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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
(cid:1) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2014
OR
For the transition period from to
Commission file number: 001-33033
PORTER BANCORP, INC.
(Exact name of registrant as specified in its charter)
Kentucky
(State or other jurisdiction of
incorporation or organization)
2500 Eastpoint Parkway,
Louisville, Kentucky
(Address of principal executive offices)
61-1142247
(I.R.S. Employer
Identification No.)
40223
(Zip Code)
Registrant’s telephone number, including area code: (502) 499-4800
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Common Stock, no par value
Name of each exchange on which registered
NASDAQ Capital Market
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer (as defined in Rule 405 of the Securities Act). Yes (cid:1) No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes (cid:1) No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12
months (or for shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes No (cid:1)
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and
posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and
post such files). Yes No (cid:1)
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s
knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. (cid:1)
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “accelerated
filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer (cid:1)
Non-accelerated filer (cid:1)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes (cid:1) No
The aggregate market value of the voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold as of the close of
business on June 30, 2014, was $12,842,756 based upon the last sales price reported for such date on the NASDAQ Capital Market.
(cid:1)
Accelerated filer
Smaller reporting company
The number of shares outstanding of the registrant’s Common Stock, no par value, as of March 15, 2015, was 18,944,090.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Proxy Statement for the Annual Meeting of Shareholders to be held May 20, 2015 are incorporated by reference into Part III of this Form 10-K.
TABLE OF CONTENTS
Table of Contents
PART I
Item 1. Business
Item 1A. Risk Factors
Item 1B. Unresolved Staff Comments
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Mine Safety Disclosures
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6. Selected Financial Data
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 8. Financial Statements and Supplementary Data
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
Item 9A. Controls and Procedures
Item 9B. Other Information
PART III
Item 10. Directors, Executive Officers and Corporate Governance
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13. Certain Relationships and Related Transactions, and Director Independence
Item 14. Principal Accounting Fees and Services
PART IV
Item 15. Exhibits and Financial Statement Schedules
Signatures
Index to Exhibits
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Preliminary Note Concerning Forward-Looking Statements
PART I
This report contains statements about the future expectations, activities and events that constitute forward-looking statements. Forward-looking
statements express our beliefs, assumptions and expectations of our future financial and operating performance and growth plans, taking into
account information currently available to us. These statements are not statements of historical fact. The words “believe,” “may,” “should,”
“anticipate,” “estimate,” “expect,” “intend,” “objective,” “seek,” “plan,” “strive” or similar words, or the negatives of these words, identify
forward-looking statements.
Forward-looking statements involve risks and uncertainties that may cause our actual results to differ materially from the expectations of future
results we expressed or implied in any forward-looking statements. These risks and uncertainties can be difficult to predict and may be beyond
our control. Factors that could contribute to differences in our results include, but are not limited to deterioration in the financial condition of
borrowers resulting in significant increases in loan losses and provisions for those losses; changes in the interest rate environment, which may
reduce our margins or impact the value of securities, loans, deposits and other financial instruments; changes in loan underwriting, credit review
or loss reserve policies associated with economic conditions, examination conclusions, or regulatory developments; general economic or
business conditions, either nationally, regionally or locally in the communities we serve, may be worse than expected, resulting in, among other
things, a deterioration in credit quality or a reduced demand for credit; the results of regulatory examinations; any matter that would cause us to
conclude that there was impairment of any asset, including intangible assets; the continued service of key management personnel; our ability to
attract, motivate and retain qualified employees; factors that increase the competitive pressure among depository and other financial institutions,
including product and pricing pressures; the ability of our competitors with greater financial resources to develop and introduce products and
services that enable them to compete more successfully than us; inability to comply with regulatory capital requirements and to secure any
required regulatory approvals for capital actions; legislative or regulatory developments, including changes in laws concerning taxes, banking,
securities, insurance and other aspects of the financial services industry; and fiscal and governmental policies of the United States federal
government.
Other risks are detailed in Item 1A. “Risk Factors” of this Form 10-K all of which are difficult to predict and many of which are beyond our
control.
Forward-looking statements are not guarantees of performance or results. A forward-looking statement may include the assumptions or bases
underlying the forward-looking statement. We have made our assumptions and bases in good faith and believe they are reasonable. We caution
you however, that estimates based on such assumptions or bases frequently differ from actual results, and the differences can be material. The
forward-looking statements included in this report speak only as of the date of the report. We do not intend to update these statements unless
applicable laws require us to do so.
Item 1.
Business
Overview
Porter Bancorp, Inc. (the “Company”) is a bank holding company headquartered in Louisville, Kentucky. We operate the ninth largest bank
domiciled in the Commonwealth of Kentucky based on total assets through our wholly-owned subsidiary PBI Bank (the “Bank”). We operate 17
banking offices in twelve counties in Kentucky. Our markets include metropolitan Louisville in Jefferson County and the surrounding counties
of Henry and Bullitt. We serve south central Kentucky and southern Kentucky from banking offices in Butler, Green, Hart, Edmonson, Barren,
Warren, Ohio, and Daviess Counties. We also have an office in Lexington, the second largest city in Kentucky. The Bank is a community bank
with a wide range of commercial and personal banking products. As of December 31, 2014, we had total assets of $1.0 billion, total loans of
$625.0 million, total deposits of $926.8 million and stockholders’ equity of $33.5 million.
History
We were organized in 1988, and historically conducted our banking business through separate community banks. On December 31, 2005, we
completed a reorganization in which we consolidated our subsidiary banks into a single bank. We renamed our consolidated subsidiary PBI
Bank to create a single brand name for our banking operations throughout our market area. We completed our initial public offering in
September 2006.
On November 21, 2008, we issued to the U.S. Treasury (“UST”), in exchange for cash consideration of $35.0 million, (i) 35,000 shares of Fixed
Rate Cumulative Perpetual Preferred Stock, Series A, with a liquidation preference of $1,000 per share (the “Series A Preferred Stock”), and
(ii) a warrant to purchase up to 330,561 shares of our common stock for $15.88 per share.
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In 2010, we completed a $32.0 million private placement to accredited investors. Following completion of the transactions involved, the
Company issued (i) 2,465,569 shares of common stock, (ii) 317,042 shares of Non-Voting Cumulative Mandatorily Convertible Perpetual
Preferred Shares, Series C (“Series C Preferred Stock”) and (iii) warrants to purchase 1,163,045 shares of non-voting common stock at a price of
$11.50 per share. See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation – Capital.
On June 24, 2011, the Bank entered into a Consent Order with the Federal Deposit Insurance Corporation (“FDIC”) and the Kentucky
Department of Financial Institutions (“KDFI”). The consent order requires the Bank to improve its asset quality, reduce its loan concentrations,
and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%.
On September 21, 2011, the Company entered into a written agreement with the Federal Reserve Bank of St. Louis. The Company made formal
commitments to use its resources to serve as a source of strength for the Bank, to assist the Bank in addressing weaknesses identified by the
FDIC and the KDFI, to pay no dividends without prior written approval, to pay no interest on subordinated debentures or principal on trust
preferred securities without written approval, and to submit a plan to maintain sufficient capital.
In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage
ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank also agreed that if it should be unable to reach the required capital
levels, and if directed in writing by the FDIC, then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge
itself into another federally insured financial institution or otherwise immediately obtain a capital investment into the Bank sufficient to fully
meet the capital requirements. We have not been directed by the FDIC to implement such a plan. The Consent Order also requires the Bank to
continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June
2011 Consent Order.
In December 2014, we completed a non-cash equity exchange transaction with the accredited investors who acquired all of our issued and
outstanding Series A Preferred Shares from UST in a public auction. We acquired and cancelled all of the issued and outstanding Series A
Preferred Shares, the accrued dividends thereon, all of the issued and outstanding Series C Preferred Shares, and warrants to purchase 798,915
shares of common stock together having an aggregate book value of approximately $45.7 million. In exchange, we issued common and preferred
shares having a fair value of approximately $9.6 million. The effect of this exchange transaction was to increase common stockholders’ equity
by approximately $36.1 million and total stockholders’ equity by approximately $7.4 million.
In the exchange transaction, we issued 1,821,428 common shares, 40,536 mandatorily convertible Series B Preferred Shares and 64,580
mandatorily convertible Series D Preferred Shares, which automatically converted into 4,053,600 common shares and 6,458,000 non-voting
common shares after shareholder approval on February 25, 2015. We also issued 6,198 Series E Preferred Shares and 4,304 Series F Preferred
Shares, both of which series are not convertible into common shares, have a liquidation preference of $1,000 per share, and are entitled to a 2%
noncumulative annual dividend if and when declared. Series E and Series F Preferred Shares rank senior to, and have liquidation and dividend
preferences over, our common shares and non-voting common shares.
Our Markets
We operate in markets that include the four largest cities in Kentucky – Louisville, Lexington, Bowling Green and Owensboro – and in other
communities along the I-65 corridor.
(cid:1) Louisville/Jefferson, Bullitt and Henry Counties: Our headquarters are in Louisville, the largest city in Kentucky. We also
have banking offices in Bullitt County, south of Louisville, and Henry County, east of Louisville. Our six banking offices in
these counties also serve the contiguous counties of Spencer, Shelby and Oldham to the east and northeast of Louisville. The
area’s major employers are diversified across many industries and include the air hub for United Parcel Service (“UPS”), two
Ford assembly plants, General Electric’s Consumer and Industrial division, Humana, Norton Healthcare, Brown-Forman,
YUM! Brands, Papa John’s Pizza, and Texas Roadhouse.
(cid:1) Lexington/Fayette County: Lexington, located in Fayette County, is the second largest city in Kentucky. Lexington is the
financial, educational, retail, healthcare and cultural hub for Central and Eastern Kentucky. It is known worldwide for its
horse farms and Keeneland Race Track, and proudly boasts of itself as “The Horse Capital of the World.” It is also the home
of the University of Kentucky and Transylvania University. The area’s major employers include Toyota, Lexmark, IBM
Global Services and Valvoline.
(cid:1) Southern Kentucky: This market includes Bowling Green, the third largest city in Kentucky, located about 60 miles north of
Nashville, Tennessee. Bowling Green, located in Warren County, is the home of Western Kentucky University and is the
economic hub of the area. This market also includes thriving communities in the contiguous Barren County, including the city
of Glasgow. Major employers in Barren and Warren Counties include GM’s Corvette plant, several other automotive
facilities, and R.R. Donnelley’s regional printing facility.
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(cid:1) Owensboro/Daviess County: Owensboro, located on the banks of the Ohio River, is Kentucky’s fourth largest city. The city
is called a festival city, with over 20 annual community celebrations that attract visitors from around the world, including its
world famous Bar-B-Q Festival which attracts over 80,000 visitors giving Owensboro recognition as “The Bar-B-Q Capital of
the World”. It is an industrial, medical, retail and cultural hub for Western Kentucky and the area employers include
Owensboro Medical System, US Bank Home Mortgage and Toyotetsu.
(cid:1) South Central Kentucky: South of the Louisville metropolitan area, we have banking offices in Butler, Edmonson, Green,
Hart, and Ohio Counties. This region includes stable community markets comprised primarily of agricultural and service-
based businesses. Each of our banking offices in these markets has a stable customer and core deposit base.
Our Products and Services
We meet our customers’ banking needs with a broad range of financial products and services. Our lending services include real estate,
commercial, mortgage and consumer loans to small to medium-sized businesses, the owners and employees of those businesses, as well as other
executives and professionals. We complement our lending operations with an array of retail and commercial deposit products. In addition, we
offer our customers drive-through banking facilities, automatic teller machines, night depository, personalized checks, credit cards, debit cards,
internet banking, mobile banking, treasury management services, remote deposit services, electronic funds transfers through ACH services,
domestic and foreign wire transfers, cash management, vault services, lock box services, along with loan and deposit sweep accounts.
Employees
At December 31, 2014, the Company had 264 full-time equivalent employees. Our employees are not subject to a collective bargaining
agreement, and management considers the Company’s relationship with employees to be good.
Competition
The banking business is highly competitive, and we experience competition from many other financial institutions. Competition among financial
institutions is based upon interest rates offered on deposit accounts, interest rates charged on loans, other credit and service charges relating to
loans, the quality and scope of the services offered, the convenience of banking facilities and, in the case of loans to commercial borrowers,
relative lending limits. We compete with commercial banks, credit unions, savings and loan associations, mortgage banking firms, consumer
finance companies, securities brokerage firms, insurance companies, money market funds and other mutual funds, as well as super-regional,
national and international financial institutions that operate offices within our market area and beyond.
Supervision and Regulation
Consent Order and Formal Written Agreement. On June 24, 2011, the Bank entered into a Consent Order with the FDIC and the KDFI. The
Bank agreed to obtain the written consent of both agencies before declaring or paying any future dividends. As a practical matter, the Bank will
not be able to pay dividends to Porter Bancorp for the foreseeable future. The Consent Order also establishes benchmarks for the Bank to
improve its asset quality, reduce its loan concentrations, and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based
capital ratio of 12%. At December 31, 2014, the Bank’s Tier 1 leverage ratio was 5.78% and its total risk-based capital ratio was 10.57%, which
are below the minimums of 9.0% and 12.0% required by the Bank’s Consent Order.
On September 21, 2011, we entered into a formal written agreement with the Federal Reserve Bank of St. Louis. The Company made formal
commitments in the agreement to use its financial and management resources to serve as a source of strength for the Bank and to assist the Bank
in addressing weaknesses identified by the FDIC and the KDFI, to pay no dividends without prior written approval, to pay no interest or
principal on subordinated debentures or trust preferred securities without written approval, and to submit an acceptable plan to maintain
sufficient capital.
In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage
ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank also agreed that if it should be unable to reach the required capital
levels, and if directed in writing by the FDIC, then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge
itself into another federally insured financial institution or otherwise obtain a capital investment into the Bank sufficient to recapitalize the bank.
We have not been directed by the FDIC to implement such a plan.
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We continue to work with our regulators toward capital ratio compliance. The revised Consent Order also requires the Bank to continue to
adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent
Order. As of December 31, 2014, the capital ratios required by the Consent Order were not met.
Bank and Holding Company Laws, Rules and Regulations. The following is a summary description of the relevant laws, rules and
regulations governing banks and bank holding companies. The descriptions of, and references to, the statutes and regulations below are brief
summaries and do not purport to be complete. The descriptions are qualified in their entirety by reference to the specific statutes and regulations
discussed.
The Dodd-Frank Act. On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”) was
signed into law. The Dodd-Frank Act imposed new restrictions and an expanded framework of regulatory oversight for financial institutions,
including depository institutions. Because the Dodd-Frank Act requires various federal agencies to adopt a broad range of regulations with
significant discretion, certain of the details of the law and the effects it will have on the Company are not known at this time.
The Dodd-Frank Act represents a comprehensive overhaul of the financial services industry within the United States. There are a number of
reform provisions that significantly impact the ways in which banks and bank holding companies, including us, do business. For example, the
Dodd-Frank Act changed the assessment base for federal deposit insurance premiums by modifying the assessment base calculation to be based
on a depository institution’s consolidated assets less tangible capital instead of deposits, and permanently increased the standard maximum
amount of deposit insurance per customer to $250,000. The Dodd-Frank Act also imposed more stringent capital requirements on bank holding
companies by, among other things, imposing leverage ratios on bank holding companies and prohibits new trust preferred security issuances
from counting as Tier I capital. The Dodd-Frank Act also repealed the federal prohibition on the payment of interest on demand deposits, thereby
permitting depository institutions to pay interest on business transaction and other accounts. The Act codified and expanded the Federal
Reserve’s source of strength doctrine, which requires that all bank holding companies serve as a source of financial strength for its subsidiary
banks. Other provisions of the Dodd-Frank Act include, but are not limited to: (i) the creation of a new financial consumer protection agency that
is empowered to promulgate new consumer protection regulations and revise existing regulations in many areas of consumer protection;
(ii) enhanced regulation of financial markets, including derivatives and securitization markets; (iii) reform related to the regulation of credit
rating agencies; (iv) the elimination of certain trading activities by banks; and (v) new disclosure and other requirements relating to executive
compensation and corporate governance.
Many provisions of the Dodd-Frank Act require interpretation and rule- making by federal agencies. The Company monitors all relevant sections
of the Dodd-Frank Act to ensure continued compliance with laws and regulations. While the ultimate effect of the Dodd-Frank Act on the
Company is not fully known, the law is likely to result in greater compliance costs and higher fees paid to regulators, along with possible
restrictions on the Company’s operations.
Porter Bancorp. The Company is registered as a bank holding company under the Bank Holding Company Act of 1956, as amended, and is
subject to supervision and regulation by the Board of Governors of the Federal Reserve System. As such, we must file with the Federal Reserve
Board annual and quarterly reports and other information regarding our business operations and the business operations of our subsidiaries. We
are also subject to examination by the Federal Reserve Board and to operational guidelines established by the Federal Reserve Board. We are
subject to the Bank Holding Company Act and other federal laws on the types of activities in which we may engage, and to other supervisory
requirements, including regulatory enforcement actions for violations of laws and regulations.
Acquisitions. A bank holding company must obtain Federal Reserve Board approval before acquiring, directly or indirectly, ownership or control
of more than 5% of the voting stock or all or substantially all of the assets of a bank, merging or consolidating with any other bank holding
company and before engaging, or acquiring a company that is not a bank but is engaged in certain non-banking activities. Federal law also
prohibits a person or group of persons from acquiring “control” of a bank holding company without notifying the Federal Reserve Board in
advance, and then only if the Federal Reserve Board does not object to the proposed transaction. The Federal Reserve Board has established a
rebuttable presumptive standard that the acquisition of 10% or more of the voting stock of a bank holding company would constitute an
acquisition of control of the bank holding company. In addition, any company is required to obtain the approval of the Federal Reserve Board
before acquiring 25% (5% in the case of an acquirer that is a bank holding company) or more of any class of a bank holding company’s voting
securities, or otherwise obtaining control or a “controlling influence” over a bank holding company.
Permissible Activities. A bank holding company is generally permitted under the Bank Holding Company Act to engage in or acquire direct or
indirect control of more than 5% of the voting shares of any bank, bank holding company or company engaged in any activity that the Federal
Reserve Board determines to be so closely related to banking as to be a proper incident to the business of banking.
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Under current federal law, a bank holding company may elect to become a financial holding company, which enables the holding company to
conduct activities that are “financial in nature.” Activities that are “financial in nature” include securities underwriting, dealing and market
making; sponsoring mutual funds and investment companies; insurance underwriting and agency; merchant banking activities; and activities that
the Federal Reserve Board has determined to be closely related to banking. No regulatory approval will be required for a financial holding
company to acquire a company, other than a bank or savings association, engaged in activities that are financial in nature or incidental to
activities that are financial in nature, as determined by the Federal Reserve Board. We have not filed an election to become a financial holding
company.
U.S. Treasury Capital Purchase Program . On November 21, 2008, pursuant to the UST’s Capital Purchase Program established under the
Emergency Economic Stabilization Act of 2008, the Company issued and sold to the UST (i) 35,000 shares of Series A Preferred Stock with an
aggregate liquidation preference of $35.0 million and (ii) a warrant to purchase 330,561 shares of the Company’s common stock, at an exercise
price of $15.88 per share, subject to certain anti-dilution and other adjustments, for an aggregate purchase price of $35.0 million in cash. Both
the number of shares subject to the warrant and price per share reflect adjustments for stock dividends distributed after issuance.
On December 4, 2014, the UST sold the Series A Preferred Stock in a public auction. Promptly thereafter, the Company acquired and retired the
Series A Preferred Stock in a non-cash equity exchange transaction with the accredited investors who purchased the Series A Preferred Stock in
the auction, which is described in greater detail above under “History.”
Capital Adequacy Requirements. The Federal Reserve Board has adopted a system using risk-based capital guidelines to evaluate the capital
adequacy of bank holding companies. Under the guidelines, specific categories of assets are assigned different risk weights, based generally on
the perceived credit risk of the asset. These risk weights are multiplied by corresponding asset balances to determine a “risk-weighted” asset
base. The guidelines require a minimum total risk-based capital ratio of 8.0%. At least half of the total capital must be composed of common
equity, retained earnings, senior perpetual preferred stock, qualifying perpetual preferred stock, and certain hybrid capital instruments, less
certain intangible assets (“Tier 1 capital”). The remainder may consist of certain subordinated debt, certain hybrid capital instruments, qualifying
preferred stock and a limited amount of the allowance for loan losses (“Tier 2 capital”). Total capital is the sum of Tier 1 and Tier 2 capital. To
be considered well-capitalized under the risk-based capital guidelines, an institution must maintain a total capital to total risk-weighted assets
ratio of at least 10% and a Tier 1 capital to total risk-weighted assets ratio of 6% or greater. We are under a Consent Order with our primary
regulators as previously discussed, and therefore cannot be considered well-capitalized. Please see “Supervision and Regulation” above for our
capital requirements.
In addition to the risk-based capital guidelines, the Federal Reserve Board uses a leverage ratio as an additional tool to evaluate the capital
adequacy of bank holding companies. The leverage ratio is a company’s Tier 1 capital divided by its average total consolidated assets. Certain
highly rated bank holding companies may maintain a minimum leverage ratio of 3.0%, but other bank holding companies may be required to
maintain a leverage ratio of 4.0%.
The federal banking agencies’ risk-based and leverage ratios are minimum supervisory ratios generally applicable to banking organizations that
meet certain specified criteria, assuming that they have the highest regulatory rating. Banking organizations not meeting these criteria are
expected to operate with capital positions well above the minimum ratios. The federal bank regulatory agencies may set capital requirements for
a particular banking organization that are higher than the minimum ratios when circumstances warrant. Federal Reserve Board guidelines also
provide that banking organizations experiencing internal growth or making acquisitions will be expected to maintain strong capital positions
substantially above the minimum supervisory levels, without significant reliance on intangible assets.
