loans: For impaired loans, the Company evaluates the fair value of the loan in accordance with current accounting guidance. For loans that are collateral dependent, the fair value of the collateral is used to determine the fair value of the loan. The fair value of the collateral is determined based upon recent appraised values. The fair value of other real estate owned is also evaluated in accordance with current accounting guidance and determined based upon recent appraised values. 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. Adjustments may relate to location, square footage, condition, amenities, market rate of leases as well as timing of comparable
sales. All appraisals undergo a second review process to insure that the methodology employed and the values derived are accurate. The fair value of the loan is compared to the carrying value to determine if any write-down or specific reserve is required. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly.
Appraisals for collateral-dependent impaired loans 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, the Credit 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 collateral that has been sold to the most recent appraised value to determine what additional adjustment should be made to the appraisal value to arrive at fair value. Management also considers the appraisal values for commercial properties associated with current loan origination activity. Collectively, this information is reviewed to help assess current trends in commercial property values. For each collateral dependent impaired loan, management considers information that relates to the type of commercial property to determine if such properties may have appreciated or depreciated in value since the date of the most recent appraisal. Adjustments to fair value are made only when the analysis indicates a probable decline in collateral values. Adjustments made in the appraisal process are not deemed material to the overall consolidated financial statements given the level of impaired loans measured at fair value on a nonrecurring basis.
Deposits: The estimated fair value of certificates of deposits are based on discounted cash flow calculations that use a replacement cost of funds approach to establishing discount rates for certificates of deposits maturities resulting in a Level 2 classification. Stated value is fair value for all other deposits resulting in a Level 1 classification.
Borrowed Funds: The estimated fair value of borrowed funds are based on discounted cash flow calculations that use a replacement cost of funds approach to establishing discount rates for funding maturities resulting in a Level 2 classification.
Subordinated Debentures: The estimated fair value is derived using discounted cash flow methodology based on a spread to the London Interbank Offered Rate (“LIBOR”) curve at the time of issuance and assuming the debt was issued at PAR resulting in a Level 3 classification.
Junior Subordinated Debentures: The estimated fair value is based on estimates using market data for similarly risk weighted items and takes into consideration the convertible features of the debentures into common stock of the Company which is an unobservable input resulting in a Level 3 classification.
Accrued Interest Receivable and Payable: For these short-term instruments, the carrying amount is a reasonable estimate of the fair value resulting in a Level 1 or 2 classification.
Off-Balance-Sheet Liabilities: The fair value of off-balance-sheet commitments to extend credit is estimated using fees currently charged to enter into similar agreements. The fair value is immaterial as of September 30, 2015 and December 31, 2014.
Fair value estimates are made at specific points in time and are based on existing on-and off-balance sheet financial instruments. Such estimates are generally subjective in nature and dependent upon a number of significant assumptions associated with each financial instrument or group of financial instruments, including estimates of discount rates, risks associated with specific financial instruments, estimates of future cash flows, and relevant available market information. Changes in assumptions could significantly affect the estimates. In addition, fair value estimates do not reflect the value of anticipated future business, premiums or discounts that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument, or the tax consequences of realizing gains or losses on the sale of financial instruments.
The estimated fair values and recorded carrying amounts of the Bank’s financial instruments at September 30, 2015 and December 31, 2014 are as follows:
6. LOANS
The following table sets forth the major classifications of loans:
On June 19, 2015, the Company completed the acquisition of Community National Bank (“CNB”) resulting in the addition of $735.6 million of acquired loans recorded at their fair value. There were approximately $706.2 million of acquired CNB loans remaining as of September 30, 2015
On February 14, 2014, the Company completed the acquisition of FNBNY Bancorp, Inc. and its wholly owned subsidiary First National Bank of New York (collectively “FNBNY”) resulting in the addition of $89.7 million of acquired loans recorded at their fair value. There were approximately $38.0 million of acquired FNBNY loans remaining as of September 30, 2015.
Lending Risk
The principal business of the Bank is lending, primarily in commercial real estate mortgage loans, multi-family mortgage loans, residential real estate mortgage loans, construction loans, home equity loans, commercial and industrial loans, land loans and consumer loans. The Bank considers its primary lending area to be Nassau and Suffolk Counties located on Long Island and a substantial portion of the Bank’s loans are secured by real estate in this area. Accordingly, the ultimate collectibility of such a loan portfolio is susceptible to changes in market and economic conditions in this region.
Commercial Real Estate Mortgages
Loans in this classification include income producing investment properties and owner occupied real estate used for business purposes. The underlying properties are generally located largely in our primary market area. The cash flows of the income producing investment properties are adversely impacted by a downturn in the economy as evidenced by increased vacancy rates, which in turn, will have an effect on credit quality. Generally, management seeks to obtain annual financial information for borrowers with loans in excess of $0.25 million in this category. In the case of owner-occupied real estate used for business purposes, a weakened economy and resultant decreased consumer and/or business spending will have an adverse effect on credit quality.
Multi-Family Mortgages
Loans in this classification include income producing residential investment properties of 5 or more families. The loans are usually made in areas with limited single family residences generating high demand for these facilities. Loans are made to established owners with a proven and demonstrable record of strong performance. Loans are secured by a first mortgage lien on the subject property with a loan to value ratio generally not exceeding 75%. Repayment is derived generally from the rental income generated from the property and maybe supplemented by the owners’ personal cash flow. Credit risk arises with an increase in vacancy rates, property mismanagement and the predominance of non-recourse loans that are customary in the industry.
Residential Real Estate Mortgages and Home Equity Loans
Loans in these classifications are made to and secured by owner-occupied residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, can have an effect on the credit quality in this loan class. The Bank generally does not originate loans with a loan-to-value ratio greater than 80% and does not grant subprime loans.
Commercial, Industrial and Agricultural Loans
Loans in this classification are made to businesses. Generally these loans are secured by assets of the business and repayment is expected from the cash flows of the business. A weakened economy, and resultant decreased consumer and/or business spending can have an effect on the credit quality in this loan class.
Real Estate Construction and Land Loans
Loans in this classification primarily include land loans to local individuals, contractors and developers for developing the land for sale or for the purpose of making improvements thereon. Repayment is derived primarily from sale of the lots/units including any pre-sold units. Credit risk is affected by market conditions, time to sell at an adequate price and cost overruns. To a lesser extent this class includes commercial development projects that the Company finances, which in most cases require interest only during construction, and then convert to permanent financing. Credit risk is affected by construction delays, cost overruns, market conditions and the availability of permanent financing, to the extent such permanent financing is not being provided by us.
Installment and Consumer Loans
Loans in this classification may be either secured or unsecured and repayment is dependent on the credit quality of the individual borrower and, if applicable, sale of the collateral securing the loan such as automobiles. Therefore, the overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality in this loan class.
Credit Quality Indicators
The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt including repayment patterns, probable incurred losses, past loss experience, current economic conditions, and various types of concentrations of credit. Assigned risk rating grades are continuously updated as new information is obtained. Loans risk rated special mention, substandard and doubtful are reviewed on a quarterly basis. The Company uses the following definitions for risk rating grades:
Pass: Loans classified as pass include current loans performing in accordance with contractual terms, pools of homogenous residential real estate and installment/consumer loans that are not individually risk rated and loans which exhibit certain risk factors that require greater than usual monitoring by management.
Special mention: Loans classified as special mention, while generally not delinquent, have 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 Bank's credit position at some future date.
Substandard: Loans classified as substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. There is a distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.
Doubtful: Loans classified as doubtful have all the weaknesses inherent in a substandard loan, and may also be at delinquency status and have defined weaknesses based on currently existing facts, conditions and values making collection or liquidation in full highly questionable and improbable.
The following table represents loans by class categorized by internally assigned risk grades as of September 30, 2015 and December 31, 2014:
Past Due and Nonaccrual Loans
The following table represents the aging of the recorded investment in past due loans as of September 30, 2015 and December 31, 2014 by class of loans, as defined by ASC 310-10:
At September 30, 2015, there were $1.6 million of CNB acquired loans 30-59 days past due and $0.5 million 60-89 days past due. There were no FNBNY loans 30-59 days or 60-89 days past due at September 30, 2015 and December 31, 2014. Loans 90 days or more past due that are still accruing interest primarily represent PCI loans acquired from CNB and FNBNY which were recorded at fair value upon acquisition. These loans are considered to be accruing as management can reasonably estimate future cash flows and expect to fully collect the carrying value of these acquired loans. Therefore, the difference between the carrying value of these loans and their expected cash flows is being accreted into income.
Impaired Loans
As of September 30, 2015 and December 31, 2014, the Company had impaired loans as defined by FASB ASC No. 310, “Receivables” of $3.1 million and $6.2 million, respectively. For a loan to be considered impaired, management determines after review whether it is probable that the Bank will not be able to collect all amounts due according to the contractual terms of the loan agreement. Management applies its normal loan review procedures in making these judgments. Impaired loans include individually classified nonaccrual loans and troubled debt restructured (“TDR”) loans. For impaired loans, the Bank evaluates the impairment of the loan in accordance with FASB ASC 310-10-35-22. Impairment is determined based on the present value of expected future cash flows discounted at the loan’s effective interest rate. For loans that are collateral dependent, the fair value of the collateral is used to determine the fair value of the loan. The fair value of the collateral is determined based upon recent appraised values. The fair value of the collateral or present value of expected cash flows is compared to the carrying value to determine if any write-down or specific loan loss allowance allocation is required. These methods of fair value measurement for impaired loans are considered level 3 within the fair value hierarchy described in FASB ASC 820-10-50-5.
For individually impaired loans, the following tables set forth by class of loans at September 30, 2015 and December 31, 2014 the recorded investment, unpaid principal balance and related allowance. The tables also set forth the average recorded investment of individually impaired loans and interest income recognized while the loans were impaired during the nine months and three months ended September 30, 2015 and 2014:
The Bank had no other real estate owned at September 30, 2015 and December 31, 2014, respectively.
Troubled Debt Restructurings
The terms of certain loans were modified and are considered TDRs. The modification of the terms of such loans included 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. The modification of these loans involved a loan to borrowers who were experiencing financial difficulties.
In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed to determine if that borrower is currently in payment default under any of its obligations or whether there is a 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.
