Primis Financial - 10-Q quarterly report FY2011 Q3

Southern National Bancorp of Virginia, Inc. (“SNBV”) is a corporation formed on July 28, 2004 under the laws of the Commonwealth of Virginia and is the holding company for Sonabank (“Sonabank”) a Virginia state chartered bank which commenced operations on April 14, 2005.  The principal activities of Sonabank are to attract deposits and originate loans as permitted under applicable banking regulations.  Sonabank operates 13 branches in Virginia located in Fairfax County (Reston, McLean and Fairfax), in Charlottesville, Warrenton (2), Loudoun County (Middleburg, Leesburg (2), and South Riding), Front Royal, New Market and Clifton Forge, and we also have a branch in Rockville, Maryland. On October 3, 2011, Southern National Bancorp of Virginia, Inc. completed the acquisition of the Midlothian branch office of the Bank of Hampton Roads and the assumption of $46 million in deposits. The new office is operational under the Sonabank banner, and a Sonabank loan officer previously located in the Richmond area has moved into an office in the branch.

The consolidated financial statements include the accounts of Southern National Bancorp of Virginia, Inc. and its subsidiary.  Significant inter-company accounts and transactions have been eliminated in consolidation.

The unaudited consolidated financial statements have been prepared in accordance with U. S. generally accepted accounting principles (“U. S. GAAP”) for interim financial information and instructions for Form 10-Q and follow general practice within the banking industry.  Accordingly, the unaudited consolidated financial statements do not include all of the information and footnotes required by U. S. GAAP for complete financial statements.  However, in the opinion of management, all adjustments (consisting only of normal recurring accruals) necessary for a fair presentation of the results of the interim periods presented have been made. The results of operations for the interim periods are not necessarily indicative of the results that may be expected for the full year. For further information, refer to the consolidated financial statements and footnotes thereto included in SNBV’s Form 10-K for the year ended December 31, 2010.

The preparation of the consolidated financial statements in conformity with U. S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates.  Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the carrying value of investment securities, other than temporary impairment of investment securities, the valuation of goodwill and intangible assets, the FDIC indemnification asset,  other real estate owned and deferred tax assets.

In April 2011, the FASB issued ASU No. 2011-02, Receivables (Topic 310):  A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring. This amendment clarifies the guidance on the evaluation made by a creditor on whether a restructuring constitutes a troubled debt restructuring.  It clarifies the guidance related to a creditor’s evaluation of whether it has granted a concession to a debtor and also clarifies the guidance on a creditor’s evaluation of whether the debtor is experiencing financial difficulties.  The amendment is effective for public entities for the first interim or annual period beginning on or after September 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption.  The adoption of this standard during the third quarter did not have a material impact on our consolidated financial condition or results of operation.

In May 2011, the FASB issued FASB ASU No. 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS. The new standard does not extend the use of fair value but, rather, provides guidance about how fair value should be applied where it already is required or permitted under U.S. GAAP. A public entity is required to apply the ASU prospectively for interim and annual periods beginning after December 15, 2011.  The adoption of this standard is not expected to have a material impact on our consolidated financial condition or results of operation.

In September 2011, The FASB issued ASU No. 2011-08, Testing Goodwill for Impairment. This ASU permits an entity to make a qualitative assessment of whether it is more likely than not that a reporting unit’s fair value is less than its carrying amount before applying the two-step goodwill impairment test. If an entity concludes it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, it need not perform the two-step impairment test.   The ASU is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011.   The adoption of this standard is not expected to have a material impact on our consolidated financial condition or results of operation.

In 2004, the Board of Directors adopted a stock option plan that authorized the reservation of up to 302,500 shares of common stock and provided for the granting of stock options to certain directors, officers and employees.  As of September 30, 2011, options to purchase an aggregate of 302,500 shares of common stock were outstanding and no shares remained available for issuance. The 2010 Stock Awards and Incentive Plan was approved by the Board of Directors in January 2010 and approved by the stockholders at the Annual Meeting in April 2010. The 2010 plan authorized the reservation of 700,000 shares of common stock for the granting of stock awards. The options granted to officers and employees are incentive stock options and the options granted to non-employee directors are non-qualified stock options.  The purpose of the plan is to afford key employees an incentive to remain in the employ of SNBV and to assist in the attracting and retaining of non-employee directors by affording them an opportunity to share in SNBV’s future success.  Under the plan, the option’s price cannot be less than the fair market value of the stock on the grant date.  The maximum term of the options is ten years and options granted may be subject to a graded vesting schedule.