Changes to Capital Requirements Resulting from BASEL III. In July 2013, the Federal Reserve Board and the FDIC approved final rules that
substantially amend the regulatory risk-based capital rules applicable to Bancorp and Bank. The final rules implement the regulatory capital
reforms of the Basel Committee on Banking Supervision reflected in “Basel III: A Global Regulatory Framework for More Resilient Banks and
Banking Systems” (Basel III) and changes required by the Dodd-Frank Act. The final rules implementing the Basel III regulatory capital reforms
became effective for the Company and Bank on January 1, 2015, and include new minimum risk-based capital and leverage ratios. These
rules refine the definition of what constitutes “capital” for purposes of calculating those ratios, including the definitions of Tier 1 capital and Tier
2 capital.
The new minimum capital level requirements applicable to bank holding companies and banks subject to the rules are a new common equity Tier
1 capital ratio of 4.5%, a Tier 1 risk-based capital ratio of 6% (increased from 4%), a total risk-based capital ratio of 8% (unchanged from
current rules), and a Tier 1 leverage ratio of 4% for all institutions.
The rules also establish a “capital conservation buffer” of 2.5%, to be phased in over three years, above the new regulatory minimum risk-based
capital ratios, and the minimum ratios once the capital conservation buffer is fully phased in are a common equity Tier 1 risk-based capital ratio
of 7.0%, a Tier 1 risk-based capital ratio of 8.5%, and a total risk-based capital ratio of 10.5%.
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The capital conservation buffer requirement is to be phased in beginning in January 2016 at 0.625% of risk-weighted assets and will increase
each year until fully implemented in January 2019. An institution will be subject to limitations on paying dividends, engaging in share
repurchases and paying discretionary bonuses if capital levels fall below minimum levels plus the buffer amounts. These limitations establish a
maximum percentage of eligible retained income that could be utilized for such actions. Under these new rules, Tier 1 capital will generally
consist of common stock (plus related surplus) and retained earnings, limited amounts of minority interest in the form of additional Tier 1 capital
instruments, and non-cumulative preferred stock and related surplus, subject to certain eligibility standards, less goodwill and other specified
intangible assets and other regulatory deductions. The definition of Tier 2 capital is generally unchanged for most banking organizations, subject
to certain new eligibility criteria. Common equity Tier 1 capital will generally consist of common stock (plus related surplus) and retained
earnings plus limited amounts of minority interest in the form of common stock, less goodwill and other specified intangible assets and other
regulatory deductions. Proceeds of trust preferred securities are excluded from Tier 1 capital unless issued before 2010 by an institution with less
than $15 billion of assets.
The final rules allow banks and their holding companies with less than $250 billion in assets a one-time opportunity to opt-out of a requirement
to include unrealized gains and losses in accumulated other comprehensive income in their capital calculation. The Company and the Bank
expect to opt-out of this requirement.
Dividends. Under Federal Reserve policy, bank holding companies should pay cash dividends on common stock only out of income available
over the past year and only if prospective earnings retention is consistent with the organization’s expected future needs and financial condition.
The policy provides that bank holding companies should not declare a level of cash dividends that undermines the bank holding company’s
ability to serve as a source of strength to its banking subsidiaries.
The Company is a legal entity separate and distinct from the Bank. Historically, the majority of our revenue has been from dividends paid to us
by the Bank. The Bank is subject to laws and regulations that limit the amount of dividends it can pay. If, in the opinion of a federal regulatory
agency, an institution under its jurisdiction is engaged in or is about to engage in an unsafe or unsound practice, the agency may require, after
notice and hearing, that the institution cease such practice. The federal banking agencies have indicated that paying dividends that deplete an
institution’s capital base to an inadequate level would be an unsafe and unsound banking practice. Under the Federal Deposit Insurance
Corporation Improvement Act (FDICIA), an insured institution may not pay any dividend if payment would cause it to become undercapitalized
or if it already is undercapitalized. Moreover, the Federal Reserve and the FDIC have issued policy statements providing that bank holding
companies and banks should generally pay dividends only out of current operating earnings. A bank holding company may still declare and pay
a dividend if it does not have current operating earnings if the bank holding company expects profits for the entire year and the bank holding
company obtains the prior consent of the Federal Reserve. The Company and the Bank must obtain the prior written consent of each of their
primary regulators prior to declaring or paying any future dividends.
Under Kentucky law, dividends by Kentucky banks may be paid only from current or retained net profits. Before any dividend may be declared
for any period (other than with respect to preferred stock), a bank must increase its capital surplus by at least 10% of the net profits of the bank
for the period until the bank’s capital surplus equals the amount of its stated capital attributable to its common stock. Moreover, the KDFI must
approve the declaration of dividends if the total dividends to be declared by a bank for any calendar year would exceed the bank’s total net
profits for such year combined with its retained net profits for the preceding two years, less any required transfers to surplus or a fund for the
retirement of preferred stock or debt. We are also subject to the Kentucky Business Corporation Act, which generally prohibits dividends to the
extent they result in the insolvency of the corporation from a balance sheet perspective or in the corporation becoming unable to pay its debts as
they come due. The Bank did not pay any dividends in 2014 or 2013.
With respect to the payment of dividends, Porter Bancorp’s issued and outstanding Series E and Series F Preferred Shares rank senior to its
common shares and non-voting common shares.
Imposition of Liability for Undercapitalized Subsidiaries. Bank regulators are required to take “prompt corrective action” to resolve problems
associated with insured depository institutions whose capital declines below certain levels. In the event an institution becomes
“undercapitalized,” it must submit a capital restoration plan. The capital restoration plan will not be accepted by the regulators unless each
company having control of the undercapitalized institution guarantees the subsidiary’s compliance with the capital restoration plan up to a
certain specified amount. Any such guarantee from a depository institution’s holding company is entitled to a priority of payment in bankruptcy.
The aggregate liability of the holding company of an undercapitalized bank is limited to the lesser of 5% of the institution’s assets at the time it
became undercapitalized or the amount necessary to cause the institution to be “adequately capitalized.” The bank regulators have greater power
in situations where an institution becomes “significantly” or “critically” undercapitalized or fails to submit a capital restoration plan. For
example, a bank holding company controlling such an institution can be required to obtain prior Federal Reserve Board approval of proposed
dividends, or might be required to consent to a consolidation or to divest the troubled institution or other affiliates.
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Source of Financial Strength. Under Federal Reserve policy, a bank holding company is expected to act as a source of financial strength to, and
to commit resources to support, its bank subsidiaries. This support may be required at times when, absent such a policy, the bank holding
company may not be inclined to provide it. In addition, any capital loans by the bank holding company to its bank subsidiaries are subordinate in
right of payment to deposits and to certain other indebtedness of the bank subsidiary. In the event of a bank holding company’s bankruptcy, any
commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of subsidiary banks will be assumed by
the bankruptcy trustee and entitled to a priority of payment. The Federal Reserve’s “Source of Financial Strength” policy was codified in the
Dodd-Frank Act.
PBI Bank. The Bank, a Kentucky chartered commercial bank, is subject to regular bank examinations and other supervision and regulation by
both the FDIC and the KDFI. Kentucky’s banking statutes contain a “super-parity” provision that permits a well-rated Kentucky banking
corporation to engage in any banking activity which could be engaged in by a national bank operating in any state; a state bank, a thrift or
savings bank operating in any other state; or a federal chartered thrift or federal savings association meeting the qualified thrift lender test and
operating in any state could engage, provided the Kentucky bank first obtains a legal opinion specifying the statutory or regulatory provisions
that permit the activity.
Capital Requirements. Similar to the Federal Reserve Board’s requirements for bank holding companies, the FDIC has adopted risk-based
capital requirements for assessing state non-member banks’ capital adequacy. The FDIC’s risk-based capital guidelines require that all banks
maintain a minimum ratio of total capital to total risk-weighted assets of 8.0% and a minimum ratio of Tier 1 capital to total risk-weighted assets
of 4.0%. To be well-capitalized, a bank must have a ratio of total capital to total risk-weighted assets of at least 10.0% and a ratio of Tier 1
capital to total risk-weighted assets of 6.0%.
The Bank has agreed with its primary regulators to maintain a ratio of total capital to total risk-weighted assets of at least 12.0% and a Tier 1
leverage ratio of 9%. As of December 31, 2014, the Bank’s ratio of total capital to total risk-weighted assets was 10.57% and its Tier I leverage
ratio was 5.78%, both under the ratios required by the Consent Order.
The FDIC also requires a minimum leverage ratio of 3.0% of Tier 1 capital to total assets for the highest rated banks and an additional cushion of
approximately 100-200 basis points for all other banks. The leverage ratio operates in tandem with the FDIC’s risk-based capital guidelines and
places a limit on the amount of leverage a bank can undertake by requiring a minimum level of capital to total assets.
Prompt Corrective Action. Pursuant to the Federal Deposit Insurance Act (“FDIA”), the FDIC must take prompt corrective action to resolve the
problems of undercapitalized institutions. FDIC regulations define the levels at which an insured institution would be considered “well
capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” and “critically undercapitalized.” A “well-
capitalized” bank has a total risk-based capital ratio of 10.0% or higher; a Tier 1 risk- based capital ratio of 6.0% or higher; a leverage ratio of
5.0% or higher; and is not subject to any written agreement, order or directive requiring it to maintain a specific capital level for any capital
measure. An “adequately capitalized” bank has a total risk-based capital ratio of 8.0% or higher; a Tier 1 risk-based capital ratio of 4.0% or
higher; a leverage ratio of 4.0% or higher (3.0% or higher if the bank was rated a composite 1 in its most recent examination report and is not
experiencing significant growth); and does not meet the criteria for a well-capitalized bank. A bank is “undercapitalized” if it fails to meet any
one of the ratios required to be adequately capitalized. A depository institution may be deemed to be in a capitalization category that is lower
than is indicated by its actual capital position if it receives an unsatisfactory examination rating. The degree of regulatory scrutiny increases and
the permissible activities of a bank decrease, as the bank moves downward through the capital categories. Depending on a bank’s level of capital,
the FDIC’s corrective powers include:
• requiring a capital restoration plan;
• placing limits on asset growth and restriction on activities;
• requiring the bank to issue additional voting or other capital stock or to be acquired;
• placing restrictions on transactions with affiliates;
• restricting the interest rate the bank may pay on deposits;
• ordering a new election of the bank’s board of directors;
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• requiring that certain senior executive officers or directors be dismissed;
• prohibiting the bank from accepting deposits from correspondent banks;
• requiring the bank to divest certain subsidiaries;
• prohibiting the payment of principal or interest on subordinated debt; and
• ultimately, appointing a receiver for the bank.
If an institution is required to submit a capital restoration plan, the institution’s holding company must guarantee the subsidiary’s compliance
with the capital restoration plan up to a certain specified amount. Any such guarantee from a depository institution’s holding company is entitled
to a priority of payment in bankruptcy. The aggregate liability of the holding company of an undercapitalized bank is limited to the lesser of 5%
of the institution’s assets at the time it became undercapitalized or the amount necessary to cause the institution to be “adequately capitalized.”
The bank regulators have greater power in situations where an institution becomes “significantly” or “critically” undercapitalized or fails to
submit a capital restoration plan. For example, a bank holding company controlling such an institution can be required to obtain prior Federal
Reserve Board approval of proposed dividends, or might be required to consent to a consolidation or to divest the troubled institution or other
affiliates.
Deposit Insurance Assessments. The deposits of the Bank are insured by the Deposit Insurance Fund (DIF) of the FDIC up to the limits set forth
under applicable law and are subject to the deposit insurance premium assessments of the DIF. The FDIC imposes a risk-based deposit premium
assessment system, which was amended pursuant to the Federal Deposit Insurance Reform Act of 2005 (the “Reform Act”). Under this system,
as amended, the assessment rates for an insured depository institution vary according to the level of risk incurred in its activities. To arrive at an
assessment rate for a banking institution, the FDIC places it in one of four risk categories determined by reference to its capital levels and
supervisory ratings. The assessment rate schedule can change from time to time, at the discretion of the FDIC, subject to certain limits.
The Dodd-Frank Act imposed additional assessments and costs with respect to deposits. Under the Dodd-Frank Act, the FDIC is directed to
impose deposit insurance assessments based on total assets rather than total deposits, as well as make permanent the increase of deposit
insurance to $250,000. Effective April 1, 2011, the FDIC revised the deposit insurance assessment system to comply with Dodd-Frank and
implemented a revised assessment rate process with the goal of differentiating insured depository institutions who pose greater risk to the DIF.
The first assessments under the new rule were payable in the third quarter of 2011.
Safety and Soundness Standards. The FDIA requires the federal bank regulatory agencies to prescribe standards, by regulations or guidelines,
relating to internal controls, information systems and internal audit systems, loan documentation, credit underwriting, interest rate risk exposure,
asset growth, asset quality, earnings, stock valuation and compensation, fees and benefits, and such other operational and managerial standards
as the agencies deem appropriate. Guidelines adopted by the federal bank regulatory agencies establish general standards relating to these
matters. In general, the guidelines require, among other things, appropriate systems and practices to identify and manage the risk and exposures
specified in the guidelines. The guidelines prohibit excessive compensation as an unsafe and unsound practice and describe compensation as
excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director or
principal shareholder. In addition, the agencies adopted regulations that authorize, but do not require, an agency to order an institution that has
been given notice by an agency that it is not satisfying any of such safety and soundness standards to submit a compliance plan. If, after being so
notified, an institution fails to submit an acceptable compliance plan or fails in any material respect to implement an acceptable compliance plan,
the agency must issue an order directing action to correct the deficiency and may issue an order directing other actions of the types to which an
undercapitalized institution is subject under the “prompt corrective action” provisions of FDIA. See “Prompt Corrective Actions” above. If an
institution fails to comply with such an order, the agency may seek to enforce such order in judicial proceedings and to impose civil money
penalties.
Branching. Kentucky law permits Kentucky chartered banks to establish a banking office in any county in Kentucky. A Kentucky bank may also
establish a banking office outside of Kentucky. Well capitalized Kentucky banks that have been in operation at least three years and satisfy
certain criteria relating to, among other things, their composite and management ratings, may establish a banking office in Kentucky without the
approval of the KDFI upon notice to the KDFI and any other state bank with its main office located in the county where the new banking office
will be located. Branching by all other banks requires the approval of the KDFI, which must ascertain and determine that the public convenience
and advantage will be served and promoted and that there is reasonable probability of the successful operation of the banking office. The
transaction must also be approved by the FDIC, which considers a number of factors, including financial history, capital adequacy, earnings
prospects, character of management, needs of the community and consistency with corporate powers.
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Section 613 of the Dodd—Frank Act effectively eliminated the interstate branching restrictions set forth in the Riegle-Neal Interstate Banking
and Branching Efficiency Act of 1994. Banks located in any state may now de novo branch in any other state, including Kentucky. Such
unlimited branching power will likely increase competition within the markets in which the Company and the Bank operate.
Insider Credit Transactions. The restrictions on loans to directors, executive officers, principal shareholders and their related interests
(collectively referred to as “insiders”) contained in the Federal Reserve Act and Regulation O apply to all insured depository institutions and
their subsidiaries. These restrictions include limits on loans to one borrower and conditions that must be met before such a loan can be made.
There is also an aggregate limitation on all loans to insiders and their related interests, which may not exceed the institution’s total unimpaired
capital and surplus.
Automated Overdraft Payment Regulation. The Federal Reserve and FDIC have enacted consumer protection regulations related to automated
overdraft payment programs offered by financial institutions. In November 2009, the Federal Reserve amended its Regulation E to prohibit
financial institutions from charging consumers fees for paying overdrafts on automated teller machine and one-time debit card transactions,
unless a consumer consents, or opts in, to the overdraft service for those types of transactions. The Regulation E amendments also require
financial institutions to provide consumers with a notice that explains the financial institution’s overdraft services, including the fees associated
with the service and the consumer’s choices.
In November 2010, the FDIC supplemented the Regulation E amendments by requiring FDIC-supervised institutions to implement additional
changes relating to automated overdraft payment programs by July 1, 2011. One material change required financial institutions to monitor
overdraft payment programs for “excessive or chronic” customer use and to undertake “meaningful and effective” follow-up action with
customers that overdraw their accounts more than six times during a rolling 12-month period. The new guidance also imposes daily limits on
overdraft charges, requires institutions to review and modify check-clearing procedures, prominently distinguish account balances from available
overdraft coverage amounts and requires increased board and management oversight regarding overdraft payment programs.
Consumer Protection Laws. We are subject to a number of federal and state laws designed to protect borrowers and promote lending to various
sectors of the economy and population. These laws include, among others, the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the
Truth in Lending Act, the Home Mortgage Disclosure Act, and the Real Estate Settlement and Procedures Act, and state law counterparts.
Equal Credit Opportunity Act. This statute prohibits discrimination against an applicant in any credit transaction, whether for consumer or
business purposes, on the basis of race, color, religion, national origin, sex, marital status, age (except in limited circumstances), receipt of
income from public assistance programs or good faith exercise of any rights under the Consumer Credit Protection Act. Under the Fair Housing
Act, it is unlawful for any lender to discriminate in its housing-related lending activities against any person because of race, color, religion,
national origin, sex, handicap or familial status. Among other things, these laws prohibit a lender from denying or discouraging credit on a
discriminatory basis, making excessively low appraisals of property based on racial considerations, or charging excessive rates or imposing more
stringent loan terms or conditions on a discriminatory basis. In addition to private actions by aggrieved borrowers or applicants for actual and
punitive damages, the U.S. Department of Justice and other regulatory agencies can take enforcement action seeking injunctive and other
equitable relief or sanctions for alleged violations.
Fair Credit Reporting Act (“FCRA”). FCRA requires the Bank to adopt and implement a written identity theft prevention program, paying
particular attention to several identified “red flag” events. The program must assess the validity of address change requests for card issuers and
for users of consumer reports to verify the subject of a consumer report in the event of notice of an address discrepancy. FCRA gives consumers
the ability to challenge banks with respect to credit reporting information provided by the bank. FCRA also prohibits banks from using certain
information it may acquire from an affiliate to solicit the consumer for marketing purposes unless the consumer has been given notice and an
opportunity to opt out of such solicitation for a period of five years.
Truth in Lending Act (“TILA”). TILA is designed to ensure that credit terms are disclosed in a meaningful way so that consumers may compare
credit terms more readily and knowledgeably. As result of TILA, all creditors must use the same credit terminology and expressions of rates, and
disclose the annual percentage rate, the finance charge, the amount financed, the total of payments and the payment schedule for each proposed
loan. Violations of TILA may result in regulatory sanctions and in the imposition of both civil and, in the case of willful violations, criminal
penalties. In certain circumstances, TILA also provides a consumer with a right of rescission, which if exercised within three business days
would require the creditor to reimburse any amount paid by the consumer to the creditor or to a third party in connection with the loan, including
finance charges, application fees, commitment fees, title search fees and appraisal fees. Consumers may also seek actual and punitive damages
for violations of TILA.
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Home Mortgage Disclosure Act (“HMDA”). HMDA has grown out of public concern over credit shortages in certain urban neighborhoods. One
purpose of HMDA is to provide public information that will help show whether financial institutions are serving the housing credit needs of the
neighborhoods and communities in which they are located. HMDA also includes a “fair lending” aspect that requires the collection and
disclosure of data about applicant and borrower characteristics, as a way of identifying possible discriminatory lending patterns and enforcing
anti-discrimination statutes. HMDA requires institutions to report data regarding applications for loans for the purchase or improvement of
single family and multi-family dwellings, as well as information concerning originations and purchases of such loans. Federal bank regulators
rely, in part, upon data provided under HMDA to determine whether depository institutions engage in discriminatory lending practices. The
appropriate federal banking agency, or in some cases the Department of Housing and Urban Development, enforces compliance with HMDA
and implements its regulations. Administrative sanctions, including civil money penalties, may be imposed by supervisory agencies for
violations of HMDA.
Real Estate Settlement Procedures Act (“RESPA”). RESPA requires lenders to provide borrowers with disclosures regarding the nature and cost
of real estate settlements. RESPA also prohibits certain abusive practices, such as kickbacks, and places limitations on the amount of escrow
accounts. Violations of RESPA may result in imposition of penalties, including: (1) civil liability equal to three times the amount of any charge
paid for the settlement services or civil liability of up to $1,000 per claimant, depending on the violation; (2) awards of court costs and attorneys’
fees; and (3) fines of not more than $10,000 or imprisonment for not more than one year, or both.
Loans to One Borrower. Under current limits, loans and extensions of credit outstanding at one time to a single borrower and not fully secured
generally may not exceed 15% of an institution’s unimpaired capital and unimpaired surplus. Loans and extensions of credit fully secured by
certain readily marketable collateral may represent an additional 10% of unimpaired capital and unimpaired surplus.
Consumer Financial Protection Bureau (“CFPB”). The Dodd-Frank Act created a new, independent federal agency called the Consumer
Financial Protection Bureau, which is granted broad rulemaking, supervisory and enforcement powers under various federal consumer financial
protection laws. The CFPB has examination and primary enforcement authority with respect to depository institutions with $10 billion or more
in assets. Smaller institutions will be subject to rules promulgated by the CFPB, but will continue to be examined and supervised by federal
banking regulators for consumer compliance purposes. The CFPB has authority to prevent unfair, deceptive or abusive acts or practices in
connection with the offering of consumer financial products. The Dodd-Frank Act authorizes the CFPB to establish certain minimum standards
for the origination of residential mortgages including a determination of the borrower’s ability to repay. In addition, the Dodd-Frank Act allows
borrowers to raise certain defenses to foreclosure if they receive any loan other than a “qualified mortgage” as defined by the CFPB.