During the nine months ended September 30, 2015, the Bank modified two commercial loans as TDRs with pre and post modification balances totaling $0.1 million. During the nine months ended September 30, 2014 there were no loans modified as TDRs. There were no loans modified as TDRs during the three months ended September 30, 2015 or September 30, 2014.
There were no charge offs relating to TDRs during the nine months ended September 30, 2015 or September 30, 2014. There were no loans modified as TDRs for which there was a payment default within twelve months following the modification for the nine months
ended September 30, 2015 and September 30, 2014, respectively. A loan is considered to be in payment default once it is 30 days contractually past due under the modified terms.
As of September 30, 2015 and December 31, 2014, the Company had $0.4 million and $0.5 million, respectively of nonaccrual TDR loans and $1.7 million and $5.0 million, respectively of performing TDRs. At September 30, 2015 and December 31, 2014, total nonaccrual TDR loans are secured with collateral that has an appraised value of $1.0 million and $2.3 million, respectively. Furthermore, the Bank has no commitment to lend additional funds to these debtors.
The terms of certain other loans were modified during the quarter ended September 30, 2015 that did not meet the definition of a TDR. These loans have a total recorded investment as of September 30, 2015 of $1.8 million. The modification of these loans involved a modification of the terms of loans to borrowers who were not experiencing financial difficulties.
Acquired Loans
Loans acquired in a business combination are recorded at their fair value at the acquisition date. Credit discounts are included in the determination of fair value; therefore, an allowance for loan losses is not recorded at the acquisition date.
In determining the acquisition date fair value of purchased loans, acquired loans are aggregated into pools of loans with common characteristics. Each loan is reviewed at acquisition to determine if it should be accounted for as a loan that has experienced credit deterioration and it is probable that at acquisition, the Company will not be able to collect all the contractual principle and interest due from the borrower. All loans with evidence of deterioration in credit quality are considered purchased credit impaired (“PCI”) loans unless the loan type is specifically excluded from the scope of ASC 310-30 “Loans and Debt Securities Acquired with Deteriorated Credit Quality,” such as loans with active revolver features or because management has minimal doubt in the collection of the loan. This policy is based on the following general themes;
The Bank makes an estimate of the loans’ contractual principal and contractual interest payments as well as the total cash flows it expects to collect from the pools of loans, which includes undiscounted expected principal and interest. The excess of contractual amounts over the total cash flows expected to be collected from the loans is referred to as non-accretable difference, which is not accreted into income. The excess of the expected undiscounted cash flows over the fair value of the loans is referred to as accretable discount. Accretable discount is recognized as interest income on a level-yield basis over the life of the loans. Management has not included prepayment assumptions in its modeling of contractual or expected cash flows. The Bank continues to estimate cash flows expected to be collected over the life of the loans. Subsequent increases in total cash flows expected to be collected are recognized as an adjustment to the accretable yield with the amount of periodic accretion adjusted over the remaining life of the loans. Subsequent decreases in cash flows expected to be collected over the life of the loans are recognized as impairment in the current period through allowance for loan losses.
A PCI loan may be resolved either through a sale of the loan, by working with the customer and obtaining partial or full repayment, by short sale of the collateral, or by foreclosure. When a loan accounted for in a pool is resolved, it is removed from the pool at its carrying amount. Any differences between the amounts received and the outstanding balance are absorbed by the non-accretable difference of the pool. For loans not accounted for in pools, a gain or loss on resolution would be recognized based on the difference between the proceeds received and the carrying amount of the loan.
Payments received earlier than expected or in excess of expected cash flows from sales or other resolutions may result in the carrying value of a pool being reduced to zero even though outstanding contractual balances and expected cash flows remain related to loans in the pool. Once the carrying value of a pool is reduced to zero, any future proceeds, which may include cash or real estate acquired in foreclosure, from the remaining loans, representing further realization of accretable yield, are recognized as interest income upon receipt.
At the acquisition date, the purchased credit impaired loans acquired as part of the FNBNY acquisition had contractually required principal and interest payments receivable of $40.3 million; expected cash flows of $28.4 million; and a fair value (initial carrying amount) of $21.8 million. The difference between the contractually required principal and interest payments receivable and the expected cash flows ($11.9 million) represented the non-accretable difference. The difference between the expected cash flows and fair value ($6.6) million represented the initial accretable yield. At September 30, 2015, the contractually required principal and interest payments receivable of the purchased credit impaired loans was $17.4 million with a remaining non-accretable difference of $1.7 million.
At the acquisition date, the purchased credit impaired loans acquired as part of the CNB acquisition had contractually required principal and interest payments receivable of $8.2 million; expected cash flows of $3.0 million; and a fair value (initial carrying amount) of $2.7 million. The difference between the contractually required principal and interest payments receivable and the expected cash flows ($5.2 million)
represented the non-accretable difference. The difference between the expected cash flows and fair value ($0.3) million represented the initial accretable yield. At September 30, 2015, the contractually required principal and interest payments receivable of the purchased credit impaired loans was $8.2 million with a remaining non-accretable difference of $5.2 million. Considering the closing date of the transaction, the amounts presented are preliminary and subject to adjustment as fair value assessments are finalized. Refer to Note 14. “Business Combinations,” for details related to the CNB acquisition.
The following table summarizes the activity in the accretable yield for the purchased credit impaired loans:
7. ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is established and maintained through a provision for loan losses based on probable incurred losses inherent in the Bank’s loan portfolio. Management evaluates the adequacy of the allowance on a quarterly basis. The allowance is comprised of both individual valuation allowances and loan pool valuation allowances.
The Bank monitors its entire loan portfolio on a regular basis, with consideration given to detailed analysis of classified loans, repayment patterns, probable incurred losses, past loss experience, current economic conditions, and various types of concentrations of credit. Additions to the allowance are charged to expense and realized losses, net of recoveries, are charged to the allowance.
Individual valuation allowances are established in connection with specific loan reviews and the asset classification process including the procedures for impairment testing under FASB Accounting Standard Codification (“ASC”) No. 310, “Receivables”. Such valuation, which includes a review of loans for which full collectibility in accordance with contractual terms is not reasonably assured, considers the estimated fair value of the underlying collateral less the costs to sell, if any, or the present value of expected future cash flows, or the loan’s observable market value. Any shortfall that exists from this analysis results in a specific allowance for the loan. Pursuant to our policy, loan losses must be charged-off in the period the loans, or portions thereof, are deemed uncollectible. Assumptions and judgments by management, in conjunction with outside sources, are used to determine whether full collectibility of a loan is not reasonably assured. These assumptions and judgments are also used to determine the estimates of the fair value of the underlying collateral or the present value of expected future cash flows or the loan’s observable market value. Individual valuation allowances could differ materially as a result of changes in these assumptions and judgments. Individual loan analyses are periodically performed on specific loans considered impaired. The results of the individual valuation allowances are aggregated and included in the overall allowance for loan losses.
Loan pool valuation allowances represent loss allowances that have been established to recognize the inherent risks associated with our lending activities, but which, unlike individual allowances, have not been allocated to particular problem assets. Pool evaluations are broken down into loans with homogenous characteristics by loan type and include commercial real estate mortgages, multi-family mortgage loans, home equity loans, residential real estate mortgages, commercial and industrial loans, real estate construction and land loans and consumer loans. The determination of the adequacy of the valuation allowance is a process that takes into consideration a variety of factors. The Bank has developed a range of valuation allowances necessary to adequately provide for probable incurred losses inherent in each pool of loans. We consider our own charge-off history along with the growth in the portfolio as well as the Bank’s credit administration and asset management philosophies and procedures when determining the allowances for each pool. In addition, we evaluate and consider the credit’s risk rating which includes management’s evaluation of: cash flow, collateral, guarantor support, financial disclosures, industry trends and strength of borrowers’ management, the impact that economic and market conditions may have on the portfolio as well as known and inherent risks in the portfolio. Finally, we evaluate and consider the allowance ratios and coverage percentages of both peer group and regulatory agency data. These evaluations are inherently subjective because, even though they are based on objective data, it is management’s interpretation of that data that determines the amount of the appropriate allowance. If the evaluations prove to be incorrect, the allowance for loan losses may not be sufficient to cover losses inherent in the loan portfolio, resulting in additions to the allowance for loan losses.
For purchased credit impaired loans, a valuation allowance is established when it is probable that the Bank will be unable to collect all the cash flows expected at acquisition plus additional cash flows expected to be collected arising from changes in estimate after acquisition. A specific allowance is established when subsequent evaluations of expected cash flows from purchased credit impaired loans reflect a decrease in those estimates. The allowance established represents the excess of the recorded investment in those loans over the present value of the currently estimated future cash flow, discounted at the last effective accounting yield.
The Bank uses assumptions and methodologies that are relevant to estimating the level of impairment and probable losses in the loan portfolio and management's judgment and experience play a key role in recording the allowance estimates. Additions to the allowance for loan losses are made by provisions charged to earnings. Furthermore, an improvement in the expected cash flows related to purchased credit impaired loans would result in a reduction of the required specific allowance with a corresponding credit to the provision.
The Credit Risk Management Committee is comprised of Bank management. The adequacy of the allowance is analyzed quarterly, with any adjustment to a level deemed appropriate by the Credit Risk Management Committee, based on its risk assessment of the entire portfolio. Each quarter, members of the Credit Risk Management Committee meet with the Credit Risk Committee of the Board to review credit risk trends and the adequacy of the allowance for loan losses. Based on the Credit Risk Management Committee’s review of the classified loans and the overall allowance levels as they relate to the loan portfolio at September 30, 2015, management believes the allowance for loan losses has been established at levels sufficient to cover the probable incurred losses in the Bank’s loan portfolio. Future additions or reductions to the allowance may be necessary based on changes in economic, market or other conditions. Changes in estimates could result in a material change in the allowance. In addition, various regulatory agencies, as an integral part of the examination process, periodically review the allowance for loan losses. Such agencies may require the Bank to recognize adjustments to the allowance based on their judgments of the information available to them at the time of their examination.
The following table represents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment, as defined under ASC 310-10, and based on impairment method as of September 30, 2015 and December 31, 2014. Additionally, the following tables represent the changes in the allowance for loan losses for the three and nine month periods ended September 30, 2015 and 2014, and the year ended December 31, 2014, by portfolio segment, as defined under ASC 310-10. The loan segment represents the categories that the Bank develops to determine its allowance for loan losses.
