More annual reports from FVCBankcorp, Inc.:
2023 Report2014 ANNUAL REPORT FIRST VIRGINIA COMMUNITY BANK February 20, 2015 To Our Shareholders: We ended 2014 with our strongest financial performance in your Bank’s seven-year history. The year was marked by record earnings and record loan growth, while maintaining stellar credit quality. The Bank’s net income increased to $4.1 million, a $1.9 million increase, or 85.5% compared with $2.2 million in 2013. Diluted earnings per share increased to $0.79 per share, compared with $0.48 per share in 2013, highlighting the Bank’s commitment to enhance shareholder value. Our record earnings for 2014 were attributable, in large part, to our exceptional loan growth during the year. Total assets increased to $604.8 million, an increase of $98.1 million, or 19.3% from $506.7 million in 2013. Total loans increased to $509.9 million, an increase of $98.9 million or 24.1% from $411.0 million in 2013. Total deposits increased to $504.2 million, an increase of $74.2 million, or 17.3% compared with $430.0 million as of December 31, 2013. Our robust loan growth is the result of our dedicated team of experienced bankers, our directors, and the long-term relationships with our shareholders and customers, many of whom have been significant referral sources to the Bank. We have increased our market presence and have the benefit of doing business in this vibrant market area. Net interest income increased 23.5% year over year, as our margin improved to 3.63% compared with 3.59% for the years ended December 31, 2014 and 2013, respectively. The improved margin is the result of a declining cost of funds combined with a higher proportion of loans to earning assets. Cost of funds decreased to 0.69% from 0.75% for 2014 and 2013, respectively. FVCbank’s non-interest bearing deposits totaled $105.1 million compared with $86.4 million as of December 31, 2014 and 2013, respectively. Average non-interest bearing deposits comprised 21.3% of total average deposits for 2014, compared with 20.8% for 2013. The increase in non-interest bearing deposits is due to our growing customer base and robust cash management services available to our commercial banking customers. During 2014, we achieved improved efficiencies as we have over the past several years. Non-interest expenses increased only 8.9% to $13.3 million from $12.2 million for the years ended December 31, 2014 and 2013, respectively. The increase is, in part, attributable to a full year of our newest branch location in Springfield, Virginia, which opened in July 2013. We have successfully deployed the capital raised in 2013 while maintaining capital ratios in excess of the “Well Capitalized” classification for regulatory reporting purposes. We will continue to maintain solid capital levels as we grow our Bank, focusing on sound credit quality. During 2014, our ratio of nonperforming loans to total assets declined to 0.26%, an improvement over the prior year ratio of 0.59%. As we begin 2015, we are excited about our growing loan pipeline and new initiatives to enhance our full array of commercial banking products to best serve our customers. We are gratified that so many of our shareholders have selected us as their primary banking relationship, and we aspire to add more of our shareholders to our loyal customer base. As always, we are happy to meet with you and win your business. On behalf of our employees and our Board of Directors, thank you for your support over the last several years. We look forward to a successful new year. Best Regards, David W. Pijor Chairman, President and Chief Executive Officer DIRECTORS David W. Pijor Chairman L. Burwell Gunn Scott Laughlin Thomas L. Patterson Daniel M. Testa Devin Satz Phillip “Trey” R. Wills, III Lawrence W. Schwartz Sidney G. Simmonds EXECUTIVE OFFICERS David W. Pijor President & Chief Executive Officer B. Todd Dempsey Executive Vice President Chief Operating Officer Michael G. Nassy Executive Vice President Chief Credit Officer William G. Byers Executive Vice President Chief Lending Officer Patricia A. Ferrick Executive Vice President Chief Financial Officer John F. Novak Executive Vice President Chief Marketing Officer REGIONAL LENDING OFFICERS Alissa Curry Briggs Senior Vice President Regional Lending Executive James C. Elliott Senior Vice President Regional Lending Executive Christopher O. Turley Senior Vice President Regional Lending Executive OFFICERS Michelle L. Buckles Senior Vice President Compliance Farideh Mullafiroze Senior Vice President Business Development James D. Holter Senior Vice President Information Technology Terry R. Frey Senior Vice President Loan Administration Michael Y. Huang Senior Vice President Finance Todd E. Lattimer Senior Vice President Lending Timothy J. Lueking Senior Vice President Lending Edward W. Lull, Jr. Senior Vice President Lending Jacqueline S. Marbell-Edson Senior Vice President Loan Administration Joshua F. Steele Senior Vice President Lending Brian R. Tower Senior Vice President Lending Huong K. Van Senior Vice President Lending Steffany R. Watson Senior Vice President Cash Management LOAN AND DEPOSIT GROWTH Gross Loans (mm) Total Deposits (mm) INCREASING PROFITABILITY Net Income Before Tax (mm) Since inception, FVCbank’s management team has strategically, but methodically grown its franchise and leveraged its infrastructure, resulting in increasing profitability to its shareholders. $600 $500 $400 $300 $200 $100 0 $600 $500 $400 $300 $200 $100 0 $7.20 $6.20 $5.20 $4.20 $3.20 $2.20 $1.20 $0.20 5 Year CAGR 36% $510 $411 $331 $213 $166 2010 2011 2012 2013 2014 5 Year CAGR 34% $504 $430 $379 $223 $176 2010 2011 2012 2013 2014 6.30 3.53 2.28 1.44 0.51 2010 2011 2012 2013 2014 SELECTED FINANCIAL DATA FOR THE YEAR ENDED DECEMBER 31, (UNAUDITED) (dollars in thousands, except per share data) 2014 2013 2012 2011 2010 SELECTED BALANCES Total assets Total deposits Total loans Other borrowings Allowance for loan losses Total shareholders’ equity SUMMARY RESULTS OF OPERATIONS Interest income Interest expense Net interest income Provision for loan losses Net interest income after provision for loan losses Noninterest income Noninterest expense Income before taxes Income tax expense (benefit) Net income PER SHARE DATA Net income, basic Net income, diluted Book value Tangible book value Shares outstanding SIGNIFICANT RATIOS Net interest margin Efficiency ratio Return on average assets Return on average equity Total capital (to risk weighted assets) Tier 1 capital (to risk weighted assets) Tier 1 (to average assets) ASSET QUALITY Nonperforming assets and loans 90+ past due Nonperforming assets and loans 90+ past due to total assets $604,756 504,220 509,938 32,500 (5,565) 66,815 $22,473 3,288 19,185 886 18,299 1,313 13,317 6,295 2,162 4,133 $0.80 $0.79 $12.87 $12.84 5,190,498 3.63% 65.21% 0.76% 6.45% 13.62% 12.53% 10.96% $506,717 429,990 411,040 14,500 (4,792) 60,903 $18,491 2,960 15,531 803 14,728 1,025 12,228 3,525 1,297 2,228 $0.49 $0.48 $11.76 $11.73 5,176,732 3.59% 74.78% 0.50% 4.21% 15.89% 14.71% 12.58% $422,761 378,702 331,428 2,500 (3,757) 39,143 $15,095 2,515 12,580 1,227 11,353 1,098 10,168 2,283 805 1,478 $0.44 $0.43 $11.03 $10.97 3,548,796 4.09% 74.46% 0.47% 4.11% 12.29% 11.13% 9.16% $261,037 223,369 213,361 2,500 (2,754) 33,785 $12,169 2,293 9,875 649 9,226 469 8,253 1,442 (558) 2,000 $0.71 $0.70 $10.32 $10.32 3,272,381 4.15% 79.76% 0.81% 7.51% 14.27% 13.14% 12.44% $207,348 176,328 165,627 5,000 (2,105) 25,010 $8,802 1,919 6,883 940 5,943 560 5,996 507 (302) 809 $0.33 $0.33 $8.91 $8.91 2,806,396 4.15% 83.18% 0.48% 3.96% 14.18% 13.07% 12.43% $1,601 $2,988 $4,623 $5,902 $4,227 0.26% 0.59% 1.09% 2.26% 2.04% Allowance for loan losses to loans Allowance for loan losses to nonperforming assets Net (recovery) charge-offs Net (recovery) charge-offs to average loans 1.09% 347.51% $113 0.03% 1.17% 160.37% $(231) -0.06% 1.13% 81.27% $225 0.07% 1.29% 46.67% $- 0.00% 1.27% 49.81% $717 0.54% FIRST VIRGINIA COMMUNITY BANK Fairfax, Virginia FINANCIAL REPORT December 31, 2014 CONTENTS INDEPENDENT AUDITOR’S REPORT FINANCIAL STATEMENTS Balance sheets Statements of income Statements of comprehensive income Statements of cash flows Statements of changes in stockholders’ equity Notes to financial statements PAGE 1 2 3 4 5 6 6-31 INDEPENDENT AUDITOR’S REPORT To the Board of Directors First Virginia Community Bank Fairfax, Virginia REPORT ON THE FINANCIAL STATEMENTS We have audited the accompanying financial statements of First Virginia Community Bank which comprise the balance sheets as of December 31, 2014 and 2013, and the related statements of income, comprehensive income, changes in stockholders’ equity and cash flows for the years then ended and the related notes to the financial statements. MANAGEMENT’S RESPONSIBILITY FOR THE FINANCIAL STATEMENTS Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error. AUDITOR’S RESPONSIBILITY Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. OPINION In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of First Virginia Community Bank as of December 31, 2014 and 2013, and the results of its operations and its cash flows for the years then ended in accordance with accounting principles generally accepted in the United States of America. Winchester, Virginia March 12, 2015 1 BALANCE SHEETS DECEMBER 31, 2014 AND 2013 ASSETS 2014 2013 Cash and due from banks Federal funds sold Interest-bearing deposits at other financial institutions Securities available for sale, at fair market value Restricted stock, at cost Loans, net of allowance for loan losses of $5,564,669 for 2014 and $4,791,716 for 2013 Premises and equipment, net Accrued interest receivable Prepaid expenses Deferred tax asset, net Core deposit intangible Bank owned life Insurance (BOLI) Other assets Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities Deposits: Noninterest-bearing Interest-bearing checking, savings and money market Time deposits Total deposits Federal funds purchased FHLB advances Accrued interest payable Accrued expenses and other liabilities Total liabilities Stockholders' Equity Preferred stock $5 par value, authorized 1,000,000 shares; no shares issued and and outstanding in 2014 and 2013 Common stock $5 par value, authorized 10,000,000 shares; 5,190,498 and 5,176,732 shares issued and outstanding in 2014 and 2013, respectively Additional paid-in capital Retained earnings Accumulated other comprehensive (loss), net Total stockholders' equity Total liabilities and stockholders' equity See Notes to Financial Statements. $ 