UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
X
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2019
or
☐
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission File Number 001-36613
Middlefield Banc Corp.
(Exact Name of Registrant as Specified in its Charter)
Ohio
34-1585111
State or Other Jurisdiction of
I.R.S. Employer Identification No.
Incorporation or Organization
15985 East High Street, Middlefield, Ohio
44062-0035
Address of Principal Executive Offices
Zip Code
440-632-1666
Registrant’s Telephone Number, Including Area Code
Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report
Securities Registered Pursuant to Section 12(b) of The Act:
Title of Each Class
Trading Symbol(s)
Name of Each Exchange on Which Registered
Common Stock, Without Par Value
MBCN
The NASDAQ Stock Market, LLC
(NASDAQ Capital Market)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes X No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐
Accelerated filer X
Non-accelerated filer ☐
Smaller reporting company X
Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No X
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Outstanding at November 5, 2019: 3,211,713
MIDDLEFIELD BANC CORP.
INDEX
Part I – Financial Information
Item 1.
3
4
5
6
8
10
Item 2.
32
Item 3.
42
Item 4.
43
Part II – Other Information
44
Item 1a.
Item 5.
Item 6.
45
Signatures
50
Exhibit 31.1
Exhibit 31.2
Exhibit 32
CONSOLIDATED BALANCE SHEET
(Dollar amounts in thousands, except share data)
(Unaudited)
September 30,
December 31,
2019
2018
ASSETS
Cash and due from banks
Federal funds sold
Cash and cash equivalents
Equity securities, at fair value
Investment securities available for sale, at fair value
Loans held for sale
Loans
Less allowance for loan and lease losses
Net loans
Premises and equipment, net
Goodwill
Core deposit intangibles
Bank-owned life insurance
Accrued interest receivable and other assets
TOTAL ASSETS
LIABILITIES
Deposits:
Noninterest-bearing demand
Interest-bearing demand
Money market
Savings
Time
Total deposits
Short-term borrowings:
Federal funds purchased
Federal Home Loan Bank advances
Total short-term borrowings
Other borrowings
Accrued interest payable and other liabilities
TOTAL LIABILITIES
STOCKHOLDERS' EQUITY
Common stock, no par value; 10,000,000 shares authorized, 3,647,146 and 3,630,497 shares issued; 3,211,565 and 3,244,332 shares outstanding
Retained earnings
Accumulated other comprehensive income (loss)
Treasury stock, at cost; 435,581 and 386,165 shares
TOTAL STOCKHOLDERS' EQUITY
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
See accompanying notes to unaudited consolidated financial statements.
CONSOLIDATED STATEMENT OF INCOME
(Dollar amounts in thousands, except per share data)
Three Months Ended
Nine Months Ended
INTEREST AND DIVIDEND INCOME
Interest and fees on loans
Interest-earning deposits in other institutions
Investment securities:
Taxable interest
Tax-exempt interest
Dividends on stock
Total interest and dividend income
INTEREST EXPENSE
Deposits
Short-term borrowings
Total interest expense
NET INTEREST INCOME
Provision for loan losses
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES
NONINTEREST INCOME
Service charges on deposit accounts
Investment securities gains on sale, net
(Loss) gain on equity securities
Earnings on bank-owned life insurance
Gain on sale of loans
Other income
Total noninterest income
NONINTEREST EXPENSE
Salaries and employee benefits
Occupancy expense
Equipment expense
Data processing costs
Ohio state franchise tax
Federal deposit insurance expense
Professional fees
Advertising expense
Software amortization expense
Core deposit intangible amortization
Other expense
Total noninterest expense
Income before income taxes
Income taxes
NET INCOME
EARNINGS PER SHARE
Basic
Diluted
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
(Dollar amounts in thousands)
Net income
Other comprehensive income (loss):
Net unrealized holding gain (loss) on available-for-sale investment securities
Tax effect
Reclassification adjustment for investment securities gains included in net income
Total other comprehensive income (loss)
Comprehensive income
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
(Dollar amounts in thousands, except share and per share data)
Accumulated
Other
Total
Common Stock
Retained
Comprehensive
Treasury
Stockholders'
Shares
Amount
Earnings
Income
Stock
Equity
Balance, June 30, 2019
Other comprehensive income
Dividend reinvestment and purchase plan
Treasury shares acquired (31,669)
Cash dividends ($0.28 per share)
Balance, September 30, 2019
Loss
Balance, June 30, 2018
Other comprehensive loss
Stock options exercised
Balance, September 30, 2018
(continued on following page)
(Unaudited, continued from previous page)
Income (Loss)
Balance, December 31, 2018
Stock-based compensation, net
Treasury shares acquired (49,416)
Cash dividends ($0.84 per share)
Balance, December 31, 2017
Change in accounting principle for adoption of ASU 2016-01
Change in accounting principle for adoption of ASU 2018-02
Cash dividends ($0.89 per share)
CONSOLIDATED STATEMENT OF CASH FLOWS
OPERATING ACTIVITIES
Adjustments to reconcile net income to net cash provided by operating activities:
Gain on equity securities
Depreciation and amortization of premises and equipment, net
Financing lease amortization expense
Amortization of premium and discount on investment securities, net
Accretion of deferred loan fees, net
Amortization of core deposit intangibles
Stock-based compensation expense
Origination of loans held for sale
Proceeds from sale of loans
Deferred income tax
Net (gain) loss on other real estate owned
Increase in accrued interest receivable
Increase in accrued interest payable
Other, net
Net cash provided by operating activities
INVESTING ACTIVITIES
Investment securities available for sale:
Proceeds from repayments and maturities
Proceeds from sale of securities
Purchases
Increase in loans, net
Proceeds from the sale of other real estate owned
Purchase of premises and equipment
Purchase of restricted stock
Net cash used in investing activities
FINANCING ACTIVITIES
Net increase in deposits
Increase (decrease) in short-term borrowings, net
Repayment of other borrowings
Restricted stock cash portion
Proceeds from dividend reinvestment and purchase plan
Repurchase of treasury shares
Cash dividends
Net cash provided by financing activities
Increase in cash and cash equivalents
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
CASH AND CASH EQUIVALENTS AT END OF PERIOD
SUPPLEMENTAL INFORMATION
Interest on deposits and borrowings
Noncash operating transactions:
Operating lease assets added to other, net
Operating lease liabilities added to other, net
Noncash investing transactions:
Transfers from loans to other real estate owned
Transfer of equity securities from investment securities available for sale, at fair value
Finance lease assets added to premises and equipment
Noncash financing transactions:
Finance lease liabilities added to borrowed funds
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The consolidated financial statements of Middlefield Banc Corp. ("Company") include its bank subsidiary, The Middlefield Banking Company (“MBC” or “Middlefield Bank”), and a nonbank asset resolution subsidiary EMORECO, Inc. The consolidated financial statements also include the accounts of MBC’s subsidiary, Middlefield Investments, Inc. (MI), established March 13, 2019. All significant inter-company items have been eliminated.
The unaudited condensed consolidated financial statements have been prepared in conformity with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles (“GAAP”) for complete financial statements. The financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Form 10-K for the year ended December 31, 2018. The interim consolidated financial statements include all adjustments (consisting of only normal recurring items) that, in the opinion of management, are necessary for a fair presentation of the financial position and results of operations for the periods presented. The results of operations for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for a full year.
Recently Adopted Accounting Pronouncements –
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The standard requires lessees to recognize the assets and liabilities that arise from leases on the balance sheet. A lessee should recognize in the statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. A short-term lease is defined as one in which (a) the lease term is 12 months or less and (b) there is not an option to purchase the underlying asset that the lessee is reasonably certain to exercise. For short-term leases, lessees may elect to recognize lease payments over the lease term on a straight-line basis. For public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2018, and interim periods within those years. For all other entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2019, and for interim periods within fiscal years beginning after December 15, 2020. The amendments should be applied at the beginning of the earliest period presented using a modified retrospective approach with earlier application permitted as of the beginning of an interim or annual reporting period. On January 1, 2019, the Company adopted ASU 2016-02 which resulted in the recording of finance lease assets and liabilities of $3.8 million and operating lease assets and liabilities of $1.1 million on the Consolidated Balance Sheet. See Note 9 to the financial statements.
Recently Issued Accounting Pronouncements –
In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments (“CECL”), which changes the impairment model for most financial assets. This Update is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The underlying premise of the Update is that financial assets measured at amortized cost should be presented at the net amount expected to be collected, through an allowance for credit losses that is deducted from the amortized cost basis. The allowance for credit losses should reflect management’s current estimate of credit losses that are expected to occur over the remaining life of a financial asset. The income statement will be effected for the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period. ASU 2016-13 is effective for annual and interim periods beginning after December 15, 2019, and early adoption is permitted for annual and interim periods beginning after December 15, 2018. With certain exceptions, transition to the new requirements will be through a cumulative effect adjustment to opening retained earnings as of the beginning of the first reporting period in which the guidance is adopted. On October 16, 2019, the FASB voted to defer the effective date for ASC 326, Financial Instruments – Credit Losses, for smaller reporting companies to fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. The final ASU is expected to be issued in mid-November. The CECL model has been completed and runs concurrently with the existing incurred loss model each month. Management continues monitoring model output, with final assumption changes expected to be made in the fourth quarter.
NOTE 2 – REVENUE RECOGNITION
In accordance with ASC Topic 606, management determined that the primary sources of revenue, which emanate from interest income on loans and investments, along with noninterest revenue resulting from investment security gains, gains on the sale of loans, and BOLI income, are not within the scope of ASC 606. These revenue sources cumulatively comprise 92.2% of the total revenue of the Company.
The main types of noninterest income within the scope of the standard are as follows:
Service charges on deposit accounts – The Company has contracts with its deposit customers where fees are charged if the account balance falls below predetermined levels defined as compensating balances. These agreements can be cancelled at any time by either the Company or the deposit customer. Revenue from these transactions is recognized on a monthly basis as the Company has an unconditional right to the fee consideration. The Company also has transaction fees related to specific customer requests or activities that include overdraft fees, online banking fees, and other transaction fees. All of these fees are attributable to specific performance obligations of the Company where the revenue is recognized at a defined point in time, which is completion of the requested service/transaction.