(1) Includes loans acquired on June 19, 2015 from CNB, on February 14, 2014 from FNBNY and on May 27, 2011 from HSB.
(1) Includes loans acquired on February 14, 2014 from FNBNY and on May 27, 2011 from HSB.
8. EMPLOYEE BENEFITS
The Bank maintains a noncontributory pension plan covering all eligible employees. The Bank uses a December 31st measurement date for this plan in accordance with FASB ASC 715-30 “Compensation – Retirement Benefits – Defined Benefit Plans – Pension.” During 2012, the Company amended the pension plan revising the formula for determining benefits effective January 1, 2013, except for certain grandfathered employees. Additionally, new employees hired on or after October 1, 2012 are not eligible for the pension plan.
During 2001, the Bank adopted the Bridgehampton National Bank Supplemental Executive Retirement Plan (“SERP”). The SERP provides benefits to certain employees, as recommended by the Compensation Committee of the Board of Directors and approved by the full Board of Directors, whose benefits under the pension plan are limited by the applicable provisions of the Internal Revenue Code. The benefit under the SERP is equal to the additional amount the employee would be entitled to under the Pension Plan and the 401(k) Plan in the absence of such Internal Revenue Code limitations. The assets of the SERP are held in a rabbi trust to maintain the tax-deferred status of the plan and are subject to the general, unsecured creditors of the Company. As a result, the assets of the trust are reflected on the Consolidated Balance Sheets of the Company.
There were $1.0 million of contributions made to the pension plan during the nine months ended September 30, 2015. There were no contributions to the SERP during the nine months ended September 30, 2015. In accordance with the SERP, a retired executive received a distribution from the Plan totaling $84,000 during the nine months ended September 30, 2015.
The Company’s funding policy with respect to its benefit plans is to contribute at least the minimum amounts required by applicable laws and regulations.
The following table sets forth the components of net periodic benefit cost and other amounts recognized in Other Comprehensive Income:
9. SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
At September 30, 2015, September 30, 2014 and December 31, 2014, securities sold under agreements to repurchase totaled $26.2 million, $11.8 million, and $36.3 million, respectively, and were secured by U.S. GSE, residential mortgage-backed securities and residential collateralized mortgage obligations with a carrying amount of $29.3 million, $14.4 million and $40.3 million, respectively.
Securities sold under agreements to repurchase are financing arrangements with $26.2 million maturing during the fourth quarter of 2015. At maturity, the securities underlying the agreements are returned to the Company. Information concerning the securities sold under agreements to repurchase is summarized as follows:
The primary risk associated with these secured borrowings is the requirement to pledge a market value based balance of collateral in excess of the borrowed amount. The excess collateral pledged represents an unsecured exposure to the lending counterparty. As the market value of the collateral changes, both through changes in discount rates and spreads as well as related cash flows, additional collateral may need to be pledged. In accordance with our policies, eligible counterparties are defined and monitored to minimize our exposure.
10. FEDERAL HOME LOAN BANK ADVANCES
The following table sets forth the contractual maturities and weighted average interest rates of FHLB advances for each of the next five years and the period thereafter at September 30, 2015 and December 31, 2014:
Each advance is payable at its maturity date, with a prepayment penalty for fixed rate advances. The advances were collateralized by $578.0 million and $385.2 million of residential and commercial mortgage loans under a blanket lien arrangement at September 30, 2015 and December 31, 2014, respectively. The Company is eligible to borrow up to a total of $1.0 billion at September 30, 2015.
11. BORROWED FUNDS
Subordinated Debentures
In September 2015, the Company issued $80 million in aggregate principal amount of fixed-to-floating rate subordinated debentures (the “Notes”). $40 million of the Notes are callable at par after five years, have a stated maturity of September 30, 2025 and bear interest at a fixed annual rate of 5.25% per year, from and including September 21, 2015 until but excluding September 30, 2020. From and including September 30, 2020 to the maturity date or early redemption date, the interest rate will reset quarterly to an annual interest rate equal to the then-current three-month LIBOR plus 360 basis points. The remaining $40 million of the Notes are callable at par after ten years, have a stated maturity of September 30, 2030 and bear interest at a fixed annual rate of 5.75% per year, from and including September 21, 2015 until but excluding September 30, 2025. From and including September 30, 2025 to the maturity date or early redemption date, the interest rate will reset quarterly to an annual interest rate equal to the then-current three-month LIBOR plus 345 basis points.
The Notes are included in Tier 2 capital (with certain limitations applicable) under current regulatory guidelines and interpretations.
Junior Subordinated Debentures
In December 2009, the Company completed the private placement of $16.0 million in aggregate liquidation amount of 8.50% cumulative convertible trust preferred securities (the "TPS”), through its wholly-owned subsidiary, Bridge Statutory Capital Trust II. The TPS have a liquidation amount of $1,000 per security and are convertible into our common stock, at an effective conversion price of $31 per share. The TPS mature in 30 years but are callable by the Company at par any time after September 30, 2014.
The Company issued $16.0 million of junior subordinated debentures (the “Debentures”) to the trust in exchange for ownership of all of the common security of the trust and the proceeds of the preferred securities sold by the trust. In accordance with current accounting guidance, the trust is not consolidated in the Company’s financial statements, but rather the Debentures are shown as a liability. The Debentures bear interest at a fixed rate equal to 8.50% and mature on December 31, 2039. Consistent with regulatory requirements, the interest payments may be deferred for up to five years, and are cumulative. The Debentures have the same prepayment provisions as the TPS.
The Debentures are included in Tier I capital (with certain limitations applicable) under current regulatory guidelines and interpretations
12. DERIVATIVES
Cash Flow Hedges of Interest Rate Risk
The Company utilizes interest rate swap agreements as part of its asset liability management strategy to help manage its interest rate risk position. The notional amount of the interest rate swap does not represent amounts exchanged by the parties. The amount exchanged is determined by reference to the notional amount and the other terms of the individual interest rate swap agreements.
Interest rate swaps with notional amounts totaling $75.0 million as of September 30, 2015 and 2014, respectively, and December 31, 2014 were designated as cash flow hedges of certain Federal Home Loan Bank advances. The swaps were determined to be fully effective during the periods presented and therefore no amount of ineffectiveness has been included in net income. The aggregate fair value of the swaps is recorded in other assets/(other liabilities), with changes in fair value recorded in other comprehensive income (loss). The amount included in accumulated other comprehensive income (loss) would be reclassified to current earnings should the hedges no longer be considered effective. The Company expects the hedges to remain fully effective during the remaining term of the swaps.
The following table presents summary information about the interest rate swaps designated as cash flow hedges:
Interest expense recorded on these swap transactions totaled $175,000 and $485,000 for the three and nine months ended September 30, 2015, respectively and $118,000 and $351,000 for the three and nine months ended September 30, 2014, respectively, and is reported as a component of interest expense on FHLB Advances.
The following table presents the net gains (losses) recorded, net of income tax, in accumulated other comprehensive income and the Consolidated Statements of Income relating to the cash flow derivative instruments for the nine months ended September 30, 2015 and September 30, 2014:
The following table reflects the cash flow hedge included in the Consolidated Balance Sheets:
Non-Designated Hedges
Derivatives not designated as hedges may be used to manage the Company’s exposure to interest rate movements or to provide service to customers but do not meet the requirements for hedge accounting under U.S. GAAP. The Company executes interest rate swaps with commercial lending customers to facilitate their respective risk management strategies. These interest rate swaps with customers are simultaneously offset by interest rate swaps that the Company executes with a third party in order to minimize the net risk exposure resulting from such transactions. These interest-rate swap agreements do not qualify for hedge accounting treatment, and therefore changes in fair value are reported in current period earnings.
The following table presents summary information about these interest rate swaps:
13. OTHER COMPREHENSIVE INCOME (LOSS)
Other comprehensive income (loss) components and related income tax effects were as follows:
The following is a summary of the accumulated other comprehensive income balances, net of income tax:
The following represents the reclassifications out of accumulated other comprehensive income for the three and nine months ended September 30, 2015 and 2014:
14. BUSINESS COMBINATIONS
On June 19, 2015, the Company acquired Community National Bank (“CNB”) at a purchase price of $157.5 million, issued an aggregate of 5.647 million Bridge Bancorp common shares in exchange for all the issued and outstanding common stock of CNB and recorded goodwill of $86.0 million, which is not deductible for tax purposes. At acquisition, CNB had total acquired assets on a fair value basis of $899.5 million, with loans of $735.6 million, investment securities of $90.1 million and deposits of $786.9 million. The transaction expanded the Company’s geographic footprint across Long Island including Nassau County, Queens and into New York City. It complements the Bank’s existing branch network and enhances asset generation capabilities. The expanded branch network allows the Bank to serve a greater portion of the Long Island and metropolitan marketplace through a network of 40 branches.
The acquisition was accounted for under the acquisition method of accounting in accordance with FASB ASC 805, “Business Combinations.” Accordingly, the assets acquired and liabilities assumed were recorded at their respective acquisition date fair values, and identifiable intangible assets were recorded at fair value. The operating results of the Company for the nine month period ended September 30, 2015 includes the operating results of CNB since the acquisition date of June 19, 2015.
The following summarizes the preliminary fair value of the assets acquired and liabilities assumed on June 19, 2015:
Considering the closing date of the transaction, the above fair values and accruals for acquisition costs are preliminary and subject to adjustment as fair value assessments and estimated acquisition costs are finalized. In accordance with FASB ASC 805-10 (Subtopic 25-15), the Company has up to one year from date of acquisition to complete this assessment.
The following table presents selected unaudited pro forma financial information reflecting the Merger assuming it was completed as of January 1, 2015 and January 1, 2014. The unaudited pro forma financial information is presented for illustrative purposes only and is not necessarily indicative of the financial results of the combined companies had the Merger actually been completed at the beginning of the periods presented, nor does it indicate future results for any other interim or full fiscal year period.