5,066,808 $ 13,895 10,915,209 62,697,398 3,887,250 504,372,951 1,744,607 1,576,142 738,804 3,210,400 159,800 10,199,352 173,226 $8,015,485 - - 24,684,805 56,890,092 2,941,750 406,248,010 2,011,397 1,299,866 617,972 3,599,482 180,200 - - 227,522 $ $ $ $ $ $ 604,755,842 $ $506,716,581 105,126,136 $ 200,354,779 198,739,453 504,220,368 $ - - $ 32,500,000 153,062 1,067,479 537,940,909 $ 86,397,604 149,992,643 193,599,259 429,989,506 3,000,000 11,500,000 197,795 1,125,806 445,813,107 - - $ - - 25,952,490 35,753,197 5,512,885 (403,639) $66,814,933 $604,755,842 25,883,660 35,175,736 1,379,397 (1,535,319) $60,903,474 $506,716,581 2 STATEMENTS OF INCOME FOR THE YEARS ENDED DECEMBER 31, 2014 AND 2013 2014 2013 INTEREST AND DIVIDEND INCOME Interest and fees on loans Interest and dividends on securities available for sale Dividends on restricted stock Interest on deposits at other financial institutions Interest on federal funds sold Total interest and dividend income INTEREST EXPENSE Interest on deposits Interest on federal funds purchased Interest on short-term debt Interest on long-term debt 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 Gains on sale of securities available for sale Gains on sale of loans BOLI income Other fee income Total noninterest income NONINTEREST EXPENSES Salaries and employee benefits Occupancy and equipment expense Data processing and network administration State franchise taxes FDIC insurance Audit, legal and consulting fees Marketing, business development and advertising Director fees Postage, courier and telephone Internet banking Printing and supplies Dues, memberships & publications State assessments Bank insurance Bank charges Loan related expenses Core deposit intangible amortization Other operating expenses Total noninterest expenses Net income before income tax expense Income tax expense Net income Earnings per share, basic Earnings per share, diluted See Notes to Financial Statements. 3 $ $ $ $ $ $ $ $ $ $ $ $ $ $ 21,197,541 $ 1,074,950 142,476 2,173 55,747 22,472,887 $ 3,247,751 $ 319 7,456 32,248 3,287,774 $ 19,185,113 $ 885,685 18,299,428 $ 651,919 $ 77,222 196,114 199,351 188,259 1,312,865 $ 7,830,511 $ 1,939,042 841,498 628,121 319,182 287,939 238,527 228,636 206,469 117,105 109,828 94,214 78,859 77,756 70,058 38,356 20,400 189,891 13,316,392 $ 6,295,901 $ 2,162,413 4,133,488 $ 0.80 $ 0.79 $ 17,571,807 726,713 95,270 1,173 95,680 18,490,643 2,929,289 24 - - 30,843 2,960,156 15,530,487 803,373 14,727,114 607,907 203,982 - - - - 213,582 1,025,471 7,279,274 1,915,587 772,718 262,518 331,446 180,447 282,865 148,760 187,117 85,153 112,654 57,667 76,194 62,506 107,378 87,137 20,400 257,809 12,227,630 3,524,955 1,297,129 2,227,826 0.49 0.48 STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEARS ENDED DECEMBER 31, 2014 AND 2013 NET INCOME Other comprehensive income (loss): Unrealized gain (loss) on securities available for sale, net of tax $609,242 and $(864,376), respectively Reclassification adjustment for gains realized in income, net of tax $26,255 and $69,354, respectively Total other comprehensive income (loss) Total comprehensive income See Notes to Financial Statements. $ $ $ 2014 2013 4,133,488 $ 2,227,826 1,182,647 (1,677,906) (50,967) 1,131,680 $ 5,265,168 $ (134,628) (1,812,534) 415,292 4 STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2014 AND 2013 CASH FLOWS FROM OPERATING ACTIVITIES Reconciliation of net income to net cash provided by operating activities: Net income Depreciation Provision for loan losses Net amortization of premium of securities Net amortization (accretion) of deferreds and purchase premiums Stock-based compensation expense BOLI income Realized gains on securities sales Realized gains on loan sales Deferred income tax (benefit) Core deposits intangible amortization Changes in assets and liabilities: (Increase) decrease in accrued interest receivable, prepaid expenses and other assets (Decrease) in accrued interest payable, accrued expenses and other liabilities Net cash provided by operating activities CASH FLOWS FROM INVESTING ACTIVITIES Purchases of certificates of deposits Maturities of certificates of deposits purchased for investment Decrease (increase) in interest-bearing deposits at other financial institutions Purchases of securities available for sale Proceeds from sales of securities available for sale Proceeds from maturities and calls of securities available for sale Proceeds from prepayments of securities available for sale Net (purchase) of restricted stock Net (increase) in loans Proceeds from recovery of charged off loans Purchases of BOLI (Purchases) of premises and equipment Net cash (used in) investing activities CASH FLOWS FROM FINANCING ACTIVITIES Net increase in noninterest-bearing, interest-bearing checking, savings, and money market deposits Net increase in time deposits (Decrease) increase in federal funds purchased Increase in short-term debt Common stock issuance, net of offering costs Net cash provided by financing activities Net (decrease) increase in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash payments for interest Cash payments for income taxes SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING ACTIVITY Unrealized gains (losses) on securities available for sale See Notes to Financial Statements. 5 2014 2013 4,133,488 $ 535,251 885,685 142,717 471,834 481,000 (199,351) (77,222) (196,114) (193,905) 20,400 (342,812) (103,060) 5,557,911 $ - - $ 750,000 13,769,596 (29,757,681) 15,663,566 3,419,655 5,766,326 (945,500) (99,296,346) 10,000 (10,000,001) (268,461) (100,888,846) $ 69,090,668 $ 5,140,194 (3,000,000) 21,000,000 165,291 92,396,153 $ (2,934,782) $ 8,015,485 5,080,703 $ 2,227,826 502,390 803,373 302,497 (692,764) 359,520 - - (203,982) - - (106,141) 20,400 228,280 (1,092,472) 2,348,927 (250,000) - - (23,997,456) (47,782,722) 11,633,352 2,260,870 3,281,963 (1,172,700) (78,918,371) 231,181 - - (576,693) (135,290,576) 26,211,949 25,075,408 3,000,000 9,000,000 20,985,727 84,273,084 (48,668,565) 56,684,050 8,015,485 3,332,507 $ 2,331,000 $ 3,066,139 2,033,000 1,714,667 $ (2,746,264) $ $ $ $ $ $ $ $ $ $ $ STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY FOR THE YEARS ENDED DECEMBER 31, 2014 AND 2013 SHARES COMMON STOCK ADDITIONAL PAID-IN CAPITAL RETAINED EARNINGS (DEFICIT) ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS) BALANCE AT DECEMBER 31, 2012 3,548,796 $ 17,743,980 $ 21,970,169 $ Net income Other comprehensive loss Common stock issuance, net of offering costs Common stock issuance in options exercised Stock-based compensation expense, net of tax benefit of $51,375 BALANCE AT DECEMBER 31, 2013 Net income Other comprehensive income Common stock issuance in options exercised Stock-based compensation expense, net of tax benefit of $65,387 - - - - 1,622,936 5,000 - - 5,176,732 - - - - 13,766 - - - - 8,114,680 25,000 - - - - 12,821,047 25,000 $ $ - - 25,883,660 - - - - 68,830 $ 359,520 35,175,736 - - - - 96,461 $ $ (848,429) 2,227,826 - - - - - - - - 1,379,397 4,133,488 - - - - 277,215 $ - - (1,812,534) - - - - $ - - (1,535,319) - - 1,131,680 - - TOTAL 39,142,935 2,227,826 (1,812,534) 20,935,727 50,000 359,520 60,903,474 4,133,488 1,131,680 165,291 - - - - 481,000 35,753,197 $ - - 5,512,885 $ - - (403,639) $ 481,000 66,814,933 BALANCE AT DECEMBER 31, 2014 5,190,498 $ 25,952,490 $ See Notes to Financial Statements. NOTES TO FINANCIAL STATEMENTS NOTE 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION First Virginia Community Bank (the Bank) was organized under the laws of the Commonwealth of Virginia to engage in a general banking business serving the community in and around Fairfax, Virginia. The Bank commenced regular operations on November 27, 2007 and is a member of the Federal Reserve System and the Federal Deposit Insurance Corporation. It is subject to the regulations of the Federal Reserve System and the State Corporation Commission of Virginia. Consequently, it undergoes periodic examinations by these regulatory authorities. On February 28, 2013, the shareholders approved an amendment to the Bank’s Articles of Incorporation to increase the number of authorized shares of common stock to 10,000,000 and to authorize a class of 1,000,000 shares of undesignated preferred stock. In a common stock offering ending on May 31, 2013, the Bank sold a total of 1,622,936 shares at $13.50 per share to existing and new shareholders generating total proceeds of $20,935,727, net of stock issuance costs. SIGNIFICANT ACCOUNTING POLICIES The accounting and reporting policies of the Bank are in accordance with accounting principles generally accepted in the United States of America and conform to general practices within the banking industry. The more significant of these policies are summarized below. CASH AND CASH EQUIVALENTS For purposes of the statements of cash flows, cash and cash equivalents include cash on hand, amounts due from banks and federal funds sold. Generally, federal funds are purchased and sold for one day periods. SECURITIES Debt securities that management has the positive intent and ability to hold to maturity are classified as “held to maturity” and recorded at amortized cost. Securities not classified as held to maturity, including equity securities with readily determinable fair values, are classified as “available for sale” and recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income. The Bank classifies all securities as available for sale. Restricted stock, such as Federal Reserve Bank stock, Federal Home Loan Bank (FHLB) stock and Community Bankers’ Bank stock, is carried at cost. 6 Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer and (3) whether the Bank intends to sell the security, whether it is more likely than not that the Bank will be required to sell the security before recovery of its amortized costs basis and whether the Bank expects to recover the security’s entire cost basis. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method. LOANS The Bank grants commercial, commercial real estate and consumer loans to its customers. A substantial portion of the loan portfolio includes commercial loans throughout the greater Washington, D.C. metropolitan area, initially focusing on the counties of Arlington, Fairfax, Loudoun and Prince William, Virginia. The ability of the Bank’s debtors to honor their contracts is dependent upon the real estate and general economic conditions in this area. The recorded investment in loans that management has the intent and ability to hold represents the customers unpaid principal balances, net of partial charge-offs. Interest income is accrued on the unpaid principal balance. Loan origination and commitment fees and certain direct costs are deferred and the net amount is amortized as an adjustment of the related loans’ yield. The Bank is amortizing these amounts over the loans’ contractual lives. Past due status is monitored based on customers’ contractual payment status for all loans. The accrual of interest on mortgage and commercial loans is discontinued at the time the loan becomes 90 days delinquent unless the credit is well-secured and in process of collection. Non-performing loans are placed either in nonaccrual status pending further collection efforts or charged off if collection of principal or interest is considered doubtful. All interest accrued but not collected for loans that are placed on nonaccrual or charged off is reversed against interest income. The interest on loans in nonaccrual status is accounted for on the cost recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured. In connection with the acquisition, loans were acquired and recorded at fair value, reflecting the present value of the amounts expected to be collected. Income recognition of these premiums and credit discounts is reflected as an adjustment of the related loans’ yield over the loans contractual lives. TROUBLED DEBT RESTRUCTURINGS In situations where, for economic or legal reasons related to a borrower’s financial condition, the Bank may grant a concession to the borrower that it would not otherwise consider, the related loan is classified as a troubled debt restructuring (TDR). The Bank strives to identify borrowers in financial difficulty early and work with them to modify their loan to more affordable terms before their loan reaches nonaccrual status. These modified terms may include rate reductions, principal forgiveness, payment forbearance and other actions intended to minimize the economic loss and to avoid foreclosure or repossession of the collateral. In cases where borrowers are granted new terms that provide for a reduction of either interest or principal, the Bank measures any impairment on the restructuring as noted above for impaired loans. ALLOWANCE FOR LOAN LOSSES The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off. Charge-offs of loans are made by portfolio segment at the time that the collection of the full principal, in management’s judgment, is doubtful. This methodology for determining charge-offs is consistently applied to each segment. The allowance consists of specific, general and unallocated reserves. Specific reserves relate to loans that are individually classified as impaired. A loan is impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan agreement. Measurement of impairment is based on the expected future 7 cash flows of an impaired loan, which are to be discounted at the loan’s effective interest rate, or measured by reference to an observable market value, if one exists, or the fair value of the collateral for a collateral-dependent loan. The Bank selects the measurement method on a loan-by-loan basis except that collateral-dependent loans for which foreclosure is probable are measured at the fair value of the collateral. Larger balance, non-homogeneous loans are individually evaluated for possible impairment. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Smaller balance, homogeneous loans are collectively evaluated for impairment. The Bank recognizes interest income on impaired loans based on its existing methods of recognizing interest income on nonaccrual loans. Loans, for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired with measurement of impairment based on expected future cash flows discounted using the loan’s effective rate immediately prior to the restructuring. General reserves cover non-impaired loans and are based on peer group historical loss rates for each portfolio segment, adjusted for the effects of qualitative or environmental factors that are likely to cause estimated credit losses as of the evaluation date to differ from the portfolio segment’s historical loss experience. Qualitative factors include consideration of the following: changes in lending policies and procedures; changes in economic conditions; changes in the nature and volume of the portfolio; changes in the experience, ability and depth of lending management and other relevant staff; changes in the volume and severity of past due, nonaccrual and other adversely graded loans; changes in the loan review system; changes in the value of the underlying collateral for collateral-dependent loans; concentrations of credit and the effect of other external factors such as competition and legal and regulatory requirements. The unallocated component of the allowance is maintained to cover uncertainties that could affect management’s estimate of losses inherent in the loan portfolio. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used for estimating the specific and general losses in the loan portfolio. Portfolio segments identified by the Bank include commercial real estate, commercial and industrial, commercial construction, consumer residential, consumer nonresidential and consumer construction. Relevant risk characteristics for these portfolio segments generally include debt service coverage, loan-to-value ratios and financial performance on non-consumer loans and credit scores, debt-to income, collateral type and loan-to-value ratios for consumer loans. The Bank uses the same segments and classes for analyzing adequacy of general allowances. PREMISES AND EQUIPMENT Leasehold improvements, computer software, furniture, fixtures and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the assets’ estimated useful lives or life of lease. Estimated useful lives are 10 years for leasehold improvements and 3 to 7 years for computer software, furniture, fixtures and equipment. INTANGIBLE ASSETS The Bank’s intangible assets were acquired in the acquisition of 1st Commonwealth. ASC 350, Intangibles-Goodwill and Other (ASC 350), prescribes accounting for intangible assets subsequent to initial recognition. Acquired intangible assets (such as core deposit intangibles) are separately recognized if the benefit of the assets can be sold, transferred, licensed, rented, or exchanged, and amortized over their useful lives. Intangible assets related to acquisition are amortized. The core deposit intangible asset, based on an independent valuation, is being amortized over its estimated life of 10 years. FORECLOSED PROPERTIES Assets acquired through, or in lieu of, loan foreclosure are held for sale. At the time of acquisition, these properties are recorded at fair value less estimated selling costs, with any write down charged to the allowance for loan losses. Subsequent to foreclosure, valuations of the assets are periodically performed by management. Adjustments are made for subsequent decline in the fair market value of the assets less selling costs. Revenue and expenses from operations and valuation changes are included in net expenses from foreclosed assets. The Bank had no foreclosed assets during the years ended December 31, 2014 and 2013. 8 TRANSFERS OF FINANCIAL ASSETS Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed surrendered when (1) the assets have been isolated from the Bank – put presumptively beyond reach of the transferor and its creditors, even in bankruptcy or other receivership, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Bank does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity or the ability to unilaterally cause the holder to return specific assets. USE OF ESTIMATES In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and reported amounts of revenue and expenses during the reporting period. Actual results could differ from those 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 valuation of deferred tax assets, and the fair value of financial instruments. INCOME TAXES Deferred taxes are provided on a liability method whereby deferred tax assets and liabilities are recognized for deductible temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment. Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term more likely than not means a likelihood of more than 50 percent; the terms examined and upon examination also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances, and information available at the reporting date and is subject to management’s judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized. ADVERTISING COSTS The Bank follows the policy of charging all of advertising to expense as incurred. COMPREHENSIVE INCOME Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes unrealized gains (losses) on securities available for sale, which are also recognized as separate components of equity. Items reclassified out of accumulated other comprehensive income to net income relate solely to realized gains (losses) on sales of securities available for sale and appear under the caption “Gains on sale of securities available for sales” in the Bank’s statements of income. FAIR VALUE OF FINANCIAL INSTRUMENTS Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in Note 14. Fair value estimates involve uncertainties and matters of significant judgment. Changes in assumptions or in market conditions could significantly affect the estimates. STOCK COMPENSATION PLANS Authoritative accounting guidance requires that the compensation cost relating to share-based payment transactions be recognized in the financial statements. That cost is measured based on the fair value of the equity or liability instruments issued. The guidance covers a wide range of share-based compensation arrangements including stock options, restricted share plans, performance-based awards, share appreciation rights, and employee share purchase plans. The guidance requires entities to measure the cost of employee services 9 recognized in exchange for stock options based on the grant-date fair value of the award, and to recognize the cost over the period the employee is required to provide services for the award. The Bank uses the Black-Scholes option-pricing model to meet the fair value objective as outlined in the accounting literature. EARNINGS PER SHARE Basic earnings per share represent income available to common shareholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Bank consist solely of outstanding stock options, and are determined using the treasury method. RECENT ACCOUNTING PRONOUNCEMENTS In January 2014, the