Gains (losses) on sale of other real estate owned (“OREO”) – Gains and losses are recognized at the completion of the property sale when the buyer obtains control of the real estate and all of the performance obligations of the Company have been satisfied. Evidence of the buyer obtaining control of the asset include transfer of the property title, physical possession of the asset, and the buyer obtaining control of the risks and rewards related to the asset. In situations where the Company agrees to provide financing to facilitate the sale, additional analysis is performed to ensure that the contract for sale identifies the buyer and seller, the asset to be transferred and the payment terms, that the contract has a true commercial substance and that amounts due from the buyer are reasonable. In situations where financing terms are not reflective of current market terms, the transaction price is discounted, impacting the gain/loss and the carrying value of the asset.
The following table depicts the disaggregation of revenue derived from contracts with customers to depict the nature, amount, timing, and uncertainty of revenue and cash flows:
For the Three Months Ended
For the Nine Months
Ended September 30,
Noninterest Income
Overdraft fees
ATM banking fees
Service charges and other fees
Investment securities gains on sale, net (a)
(Loss) gain on equity securities (a)
Earnings on bank-owned life insurance (a)
Gain on sale of loans (a)
Net gain (loss) on other real estate owned
NOTE 3 - STOCK-BASED COMPENSATION
The Company had no nonvested stock options outstanding as of September 30, 2019 and 2018.
Stock option activity during the nine months ended September 30, 2019 is as follows:
Weighted-
average
Exercise Price
Per Share
Outstanding, January 1, 2019
Exercised
Outstanding, September 30, 2019
Exercisable, September 30, 2019
The following table presents the activity during the nine months ended September 30, 2019 related to awards of restricted stock:
Grant Date Fair
Units
Value Per Unit
Nonvested at January 1, 2019
Granted
Vested
Nonvested at September 30, 2019
Expected to vest as of September 30, 2019
The Company recognizes restricted stock forfeitures in the period they occur.
Share-based compensation expense of $180,000 and $90,000 was recognized for the three-month periods ended September 30, 2019 and 2018, respectively. Share-based compensation expense of $270,000 and $226,000 was recognized for the nine-month periods ended September 30, 2019 and 2018, respectively. Since the shares of restricted stock are historically paid out at the vesting date in a combination of shares and cash, the Company has recorded a liability related to this plan which totals $416,000 and $351,000 at September 30, 2019 and 2018, respectively. When the shares vest, the amount distributed in shares is transferred to common stock and the remainder is distributed in cash.
Total unrecognized stock compensation cost related to nonvested share-based compensation on restricted stock as of September 30, 2019 totals $354,000, of which $63,000 is estimated for the rest of 2019, $139,000 for 2020, $131,000 for 2021, and $21,000 for 2022.
NOTE 4 - EARNINGS PER SHARE
The Company provides dual presentation of basic and diluted earnings per share. Basic earnings per share is calculated by dividing net income by the average shares outstanding. Diluted earnings per share adds the dilutive effects of stock options and restricted stock to average shares outstanding.
The following table sets forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings-per-share computation.
For the Three
For the Nine
Months Ended
September 30, 2019
Weighted-average common shares issued
Average treasury stock shares
Weighted-average common shares and common stock equivalents used to calculate basic earnings per share
Additional common stock equivalents (stock options and restricted stock) used to calculate diluted earnings per share
Weighted-average common shares and common stock equivalents used to calculate diluted earnings per share
Options to purchase 7,250 shares of common stock at $17.55 per share, were outstanding during the three and nine months ended September 30, 2019. Also outstanding were 30,770 shares of restricted stock. None of the outstanding options or restricted stock were anti-dilutive.
Options to purchase 13,600 shares of common stock, at prices ranging from $17.55 to $23.00, were outstanding during the three and nine months ended September 30, 2018. Also outstanding were 20,425 shares of restricted stock. None of the outstanding options or restricted stock were anti-dilutive.
When shares recognized as equity are repurchased, the amount of the consideration paid, which includes directly attributable costs, is recognized as a deduction from equity. Repurchased shares are classified as treasury shares and are presented in the treasury share reserve. When treasury shares are sold or reissued subsequently, the amount received is recognized as an increase in equity and the resulting surplus or deficit on the transaction is presented within the share premium. The reserve for the Company’s treasury shares comprises the cost of the Company’s shares held by the Company. As of September 30, 2019, the Company held 435,581 of the Company’s shares, which is an increase of 31,669 for the quarter, and 49,416 for the nine months ended September 30, 2019, from the 386,165 shares held as of December 31, 2018.
NOTE 5 - FAIR VALUE MEASUREMENTS
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. GAAP establishes a fair value hierarchy that prioritizes the use of inputs used in valuation methodologies into the following levels:
Level I:
Quoted prices are available in active markets for identical assets or liabilities as of the reported date.
Level II:
Pricing inputs are other than the quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these assets and liabilities includes items for which quoted prices are available but traded less frequently and items that are fair valued using other financial instruments, the parameters of which can be directly observed.
Level III:
Assets and liabilities that have little to no pricing observability as of the reported date. These items do not have two-way markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation.
This hierarchy requires the use of observable market data when available.
The following tables present the assets measured on a recurring basis on the Consolidated Balance Sheet at their fair value by level within the fair value hierarchy. Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
Level I
Level II
Level III
Assets measured on a recurring basis:
U.S. government agency securities
Subordinated debt
Obligations of states and political subdivisions
Mortgage-backed securities in government-sponsored entities
Total debt securities
Equity securities in financial institutions
December 31, 2018
Investment Securities Available for Sale - The Company obtains fair values from an independent pricing service which represent quoted prices for similar assets, fair values determined by pricing models using a market approach that considers observable market data, such as interest rate volatilities, LIBOR yield curve, credit spreads and prices from market makers and live trading systems (Level II).
Equity Securities - Equity securities that are traded on a national securities exchange are valued at their last reported sales price as of the measurement date. Equity securities traded in the over-the-counter (“OTC”) markets and listed securities for which no sale was reported on that date are generally valued at their last reported “bid” price if held long, and last reported “ask” price if sold short. To the extent equity securities are actively traded and valuation adjustments are not applied, they are categorized in Level I of the fair value hierarchy.
The following tables present the assets measured on a nonrecurring basis on the Consolidated Balance Sheet at their fair value by level within the fair value hierarchy. Collateral-dependent impaired loans are carried at fair value if they have been charged down to fair value or if a specific valuation allowance has been established. A new cost basis is established at the time a property is initially recorded in OREO. OREO properties are carried at fair value if a devaluation has been taken to the property’s value at initial foreclosure or subsequent to the initial measurement. No such devaluation occurred in the nine months ended September 30, 2019.
Assets measured on a non-recurring basis:
Impaired loans
Impaired Loans – The Company has measured impairment on collateral-dependent impaired loans generally based on the fair value of the loan’s collateral. Fair value is generally determined based upon independent third-party appraisals of the properties. In some cases, management may adjust the appraised value due to the age of the appraisal, changes in market conditions, or observable deterioration of the property since the appraisal was completed. Additionally, management makes estimates about expected costs to sell the property which are also included in the net realizable value. If the fair value of the collateral-dependent loan is less than the carrying amount of the loan, a specific reserve for the loan is made in the allowance for loan losses or a charge-off is taken to reduce the loan to the fair value of the collateral (less estimated selling costs) and the loan is included in the above table as a Level III measurement. If the fair value of the collateral exceeds the carrying amount of the loan, then the loan is not included in the above table as it is not currently being carried at its fair value. The fair values in the above table exclude estimated selling costs of $2.0 million and $492,000 as of September 30, 2019 and December 31, 2018, respectively.
The following tables present additional quantitative information about assets measured at fair value on a nonrecurring basis and for which the Company uses Level III inputs to determine fair value:
Quantitative Information about Level III Fair Value Measurements
Fair Value Estimate
Appraisal of collateral (1)
Appraisal adjustments (2)
(1)
Fair value is generally determined through independent appraisals of the underlying collateral, which generally include various level III inputs which are not identifiable, less any associated allowance.
(2)
Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range and weighted average of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal.
The estimated fair value of the Company’s financial instruments not recorded at fair value on a recurring basis is as follows:
Carrying
Value
Fair Value
Financial assets:
Federal Home Loan Bank stock
Accrued interest receivable
Financial liabilities:
Accrued interest payable
All financial instruments included in the above tables, with the exception of net loans, deposits, and other borrowings, are carried at cost, which approximates the fair value of the instrument.
NOTE 6 – ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
The following table presents the changes in accumulated other comprehensive income (loss) (“AOCI”) by component net of tax for the three and nine months ended September 30, 2019 and 2018, respectively:
Accumulated Other
(a)
Balance as of June 30, 2019
Amount reclassified from accumulated other comprehensive income
Balance at September 30, 2019
Balance as of December 31, 2018
Balance as of June 30, 2018
Balance at September 30, 2018
Balance as of December 31, 2017
Change in accounting principle, ASC 2016-01 (b)
Change in accounting principle, ASC 2018-02 (b)
Period change
All amounts are net of tax. Amounts in parentheses indicate debits to AOCI.
(b)
Reclassifications are the result of the adoption of ASUs 2016-01 and 2018-02 effective for the Company beginning January 1, 2018. The reclassifications are presented within the Consolidated Statement of Changes in Stockholders’ Equity for the affected transitional periods.
The following tables present significant amounts reclassified from or to each component of AOCI:
Amounts Reclassified from Accumulated Other Comprehensive IncomeFor the Three Months Ended
Affected Line Item in
the Statement Where
Net Income is
Details about other comprehensive income
September 30, 2018
Presented
Unrealized gains on available-for-sale securities (a)
(Dollars in thousands)
Amount Reclassified from Accumulated Other Comprehensive IncomeFor the Nine Months Ended
For unrealized gains on available-for-sale securities, amounts in parentheses indicate expenses and other amounts indicate income.
NOTE 7 – INVESTMENT AND EQUITY SECURITIES
The amortized cost and fair values of investment securities available for sale are as follows:
Gross
Amortized
Unrealized
Fair
Cost
Gains
Losses
Obligations of states and political subdivisions:
Taxable
Tax-exempt
The Company recognized net (loss) gains on equity investments of ($32,000) and $12,000, respectively, for the three and nine months ended September 30, 2019. The Company recognized net gains on equity investments of $15,000 and $46,000, respectively, for the three and nine months ended September 30, 2018. No net gains on sold equity securities were realized during these periods.