The unaudited pro forma information, for the nine months ended September 30, 2015 and 2014, set forth below reflects the adjustments related to estimated amortization and accretion of purchase accounting fair value adjustments related to interest income on loans and investments, interest expense on time deposits and borrowings, unfavorable leases, SBA loan servicing rights, and core deposit and other intangibles. In the table below, merger-related expenses of $11.3 million were excluded from pro forma non-interest expenses for the nine months ended September 30, 2015. Additionally, the unaudited pro forma information does not reflect management’s estimate of any revenue enhancement opportunities or anticipated cost savings:
15. PRESENTATION OF DEBT ISSUANCE COSTS
During the third quarter of 2015, the Company adopted Accounting Standards Update (“ASU”) No. 2015-03 “Simplifying the Presentation of Debt Issuance Costs,” which requires that debt issuance costs be presented in the balance sheet as a direct deduction from the carrying amount of debt liability. This ASU is required to be applied retrospectively to all periods presented. The following table summarizes the impact of retrospective application to the balance sheet for the year ended December 31, 2014:
16. RECENT ACCOUNTING PRONOUNCEMENTS
In September 2015, the Financial Accounting Standards Board ("FASB") issued ASU No. 2015-16, “Business Combinations (Topic 805): Simplifying the Accounting for Measurement-Period Adjustments.” The amendments in this Update require that an acquirer recognize adjustments to provisional amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. The acquirer is to record, in the same period’s financial statements, the effect on earnings of changes in depreciation, amortization, or other income effects, if any, as a result of the change to the provisional amounts, calculated as if the accounting had been completed at the acquisition date. The amendments require an entity to present separately on the face of the income statement or disclose in the notes the portion of the amount recorded in current-period earnings by line item that would have been recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized as of the acquisition date. ASU 2015-16 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2015. The adoption of ASU 2015-16 is not expected to have a material effect on the Company’s consolidated financial statements.
In April 2015, the FASB issued ASU No. 2015-05, “Intangibles – Goodwill and Other – Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement.” The amendments in this Update will help entities evaluate the accounting for fees paid by a customer in a cloud computing arrangement by providing guidance as to whether an arrangement includes the sale or license of software. If a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The guidance will not change GAAP for a customer’s accounting for service contracts. ASU 2015-05 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2015. The adoption of ASU 2015-05 is not expected to have a material effect on the Company’s consolidated financial statements.
In April 2015, the FASB issued ASU No. 2015-03, “Interest – Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs.” ASU 2015-03 simplifies presentation of debt issuance costs. The amendments in this update require that debt issuance costs be presented in the balance sheet as a direct deduction from the carrying amount of debt liability, consistent with debt discounts or premiums. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this Update. ASU 2015-03 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2015. The Company adopted this guidance in the third quarter of 2015. The guidance was applied retrospectively to all prior periods presented. See Note 15 “Presentation of Debt Issuance Costs” for further details.
In January 2015, the FASB issued ASU No. 2015-01, “Income Statement – Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.” ASU 2015-01 simplifies the income statement presentation requirements in subtopic 225-20 by eliminating the concept of extraordinary items. Extraordinary items are events and transactions that are distinguished by their unusual nature and by the infrequency of their occurrence. Eliminating the extraordinary classification simplifies income statement presentation by altogether removing the concept of extraordinary items from consideration. The amendments in this update become effective for annual periods and interim periods within those periods beginning after December 15, 2015. The adoption of ASU 2015-01 is not expected to have a material effect on the Company’s consolidated financial statements.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Private Securities Litigation Reform Act Safe Harbor Statement
This report may contain statements relating to the future results of the Company (including certain projections and business trends) that are considered “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995 (the “PSLRA”). Such forward-looking statements, in addition to historical information, which involve risk and uncertainties, are based on the beliefs, assumptions and expectations of management of the Company. Words such as “expects,” “believes,” “should,” “plans,” “anticipates,” “will,” “potential,” “could,” “intend,” “may,” “outlook,” “predict,” “project,” “would,” “estimated,” “assumes,” “likely,” and variation of such similar expressions are intended to identify such forward-looking statements. Examples of forward-looking statements include, but are not limited to, possible or assumed estimates with respect to the financial condition, expected or anticipated revenue, and results of operations and business of the Company, including earnings growth; revenue growth in retail banking lending and other areas; origination volume in the consumer, commercial and other lending businesses; current and future capital management programs; non-interest income levels, including fees from the title abstract subsidiary and banking services as well as product sales; tangible capital generation; market share; expense levels; and other business operations and strategies. For this presentation, the Company claims the protection of the safe harbor for forward-looking statements contained in the PSLRA.
Factors that could cause future results to vary from current management expectations include, but are not limited to, changing economic conditions; legislative and regulatory changes, including increases in FDIC insurance rates; monetary and fiscal policies of the federal government; changes in tax policies; rates and regulations of federal, state and local tax authorities; changes in interest rates; deposit flows; the cost of funds; demands for loan products; demand for financial services; competition; our ability to successfully integrate acquired entities; changes in the quality and composition of the Bank’s loan and investment portfolios; changes in management’s business strategies; changes in accounting principles, policies or guidelines, changes in real estate values; expanded regulatory requirements as a result of the Dodd-Frank Act, which could adversely affect operating results; and other factors discussed in our Annual Report on Form 10-K for the year ended December 31, 2014 and elsewhere in this report. The forward-looking statements are made as of the date of this report, and the Company assumes no obligation to update the forward-looking statements or to update the reasons why actual results could differ from those projected in the forward-looking statements.
Overview
Who We Are and How We Generate Income
Bridge Bancorp, Inc. (the “Company”), a New York corporation, is a bank holding company formed in 1989. On a parent-only basis, the Company has had minimal results of operations. The Company is dependent on dividends from its wholly owned subsidiary, The Bridgehampton National Bank (the “Bank”), its own earnings, additional capital raised, and borrowings as sources of funds. The information in this report reflects principally the financial condition and results of operations of the Bank. The Bank’s results of operations are primarily dependent on its net interest income, which is mainly the difference between interest income on loans and investments and interest expense on deposits and borrowings. The Bank also generates non-interest income, such as fee income on deposit accounts, merchant credit and debit card processing programs, investment services, income from its title abstract subsidiary, and net gains on sales of securities and loans. The level of its non-interest expenses, such as salaries and benefits, occupancy and equipment costs, other general and administrative expenses, expenses from its title insurance subsidiary, and income tax expense, further affects
the Bank’s net income. Certain reclassifications have been made to prior year amounts and the related discussion and analysis to conform to the current year presentation. These reclassifications did not have an impact on net income or total stockholders’ equity
Principal Products and Services and Locations of Operations
The Bank operates forty branches, including thirty-eight in the primary market areas of Suffolk and Nassau Counties, Long Island, with one branch in Bayside, Queens and one in Manhattan. Federally chartered in 1910, the Bank was founded by local farmers and merchants. For a century, the Bank has maintained its focus on building customer relationships in its market area. The mission of the Company is to grow through the provision of exceptional service to its customers and the communities in which it operates. The Company strives to achieve excellence in financial performance and build long term shareholder value. The Bank engages in full service commercial and consumer banking business, including accepting time, savings and demand deposits from the consumers, businesses and local municipalities surrounding its branch offices. These deposits, together with funds generated from operations and borrowings, are invested primarily in: (1) commercial real estate loans; (2) multi-family mortgage loans (3) home equity loans; (4) construction loans; (5) residential mortgage loans; (6) secured and unsecured commercial and consumer loans; (7) FHLB, FNMA, GNMA and FHLMC and non-agency mortgage-backed securities, collateralized mortgage obligations and other asset backed securities; (8) New York State and local municipal obligations; and (9) U.S government sponsored entity (“U.S. GSE”) securities. The Bank also offers the CDARS program, providing multi-millions of FDIC insurance on CD deposits to its customers. In addition, the Bank offers merchant credit and debit card processing, automated teller machines, cash management services, lockbox processing, online banking services, remote deposit capture, safe deposit boxes, individual retirement accounts as well as investment services through Bridge Financial Services, which offers a full range of investment products and services through a third party broker dealer. Through its title insurance abstract subsidiary, the Bank acts as a broker for title insurance services. The Bank’s customer base is comprised principally of small businesses, municipal relationships and consumer relationships.
Significant Events
Acquisition of Community National Bank
Acquisition of FNBNY
On February 14, 2014, the Company acquired FNBNY Bancorp and its wholly owned subsidiary, the First National Bank of New York (collectively “FNBNY”) at a purchase price of $6.1 million and issued an aggregate of 240,598 Company shares in exchange for all the issued and outstanding stock of FNBNY. The purchase price is subject to certain post-closing adjustments equal to 60 percent of the net recoveries of principal on $6.3 million of certain identified problem loans over a two-year period after the acquisition. As of February 14, 2015, there have been no net recoveries on these loans. At acquisition, FNBNY had total acquired assets on a fair value basis of $211.9 million, with loans of $89.7 million, investment securities of $103.2 million and deposits of $169.9 million. With three full-service branches, including the Company’s first two branches in Nassau County located in Merrick and Massapequa, and one in western Suffolk County located in Melville, the transaction expanded our geographic footprint into Nassau County, complemented our existing branch network and enhanced our asset generation capabilities. The expanded branch network allowed the Company to serve a greater portion of the Long Island and metropolitan marketplace.
Quarterly Highlights
Current Environment
The Bank continues to operate in a highly regulated environment with many new regulations issued and remaining to be issued under the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) enacted on July 21, 2010. The Federal Deposit Insurance Corporation and the other federal bank regulatory agencies issued a final rule in July 2013 that revised their leverage and risk-based capital requirements and the method for calculating risk-weighted assets to make them consistent with agreements that were reached by the Basel Committee on Banking Supervision and certain provisions of the Dodd-Frank Act. Among other things, the rule establishes a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets), increases the minimum Tier 1 capital to risk-based assets requirement (from 4% to 6% of risk-weighted assets) and assigns a higher risk weight (150%) to exposures that are more than 90 days past due or are on nonaccrual status and to certain commercial real estate facilities that finance the acquisition, development or construction of real property. The rule also requires unrealized gains and losses on certain “available-for-sale” securities holdings to be included for purposes of calculating regulatory capital unless a one-time opt-out is exercised. Additional constraints will also be imposed on the inclusion in regulatory capital of mortgage-servicing assets, defined tax assets and minority interests. The rule limits a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets in addition to the amount necessary to meet its minimum risk-based capital requirements. The final rule became effective for the Bank on January 1, 2015. The capital conservation buffer requirement will be phased in beginning January 1, 2016 and ending January 1, 2019, when the full capital conservation buffer requirement will be effective. The final rules, while more favorable to community banks, require that all banks maintain higher levels of capital. Taken together, these factors present formidable challenges to the banking industry.