FASB issued ASU 2014-04, “Receivables—Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force).” The amendments in this ASU clarify that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, the amendments require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The amendments in this ASU are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. The adoption of the new guidance did not have a material impact on the Bank’s financial statements. In April 2014, the FASB issued ASU 2014-08, “Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity.” The amendments in this ASU change the criteria for reporting discontinued operations while enhancing disclosures in this area. Under the new guidance, only disposals representing a strategic shift in operations should be presented as discontinued operations. Those strategic shifts should have a major effect on the organization’s operations and financial results and include disposals of a major geographic area, a major line of business, or a major equity method investment. The new guidance requires expanded disclosures about discontinued operations that will provide financial statement users with more information about the assets, liabilities, income, and expenses of discontinued operations. Additionally, the new guidance requires disclosure of the pre-tax income attributable to a disposal of a significant part of an organization that does not qualify for discontinued operations reporting. The amendments in the ASU are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted. The Bank does not expect the adoption of ASU 2014-08 to have a material impact on its financial statements. In June 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers: Topic 606.” This ASU applies to any entity using U.S. GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards. The guidance supersedes the revenue recognition requirements in Topic 605, “Revenue Recognition, most industry-specific guidance, and some cost guidance included in Subtopic 605-35, “Revenue Recognition—Construction-Type and Production-Type Contracts.” The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To be in alignment with the core principle, an entity must apply a five step process including: identification of the contract(s) with a customer, identification of performance obligations in the contract(s), determination of the transaction price, allocation of the transaction price to the performance obligations, and recognition of revenue when (or as) the entity satisfies a performance obligation. Additionally, the existing requirements for the recognition of a gain or loss on the transfer of nonfinancial assets that are not in a contract with a customer have also been amended to be consistent with the guidance on recognition and measurement. The amendments in this ASU are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early adoption is not permitted. The Bank is currently assessing the impact that ASU 2014-09 will have on its financial statements. In June 2014, the FASB issued ASU No. 2014-11, “Transfers and Servicing (Topic 860): Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures.” This ASU aligns the accounting for repurchase-to-maturity transactions and repurchase 10 agreements executed as a repurchase financing with the accounting for other typical repurchase agreements. The new guidance eliminates sale accounting for repurchase-to-maturity transactions and supersedes the guidance under which a transfer of a financial asset and a contemporaneous repurchase financing could be accounted for on a combined basis as a forward agreement. The amendments in the ASU also require a new disclosure for transactions economically similar to repurchase agreements in which the transferor retains substantially all of the exposure to the economic return on the transferred financial assets throughout the term of the transaction. Additional disclosures will be required for the nature of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings. The amendments in this ASU are effective for the first interim or annual period beginning after December 15, 2014; however, the disclosure for transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and interim periods beginning after March 15, 2015. Early adoption is not permitted. The Bank is currently assessing the impact that ASU 2014-11 will have on its financial statements. In June 2014, the FASB issued ASU No. 2014-12, “Compensation – Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period.” The new guidance applies to reporting entities that grant employees share-based payments in which the terms of the award allow a performance target to be achieved after the requisite service period. The amendments in the ASU require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. Existing guidance in “Compensation – Stock Compensation (Topic 718),” should be applied to account for these types of awards. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. Early adoption is permitted and reporting entities may choose to apply the amendments in the ASU either on a prospective or retrospective basis. The Bank does not expect the adoption of ASU 2014-12 to have a material impact on its financial statements. In August 2014, the FASB issued ASU No. 2014-14, “Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure.” The amendments in this ASU apply to creditors that hold government-guaranteed mortgage loans and are intended to eliminate the diversity in practice related to the classification of these guaranteed loans upon foreclosure. The new guidance stipulates that a mortgage loan be derecognized and a separate other receivable be recognized upon foreclosure if (1) the loan has a government guarantee that is not separable from the loan prior to foreclosure, (2) at the time of foreclosure, the creditor has the intent to convey the real estate property to the guarantor and make a claim on the guarantee, and the creditor has the ability to recover under that claim, and (3) at the time of foreclosure, any amount of the claim that is determined on the basis of the fair value of the real estate is fixed. Upon foreclosure, the other receivable should be measured on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2014. Entities may adopt the amendments on a prospective basis or modified retrospective basis as of the beginning of the annual period of adoption; however, the entity must apply the same method of transition as elected under ASU 2014-04. Early adoption is permitted provided the entity has already adopted ASU 2014-04. The adoption of the new guidance did not have a material impact on the Bank’s financial statements. In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements – Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern.” This update is intended to provide guidance about management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosures. Management is required under the new guidance to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date the financial statements are issued when preparing financial statements for each interim and annual reporting period. If conditions or events are identified, the ASU specifies the process that must be followed by management and also clarifies the timing and content of going concern footnote disclosures in order to reduce diversity in practice. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2016. Early adoption is permitted. The Bank does not expect the adoption of ASU 2014-15 to have a material impact on its financial statements. In January 2015, the FASB issued ASU No. 2015-01, “Income Statement—Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.” The amendments in this ASU eliminate from U.S. GAAP the concept of extraordinary items. Subtopic 225-20, Income Statement - Extraordinary and Unusual Items, required that an entity separately classify, present, and disclose extraordinary events and transactions. Presently, an event or transaction is presumed to be an ordinary and usual activity of the reporting entity unless evidence clearly supports its classification as an extraordinary item. If an event or transaction meets the criteria for extraordinary classification, an entity is required to segregate the extraordinary item from the results of ordinary operations and show the item separately in the income statement, net of tax, after income from continuing operations. The entity also is required to disclose applicable income taxes and either present or disclose earnings-per-share data applicable to the extraordinary item. The amendments in this ASU are effective for fiscal years, and interim periods within those fiscal 11 years, beginning after December 15, 2015. Early adoption is permitted provided that the guidance is applied from the beginning of the fiscal year of adoption. The Bank does not expect the adoption of ASU 2015-01 to have a material impact on its financial statements. RECLASSIFICATIONS Certain prior year amounts have been reclassified to conform to the current year’s method of presentation. None of these reclassifications were significant. NOTE 2. RESTRICTIONS ON CASH AND AMOUNTS DUE FROM BANKS The Bank is required to maintain average balances on hand or with the Federal Reserve Bank. At December 31, 2014 and 2013, these reserve balances amounted to $0 and $6,945,000, respectively. NOTE 3. SECURITIES Amortized cost and fair values of securities available for sale as of December 31, 2014 and 2013, are as follows: 2014 AMORTIZED COST GROSS UNREALIZED GAINS GROSS UNREALIZED (LOSSES) FAIR VALUE Securities of U.S. government and federal agencies $ 4,239,131 $ Securities of state and local municipalities Certificates of deposit SBA pass-through securities Mortgage-backed securities Collateralized mortgage obligations 1,321,954 2,235,000 446,151 25,067,769 29,998,968 346 $ - - 10,238 - - 143,487 54,723 (71,752) $ (32,129) (687) (17,069) (188,672) (510,060) Total $ 63,308,973 $ 208,794 $ (820,369) $ 4,167,725 1,289,825 2,244,551 429,082 25,022,584 29,543,631 62,697,398 2013 AMORTIZED COST GROSS UNREALIZED GAINS GROSS UNREALIZED (LOSSES) FAIR VALUE Securities of U.S. government and federal agencies $ 10,289,130 $ 58 $ (287,054) $ Securities of state and local municipalities Certificates of deposit SBA pass-through securities Mortgage-backed securities Collateralized mortgage obligations Corporate securities Total 2,553,671 2,235,000 489,529 12,501,492 28,647,510 2,500,000 191 15,966 - - 9,801 8,483 - - (79,744) (2,893) (35,499) (364,041) (1,576,268) (15,240) $ 59,216,332 $ 34,499 $ (2,360,739) $ 10,002,134 2,474,118 2,248,073 454,030 12,147,252 27,079,725 2,484,760 56,890,092 At December 31, 2014 and 2013, securities with a market value of $987,971 and $0 were pledged to secure borrowings at the Federal Reserve Bank. At December 31, 2014 and 2013, securities with a market value of $13,427,812 and $6,522,641 were pledged to secure borrowings at the Federal Home Loan Bank of Atlanta. 