The amortized cost and fair value of debt securities at September 30, 2019, by contractual maturity, are shown below. 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.
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Proceeds from the sales of investment securities and the gross realized gains and losses are as follows:
For the Three Months
Proceeds from sales
Gross realized gains
Gross realized losses
Investment securities with an approximate carrying value of $62.6 million and $63.5 million at September 30, 2019 and December 31, 2018, respectively, were pledged to secure deposits and for other purposes as required by law.
The following tables show the Company’s gross unrealized losses and fair value, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position.
Less than Twelve Months
Twelve Months or Greater
There were 14 securities considered temporarily impaired at September 30, 2019.
On a quarterly basis, the Company performs an assessment to determine whether there have been any events or economic circumstances indicating that a security with an unrealized loss has suffered other-than-temporary impairment (“OTTI”). A debt security is considered impaired if the fair value is less than its amortized cost basis at the reporting date. The Company assesses whether the unrealized loss is other than temporary.
OTTI losses are recognized in earnings when the Company has the intent to sell the debt security or it is more likely than not that it will be required to sell the debt security before recovery of its amortized cost basis. However, even if the Company does not expect to sell a debt security, it must evaluate expected cash flows to be received and determine if a credit loss has occurred.
An unrealized loss is generally deemed to be other than temporary and a credit loss is deemed to exist if the present value of the expected future cash flows is less than the amortized cost basis of the debt security. As a result, the credit loss of an OTTI is recorded as a component of investment securities gains (losses) in the accompanying Consolidated Statement of Income, while the remaining portion of the impairment loss is recognized in other comprehensive income, provided the Company does not intend to sell the underlying debt security and it is “more likely than not” that the Company will not have to sell the debt security prior to recovery.
Debt securities issued by U.S. government agencies, U.S. government-sponsored enterprises, and state and political subdivisions accounted for 96% of the total available-for-sale portfolio as of September 30, 2019 and no credit losses are expected, given the explicit and implicit guarantees provided by the U.S. federal government and the lack of prolonged unrealized loss positions within the obligations of the state and political subdivisions security portfolio. The Company considers the following factors in determining whether a credit loss exists and the period over which the debt security is expected to recover:
•
The length of time and the extent to which the fair value has been less than the amortized cost basis;
Changes in the near-term prospects of the underlying collateral of a security such as changes in default rates, loss severity given default and significant changes in prepayment assumptions;
The level of cash flows generated from the underlying collateral supporting the principal and interest payments of the debt securities; and
Any adverse change to the credit conditions and liquidity of the issuer, taking into consideration the latest information available about the overall financial condition of the issuer, credit ratings, recent legislation and government actions affecting the issuer’s industry and actions taken by the issuer to deal with the present economic climate.
For the nine months ended September 30, 2019 and 2018, there were no available-for-sale debt securities with an unrealized loss that suffered OTTI. Management does not believe any individual unrealized loss as of September 30, 2019 or December 31, 2018 represented an other-than-temporary impairment. The unrealized losses on debt securities are primarily the result of interest rate changes. These conditions will not prohibit the Company from receiving its contractual principal and interest payments on these debt securities. The fair value of these debt securities is expected to recover as payments are received on these securities and they approach maturity. Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified.
NOTE 8 - LOANS AND RELATED ALLOWANCE FOR LOAN AND LEASE LOSSES
Major classifications of loans are summarized as follows (in thousands):
Commercial and industrial
Real estate - construction
Real estate - mortgage:
Residential
Commercial
Consumer installment
Less: Allowance for loan and lease losses
The amounts above include deferred loan origination costs of $1.4 million and $1.6 million at September 30, 2019 and December 31, 2018.
The Company’s primary business activity is with customers located within its local Northeastern Ohio trade area, eastern Geauga County, and contiguous counties. The Company also serves the central Ohio market with offices in Dublin, Sunbury, Westerville, and Powell, Ohio. Commercial, residential, consumer, and agricultural loans are granted. Although the Company has a diversified loan portfolio, loans outstanding to individuals and businesses are dependent upon the local economic conditions in the Company’s immediate trade area.
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff generally are reported at their outstanding unpaid principal balances net of the allowance for loan and lease losses. Interest income is recognized on the accrual method. The accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions, the borrower’s financial condition is such that collection of interest is doubtful. Interest payments received on nonaccrual loans are applied against the unpaid principal balance until accrual status is restored.
Loan origination fees and certain direct loan origination costs are deferred with the net amount amortized over the contractual life of the loan as an adjustment of the related loan’s yield.
The following tables summarize the primary segments of the loan portfolio and allowance for loan and lease losses (in thousands):
Real Estate - Mortgage
Commercial and
industrial
Real estate- construction
Consumer
installment
Loans:
Individually evaluated for impairment
Collectively evaluated for impairment
Total loans
and industrial
Real estate-
construction
Allowance for loan and lease losses:
Ending allowance balance attributable to loans:
Total ending allowance balance
The Company’s loan portfolio is segmented to a level that allows management to monitor risk and performance. The portfolio is segmented into Commercial and Industrial (“C&I”), Real Estate Construction, Real Estate - Mortgage which is further segmented into Residential and Commercial Real Estate (“CRE”), and Consumer Installment Loans. The C&I loan segment consists of loans made for the purpose of financing the activities of commercial customers. The residential mortgage loan segment consists of loans made for the purpose of financing the activities of residential homeowners. The commercial mortgage loan segment consists of loans made for the purpose of financing the activities of commercial real estate owners and operators. The consumer loan segment consists primarily of installment loans and overdraft lines of credit connected with customer deposit accounts. The increases in the allowance for loan loss for the Residential and Commercial mortgage portfolios were partially offset by decreases in the allowance for the C&I, Real Estate Constructions, and Consumer Installment portfolios.
Management evaluates individual loans in all of the commercial segments for possible impairment based on guidance established by the Board of Directors. Loans are considered to be impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in evaluating impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. The Company does not separately evaluate individual consumer and residential mortgage loans for impairment, unless such loans are part of a larger relationship that is impaired, or the loan was modified in a troubled debt restructuring.
Once the determination has been made that a loan is impaired, the determination of whether a specific allocation of the allowance is necessary is measured by comparing the recorded investment in the loan to the fair value of the loan using one of the following methods: (a) the present value of expected future cash flows discounted at the loan’s effective interest rate; (b) the loan’s observable market price; or (c) the fair value of the collateral less selling costs. The method is selected on a loan-by-loan basis. The evaluation of the need and amount of a specific allocation of the allowance and whether a loan can be removed from impairment status is made on a quarterly basis. The Company’s policy for recognizing interest income on impaired loans does not differ from its overall policy for interest recognition.
The following tables present impaired loans by class, segregated by those for which a specific allowance was required and those for which a specific allowance was not necessary (in thousands):
Impaired Loans
Recorded
Investment
Related
Allowance
With no related allowance recorded:
With an allowance recorded:
Total:
Unpaid
Principal
The tables above include troubled debt restructuring totaling $3.6 million as of September 30, 2019 and $4.4 million as of December 31, 2018. The amounts allocated within the allowance for losses for troubled debt restructurings was $40,000 and $459,000 at September 30, 2019 and December 31, 2018, respectively.
The following tables present the average balance and interest income by class, recognized on impaired loans (in thousands):
For the Nine Months Ended
Average
Interest
Recognized
Management uses a nine-point internal risk-rating system to monitor the credit quality of the overall loan portfolio. The first five categories are considered not criticized and are aggregated as Pass rated. The criticized rating categories utilized by management generally follow bank regulatory definitions. The Special Mention category includes assets that are currently protected but have potential weaknesses, resulting in an undue and unwarranted credit risk, but not to the point of justifying a Substandard classification. Loans in the Substandard category have well-defined weaknesses that jeopardize the liquidation of the debt and have a distinct possibility that some loss will be sustained if the weaknesses are not corrected. All loans greater than 90 days past due are considered Substandard. Any portion of a loan that has been charged off is placed in the Loss category.
To help ensure that risk ratings are accurate and reflect the present and future capacity of borrowers to repay a loan as agreed, the Company has a structured loan-rating process with several layers of internal and external oversight. Generally, consumer and residential mortgage loans are included in the Pass categories unless a specific action, such as payment delinquency, bankruptcy, repossession, or death, occurs to raise awareness of a possible credit event. The Company’s Commercial Loan Officers are responsible for the timely and accurate risk rating of the loans in their portfolios at origination and on an ongoing basis. The Credit Department performs an annual review of all commercial relationships with loan balances of $500,000 or greater. Confirmation of the appropriate risk grade is included in the review on an ongoing basis. The Company engages an external consultant to conduct loan reviews on a semiannual basis. Generally, the external consultant reviews commercial relationships greater than $250,000 and criticized relationships greater than $150,000. Detailed reviews, including plans for resolution, are performed on criticized loans on at least a quarterly basis. Loans in the Special Mention and Substandard categories that are collectively evaluated for impairment are given separate consideration in the determination of the allowance.
The primary risk of commercial and industrial loans is related to deterioration in the cash flow of the business that may result in the liquidation of the business assets securing the loan. C&I loans are, by nature, secured by less substantial collateral than real estate-secured loans. The primary risk of real estate construction loans is potential delays and disputes during the completion process. The primary risk of residential real estate loans is current economic uncertainties along with the slow recovery in the housing market. The primary risk of commercial real estate loans is loss of income of the owner or occupier of the property and the inability of the market to sustain rent levels. Consumer installment loans historically have experienced higher delinquency rates. Consumer installments are typically secured by less substantial collateral than other types of credits.
The following tables present the classes of the loan portfolio summarized by the aggregate Pass and the criticized categories of Special Mention, Substandard and Doubtful within the internal risk-rating system (in thousands):
Special
Pass
Mention
Substandard
Doubtful
Management further monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due.
Nonperforming assets are nonaccrual loans including nonaccrual troubled debt restructurings (“TDR”), loans 90 days or more past due, EMORECO assets, other real estate owned, and repossessed assets. A loan is classified as nonaccrual when, in the opinion of management, there are serious doubts about collectability of interest and principal. Accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions, the borrower’s financial condition is such that collection of principal and interest is doubtful. Payments received on nonaccrual loans are applied against the principal balance.