The Dodd-Frank Act also permits states to adopt consumer protection laws and standards that are more stringent than those adopted at the
federal level and, in certain circumstances, permits state attorneys general to enforce compliance with both the state and federal laws and
regulations. Federal preemption of state consumer protection law requirements, traditionally an attribute of the federal savings association
charter, has also been modified by the Dodd-Frank Act and now requires a case-by-case determination of preemption by the Office of the
Comptroller of the Currency (“OCC”) and eliminates preemption for subsidiaries of a bank. Depending on the implementation of this revised
federal preemption standard, the operations of the Bank could become subject to additional compliance burdens in the states in which it operates.
Volcker Rule . On December 10, 2013, the final Volcker Rule under the Dodd-Frank Act was approved and implemented by the FRB, the FDIC,
the SEC, and the Commodity Futures Trading Commission. The Volcker Rule attempts to reduce risk and banking system instability by
restricting U.S. banks from investing in or engaging in proprietary trading and speculation and imposing a strict framework to justify exemptions
for underwriting, market-making and hedging activities. U.S. banks will be restricted from investing in funds with collateral comprised of less
than 100% loans that are not registered with the SEC and from engaging in hedging activities that do not hedge a specific identified risk. We do
not believe the Volcker Rule will have a significant effect on the Bank’s operations.
Privacy. Federal law currently contains extensive customer privacy protection provisions. Under these provisions, a financial institution must
provide to its customers, at the inception of the customer relationship and annually thereafter, the institution’s policies and procedures regarding
the handling of customers’ nonpublic personal financial information. These provisions also provide that, except for certain limited exceptions, an
institution may not provide such personal information to unaffiliated third parties unless the institution discloses to the customer that such
information may be so provided and the customer is given the opportunity to opt out of such disclosure. Federal law makes it a criminal offense,
except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means.
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Community Reinvestment Act. The Community Reinvestment Act (“CRA”) requires the FDIC to assess our record in meeting the credit needs of
the communities we serve, including low- and moderate-income neighborhoods and persons. The FDIC’s assessment of our record is made
available to the public. The assessment also is part of the Federal Reserve Board’s consideration of applications to acquire, merge or consolidate
with another banking institution or its holding company, to establish a new banking office or to relocate an office.
Bank Secrecy Act. The Bank Secrecy Act of 1970 (“BSA”) was enacted to deter money laundering, establish regulatory reporting standards for
currency transactions and improve detection and investigation of criminal, tax and other regulatory violations. BSA and subsequent laws and
regulations require us to take steps to prevent the use of the Bank in the flow of illegal or illicit money, including, without limitation, ensuring
effective management oversight, establishing sound policies and procedures, developing effective monitoring and reporting capabilities, ensuring
adequate training and establishing a comprehensive internal audit of BSA compliance activities. In recent years, federal regulators have
increased the attention paid to compliance with the provisions of BSA and related laws, with particular attention paid to “Know Your Customer”
practices. Banks have been encouraged by regulators to enhance their identification procedures prior to accepting new customers in order to
deter criminal elements from using the banking system to move and hide illegal and illicit activities.
USA Patriot Act. The USA Patriot Act of 2001 (the “Patriot Act”) contains anti-money laundering measures affecting insured depository
institutions, broker-dealers and certain other financial institutions. The Patriot Act requires financial institutions to implement policies and
procedures to combat money laundering and the financing of terrorism. This includes standards for verifying customer identification at account
opening, as well as rules to promote cooperation among financial institutions, regulators and law enforcement entities in identifying parties that
may be involved in terrorism or money laundering. It grants the Secretary of the Treasury broad authority to establish regulations and to impose
requirements and restrictions on the operations of financial institutions. In addition, the Patriot Act requires the federal bank regulatory agencies
to consider the effectiveness of a financial institution’s anti-money laundering activities when reviewing bank mergers and bank holding
company acquisitions.
Effect on Economic Environment. The policies of regulatory authorities, including the monetary policy of the Federal Reserve Board, have a
significant effect on the operating results of bank holding companies and their subsidiaries. Among the means available to the Federal Reserve
Board to affect the money supply are open market operations in U.S. government securities, changes in the discount rate on member bank
borrowings and changes in reserve requirements against member bank deposits. These means are used in varying combinations to influence
overall growth and distribution of bank loans, investments and deposits. Their use may affect interest rates charged on loans or paid for deposits.
Federal Reserve Board monetary policies have materially affected the operating results of commercial banks in the past and are expected to
continue to do so in the future. The nature of future monetary policies and the effect of such policies on our business and earnings and those of
our subsidiaries cannot be predicted.
Recently Enacted and Future Legislation. Various laws, regulations and governmental programs affecting financial institutions and the
financial industry are from time to time introduced in Congress or otherwise promulgated by regulatory agencies. Such measures may change the
operating environment of Porter Bancorp and its subsidiaries in substantial and unpredictable ways. The nature and extent of future legislative,
regulatory or other changes affecting financial institutions is unpredictable at this time.
We cannot predict what other legislation or economic policies of the various regulatory authorities might be enacted or adopted or what other
regulations might be adopted or the effects thereof. Future legislation, policies and the effects thereof might have a significant influence on
overall growth and distribution of loans, investments and deposits, as well as affect interest rates charged on loans or paid on time and savings
deposits. Such legislation and policies have had a significant effect on the operating results of commercial banks in the past and are expected to
continue to do so in the future.
Available Information
We file periodic reports with the SEC including our annual report on Form 10-K, quarterly reports on Form 10-Q, current event reports on Form
8-K and proxy statements. The public may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F
Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-
800-SEC-0330. The SEC maintains an internet site that contains reports, proxy and information statements and other information regarding
issuers that file electronically with the SEC at http://www.sec.gov . Our SEC reports filed are accessible at no cost on our web site at
http://www.pbibank.com , under the Investors Relations section, once they are electronically filed with or furnished to the SEC. A shareholder
may also request a copy of our Annual Report on Form 10-K free of charge upon written request to: Chief Financial Officer, Porter Bancorp,
Inc., 2500 Eastpoint Parkway, Louisville, Kentucky 40223.
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Item 1A.
Risk Factors
An investment in our common stock involves a number of risks. Realization of any of the risks described below could have a material adverse
effect on our business, financial condition, results of operations, cash flow and/or future prospects.
We are subject to a Consent Order with the FDIC and the KDFI and a formal agreement with the Federal Reserve that restrict the
conduct of our operations and may have a material adverse effect on our business.
Our good standing with bank regulatory agencies is of fundamental importance to the continuation of our businesses. In June 2011, the Bank
agreed to a Consent Order with the FDIC and KDFI in which the Bank agreed, among other things, to improve asset quality, reduce loan
concentrations, and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%. The Consent Order
was included in our Current Report on 8-K filed on June 30, 2011.
On September 21, 2011, we entered into a Written Agreement with the Federal Reserve Bank of St. Louis. Pursuant to the Agreement, we made
formal commitments to, among other things, use our financial and management resources to serve as a source of strength for the Bank and to
assist the Bank in addressing weaknesses identified by the FDIC and the KDFI, to pay no dividends without prior written approval, to pay no
interest or principal on subordinated debentures or trust preferred securities without prior written approval, and to submit an acceptable plan to
maintain sufficient capital.
In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage
ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank also agreed that if it should be unable to reach the required capital
levels, and if directed in writing by the FDIC, then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge
itself into another federally insured financial institution or otherwise immediately obtain a capital investment into the Bank sufficient to fully
meet the capital requirements. The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to
the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. We did not meet the capital ratios
required by the Consent Order as of December 31, 2014.
Bank regulatory agencies can exercise discretion when an institution does not meet minimum regulatory capital levels and the other terms of a
consent order. The agencies may initiate changes in management, issue mandatory directives, impose monetary penalties or refrain from formal
sanctions, depending on individual circumstances. Any action taken by bank regulatory agencies could damage our reputation and have a
material adverse effect on our business. Compliance with the Consent Order also increases our operating expense, and adversely affects our
financial performance.
We have made commitments to the banking regulators to raise additional capital. Our inability to increase our capital to the levels
required by our bank regulatory agreements could have a material adverse effect on our business.
We incurred a net loss of $11.2 million and $1.6 million in 2014 and 2013, respectively. Losses, non-performing loan costs, expenses for other
real estate owned (“OREO”), and asset impairments have reduced our capital below the levels we agreed to maintain with our banking
regulators. While we believe we have recognized the probable losses in our portfolio, further credit deterioration could result in additional losses
and a reduction in capital levels.
In its consent order with the FDIC and the KDFI, the Bank has agreed to maintain a ratio of total capital to total risk-weighted assets of at least
12.0% and a ratio of Tier 1 capital to average assets of 9.0%. As of December 31, 2014, the Bank’s ratio of total capital to total risk-weighted
assets was 10.57% and its ratio of Tier 1 capital to average assets was 5.78%, both below the ratios required by the consent order.
We have agreed with the FDIC, the KDFI and the Federal Reserve Bank of St. Louis to restore our capital ratios to levels that comply with our
regulatory agreements. We are evaluating various specific initiatives to increase our regulatory capital and reduce our non-performing assets.
Strategic alternatives include divesting of branch offices, selling loans and raising capital by selling stock.
Our ability to raise additional capital will depend on, among other things, conditions in the capital markets at that time (which are outside of our
control) and our financial performance, including the management of our revenue, expenses, levels of average assets, credit quality, levels of
OREO, and contingent liability risks. We may not have access to capital on acceptable terms or at all. Our inability to raise additional capital on
acceptable terms when needed could have a material adverse effect on our businesses, financial condition, and results of operations. In addition,
if we are unable to comply with our regulatory capital requirements, it could result in more stringent enforcement actions by the bank regulatory
agencies, which could damage our reputation and have a material adverse effect on our business.
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Regulatory restrictions have prevented us from paying interest on the junior subordinated debentures that relate to our trust preferred
securities since the fourth quarter of 2011. If we cannot pay accrued and unpaid interest on these securities for more than twenty
consecutive quarters, we will be in default.
Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated debentures relating to our trust
preferred securities. Deferring interest payments on the junior subordinated debentures resulted in a deferral of distributions on our trust
preferred securities.
If we defer distributions on our trust preferred securities for 20 consecutive quarters, we must pay all deferred distributions in full or we will be
in default. Our deferral period expires in the third quarter of 2016. Deferred distributions on our trust preferred securities, which totaled $2.2
million as of December 31, 2014, are cumulative, and unpaid distributions accrue and compound on each subsequent payment date. If as a result
of a default we become subject to any liquidation, dissolution or winding up, holders of the trust preferred securities will be entitled to receive
the liquidation amounts to which they are entitled, including all accrued and unpaid distributions, before any distribution can be made to our
shareholders. In addition, the holders of our Series E and Series F Preferred Shares will be entitled to receive liquidation distributions totaling
more than $10.5 million before any distribution can be made to the holders of our common shares.
As a bank holding company, we depend on dividends and distributions paid by our banking subsidiary.
The Company is a legal entity separate and distinct from the Bank and our other subsidiaries. Our principal source of cash flow, from which we
would fund any dividends paid to our shareholders, has historically been dividends the Company receives from the Bank. Regulations of the
FDIC and the KDFI govern the ability of the Bank to pay dividends and other distributions to us, and regulations of the Federal Reserve govern
our ability to pay dividends or make other distributions to our shareholders. In its consent order with the FDIC and the KDFI, the Bank agreed
not to pay dividends to us without the prior consent of those regulators. During 2011, the Company contributed $13.1 million to the Bank. The
contribution, which was made to strengthen the Bank’s capital in an effort to help it comply with its capital ratio requirements under the consent
order, also substantially decreased the liquid assets of the Company. Liquid assets decreased from $20.3 million at December 31, 2010 to $1.9
million at December 31, 2014. Since the Bank is unlikely to be in a position to pay dividends to the Company for the foreseeable future, cash
inflows for the Company are limited to earnings on investment securities, sales of investment securities, and interest on its deposits held at the
Bank. These cash inflows, along with the liquid assets held at December 31, 2014, are needed to cover ongoing operating expenses of the
Company, which are forecasted at approximately $1.0 million for 2015. See the “Supervision-Porter Bancorp-Dividends” section of Item 1.
“Business” and the “Dividends” section of Item 5. “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases
of Equity Securities” of this Annual Report on Form 10-K.
We are effectively precluded from paying any dividends for the forseeable future.
Our agreement with the holders of our trust preferred securities provides that we cannot pay dividends until we pay all deferred distributions in
full and resume paying quarterly distributions. We have also agreed with the Federal Reserve to obtain its written consent prior to declaring or
paying any future dividends. As a practical matter, we cannot pay dividends for the foreseeable future. In addition, the dividend preferences of
our Series E and Series F Preferred Shares entitle our preferred shareholders to receive an annual, noncumulative 2% dividend before we can pay
a dividend on our non-voting common shares and voting common shares.
Our holding company debt could make it difficult to raise capital.
At December 31, 2014, we had an aggregate obligation of $27.2 million relating to the principal and accrued unpaid interest on our four issues of
junior subordinated debentures, which has resulted in a deferral of distributions on our trust preferred securities. Although we are permitted to
defer payments on these securities for up to five years (and we commenced doing so in 2011), the deferred interest payments continue to accrue
until paid in full.
Our holding company debt could make it difficult to recapitalize or enter into a business combination transaction because any investor or
purchaser would effectively assume the outstanding liability on the debt in addition to the amount of funds such investors or purchaser would
need to provide in order to recapitalize the Bank and the Company.
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We are defendants in various legal proceedings.
The Company and the Bank are involved in judicial proceedings and regulatory investigations concerning matters arising from our business
activities. Although we believe we have a meritorious defense in all significant litigation pending against us, we cannot assure you as to the
ultimate outcome. Litigation is subject to inherent uncertainties and unfavorable rulings could occur. We record contingent liabilities resulting
from claims against us when a loss is assessed to be probable and the amount of the loss is reasonably estimable. Assessing probability of loss
and estimating probable losses requires analysis of multiple factors, including in some cases judgments about the potential actions of third party
claimants and courts. Recorded contingent liabilities are based on the best information available and actual losses in any future period are
inherently uncertain. Accruals are not made in cases where liability is not probable or the amount cannot be reasonably estimated. We provide
disclosure of matters where we believe liability is reasonably possible and which may be material to our consolidated financial statements. If we
do not prevail, the ultimate outcome of litigation matter could have a material adverse effect on our financial condition, results of operations, or
cash flows. For more information about ongoing legal proceedings, see “Note 24 – Contingencies” of the Notes to Consolidated Financial
Statements.
The Bank previously has served as trustee for Employee Stock Ownership Plans (“ESOP”) which engaged in transactions that under
review are the subject of litigation initiated by the Department of Labor (“DOL”), subjecting us to certain financial risks.
From 2007 until the first quarter of 2013, the Bank served as trustee for certain ESOPs that purchased the stock of companies from prior owners
in purchase transactions. Stock purchase transactions by ESOPs are subject to regular and routine reviews by the DOL for compliance with
ERISA. Failure to fulfill our fiduciary duties under ERISA with respect to any such plan would subject us to certain financial risks such as
claims for damages as well as fines and penalties assessable under ERISA. The Bank is a defendant in legal proceedings initiated by the DOL
with respect to two stock purchase transactions by ESOPs for which the Bank served as trustee. A ruling that the Bank failed to fulfill its
fiduciary duties under ERISA with respect to an ESOP, including stock purchases by the ESOP, would subject us to certain financial risks,
including claims for damages as well as fines and penalties assessable under ERISA. See “Note 24 – Contingencies” of the Notes to
Consolidated Financial Statements.
Investigations into and heightened scrutiny of our operations could result in additional costs and damage our reputation.
The U.S. Attorney’s office for the Eastern District of Virginia is conducting an investigation concerning possible violations of federal laws,
including, among other things, possible violations related to false bank entries, bank fraud and securities fraud. The investigation concerns
allegations that Bank personnel engaged in practices intended to delay or avoid disclosure of the Bank’s asset quality at the time of and
following the United States Treasury’s purchase of preferred stock from the Company in November 2008. We are cooperating with this
investigation. Heightened scrutiny of the operations of the Company and the Bank by federal and state officials may subject us to governmental
or regulatory inquiries, investigations, actions, penalties and fines, which could adversely affect our reputation and result in costs to us in excess
of current reserves and management’s estimate of the aggregate range of possible loss for litigation matters.
Our business has been and may continue to be adversely affected by conditions in the financial markets and by economic conditions
generally.
Ongoing weakness in business and economic conditions generally or specifically in our markets has had, and could continue to have one or more
of the following adverse effects on our business:
•
•
•
•
A decrease in the demand for loans and other products and services offered by us;
A decrease in the value of collateral securing our loans;
An impairment of certain intangible assets, such as core deposit intangibles; and
An increase in the number of customers who become delinquent, file for protection under bankruptcy laws or default on their
loans.
Adverse conditions in the general business environment have had an adverse effect on our business in the past. Although the general business
environment has improved, we can give no assurance that such improvement can be sustained. In addition, the improvement of certain economic
indicators, such as real estate asset values, rents, and unemployment, may vary between geographic markets and may continue to lag behind
improvement in the overall economy. These economic indicators typically affect the real estate and financial services industries, in which we
have a significant number of customers, more significantly than other economic sectors. Furthermore, we have a substantial lending business that
depends upon the ability of borrowers to make debt service payments on loans. Should economic conditions worsen, our business, financial
condition or results of operations could be adversely affected.
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A large percentage of our loans are collateralized by real estate, and prolonged weakness in the real estate market may result in losses
and adversely affect our profitability.
Approximately 84.0% of our loan portfolio as of December 31, 2014, was comprised of commercial and residential loans collateralized by real
estate. Adverse economic conditions could decrease demand for real estate and depress real estate values in our markets. Persistent weakness in
the real estate market could significantly impair the value of our collateral and our ability to sell the collateral upon foreclosure. The real estate
collateral in each case provides an alternate source of repayment in the event of default by the borrower and may deteriorate in value during the
time the credit is extended. If real estate values decline further, it will become more likely that we would be required to increase our allowance
for loan losses. If during a period of depressed real estate values, we are required to liquidate the collateral securing a loan to satisfy the debt or
to increase our allowance for loan losses, it could materially reduce our profitability and adversely affect our financial condition.
We offer real estate construction and development loans, which carry a higher degree of risk than other real estate loans. Weakness in
the residential construction and commercial development real estate markets has in the past increased the non-performing assets in our
loan portfolio and our provision expense for losses on loans. These impacts have had, and could in the future have a material adverse
effect on our capital, financial condition and results of operations.
Approximately 5.3% of our loan portfolio as of December 31, 2014 consisted of real estate construction and development loans, down from
6.1% at December 31, 2013 and 7.8% at December 2012. These loans generally carry a higher degree of risk than long-term financing of
existing properties because repayment depends on the ultimate completion of the project and usually on the sale of the property. If we are forced
to foreclose on a project prior to its completion, we may not be able to recover the entire unpaid portion of the loan or we may be required to
fund additional money to complete the project, or hold the property for an indeterminate period of time. Any of these outcomes may result in
losses and adversely affect our profitability and financial condition.
Residential construction and commercial development real estate activity in our markets were affected by challenging economic conditions
following the financial crisis of 2008. Weakness in these sectors could lead to additional valuation adjustments to our loan portfolios and real
estate owned as we continue to reassess the fair value of our non-performing assets, the loss severity of loans in default and the fair value of real
estate owned. We also may realize additional losses in connection with our disposition of non-performing assets. A weak real estate market
could further reduce demand for residential housing, which, in turn, could adversely affect real estate development and construction activities.
Consequently, the longer challenging economic conditions persist, the more likely they are to adversely affect the ability of residential real estate
development borrowers to repay these loans and the value of property used as collateral for such loans. These economic conditions and market
factors have negatively affected some of our larger loans in the past, causing our total net-charge offs to increase and requiring us to significantly
increase our allowance for loan losses. Any further increase in our non-performing assets and related increases in our provision expense for
losses on loans could negatively affect our business and could have a material adverse effect on our capital, financial condition and results of
operations.
Our decisions regarding credit risk may not be accurate, and our allowance for loan losses may not be sufficient to cover actual losses,
which could adversely affect our business, financial condition and results of operations.
We maintain an allowance for loan losses at a level we believe is adequate to absorb probable incurred losses in our loan portfolio based on
historical loan loss experience, economic and environmental factors, specific problem loans, value of underlying collateral and other relevant
factors. If our assessment of these factors is ultimately inaccurate, the allowance may not be sufficient to cover actual future loan losses, which
would adversely affect our operating results. Our estimates are subjective, and their accuracy depends on the outcome of future events. Changes
in economic, operating, and other conditions that are generally beyond our control could cause actual loan losses to increase significantly. In
addition, bank regulatory agencies, as an integral part of their supervisory functions, periodically review the adequacy of our allowance for loan
losses. Regulatory agencies have from time to time required us to increase our provision for loan losses or to recognize additional loan charge-
offs when their judgment has differed from ours. Any of these events could have a material negative impact on our operating results.
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Our levels of classified loans and non-performing assets may increase in the foreseeable future if economic conditions cause more borrowers to
default. Further, the value of the collateral underlying a given loan, and the realizable value of such collateral in a foreclosure sale, may decline,
making us less likely to realize a full recovery if a borrower defaults on a loan. Any additional increases in the level of our non-performing
assets, loan charge-offs or provision for loan losses, or our inability to realize the estimated net value of underlying collateral in the event of a
loan default, could negatively affect our business, financial condition, results of operations and the trading price of our securities.