12 At December 31, 2014 and 2013, securities with a market value of $20,622,479 and $15,230,669 were pledged to secure public deposits with the Treasury Board of Virginia at the Community Bankers’ Bank. There are no held to maturity securities at December 31, 2014 and 2013. The following table shows estimated fair value and gross unrealized losses, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2014 and 2013, respectively. The reference point for determining when securities are in an unrealized loss position is month-end. Therefore, it is possible that a security’s market value exceeded its amortized cost on other days during the past twelve-month period. Available for sale securities that have been in a continuous unrealized loss position are as follows: AT DECEMBER 31, 2014 LESS THAN 12 MONTHS 12 MONTHS OR LONGER TOTAL FAIR VALUE UNREALIZED LOSSES FAIR VALUE UNREALIZED LOSSES FAIR VALUE UNREALIZED LOSSES Securities of U.S. government and federal agencies Securities of state and local municipalities Certificates of deposit SBA pass-through securities Mortgage-backed securities Collateralized mortgage obligations $ - - $ - - $ 3,667,379 $ (71,752) $ 3,667,379 $ (71,752) 807,525 244,313 - - 6,056,708 9,013,341 (14,429) 482,300 (17,700) 1,289,825 (687) - - (24,442) (78,180) - - 429,082 5,741,066 14,939,826 - - (17,069) (164,230) (431,880) 244,313 429,082 11,797,774 23,953,167 (32,129) (687) (17,069) (188,672) (510,060) (820,369) Total $ 16,121,887 $ (117,738) $ 25,259,653 $ (702,631) $ 41,381,540 $ AT DECEMBER 31, 2013 LESS THAN 12 MONTHS 12 MONTHS OR LONGER TOTAL FAIR VALUE UNREALIZED LOSSES FAIR VALUE UNREALIZED LOSSES FAIR VALUE UNREALIZED LOSSES Securities of U.S. government and federal agencies $ 7,753,657 $ (235,473) $ 1,748,419 $ (51,581) $ 9,502,076 $ (287,054) Securities of state and local municipalities Certificates of deposit SBA pass-through securities 1,721,215 242,107 - - (79,744) (2,893) - - Mortgage-backed securities 4,491,852 (162,612) Collateralized mortgage obligations 24,414,851 (1,446,109) Corporate securities 2,484,760 (15,240) - - - - 454,030 3,296,428 1,696,210 - - - - - - (35,499) (201,429) (130,159) 1,721,215 242,107 454,030 7,788,280 (79,744) (2,893) (35,499) (364,041) 26,111,061 (1,576,268) - - 2,484,760 (15,240) Total $ 41,108,442 $ (1,942,071) $ 7,195,087 $ (418,668) $ 48,303,529 $ (2,360,739) Securities of U.S. government and federal agencies: The unrealized losses were caused by interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Bank does not consider those investments to be other-than-temporarily impaired at December 31, 2014. Securities of state and local municipalities: The unrealized losses on the investments in securities of state and local municipalities were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Bank does not consider those investments to be other-than-temporarily impaired at December 31, 2014. 13 Certificates of deposit: The unrealized losses on the Bank’s investment in fully-insured certificates of deposits were caused by interest rate increases. Because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Bank does not consider those investments to be other-than-temporarily impaired at December 31, 2014. SBA pass-through securities: The unrealized losses on the Bank’s investment in SBA pass-through securities were caused by interest rate increases. Repayment of the principal on those investments is guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Bank’s investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Bank does not consider those investments to be other-than-temporarily impaired at December 31, 2014. Mortgage-backed securities: The unrealized losses on the Bank’s investment in mortgage-backed securities were caused by interest rate increases. The contractual cash flows of those investments are guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Bank’s investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Bank does not consider those investments to be other-than-temporarily impaired at December 31, 2014. Collateralized mortgage obligations (CMOs): The unrealized loss associated with CMOs was caused by interest rate increases. The contractual cash flows of these investments are guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Bank’s investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Bank does not intend to sell the investments and it is not more likely than not that the Bank will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Bank does not consider those investments to be other-than-temporarily impaired at December 31, 2014. The amortized cost and fair value of securities available for sale as of December 31, 2014, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without penalties. AMORTIZED COST FAIR VALUE Less than 1 year $ 1,000,000 $ After 1 year through 5 years After 5 years through 10 years After 10 years SBA pass-through securities Mortgage-backed securities Collateralized mortgage obligations 5,474,131 500,000 821,954 7,796,085 446,151 25,067,769 29,998,968 1,003,761 5,403,400 487,415 807,525 7,702,101 429,082 25,022,584 29,543,631 Total $ 63,308,973 $ 62,697,398 For the years ended December 31, 2014 and 2013, proceeds from maturities, calls and principal repayments of securities were $9,185,981 and $5,542,833, respectively. During 2014 and 2013, proceeds from sales of securities available for sale amounted to $15,663,566 and $11,633,352; gross realized gains were $126,670 and $206,438 and gross realized losses were $49,448 and $2,456, respectively. 14 NOTE 4. LOANS AND ALLOWANCE FOR LOAN LOSSES A summary of loan balances by type follows: Commercial real estate Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction 2014 2013 $ 325,040,726 $ 273,252,038 82,373,936 24,160,267 66,227,782 11,615,337 - - 64,639,393 7,921,095 59,521,226 4,446,468 268,100 $ 509,418,048 $ 410,048,320 Less: Allowance for loan losses Unearned income and unamortized premiums 5,564,669 (519,572) 4,791,716 (991,406) Loans, net $ 504,372,951 $ 406,248,010 An analysis of the allowance for loan losses for the years ended December 31, 2014 and 2013 follows: Commercial Real Estate Commercial and Industrial 2014 ALLOWANCE FOR CREDIT LOSSES: Commercial Construction Consumer Residential Consumer Nonresidential Consumer Construction Unallocated Total Beginning Balance $ 3,725,137 $ 786,921 $ 78,143 $ 177,212 $ 9,134 $ 2,996 $ 12,173 $ 4,791,716 Charge-offs Recoveries Provision (112,625) 10,000 98,822 - - - - - - - - - - - - 489,435 155,608 27,578 (10,107) - - 67,177 - - - - - - - - (2,996) 50,061 (122,732) 10,000 885,685 Ending Balance $ 3,721,334 $ 1,276,356 $ 233,751 $ 204,790 $ 66,204 $ - - $ 62,234 $ 5,564,669 2013 ALLOWANCE FOR CREDIT LOSSES: Beginning Balance $ 2,459,956 $ 1,089,378 $ 22,317 $ 170,964 $ 14,547 $ - - $ - - $ 3,757,162 Charge-offs Recoveries Provision - - 231,181 - - - - - - - - - - - - - - - - 1,034,000 (302,457) 55,826 6,248 (5,413) Ending Balance $ 3,725,137 $ 786,921 $ 78,143 $ 177,212 $ 9,134 $ - - - - 2,996 2,996 - - - - 12,173 - - 231,181 803,373 12,173 $ 4,791,716 15 The following table presents the recorded investment in loans and impairment method as of December 31, 2014 and 2013 by portfolio segment: FOR THE YEAR ENDED DECEMBER 31, 2014 Commercial Real Estate Commercial and Industrial Commercial Construction Consumer Residential Consumer Nonresidential Consumer Construction Unallocated Total ALLOWANCE FOR CREDIT LOSSES: Ending Balance: Individually evaluated for impairment $ Collectively evaluated for impairment 281,120 $ 474,993 $ - - $ - - $ - - $ - - $ - - $ 756,113 3,440,214 801,363 233,751 204,790 66,204 - - 62,234 4,808,556 $ 3,721,334 $ 1,276,356 $ 233,751 $ 204,790 $ 66,204 $ - - $ 62,234 $ 5,564,669 FINANCING RECEIVABLES: Ending Balance: Individually evaluated for impairment Collectively evaluated for impairment $ 3,318,469 $ 2,606,878 $ - - $ 121,805 $ - - $ - - $ - - $ 6,047,152 321,722,257 79,767,058 24,160,267 66,105,977 11,615,337 - - - - 503,370,896 $ 325,040,726 $ 82,373,936 $ 24,160,267 $ 66,227,782 $ 11,615,337 $ - - $ - - $ 509,418,048 FOR THE YEAR ENDED DECEMBER 31, 2013 Commercial Real Estate Commercial and Industrial Commercial Construction Consumer Residential Consumer Nonresidential Consumer Construction Unallocated Total ALLOWANCE FOR CREDIT LOSSES: Ending Balance: Individually evaluated for impairment $ Collectively evaluated for impairment 409,859 $ 89,911 $ - - $ - - $ - - $ - - $ - - $ $499,770 3,315,278 697,010 78,143 177,212 9,134 2,996 12,173 4,291,946 $ 3,725,137 $ 786,921 $ 78,143 $ 177,212 $ 9,134 $ 2,996 $ 12,173 $ 4,791,716 FINANCING RECEIVABLES: Ending Balance: Individually evaluated for impairment Collectively evaluated for impairment $ 2,978,494 $ 3,552,655 $ - - $ - - $ - - $ - - $ - - $ 6,531,149 270,273,544 61,086,738 7,921,095 59,921,226 4,446,468 268,100 - - 403,917,171 $ 273,252,038 $ 64,639,393 $ 7,921,095 $ 59,921,226 $ 4,446,468 $ 268,100 $ - - $ 410,448,320 16 Impaired loans by class as of December 31, 2014 and 2013 are summarized as follows: FOR THE YEAR ENDED DECEMBER 31, 2014 RECORDED INVESTMENT UNPAID PRINCIPAL BALANCE RELATED ALLOWANCE AVERAGE RECORDED INVESTMENT INTEREST INCOME RECOGNIZED WITH AN ALLOWANCE RECORDED: Commercial real estate $ 770,365 $ 803,708 $ Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction 473,839 474,992 - - - - - - - - - - - - - - - - 281,120 $ 474,993 818,694 $ 487,896 - - - - - - - - - - - - - - - - 26,617 19,525 - - - - - - - - $ $ WITH NO RELATED ALLOWANCE: Commercial real estate Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction 1,244,204 $ 1,278,700 $ 756,113 $ 1,306,590 $ 46,142 2,548,104 $ 2,553,086 $ - - $ 2,568,511 $ 133,485 2,133,039 - - 121,805 - - - - 2,179,073 - - 121,805 - - - - - - - - - - - - - - 2,438,442 - - 122,835 - - - - 96,112 - - 6,710 - - - - $ 4,802,948 $ 4,853,964 $ - - $ 5,129,788 $ 236,307 FOR THE YEAR ENDED DECEMBER 31, 2013 WITH AN ALLOWANCE RECORDED: Commercial real estate $ Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction $ $ WITH NO RELATED ALLOWANCE: Commercial real estate Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction RECORDED INVESTMENT UNPAID PRINCIPAL BALANCE RELATED ALLOWANCE AVERAGE RECORDED INVESTMENT INTEREST INCOME RECOGNIZED 934,753 $ 354,765 957,047 $ 409,859 $ 362,603 89,911 965,313 $ 426,537 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - 57,921 19,000 - - - - - - - - 1,289,518 $ 1,319,650 $ 499,770 $ 1,391,850 $ 76,921 2,043,741 $ 2,043,741 $ - - $ 2,173,999 $ 3,197,890 3,203,089 - - - - - - - - - - - - - - - - - - - - - - - - - - 4,318,928 - - - - - - - - 76,359 159,048 - - - - - - - - $ 5,241,631 $ 5,246,830 $ - - $ 6,492,927 $ 235,407 17 No additional funds are committed to be advanced in connection with the impaired loans. There were no nonaccrual loans excluded from the impaired loan disclosure. The Bank categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, collateral adequacy, credit documentation, and current economic trends, among other factors. The Bank analyzes loans individually by classifying the loans as to credit risk. This analysis typically includes larger, non-homogeneous loans such as commercial real estate and commercial and industrial loans. This analysis is performed on an ongoing basis as new information is obtained. The Bank uses the following definitions for risk ratings: PASS – Loans listed as pass include larger non-homogeneous loans not meeting the risk rating definitions below and smaller, homogeneous loans not assessed on an individual basis. SPECIAL MENTION – Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date. SUBSTANDARD – Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the enhanced possibility that the institution will sustain some loss if the deficiencies are not corrected. DOUBTFUL – Loans classified as doubtful include those loans which have all the weaknesses inherent in those classified Substandard with the added characteristic that the weaknesses make collection or liquidation in full, based on currently known facts, conditions and values, improbable. LOSS – Loans classified as loss include those loans which are considered uncollectible and of such little value that their continuance as loans is not warranted. Even though partial recovery may be achieved in the future, it is neither practical nor desirable to defer writing off these loans. Based on the most recent analysis performed, the risk category of loans by class of loans was as follows as of December 31, 2014 and 2013: AS OF DECEMBER 31, 2014 COMMERCIAL REAL ESTATE COMMERCIAL AND INDUSTRIAL COMMERCIAL CONSTRUCTION CONSUMER RESIDENTIAL CONSUMER NONRESIDENTIAL CONSUMER CONSTRUCTION TOTAL GRADE: Pass Special mention Substandard Doubtful Loss Total $ 317,316,585 $ 77,206,789 $ 24,160,267 $ 66,105,977 $ 11,615,337 $ - - $ 496,404,955 4,405,672 3,318,469 2,560,269 2,606,878 - - - - - - - - - - - - - - - - - - 121,805 - - - - - - - - - - - - - - - - - - - - 6,965,941 6,047,152 - - - - $ 325,040,726 $ 82,373,936 $ 24,160,267 $ 66,227,782 $ 11,615,337 $ - - $ 509,418,048 AS OF DECEMBER 31, 2013 COMMERCIAL REAL ESTATE COMMERCIAL AND INDUSTRIAL COMMERCIAL CONSTRUCTION CONSUMER RESIDENTIAL CONSUMER NONRESIDENTIAL CONSUMER CONSTRUCTION TOTAL GRADE: Pass Special mention Substandard Doubtful Loss Total $ 267,781,821 $ 58,642,370 $ 7,921,095 $ 59,521,226 $ 4,446,468 $ 268,100 $ 398,581,080 2,491,723 2,978,494 2,444,368 3,552,655 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - 4,936,091 6,531,149 - - - - $ 273,252,038 $ 64,639,393 $ 7,921,095 $ 59,521,226 $ 4,446,468 $ 268,100 $ 410,048,320 18 Past due and nonaccrual loans presented by loan class were as follows as of December 31, 2014 and 2013: AS OF DECEMBER 31, 2014 30-59 DAYS PAST DUE 60-89 DAYS PAST DUE 90 DAYS OR MORE PAST DUE TOTAL PAST DUE CURRENT TOTAL LOANS 90 DAYS PAST DUE AND STILL ACCRUING NONACCRUALS $ 106,645 $ 190,942 $ - - $ 297,587 $ 324,743,139 $ 325,040,726 $ - - $ 266,852 - - 232,514 922,684 1,155,198 81,218,738 82,373,936 40,447 1,172,285 - - - - - - - - 24,160,267 24,160,267 - - 99,647 121,805 221,452 66,006,330 66,227,782 2,030 2,726 - - - - - - - - 4,756 11,610,581 11,615,337 - - - - - - - - - - - - - - - - 121,805 - - - - Commercial real estate Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction Total $ $108,675 $ 525,829 $ $1,044,489 $ $1,678,993 $ 507,739,055 $ 509,418,048 $ $40,447 $ $1,560,942 AS OF DECEMBER 31, 2013 30-59 DAYS PAST DUE 60-89 DAYS PAST DUE 90 DAYS OR MORE PAST DUE TOTAL PAST DUE CURRENT TOTAL LOANS 90 DAYS PAST DUE AND STILL ACCRUING NONACCRUALS $ 78,714 $ - - $ 1,022,661 $ 1,101,375 $ 272,150,663 $ 273,252,038 $ - - $ 1,241,305 1,013,926 - - 1,336,741 2,350,667 62,288,726 64,639,393 859,609 886,619 - - 2,093,458 7,130 - - - - - - - - - - - - - - 7,921,095 7,921,095 - - 2,093,458 57,427,768 59,521,226 - - - - 7,130 4,439,338 4,446,468 - - 268,100 268,100 - - - - - - - - - - - - - - - - Commercial real estate Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction Total $ 3,193,228 $ - - $ 2,359,402 $ 5,552,630 $ 404,495,690 $ 410,048,320 $ 859,609 $ 2,127,924 There were overdrafts of $1,218,892 and $417,854 at December 31, 2014 and 2013 which have been reclassified from deposits to loans. At December 31, 2014 and 2013, loans with a carrying value of $34,979,641 and $36,201,602 were pledged to the Federal Home Loan Bank of Atlanta. During the year ended December 31, 2014, there was one troubled debt restructuring that subsequently defaulted for $10,107 in the consumer nonresidential loan category. There was no debt restructuring that subsequently defaulted for the year ended December 31, 2013. A summary of activity in troubled debt restructurings presented by loan class follows for the year ended December 31, 2014: 19 FOR THE YEAR ENDED DECEMBER 31, 2014 TROUBLED DEBT RESTRUCTURINGS Commercial real estate Commercial and industrial Commercial construction Consumer residential Consumer nonresidential Consumer construction Total NUMBER OF CONTRACTS PRE-MODIFICATION OUTSTANDING RECORDED INVESTMENT POST-MODIFICATION OUTSTANDING RECORDED INVESTMENT 1 1 1 $ $77,977 $ 293,259 - - - - 10,230 - - $ $381,466 $ 75,951 293,163 - - - - 10,107 - - 379,221 The concessions made in troubled debt restructurings were extensions of the maturity dates or reductions in the stated interest rate for the remaining original life of the debt. There were no new troubled debt restructurings for the year ended December 31, 2013. NOTE 5. PREMISES AND EQUIPMENT A summary of the cost and accumulated depreciation of premises and equipment follows: Leasehold improvements Furniture, fixtures and equipment Computer software Less: accumulated depreciation 2014 2013 $2,323,813 $ 2,228,906 2,553,972 209,939 $5,087,724 3,343,117 $1,744,607 $ $ 2,429,395 160,962 4,819,263 2,807,866 2,011,397 $ $ $ For the years ended December 31, 2014 and 2013, depreciation expense was $535,251 and $502,390, respectively. As of December 31, 2014, the Bank has a non-cancellable lease agreement for the operating headquarters. The lease states that if the Bank holds possession of the premises after the expiration date, the Bank shall become a tenant on a month-to-month basis. The monthly rental payment shall continue as provided unless notice is given. The lease expires December 31, 2017. In January 2008, the Bank entered into a non-cancellable lease agreement to operate a branch in Manassas, Virginia. The lease expires December 31, 2017. The lease contains an option to extend for two five-year periods. In December 2010, the Bank entered into a five-year lease agreement to operate a branch in Reston, Virginia. The lease, which is cancellable with penalty, expires December 31, 2020. The lease contains an option to extend for two five-year periods. As a result of the acquisition in October 2012, the Bank assumed the remaining term of a non-cancellable 10-year lease agreement to operate a branch in Arlington, Virginia. The lease expires on July 31, 2018. The lease contains an option to extend for two five-year periods. As part of the acquisition accounting, the Bank recorded a liability for the terms of the lease relative to the market terms at the time of the acquisition. The liability is accreted against rent expense over the remaining lease term. In May 2013, the Bank entered into a 10-year lease agreement to operate a branch in Springfield, Virginia. The lease, which is cancellable with penalty, expires August 31, 2023. The lease contains an option to extend for two five-year periods. Total rent expense for the years ended December 31, 2014 and 2013 amounted to $983,007 and $986,004, respectively. 20 The minimum base rent for the remainder of the leases are as follows: 2015 2016 2017 2018 2019 thereafter NOTE 6. TIME DEPOSITS Remaining maturities on certificates of deposit are as follows: 2015 2016 2017 2018 2019 $ 1,146,910 1,097,737 999,694 256,935 89,762 350,465 $ 3,941,503 $ 106,512,574 52,015,108 30,497,988 4,666,660 5,047,123 $ 198,739,453 Total time deposits greater than $250,000 were $52,459,472 and $51,265,438 at December 31, 2014 and 2013, respectively. NOTE 7. DEPOSIT CONCENTRATIONS At December 31, 2014 and 2013, the Bank had one and two customer relationships, respectively, whose related balance on deposit exceeded 5% of outstanding deposits. These customer relationships comprised 10% of outstanding deposits at December 31, 2014 and 6% and 8% of outstanding deposits at December 31, 2013. Brokered deposits totaled $76,972,714 and $52,094,344 at December 31, 2014 and 2013, respectively. NOTE 8. FEDERAL HOME LOAN BANK (FHLB) ADVANCES AND OTHER BORROWINGS FHLB advances at December 31, 2014 consist of the following: DAILY RATE ADVANCES MATURING: 2015 FIXED RATE ADVANCES MATURING: 2017 Total FHLB advances AMOUNT WEIGHTED AVERAGE RATE $ $ $30,000,000 $ 0.36% 2,500,000 $32,500,000 $ 1.33% 0.43% At December 31, 2014, advances are collateralized by securities with a market value of $13,427,812, 1-4 family residential loans with a book value of $4,248,505, home equity lines of credit with a book value of $1,035,987 and commercial real estate loans with book value of $29,695,149. The remaining lendable collateral value at December 31, 2014 totaled $4,185,118. The Bank has unsecured lines of credit with correspondent banks totaling $22,000,000 and $12,000,000 at December 31, 2014 and 2013, available for overnight borrowing. $0 and $3,000,000 were drawn on the lines at December 31, 2014 and 2013, respectively. 