The following tables present the aging of the recorded investment in past-due loans by class of loans (in thousands):
30-59 Days
60-89 Days
90 Days+
Current
Past Due
The following tables present the recorded investment in nonaccrual loans and loans past due over 89 days and still on accrual by class of loans (in thousands):
Nonaccrual
90+ Days Past
Due and Accruing
Interest income that would have been recorded had these loans not been placed on nonaccrual status was $295,000 for the nine months ended September 30, 2019 and $456,000 for the year ended December 31, 2018.
An allowance for loan and lease losses (“ALLL”) is maintained to absorb losses from the loan portfolio. The ALLL is based on management’s continuing evaluation of the risk characteristics and credit quality of the loan portfolio, assessment of current economic conditions, diversification and size of the portfolio, adequacy of collateral, past and anticipated loss experience, and the amount of nonperforming loans.
The Company’s methodology for determining the ALLL is based on the requirements of ASC Section 310-10-35 for loans individually evaluated for impairment (discussed above) and ASC Subtopic 450-20 for loans collectively evaluated for impairment, as well as the Interagency Policy Statement on the Allowance for Loan and Lease Losses and other bank regulatory guidance. The total of the two components represents the Company’s ALLL. Management also performs impairment analyses on TDRs, which may result in specific reserves.
Loans that are collectively evaluated for impairment are analyzed with general allowances being made as appropriate. For general allowances, historical loss trends are used in the estimation of losses in the current portfolio. These historical loss amounts are modified by other qualitative factors.
The classes described above, which are based on the purpose code assigned to each loan, provide the starting point for the ALLL analysis. Management tracks the historical net charge-off activity at the call code level. The historical charge-off factor was calculated using the last twelve consecutive historical quarters.
Management has identified a number of additional qualitative factors which it uses to supplement the historical charge-off factor because these factors are likely to cause estimated credit losses associated with the existing loan pools to differ from historical loss experience. The additional factors that are evaluated quarterly and updated using information obtained from internal, regulatory, and governmental sources are: national and local economic trends and conditions; levels of and trends in delinquency rates and nonaccrual loans; trends in volumes and terms of loans; effects of changes in lending policies; experience, ability, and depth of lending staff; value of underlying collateral; and concentrations of credit from a loan type, industry and geographic standpoint.
Management reviews the loan portfolio on a quarterly basis using a defined, consistently applied process in order to make appropriate and timely adjustments to the ALLL. When information confirms all or part of specific loans to be uncollectible, these amounts are promptly charged off against the ALLL.
The following tables summarize the primary segments of the loan portfolio and the activity within those segments (in thousands):
Real estate- residential mortgage
Real estate- commercial mortgage
ALLL balance at December 31, 2018
Charge-offs
Recoveries
Provision
ALLL balance at September 30, 2019
ALLL balance at December 31, 2017
ALLL balance at September 30, 2018
residential
mortgage
commercial
ALLL balance at June 30, 2019
ALLL balance at June 30, 2018
The provision fluctuations during the nine-month period ended September 30, 2019 allocated to:
●
commercial and industrial loans are due to the charge-off of a large relationship of $336,000 from a previous reserve of $358,000 in the first quarter.
residential portfolio are due to charge-offs and portfolio growth
commercial real estate loans are due to the reclassification of a large construction loan, with a first quarter reserve of $661,000, to commercial real estate.
The provision fluctuations during the three-month period ended September 30, 2019 allocated to:
commercial and industrial loans and commercial real estate loans are due to decreases in volume within these portfolios during the quarter.
residential portfolio are due to a strong growth in this portfolio during the quarter
The following tables summarize troubled debt restructurings (in thousands):
Number of Contracts
Pre-Modification
Post-Modification
Term
Residential real estate
The following table summarizes TDR modifications within the previous 12 months for which there was a payment default during the nine-month period ended September 30, 2018 (in thousands):
Troubled Debt Restructurings
subsequently defaulted
Number of
Contracts
There were no subsequent defaults of troubled debt restructurings for the three-month periods ended September 30, 2019 and September 30, 2018, or for the nine-month period ended September 30, 2019.
NOTE 9 – LEASE COMMITMENTS
The Company leases six of its branch locations. As of September 30, 2019, net assets recorded under leases amounted to $4.5 million and have remaining lease terms of 1 year to 6 years. As of September 30, 2019, finance lease assets included in premises and equipment, net, totaled $3.5 million and operating lease assets included in accrued interest receivable and other assets on the Consolidated Balance Sheet totaled $943,000. As of September 30, 2019, finance lease obligations included in other borrowings totaled $3.6 million and operating lease obligations included in accrued interest payable and other liabilities on the Consolidated Balance Sheet totaled $945,000.
On April 17, 2019, the Company purchased a building to relocate the Mantua branch which is and has been at a leased location as of September 30, 2019. The relocation is planned for 2020, and the Company entered into an amended lease agreement with the Mantua lessor which does not exceed 12 months. As such, the lease for the Mantua location is not considered a capitalized lease as of September 30, 2019.
Lease costs incurred are as follows:
Lease Costs:
Finance lease cost:
Amortization of right-of-use asset
Interest Expense
Operating lease cost
Total lease cost
The following table displays the weighted-average term and discount rates for both operating and finance leases outstanding as of September 30, 2019:
Operating
Finance
Weighted-average term (years)
Weighted-average discount rate
The following table displays the undiscounted cash flows due related to operating and finance leases as of September 30, 2019, along with a reconciliation to the discounted amount recorded on the September 30, 2019 balance sheet:
Undiscounted cash flows due within:
2020
2021
2022
2023
2024 and thereafter
Total undiscounted cash flows
Impact of present value discount
Amount reported on balance sheet
On September 11, 2019, the Company entered into a lease agreement for a new branch to be located in Plain City, Ohio. The commencement date of the lease is November 1, 2019, and the estimated value of the related right-of-use asset and liability to be recorded at this time is $571,000. This lease is expected to be classified as a finance lease included in premises and equipment, net, on the Consolidated Balance Sheet. The Company has no other purchase obligations for leases executed but not yet recorded.
NOTE 10 – SUBSEQUENT EVENT
On October 9, 2019, the Board of Directors of Middlefield Banc Corp. authorized a two-for-one stock split. Each shareholder of record at the close of business on October 25, 2019, will receive one additional share for every outstanding share held on the record date. The additional shares are payable on November 8, 2019. As a result, the number of outstanding shares and treasury shares will increase to approximately 6.4 million shares and 871,000 shares, respectively. The basic earnings per share determined as of September 30, 2019 is $2.95 per share, and would have been approximately $1.48 per share had this stock split occurred prior to September 30, 2019.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following management’s discussion and analysis (MD&A) provide further detail to the financial condition and results of operations of the Company. The MD&A should be read in conjunction with the notes and financial statements presented in this report.
The information contained or incorporated by reference in this report on Form 10-Q contains forward-looking statements, including certain plans, expectations, goals, and projections, which are subject to numerous assumptions, risks, and uncertainties. Actual results could differ materially from those contained or implied by such statements for a variety of factors, including: changes in economic conditions; movements in interest rates; competitive pressures on product pricing and services; success and timing of business strategies; the nature, extent, and timing of government actions and reforms; and extended disruption of vital infrastructure. All forward-looking statements included in this report on Form 10-Q are based on information available at the time of the report. Middlefield Banc Corp. assumes no obligation to update any forward-looking statement.
CHANGES IN FINANCIAL CONDITION
General. The Company’s total assets ended the September 30, 2019 quarter at $1.28 billion, an increase of $32.2 million from December 31, 2018. For the same time period, cash and cash equivalents increased $12.1 million, or 11.2%, while net loans increased $7.6 million, or 0.8%. Total liabilities increased $24.6 million or 2.2%, while stockholders’ equity increased $7.6 million, or 5.9%.
Cash and cash equivalents. Cash and cash equivalents increased $12.1 million, or 11.2%, to $120.0 million at September 30, 2019 from $107.9 million at December 31, 2018. Deposits from customers into savings and checking accounts, loan and securities repayments, and proceeds from borrowed funds typically increase these accounts. Decreases result from customer withdrawals, new loan originations, purchases of investment securities and repayments of borrowed funds.
Investment securities. Investment securities available for sale on September 30, 2019 totaled $105.0 million, an increase of $6.7 million, or 6.8%, from $98.3 million at December 31, 2018. During this period the Company recorded repayments, calls, and maturities of $8.6 million. Securities purchased were $24.8 million, and sales of securities were $12.3 million. The Company recorded $194,000 in gains on sales of investment securities and $12,000 in gains on equity securities as of September 30, 2019 on the Company’s Consolidated Statement of Income and Consolidated Statement of Cash Flows. The gain on equity securities is the result of remeasurements of fair value of the equity securities held during this nine-month period. Included in the Company’s available-for-sale investment securities as of September 30, 2019 is an investment in the subordinated debt of an Ohio-based community bank in the amount of $4.0 million at an annual interest rate of 6%.
Loans receivable. The loans receivable category consists primarily of single-family mortgage loans used to purchase or refinance personal residences located within the Company’s market area, commercial and industrial loans, and commercial real estate loans used to finance properties that are used in the borrowers’ businesses or to finance investor-owned rental properties, and to a lesser extent, construction and consumer loans. The portfolio is well disbursed, geographically, with the four branches in the central Ohio market comprising 24.0% of the Company’s total loans. Since December 31, 2017, however, 79.4% of all loan growth has come from the central Ohio footprint. Net loans receivable increased $7.6 million, or 0.8%, to $992.3 million as of September 30, 2019 from $984.7 million at December 31, 2018 due to loan growth targeted in the mid-single digits. Included in the total increase for loans receivable were increases in the residential real estate, commercial and industrial, and real estate-construction portfolios of $11.3 million, or 3.3%, $2.0 million, or 2.4%, and $833,000, or 1.5%, respectively. This increase is net of decreases in the consumer installment and commercial real estate portfolios of $1.6 million, or 9.4%, and $5.3 million, or 1.1%, respectively.