If we experience greater credit losses than anticipated, our operating results may be adversely affected.
As a lender, we are exposed to the risk that our customers will be unable to repay their loans according to their terms and that any collateral
securing the payment of their loans may not be sufficient to assure repayment. Credit losses are inherent in the business of making loans and
could have a material adverse effect on our operating results. Our credit risk with respect to our real estate and construction loan portfolio will
relate principally to the creditworthiness of borrowers and the value of the real estate serving as security for the repayment of loans. Our credit
risk with respect to our commercial and consumer loan portfolio will relate principally to the general creditworthiness of businesses and
individuals within our local markets.
We make various assumptions and judgments about the collectability of our loan portfolio and provide an allowance for estimated loss losses
based on a number of factors. We believe that our allowance for loan losses is adequate. However, if our assumptions or judgments are wrong,
our allowance for loan losses may not be sufficient to cover our actual loan losses. We may have to increase our allowance in the future in
response to the request of one of our primary banking regulators, to adjust for changing conditions and assumptions, or as a result of any
deterioration in the quality of our loan portfolio. The actual amount of future provisions for loan losses cannot be determined at this time and
may vary from the amounts of past provisions.
We continue to hold and acquire a significant amount of OREO properties, which could increase operating expenses and result in future
losses to the Company.
During recent years, we have acquired a significant amount of real estate as a result of foreclosure or by deed in lieu of foreclosure that is listed
on our balance sheet as OREO. An increase in our OREO portfolio increases the expenses incurred to manage and dispose of these properties,
which sometimes includes funding construction required to facilitate sale. We expect that our operating results in 2015 will continue to be
adversely affected by expenses associated with OREO, including insurance and taxes, completion and repair costs, as well as by the funding
costs associated with OREO assets.
Properties in our OREO portfolio are recorded at the lower of the recorded investment in the loans for which the properties previously served as
collateral or “fair value,” which represents the estimated sales price of the properties on the date acquired less estimated selling costs. Generally,
in determining “fair value” an orderly disposition of the property is assumed, except where a different disposition strategy is expected.
Significant judgment is required in estimating the fair value of OREO, and the period of time within which such estimates can be considered
current may change during periods of market volatility.
Any decreases in market prices of real estate in our market areas may lead to additional OREO write downs, with a corresponding expense in our
statement of operations. We evaluate OREO property values periodically and write down the carrying value of the properties if and when the
results of our analysis require it.
In response to market conditions and other economic factors, we may utilize alternative sale strategies other than orderly disposition as part of
our OREO disposition strategy, such as bulk sales. In this event, as a result of the significant judgments required in estimating fair value and the
variables involved in different methods of disposition, the net proceeds realized from such sales transactions could differ significantly from
appraisals, comparable sales, and other estimates used to determine the fair value of our OREO properties. In addition, our disposition of OREO
through alternative sales strategies could impact the fair value of comparable OREO properties remaining in our portfolio.
Our profitability depends significantly on local economic conditions.
Because most of our business activities are conducted in central Kentucky and most of our credit exposure is in that region, we are at risk from
adverse economic or business developments affecting this area, including declining regional and local business and employment activity, a
downturn in real estate values and agricultural activities and natural disasters. To the extent the central Kentucky economy weakens, the rates of
delinquencies, foreclosures, bankruptcies and losses in our loan portfolio will likely increase. Moreover, the value of real estate or other
collateral that secures our loans could be adversely affected by the economic downturn or a localized natural disaster. Events that adversely
affect business activity and real estate values in Central Kentucky have had and may continue to have a negative impact on our business,
financial condition, results of operations and future prospects.
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Our small to medium-sized business portfolio may have fewer resources to weather a downturn in the economy.
Our portfolio includes loans to small and medium-sized businesses and other commercial enterprises. Small and medium-sized businesses
frequently have smaller market shares than their competitors, may be more vulnerable to economic downturns, often need substantial additional
capital to expand or compete and may experience substantial variations in operating results, any of which may impair a borrower’s ability to
repay a loan. In addition, the success of a small or medium-sized business often depends on the management talents and efforts of one or two
persons or a small group of persons. The death, disability or resignation of one or more of these persons could have a material adverse impact on
the business and its ability to repay our loan. A continued economic downturn may have a more pronounced negative impact on our target
market, causing us to incur substantial credit losses that could materially harm our operating results.
Our profitability is vulnerable to fluctuations in interest rates.
Changes in interest rates could harm our financial condition or results of operations. Our results of operations depend substantially on net interest
income, the difference between interest earned on interest-earning assets (such as investments and loans) and interest paid on interest-bearing
liabilities (such as deposits and borrowings). Interest rates are highly sensitive to many factors, including governmental monetary policies and
domestic or international economic or political conditions. Factors beyond our control, such as inflation, recession, unemployment and money
supply may also affect interest rates. If, as a result of decreasing interest rates, our interest-earning assets mature or reprice more quickly than our
interest-bearing liabilities in a given period, our net interest income may decrease. Likewise, our net interest income may decrease if interest-
bearing liabilities mature or reprice more quickly than interest-earning assets in a given period as a result of increasing interest rates.
Fixed-rate loans increase our exposure to interest rate risk in a rising rate environment because interest-bearing liabilities would be subject to
repricing before assets become subject to repricing. Adjustable-rate loans decrease the risk associated with changes in interest rates but involve
other risks, such as the inability of borrowers to make higher payments in an increasing interest rate environment. At the same time, for secured
loans, the marketability of the underlying collateral may be adversely affected by higher interest rates. In a declining interest rate environment,
there may be an increase in prepayments on loans as the borrowers refinance their loans at lower interest rates, which could reduce net interest
income and harm our results of operations.
If we cannot obtain adequate funding, we may not be able to meet the cash flow requirements of our depositors and borrowers, or meet
the operating cash needs of the Company.
Our liquidity policies and limits are established by the Board of Directors of the Bank, with operating limits set by the Asset Liability Committee
(“ALCO”), based upon analyses of the ratio of loans to deposits and the percentage of assets funded with non-core or wholesale funding. The
ALCO regularly monitors the overall liquidity position of the Bank and the Company to ensure that various alternative strategies exist to meet
unanticipated events that could affect liquidity. Liquidity is the ability to meet cash flow needs on a timely basis at a reasonable cost. If our
liquidity policies and strategies do not work as well as intended, then we may be unable to make loans and to repay deposit liabilities as they
become due or are demanded by customers. The ALCO follows established board approved policies and monitors guidelines to diversify our
wholesale funding sources to avoid concentrations in any one-market source. Wholesale funding sources include Federal funds purchased,
securities sold under repurchase agreements, and Federal Home Loan Bank (“FHLB”) advances that are collateralized with mortgage-related
assets.
We maintain a portfolio of securities that can be used as a secondary source of liquidity. There are other available sources of liquidity, including
additional collateralized borrowings such as FHLB advances, the issuance of debt securities, and the issuance of preferred or common shares in
public or private transactions. If we were unable to access any of these funding sources when needed, we might not be able to meet the needs of
our customers, which could adversely impact our financial condition, our results of operations, cash flows, and our level of regulatory-qualifying
capital.
We may need to raise additional capital in the future by selling capital stock. Future sales or other dilution of our equity may adversely
affect the market price of our common shares.
We are not restricted from issuing additional common shares, including securities that are convertible into or exchangeable for, or that represent
the right to receive, common shares. The issuance of additional shares of common shares or the issuance of convertible securities would dilute
the ownership interest of our existing common shareholders. The market price of our common shares could decline as a result of such an offering
as well as other sales of a large block of shares of our common shares or similar securities in the market after such an offering, or the perception
that such sales could occur.
Our common shares have traded from time-to-time at a price below our book value per share. Accordingly, a sale of common shares at or below
our book value would be dilutive to current shareholders.
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We may not be able to realize the value of our tax losses and deductions.
Due to our losses, we have a net operating loss carry-forward of $32.1 million, credit carry-forwards of $900,000, and other net deferred tax
assets of $17.6 million. In order to realize the benefit of these tax losses, credits and deductions, we will need to generate substantial taxable
income in future periods. We established a 100% valuation allowance for all deferred tax assets in 2011. Should the Company issue a sufficient
number of new shares to raise additional capital, a change in control could be triggered, as defined by Section 382 of the Internal Revenue Code,
which could negatively impact or limit the ability to utilize our net operating loss carry-forwards, credit loss carry-forwards, and other net
deferred tax assets.
Higher FDIC deposit insurance premiums and assessments could significantly increase our non-interest expense.
Our deposits are insured by the FDIC up to legal limits and, accordingly, we are subject to FDIC deposit insurance premiums and assessments.
Pursuant to the Dodd-Frank Act, the FDIC amended its regulations regarding assessment for federal deposit insurance to base such assessments
on the average total consolidated assets of the insured institution during the assessment period, less the average tangible equity of the institution
during the assessment period. Prior to this change, we were assessed only on deposit balances. The FDIC adopted a rule implementing this
change, as well as adopting a revised risk-based assessment calculation in February 2011. The FDIC has also proposed a rule tying assessment
rates of FDIC-insured institutions to the institution’s employee compensation programs. The exact nature and cumulative effect of these recent
changes are not yet known, but they are expected to increase the amount of premiums we must pay for FDIC insurance. Any such increase may
adversely affect our business, financial condition or results of operations.
We face strong competition from other financial institutions and financial service companies, which could adversely affect our results of
operations and financial condition.
We compete with other financial institutions in attracting deposits and making loans. Our competition in attracting deposits comes principally
from other commercial banks, credit unions, savings and loan associations, securities brokerage firms, insurance companies, money market
funds, and other mutual funds. Our competition in making loans comes principally from other commercial banks, credit unions, savings and loan
associations, mortgage banking firms, and consumer finance companies. In addition, competition for business in the Louisville and Lexington
metropolitan area has grown in recent years as changes in banking law have allowed several banks to enter the market by establishing new
branches.
Competition in the banking industry may also limit our ability to attract and retain banking clients. We maintain smaller staffs of associates and
have fewer financial and other resources than larger institutions with which we compete. Financial institutions that have far greater resources and
greater efficiencies than we do may have several marketplace advantages resulting from their ability to:
• offer higher interest rates on deposits and lower interest rates on loans than we can;
• offer a broader range of services than we do;
• maintain more branch locations than we do; and
• mount extensive promotional and advertising campaigns.
In addition, banks and other financial institutions with larger capitalization and other financial intermediaries may not be subject to the same
regulatory restrictions as we are and may have larger lending limits than we do. Some of our current commercial banking clients may seek
alternative banking sources as they develop needs for credit facilities larger than we can accommodate. If we are unable to attract and retain
customers, we may not be able to maintain growth and our results of operations and financial condition may otherwise be negatively impacted.
We depend on our senior management team, and the unexpected loss of one or more of our senior executives could impair our
relationship with customers and adversely affect our business and financial results.
Our future success significantly depends on the continued services and performance of our key management personnel. Our future performance
will depend on our ability to motivate and retain these and other key officers. The Dodd-Frank Act, and the policies of bank regulatory agencies
have placed restrictions on our executive compensation practices. Such restrictions and standards may further impact our Company’s ability to
compete for talent with other businesses and financial institutions that are not subject to the same limitations as we are. The loss of the services
of members of our senior management or other key officers or our inability to attract additional qualified personnel as needed could materially
harm our business.
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Our reported financial results depend on management’s selection of accounting methods and certain assumptions and estimates.
Our accounting policies and assumptions are fundamental to our reported financial condition and results of operations. Our management must
exercise judgment in selecting and applying many of these accounting policies and methods so they comply with generally accepted accounting
principles and reflect management’s judgment of the most appropriate manner in which to report our financial condition and results. In some
cases, management must select the accounting policy or method to apply from two or more alternatives, any of which may be reasonable under
the circumstances, yet may result in our reporting materially different results than would have been reported under a different alternative.
Certain accounting policies are critical to presenting our reported financial condition and results. They require management to make difficult,
subjective or complex judgments about matters that are uncertain. Materially different amounts could be reported under different conditions or
using different assumptions or estimates. These critical accounting policies include the allowance for loan losses, valuation of OREO, valuation
of securities and valuation of deferred income taxes. Because of the uncertainty of estimates involved in these matters, we may be required,
among other things, to significantly increase the allowance for credit losses, sustain credit losses that are significantly higher than the reserve
provided, recognize significant impairment on our OREO, or permanently impair deferred tax assets.
While management continually monitors and improves our system of internal controls, data processing systems, and corporate wide
processes and procedures, we may suffer losses from operational risk in the future.
Management maintains internal operational controls, and we have invested in technology to help us process large volumes of transactions.
However, we may not be able to continue processing at the same or higher levels of transactions. If our systems of internal controls should fail to
work as expected, if our systems were to be used in an unauthorized manner, or if employees were to subvert the system of internal controls,
significant losses could occur.
We process large volumes of transactions on a daily basis and are exposed to numerous types of operational risk, which could cause us to incur
substantial losses. Operational risk resulting from inadequate or failed internal processes, people, and systems includes the risk of fraud by
employees or persons outside of our company, the execution of unauthorized transactions by employees, errors relating to transaction processing
and systems, and breaches of the internal control system and compliance requirements. This risk of loss also includes potential legal actions that
could arise as a result of the operational deficiency or as a result of noncompliance with applicable regulatory standards.
We establish and maintain systems of internal operational controls that provide management with timely and accurate information about our
level of operational risk. While not foolproof, these systems have been designed to manage operational risk at appropriate, cost effective levels.
We have also established procedures that are designed to ensure that policies relating to conduct, ethics and business practices are followed.
Nevertheless, we experience loss from operational risk from time to time, including the effects of operational errors, and these losses may be
substantial.
Our information systems may experience an interruption or security breach.
Failure in or breach of our operational or security systems or infrastructure, or those of our third party vendors and other service providers,
including as a result of cyber attacks, could disrupt our businesses, result in the disclosure or misuse of confidential or proprietary information,
damage our reputation, increase our costs and cause losses. As a large financial institution, we depend on our ability to process, record and
monitor a large number of customer transactions on a continuous basis. As customer, public and regulatory expectations regarding operational
and information security have increased, our operational systems and infrastructure must continue to be safeguarded and monitored for potential
failures, disruptions, and breakdowns. Our business, financial, accounting, data processing systems or other operating systems and facilities may
stop operating properly or become disabled or damaged as a result of a number of factors including events that are wholly or partially beyond
our control. For example, there could be sudden increases in customer transaction volume, electrical or telecommunications outages, natural
disasters such as earthquakes, tornadoes, and hurricanes; disease pandemics, events arising from local or larger scale political or social matters,
including terrorist acts, and, as described below, cyber attacks. Although we have business continuity plans and other safeguards in place, our
business operations may be adversely affected by significant and widespread disruption to our physical infrastructure or operating systems that
support our businesses and customers.
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Information security risks for financial institutions have generally increased in recent years in part because of the proliferation of new
technologies, the use of the Internet and telecommunications technologies to conduct financial transactions, and the increased sophistication and
activities of organized crime, hackers, terrorists, activists, and other external parties. As noted above, our operations rely on the secure
processing, transmission and storage of confidential information in our computer systems and networks. In addition, to access our products and
services, our customers may use personal smartphones, tablet PC’s, and other mobile devices that are beyond our control systems. Although we
believe we have robust information security procedures and controls, our technologies, systems, networks, and our customers’ devices may
become the target of cyber attacks or information security breaches. These events could result in the unauthorized release, gathering, monitoring,
misuse, loss or destruction of our customers’ confidential, proprietary and other information or that of our customers, or otherwise disrupt the
business operations of ourselves, our customers or other third parties.
Third parties with which we do business or that facilitate our business activities, could also be sources of operational and information security
risk to us, including from breakdowns or failures of their own systems or capacity constraints. Although to date we have not experienced any
material losses relating to cyber attacks or other information security breaches, we can give no assurance that we will not suffer such losses in
the future. Our risk and exposure to these matters remains heightened because of, among other things, the evolving nature of these threats and
the prevalence of Internet and mobile banking. As cyber threats continue to evolve, we may be required to expend significant additional
resources to continue to modify or enhance our protective measures or to investigate and remediate any information security vulnerabilities.
Disruptions or failures in the physical infrastructure or operating systems that support our businesses and customers, or cyber attacks or security
breaches of the networks, systems or devices that our customers use to access our products and services could result in customer attrition,
regulatory fines, penalties or intervention, reputational damage, reimbursement or other compensation costs, and/or additional compliance costs,
any of which could materially adversely affect our business, results of operations or financial condition.
We operate in a highly regulated environment and, as a result, are subject to extensive regulation and supervision that could adversely
affect our financial performance and our ability to implement our growth and operating strategies.
We are subject to examination, supervision and comprehensive regulation by federal and state regulatory agencies, which is described under
“Item 1 – Business—Supervision and Regulation.” Regulatory oversight of banks is primarily intended to protect depositors, the federal deposit
insurance funds, and the banking system as a whole, not our shareholders. Compliance with these regulations is costly and may make it more
difficult to operate profitably.
Federal and state banking laws and regulations govern numerous matters including the payment of dividends, the acquisition of other banks, and
the establishment of new banking offices. We must also meet specific regulatory capital requirements. Our failure to comply with these laws,
regulations, and policies or to maintain our capital requirements could affect our ability to pay dividends on common shares, our ability to grow
through the development of new offices, our ability to make acquisitions, and our ability to remain independent. These limitations may prevent
us from successfully implementing our growth and operating strategies.
In addition, the laws and regulations applicable to banks could change at any time, which could significantly impact our business and
profitability. For example, new legislation or regulation could limit the manner in which we may conduct our business, including our ability to
attract deposits and make loans. Events that may not have a direct impact on us, such as the bankruptcy or insolvency of a prominent U.S.
corporation, can cause legislators and banking regulators and other agencies such as the Financial Accounting Standards Board, the SEC, the
Public Company Accounting Oversight Board and various taxing authorities to respond by adopting and or proposing substantive revisions to
laws, regulations, rules, standards, policies, and interpretations. The nature, extent, and timing of the adoption of significant new laws and
regulations, or changes in or repeal of existing laws and regulations may have a material impact on our business and results of operations.
Changes in regulation may cause us to devote substantial additional financial resources and management time to compliance, which may
negatively affect our operating results.
Changes in banking laws could have a material adverse effect on us.
We are subject to changes in federal and state laws as well as changes in banking and credit regulations, and governmental economic and
monetary policies. We cannot predict whether any of these changes could adversely and materially affect us. The current regulatory environment
for financial institutions entails significant potential increases in compliance requirements and associated costs. Federal and state banking
regulators also possess broad powers to take supervisory actions as they deem appropriate. These supervisory actions may result in higher capital
requirements, higher insurance premiums and limitations on our activities that could have a material adverse effect on our business and
profitability.
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Recent legislation regarding the financial services industry may have a significant adverse effect on our operations.
The Dodd-Frank Act was signed into law on July 21, 2010. The Dodd-Frank Act has had a significant impact the U.S. financial system,
including among other things:
• new requirements on banking, derivative and investment activities, including the repeal of the prohibition on the payment of interest on
business demand accounts, and debit card interchange fee requirements;
• the creation of the Consumer Financial Protection Bureau with supervisory authority, including the power to conduct examinations and
take enforcement actions with respect to financial institutions with assets of $10 billion or more and implement regulations that will
affect all financial institutions;
• provisions affecting corporate governance and executive compensation of all companies subject to the reporting requirements of the
Securities and Exchange Act of 1934, as amended; and
• a provision that would require bank regulators to set minimum capital levels for bank holding companies that are as strong as those
required for their insured depository subsidiaries, subject to a grandfather clause for holding companies with less than $15 billion in
assets as of December 31, 2009.
Many provisions in the Dodd-Frank Act remain subject to regulatory rule-making, implementation, and interpretation, the effects of which are
not yet known. As a result, it is difficult to gauge the ultimate impact of certain provisions of the Dodd-Frank Act because the implementation of
many concepts is left to regulatory agencies. For example, the CFPB is given the power to adopt new regulations to protect consumers and is
given control over existing consumer protection regulations adopted by federal banking regulators. The CFPB has begun the rule-making
process but it is not known at this time when all rules will be finalized and implemented.
The provisions of the Dodd-Frank Act and any rules adopted to implement those provisions, as well as any additional legislative or regulatory
changes may impact the profitability of our business activities and costs of operations, require that we change certain of our business practices,
materially affect our business model or affect retention of key personnel, require us to raise additional regulatory capital, including additional
Tier 1 capital, and could expose us to additional costs (including increased compliance costs). These and other changes may also require us to
invest significant management attention and resources to make any necessary changes and may adversely affect our ability to conduct our
business as previously conducted or our results of operations or financial condition.
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Item 1B.
Unresolved Staff Comments
Not applicable.
Item 2.
Properties
The Bank operates 17 banking offices located in Kentucky. The following table shows the location, square footage and ownership of each
property. We believe that each of these locations is adequately insured. Support operations are located in the Main office in Louisville and the
Glasgow office building on Columbia Avenue.