The Federal Reserve has maintained the federal funds target rate between 0 and 25 basis points since April 2010 as an effort to foster employment. In June 2013, the Federal Open Market Committee (“FOMC”) announced the continued purchase of agency mortgage-backed securities and longer term Treasury securities until certain improvements in the economy were achieved. Those actions have resulted in a prolonged low interest rate environment reducing yields on interest earning assets and compressing the Company’s net interest margin. In October 2014, the FOMC concluded its asset purchase plan but continued its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities and rolling over maturing Treasury securities at auction. This accommodative policy continues, and in September 2015, the FOMC reaffirmed its view that the current federal funds target rate remains appropriate. In determining how long to maintain this target range, the FOMC will assess progress towards their long term employment and inflation objectives although economic conditions may warrant, for some time, keeping the target rate below levels the FOMC views as normal.
Growth and service strategies have the potential to offset the compression on net interest margin with volume as the customer base grows through expanding the Bank’s footprint, while maintaining and developing existing relationships. Since 2010, the Bank has opened ten new branches, including the most recent branch openings in September 2014 in Bay Shore, New York, November 2014 in Port Jefferson, New York and December 2014 in Smithtown, New York. Most of the recent branch openings move the Bank geographically westward and demonstrate its commitment to traditional growth through branch expansion. The Bank has also grown through acquisitions including the May 2011 acquisition of Hampton State Bank, the February 2014 acquisition of FNBNY and the June 2015 acquisition of CNB. Management will continue to seek opportunities to expand its reach into other contiguous markets by network expansion, or through the addition of professionals with established customer relationships.
Challenges and Opportunities
As noted earlier, on June 19, 2015 the Company acquired CNB. This acquisition increases the Company’s scale and continues the westward expansion into new markets in Nassau County, Queens and Manhattan. Management recognizes the challenges associated with acquisitions and leveraged the experience gained from prior acquisitions to successfully integrate the operations of CNB.
The Bank continues to face challenges associated with a fragile economic recovery, ever increasing regulations, and the current historically low interest rate environment. Over time, increases in rates should provide some relief to net interest margin compression as new loans are funded and securities are reinvested at higher rates. However, in the short term, the fair value of our available for sale securities declines when rates increase, resulting in net unrealized losses and a reduction in stockholders’ equity. Strategies for managing for the eventuality of higher rates have a cost. Extending liability maturities or shortening the tenor of assets increases interest expense and reduces interest income. An additional method for managing in a higher rate environment is to grow stable core deposits, requiring continued investment in people, technology and branches. Over time, the costs of these strategies should provide long term benefits.
The key to delivering on the Company’s mission is combining its expanding branch network, improving technology, and experienced professionals with the critical element of local decision making. The successful expansion of the franchise’s geographic reach continues to deliver the desired results: increasing core deposits and loans, and generating higher levels of revenue and income.
Corporate objectives for 2015 include: successful integration of the operations of CNB; leveraging our expanding branch network to build customer relationships and grow loans and deposits; focusing on opportunities and processes that continue to enhance the customer experience at the Bank; improving operational efficiencies and prudent management of non-interest expense; and maximizing non-interest income through Bridge Abstract as well as other lines of business. Management believes there remain opportunities to grow the franchise and that continued investments to generate core funding, quality loans and new sources of revenue remain keys to continue creating long term shareholder value. The ability to attract, retain, train and cultivate employees at all levels of the Company remains significant to meeting corporate objectives. The Company has made great progress toward the achievement of these objectives, and avoided many of the problems facing other financial institutions as a result of maintaining discipline in its underwriting, expansion strategies, investing and general business practices. The Company has capitalized on opportunities presented by the market and diligently seeks opportunities for growth and to strengthen the franchise. The Company recognizes the potential risks of the current economic environment and will monitor the impact of market events as we consider growth initiatives and evaluate loans and investments. Management and the Board have built a solid foundation for growth and the Company is positioned to adapt to anticipated changes in the industry resulting from new regulations and legislative initiatives.
Critical Accounting Policies
Allowance for Loan Losses
Management considers the accounting policy on the allowance for loan losses to be the most critical and requires complex management judgment as discussed below. The judgments made regarding the allowance for loan losses can have a material effect on the results of operations of the Company.
Individual valuation allowances are established in connection with specific loan reviews and the asset classification process including the procedures for impairment testing under FASB Accounting Standard Codification (“ASC”) No. 310, “Receivables.” Such valuation, which includes a review of loans for which full collectibility in accordance with contractual terms is not reasonably assured, considers the estimated fair value of the underlying collateral less the costs to sell, if any, or the present value of expected future cash flows, or the loan’s observable market value. Any shortfall that exists from this analysis results in a specific allowance for the loan. Pursuant to our policy, loan losses must be charged-off in the period the loans, or portions thereof, are deemed uncollectible. Assumptions and judgments by management, in conjunction with outside sources, are used to determine whether full collectibility of a loan is not reasonably assured. These assumptions and judgments are also used to determine the estimates of the fair value of the underlying collateral or the present value of expected future cash flows or the loan’s observable market value. Individual valuation allowances could differ materially as a result of changes in these assumptions and judgments. Individual loan analyses are periodically performed on specific loans considered impaired. The results of the individual valuation allowances are aggregated and included in the overall allowance for loan losses.
For purchased credit impaired loans, a valuation allowance is established when it is probable that the Bank will be unable to collect all the cash flows expected at acquisition plus additional cash flows expected to be collected arising from changes in estimate after acquisition. A specific allowance is established when subsequent evaluations of expected cash flows from purchased credit impaired loans reflect a decrease in those estimates.
Net Income
Net income for the three months ended September 30, 2015 was $7.9 million and $0.45 per diluted share as compared to $4.9 million and $0.42 per diluted share for the same period in 2014, and included (i) $0.8 million in costs, net of income taxes, associated with the CNB acquisition and (ii) an $11.7 million or 67.5% increase in net interest income as a result of growth in interest earning assets primarily related to acquired CNB assets; (ii) a $1.0 million or 200.0% increase in the provision for loan losses principally due to growth in the loan portfolio; (iii) a $1.4 million or 53.2% increase in total non-interest income; and (iv) a $7.3 million or 60.2% increase in total non-interest expense primarily related to a $3.3 million increase in salary and employee benefits and a $1.2 million increase in occupancy and equipment costs due to the acquisition of CNB, expanding infrastructure and new branches, a $0.9 million increase in acquisition costs, $0.6 million increase in amortization of intangibles and an increase in other operating expense of $0.6 million.
Net income for the nine months ended September 30, 2015 was $13.1 million and $0.94 per diluted share as compared to $9.6 million and $0.83 per diluted share for the same period in 2014 and included (i) $6.2 million in costs, net of income taxes, associated with the CNB acquisition and; (ii) an income tax expense reduction of $0.4 million related to the impact of changes in New York City tax law enacted in the second quarter of 2015 and effective on January 1, 2015; (iii) an $18.5 million or 37.2% increase in net interest income as a result of growth in interest earning assets primarily related to loans and acquired CNB assets; (iv) $1.3 million or 76.5%increase in the provision for loan losses and; (v) a $3.6 million or 63.7% increase in total non-interest income related to non-recurring net securities losses of $1.1 million in 2014 as well as increases in customer service fees and title fee income of $0.5 million and an increase in other operating income of $1.8 million; and (vi) an increase of $15.5 million in non-interest expenses primarily related to the acquired operations of CNB. The effective income tax rate was 33.6% for the nine months ended September 30, 2015 compared to 33.5% for the same period last year.
Analysis of Net Interest Income
Net interest income, the primary contributor to earnings, represents the difference between income on interest earning assets and expenses on interest bearing liabilities. Net interest income depends upon the volume of interest earning assets and interest bearing liabilities and the interest rates earned or paid on them.
The following tables set forth certain information relating to the Company’s average consolidated balance sheets and its consolidated statements of income for the periods indicated and reflect the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown. Average balances are derived from daily average balances and include nonaccrual loans. The yields and costs include fees, which are considered adjustments to yields. Interest on nonaccrual loans has been included only to the extent reflected in the consolidated statements of income. For purposes of this table, the average balances for investments in debt and equity securities exclude unrealized appreciation/depreciation due to the application of FASB ASC 320, “Investments - Debt and Equity Securities.”
Rate/Volume Analysis
Net interest income can be analyzed in terms of the impact of changes in rates and volumes. The following table illustrates the extent to which changes in interest rates and in the volume of average interest earning assets and interest bearing liabilities have affected the Bank’s interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (changes in volume multiplied by prior rate); (ii) changes attributable to changes in rates (changes in rates multiplied by prior volume); and (iii) the net changes. For purposes of this table, changes which are not due solely to volume or rate changes have been allocated to these categories based on the respective percentage changes in average volume and rate. Due to the numerous simultaneous volume and rate changes during the periods analyzed, it is not possible to precisely allocate changes between volume and rates. In addition, average earning assets include nonaccrual loans.
Analysis of Net Interest Income for the Three Months ended September 30, 2015 and September 30, 2014
Net interest income was $29.1 million for the three months ended September 30, 2015 compared to $17.4 million for the same period in 2014, an increase of $11.7 million or 67.5%. Net interest margin increased to 3.71% for the quarter ended September 30, 2015, compared to 3.45% for the quarter ended September 30, 2014 as a result of a shift in asset mix from lower yielding securities to higher yielding loans. The higher margin also reflects $0.7 million associated with greater than expected cash flows from the payoff of certain acquired loans. The total average interest earning assets increased $1.12 billion or 55.6%, yielding 4.04% and the overall funding cost was 0.34%, including demand deposits. The yield on interest earning assets increased approximately 22 basis points from 3.82% to 4.04%. The cost of interest bearing liabilities decreased approximately 2 basis points during the third quarter of 2015 compared to 2014. The increase in average total deposits of $1.06 billion and average total borrowings of $51.2 million funded higher yielding loans, which grew $1.06 billion from the comparable 2014 quarter.
For the three months ended September 30, 2015, average net loans grew by $1.06 billion or 87.9% to $2.23 billion as compared to $1.21 billion for the same period in 2014, driven by growth in commercial real estate mortgage loans, commercial, financial and agricultural loans, and multi-family mortgage loans, including loans acquired from CNB. The Bank remains committed to growing loans with prudent underwriting, sensible pricing and limited credit and extension risk.