The Company’s Mortgage Banking operation generates loans for sale to the Federal Home Loan Mortgage Corporation (“Freddie Mac”). Loans held for sale on September 30, 2019 totaled $791,000, an increase of $194,000, or 32.5%, from December 31, 2018. This increase is the result of more saleable loans being funded at quarter end. The Company recorded proceeds from the sale of these loans of $12.9 million and $285,000 in gains on sale of loans as of September 30, 2019 on the Company’s Consolidated Statement of Cash Flows.
The federal banking regulators have issued guidance for those institutions which are deemed to have concentrations in commercial real estate lending. Pursuant to the supervisory criteria contained in the guidance for identifying institutions with a potential commercial real estate concentration risk, institutions which have (1) total reported loans for construction, land development, and other land acquisitions which represent 100% or more of an institution’s total risk-based capital; or (2) total commercial real estate loans representing 300% or more of the institution’s total risk-based capital and the institution’s commercial real estate loan portfolio has increased 50% or more during the prior 36 months are identified as having potential commercial real estate concentration risk. Institutions which are deemed to have concentrations in commercial real estate lending are expected to employ heightened levels of risk management with respect to their commercial real estate portfolios, and may be required to hold higher levels of capital. The Company, like many community banks, has a concentration in commercial real estate loans, and the Company has experienced growth in its commercial real estate portfolio in recent years. At September 30, 2019 non-owner-occupied commercial real estate loans (including construction, land and land development loans) represent 351.5% of total risk-based capital. Construction, land and land development loans represent 46.0% of total risk-based capital. Management has extensive experience in commercial real estate lending, and has implemented and continues to maintain heightened risk management procedures, and strong underwriting criteria with respect to its commercial real estate portfolio. Loan monitoring practices include but are not limited to periodic stress testing analysis to evaluate changes to cash flows, owing to interest rate increases and declines in net operating income. Nevertheless, we may be required to maintain higher levels of capital as a result of our commercial real estate concentrations, which could require us to obtain additional capital, and may adversely affect shareholder returns. The Company has an extensive capital planning policy, which includes proforma projections including stress testing within which the Board of Directors has established internal minimum targets for regulatory capital ratios that are in excess of well-capitalized ratios.
Allowance for Loan and Lease Losses and Asset Quality. The allowance for loan and lease losses decreased $427,000, or 5.7%, to $7.0 million at September 30, 2019 from $7.4 million at December 31, 2018. For the three months ended September 30, 2019, net loan charge-offs totaled $383,000, or 0.15% of average loans, compared to net charge-offs of $218,000, or 0.09% of average loans, for the same period in 2018. To maintain the allowance for loan and lease losses, the Company recorded a provision for loan loss of $80,000 in the three-month period ended September 30, 2019. For the nine months ended September 30, 2019, net loan charge-offs totaled $857,000, or 0.11% of average loans, compared to net charge-offs of $326,000, or 0.05%, for the same period in 2018. To maintain the allowance for loan and lease losses, the Company recorded a provision for loan loss of $430,000 in the nine-month period ended September 30, 2019. Also for this period, the ratio of the allowance for loan and lease losses to nonperforming loans was 69.64%, compared to 102.83% for the same period in the prior year. This is due to nonperforming loans being well secured and not requiring specific reserves as of September 30, 2019. During the nine months ended September 30, 2019, one central Ohio loan of $3.2 million negatively affected nonperforming loans. The reserve for this credit is $614,000. The issue is isolated to this particular borrower and it is not indicative of a trend in the market, portfolio, or an issue in underwriting. Offsetting this amount is a reserve reduction of $358,000 due to a charge off of $336,000, as well as a reserve reduction of $435,000 from the payoff of one impaired commercial real estate loan.
Management analyzes the adequacy of the allowance for loan and lease losses regularly through reviews of the performance of the loan portfolio considering economic conditions, changes in interest rates and the effect of such changes on real estate values, and changes in the amount and composition of the loan portfolio. The allowance for loan and lease losses is a significant estimate that is particularly susceptible to changes in the near term. Management’s analysis includes a review of all loans designated as impaired, historical loan loss experience, the estimated fair value of the underlying collateral, economic conditions, current interest rates, trends in the borrower’s industry and other factors that management believes warrant recognition in providing for an appropriate allowance for loan and lease losses. Future additions or reductions to the allowance for loan and lease losses will be dependent on these factors. Additionally, the Company uses an outside party to conduct an independent review of commercial and commercial real estate loans that is designed to validate management conclusions of risk ratings and the appropriateness of the allowance allocated to these loans. The Company uses the results of this review to help determine the effectiveness of policies and procedures and to assess the adequacy of the allowance for loan and lease losses allocated to these types of loans. Management believes the allowance for loan and lease losses is appropriately stated at September 30, 2019. Based on the variables involved and management’s judgments about uncertain outcomes, the determination of the allowance for loan and lease losses is considered a critical accounting policy.
Nonperforming assets. Nonperforming assets include nonaccrual loans, loans 90 days or more past due, other real estate, and repossessed assets. Real estate owned is written down to fair value at its initial recording and continually monitored for changes in fair value. A loan is classified as nonaccrual when, in the opinion of management, there are serious doubts about collectability of interest and principal. Accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions, the borrower’s financial condition is such that collection of principal and interest is doubtful. Payments received on nonaccrual loans are applied against principal until doubt about collectability ceases.
June 30, 2019
March 31, 2019
Nonperforming loans
Other real estate owned
Nonperforming assets
Allowance for loan and lease losses
Ratios:
Nonperforming loans to total loans
Nonperforming assets to total assets
Allowance for loan and lease losses to total loans
Allowance for loan and lease losses to nonperforming loans
Nonperforming loans exclude TDRs that are performing in accordance with their terms over a prescribed period of time. TDRs are those loans which the Company, for economic or legal reasons related to a borrower’s financial difficulties, grants a concession to the borrower that the Company would not otherwise consider. The Company has 26 TDRs accruing interest with a balance of $3.0 million as of September 30, 2019. A TDR that yields a market interest rate at the time of restructuring and is in compliance with its modified terms is no longer reported as a TDR in calendar years after the year in which the restructuring took place. To be in compliance with its modified terms, a loan that is a TDR must not be in nonaccrual status and must be current or less than 30 days past due on its contractual principal and interest payments under the modified repayment terms. Nonperforming loans secured by real estate totaled $9.2 million as of September 30, 2019, an increase of $3.6 million from $5.6 million at December 31, 2018.
A major factor in determining the appropriateness of the allowance for loan and lease losses is the type of collateral which secures the loans. Of the total nonperforming loans at September 30, 2019, 91.9% were secured by real estate. Although this does not insure against all losses, real estate typically provides for at least partial recovery, even in a distressed-sale and declining-value environment. The Company’s objective is to minimize the future loss exposure of the Company.
The allowance for loan and lease losses to total loans ratio decreased from 0.75% as of December 31, 2018 to 0.70% as of September 30, 2019.
Deposits. The Company considers various sources when evaluating funding needs, including but not limited to deposits, which are a significant source of funds, totaling $1.03 billion or 90.8% of the Company’s total average funding sources at September 30, 2019. Total deposits increased $18.3 million, or 1.8%, at September 30, 2019 from $1.02 billion at December 31, 2018. The total increase in deposits is the net of increases in time and interest-bearing demand deposits of $89.8 million, or 29.8%, and $14.9 million, or 16.2%, respectively, and decreases in noninterest-bearing demand deposits, savings, and money market deposits of $4.2 million, or 2.1%, $40.9 million, or 18.4%, and $41.3 million, or 21.0%, respectively, at September 30, 2019. The Company uses certain non-core funding instruments in order to grow the balance sheet and maintain liquidity. These deposits, either from a broker or a listing service, were $144.4 million at September 30, 2019, as compared to $148.8 million at December 31, 2018. The expansion of net interest margin in the third quarter of 2019 is largely the result of the use of these deposits.
Borrowed funds. The Company uses short-term and long-term borrowings as another source of funding for asset growth and liquidity needs. These borrowings primarily include FHLB advances, junior subordinated debt, short-term borrowings from other banks, and federal funds purchased. Short-term borrowings increased $1.6 million, or 1.8%, to $92.0 million as of September 30, 2019. Other borrowings increased $3.6 million, or 40.4%, to $12.4 million as of September 30, 2019 from $8.8 million as of December 31, 2018. This increase is mainly due to the adoption of ASU 2016-02, “Leases (Topic 842)” effective January 1, 2019, which resulted in the recording of financial lease liabilities in the amount of $2.7 million (see Note 9). This quarter, the Company tested its ability to shift off balance sheet liquidity to the balance sheet by borrowing an advance of $80.0 million for one day.
Stockholders’ equity. Stockholders’ equity increased $7.6 million, or 5.9%, to $135.9 million at September 30, 2019 from $128.3 million at December 31, 2018. This growth was the result of increases in retained earnings, AOCI, and common stock of $6.8 million, $2.3 million, and $692,000, respectively. This increase is net of an increase in treasury stock of $2.2 million, or 16.5% to $15.7 million as of September 30, 2019, from $13.5 million as of December 31, 2018. The change in retained earnings is due to the year-to-date net income offset by dividends paid, the change in AOCI is due to fair value adjustments of available-for-sale securities, the change in common stock is due to regular stock grants and dividend reinvestment and purchase plan distributions, and the change in treasury stock is due to the Company repurchasing 49,416 of its outstanding shares during the nine months ended September 30, 2019.
RESULTS OF OPERATIONS
General. Net income for the three months ended September 30, 2019, was $3.3 million, a $35,000, or 1.1%, decrease from the amount earned during the same period in 2018. Diluted earnings per share for the quarter decreased to $1.01, compared to $1.02 from the same period in 2018. Net income for the nine months ended September 30, 2019, was $9.6 million, a $564,000, or 6.3%, increase from the amount earned during the same period in 2018. Diluted earnings per share for this nine-month period increased to $2.94, compared to $2.78 for the same period in 2018.
The Company’s annualized return on average assets (“ROA”) and return on average equity (“ROE”) for the quarter were 1.07% and 9.41%, respectively, compared with 1.13% and 10.33% for the same period in 2018. The Company’s ROA and ROE for the nine-month period were 1.06% and 9.52%, respectively, compared with 1.06% and 9.73% for the same period in 2018.