Markets
Louisville/Jefferson, Bullitt and Henry Counties
Main Office: 2500 Eastpoint Parkway, Louisville
Eminence Office: 645 Elm Street, Eminence
Hillview Office: 11998 Preston Highway, Hillview
Pleasureville Office: 5440 Castle Highway, Pleasureville
Shepherdsville Office: 340 South Buckman Street, Shepherdsville
Conestoga Office: 155 Conestoga Parkway, Shepherdsville
Lexington/Fayette County
Lexington Office: 2424 Harrodsburg Road, Suite 100, Lexington
South Central Kentucky
Brownsville Office: 113 East Main, Brownsville
Greensburg Office: 202-04 North Main Street, Greensburg
Horse Cave Office: 210 East Main Street, Horse Cave
Morgantown Office: 112 West Logan Street, Morgantown
Munfordville Office: 949 South Dixie Highway, Munfordville
Beaver Dam Office: 1300 North Main Street, Beaver Dam
Wal-Mart Office: 1701 North Main Street, Beaver Dam
Owensboro/Daviess County
Owensboro Office: 1819 Frederica Street, Owensboro
Southern Kentucky
Campbell Lane Office: 751 Campbell Lane, Bowling Green
Glasgow Office: 1006 West Main Street, Glasgow
Other Properties
Office Building: 701 Columbia Avenue, Glasgow
Square Footage
30,000
1,500
3,500
10,000
10,000
3,900
Owned/
Leased
Owned
Owned
Owned
Owned
Owned
Owned
8,500
Leased
8,500
11,000
5,000
7,500
9,000
3,200
500
Owned
Owned
Owned
Owned
Owned
Owned
Leased
3,000
Owned
7,500
12,000
Owned
Owned
19,000
Owned
Item 3.
Legal Proceedings
We are defendants in various legal proceedings. Litigation is subject to inherent uncertainties and unfavorable outcomes could occur. See
Note 24, “Contingencies” in the Notes to our consolidated financial statements for detail regarding ongoing legal proceedings and other matters.
Item 4.
Mine Safety Disclosures
Not applicable.
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PART II
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
Our common shares are traded on the NASDAQ Capital Market under the ticker symbol “PBIB”. The following table presents the high and low
sales prices for our common shares reported on the NASDAQ Capital Market for the periods indicated.
Quarter Ended
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
Quarter Ended
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
2014
Market Value
High
$ 1.03
1.08
1.18
1.24
Low
$ 0.48
0.95
0.90
0.94
Dividend
$ 0.00
0.00
0.00
0.00
2013
Market Value
High
$ 1.24
2.23
0.90
1.59
Low
$ 0.97
0.80
0.79
0.66
Dividend
$ 0.00
0.00
0.00
0.00
As of January 31, 2015, we had approximately 1,204 shareholders, including 360 shareholders of record and approximately 844 beneficial
owners whose shares are held in “street” name by securities broker-dealers or other nominees.
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Dividends
We will not be able to pay dividends on our common shares for the foreseeable future. We historically paid quarterly cash dividends on our
common shares until we suspended dividend payments in October 2011. As a bank holding company, our ability to declare and pay dividends
depends on certain federal regulatory considerations, including the guidelines of the Federal Reserve regarding capital adequacy and dividends.
We have agreed with the Federal Reserve to obtain its written consent prior to declaring or paying any future dividends.
Our principal source of revenue with which to pay dividends on our common shares is the dividends that the Bank may declare and pay to us out
of funds legally available for payment of dividends. Currently, the Bank must obtain the prior written consent of its primary regulators prior to
declaring or paying any dividends. In addition to this current restriction, various laws applicable to the Bank also limit its payment of dividends
to us. A Kentucky chartered bank may declare a dividend of an amount of the bank’s net profits as the board deems appropriate. The approval of
the KDFI is required if the total of all dividends declared by the bank in any calendar year exceeds the total of its net profits for that year
combined with its retained net profits for the preceding two years, less any required transfers to surplus or a fund for the retirement of preferred
stock or debt. As a practical matter, the Bank will not be able to pay dividends to us for the foreseeable future.
Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated notes relating to our trust preferred
securities. Deferring interest payments on the junior subordinated notes resulted in the deferral of distributions on our trust preferred securities. If
we defer interest payments on our trust preferred securities for 20 consecutive quarters, we must pay all deferred interest or we will be in default.
We will not be able to pay cash dividends on our common shares until we have paid all deferred distributions on our trust preferred securities.
Deferred distributions on our trust preferred securities are cumulative, and distributions accrue and compound on each subsequent payment date.
If we become subject to any liquidation, dissolution or winding up of affairs, holders of the trust preferred securities and then holders of the
preferred stock will be entitled to receive the liquidation amounts to which they are entitled including the amount of any accrued and unpaid
distributions and dividends, before any distribution can be made to the holders of our common shares or preferred stock. Our Series E and Series
F preferred shares have priority over our common shares and non-voting common shares with respect to any payment of dividends.
Purchase of Equity Securities by Issuer
Except for the exchange transaction in December 2014, described in greater detail in “Item 1 – Business – History”, the Company did not
repurchase any of its issued and outstanding equity securities in 2014 or 2013.
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Item 6.
Selected Financial Data
The following table summarizes our selected historical consolidated financial data from 2010 to 2014. You should read this information in
conjunction with Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Item 8. “Financial
Statements and Supplementary Data.”
Selected Consolidated Financial Data
(Dollars in thousands except per share data)
Income Statement Data:
Interest income
Interest expense
Net interest income
Provision for loan losses
Non-interest income
Non-interest expense
Loss before income taxes
Income tax benefit
Net loss
Less:
Dividends and accretion on preferred stock
Effect of exchange of preferred stock for common stock
Earnings (loss) allocated to participating securities
Net income (loss) attributable to common
Common Share Data (1):
Basic earnings (loss) per common share
Diluted earnings (loss) per common share
Cash dividends declared per common share
Book value per common share (2)
Tangible book value per common share (2)
Balance Sheet Data (at period end):
Total assets
Debt obligations:
FHLB advances
Junior subordinated debentures
Subordinated capital note
Average Balance Data:
Average assets
Average loans
Average deposits
Average FHLB advances
Average junior subordinated debentures
Average subordinated capital note
Average stockholders’ equity
$
2014
39,513 $
9,795
29,718
7,100
4,079
39,435
(12,738 )
(1,583 )
(11,155 )
As of and for the Years Ended December 31,
2012
2013
2011
43,228 $
11,143
32,085
700
5,919
38,890
(1,586 )
—
(1,586 )
57,729 $
15,774
41,955
40,250
9,590
44,292
(32,997 )
(65 )
(32,932 )
73,554 $
22,039
51,515
62,600
7,833
104,273
(107,525 )
(218 )
(107,307 )
2,362
(36,104 )
3,159
$
19,428 $
2,079
—
(267 )
(3,398 ) $
1,929
—
(1,429 )
1,927
—
(4,080 )
(33,432 ) $ (105,154 ) $
2010
86,407
28,841
57,566
30,100
11,582
46,478
(7,430 )
(3,046 )
(4,384 )
1,987
—
(184 )
(6,187 )
$
1.59 $
1.59
0.00
1.67
1.61
(0.29 ) $
(0.29 )
0.00
(0.18 )
(0.29 )
(2.85 ) $
(2.85 )
0.00
0.74
0.58
(8.98 ) $
(8.98 )
0.02
3.74
3.54
(0.60 )
(0.60 )
0.49
12.76
10.33
$ 1,017,989 $ 1,076,121 $ 1,162,631 $ 1,455,424 $ 1,723,952
15,752
25,000
4,950
4,492
25,000
5,850
5,604
25,000
6,975
7,116
25,000
7,650
15,022
25,000
8,550
$ 1,049,232 $ 1,098,400 $ 1,341,565 $ 1,659,959 $ 1,747,648
1,353,295
1,033,320
662,442
1,459,041
1,217,083
961,671
47,800
6,325
4,473
25,000
25,000
25,000
7,309
5,508
8,941
188,015
75,679
33,881
1,243,474
1,434,462
15,315
25,000
8,208
159,434
788,176
1,004,052
4,990
25,000
6,404
42,631
(1)
(2)
Common share data has been adjusted to reflect a 5% stock dividend effective December 14, 2010.
After shareholder approval on February 25, 2015, the mandatorily convertible Series B preferred shares converted into 4,053,600
common shares and the mandatorily convertible Series D preferred shares converted into 6,458,000 non-voting common shares.
Assuming conversion as of December 31, 2014, the proforma book value per common share would have been $1.21 per share and the
proforma tangible book value per common share would have been $1.17 per share.
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Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operation
Management’s discussion and analysis of financial condition and results of operations analyzes the consolidated financial condition and results
of operations of Porter Bancorp, Inc. (the “Company”) and its wholly owned subsidiary, PBI Bank (the “Bank”). The Company is a Louisville,
Kentucky-based bank holding company which operates banking offices in twelve counties through its wholly-owned subsidiary, the Bank. Our
markets include metropolitan Louisville in Jefferson County and the surrounding counties of Henry and Bullitt. We serve south central Kentucky
and southern Kentucky from banking offices in Butler, Green, Hart, Edmonson, Barren, Warren, Ohio, and Daviess Counties. We also have an
office in Lexington, the second largest city in Kentucky. The Bank is a community bank with a wide range of commercial and personal banking
products.
Historically, we have focused on commercial and commercial real estate lending, both in markets where we have banking offices and other
growing markets in our region. Commercial, commercial real estate and real estate construction loans accounted for 55.5% of our total loan
portfolio as of December 31, 2014, and 56.3% as of December 31, 2013. Commercial lending generally produces higher yields than residential
lending, but involves greater risk and requires more rigorous underwriting standards and credit quality monitoring.
The following discussion should be read in conjunction with our consolidated financial statements and accompanying notes and other schedules
presented elsewhere in the report.
Overview
For the year ended December 31, 2014, we reported a net loss of $11.2 million compared with net loss of $1.6 million for the year ended
December 31, 2013 and $32.9 million for the year ended December 31, 2012. After deductions for dividends and accretion on preferred stock,
allocating losses to participating securities, and the effect of the exchange of preferred stock for common stock, net income attributable to
common shareholders was $19.4 million for the year ended December 31, 2014, compared with a net loss attributable to common shareholders
of $3.4 million for the year ended December 31, 2013. Basic and diluted income per common share were $1.59 for the year ended December 31,
2014, compared with loss per common share of $(0.29) for 2013.
Our financial performance in 2014 continued to be negatively impacted by the Bank’s high level of non-performing assets. Asset quality
remediation, capital restoration, and lowering the risk profile of the Company remain our major objectives for 2015.
Non-performing loans were 7.57% of total loans and non-performing assets were 9.19% of total assets, at December 31, 2014. We remain
diligent in the management of our loan portfolio and are striving to improve credit quality by working throughout our markets to balance
selective new customer acquisition, customer service for our existing clients and prudent risk management.
The following significant items are of note for the year ended December 31, 2014:
• In December 2014, we completed a non-cash equity exchange transaction with the accredited investors who acquired all of our issued
and outstanding Series A preferred shares from UST in a public auction. We acquired and cancelled all of the issued and outstanding
Series A Preferred Stock, the accrued dividends thereon, all of the issued and outstanding Series C Preferred Stock, and warrants to
purchase 798,915 shares of common stock together having an aggregate book value of approximately $45.7 million. In exchange, we
issued common and preferred shares having a fair value of approximately $9.6 million. The effect of the exchange was to increase
common shareholders’ equity by approximately $36.1 million.
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• In the exchange transaction, we issued 1,821,428 common shares, 40,536 mandatorily convertible Series B Preferred Shares and 64,580
mandatorily convertible Series D Preferred Shares, which automatically converted into 4,053,600 common shares and 6,458,000 non-
voting common shares after shareholder approval on February 25, 2015. We also issued 6,198 Series E Preferred Shares and 4,304
Series F Preferred Shares, both of which series are not convertible into common shares, have a liquidation preference of $1,000 per
share, and are entitled to a 2% noncumulative annual dividend if and when declared. Series E and Series F Preferred Shares rank senior
to, and have liquidation and dividend preferences over, our common shares and non-voting common shares.
• The net effect of the exchange transaction and subsequent conversion of mandatorily convertible Series B Preferred and mandatorily
convertible Series D Preferred shares was an increase in total shareholders’ equity of $7.4 million, and an increase in voting and non-
voting common shares issued and outstanding of 12,333,028 shares.
• We have reduced the size of our balance sheet in accordance with our capital plan. Average assets were $1.049 billion for the year
ended December 31, 2014, compared with $1.098 billion for the year ended December 31, 2013. This reduction was accomplished
primarily by reducing our commercial real estate and construction and development loans within our loan portfolio and through the
redemption of higher cost certificates of deposit accounts.
• Net interest margin decreased one basis point to 3.09% for the year ended December 31, 2014, compared with 3.10% for the year ended
December 31, 2013. Average loans decreased 16.0% to $662.4 million in 2014, compared with $788.2 million in 2013. Net loans
decreased 11.1% to $605.6 million at December 31, 2014, compared with $681.2 million at December 31, 2013.
• Provision for loan losses expense increased to $7.1 million for 2014, compared with $700,000 for the year ended December 31, 2013.
Net charge-offs were $15.9 million in 2014, compared with $29.3 million in 2013 and $36.1 million in 2012.
• We continued to execute on our strategy to reduce our exposure to commercial real estate and construction and development loans.
Construction and development loans totaled $33.2 million, or 45% of total risk-based capital, at December 31, 2014, compared with
$43.3 million, or 52% of total risk-based capital, at December 31, 2013. Non-owner occupied commercial real estate loans, construction
and development loans, and multi-family residential real estate loans as a group totaled $193.0 million, or 262% of total risk-based
capital, at December 31, 2014 compared with $237.0 million, or 284% of total risk-based capital, at December 31, 2013.
• Loan proceeds received from the repayment of our commercial real estate and construction and development loans were used primarily
to redeem maturing certificates of deposit during 2014. Deposits decreased 6.2% to $926.8 million compared with $987.7 million at
December 31, 2013. Certificate of deposit balances declined $105.3 million during 2014 to $574.7 million at December 31, 2014, from
$680.0 million at December 31, 2013.
• Total loans past due and nonaccrual loans decreased to $52.3 million at December 31, 2014 from $113.5 million at December 31, 2013.
• Non-performing loans decreased $54.7 million to $47.3 million at December 31, 2014, compared with $102.0 million at December 31,
2013. The decrease in non-performing loans was due to the migration of non-performing loans to the OREO portfolio, as well as
$27.5 million in paydowns. Net charge-offs were $15.9 million for the year ended December 31, 2014.
• Loans past due 30-59 days decreased from $10.7 million at December 31, 2013 to $4.0 million at December 31, 2014 and loans past due
60-89 days increased from $775,000 at December 31, 2013 to $980,000 at December 31, 2014.
• Foreclosed properties increased to $46.2 million at December 31, 2014, compared with $30.9 million at December 31, 2013. During the
year ended December 31, 2014, the Company acquired $32.3 million and sold $13.1 million of OREO. In addition, we recorded fair
value write-downs of $4.3 million during the year reflecting declines in appraisal valuations and changes in pricing strategies. Our ratio
of non-performing assets to total assets decreased to 9.19% at December 31, 2014, compared with 12.35% at December 31, 2013.
These items are discussed in further detail throughout this “Management’s Discussion and Analysis of Financial Condition and Results of
Operations” Section.
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Going Concern Considerations and Future Plans
Our consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business for the foreseeable future. However, the events and circumstances described in this
discussion create substantial doubt about the Company’s ability to continue as a going concern.
For the year ended December 31, 2014, we reported a net loss of $11.2 million. The net loss was primarily attributable to loan loss provision of
$7.1 million, OREO expense of $5.8 million resulting from fair value write-downs driven by new appraisals and reduced marketing prices, and
ongoing operating expense, along with $3.0 million in loan collection expenses. We also had lower net interest margin due to lower average
loans outstanding, loans re-pricing at lower rates, and the level of non-performing loans in our portfolio. After deductions for dividends and
accretion on preferred stock of $2.4 million, allocating losses to participating securities of $3.2 million, and the effect of the exchange of
preferred stock for common stock of $36.1 million, net income attributable to common shareholders was $19.4 million for the year ended
December 31, 2014, compared with a net loss attributable to common shareholders of $3.4 million for the year ended December 31, 2013.
For the year ended December 31, 2013, we reported net loss attributable to common shareholders of $3.4 million. This loss was attributable
primarily to loan collection expenses of $4.7 million and OREO expense of $4.5 million resulting from fair value write-downs driven by new
appraisals and reduced marketing prices, net loss on sales, and ongoing operating expenses. We also had lower net interest margin due to lower
average loans outstanding, loans re-pricing at lower rates, and the level of non-performing loans in our portfolio. Net loss to common
shareholders of $3.4 million for the year ended December 31, 2013, compares with net loss to common shareholders of $33.4 million for year
ended December 31, 2012.
In June 2011, the Bank entered into a Consent Order with the FDIC and KDFI in which the Bank agreed, among other things, to improve asset
quality, reduce loan concentrations, and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%.
The Consent Order was included in our Current Report on 8-K filed on June 30, 2011. In October 2012, the Bank entered into a revised Consent
Order with the FDIC and KDFI, again agreeing to maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio
of 12%. The Bank also agreed that if it should be unable to reach the required capital levels, and if directed in writing by the FDIC, then the
Bank would within 30 days develop, adopt and implement a written plan to sell or merge itself into another federally insured financial institution
or otherwise immediately obtain a capital investment into the Bank sufficient to fully meet the capital requirements.
We continue to work with our regulators toward capital ratio compliance. The revised Consent Order also requires the Bank to continue to
adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent
Order. The revised Consent Order was included in our Current Report on 8-K filed on September 19, 2012. As of December 31, 2014, the capital
ratios required by the Consent Order were not met.
In order to meet these capital requirements, the Board of Directors and management are continuing to evaluate strategies to achieve the
following objectives:
• Increasing capital through a possible public offering or private placement of common stock to new and existing shareholders. We have
engaged a financial advisor to assist our Board in this evaluation.
• Continuing to operate the Company and Bank in a safe and sound manner. This strategy will require us to reduce our lending
concentrations, remediate non-performing loans, and reduce other noninterest expense through the disposition of OREO.
• Evaluating and implementing improvements to our internal processes and procedures, distribution of labor, and work-flow to ensure we
have adequately and appropriately deployed resources in an efficient manner in the current environment.
• Executing on our commitment to improve credit quality and reduce loan concentrations and balance sheet risk.
• We have reduced our loan portfolio significantly from $1.3 billion at December 31, 2010 to $625.0 million at December 31, 2014.
• We have reduced our construction and development loans to less than 75% of total risk-based capital at December 31, 2014, and
have now been in compliance with the Consent Order for eleven quarters.
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• We have reduced our non-owner occupied commercial real estate loans, construction and development loans, and multi-family
residential real estate loans. Compliance with our Consent Order requires those loans represent less than 250% of total risk-based
capital. These loans represented 262% of total risk-based capital at December 31, 2014, down from 284% at December 31, 2013.
• Executing on our commitment to sell OREO and reinvest in quality income producing assets.
• Our acquisition of real estate assets through the loan remediation process increased during 2014, as we acquired $32.3 million of
OREO in 2014 compared with $20.6 million during 2013. This coincides with the reduction of nonaccrual loans from
$101.8 million at the end of 2013, to $47.2 million at the end of 2014, as many of these loans were resolved by foreclosure.
• We incurred OREO losses totaling $3.9 million during the 2014, comprised of $4.3 million in fair value write-downs to reflect
declines in appraisal valuations and changes in our pricing strategies, offset by $306,000 in net gain on sales.
• We continually evaluate opportunities to maximize the value we receive from the sale of OREO. We pursue multiple sales
channels with focus primarily on internal marketing and the use of brokers.
• Real estate construction represents 40% of the OREO portfolio at December 31, 2014 compared with 62% at December 31, 2013.
Commercial real estate represents 31% of the OREO portfolio at December 31, 2014 compared with 19% at December 31, 2013,
and 1-4 family residential properties represent 17% of the portfolio at December 31, 2014 compared with 16% at December 31,
2013.
Bank regulatory agencies can exercise discretion when an institution does not meet the terms of a consent order. Based on individual
circumstances, the agencies may issue mandatory directives, impose monetary penalties, initiate changes in management, or take more serious
adverse actions such as require an institution to sell or merge itself into another institution or require the Bank to be taken into receivership.
Liquid assets were $1.9 million at December 31, 2014. Since the Bank is unlikely to be in a position to pay dividends to the parent company for
the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, and interest on
deposits with the Bank. These cash inflows along with the liquid assets held at December 31, 2014, are needed to cover ongoing operating
expenses of the parent company which are forecasted at approximately $1.0 million for 2015. Parent company liquidity could be improved
through a sale of common or preferred shares.
Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated debentures relating to our trust
preferred securities. Deferring interest payments on the junior subordinated debentures resulted in a deferral of distributions on our trust
preferred securities.
If we defer distributions on our trust preferred securities for 20 consecutive quarters, we must pay all deferred distributions in full or we will be
in default. Our deferral period expires in the third quarter of 2016. Deferred distributions on our trust preferred securities, which totaled $2.2
million as of December 31, 2014, are cumulative, and unpaid distributions accrue and compound on each subsequent payment date. If as a result
of a default we become subject to any liquidation, dissolution or winding up, holders of the trust preferred securities will be entitled to receive
the liquidation amounts to which they are entitled, including all accrued and unpaid distributions, before any distribution can be made to our
shareholders. In addition, the holders of our Series E and Series F Preferred Shares will be entitled to receive liquidation distributions totaling
$10.5 million before any distribution can be made to the holders of our common shares.
Our consolidated financial statements do not include any adjustments that may result should the Company be unable to continue as a going
concern.
Application of Critical Accounting Policies
Our accounting and reporting policies comply with GAAP and conform to general practices within the banking industry. We believe that of our
significant accounting policies, the following may involve a higher degree of management assumptions and judgments that could result in
materially different amounts to be reported if conditions or underlying circumstances were to change.