For the three months ended September 30, 2015, average total securities increased by $54.8 million or 6.8% to $856.7 million as compared to $801.9 million for the three months ended September 30, 2014. The average interest earning cash increased by $8.0 million to $20.4 million for the three months ended September 30, 2015 as compared to $12.4 million for the same period in 2014. Average total interest bearing liabilities were $2.07 billion for the three months ended September 30, 2015 compared to $1.39 billion for the same period in 2014. The Bank grew deposits as a result of the acquisition of CNB, opening new branches and building new relationships in existing markets. The Bank continues to reduce interest rates on deposit products through prudent management of deposit pricing. The reduction in deposit rates resulted in a decrease in the cost of interest bearing liabilities to 0.51% for the three months ended September 30, 2015 from 0.53% for the same period in 2014. Since the Company’s interest bearing liabilities generally reprice or mature more quickly than its interest earning assets, an increase in short term interest rates would initially result in a decrease in net interest income. Additionally, the large percentages of deposits in money market accounts reprice at short term market rates making the balance sheet more liability sensitive.
For the three months ended September 30, 2015, average total deposits increased by $1.06 billion or 59.4% to $2.84 billion from $1.78 billion from the same period in 2014. Components of this increase include an increase in average balances in savings, NOW and money market accounts of $475.8 million or 46.0% to $1.51 billion for the three months ended September 30, 2015 compared to $1.03 billion for the same period last year. Average balances in certificates of deposit of $100,000 or more and other time deposits increased $157.7 million or 97.1% to $320.1 million for 2015 as compared to $162.4 million for the same period last year. Average balances in demand deposits increased $426.9 million or 72.7% to $1.01 billion for 2015 as compared to $587.3 million for the same period last year. Average public fund deposits comprised 13.0% of total average deposits during the three months ended September 30, 2015 and 15.4% of total average deposits for the same period in 2014. Average federal funds purchased and repurchase agreements increased $12.3 million or 15.0% to $94.2 million for the three months ended September 30, 2015 compared to $81.8 million for the same period in the prior year. Average FHLB advances increased $30.3 million to $122.8 million for the three months ended September 30, 2015 compared to $92.4 million for the same period 2014.
Total interest income increased $12.5 million or 62.2% to $31.7 million, net of the tax equivalent adjustment on tax exempt securities interest income, for the three months ended September 30, 2015 from $19.2 million for the same period in 2014. Interest income on loans increased $12.5 million or 83.5% to $27.5 million for the three months ended September 30, 2015 from $15.0 million for the same period in 2014. The yield on average loans was 4.81% for 2015 as compared to 4.93% in 2014.
Interest income on investments in mortgage-backed, taxable and tax exempt securities decreased $0.1 million to $4.5 million for the three months ended September 30, 2015 compared to $4.4 million for the same period in 2014. Interest income on securities included net amortization of premium of $1.3 million and a tax equivalent adjustment of $0.2 million in the third quarter of 2015 compared to net amortization of premium of $1.0 million and tax equivalent adjustment of $0.2 million for the same period in 2014. The tax adjusted average yield on total securities was 2.10% for 2015 as compared to 2.19% in 2014.
Interest expense was $2.7 million for the three months ended September 30, 2015 compared to $1.9 million for the same period in 2014.
Analysis of Net Interest Income for the Nine months ended September 30, 2015 and September 30, 2014
Net interest income was $68.2 million for the nine months ended September 30, 2015 compared to $49.7 million for the same period in 2014, an increase of $18.5 million or 37.2%. Net interest margin increased to 3.65% for the nine months ended September 30, 2015, compared to 3.42% for the nine months ended September 30, 2014 as a result of higher yielding investments and lower cost of interest bearing liabilities. The total average interest earning assets increased $562.4 million or 28.5%, yielding 3.99% and the overall funding cost was 0.35%, including demand deposits. The yield on interest earning assets increased approximately 19 basis points from 3.80% to 3.99%. The cost of interest bearing liabilities decreased approximately 4 basis points during the nine months ended September 30, 2015 compared to the same period in 2014. The increase in average total deposits of $537.4 million and average total borrowings of $38.5 million funded higher yielding loans, which grew $580.9 million from the comparable 2014 quarter.
For the nine months ended September 30, 2015, average net loans grew by $580.9 million or 50.8% to $1.72 billion as compared to $1.14 billion for the same period in 2014, driven by growth in commercial real estate mortgage loans, commercial, financial and agricultural loans, multi-family mortgage loans and, to a lesser extent, loans acquired in the CNB acquisition. The Bank remains committed to growing loans with prudent underwriting, sensible pricing and limited credit and extension risk.
For the nine months ended September 30, 2015, average total securities decreased by $22.3 million or 2.7% to $796.0 million as compared to $818.3 million for the nine months ended September 30, 2014. Average interest earning cash increased by $3.9 million to $15.7 million for the nine months ended September 30, 2015 as compared to $11.8 million for the same period in 2014.
Average total interest bearing liabilities were $1.68 billion for the nine months ended September 30, 2015 compared to $1.35 billion for the same period in 2014. The Bank grew deposits as a result of the acquisition of CNB, opening new branches as well as building new
relationships in existing markets. The Bank continues to reduce interest rates on deposit products through prudent management of deposit pricing. The reduction in deposit rates and the lower average balance of higher cost CDs resulted in a decrease in the cost of interest bearing liabilities to 0.51% for the nine months ended September 30, 2015 from 0.55% for the same period in 2014. Since the Company’s interest bearing liabilities generally reprice or mature more quickly than its interest earning assets, an increase in short term interest rates would initially result in a decrease in net interest income. Additionally, the large percentages of deposits in money market accounts reprice at short term market rates making the balance sheet more liability sensitive.
For the nine months ended September 30, 2015, average total deposits increased by $537.4 million or 31.5% to $2.25 billion from $1.71 billion from the same period in 2014. Components of this increase include an increase in average balances in savings, NOW and money market accounts of $241.1 million or 24.3% to $1.23 billion for the nine months ended September 30, 2015 compared to $992.4 million for the same period last year. Average balances in certificates of deposit of $100,000 or more and other time deposits increased $51.4 million or 32.9% to $207.3 million for 2015 as compared to $155.9 million for the same period last year. Average balances in demand deposits increased $245.0 million or 43.8% to $804.4 million for 2015 as compared to $559.4 million for the same period last year. Average public fund deposits comprised 16.0% of total average deposits during the nine months ended September 30, 2015 and 17.9% of total average deposits for the same period in 2014. Average federal funds purchased and repurchase agreements increased $34.4 million or 46.9% to $107.9 million for the nine months ended September 30, 2015 compared to $73.5 million for the same period in the prior year. Average FHLB advances increased $1.1 million to $114.4 million for the nine months ended September 30, 2015 compared to $113.3 million for the same period 2014.
Total interest income increased $19.3 million or 34.9% to $74.6 million, net of the tax equivalent adjustment on tax exempt securities and tax exempt loan interest income, for the nine months ended September 30, 2015 from $55.3 million for the same period in 2014. Interest income on loans increased $20.3 million or 48.0% to $62.7 million for the nine months ended September 30, 2015 from $42.4 million for the same period in 2014. The yield on average loans was 4.87% for 2015 as compared to 4.96 % in 2014.
Interest income on investments in mortgage-backed, taxable and tax exempt securities decreased $0.8 million to $12.9 million for the nine months ended September 30, 2015 compared to $13.7 million for the same period in 2014. Interest income on securities included net amortization of premium of $3.7 million and a tax equivalent adjustment of $0.7 million in the 2015 compared to net amortization of premium of $2.4 million and tax equivalent adjustment of $0.8 million for the same period in 2014. The tax adjusted average yield on total securities was 2.17% for 2015 as compared to 2.24% in 2014.
Interest expense was $6.4 million for the nine months ended September 30, 2015 compared to $5.6 million for the same period in 2014.
Provision and Allowance for Loan Losses
The Bank’s loan portfolio consists primarily of real estate loans secured by commercial and residential real estate properties located in the Bank’s principal lending areas of Nassau and Suffolk Counties, Long Island. The interest rates charged by the Bank on loans are affected primarily by the demand for such loans, the supply of money available for lending purposes, the rates offered by its competitors, the Bank’s relationship with the customer, and the related credit risks of the transaction. These factors are affected by general and economic conditions including, but not limited to, monetary policies of the federal government, including the Federal Reserve Board, legislative policies and governmental budgetary matters.
Based on our continuing review of the overall loan portfolio, the current asset quality of the portfolio, the growth in the loan portfolio, and the net charge-offs, a provision for loan losses of $1.5 million and $3.0 million was recorded during the three and nine months ended September 30, 2015 compared to a provision for loan loss of $0.5 million and $1.7 million that was recorded during the same period in 2014. Net charge-offs were $0.1 million for the quarter ended September 30, 2015 compared to $0.6 million for the year ended December 31, 2014 and $0.2 million for the quarter ended September 30, 2014. The ratio of allowance for loan losses to nonaccrual loans was 1,444% and 1,466% at September 30, 2015 and December 31, 2014, respectively. The allowance for loan losses increased to $20.2 million at September 30, 2015 as compared to $17.6 million at December 31, 2014 and $17.0 million at September 30, 2014. As a percentage of total loans, the allowance was .88% at September 30, 2015 compared to 1.32% at December 31, 2014 and 1.37% at September 30, 2014. In accordance with current accounting guidance, the acquired CNB loans were recorded at fair value, effectively netting estimated future losses against the loan balances. Management continues to carefully monitor the loan portfolio as well as real estate trends in Nassau and Suffolk Counties.
Loans of approximately $21.7 million or 0.9% of total loans at September 30, 2015 were categorized as classified loans compared to $30.3 million or 2.3% at December 31, 2014 and $41.1 million or 3.3% at September 30, 2014. Classified loans include loans with credit quality indicators with the internally assigned grades of special mention, substandard and doubtful. These loans are categorized as classified loans as management has information that indicates the borrower may not be able to comply with the present repayment terms.
These loans are subject to increased management attention and their classification is reviewed on at least a quarterly basis. At September 30, 2015, classified loans included $3.0 million of acquired CNB loans and $0.3 million of acquired FNBNY loans.