Net interest income. Net interest income, the primary source of revenue for the Company, is determined by the interest rate spread, which is defined as the difference between income on earning assets and the cost of funds supporting those assets, and the relative amounts of interest-earning assets and interest-bearing liabilities. Management periodically adjusts the mix of assets and liabilities, as well as the rates earned or paid on those assets and liabilities, in order to manage and improve net interest income. The level of interest rates and changes in the amount and composition of interest-earning assets and liabilities affect the Company’s net interest income. Management’s goal is to maintain a balance between steady net interest income growth and the risks associated with interest rate fluctuations.
Net interest income for the three months ended September 30, 2019 totaled $10.6 million, an increase of 3.2% from that reported in the comparable period of 2018. The net interest margin was 3.72% for the third quarter of 2019, no change from the 3.72% reported for the same quarter of 2018. Net interest income for the nine months ended September 30, 2019 totaled $31.1 million, an increase of 3.6% from that reported in the comparable period of 2018. The net interest margin was 3.69% for the nine-month period ended September 30, 2019, down from the 3.77% reported for the comparable period of 2018. The decline in the net interest margin is attributable to a 39 basis points increase in total interest bearing liabilities partially offset by an increase of 24 basis points in the yield on total interest earning assets for the nine-month period ended September 30, 2019. Net interest margin continues to compare favorably to peer and strengthened in the three months ended September 30, 2019, as a result of deposits repricing faster than assets.
Interest and dividend income. Interest and dividend income increased $1.1 million, or 8.2%, for the three months ended September 30, 2019, compared to the same period in the prior year. This is mainly attributable to an increase in interest and fees on loans of $983,000. Interest and dividend income increased $4.2 million, or 11.4%, for the nine months ended September 30, 2019, compared to the same period in the prior year. This is mainly attributable to an increase in interest and fees on loans of $3.9 million.
Interest and fees earned on loans receivable increased $983,000, or 8.3%, for the three months ended September 30, 2019, compared to the same period in the prior year. This is attributable to an increase in average loan balances of $38.6 million, accompanied by a 20 basis point increase in the average yield to 5.09%. Interest and fees earned on loans receivable increased $3.9 million, or 11.4%, for the nine months ended September 30, 2019, compared to the same period in the prior year. This is attributable to an increase in average loan balances of $59.8 million, accompanied by a 23 basis point increase in the average yield to 5.08%.
Net interest earned on securities increased by $54,000 for the three months ended September 30, 2019 when compared to the same period in the prior year. The average balance of investment securities increased $4.4 million, or 4.3%, while the 3.80% yield on the investment portfolio increased by 13 basis points, from 3.67%, for the same period in the prior year. Net interest earned on securities increased by $151,000 for the nine months ended September 30, 2019 when compared to the same period in the prior year. The average balance of investment securities increased $4.2 million, or 4.4%, while the 3.80% yield on the investment portfolio increased by 13 basis points, from 3.67%, for the same period in the prior year.
Interest expense. Interest expense increased $729,000, or 28.3%, for the three months ended September 30, 2019, compared to the same period in the prior year. The increase is attributable to increases in the average balances of certificates of deposit, money market deposits and interest-bearing demand deposits of $103.1 million, or 35.4%, $10.0 million, or 6.8%, and $3.6 million, or 3.6%, respectively. This increase was accompanied by increases in costs of 115, 44, 34, and 2 basis points for the average balances of short-term borrowings, money market deposits, certificates of deposit, and interest-bearing demand deposits, respectively. The overall increase in deposits was utilized to pay down short-term borrowings, the average balance of which decreased by $51.2 million, or 90.9%. Interest expense increased $3.1 million, or 44.9%, for the nine months ended September 30, 2019, compared to the same period in the prior year. The increase is attributable to increases in the average balances of certificates of deposit, money market deposits, and interest-bearing demand deposits of $91.4 million, or 33.0%, $24.1 million, or 16.5%, and $5.0 million, or 5.3%, respectively. This increase was accompanied by increases in costs of 58, 55, 47, 37, 14, and 3 basis points for the average balances of money market deposits, short-term borrowings, certificates of deposit, other borrowings, savings deposits, and interest-bearing demand deposits, respectively. The overall increase in deposits was utilized to pay down short-term borrowings and other borrowings, the average balance of which decreased by $34.9 million, or 66.0%, and $5.2 million, or 28.3%, respectively.
Provision for loan losses. The provision for loan losses represents the charge to income necessary to adjust the allowance for loan and lease losses to an amount that represents management’s assessment of the estimated probable incurred credit losses inherent in the loan portfolio. Each quarter, management performs a review of estimated probable incurred credit losses in the loan portfolio. Based on this review, a provision for loan losses of $80,000 was recorded for the quarter ended September 30, 2019, a decrease of $130,000, or 61.9%, from the quarter ended September 30, 2018. A provision for loan losses of $430,000 was recorded for the nine-month period ended September 30, 2019, a decrease of $200,000, or 31.7%, from the same period in 2018. Nonperforming loans were $10.0 million, or 1.01%, of total loans at September 30, 2019 compared with $7.3 million, or 0.75%, at September 30, 2018. For the three months ended September 30, 2019, net loan charge-offs totaled $383,000, or 0.15% of average loans, compared to net charge-offs of $218,000, or 0.09% of average loans, for the third quarter of 2018. For the nine months ended September 30, 2019, net loan charge-offs totaled $857,000, or 0.11% of average loans, compared to net charge-offs of $326,000, or 0.05%, for the same period in 2018.
Noninterest income. Noninterest income increased $157,000, or 16.6%, for the three months ended September 30, 2019 over the comparable 2018 period. This increase was the result of increases in gains on sale of loans and in service charges on deposit accounts of $85,000, or 197.7%, and $80,000, or 16.3%, respectively. The increase in gains on sale of loans is due to an increase in saleable loans being sold during the quarter, and the increase in service charges on deposit accounts is due to an increase in fees assessed for statement printing services. Noninterest income increased $785,000, or 28.5%, for the nine months ended September 30, 2019 over the comparable 2018 period. This increase was the result of an increase in other income, investment securities gains on sale, and service charges on deposit accounts of $306,000, $194,000, and $193,000, respectively. The increase in other income is due to increases in revenue from investment services and income received from recoveries on acquired student loans.
Noninterest expense. Noninterest expense of $7.7 million for the third quarter 2019 was 8.2%, or $581,000, higher than the third quarter of 2018. Salaries and employee benefits and data processing costs increased $433,000, or 11.3%, and $99,000, or 20.6%, respectively. These increases were offset by a decrease in federal deposit insurance expense of $150,000, or 100.0%. The salary increase is mostly due to annual pay adjustments and an increase in employees. The increase in data processing costs is due to new and increased costs of processing agreements. The decrease in federal deposit insurance is due to the Company being determined to be eligible for small bank assessment credits. Noninterest expense of $22.7 million for the nine-month period ended September 30, 2019 was 5.4%, or $1.2 million, higher than the same period in 2018. Salaries and employee benefits, data processing costs, and Ohio state franchise tax, increased $790,000, or 6.8%, $234,000, or 17.2%, and $179,000, or 29.7%, respectively. These increases were offset by decreases in federal deposit insurance expense and advertising expense of $220,000, or 48.9%, and $89,000, or 12.8%, respectively. The salary increase is mostly due to annual pay adjustments and an increase in employees. The increase in data processing costs is due to new and increased costs of processing agreements, and the increase in Ohio state franchise tax is due to the increase in the Company’s franchise value.
Provision for income taxes. The Company recognized $661,000 in income tax expense, which reflected an effective tax rate of 16.8% for the three months ended September 30, 2019, as compared to $593,000 with an effective tax rate of 15.2% for the comparable 2018 period. The Company recognized $2.0 million in income tax expense, which reflected an effective tax rate of 17.0% for the nine months ended September 30, 2019, as compared to $1.6 million with an effective tax rate of 15.1% for the comparable 2018 period.
Average Balance Sheet and Yield/Rate Analysis. The following table sets forth, for the periods indicated, information concerning the total dollar amounts of interest income from interest-earning assets and the resultant average yields, the total dollar amounts of interest expense on interest-bearing liabilities and the resultant average costs, net interest income, interest rate spread and the net interest margin earned on average interest-earning assets. For purposes of this table, average balances are calculated using monthly averages and the average loan balances include nonaccrual loans and exclude the allowance for loan and lease losses, and interest income includes accretion of net deferred loan fees. Yields on tax-exempt securities and loans (tax exempt for federal income tax purposes) are shown on a fully tax-equivalent basis utilizing a federal tax rate of 21%. Yields and rates have been calculated on an annualized basis utilizing monthly interest amounts.
For the Three Months Ended September 30,
Balance
Yield/Cost
Interest-earning assets:
Loans receivable (3)
Investment securities (3)
Interest-earning deposits with other banks (4)
Total interest-earning assets
Noninterest-earning assets
Total assets
Interest-bearing liabilities:
Interest-bearing demand deposits
Money market deposits
Savings deposits
Certificates of deposit
Total interest-bearing liabilities
Noninterest-bearing liabilities:
Noninterest-bearing demand deposits
Other liabilities
Stockholders' equity
Total liabilities and stockholders' equity
Net interest income
Interest rate spread (1)
Net interest margin (2)
Ratio of average interest-earning assets to average interest-bearing liabilities
(1) Interest rate spread represents the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities.
(2) Net interest margin represents net interest income as a percentage of average interest-earning assets.
(3) Tax-equivalent adjustments to calculate the yield on tax-exempt securities and loans were $185 and $164 for the three months ended September 30, 2019 and 2018, respectively.
(4) Includes dividends received on restricted stock.
Analysis of Changes in Net Interest Income. The following table analyzes the changes in interest income and interest expense, between the three-month periods ended September 30, 2019 and 2018, in terms of: (1) changes in volume of interest-earning assets and interest-bearing liabilities and (2) changes in yields and rates. The table reflects the extent to which changes in the Company’s interest income and interest expense are attributable to changes in rate (change in rate multiplied by prior period volume), changes in volume (changes in volume multiplied by prior period rate) and changes attributable to the combined impact of volume/rate (change in rate multiplied by change in volume). The changes attributable to the combined impact of volume/rate are allocated on a consistent basis between the volume and rate variances.