21 NOTE 9. RELATED PARTY TRANSACTIONS Officers, directors and their affiliates had borrowings of $1,162,160 and $2,898,990 at December 31, 2014 and 2013 with the Bank. During the years ended December 31, 2014 and 2013, total principal additions were $247,146 and $110,449 and total principal payments were $1,983,976 and $829,541, respectively. Related party deposits amounted to $27,887,131 and $32,794,383 at December 31, 2014 and 2013, respectively. NOTE 10. INCOME TAXES The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 2014 and 2013 are presented below: 2014 2013 $ 1,804,757 $ 1,517,031 503,251 362,015 207,935 181,843 140,274 119,927 18,196 531,471 307,618 790,922 113,012 157,993 - - 372,405 3,338,198 $ 3,790,452 DEFERRED TAX ASSETS: Allowance for loan losses Net operating loss carry forward Bank premises and equipment and deferred rent Unrealized loss on securities available for sale Directors - nonqualified stock options Organizational and start-up expenses Acquisition accounting adjustments Non-accrual loan interest DEFERRED TAX LIABILITIES: Acquisition accounting adjustments Deferred loan fees $ $ $ Net Deferred Tax Assets $ 3,210,400 - - $ (127,798) (127,798) $ $ (52,075) (138,895) (190,970) 3,599,482 As part of the 2012 acquisition, the Bank acquired approximately $1.7 million of unused net operating carryforwards. The Bank may utilize the carryforwards, subject to certain limitations, through 2032. The income tax expense (benefit) credited to operations for the years ended December 31, 2014 and 2013 consists of the following: Current tax expense Deferred tax benefit 2014 2013 $ $ $2,356,318 $ 1,403,270 (193,905) (106,141) $2,162,413 $ 1,297,129 22 Income tax expense (benefit) differed from amounts computed by applying the U.S. federal income tax rate of 34% to income, excluding bargain purchase gain, before income tax expense as a result of the following: Computed “expected” tax expense $ $2,140,606 $ 1,198,485 Increase (decrease) in income taxes resulting from: 2014 2013 Non-deductible expense Tax free income Other 105,468 (67,779) (15,882) 76,048 - - 22,596 $ 2,162,413 $ 1,297,129 The Bank files income tax returns in the U.S. federal jurisdiction. With few exceptions, the Bank is no longer subject to U.S. federal examination by tax authorities for years prior to 2011. NOTE 11. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK The Bank is party to credit-related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet. The Bank’s exposure to credit loss is represented by the contractual amount of these commitments. The Bank follows the same credit policies in making commitments as it does for on-balance sheet instruments. At December 31, 2014 and 2013, the following financial instruments were outstanding which contract amounts represent credit risk: Commitments to grant loans $ $23,978,293 $ $15,689,370 Unused commitments to fund loans and lines of credit 96,679,991 74,088,865 Commercial and standby letters of credit 974,762 2,184,774 2014 2013 Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The commitments for equity lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by the Bank, is based on management’s credit evaluation of the customer. Unfunded commitments under commercial lines of credit, revolving credit lines and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines of credit usually do not contain a specified maturity date and may not be drawn upon to the total extent to which the Bank is committed. The amount of collateral obtained, if it is deemed necessary by the Bank, is based on management’s credit evaluation of the customer. Commercial and standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. Essentially all letters of credit issued have expiration dates within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank generally holds collateral supporting those commitments, if deemed necessary. The Bank maintains its cash accounts with the Federal Reserve and correspondent banks. The total amount of cash on deposit in correspondent banks exceeding the federally insured limits was $75,924 and $173,528 at December 31, 2014 and 2013, respectively. 23 NOTE 12. MINIMUM REGULATORY CAPITAL REQUIREMENTS The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, financial institutions must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. A financial institution’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require financial institutions to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2014 and 2013, that the Bank meets all capital adequacy requirements to which it is subject. As of December 31, 2014, the most recent notification from the Federal Reserve Bank categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table. Federal and state banking regulations place certain restrictions on dividends paid by the Bank. The total amount of dividends which may be paid at any date is generally limited to retained earnings of the Bank. The Bank’s actual capital amounts and ratios are also presented in the table. ACTUAL MINIMUM CAPITAL REQUIREMENT WELL CAPITALIZED UNDER PROMPT CORRECTIVE ACTION PROVISIONS AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO (Amounts in Thousands) 69,622 $ 64,057 $ 13.62% $ 12.53% $ 40,884 $ 20,442 $ 8.00% $ 4.00% $ 51,105 $ 30,663 $ 10.00% 6.00% 64,057 $ 10.96% $ 23,381 $ 4.00% $ 29,226 $ 5.00% $64,530 $ $59,737 $ 15.89% $ 14.71% $ 32,496 $ 16,248 $ 8.00% $ 4.00% $ 40,620 $ 24,372 $ 10.00% 6.00% $59,737 $ 12.58% $ 18,989 $ 4.00% $ 23,736 $ 5.00% As of December 31, 2014: Total Risk Based Capital (to Risk Weighted Assets) Tier 1 Capital (to Risk Weighted Assets) Tier 1 Capital (to Average Assets) As of December 31, 2013: Total Risk Based Capital (to Risk Weighted Assets) Tier 1 Capital (to Risk Weighted Assets) Tier 1 Capital (to Average Assets) $ $ $ $ $ $ 24 NOTE 13. STOCK-BASED COMPENSATION PLAN The Bank’s 2008 Stock Option Plan (the Plan), which is shareholder-approved, was adopted to advance the interests of the Bank by providing selected key employees of the Bank, their affiliates, and directors with the opportunity to acquire shares of common stock. The Plan granted options to purchase 3,000 shares of common stock to each of the 21 organizing shareholders of the Bank, who had funds at risk during the Bank’s organizational period and assumed the financial risk that the Bank would not open. These shares immediately vested upon grant. The maximum number of shares with respect to which awards may be made is 745,000 shares of common stock, subject to adjustment for certain corporate events. On June 26, 2014, the shareholders approved an amendment to the Amended and Restated 2008 Stock Plan to increase the number of shares authorized for issuance under the Plan by 350,000 shares. Option awards are generally granted with an exercise price equal to the market price of the Bank’s stock at the date of grant, generally vest annually over three years of continuous service and have ten year contractual terms. At December 31, 2014, 146,882 shares were available to grant under the Plan. The fair value of each option award is estimated on the date of grant using a Black-Scholes option-pricing model for determining fair value. The model employs the following assumptions: • Dividend yield – calculated as the ratio of historical dividends paid per share of common stock to the stock price on the date of grant; • • Expected life (term of options) – based on the average contractual life and vesting schedule for the respective options; Expected volatility – based on the monthly historical volatility of the stock price of similar banks over the expected life of the options; • Risk-free interest rate – based upon the U.S. Treasury bill rate in effect at date of grant for bonds with a maturity equal to the expected life of the options. Dividend yield Expected life (in years) Expected volatility Risk-free interest rate 2014 2013 - - 6.4-6.6 15% - 25% - - 6.5 15% 2.02% 0.80%-1.11% A summary of option activity under the Plan as of December 31, 2014, and changes during the year then ended is presented below: OPTIONS SHARES WEIGHTED- AVERAGE EXERCISE PRICE WEIGHTED- AVERAGE REMAINING CONTRACTUAL TERM AGGREGATE INTRINSIC VALUE (1) Outstanding at January 1, 2014 Granted Exercised Forfeited or expired Outstanding at December 31, 2014 Exercisable at December 31, 2014 708,268 $ 219,250 (13,766) (68,384) 845,368 438,969 $ $ 12.56 13.61 12.01 11.81 12.91 12.15 7.39 $ 804,874 7.27 5.92 $ $ 2,140,469 1,445,280 25 (1) The aggregate intrinsic value of stock options represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holders had all option holders exercised their options on December 31, 2014. This amount changes based on changes in the market value of the Bank’s stock. The weighted average grant date fair value of options granted during the years ended December 31, 2014 and 2013 was $4.07 and $2.57, respectively. The compensation cost that has been charged to income for the plan was $418,000 and $308,145 for 2014 and 2013, respectively. As of December 31, 2014, there was unamortized compensation expense of $903,627 that will be amortized over 30 months. Tax benefits recognized for qualified stock options during 2014 and 2013 totaled $65,387 and $51,375. NOTE 14. FAIR VALUE MEASUREMENTS Determination of Fair Value The Bank uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with Fair Value Measurements and Disclosures topic of FASB ASC, the fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Bank’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. The fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions. Fair Value Hierarchy In accordance with this guidance, the Bank groups its financial assets and financial liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. Level 1 − Valuation is based on quoted prices in active markets for identical assets and liabilities. Level 2 − Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model-based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market. Level 3 − Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market. The following describes the valuation techniques used by the Bank to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the financial statements: Securities available for sale: Securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that considers observable market data (Level 2). 