At September 30, 2015, approximately $10.8 million of classified loans were commercial real estate (“CRE”) loans, including multi-family loans and were well secured with real estate as collateral. Of the $10.8 million of CRE loans, $8.5 million were current and $2.3 million were past due. In addition, all of the CRE loans have personal guarantees. At September 30, 2015, approximately $2.2 million of classified loans were residential real estate loans with $1.3 million current and $0.9 million past due. Commercial, financial, and agricultural loans represented $8.6 million of classified loans, with $8.5 million current and $0.1 million past due. There were no classified real estate construction loans or land loans and all were all current. All real estate construction and land loans are well secured with collateral. The remaining $0.1 million in classified loans are consumer loans that are unsecured and demonstrate sufficient cash flow to pay the loans.
CRE loans, including multi-family loans, represented $1.3 billion or 57.8% of the total loan portfolio at September 30, 2015 compared to $814.4 million or 61.0% at December 31, 2014 and $757.2 million or 61.0% at September 30, 2014. The Bank’s underwriting standards for CRE loans requires an evaluation of the cash flow of the property, the overall cash flow of the borrower and related guarantors as well as the value of the real estate securing the loan. In addition, the Bank’s underwriting standards for CRE loans are consistent with regulatory requirements with original loan to value ratios generally less than or equal to 75%. The Bank considers charge-off history, delinquency trends, cash flow analysis, and the impact of the local economy on commercial real estate values when evaluating the appropriate level of the allowance for loan losses. Real estate values in our geographic markets increased significantly from 2000 through 2007. Commencing in 2008, following the financial crisis and significant downturn in the economy, real estate values began to decline. This decline continued into 2009 and stabilized in 2010. The estimated decline in residential and commercial real estate values during this period ranged from 15-20% from the 2007 levels, depending on the nature and location of the real estate. Real estate values began to improve in 2012 and have continued into 2015.
Nonaccrual loans were $1.4 million or 0.06% of total loans at September 30, 2015 and $1.2 million or 0.09% of total loans at December 31, 2014. Approximately $0.4 million of the nonaccrual loans at September 30, 2015 and $0.5 million at December 31, 2014, represent troubled debt restructured loans.
The Bank had no other real estate owned at September 30, 2015 and December 31, 2014 and $0.6 million at September 30, 2014.
The following table sets forth changes in the allowance for loan losses:
The following table sets forth the allocation of the total allowance for loan losses by loan type:
Non-Interest Income
Total non-interest income increased $1.3 million or 53.2% to $3.9 million for the three months ended September 30, 2015 compared to $2.6 million for the same period in 2014. The increase reflects $0.3 million in gains on the sale of the guaranteed portion of Small Business Administration (“SBA”) loans, $0.3 million in gains on the sale of commercial real estate and multi-family loans, and $0.7 million in higher levels of other non-interest income associated with fee income and Bank Owned Life Insurance (“BOLI”).
Total non-interest income increased $3.6 million or 63.7% to $9.3 million for the nine months ended September 30, 2015 compared to $5.7 million for the same period in 2014. The increase was primarily the result of net securities losses of $1.1 million in 2014 compared to none in 2015, increases in customer service fees and title fee income of $0.5 million and $0.2 million, respectively, gain on sale of loans of $0.5 million, gain on sale of SBA loans of $0.3 million and an increase in other operating income of $1.0 million primarily associated with (i) BOLI of $0.5 million; and; (ii) swap fee income of $0.5 million, compared to the prior year.
Non-Interest Expense
Total non-interest expense increased $7.3 million or 60.2% to $19.4 million during the three months ended September 30, 2015 compared to $12.1 million over the same period in 2014. Salaries and employee benefits increased $3.3 million or 49.9% to $10.0 million for the three months ended September 30, 2015 from $6.7 million for the same period in 2014. The increase reflects additional staff associated with the CNB acquisition, additional positions to support the Company’s expanding infrastructure, new branches and a larger loan portfolio. Occupancy and equipment expense increased $1.2 million to $3.2 million compared to $2.0 million in September 2014. Additionally, there was $0.9 million in acquisition costs and branch restructuring charges, $0.6 million of amortization of intangibles and an increase of $0.6 million in other operating expenses.
Total non-interest expense increased $15.5 million or 39.5% to $54.7 million during the nine months ended September 30, 2015 compared to $39.2 million over the same period in 2014. Salaries and employee benefits increased $5.8 million or 30.0% to $25.1 million for the nine months ended September 30, 2015 from $19.3 million for the same period in 2014. The increase reflects additional staff associated with the CNB acquisition, additional positions to support the Company’s expanding infrastructure, new branches and a larger loan portfolio. Occupancy and equipment expense increased $2.1 million to $7.7 million as of September 30, 2015 as compared to $5.5 million for the same period last year. The increase primarily reflects facilities costs associated with the acquired CNB operations. Acquisition costs and branch restructuring charges increased $4.5 million or 96.1% to $9.3 million as compared to $4.7 million for the same period last year. Marketing and advertising and professional services both increased $0.5 million as of September 30, 2015 to $2.3 million and $1.7 million, respectively, as compared to $1.8 million and $1.2 million, respectively, for the same period last year. Other operating expenses increased $1.1 million for the nine months ended September 30, 2015 to $4.3 million as compared to $3.2 million for the nine months ended September 30, 2014. Additionally, there was $0.5 million of amortization of intangibles and an increase of $0.3 million in technology and communications.
Income Taxes
The provision for income taxes was $4.2 million for the three months ended September 30, 2015 compared to $2.5 million for the three months ended September 30, 2014. The effective rate for the three months ended September 30, 2015 was 35% compared to 33.5% for the same period in 2014. The increase in the effective rate is primarily due to higher pretax income in 2015.
The provision for income taxes was $6.6 million for the nine months ended September 30, 2015 and $4.8 for the nine months ended September 30 2014. The effective tax rate for the nine months ended September 30, 2015 increased to 33.6% from 33.5% for the same period last year. The increase in the effective rate was a result of higher pre-tax income.
Financial Condition
Total assets grew $1.29 billion to $3.51 billion, a 58.3% increase over the September 30, 2014 level of $2.22 billion, and increased 53.3% over the December 31, 2014 level of $2.29 billion. This increase reflects strong organic growth in new and existing markets as well as $899.5 million in acquired assets from CNB on June 19, 2015.
Cash and due from banks increased $15.8 million and interest earning deposits with banks increased $38.3 million compared to December 31, 2014. Total securities increased $55.6 million or 6.9% to $857.7 million and net loans increased $960.4 million or 72.7% to $2.28 billion compared to December 31, 2014 levels. The increase in net loans includes $735.6 million of CNB acquired loans. The ability to grow the loan portfolio, while minimizing interest rate risk sensitivity and maintaining credit quality, remains a strong focus of management. Goodwill and Other Intangible assets increased $94.2 million compared to December 31, 2014. Goodwill of $86.0 million, $5.9 million core deposit intangible, $2.2 non-compete intangible and $0.8 million of SBA loan servicing rights were recorded in connection with the CNB acquisition. Total deposits increased $1.07 billion to $2.91 billion at September 30, 2015 compared to $1.83 billion at December 31, 2014. Deposit growth includes $786.9 million in deposits acquired from CNB. Demand deposits increased $342.7 million to $1.05 billion as of September 30, 2015 compared to $703.1 million at December 31, 2014. Savings, NOW and money market deposits increased $560.6 million to $1.45 billion at September 30, 2014 from $989.3 million at December 31, 2014. Certificates of deposit of $100,000 or more increased $94.7 million to $177.8 million at September 30, 2015, from $83.1 million at December 31, 2014. Other time deposits increased $73.8 million to $132.1 million at September 30, 2015, from $58.3 million at December 31, 2014.
There were no Federal funds purchased as of September 30, 2015 compared to $75.0 million at December 31, 2014. Federal Home Loan Bank advances were $112.8 million as of September 30, 2015 and $138.3 million at December 31, 2014. Repurchase agreements decreased $10.1 million to $26.2 million at September 30, 2015 compared to $36.3 million as of December 31, 2014. Subordinated debentures were $78.3 million as of September 30, 2015 compared to none at December 31, 2014 and junior subordinated debentures remained at $15.9 million as of September 30, 2015 compared to December 31, 2014. Other liabilities and accrued expenses increased $14.0 million to $28.2 million as of September 30, 2015 from $14.2 million as of December 31, 2014. Stockholders’ equity was $340.4 million at September 30, 2015, an increase of $165.3 million or 94.4% from December 31, 2014, reflecting net income of $13.1 million
and $1.1 million related to stock based compensation plans, the issuance of $157.2 million in common equity in connection with the acquisition of CNB, and a decrease in the unrealized loss on available for sale securities of $3.2 million, partially offset by $9.4 million paid in dividends. In October 2015, the Company declared a quarterly dividend of $0.23 per share and continues its long term trend of uninterrupted dividends.
Liquidity
The objective of liquidity management is to ensure the sufficiency of funds available to respond to the needs of depositors and borrowers, and to take advantage of unanticipated earnings enhancement opportunities for Company growth. Liquidity management addresses the ability of the Company to meet financial obligations that arise in the normal course of business. Liquidity is primarily needed to meet customer borrowing commitments, deposit withdrawals either on demand or contractual maturity, to repay other borrowings as they mature, to fund current and planned expenditures and to make new loans and investments as opportunities arise. The Company’s principal sources of liquidity included cash and cash equivalents of $29.2 million as of September 30, 2015, and dividends from the Bank. Cash available for distribution of dividends to shareholders of the Company is primarily derived from dividends paid by the Bank to the Company. For the nine months ended September 30, 2015, the Bank paid $10.0 million in cash dividends to the Company. Prior regulatory approval is required if the total of all dividends declared by the Bank in any calendar year exceeds the total of the Bank’s net income of that year combined with its retained net income of the preceding two years. As of October 1, 2015, the Bank has $32.7 million of retained net income available for dividends to the Company. In the event that the Company subsequently expands its current operations, in addition to dividends from the Bank, it will need to rely on its own earnings, additional capital raised and other borrowings to meet liquidity needs.