Allowance for Loan Losses – The Bank maintains an allowance for loan losses believed to be sufficient to absorb probable incurred credit
losses existing in the loan portfolio. The Board of Directors evaluates the adequacy of the allowance for loan losses on a quarterly basis. We
evaluate the adequacy of the allowance using, among other things, historical loan loss experience, known and inherent risks in the portfolio,
adverse situations that may affect the borrower’s ability to repay, estimated value of the underlying collateral and current economic conditions
and trends. The allowance may be allocated for specific loans or loan categories, but the entire allowance is available for any loan that, in
management’s judgment, should be charged off. The allowance consists of specific and general components. The specific component relates to
loans that are individually evaluated and measured for impairment. The general component is based on historical loss experience adjusted for
qualitative environmental factors. We develop allowance estimates based on actual loss experience adjusted for current economic conditions and
trends. Allowance estimates are a prudent measurement of the risk in the loan portfolio which we apply to individual loans based on loan type. If
the mix and amount of future charge-off percentages differ significantly from those assumptions used by management in making its
determination, we may be required to materially increase our allowance for loan losses and provision for loan losses, which could adversely
affect our results.
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Other Real Estate Owned – OREO is real estate acquired as a result of foreclosure or by deed in lieu of foreclosure. It is classified as real estate
owned until such time as it is sold. When property is acquired as a result of foreclosure or by deed in lieu of foreclosure, it is recorded at its fair
market value less estimated cost to sell. Any write-down of the property at the time of acquisition is charged to the allowance for loan
losses. Subsequent reductions in fair value are recorded as non-interest expense. To determine the fair value of OREO for smaller dollar single
family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers. If the internally evaluated market
price is below our underlying investment in the property, appropriate write-downs are recorded. For larger dollar residential and commercial real
estate properties, we obtain a new appraisal of the subject property or have staff from our special assets group or in our centralized appraisal
department evaluate the latest in-file appraisal in connection with the transfer to OREO. We typically obtain updated appraisals within five
quarters or the anniversary date of ownership unless a sale is imminent.
Intangible Assets – We evaluate intangible assets for impairment at least annually and more frequently if circumstances indicate their value may
not be recoverable. Identifiable intangible assets that are subject to amortization are amortized on an accelerated basis over the years expected to
be benefited, which we believe is 10 years. We review these amortizable intangible assets for impairment if circumstances indicate their value
may not be recoverable based on a comparison of fair value to carrying value. Based on our annual review, management does not believe our
intangible assets are impaired at December 31, 2014.
Stock-based Compensation – Compensation cost is recognized for restricted stock awards issued to employees, based on the fair value of these
awards at the date of grant. The market price of the Company’s common shares at the date of grant is used for restricted stock awards.
Compensation cost is recognized over the required service period, generally defined as the vesting period. For awards with graded vesting,
compensation cost is recognized on a straight-line basis over the requisite service period for the entire award.
Valuation of Deferred Tax Asset – We evaluate deferred tax assets for impairment on a quarterly basis. We established a 100% deferred tax
valuation allowance of $31.7 million in December 2011 based upon the analysis of our past performance and our expected future performance.
When evaluating our deferred tax assets for realizability during 2014 and 2013, we concluded that a full valuation allowance was still necessary
at December 31, 2014 and 2013, due to the additional losses incurred during those years. A return to profitability would enable us to reduce the
valuation allowance and thereby offset income tax expense that would otherwise be recognized. Examinations of our income tax returns or
changes in tax law may impact our deferred tax assets and liabilities as well as our provision for income taxes.
Contingencies – We are defendants in various legal proceedings. We record contingent liabilities resulting from claims against us when a loss is
assessed to be probable and the amount of the loss is reasonably estimable. Assessing probability of loss and estimating probable losses requires
analysis of multiple factors, including in some cases judgments about the potential actions of third party claimants and courts. Recorded
contingent liabilities are based on the best information available and actual losses in any future period are inherently uncertain.
Results of Operations
The following table summarizes components of income and expense and the change in those components for 2014 compared with 2013:
Gross interest income
Gross interest expense
Net interest income
Provision for credit losses
Non-interest income
Gains on sale of securities, net
Non-interest expense
Net loss before taxes
Income tax benefit
Net loss
Dividends and accretion on preferred stock
Effect of exchange of preferred stock for common stock
Losses (earnings) attributable to participating securities
Net income (loss) attributable to common shareholders
30
For the Years Ended
December 31,
Change from
Prior Period
2014
$ 39,513
9,795
29,718
7,100
3,987
92
39,435
(12,738 )
(1,583 )
(11,155 )
(2,362 )
36,104
(3,159 )
19,428
2013
(dollars in thousands)
Amount
Percent
$ 43,228
11,143
32,085
700
5,196
723
38,890
(1,586 )
—
(1,586 )
(2,079 )
—
267
(3,398 )
$ (3,715 )
(1,348 )
(2,367 )
6,400
(1,209 )
(631 )
545
(11,152 )
(1,583 )
(9,569 )
(283 )
36,104
(3,426 )
22,826
(8.6 )%
(12.1 )
(7.4 )
914.3
(23.3 )
(87.3 )
1.4
703.2
—
603.3
13.6
100.0
(1283.1 )
(671.7 )
Table of Contents
Net loss of $11.2 million for the year ended December 31, 2014 increased by $9.6 million from net loss of $1.6 million for 2013. This was
primarily due to a $2.4 million decrease in net interest income driven by lower average earning assets, an increase of $6.4 million in provision
for loan losses expense, and reductions in non-interest income from our exit of trust services in 2013 and lower gains on the sale of securities.
Net income attributable to common shareholders of $19.4 million for the year ended December 31, 2014, improved $22.8 million from net loss
to common shareholders of $3.4 million for 2013. This increase was primarily attributable to the $36.1 million effect of the exchange of
preferred stock for common stock.
The following table summarizes components of income and expense and the change in those components for 2013 compared with 2012:
Gross interest income
Gross interest expense
Net interest income
Provision for credit losses
Non-interest income
Gains on sale of securities, net
Non-interest expense
Net loss before taxes
Income tax benefit
Net loss
Dividends on and accretion on preferred stock
Losses attributable to participating securities
Net loss attributable to common shareholders
For the Years Ended
December 31,
Change from
Prior Period
2013
$ 43,228
11,143
32,085
700
5,196
723
38,890
(1,586 )
—
(1,586 )
(2,079 )
267
(3,398 )
2012
(dollars in thousands)
Amount
Percent
$ 57,729
15,774
41,955
40,250
6,354
3,236
44,292
(32,997 )
(65 )
(32,932 )
(1,929 )
1,429
(33,432 )
$ (14,501 )
(4,631 )
(9,870 )
(39,550 )
(1,158 )
(2,513 )
(5,402 )
31,411
65
31,346
(150 )
(1,162 )
30,034
(25.1 )%
(29.4 )
(23.5 )
(98.3 )
(18.2 )
(77.7 )
(12.2 )
(95.2 )
(100.0 )
(95.2 )
7.8
(81.3 )
(89.8 )
Net loss before taxes of $1.6 million for the year ended December 31, 2013, improved by $31.4 million from net loss of $33.0 million for 2012.
Net loss to common shareholders of $3.4 million for the year ended December 31, 2013, decreased $30.0 million from net loss to common
shareholders of $33.4 million for 2012. This decrease in net loss was attributable primarily to lower provision for loan losses expense and
decreased non-interest expense associated with our OREO, partially offset by lower net gain on sales of securities and lower net interest income.
Net Interest Income – Our net interest income was $29.7 million for the year ended December 31, 2014, a decrease of $2.4 million, or 7.4%,
compared with $32.1 million for the same period in 2013. Net interest spread and margin were 2.98% and 3.09%, respectively, for 2014,
compared with 2.97% and 3.10%, respectively, for 2013. Average nonaccrual loans were $63.1 million and $107.3 million in 2014 and 2013,
respectively. The decrease in net interest income was primarily the result of lower average earning assets coupled with lower rates on those
assets. In addition, net interest income and net interest margin were adversely affected by $3.3 million and $5.6 million of interest lost on
nonaccrual loans during 2014 and 2013, respectively.
Our average interest-earning assets were $979.2 million for 2014, compared with $1.05 billion for 2013, a 6.8% decrease, primarily attributable
to lower average loans and partially offset by higher average investment securities and interest bearing deposits with financial institutions.
Average loans were $662.4 million for 2014, compared with $788.2 million for 2013, a 16.0% decrease. Average interest bearing deposits with
financial institutions were $87.0 million in 2014, compared with $65.1 million in 2013, a 33.7% increase. Average investment securities were
$220.5 million for 2014, compared with $184.2 million for 2013, a 19.7% increase. Our total interest income decreased 8.6% to $39.5 million
for 2014, compared with $43.2 million for 2013.
Our average interest-bearing liabilities decreased by 5.5% to $885.8 million for 2014, compared with $937.4 million for 2013. Our total interest
expense decreased by 12.1% to $9.8 million for 2014, compared with $11.1 million during 2013, due primarily to lower interest rates paid on
and lower volume of certificates of deposit. Our average volume of certificates of deposit decreased 10.2% to $632.0 million for 2014, compared
with $704.0 million for 2013. The average interest rate paid on certificates of deposit decreased to 1.29% for 2014, compared with 1.35% for
2013, as the result of continued re-pricing of certificates of deposit at maturity to lower interest rates. Our average volume of NOW and money
market deposit accounts increased 16.1% to $179.7 million for 2014, compared with $154.8 million for 2013. The average interest rate paid on
NOW and money market deposit accounts increased to 0.36% for 2014, compared with 0.35% for 2013.
31
Table of Contents
Our net interest income was $32.1 million for the year ended December 31, 2013, a decrease of $9.9 million, or 23.5%, compared with
$42.0 million for the same period in 2012. Net interest spread and margin were 2.97% and 3.10%, respectively, for 2013, compared with 3.16%
and 3.31%, respectively, for 2012. Average nonaccrual loans were $107.3 million and $90.8 million in 2013 and 2012, respectively. The
decrease in net interest income was primarily the result of lower average earning assets. In addition, net interest income and net interest margin
were adversely affected by $5.6 million and $4.9 million of interest lost on nonaccrual loans during 2013 and 2012, respectively.
Our average interest-earning assets were $1.05 billion for 2013, compared with $1.28 billion for 2012, an 18.1% decrease, primarily attributable
to lower average loans and partially offset by higher average investment securities and interest bearing deposits with financial institutions.
Average loans were $788.2 million for 2013, compared with $1.03 billion for 2012, a 23.7% decrease. Average interest bearing deposits with
financial institutions were $65.1 million in 2013, compared with $62.1 million in 2012, a 4.7% increase. Average investment securities were
$184.2 million for 2013, compared with $173.1 million for 2012, a 6.4% increase. Our total interest income decreased 25.1% to $43.2 million
for 2013, compared with $57.7 million for 2012. The change was due primarily to lower interest rates on loans, lower volume of loans and lower
interest rates on investment securities.
Our average interest-bearing liabilities decreased by 18.1% to $937.4 million for 2013, compared with $1.14 billion for 2012. Our total interest
expense decreased by 29.4% to $11.1 million for 2013, compared with $15.8 million during 2011, due primarily to lower interest rates paid on
and lower volume of certificates of deposit, NOW and money market deposits. Our average volume of certificates of deposit decreased 22.8% to
$704.0 million for 2013, compared with $912.1 million for 2012. The average interest rate paid on certificates of deposit decreased to 1.35% for
2013, compared with 1.52% for 2012, as the result of continued re-pricing of certificates of deposit at maturity to lower interest rates. Our
average volume of NOW and money market deposit accounts increased 1.1% to $154.8 million for 2013, compared with $153.0 million for
2012. The average interest rate paid on NOW and money market deposit accounts decreased to 0.35% for 2013, compared with 0.42% for 2012.
32
Table of Contents
Average Balance Sheets
The following table sets forth the average daily balances, the interest earned or paid on such amounts, and the weighted average yield on interest-
earning assets and weighted average cost of interest-bearing liabilities for the periods indicated. Dividing income or expense by the average daily
balance of assets or liabilities, respectively, derives such yields and costs for the periods presented.
ASSETS
Interest-earning assets:
Loans receivables (1)(2)
Real estate
Commercial
Consumer
Agriculture
Other
U.S. Treasury and agencies
Mortgage-backed securities
State and political subdivision securities (3)
State and political subdivision securities
Corporate bonds
FHLB stock
Other debt securities
Other equity securities
Federal funds sold
Interest-bearing deposits in other financial institutions
Total interest-earning assets
Less: Allowance for loan losses
Non-interest-earning assets
Total assets
LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities
Certificates of deposit and other time deposits
NOW and money market deposits
Savings accounts
Federal funds purchased and repurchase agreements
FHLB advances
Junior subordinated debentures
Total interest-bearing liabilities
Non-interest-bearing liabilities
Non-interest-bearing deposits
Other liabilities
Total liabilities
Stockholders’ equity
Total liabilities and stockholders’ equity
Net interest income
Net interest spread
Net interest margin
Ratio of average interest-earning assets to average interest-
bearing liabilities
For the Years Ended December 31,
2014
Interest
Earned/
Paid
Average
Yield/
Cost
2013
Interest
Earned/
Paid
Average
Yield/
Cost
Average
Balance
(dollars in thousands)
Average
Balance
$ 562,829 $ 27,654 4.91 % $ 696,785 $ 32,591 4.68 %
602
32,459
60,419 3,002 4.97
12,786 1,087 8.50
25,806 1,321 5.12
26 4.32
755 2.33
114,103 2,780 2.44
936 4.73
30,428
757 3.04
24,873
607 3.36
18,041
337 4.34
7,760
572
46 8.04
21 — —
2 0.13
203 0.23
1,502
86,986
50,990 2,772 5.44
16,982 1,402 8.26
22,639 1,229 5.43
21 2.69
780
23,685
546 2.31
83,160 1,552 1.87
933 4.74
30,292
787 3.17
24,861
745 3.57
20,864
421 4.18
10,072
46 8.04
572
30 4.03
744
3 0.11
2,640
150 0.23
65,076
4.16 %
43,228
39,513
4.09 %
979,187
(25,390 )
95,435
$ 1,049,232
1,050,142
(40,343 )
88,601
$ 1,098,400
$ 632,020 $ 8,125
653
179,698
89
36,803
3
2,255
124
4,473
801
30,508
9,795
885,757
1.29 % $ 703,982 $ 9,482
541
154,759
0.36
114
39,158
0.24
6
3,113
0.13
157
4,990
2.77
843
31,404
2.63
11,143
937,406
1.11 %
1.35 %
0.35
0.29
0.19
3.15
2.68
1.19 %
113,150
16,444
1,015,351
33,881
$ 1,049,232
106,153
12,210
1,055,769
42,631
$ 1,098,400
$ 29,718
$ 32,085
2.98 %
3.09 %
110.55 %
2.97 %
3.10 %
112.03 %
(1)
(2)
(3)
Includes loan fees in both interest income and the calculation of yield on loans.
Calculations include non-accruing loans of $63.1 million and $107.3 million in average loan amounts outstanding.
Taxable equivalent yields are calculated assuming a 35% federal income tax rate.
33
Table of Contents
ASSETS
Interest-earning assets:
Loans receivables (1)(2)
Real estate
Commercial
Consumer
Agriculture
Other
U.S. Treasury and agencies
Mortgage-backed securities
State and political subdivision securities (3)
State and political subdivision securities
Corporate bonds
FHLB stock
Other debt securities
Other equity securities
Federal funds sold
Interest-bearing deposits in other financial institutions
Total interest-earning assets
Less: Allowance for loan losses
Non-interest-earning assets
Total assets
LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities
Certificates of deposit and other time deposits
NOW and money market deposits
Savings accounts
Federal funds purchased and repurchase agreements
FHLB advances
Junior subordinated debentures
Total interest-bearing liabilities
Non-interest-bearing liabilities
Non-interest-bearing deposits
Other liabilities
Total liabilities
Stockholders’ equity
Total liabilities and stockholders’ equity
Net interest income
Net interest spread
Net interest margin
Ratio of average interest-earning assets to average interest-
bearing liabilities
For the Years Ended December 31,
2013
Interest
Earned/
Paid
Average
Yield/
Cost
2012
Interest
Earned/
Paid
Average
Yield/
Cost
Average
Balance
(dollars in thousands)
Average
Balance
$ 696,785 $ 32,591 4.68 % $ 921,314 $ 46,179 5.01 %
838
6,588
50,990 2,772 5.44
16,982 1,402 8.26
22,639 1,229 5.43
21 2.69
546 2.31
64,252 3,510 5.46
22,720 1,903 8.38
24,196 1,304 5.39
22 2.63
780
199 3.02
23,685
83,160 1,552 1.87 111,637 1,986 1.78
887 5.12
30,292
563 3.24
24,861
482 5.38
20,864
447 4.44
10,072
46 8.04
572
57 4.19
744
2 0.06
2,640
142 0.23
65,076
4.54 %
933 4.74
787 3.17
745 3.57
421 4.18
46 8.04
30 4.03
3 0.11
150 0.23
26,631
17,363
8,957
10,072
572
1,359
3,109
62,127
4.16 %
57,729
43,228
1,050,142
(40,343 )
88,601
$ 1,098,400
1,281,735
(53,484 )
113,314
$ 1,341,565
$ 703,982 $ 9,482
541
154,759
114
39,158
6
3,113
157
4,990
843
31,404
11,143
937,406
1.35 % $ 912,061 $ 13,828
641
153,032
0.35
154
38,665
0.29
7
2,088
0.19
207
6,325
3.15
937
32,309
2.68
15,774
1,144,480
1.19 %
1.52 %
0.42
0.40
0.34
3.27
2.90
1.38 %
106,153
12,210
1,055,769
42,631
$ 1,098,400
113,325
8,081
1,265,886
75,679
$ 1,341,565
$ 32,085
$ 41,955
2.97 %
3.10 %
112.03 %
3.16 %
3.31 %
111.99 %
(1)
(2)
(3)
Includes loan fees in both interest income and the calculation of yield on loans.
Calculations include non-accruing loans of $107.3 million and $90.8 million in average loan amounts outstanding.
Taxable equivalent yields are calculated assuming a 35% federal income tax rate.
34
Table of Contents
Rate/Volume Analysis
The table below sets forth information regarding changes in interest income and interest expense for the periods indicated. For each category of
interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (1) changes in rate (changes in rate
multiplied by old volume); (2) changes in volume (changes in volume multiplied by old rate); and (3) changes in rate-volume (change in rate
multiplied by change in volume). Changes in rate-volume are proportionately allocated between rate and volume variance.
Year Ended December 31, 2014 vs. 2013
Year Ended December 31, 2013 vs. 2012
Increase (decrease)
due to change in
Increase (decrease)
due to change in
Rate
Volume
Net Change
Rate
Volume
Net Change
(in thousands)
Interest-earning assets:
Loan receivables
U.S. Treasury and agencies
Mortgage-backed securities
State and political subdivision securities
Corporate bonds
FHLB stock
Other equity securities
Federal funds sold
Interest-bearing deposits in other financial institutions
Total increase (decrease) in interest income
Interest-bearing liabilities:
Certificates of deposit and other time deposits
NOW and money market accounts
Savings accounts
Federal funds purchased and repurchase agreements
FHLB advances
Junior subordinated debentures
Total increase (decrease) in interest expense
Increase (decrease) in net interest income
$ 1,316 $
5
554
(32 )
(41 )
16
(15 )
0
1
(6,241 ) $
204
674
5
(97 )
(100 )
(15 )
(1 )
52
1,804
(5,519 )
209
1,228
(27 )
(138 )
(84 )
(30 )
(1 )
53
(4,925 ) $ (2,935 ) $ (11,967 ) $ (14,902 )
347
(435 )
270
263
(26 )
(27 )
1
8
(14,501 )
382
(528 )
351
469
—
(25 )
—
7
(35 )
93
(81 )
(206 )
(26 )
(2 )
1
1
(11,311 )
(3,190 )
(3,715 )
(418 )
22
(18 )
(1 )
(18 )
(18 )
(451 )
$ 2,255 $
(939 )
90
(7 )
(2 )
(15 )
(24 )
(897 )
(4,622 ) $
(1,357 )
112
(25 )
(3 )
(33 )
(42 )
(1,348 )
(2,367 ) $ (1,534 ) $
(1,427 )
(107 )
(42 )
(3 )
(8 )
(69 )
(1,656 )
(2,919 )
7
2
2
(42 )
(25 )
(2,975 )
(8,336 ) $
(4,346 )
(100 )
(40 )
(1 )
(50 )
(94 )
(4,631 )
(9,870 )
Non-interest Income – The following table presents for the periods indicated the major categories of non-interest income:
Service charges on deposit accounts
Income from fiduciary activities
Bank card interchange fees
Other real estate owned rental income
Net gain on sales of securities
Income from bank owned life insurance
Other
Total non-interest income
2014
For the Years Ended
December 31,
2013
(in thousands)
$ 2,058
517
718
399
723
534
970
$ 5,919
$ 1,988
—
765
256
92
276
702
$ 4,079
2012
$ 2,239
1,177
727
420
3,236
312
1,479
$ 9,590
Non-interest income decreased by $1.8 million to $4.1 million for 2014 compared with $5.9 million for 2013. This was due primarily to
decreased gain on sales of investment securities of $631,000, or 87.3%, due to lower volume of sales. This decrease was also caused by a
reduction in income from fiduciary activities as we transitioned away from providing trust services, including ESOP and employee benefit plan
services throughout our markets in 2013.
35
Table of Contents
Non-interest income decreased by $3.7 million to $5.9 million for 2013 compared with $9.6 million for 2012. This was due primarily to
decreased gain on sales of investment securities of $2.5 million, or 77.7%, due to lower volume of sales. This decrease was also caused by a
reduction in income from fiduciary activities as we transitioned away from providing trust services, including ESOP and employee benefit plan
services throughout our markets. This decrease was offset partially by an increase in income from bank owned life insurance, which increased by
71.2% from 2012.