2019 versus 2018
Increase (decrease) due to
Volume
Rate
Loans receivable
Investment securities
Interest-earning deposits with other banks
For the Nine Months Ended September 30,
(3) Tax-equivalent adjustments to calculate the yield on tax-exempt securities and loans were $523 and $461 for the nine months ended September 30, 2019 and 2018, respectively.
Analysis of Changes in Net Interest Income. The following table analyzes the changes in interest income and interest expense, between the nine-month periods ended September 30, 2019 and 2018, in terms of: (1) changes in volume of interest-earning assets and interest-bearing liabilities and (2) changes in yields and rates. The table reflects the extent to which changes in the Company’s interest income and interest expense are attributable to changes in rate (change in rate multiplied by prior period volume), changes in volume (changes in volume multiplied by prior period rate) and changes attributable to the combined impact of volume/rate (change in rate multiplied by change in volume). The changes attributable to the combined impact of volume/rate are allocated on a consistent basis between the volume and rate variances.
LIQUIDITY
Management's objective in managing liquidity is maintaining the ability to continue meeting the cash flow needs of banking customers, such as borrowings or deposit withdrawals, as well as the Company’s own financial commitments. The principal sources of liquidity are net income, loan payments, maturing and principal reductions on securities and sales of securities available for sale, federal funds sold and cash and deposits with banks. The Company introduced a new line of retail deposit products during the second quarter of 2019. These products were created to more closely align with customer expectations while expanding the Company’s core funding base. Along with its liquid assets, the Company has additional sources of liquidity available to ensure that adequate funds are available as needed. These include, but are not limited to, the purchase of federal funds, the ability to borrow funds under line of credit agreements with correspondent banks and a borrowing agreement with the Federal Home Loan Bank of Cincinnati, and the adjustment of interest rates to obtain depositors. Management believes the Company has the capital adequacy, profitability and reputation to meet the current and projected needs of its customers.
For the nine months ended September 30, 2019, the adjustments to reconcile net income to net cash from operating activities consisted mainly of depreciation and amortization of premises and equipment and software, the provision for loan losses, net amortization of securities, earnings on bank-owned life insurance, accretion of net deferred loan fees, and net changes in other assets and liabilities. For a more detailed illustration of sources and uses of cash, refer to the Condensed Consolidated Statements of Cash Flows.
INFLATION
Substantially all of the Company's assets and liabilities relate to banking activities and are monetary in nature. The consolidated financial statements and related financial data are presented in accordance with GAAP. GAAP currently requires the Company to measure the financial position and results of operations in terms of historical dollars, with the exception of securities available for sale, impaired loans and other real estate loans that are measured at fair value. Changes in the value of money due to rising inflation can cause purchasing power loss.
Management's opinion is that movements in interest rates affect the financial condition and results of operations to a greater degree than changes in the rate of inflation. It should be noted that interest rates and inflation do affect each other, but do not always move in correlation with each other. The Company's ability to match the interest sensitivity of its financial assets to the interest sensitivity of its liabilities in its asset/liability management may tend to minimize the effect of changes in interest rates on the Company's performance.
REGULATORY MATTERS
The Company is subject to the regulatory requirements of the Federal Reserve System as a bank holding company. The bank subsidiary is subject to regulations of the Federal Deposit Insurance Corporation (“FDIC”) and the Ohio Division of Financial Institutions.
The Federal Reserve Board and the FDIC have extensive authority to prevent and to remedy unsafe and unsound practices and violations of applicable laws and regulations by institutions and holding companies. The agencies may assess civil money penalties, issue cease-and-desist or removal orders, seek injunctions, and publicly disclose those actions. In addition, the Ohio Division of Financial Institutions possesses enforcement powers to address violations of Ohio banking law by Ohio-chartered banks.
REGULATORY CAPITAL REQUIREMENTS
Financial institution regulators have established guidelines for minimum capital ratios for banks, thrifts and bank and thrift holding companies. The net unrealized gain or loss on available-for-sale securities is generally not included in computing regulatory capital. In order to avoid limitations on capital distributions, including dividend payments, Middlefield Bank and the Company must each hold a capital conservation buffer above the adequately capitalized risk-based capital ratios. The implementation of the capital ratio buffer began January 1, 2016 at the 0.625% level and has been fully phased in over a four-year period (increasing by that amount on each subsequent January 1, until it reached 2.5% on January 1, 2019). Within the tabular presentation that follows is the adequately capitalized ratio plus capital conservation buffer that includes the fully phased-in 2.50% buffer.
Middlefield Bank and the Company met each of the well-capitalized ratio guidelines at September 30, 2019. The following table indicates the capital ratios for Middlefield Bank and Company at September 30, 2019 and December 31, 2018.
As of September 30, 2019
Leverage
Tier 1 Risk
Based
Common
Equity Tier 1
Total Risk
The Middlefield Banking Company
Adequately capitalized ratio
Adequately capitalized ratio plus fully phased-in capital conservation buffer
Well-capitalized ratio (Bank only)
As of December 31, 2018
Item 3. Quantitative and Qualitative Disclosures about Market Risk
ASSET AND LIABILITY MANAGEMENT
The primary objective of the Company’s asset and liability management function is to maximize the Company’s net interest income while simultaneously maintaining an acceptable level of interest rate risk given the Company’s operating environment, capital and liquidity requirements, performance objectives and overall business focus. The principal determinant of the exposure of the Company’s earnings to interest rate risk is the timing difference between the re-pricing or maturity of interest-earning assets and the re-pricing or maturity of interest-bearing liabilities. The Company’s asset and liability management policies are designed to decrease interest rate sensitivity primarily by shortening the maturities of interest-earning assets while at the same time extending the maturities of interest-bearing liabilities. The Board of Directors of the Company continues to believe in a strong asset/liability management process in order to insulate the Company from material and prolonged increases in interest rates.
The Company’s Board of Directors has established an Asset and Liability Management Committee consisting of outside directors and senior management. This committee, which meets quarterly, generally monitors various asset and liability management policies and strategies.
Interest Rate Sensitivity Simulation Analysis
The Company engages an external consultant to facilitate income simulation modeling on a quarterly basis. This modeling measures interest rate risk and sensitivity. The Asset and Liability Management Committee of the Company believes the various rate scenarios of the simulation modeling enable the Company to more accurately evaluate and manage the exposure of interest rate fluctuations on net interest income, the yield curve, various loan and mortgage-backed security prepayments, and deposit decay assumptions.
Earnings simulation modeling and assumptions about the timing and volatility of cash flows are critical in net portfolio equity valuation analysis. Particularly important are the assumptions driving mortgage prepayments and expected attrition of the core deposit portfolios. These assumptions are based on the Company’s historical experience and industry standards and are applied consistently across all rate risk measures.
The Company has established the following guidelines for assessing interest rate risk:
Net interest income simulation (“NII”) - Projected net interest income over the next twelve months will not be reduced by more than 10% given a gradual shift (i.e., over 12 months) in interest rates of up to 200 basis points (+ or -) and assuming no balance sheet growth.
Portfolio equity simulation - Portfolio equity is the net present value of the Company’s existing assets and liabilities. The Company uses an Economic Value of Equity (“EVE”) analysis which shows the estimated changes in portfolio equity taking certain long-term shock rates into consideration. Given a 200 basis point immediate and permanent increase in market interest rates, portfolio equity may not correspondingly decrease or increase by more than 20% of stockholders’ equity. Given a 100 basis point immediate and permanent decrease in market interest rates, portfolio equity may not correspondingly decrease or increase by more than 10% of stockholders’ equity.
The following table presents the simulated impact of a 200 basis point upward or 100 basis point downward shift of market interest rates on net interest income, and the change in portfolio equity. This analysis was done assuming the interest-earning asset and interest-bearing liability levels at September 30, 2019 and December 31, 2018 remained constant. The impact of the market rate movements was developed by simulating the effects of rates changing gradually over a one-year period from the September 30, 2019 and December 31, 2018 levels for net interest income and portfolio equity. The impact of market rate movements was developed by simulating the effects of an immediate and permanent change in rates at September 30, 2019 and December 31, 2018 for portfolio equity:
Change in Rates
% Change in NII
% Change in EVE
+200bp
%
%)
-100bp
CRITICAL ACCOUNTING ESTIMATES
The Company’s critical accounting estimates involving the more significant judgments and assumptions used in the preparation of the consolidated financial statements as of September 30, 2019, have remained unchanged from December 31, 2018.
Item 4. Controls and Procedures
Controls and Procedures Disclosure
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
As of the end of the period covered by this quarterly report, an evaluation was carried out under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934). Based on their evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures are, to the best of their knowledge, effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. Subsequent to the date of their evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that there were no significant changes in internal control or in other factors that could significantly affect the Company’s internal controls, including any corrective actions with regard to significant deficiencies and material weaknesses.
A material weakness is a significant deficiency (as defined in Public Company Accounting Oversight Board Auditing Standard No. 2), or a combination of significant deficiencies, that results in there being more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis by management or employees in the normal course of performing their assigned functions.
Changes in Internal Control over Financial Reporting
There have not been any changes in the Company’s internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the Company’s most recent fiscal quarter that have materially affected, or are 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 MBC may be involved in litigation relating to claims arising out of their normal course of business. Currently, the Company and MBC are not involved in any legal proceedings the outcome of which, in management’s opinion, would be material to their financial condition or results of operations.
Item 1a. There are no material changes to the risk factors set forth in Part I, Item 1A, “Risk Factors,” of the Company’s Annual
Report on Form 10-K for the year ended December 31, 2018. Please refer to that section for disclosures regarding the
risks and uncertainties related to the Company’s business.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Details of repurchases of Company common stock during the third quarter of 2019 are included in the following table:
2019 period
In thousands, except per share data
Total shares purchased as
part of a publicly announced
program (a)
Maximum number of shares
that may yet be purchased
July 1-31
August 1-31
September 1-30
On April 16, 2019, the Company announced that the Board of Directors approved a new share repurchase program under which the Company is authorized to repurchase up to 150,000 shares of its common stock in the open market or in privately negotiated transactions, subject to market and other conditions (the “Program”). The Program may be modified, suspended or terminated by the Company at any time. Repurchases are made in open market or privately negotiated transactions and the timing and exact amount of common stock repurchases will depend on a number of factors including, among others, market and general economic conditions, regulatory capital considerations, alternative uses of capital, the potential impact on our credit ratings, and contractual and regulatory limitations, including the results of the supervisory assessment of capital adequacy and capital planning processes undertaken by the Federal Reserve as part of the Comprehensive Capital Analysis and Review process.