The Bank’s most liquid assets are cash and cash equivalents, securities available for sale and securities held to maturity due within one year. The levels of these assets are dependent upon the Bank’s operating, financing, lending and investing activities during any given period. Other sources of liquidity include loan and investment securities principal repayments and maturities, lines of credit with other financial institutions including the Federal Home Loan Bank and Federal Reserve Bank, growth in core deposits and sources of wholesale funding such as brokered certificates of deposit. While scheduled loan amortization, maturing securities and short term investments are a relatively predictable source of funds, deposit flows and loan and mortgage-backed securities prepayments are greatly influenced by general interest rates, economic conditions and competition. The Bank adjusts its liquidity levels as appropriate to meet funding needs such as seasonal deposit outflows, loans, and asset and liability management objectives. Historically, the Bank has relied on its deposit base, drawn through its full-service branches that serve its market area and local municipal deposits, as its principal source of funding. The Bank seeks to retain existing deposits and loans and maintain customer relationships by offering quality service and competitive interest rates to its customers, while managing the overall cost of funds needed to finance its strategies.
The Bank’s Asset/Liability and Funds Management Policy allows for wholesale borrowings of up to 25% of total assets. At September 30, 2015, the Bank had aggregate lines of credit of $295.0 million with unaffiliated correspondent banks to provide short term credit for liquidity requirements. Of these aggregate lines of credit, $275.0 million is available on an unsecured basis. As of September 30, 2015, the Bank had no overnight borrowings outstanding under these lines. The Bank also has the ability, as a member of the FHLB system, to borrow against unencumbered residential and commercial mortgages owned by the Bank. The Bank also has a master repurchase agreement with the FHLB, which increases its borrowing capacity. As of September 30, 2015, the Bank had no outstanding FHLB overnight borrowings and $111.8 million outstanding in FHLB term borrowings. The Bank had $25.0 million of securities sold under agreements to repurchase outstanding as of September 30, 2015 with brokers and $1.2 million outstanding with customers. As of December 31, 2014, the Bank had $35.0 million of securities sold under agreements to repurchase outstanding with brokers and $1.3 million outstanding with customers. In addition, the Bank has approved broker relationships for the purpose of issuing brokered deposits. As of September 30, 2015, the Bank had $22.4 million outstanding in brokered certificates of deposits and $195.1 million outstanding in brokered money market accounts. As of December 31, 2014 the Bank had $8.3 million of brokered deposits.
Capital Resources
The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can result in certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s and the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital requirements that involve quantitative measures of the Company’s and Bank’s assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. The Company’s and Bank’s capital amounts and classifications also are subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the following table) of total and Tier 1 capital (as defined in the regulations) to risk weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes as of September 30, 2015, the Company
and the Bank met all capital adequacy requirements. The Company has the ability to issue additional common stock and/or preferred stock should the need arise.
On January 1, 2015, the Basel III Capital Rules became effective and include transition provisions through January 1, 2019. These rules provide for the following minimum capital to risk-weighted assets ratios as of January 1, 2015: a) 4.5% based upon common equity tier 1 capital ("CET1"); b) 6.0% based upon tier 1 capital; and c) 8.0% based upon total regulatory capital. A minimum leverage ratio (tier 1 capital as a percentage of total average assets) of 4.0% is also required under the Basel III Capital Rules.
When fully phased in, the Basel III Capital Rules will additionally require institutions to retain a capital conservation buffer, composed of CET1, of 2.5% above these required minimum capital ratio levels. The implementation of the capital conservation buffer will begin on January 1, 2016 at 0.625% and increase by 0.625% each subsequent January 1, until it reaches 2.5% on January 1, 2019. When the capital conservation buffer is fully phased in on January 1, 2019, the Company and the Bank will effectively have the following minimum capital to risk-weighted assets ratios: a) 7.0% based upon CET1; b) 8.5% based upon tier 1 capital; and c) 10.5% based upon total regulatory capital.
The Company and the Bank made the one-time, permanent election to continue to exclude the effects of accumulated other comprehensive income or loss items included in stockholders' equity for the purposes of determining the regulatory capital ratios.
The following table presents actual capital levels and minimum required levels for the Company and the Bank at September 30, 2015 (under Basel III rules) and December 31, 2014.
Impact of Inflation and Changing Prices
The Unaudited Consolidated Financial Statements and notes thereto have been prepared in accordance with U.S. generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. The primary effect of inflation on the operations of the Company is reflected in increased operating costs. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, changes in interest rates have a more significant effect on the performance of a financial institution than do the effects of changes in the general rate of inflation and changes in prices. Changes in interest rates could adversely affect our results of operations and financial condition. Interest rates do not necessarily move in the same direction, or in the same magnitude, as the prices of goods and services. Interest rates are highly sensitive to many factors, which are beyond the control of the Company, including the influence of domestic and foreign economic conditions and the monetary and fiscal policies of the United States government and federal agencies, particularly the Federal Reserve Bank.
Recent Regulatory and Accounting Developments
Refer to Note 16. “Recent Accounting Pronouncements,” of the Condensed Notes to the Consolidated Financial Statements for details related to recent regulatory and accounting developments.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Asset/Liability Management
Management considers interest rate risk to be the most significant market risk for the Company. Market risk is the risk of loss from adverse changes in market prices and rates. Interest rate risk is the exposure to adverse changes in the net income of the Company as a result of changes in interest rates.
The Company’s primary earnings source is net interest income, which is affected by changes in the level of interest rates, the relationship between rates, the impact of interest rate fluctuations on asset prepayments, the level and composition of deposits and liabilities, and the credit quality of earning assets. The Company’s objectives in its asset and liability management are to maintain a strong, stable net interest margin, to utilize its capital effectively without taking undue risks, to maintain adequate liquidity, and to reduce vulnerability of its operations to changes in interest rates.
The Company’s Asset and Liability Committee evaluates periodically, but at least four times a year, the impact of changes in market interest rates on assets and liabilities, net interest margin, capital and liquidity. Risk assessments are governed by policies and limits established by senior management, which are reviewed and approved by the full Board of Directors at least annually. The economic environment continually presents uncertainties as to future interest rate trends. The Asset and Liability Committee regularly utilizes a model that projects net interest income based on increasing or decreasing interest rates, in order to be better able to respond to changes in interest rates.
At September 30, 2015, $790.4 million or 92.2% of the Company’s securities had fixed interest rates. Changes in interest rates affect the value of the Company’s interest earning assets and in particular its securities portfolio. Generally, the value of securities fluctuates inversely with changes in interest rates. Increases in interest rates could result in decreases in the market value of interest earning assets, which could adversely affect the Company’s stockholders’ equity and its results of operations if sold. The Company is also subject to reinvestment risk associated with changes in interest rates. Changes in market interest rates also could affect the type (fixed-rate or adjustable-rate) and amount of loans originated by the Company and the average life of loans and securities, which can impact the yields earned on the Company’s loans and securities. In periods of decreasing interest rates, the average life of loans and securities held by the Company may be shortened to the extent increased prepayment activity occurs during such periods which, in turn, may result in the investment of funds from such prepayments in lower yielding assets. Under these circumstances the Company is subject to reinvestment risk to the extent that it is unable to reinvest the cash received from such prepayments at rates that are comparable to the rates on existing loans and securities. Additionally, increases in interest rates may result in decreasing loan prepayments with respect to fixed rate loans (and therefore an increase in the average life of such loans), may result in a decrease in loan demand, and make it more difficult for borrowers to repay adjustable rate loans.
The Company utilizes the results of a detailed and dynamic simulation model to quantify the estimated exposure to net interest income to sustained interest rate changes. Management routinely monitors simulated net interest income sensitivity over a rolling two-year horizon. The simulation model captures the seasonality of the Company’s deposit flows and the impact of changing interest rates on the interest income received and the interest expense paid on all assets and liabilities reflected on the Company’s consolidated balance sheet. This sensitivity analysis is compared to the asset and liability policy limits that specify a maximum tolerance level for net interest
income exposure over a one-year horizon given a 100 and 200 basis point upward shift in interest rates and a 100 basis point downward shift in interest rates. A parallel and pro-rata shift in rates over a twelve-month period is assumed.
The following reflects the Company’s net interest income sensitivity analysis at September 30, 2015:
As noted in the table above, a 200 basis point increase in interest rates is projected to decrease net interest income over the next twelve months by 3.64 percent. Our balance sheet sensitivity to such a move in interest rates at September 30, 2015 decreased as compared to September 30, 2014 (which was a decrease of 6.29 percent in net interest income over a 12 month period). This decrease is due to several factors which reflect our strategy to lessen our exposure to rising rates. Over the intervening year, the effective duration (a measure of price sensitivity to interest rates) of the bond portfolio increased from 3.98 to 3.46. Additionally, the bank has increased its use of swaps to extend liabilities.
The preceding sensitivity analysis does not represent a Company forecast and should not be relied upon as being indicative of expected operating results. These hypothetical estimates are based upon numerous assumptions including, but not limited to, the nature and timing of interest rate levels and yield curve shapes, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, and reinvestment and replacement of asset and liability cash flows. While assumptions are developed based upon perceived current economic and local market conditions, the Company cannot make any assurances as to the predictive nature of these assumptions including how customer preferences or competitor influences may change.
Also, as market conditions vary from those assumed in the sensitivity analysis, actual results will also differ due to prepayment and refinancing levels likely deviating from those assumed, the varying impact of interest rate change caps or floors on adjustable rate assets, the potential effect of changing debt service levels on customers with adjustable rate loans, depositor early withdrawals, prepayment penalties and product preference changes and other internal and external variables. Furthermore, the sensitivity analysis does not reflect actions that management might take in responding to, or anticipating changes in interest rates and market conditions. Management considers interest rate risk to be the most significant market risk for the Company. Interest rate risk is the exposure to adverse changes in the net income of the Company as a result of changes in interest rates.
Item 4. Controls and Procedures
An evaluation was performed under the supervision and with the participation of the Company’s management, including the Principal Executive Officer and Principal Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of September 30, 2015. Based on that evaluation, the Company’s Principal Executive Officer and Principal Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this quarterly report. There has been no change in the Company’s internal control over financial reporting during the quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
From time to time the Company and its subsidiaries are subject to various legal actions arising in the normal course of business. In the opinion of management, the resolution of these legal actions is not expected to have a material adverse effect on the consolidated Company’s consolidated financial condition or results of operations.
Item 1A. Risk Factors
There have been no material changes to the factors disclosed in Item 1A., Risk Factors, in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults upon Senior Securities
Not applicable.
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
In accordance with the requirement of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.