SNBV granted 103,750 options during the first nine months of 2011. The fair value of each option granted is estimated on the date of grant using the Black-Scholes options-pricing model.  The following weighted-average assumptions were used to value options granted in the nine months ended September 30, 2011:

For the three and nine months ended September 30, 2011, stock-based compensation expense was $47 thousand and $120 thousand, respectively, compared to $24 thousand and $59 thousand for the same periods last year.  As of September 30, 2011, unrecognized compensation expense associated with the stock options was $653 thousand, which is expected to be recognized over a weighted average period of 3.9 years.

A summary of the activity in the stock option plan during the nine months ended September 30, 2011 follows (dollars in thousands):

The amortized cost and fair value of securities available-for-sale were as follows (in thousands):

The carrying amount and fair value of securities held-to-maturity were as follows (in thousands):

The fair value and carrying amount, if different, of debt securities as of September 30, 2011, by contractual maturity were as follows (in thousands).  Securities not due at a single maturity date, primarily mortgage-backed securities and collateralized mortgage obligations, are shown separately.

Securities with a carrying amount of approximately $38.9 million and $45.3 million at September 30, 2011 and December 31, 2010, respectively, were pledged to secure public deposits, repurchase agreements and a line of credit for advances from the Federal Home Loan Bank of Atlanta (“FHLB”).

 

SNBV monitors the portfolio for indicators of other than temporary impairment.  At September 30, 2011 and December 31, 2010, certain securities’ fair values were below cost. As outlined in the table below, there were securities with fair values totaling approximately $5.8 million in the portfolio that are considered temporarily impaired at September 30, 2011. The following tables present information regarding securities in a continuous unrealized loss position as of September 30, 2011 and December 31, 2010 (in thousands) by duration of time in a loss position:

As of September 30, 2011, our pooled trust preferred securities included:

Each of these securities has been evaluated for other than temporary impairment.  In performing a detailed cash flow analysis of each security, Sonabank works with independent third parties to estimate expected cash flows and assist with the evaluation of other than temporary impairment. The cash flow analyses performed included the following assumptions:

 

We also own $1.0 million of SARM 2005-22 1A2. This residential collateralized mortgage obligation was originally rated AAA by Standard and Poors. After a series of downgrades, this security has been other than temporarily impaired in past reporting periods. For the third quarter of 2011 and based on our review of the trustee report, shock analysis and current information regarding delinquencies, nonperforming loans and credit support it has been determined that no OTTI charge for credit was required for the quarter ended September 30, 2011.  The assumptions used in the analysis included a 4.6% prepayment speed, 13% default rate, a 48% loss severity and an accounting yield of 2.53%.  We recorded OTTI charges for credit on this security of $127 thousand in the third quarter of 2010.

The following table presents a roll forward of the credit losses for the trust preferred securities and the residential collateralized mortgage obligation recognized in earnings for the nine months ended September 30, 2011 and 2010 (in thousands):

The following table summarizes the composition of our loan portfolio as of September 30, 2011 and December 31, 2010:

As part of the Greater Atlantic acquisition, the Bank and the FDIC entered into a loss sharing agreement on approximately $143.4 million (contractual basis) of Greater Atlantic Bank’s assets.  The Bank will share in the losses on the loans and foreclosed loan collateral with the FDIC as specified in the loss sharing agreement; we refer to these assets collectively as “covered loans” or “covered assets.”  Loans not acquired from Greater Atlantic Bank are referred to as “non-covered loans.” The covered loans are subject to our internal and external credit review. As a result, if and when credit deterioration is noted subsequent to the acquisition date, such deterioration will be measured through our allowance for loan loss calculation methodology and a provision for credit losses will be charged to earnings. There has been no incremental provision recorded on covered loans since acquisition.  The FDIC indemnification asset is reduced for cash payments received, and adjusted each quarter for changes in expected recoveries from the FDIC based on the expected cash flows from the covered loans.  As information and other developments warrant, we reassess our anticipated recoveries from the FDIC on the covered loans and adjust the carrying value of the FDIC indemnification asset.  The current outstanding balance for the covered home equity lines of credit at September 30, 2011 was $36.8 million.  The available commitment at this date was $62.7 million, for a total exposure to loss for these covered loans of $99.5 million.

Credit-impaired covered loans are those loans showing evidence of credit deterioration since origination and it is probable, at the date of acquisition, that SNBV will not collect all contractually required principal and interest payments. Generally, acquired loans that meet SNBV’s definition for nonaccrual status fall within the definition of credit-impaired covered loans.

Impaired loans were as follows (in thousands):