Non-interest Expense – The following table presents the major categories of non-interest expense:
Salary and employee benefits
Other real estate owned expense
Occupancy and equipment
Loan collection expense
Professional fees
FDIC insurance
State franchise tax
Data processing expense
Communications
Postage and delivery
Insurance expense
Advertising
Other
Total non-interest expense
2014
For the Years Ended
December 31,
2013
(in thousands)
$ 15,501
4,516
3,583
4,707
1,892
2,378
1,944
184
711
423
648
308
2,095
$ 38,890
$ 15,658
5,839
3,497
2,994
2,771
2,272
1,445
1,106
752
407
575
563
1,556
$ 39,435
2012
$ 16,648
10,549
3,642
2,442
1,985
2,835
2,174
96
710
454
373
154
2,230
$ 44,292
Non-interest expense for the year ended December 31, 2014 of $39.4 million represented a 1.4% increase from $38.9 million for the same period
last year. The increase in non-interest expense was attributable primarily to increases in OREO expenses, professional fees and data processing
expenses, offset by decreases in loan collection expenses and state franchise tax. In late 2013, we began outsourcing out data processing
functions, leading to an increase in expense year over year. Expenses related to OREO include:
Net (gain) loss on sales
Provision to allowance for declining market values
Operating expense
Total
2014
2013
(in thousands)
$ (306 )
4,255
1,890
$ 5,839
$ 132
2,466
1,918
$ 4,516
During 2014, we recorded approximately $4.3 million of provision to OREO allowance related to fair value writedowns resulting from declines
in the fair value of the real estate based upon updated appraisals and reduced marketing prices. This compares with $2.5 million of provision
related to new appraisals received for properties in the portfolio during 2013.
Loan collection expenses declined by $2.7 million, or 36.4%, but this improvement was offset by a $1.3 million increase in OREO expenses
primarily as a result of fair value writedowns resulting from declines in the fair value of the real estate based upon updated appraisals and
reduced marketing prices.
36
Table of Contents
Non-interest Expense Comparison – 2013 to 2012
Non-interest expense for the year ended December 31, 2013 of $38.9 million represented a 12.2% decrease from $44.3 million for the same
period last year. The decrease in non-interest expense was attributable primarily to decreased other real estate owned expense due to lower loss
on sales of OREO and lower valuation write-downs. Expenses related to other real estate owned include:
Net loss on sales
Provision to allowance
Operating expense
Total
2013
2012
(in thousands)
$ 132
2,466
1,918
$ 4,516
$ 1,672
7,154
1,723
$ 10,549
During 2013, we recorded approximately $2.5 million of provision to OREO allowance related to new appraisals received for properties in the
portfolio during the year. This compares with $7.2 million of provision related to new appraisals received for properties in the portfolio during
2012.
FDIC insurance assessments decreased $457,000, or 16.1%, to $2.4 million in 2013 from $2.8 million in 2012 due to decreased average total
consolidated assets, less the average tangible equity during the assessment period. Salary and employee benefit expenses decreased by
$1.1 million, or 6.9% to $15.5 million from $16.6 million in 2012.
These improvements were offset partially by an increase in loan collection expense of $2.3 million, or 92.8%, due primarily to continued
remediation of problem loans.
Income Tax Expense – No income tax expense was recorded for 2014 or 2013, with an income tax benefit of $1.6 million recorded for 2014.
The December 31, 2014 tax benefit is entirely due to gains in other comprehensive income that are presented in current operations in accordance
with the applicable accounting standards. Our deferred tax valuation allowance increased to $50.6 million at December 31, 2014. Our statutory
federal tax rate was 35% in both 2014 and 2013. The effective tax rate for 2014 and 2013 is not meaningful due to the reduction of income tax
benefit as the result of the establishment of the deferred tax valuation allowance.
The valuation allowance for our deferred tax assets does not have any impact on our liquidity, nor does it preclude us from using the tax losses,
tax credits or other timing differences in the future. To the extent we generate taxable income in a given quarter, the valuation allowance may be
reduced to offset fully or partially the corresponding income tax expense. Any remaining deferred tax asset valuation allowance may be reversed
through income tax expense once we can demonstrate a sustainable return to profitability and conclude it is more likely than not the deferred tax
asset will be utilized.
See Note 14, “Income Taxes”, for additional discussion of our income taxes.
No income tax benefit was recorded for 2013, compared with $65,000 for 2012. Our deferred tax valuation allowance increased to $47.8 million
at December 31, 2013. Our statutory federal tax rate was 35% in both 2013 and 2012. The effective tax rate for 2013 and 2012 is not meaningful
due to the reduction of income tax benefit as the result of the establishment of the deferred tax valuation allowance.
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Table of Contents
Analysis of Financial Condition
Total assets at December 31, 2014 were $1.018 billion compared with $1.076 billion at December 31, 2013, a decrease of $58.1 million or 5.4%.
This decrease was attributable primarily to a decrease of $75.6 million in net loans and a decrease in cash and cash equivalents of $31.0 million,
which were offset by increases in investment securities of $26.1 million and OREO of $15.3 million. The decrease in loans was attributable to
principal reductions by customers outpacing loan originations and advances, as well as $15.9 million in loan charge-offs and the transfer of loan
balances totaling $32.3 million to OREO.
The Bank’s total risk-based capital was $73.2 million at December 31, 2014. The Bank’s consent order with its primary regulators required its
Board of Directors to adopt and implement a plan to reduce its construction and development loans to not more than 75% of total risk-based
capital. These loans totaled $33.2 million, or 45% of total risk-based capital, at December 31, 2014. The consent order also required a plan to
reduce non-owner occupied commercial real estate loans, construction and development loans, and multifamily residential real estate loans as a
group, to not more than 250% of total risk-based capital. These loans totaled $193.0 million, or 262% of total risk-based capital, at December 31,
2014.
Total assets at December 31, 2013 were $1.076 billion compared with $1.163 billion at December 31, 2012, a decrease of $86.5 million or 7.4%.
This decrease was attributable primarily to a decrease of $189.8 million in loans. The decrease in loans was attributable to principal reductions
by customers outpacing loan originations and advances, as well as $32.6 million in loan charge-offs and the transfer of loan balances totaling
$20.6 million to OREO.
Loans Receivable – Loans receivable decreased $84.3 million, or 11.9%, during the year ended December 31, 2014, to $625.0 million. Our
commercial, commercial real estate and real estate construction portfolios decreased by an aggregate of $52.4 million, or 13.1%, during 2014
and comprised 55.5% of the total loan portfolio at December 31, 2014.
Loans receivable decreased $189.8 million, or 21.1%, during the year ended December 31, 2013, to $709.3 million. Our commercial,
commercial real estate and real estate construction portfolios decreased by an aggregate of $126.9 million, or 24.1%, during 2013, comprising
56.3% of the total loan portfolio at December 31, 2013.
Loan Portfolio Composition – The following table presents a summary of the loan portfolio at the dates indicated, net of deferred loan fees, by
type. There are no foreign loans in our portfolio and other than the categories noted, there is no concentration of loans in any industry exceeding
10% of total loans, with the exception of loans for retail facilities (included in other commercial real estate below). Those loans totaled
$71.1 million at December 31, 2014 and $98.5 million at December 31, 2013.
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total loans
As of December 31,
2014
Amount Percent
2013
Amount Percent
$ 60,936
(dollars in thousands)
9.75 % $ 52,878
7.45 %
33,173
77,419
175,452
5.31
12.39
28.07
43,326
71,189
232,026
6.11
10.04
32.71
41,891
197,278
11,347
26,966
537
$ 624,999
6.70
31.56
1.82
4.31
0.09
100.0 %
46,858
228,505
14,365
19,199
980
$ 709,326
6.61
32.21
2.03
2.71
0.13
100.00 %
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Table of Contents
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total loans
2012
Amount Percent
As of December 31,
2011
Amount
(dollars in thousands)
Percent
2010
Amount
Percent
$ 52,567 5.85 % $
71,216 6.27 % $
90,290 6.93 %
70,284 7.82
80,825 8.99
322,687 35.89
101,471 8.93
90,958 8.01
423,844 37.31
199,524 15.32
85,523 6.56
441,844 33.92
50,986 5.67
278,273 30.95
20,383 2.27
22,317 2.48
770 0.08
60,410 5.31
337,350 29.70
26,011 2.29
23,770 2.09
993 0.09
74,919 5.75
353,418 27.13
31,913 2.45
24,177 1.86
1,060 0.08
$ 899,092
100.00 % $ 1,136,023
100.00 % $ 1,302,668
100.00 %
Our lending activities are subject to a variety of lending limits imposed by state and federal law. The Bank’s secured legal lending limit to a
single borrower was approximately $18.1 million at December 31, 2014.
At December 31, 2014, we had three loan relationships each with aggregate extensions of credit in excess of $10.0 million, all of which were
classified as pass by the Bank’s internal loan review process. In 2013, we had four loan relationships each with aggregate extensions of credit in
excess of $10.0 million. At December 31, 2013, two of the four relationships included loans that had been classified as substandard by the
Bank’s internal loan review process. For further discussion of classified loans refer to the asset quality discussion in our “Allowance for Loan
Losses” section.
Our real estate construction portfolio declined approximately $10.2 million from 2013 to 2014. This decrease was the result of construction
projects being completed and sold to end users or refinanced under permanent financing arrangements and loans in this category being
transferred to OREO through the normal progression of collection, workout, and ultimate disposition.
As of December 31, 2014, we had $7.0 million of loan participations purchased from, and $28.0 million of loan participations sold to, other
banks. As of December 31, 2013, we had $7.2 million of loan participations purchased from, and $38.2 million of loan participations sold to,
other banks.
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Table of Contents
Loan Maturity Schedule – The following table sets forth information at December 31, 2014, regarding the dollar amount of loans, net of
deferred loan fees, maturing in the loan portfolio based on their contractual terms to maturity:
Loans with fixed rates:
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total fixed rate loans
Loans with floating rates:
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total floating rate loans
Maturing
Within
One
Year
As of December 31, 2014
Maturing
1 through
5 Years
Maturing
Over 5
Years
(dollars in thousands)
Total
Loans
$ 4,026 $ 19,549 $
681 $ 24,256
5,837
10,065
48,088
11,525
15,968
60,305
402
6,257
20,692
17,764
32,290
129,085
757
19,607
1,516
2,408
74
26,116
83,563
8,164
2,431
206
7,030
45,301
1,333
294
237
$ 92,378
$ 227,827
$ 82,227
33,903
148,471
11,013
5,133
517
$ 402,432
$ 11,602
$ 16,285
$ 8,793
$ 36,680
4,266
3,221
2,680
10,563
3,675
22,444
580
38,233
21,243
15,409
45,129
46,367
46
5,382
176
8,177
—
$ 35,550
6,218
6,630
109
13,560
—
$ 79,484
1,724
36,795
49
96
20
$ 107,533
7,988
48,807
334
21,833
20
$ 222,567
Loan Portfolio by Risk Category – The following table presents a summary of the loan portfolio at the dates indicated, by risk category.
2014
2013
2012
2011
2010
As of December 31,
Pass
Watch
Special Mention
Substandard
Doubtful
Total
(in thousands)
$ 461,126 $ 369,529 $ 437,886 $ 713,822 $ 984,636
68,200 144,316 177,419 143,247 130,335
18,988
91,484 189,616 248,691 229,641 168,691
18
— —
$ 624,999 $ 709,326 $ 899,092 $ 1,136,023 $ 1,302,668
5,865 34,700
48,922
4,189
396
391
Our loans receivable decreased $84.3 million, or 11.9%, during the year ended December 31, 2014. All loan risk categories have decreased since
December 31, 2013, with the exception of pass graded loans. The pass category increased approximately $91.6 million, the watch category
declined approximately $76.2 million, the special mention category declined approximately $1.7 million, and the substandard category declined
approximately $98.1 million. During the first quarter of 2014, management instituted a new risk category within its pass classification. The
purpose was to better identify certain loans where the borrower’s sustained satisfactory repayment history was deemed a more relevant predictor
of future loss than certain underwriting criteria at origination. The establishment of this new pass risk category helps to ensure the watch risk
category remains transitory and event driven in nature. A total of $24.2 million in commercial, $8.5 million in residential, and $2.2 million in
agriculture loans were reclassified from watch to the new pass risk category during the first quarter of 2014.
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In December 2014, the Company identified and transferred certain substandard accruing loans to loans held for sale. The loans were transferred
to held for sale at the lower of cost or fair value. The Company identified $10.7 million of loans to sell and recorded a $1.8 million charge to the
allowance for loan losses to reduce the loan balances to the estimated fair value. Loans held for sale total $8.9 million at December 31, 2014,
comprised of $6.0 million in commercial real estate, $1.9 million in 1-4 family residential real estate, and $1.0 million in multi-family real estate.
These loans were not past due at December 31, 2014.
Loan Delinquency – The following table presents a summary of loan delinquencies at the dates indicated.
2014
2013
As of December 31,
2012
(in thousands)
2011
2010
Past Due Loans:
30-59 Days
60-89 Days
90 Days and Over
Total Loans Past Due 30-90+ Days
Nonaccrual Loans
Total Past Due and Nonaccrual Loans
980
151
$ 3,960 $ 10,696 $ 38,219 $ 17,346 $ 20,956
3,947 6,148
775 20,303
594
1,350
86
232
27,698
58,608
5,091
47,175
59,799
94,517
$ 52,266 $ 113,470 $ 153,125 $ 114,663 $ 87,497
11,703
101,767
22,643
92,020
Loans past due 30-59 days decreased from $10.7 million at December 31, 2013 to $4.0 million at December 31, 2014, and loans past due 60-
89 days increased from $775,000 at December 31, 2013 to $980,000 at December 31, 2014. This represents a $6.5 million decrease from
December 31, 2013 to December 31, 2014, in loans past due 30-89 days. We considered this trend in delinquency levels during the evaluation of
qualitative trends in the portfolio when establishing the general component of our allowance for loan losses.
Loans more than 90 days past due decreased $81,000, and nonaccrual loans decreased $54.6 million, respectively, from December 31, 2013 to
December 31, 2014. The $47.2 million in non-performing loans at December 31, 2014, and $102.0 million at December 31, 2013, were
primarily construction, land development, other land, commercial real estate, and residential real estate loans. Weakness in housing unit sales
and loss of tenants or inability to lease vacant office and retail space placed inordinate stress on these borrowers and their ability to repay
according to the contractual terms of the loans. As such, we have placed these credits on nonaccrual and have begun the appropriate collection
actions to resolve them. Management believes it has established adequate loan loss reserves for these credits.
Non-Performing Assets – Non-performing assets consist of certain restructured loans for which interest rate or other terms have been
renegotiated, loans past due 90 days or more still on accrual, loans on which interest is no longer accrued, real estate acquired through
foreclosure and repossessed assets. Loans, including impaired loans, are placed on nonaccrual status when they become past due 90 days or more
as to principal or interest, unless they are adequately secured and in the process of collection. Loans are considered impaired if full principal or
interest payments are not anticipated in accordance with the contractual loan terms. Impaired loans are carried at the present value of expected
future cash flows discounted at the loan’s effective interest rate or at the fair value of the collateral less cost to sell if the loan is collateral
dependent. Loans are reviewed on a regular basis and normal collection procedures are implemented when a borrower fails to make a required
payment on a loan. If the delinquency on a mortgage loan exceeds 120 days and is not cured through normal collection procedures or an
acceptable arrangement is not worked out with the borrower, we institute measures to remedy the default, including commencing a foreclosure
action. Consumer loans generally are charged off when a loan is deemed uncollectible by management and any available collateral has been
disposed of. Commercial business and real estate loan delinquencies are handled on an individual basis by management with the advice of legal
counsel.
Interest income on loans is recognized on the accrual basis except for those loans placed on nonaccrual status. The accrual of interest on
impaired loans is discontinued when management believes, after consideration of economic and business conditions and collection efforts, that
the borrowers’ financial condition is such that collection of interest is doubtful, which typically occurs after the loan becomes 90 days
delinquent. When interest accrual is discontinued, existing accrued interest is reversed and interest income is subsequently recognized only to the
extent cash payments are received on well-secured loans.
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Table of Contents
Real estate acquired as a result of foreclosure or by deed in lieu of foreclosure is classified as real estate owned until such time as it is sold. New
and used automobiles and other motor vehicles acquired as a result of foreclosure are classified as repossessed assets until they are sold. When
such property is acquired it is recorded at its fair market value less cost to sell. Any write-down of the property at the time of acquisition is
charged to the allowance for loan losses. Subsequent gains and losses are included in non-interest expense.
The following table sets forth information with respect to non-performing assets as of the dates indicated:
2014
2013
As of December 31,
2012
(dollars in thousands)
2011
2010
Past due 90 days or more still on accrual
Loans on nonaccrual status
Total non-performing loans
Real estate acquired through foreclosure
Other repossessed assets
Total non-performing assets
Non-performing loans to total loans
Non-performing assets to total assets
Allowance for non-performing loans
Allowance for non-performing loans to non-performing loans
$
151 $
232 $
86 $ 1,350 $
47,175
47,326
46,197
—
$ 93,523
101,767
101,999
30,892
—
$ 132,891
94,517
94,603
43,671
—
$ 138,274
92,020
93,370
41,449
5
$ 134,824
594
59,799
60,393
67,635
52
$ 128,080
7.57 %
9.19 %
14.38 %
12.35 %
10.52 %
11.89 %
8.22 %
9.26 %
4.63 %
7.43 %
$ 1,253
$ 2,285
$ 13,250
$ 11,382
$ 7,977
2.7 %
2.2 %
14.0 %
12.2 %
13.2 %
Troubled Debt Restructuring – A troubled debt restructuring (TDR) occurs when the Company has agreed to a loan modification in the form
of a concession to a borrower who is experiencing financial difficulty. The majority of the Company’s TDRs involve a reduction in interest rate,
a deferral of principal for a stated period of time, or an interest only period. All TDRs are considered impaired, and the Company has allocated
reserves for these loans to reflect the present value of the concessionary terms granted to the borrower. If the loan is considered collateral
dependent, it is reported net of allocated reserves, at the fair value of the collateral less cost to sell.
We do not have a formal loan modification program. Rather, we work with individual borrower on a case-by-case basis to facilitate the orderly
collection of our principal and interest before a loan becomes a non-performing loan. If a borrower is unable to make contractual payments, we
review the particular circumstances of that borrower’s situation and negotiate a revised payment stream. In other words, we identify performing
borrowers experiencing financial difficulties, and through negotiations, we lower their interest rate, most typically on a short-term basis for three
to six months. Our goal when restructuring a credit is to afford the borrower a reasonable period of time to remedy the issue causing cash flow
constraints within their business so that they can return to performing status over time.
Our loan modifications have taken the form of reduction in interest rate and/or curtailment of scheduled principal payments for a short-term
period, usually three to six months, but in some cases until maturity of the loan. In some circumstances we restructure real estate secured loans in
a bifurcated fashion whereby we have a fully amortizing “A” loan at a market interest rate and an interest-only “B” loan at a reduced interest
rate. The majority of our restructured loans are collateral secured loans. If a borrower fails to perform under the modified terms, we place the
loan(s) on nonaccrual status and begin the process of working with the borrower to liquidate the underlying collateral to satisfy the debt.
At December 31, 2014, we had 52 restructured loans totaling $42.5 million with borrowers who experienced deterioration in financial condition
compared with 98 loans totaling $91.3 million at December 31, 2013. In general, these loans were granted interest rate reductions to provide
cash flow relief to borrowers experiencing cash flow difficulties. Of these restructured loans for 2014, four loans totaling approximately
$3.9 million were also granted principal payment deferrals until maturity. There were no concessions made to forgive principal relative to these
loans, although we have recorded partial charge-offs for certain restructured loans. In general, these loans are secured by first liens on 1-4
residential or commercial real estate properties, or farmland. Restructured loans also included $883,000 of commercial loans for 2014. At
December 31, 2014, $22.0 million of TDRs were performing according to their modified terms.
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Table of Contents
The following table sets forth information with respect to TDRs, non-performing loans, real estate acquired through foreclosure, and other
repossessed assets.
Total non-performing loans
TDRs on accrual
Total non-performing loans and TDRs on accrual
Real estate acquired through foreclosure
Other repossessed assets
Total non-performing assets and TDRs on accrual
2014
2013
2011
As of December 31,
2012
(dollars in thousands)
$ 47,326 $ 101,999 $ 94,603 $ 93,370 $ 60,393
25,543
21,985
$ 85,936
$ 69,311
67,635
46,197
52
—
$ 153,623
$ 115,508
74,144
$ 167,514
41,449
5
$ 208,968
44,346
$ 146,345
30,892
—
$ 177,237
77,344
$ 171,947
43,671
—
$ 215,618
2010
Total non-performing loans and TDRs on accrual to total loans
Total non-performing assets and TDRs on accrual to total assets
11.09 %
11.35 %
20.63 %
16.47 %
19.12 %
18.55 %
14.75 %
14.36 %
6.60 %
8.91 %
We consider any loan that is restructured for a borrower experiencing financial difficulties due to a borrower’s potential inability to pay in
accordance with contractual terms of the loan to be a troubled debt restructure. Specifically, we consider a concession involving a modification
of the loan terms, such as (i) a reduction of the stated interest rate, (ii) reduction or deferral of principal, or (iii) reduction or deferral of accrued
interest at a stated interest rate lower than the current market rate for new debt with similar risk all to be troubled debt restructurings. When a
modification of terms is made for a competitive reason, we do not consider that to be a troubled debt restructuring. A primary example of a
competitive modification would be an interest rate reduction for a performing customer’s loan to a market rate as the result of a market decline in
rates.