Item 3. Defaults by the Company on its Senior Securities
None
Item 4. Mine Safety Disclosures
N/A
Item 5. Other information
Item 6. Exhibits
Exhibit list for Middlefield Banc Corp.’s Form 10-Q Quarterly Report for the Period Ended September 30, 2019
Exhibit
Number
Description
Location
3.1
Second Amended and Restated Articles of Incorporation of Middlefield Banc Corp., as amended
Incorporated by reference to Exhibit 3.1 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Fiscal Year Ended December 31, 2005, filed on March 29, 2006
3.2
Regulations of Middlefield Banc Corp.
Incorporated by reference to Exhibit 3.2 of Middlefield Banc Corp.’s registration statement on Form 10 filed on April 17, 2001
Specimen stock certificate
Incorporated by reference to Exhibit 4 of Middlefield Banc Corp.’s registration statement on Form 10 filed on April 17, 2001
4.1
Amended and Restated Trust Agreement, dated as of December 21, 2006, between Middlefield Banc Corp., as Depositor, Wilmington Trust Company, as Property trustee, Wilmington Trust Company, as Delaware Trustee, and Administrative Trustees
Incorporated by reference to Exhibit 4.1 of Middlefield Banc Corp.’s Form 8-K Current Report filed on December 27, 2006
4.2
Junior Subordinated Indenture, dated as of December 21, 2006, between Middlefield Banc Corp. and Wilmington Trust Company
Incorporated by reference to Exhibit 4.2 of Middlefield Banc Corp.’s Form 8-K Current Report filed on December 27, 2006
4.3
Guarantee Agreement, dated as of December 21, 2006, between Middlefield Banc Corp. and Wilmington Trust Company
Incorporated by reference to Exhibit 4.3 of Middlefield Banc Corp.’s Form 8-K Current Report filed on December 27, 2006
10.1.0*
2017 Omnibus Equity Plan
Incorporated by reference to Middlefield Banc Corp.’s definitive proxy statement for the 2017 Annual Meeting of Shareholders, Appendix A, filed on April 4, 2017
10.1.1*
2007 Omnibus Equity Plan
Incorporated by reference to Middlefield Banc Corp.’s definitive proxy statement for the 2008 Annual Meeting of Shareholders, Appendix A, filed on April 7, 2008
10.2*
Change in Control Agreement between Middlefield Banc Corp. and Thomas G. Caldwell
Incorporated by reference to Exhibit 10.2 of Middlefield Banc Corp.’s Form 8-K Current Report filed on March 12, 2019
10.3*
Change in Control Agreement between Middlefield Banc Corp. and James R. Heslop, II
Incorporated by reference to Exhibit 10.3 of Middlefield Banc Corp.’s Form 8-K Current Report filed on March 12, 2019
10.4
Federal Home Loan Bank of Cincinnati Agreement for Advances and Security Agreement dated September 14, 2000
Incorporated by reference to Exhibit 10.4 of Middlefield Banc Corp.’s registration statement on Form 10 filed on April 17, 2001
10.4.1*
Severance Agreement between Middlefield Banc Corp. and Teresa M. Hetrick, dated January 7, 2008
Incorporated by reference to Exhibit 10.4.1 of Middlefield Banc Corp.’s Form 8-K Current Report filed on January 9, 2008
10.4.2*
Change in Control Agreement between Middlefield Banc Corp. and Charles O. Moore
Incorporated by reference to Exhibit 10.4.2 of Middlefield Banc Corp.’s Form 8-K Current Report filed on March 12, 2019
10.4.3*
Change in Control Agreement between Middlefield Banc Corp. and Donald L. Stacy
Incorporated by reference to Exhibit 10.4.3 of Middlefield Banc Corp.’s Form 8-K Current Report filed on March 12, 2019
10.4.4*
Severance Agreement between Middlefield Banc Corp. and Alfred F. Thompson Jr., dated January 7, 2008
Incorporated by reference to Exhibit 10.4.4 of Middlefield Banc Corp.’s Form 8-K Current Report filed on January 9, 2008
10.4.5*
Change in Control Agreement between Middlefield Banc Corp. and Michael L. Allen
filed herewith
10.4.6*
Change in Control Agreement between Middlefield Banc Corp. and John D. Lane
10.5
[reserved]
10.6*
Amended Director Retirement Agreement with Richard T. Coyne
Incorporated by reference to Exhibit 10.6 of Middlefield Banc Corp.’s Form 8-K Current Report filed on January 9, 2008
10.7*
Amended Director Retirement Agreement with Frances H. Frank
Incorporated by reference to Exhibit 10.7 of Middlefield Banc Corp.’s Form 8-K Current Report filed on January 9, 2008
10.8*
10.9*
10.10*
10.11*
Director Retirement Agreement with Martin S. Paul
Incorporated by reference to Exhibit 10.11 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2001, filed on March 28, 2002
10.12*
10.13*
10.14*
Executive Survivor Income Agreement (aka DBO agreement [death benefit only]) with Donald L. Stacy
Incorporated by reference to Exhibit 10.14 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2003, filed on March 30, 2004
10.15*
DBO Agreement with Jay P. Giles
Incorporated by reference to Exhibit 10.15 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2003, filed on March 30, 2004
10.16*
DBO Agreement with Alfred F. Thompson Jr.
Incorporated by reference to Exhibit 10.16 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2003, filed on March 30, 2004
10.17*
DBO Agreement with Teresa M. Hetrick
Incorporated by reference to Exhibit 10.18 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2003, filed on March 30, 2004
10.18 *
Executive Deferred Compensation Agreement with Jay P. Giles
Incorporated by reference to Exhibit 10.18 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2011, filed on March 20, 2012
10.19
10.20*
DBO Agreement with James R. Heslop, II
Incorporated by reference to Exhibit 10.20 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2003, filed on March 30, 2004
10.21*
DBO Agreement with Thomas G. Caldwell
Incorporated by reference to Exhibit 10.21 of Middlefield Banc Corp.’s Annual Report on Form 10-K for the Year Ended December 31, 2003, filed on March 30, 2004
10.22*
Annual Incentive Plan
Incorporated by reference to Exhibit 10.22 of Middlefield Banc Corp.’s Form 8-K Current Report filed on March 12, 2019
10.22.1*
10.23*
Amended Executive Deferred Compensation Agreement with Thomas G. Caldwell
Incorporated by reference to Exhibit 10.23 of Middlefield Banc Corp.’s Form 8-K Current Report filed on May 9, 2008
10.24*
Amended Executive Deferred Compensation Agreement with James R. Heslop, II
Incorporated by reference to Exhibit 10.24 of Middlefield Banc Corp.’s Form 8-K Current Report filed on May 9, 2008
10.25*
Amended Executive Deferred Compensation Agreement with Donald L. Stacy
Incorporated by reference to Exhibit 10.25 of Middlefield Banc Corp.’s Form 8-K Current Report filed on May 9, 2008
10.26*
Executive Variable Benefit Deferred Compensation Agreement with James R. Heslop, II
Incorporated by reference to Exhibit 10.26 of Middlefield Banc Corp.’s Form 8-K Current Report filed on July 11, 2018
10.27*
Executive Variable Benefit Deferred Compensation Agreement with Donald L. Stacy
Incorporated by reference to Exhibit 10.27 of Middlefield Banc Corp.’s Form 8-K Current Report filed on July 11, 2018
10.28*
Executive Deferred Compensation Agreement with Charles O. Moore
Incorporated by reference to Exhibit 10.28 of Middlefield Banc Corp.’s Form 10-Q Current Report filed on August 7, 2018
10.29*
Form of conditional stock award under the 2007 Omnibus Equity Plan
Incorporated by reference to Exhibit 10.29 of Middlefield Banc Corp.’s Form 8-K Current Report filed on March 4, 2016
10.29.1
Form of conditional stock award under the 2017 Omnibus Equity Plan
Incorporated by reference to Exhibit 10.29 of Middlefield Banc Corp.’s Form 8-K Current Report filed on July 24, 2017
10.30**
Executive Deferred Compensation Agreement with Michael L. Allen
Incorporated by reference to Exhibit 10.30 of Middlefield Banc Corp.’s Form 10-Q Current Report filed on May 7, 2019
10.31**
Executive Deferred Compensation Agreement with John D. Lane
Incorporated by reference to Exhibit 10.31 of Middlefield Banc Corp.’s Form 10-Q Current Report filed on May 7, 2019
31.1
Rule 13a-14(a) certification of Chief Executive Officer
31.2
Rule 13a-14(a) certification of Chief Financial Officer
Rule 13a-14(b) certification
99.1
Form of Indemnification Agreement with directors of Middlefield Banc Corp. and with executive officers of Middlefield Banc Corp. and The Middlefield Banking Company
Incorporated by reference to Exhibit 99.1 of Middlefield Banc Corp.’s registration statement on Form 10, Amendment No. 1, filed on June 14, 2001
101.INS***
XBRL Instance
furnished herewith
101.SCH***
XBRL Taxonomy Extension Schema
101.CAL***
XBRL Taxonomy Extension Calculation
101.DEF***
XBRL Taxonomy Extension Definition
101.LAB***
XBRL Taxonomy Extension Labels
101.PRE***
XBRL Taxonomy Extension Presentation
* management contract or compensatory plan or arrangement
** management contract or compensatory plan or arrangement, a schedule has been omitted pursuant to Item 601(a)(5) of Regulation S-K and will be provided on a supplemental basis to the Securities and Exchange Commission upon request
*** XBRL information is furnished and not filed or a part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned and hereunto duly authorized.
Date: November 5, 2019
By: /s/Thomas G. Caldwell
Thomas G. Caldwell
President and Chief Executive Officer
By: /s/Donald L. Stacy
Donald L. Stacy
Principal Financial and Accounting Officer