26 The following table presents the balances of financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2014 and 2013: DESCRIPTION ASSETS FAIR VALUE MEASUREMENTS AT DECEMBER 31, 2014 USING BALANCE AS OF DECEMBER 31, 2014 QUOTED PRICES IN ACTIVE MARKETS FOR IDENTICAL ASSETS (LEVEL 1) SIGNIFICANT OTHER OBSERVABLE INPUTS (LEVEL 2) SIGNIFICANT UNOBSERVABLE INPUTS (LEVEL 3) Securities of U.S. government and federal agencies $ 4,167,725 $ - - $ 4,167,725 $ Securities of state and local municipalities Certificates of deposit SBA pass-through securities Mortgage-backed securities Collateralized mortgage obligations Total Available-for-Sale Securities 1,289,825 2,244,551 429,082 25,022,584 29,543,631 - - - - - - - - - - 1,289,825 2,244,551 429,082 25,022,584 29,543,631 $ 62,697,398 $ - - $ 62,697,398 $ - - - - - - - - - - - - - - DESCRIPTION ASSETS FAIR VALUE MEASUREMENTS AT DECEMBER 31, 2013 USING BALANCE AS OF DECEMBER 31, 2013 QUOTED PRICES IN ACTIVE MARKETS FOR IDENTICAL ASSETS (LEVEL 1) SIGNIFICANT OTHER OBSERVABLE INPUTS (LEVEL 2) SIGNIFICANT UNOBSERVABLE INPUTS (LEVEL 3) Securities of U.S. government and federal agencies $ 10,002,134 $ - - $ 10,002,134 $ Securities of state and local municipalities Certificates of deposit SBA pass-through securities Mortgage-backed securities Collateralized mortgage obligations Corporate securities 2,474,118 2,248,073 454,030 12,147,252 27,079,725 2,484,760 - - - - - - - - - - - - 2,474,118 2,248,073 454,030 12,147,252 27,079,725 2,484,760 Total Available-for-Sale Securities $ 56,890,092 $ - - $ 56,890,092 $ - - - - - - - - - - - - - - - - Certain financial assets are measured at fair value on a nonrecurring basis in accordance with GAAP. Adjustments to the fair value of these assets usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets. The following describes the valuation techniques used by the Bank to measure certain financial assets recorded at fair value on a nonrecurring basis in the financial statements: Impaired Loans: Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing a market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Bank using observable market data (Level 2). However, if the collateral is a house or building in the process of construction, has the value derived by discounting comparable sales due to lack of similar properties, or is discounted by the Bank due to marketability, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’s financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Impaired loans allocated to the Allowance for Loan Losses are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Statements of Income. 27 The following table summarizes the Bank’s assets that were measured at fair value on a nonrecurring basis during the period: DESCRIPTION ASSETS FAIR VALUE MEASUREMENTS AT DECEMBER 31, 2014 USING BALANCE AS OF DECEMBER 31, 2014 QUOTED PRICES IN ACTIVE MARKETS FOR IDENTICAL ASSETS (LEVEL 1) SIGNIFICANT OTHER OBSERVABLE INPUTS (LEVEL 2) SIGNIFICANT UNOBSERVABLE INPUTS (LEVEL 3) Impaired Loans, net of valuation allowance $ 488,091 $ - - $ - - $ 488,091 DESCRIPTION ASSETS FAIR VALUE MEASUREMENTS AT DECEMBER 31, 2013 USING BALANCE AS OF DECEMBER 31, 2013 QUOTED PRICES IN ACTIVE MARKETS FOR IDENTICAL ASSETS (LEVEL 1) SIGNIFICANT OTHER OBSERVABLE INPUTS (LEVEL 2) SIGNIFICANT UNOBSERVABLE INPUTS (LEVEL 3) Impaired Loans, net of valuation allowance $ 789,748 $ - - $ - - $ 789,748 The following table displays quantitative information about Level 3 Fair Value Measurements for December 31, 2014 and 2013: QUANTITATIVE INFORMATION ABOUT LEVEL 3 FAIR VALUE MEASUREMENTS FOR DECEMBER 31, 2014 VALUATION TECHNIQUE(S) UNOBSERVABLE INPUT FAIR VALUE ASSETS RANGE Impaired Loans $ $ 130,016 Business asset value Liquidation costs 358,075 Discounted appraised value Market discount Selling liquidation expenses 20%-75% 7% 20% QUANTITATIVE INFORMATION ABOUT LEVEL 3 FAIR VALUE MEASUREMENTS FOR DECEMBER 31, 2013 VALUATION TECHNIQUE(S) UNOBSERVABLE INPUT FAIR VALUE ASSETS RANGE Impaired Loans $ $ $538,153 Business asset value Liquidation costs $251,595 Discounted appraised value Market discount Selling liquidation expenses 20%-50% 7% 20% The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Bank’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. The aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Bank. The following methods and assumptions were used by the Bank in estimating fair values of financial instruments as disclosed herein: Cash and Due from Banks and Federal Funds Sold The carrying amounts of cash and due from banks and federal funds sold approximate their fair value. Securities Available for Sale Fair values for securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments or third party vendor pricing models. 28 Interest-Bearing Deposits at Other Financial Institutions The carrying amounts of interest-bearing deposits at other financial institutions payable on demand, consisting of money market deposits, approximate fair value. Fair value of fixed-rate certificates of deposit is estimated based on discounted cash flow analyses using the remaining maturity of the underlying accounts and interest rates currently offered on certificates of deposit with similar original maturities. Restricted Stock The carrying amount of Federal Reserve Bank stock, Federal Home Loan Bank stock and Community Bankers’ Bank Stock approximates fair value based on redemption provisions. Loans Receivable For variable-rate loans that reprice frequently and have no significant change in credit risk, fair values are based on carrying values. Fair values for certain mortgage loans (for example, one to four family residential), credit-card loans and other consumer loans are based on quoted market prices of similar loans sold in conjunction with securitization transactions, adjusted for differences in loan characteristics. Fair values for business real estate and business loans are estimated using a discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Fair values for impaired loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable. Bank Owned Life Insurance Bank owned life insurance represents insurance policies on senior officers of the Bank. The cash values of the policies are estimated using information provided by insurance carriers. These policies are carried at their cash surrender values, which approximates fair values. Accrued Interest The carrying amount of accrued interest approximates fair value. Deposits The carrying amounts of deposit liabilities payable on demand, consisting of NOW accounts, money market deposits, and saving deposits approximate fair value. Fair value of fixed-rate certificates of deposit is estimated based on discounted cash flow analyses using the remaining maturity of the underlying accounts and interest rates currently offered on certificates of deposit with similar original maturities. Federal Funds Purchased The carrying amount of federal funds purchased approximates fair value. FHLB Advances The fair value of FHLB advances is estimated based on discounted cash flow analysis using the remaining maturity of the underlying accounts and interest rates currently offered of advance with similar original maturities. 29 Off-Balance Sheet Financial Instruments At December 31, 2014 and 2013, the fair values of loan commitments and standby letters of credit are immaterial. Therefore, they have not been included in the following table. FAIR VALUE MEASUREMENTS AS OF DECEMBER 31, 2014 USING CARRYING AMOUNT QUOTED PRICES IN ACTIVE MARKETS FOR IDENTICAL ASSETS (LEVEL 1) SIGNIFICANT OBSERVABLE INPUTS (LEVEL 2) SIGNIFICANT UNOBSERVABLE INPUTS (LEVEL 3) FINANCIAL ASSETS: Cash and due from banks Fed funds sold Interest-bearing deposits at other institutions Securities available for sale Restricted stock Loans, net Bank owned life insurance Accrued interest receivable FINANCIAL LIABILITIES: $ 5,066,808 $ 5,066,808 $ 13,895 10,915,209 62,697,398 3,887,250 504,372,951 10,199,352 1,576,142 13,895 10,915,209 - - - - - - - - - - - - $ - - - - 62,697,398 3,887,250 - - - - - - - - - - - - 507,417,000 10,199,352 1,576,142 Checking, savings and money market accounts $ 305,480,915 $ - - $ 305,480,915 $ Time deposits FHLB advances Accrued interest payable 198,739,453 32,500,000 153,062 - - - - - - 199,457,000 32,520,000 153,062 FAIR VALUE MEASUREMENTS AS OF DECEMBER 31, 2013 USING CARRYING AMOUNT QUOTED PRICES IN ACTIVE MARKETS FOR IDENTICAL ASSETS (LEVEL 1) SIGNIFICANT OBSERVABLE INPUTS (LEVEL 2) SIGNIFICANT UNOBSERVABLE INPUTS (LEVEL 3) FINANCIAL ASSETS: Cash and due from banks Fed funds sold Interest-bearing deposits at other institutions Securities available for sale Restricted stock Loans, net Accrued interest receivable FINANCIAL LIABILITIES: $ 32,005,862 $ 32,005,862 $ 6,000 688,428 56,890,092 2,941,750 406,248,010 1,299,866 6,000 688,428 - - - - - - - - - - $ - - - - 56,890,092 2,941,750 - - - - - - - - - - - - 406,421,000 1,299,866 Checking, savings and money market accounts $ 236,390,247 $ - - $ $236,390,247 $ Time deposits Federal funds purchased FHLB advances Accrued interest payable 193,599,259 3,000,000 11,500,000 197,795 - - - - - - - - 195,546,000 3,000,000 11,531,000 197,795 - - - - - - - - - - - - - - - - - - - - - - - - 30 NOTE 15. EARNINGS PER SHARE Basic earnings per share excludes dilution and is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if contracts to issue common stock were exercised or converted into common stock, or resulted in the issuance of stock which then shared in the earnings of the Bank. The following shows the weighted average number of shares used in computing earnings per share and the effect of weighted average number of shares of dilutive potential common stock. Dilutive potential common stock has no effect on income available to common shareholders. There were 329,450 and 393,715 shares, respectively, excluded from 2014 and 2013 the calculation because their effects were anti-dilutive. Net income Weighted average number of shares Options effect of dilutive securities Weighted average diluted shares Basic EPS Diluted EPS 2014 2013 $ 4,133,488 $ 2,227,826 5,184,481 80,481 5,264,962 4,552,455 57,258 4,609,713 $ $ 0.80 0.79 $ $ 0.49 0.48 NOTE 16. SUBSEQUENT EVENTS In preparing the financial statements, the Bank has evaluated events and transactions for potential recognition or disclosure through March 12, 2015, the date the financial statements were available to be issued. 31 Corporate Office and Fairfax Branch 11325 Random Hills Road Fairfax, VA 22030 Phone: 703.436.3800 Arlington Branch 2500 Wilson Boulevard Suite 100 Arlington, VA 22201 Phone: 703.387.5050 Manassas Branch 7900 Sudley Road Manassas, VA 20109 Phone: 703.656.7300 Reston Branch 11260 Roger Bacon Drive Suite 101 Reston, VA 20190 Phone: 703.436.3880 Springfield Branch 6975 Springfield Boulevard Springfield, VA 22150 Phone: 703.672.2590
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