Management periodically reviews renewals/modifications of previously identified TDRs for which there was no principal forgiveness, to
consider if it is appropriate to remove the TDR classification. If the borrower is no longer experiencing financial difficulty and the
renewal/modification did not contain a concessionary interest rate or other concessionary terms, management considers the potential removal of
the TDR classification. If deemed appropriate, the TDR classification is removed as the borrower has complied with the terms of the loan at the
date of renewal/modification and there was a reasonable expectation that the borrower would continue to comply with the terms of the loan after
the date of the renewal/modification. In this instance, the TDR was originally considered a restructuring in a prior year as a result of a
modification with an interest rate that was not commensurate with the risk of the underlying loan. Additionally, TDR classification can be
removed in circumstances in which the Company performs a non-concessionary re-modification of the loan at terms that were considered to be
at market for loans with comparable risk. Management expects the borrower will continue to perform under the re-modified terms based on the
borrower’s past history of performance.
At December 31, 2014 and 2013, TDRs totaled $42.5 million and $91.3 million, respectively. During the twelve months ended December 31,
2014, TDRs were reduced as a result of $17.1 million in payments, the transfer of $4.5 million to loans held for sale, and the transfer of
$16.7 million to OREO. In addition, the TDR classification was removed from two loans that met the requirements discussed above in the
second quarter of 2014. These two loans totaled $7.3 million at December 31, 2013. These loans are no longer evaluated individually for
impairment.
If the borrower fails to perform, we place the loan on nonaccrual status and seek to liquidate the underlying collateral. Our nonaccrual policy for
restructured loans is identical to our nonaccrual policy for all loans. Our policy calls for a loan to be reported as nonaccrual if it is maintained on
a cash basis because of deterioration in the financial condition of the borrower, payment in full of principal and interest is not expected, or
principal or interest is past due 90 days or more unless the assets are both well secured and in the process of collection. Changes in value for
impairment, including the amount attributed to the passage of time, are recorded entirely within the provision for loan losses. Upon
determination that a loan is collateral dependent, the loan is charged down to the fair value of collateral less estimated costs to sell.
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Table of Contents
See Footnote 4, “Loans”, to the financial statements for additional disclosure related to troubled debt restructuring.
Interest income that would have been earned on non-performing loans was $3.3 million, $5.6 million, and $4.9 million for the years ended
December 31, 2014, 2013, and 2012, respectively. Interest income recognized on accruing non-performing loans was $785,000, $895,000, and
$460,000 for the years ended December 31, 2014, 2013, and 2012, respectively.
Allowance for Loan Losses – The allowance for loan losses is based on management’s continuing review and evaluation of individual loans,
loss experience, current economic conditions, risk characteristics of various categories of loans and such other factors that, in management’s
judgment, require current recognition in estimating loan losses.
Management has established loan grading procedures that result in specific allowance allocations for any estimated inherent risk of loss. For
loans not individually evaluated, a general allowance allocation is computed using factors developed over time based on actual loss
experience. The specific and general allocations plus consideration of qualitative factors represent management’s estimate of probable losses
contained in the loan portfolio at the evaluation date. Although the allowance for loan losses is comprised of specific and general allocations, the
entire allowance is available to absorb any credit losses.
The following table sets forth an analysis of loan loss experience as of and for the periods indicated:
Balances at beginning of period
Loans charged-off:
Real estate
Commercial
Consumer
Agriculture
Total charge-offs
Recoveries:
Real estate
Commercial
Consumer
Agriculture
Total recoveries
Net charge-offs
Provision for loan losses
Balance at end of period
Allowance for loan losses to period-end loans
Net charge-offs to average loans
Allowance for loan losses to non-performing loans
Allowance for loan losses for loans individually evaluated for
impairment
Loans individually evaluated for impairment
Allowance for loan losses to loans individually evaluated for
impairment
Allowance for loan losses for loans collectively evaluated for
impairment
Loans collectively evaluated for impairment
Allowance for loan losses to loans collectively evaluated for
impairment
2014
2013
$ 28,124
$ 56,680
As of December 31,
2012
(dollars in thousands)
$ 52,579
17,943
1,099
354
30
19,426
2,726
614
213
13
3,566
15,860
7,100
$ 19,364
28,879
2,828
773
128
32,608
1,622
1,212
266
252
3,352
29,256
700
$ 28,124
31,437
3,784
1,130
1,164
37,515
1,040
129
125
72
1,366
36,149
40,250
$ 56,680
2011
2010
$ 34,285
$
26,392
38,538
4,197
1,070
841
44,646
184
69
87
—
340
44,306
62,600
$ 52,579
19,261
2,675
496
29
22,461
114
28
104
8
254
22,207
30,100
34,285
$
3.10 %
2.39 %
40.92 %
3.96 %
3.71 %
27.57 %
6.30 %
3.50 %
59.91 %
4.63 %
3.56 %
56.31 %
2.63 %
1.64 %
56.77 %
$
752
71,993
$ 3,471
149,883
$ 21,034
188,808
$ 12,314
150,727
$
5,119
71,726
1.04 %
2.32 %
11.14 %
8.17 %
7.14 %
$ 18,612
553,006
$ 24,653
559,443
$ 35,646
710,284
$ 40,265
985,296
$
29,166
1,230,942
3.37 %
4.41 %
5.02 %
4.09 %
2.37 %
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Table of Contents
Our allowance for loan losses is a reserve established through charges to earnings in the form of a provision for loan losses. The allowance for
loan losses is comprised of general reserves and specific reserves. Our loan loss reserve, as a percentage of total loans at December 31, 2014,
decreased to 3.10% from 3.96% at December 31, 2013. The change in our loan loss reserve as a percentage of total loans between periods is
attributable to the decline in historical loss experience, qualitative factors, fewer loans migrating downward in risk grade classifications, charge-
off levels, and provision expense. Our allowance for loan losses to non-performing loans was 40.92% at December 31, 2014, compared with
27.57% at December 31, 2013. Net charge-offs in 2014 totaled $15.9 million of which $13.7 million were the result of charging off the
allowance for individually evaluated loans deemed to be collateral dependent during the period. This resulted in the decline in our allowance for
loan losses for loans individually evaluated for impairment.
The following table sets forth the net charge-offs (recoveries) for the periods indicated:
Commercial
Commercial Real Estate
Residential Real Estate
Consumer
Agriculture
Other
Total net charge-offs
Year Ended
December 31,
Year Ended
December 31,
Year Ended
December 31,
$
2014
485
11,878
3,339
167
17
(26 )
2013
(in thousands)
$
1,616
20,045
7,212
507
(124 )
—
$
$
15,860
$
29,256
$
2012
3,655
21,531
8,866
1,005
1,092
—
36,149
We maintain a general reserve for each loan type in the loan portfolio. In determining the amount of the general reserve portion of our allowance
for loan losses, management considers factors such as our historical loan loss experience, the growth, composition and diversification of our loan
portfolio, current delinquency levels, loan quality grades, the results of recent regulatory examinations and general economic conditions. Based
on these factors, we apply estimated percentages to the various categories of loans, not including any loan that has a specific allowance allocated
to it, based on our historical experience, portfolio trends and economic and industry trends. This information is used by management to set the
general reserve portion of the allowance for loan losses at a level it deems prudent.
Generally, all loans that have been identified as impaired are reviewed on a quarterly basis in order to determine whether a specific allowance is
required. A loan is considered impaired when, based on current information, it is probable that we will not receive all amounts due in accordance
with the contractual terms of the loan agreement. Once a loan has been identified as impaired, management measures impairment in accordance
with ASC 310.10, “Impairment of a Loan.” When management’s measured value of the impaired loan is less than the recorded investment in the
loan, the amount of the impairment is recorded as a specific reserve or charged-off if the loan is deemed collateral dependent. These specific
reserves are determined on an individual loan basis based on management’s current evaluation of our loss exposure for each credit given the
payment status, financial condition of the borrower and value of any underlying collateral. Loans for which specific reserves have been provided
are excluded from the general reserve calculations described below. Changes in specific reserves from period to period are the result of changes
in the circumstances of individual loans such as charge-offs, pay-offs, changes in collateral values or other factors.
The allowance for loan losses represents management’s estimate of the amount necessary to provide for probable losses in the loan portfolio in
the normal course of business. Due to the uncertainty of risks in the loan portfolio, management’s judgment of the amount of the allowance
necessary to absorb loan losses is approximate. The allowance for loan losses is also subject to regulatory examinations and may be adjusted in
response to a determination by the regulatory agencies as to its adequacy in comparison with peer institutions.
We make specific allowances for each impaired loan based on its type and risk classification as discussed above. At year-end 2014, our
allowance for loan losses to total non-performing loans increased to 40.9% from 27.6% at year-end 2013. It is important to look more closely at
this ratio as a significant portion of our impaired loans are collateral dependent and have been charged down to the estimated fair value of the
underlying collateral less cost to sell. Please see the next table for comparison and disclosure of our recorded investment less allocated allowance
relative to the unpaid principal balance. We have assessed these impaired loans for collectability and considered, among other things, the
borrower’s ability to repay, the value of the underlying collateral, and other market conditions to ensure that the allowance for loan losses is
adequate to absorb probable incurred losses.
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The following table presents the unpaid principal balance, recorded investment and allocated allowance related to loans individually evaluated
for impairment in the commercial real estate and residential real estate portfolios as of December 31, 2014 and 2013.
December 31, 2014
December 31, 2013
Commercial
Residential
Commercial
Residential
Real Estate
Real Estate
Real Estate
Real Estate
(in thousands)
Unpaid principal balance
Prior charge-offs
Recorded investment
Allocated allowance
Recorded investment, less allocated allowance
Recorded investment, less allocated allowance/ Unpaid principal balance
$ 65,899
(17,758 )
48,141
(491 )
$ 47,650
$ 24,633
(3,249 )
21,384
(227 )
$ 21,157
$ 116,740
(22,410 )
94,330
(2,345 )
$ 91,985
$ 56,665
(7,153 )
49,512
(827 )
$ 48,685
72.31 %
85.89 %
78.79 %
85.92 %
Based on previous charge-offs, our current recorded investment in the commercial real estate and residential real estate segments are
significantly below the unpaid principal balance for the loans. Consideration of the recorded investment and allocated allowance further
indicated, we are at 72.31% and 85.89% of the unpaid principal balance in the commercial real estate and residential real estate segments of the
portfolio, respectively, at December 31, 2014.
The following table illustrates recent trends in loans collectively evaluated for impairment and the related allowance for loan losses by portfolio
segment:
December 31, 2014
December 31, 2013
Commercial
Commercial real estate
Residential real estate
Consumer
Agriculture
Other
Total
% to
Total
% to
Total
Loans
Allowance
Allowance
Loans
(dollars in thousands)
$ 58,914 $ 2,013 3.42 % $ 47,883 $ 2,931 6.12 %
237,903 10,440 4.39 252,211 14,069 5.58
217,785 5,560 2.55 225,851 6,935 3.07
407 2.85
273 2.42 14,272
11,286
305 1.62
319 1.19 18,877
26,703
6 1.72
349
415
7 1.69
$ 553,006 $ 18,612
3.37 % $ 559,443 $ 24,653
4.41 %
Loans collectively evaluated for impairment and the related allowance for loan losses trended downward from 4.41% at December 31, 2013 to
3.37% at December 31, 2014 as a result of declining historical charge-off levels and improving trends in loan category risk ratings. The
residential real estate segment constitutes approximately 39% of total loans collectively evaluated for impairment. The related allowance for the
residential real estate segment trended downward from 3.07% at December 31, 2013 to 2.55% at December 31, 2014 as our net charge-offs
declined from approximately $7.2 million in 2013 to $3.3 million in 2014. The commercial real estate segment constitutes approximately 43% of
total loans collectively evaluated for impairment. The related allowance for the commercial real estate segment trended downward from 5.58% at
December 31, 2013 to 4.39% at December 31, 2014. This is consistent with our net charge-off experience in the commercial real estate segment
of the portfolio which totaled approximately $20.0 million in 2013 and $11.9 million in 2014. The decreasing allowance also reflects improving
past due trends, nonaccrual trends, and loan classification trends within the portfolio.
A significant portion of our portfolio is comprised of loans secured by real estate. A decline in the value of the real estate serving as collateral for
our loans may impact our ability to collect those loans. In general, we obtain updated appraisals on property securing our loans when
circumstances are warranted such as at the time of renewal or when market conditions have significantly changed. We use qualified licensed
appraisers approved by our Board of Directors. These appraisers possess prerequisite certifications and knowledge of the local and regional
marketplace.
Based on an evaluation of the loan portfolio, management presents a quarterly review of the allowance for loan losses to our Board of Directors,
indicating any change in the allowance for loan losses since the last review and any recommendations as to adjustments in the allowance for loan
losses.
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This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available
or as events change. We decreased the allowance for loan losses as a percentage of loans outstanding to 3.10% at December 31, 2014 from
3.96% at December 31, 2013. This decline is the result of declining historical charge-off levels and improving trends in loan category risk
ratings. The level of the allowance is based on estimates and the ultimate losses may vary from these estimates.
We follow a loan grading program designed to evaluate the credit risk in our loan portfolio. Through this loan grading process, we maintain an
internally classified watch list which helps management assess the overall quality of the loan portfolio and the adequacy of the allowance for
loan losses. Loans categorized as watch list loans show warning elements where the present status exhibits one or more deficiencies that require
attention in the short-term or where pertinent ratios of the loan account have weakened to a point where more frequent monitoring is warranted.
These loans do not have all of the characteristics of a classified loan (substandard or doubtful) but do show weakened elements as compared with
those of a satisfactory credit. We review these loans to assist in assessing the adequacy of the allowance for loan losses.
In establishing the appropriate classification for specific assets, management considers, among other factors, the borrower’s ability to repay, the
borrower’s repayment history, the current delinquent status, and the estimated value of the underlying collateral. As a result of this process, loans
are categorized as special mention, substandard or doubtful.
Loans classified as “special mention” do not have all of the characteristics of substandard or doubtful loans. They have one or more deficiencies
which warrant special attention and which corrective action, such as accelerated collection practices, may remedy.
Loans classified as “substandard” are those loans with clear and defined weaknesses such as a highly leveraged position, unfavorable financial
ratios, uncertain repayment sources or poor financial condition which may jeopardize the repayment of the debt as contractually agreed. They are
characterized by the distinct possibility that we will sustain some losses if the deficiencies are not corrected.
Loans classified as “doubtful” are those loans which have characteristics similar to substandard loans but with an increased risk that collection or
liquidation in full is highly questionable and improbable.
Specific reserves may be carried for accruing TDRs in compliance with restructured terms. Once a loan is deemed impaired or uncollectible as
contractually agreed (other than performing TDRs), the loan is charged-off either partially or in-full against the allowance for loan losses, based
upon the expected future cash flows discounted at the loan’s effective interest rate, or the fair value of collateral less estimated cost to sell with
respect to collateral-based loans if collateral dependent.
As of December 31, 2014, we had $91.5 million of loans classified as substandard, $4.2 million classified as special mention and none classified
as doubtful or loss. This compares with $189.6 million of loans classified as substandard, $5.9 million classified as special mention and none
classified as doubtful or loss as of December 31, 2013. The $98.1 million decrease in loans classified as substandard was primarily driven by
$40.7 in principal payments received, $30.6 in migration to OREO, and $19.1 in charge-offs. In addition, the Company transferred $8.9 million
in substandard accruing loans to loans held for sale in December 2014. Substandard loans are primarily concentrated in the commercial real
estate portfolio. As of December 31, 2014, we had allocations of $4.0 million in the allowance for loan losses related to these substandard loans.
This compares to allocations of $12.5 million in the allowance for loan losses related to substandard loans at December 31, 2013.
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The following table depicts management’s allocation of the allowance for loan losses by loan type. Allowance funding and allocation is based on
management’s current evaluation of risk in each category, economic conditions, past loss experience, loan volume, past due history and other
factors. Since these factors and management’s assumptions are subject to change, the allocation is not necessarily predictive of future portfolio
performance. The allocation is made by analytical purposes and is not necessarily indicative of the categories in which future losses may occur.
The total allowance is available to absorb losses from any segment of loans.
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Unallocated
Total
As of December 31,
2014
2013
Amount of
Allowance
$ 2,046
Percent of
Loans to
Total
Loans
Amount of
Allowance
Percent of
Loans to
Total
Loans
(dollars in thousands)
9.75 %
$ 3,221
7.45 %
739
1,094
9,098
5.31
12.39
28.07
2,149
1,623
12,642
6.11
10.04
32.71
886
4,901
274
319
7
$ 19,364
6.70
31.56
1.82
4.31
0.09
100.0 %
1,449
6,313
416
305
6
$ 28,124
6.61
32.21
2.03
2.71
0.13
100.00 %
2012
Percent of
Loans to
Total
Loans
Amount of
Allowance
As of December 31,
2011
Percent of
Amount
of
Allowance
Loans to
Total
Loans
(dollars in thousands)
2010
Percent of
Amount
of
Allowance
Loans to
Total
Loans
$ 4,402
5.85 % $ 4,207
6.27 % $ 2,147
6.93 %
7.82
5,989
8.99
2,600
26,179 35.89
8.93
13,920
8.01
2,023
17,081 37.31
11,164 15.32
6.56
12,209 33.92
702
2,464
5.67
13,771 30.95
2.27
857
2.48
403
0.08
15
— —
1,797
5.31
12,420 29.70
2.29
2.09
0.09
— —
792
325
14
517
5.75
6,707 27.13
2.45
701
1.86
134
4
0.08
— —
$ 56,680
100.0 % $ 52,579
100.0 % $ 34,285
100.00 %
Provision for Loan Losses – Provision expense of $7.1 million was recorded for the year ended December 31, 2014, compared with $700,000
for 2013 and $40.3 million for 2012. The total allowance for loan losses was $19.4 million, or 3.10% of total loans, at December 31, 2014,
compared with $28.1 million, or 3.96% of total loans, at December 31, 2013, and $56.7 million, or 6.30% of total loans, at December 31, 2012.
The decreased allowance is consistent with the decrease in our classified loans of $175.9 million from December 31, 2013 to December 31, 2014
and loan charge-off trends. Net charge-offs were $15.9 million for the year ended December 31, 2014, compared with $29.3 million for 2013
and $36.1 million for 2012. Charge-offs for 2014 were concentrated in the loans secured by real estate category of the portfolio. Real estate net
charge-offs represent 95.95% of our net charge-offs for 2014. These net charge-offs consisted of $10.9 million of commercial real estate loans,
$3.3 million of residential real estate loans, and $1.0 million of construction and land development loans. During the first quarter of 2014,
management instituted a new risk category within its pass classification. The purpose was to better identify certain loans where the borrower’s
sustained satisfactory repayment history was deemed a more relevant predictor of future loss than certain underwriting criteria at origination.
The establishment of this new pass risk category helps to ensure the watch risk category remains transitory and event driven in nature. A total of
$24.2 million in commercial, $8.5 million in residential, and $2.2 million in agriculture loans were reclassified from watch to the new pass risk
category during the first quarter. We consider the size and volume of our portfolio as well as the credit quality of our loan portfolio based upon
risk category classification when determining the loan loss provision for each period and the allowance for loan losses at period end.
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Foreclosed Properties – Foreclosed properties at December 31, 2014 were $46.2 million compared with $30.9 million at December 31, 2013.
See Footnote 6, “Other Real Estate Owned”, to the financial statements. During 2014, we acquired $32.3 million of OREO properties and sold
properties totaling approximately $13.1 million. We value foreclosed properties at fair value less estimated cost to sell when acquired and expect
to liquidate these properties to recover our investment in the due course of business.
OREO is recorded at fair market value less estimated cost to sell at time of acquisition. Any write-down of the property at the time of acquisition
is charged to the allowance for loan losses. Subsequent reductions in fair value are recorded as non-interest expense. To determine the fair value
of OREO for smaller dollar single family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers. If
the internally evaluated market price is below our underlying investment in the property, appropriate write-downs are recorded.
For larger dollar commercial real estate properties, we obtain a new appraisal of the subject property or have staff in our special assets group or
centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to OREO. In some of these circumstances, an
appraisal is in process at quarter end and we must make our best estimate of the fair value of the underlying collateral based on our internal
evaluation of the property, our review of the most recent appraisal, and discussions with the currently engaged appraiser. We typically obtain
updated appraisals within five quarters of the anniversary date of ownership unless a sale is imminent.
The following table presents the major categories of OREO at the year-ends indicated:
Commercial Real Estate:
Construction, land development, and other land
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Net activity relating to other real estate owned during the years indicated is as follows:
OREO Activity
OREO as of January 1
Real estate acquired
Valuation adjustments for declining market values
Improvements
Net gain (loss) on sale
Proceeds from sale of properties
OREO as of December 31
2014
2013
(in thousands)
2012
$ 18,325
654
14,525
$ 19,049
690
4,888
$ 22,323
602
15,175
4,875
7,818
$ 46,197
246
6,019
$ 30,892
195
5,376
$ 43,671
2014
2013
(in thousands)
2012
$ 30,892
32,338
(4,255 )
—
306
(13,084 )
$ 46,197
$ 43,671
20,606
(2,466 )
—
(132 )
(30,787 )
$ 30,892
$ 41,449
33,528
(7,154 )
1
(1,672 )
(22,481 )
$ 43,671
Net loss on sales, write-downs, and operating expenses for OREO totaled $5.8 million for the year ended December 31, 2014, compared with
$4.5 million for the same period of 2013.
During the year ended December 31, 2014, fair value write-downs of $4.3 million were recorded to reflect declining values evidenced by new
appraisals and our reduction of marketing prices in connection with our sales strategies compared with $2.5 million for the year ended
December 31, 2013. We were successful in selling OREO totaling $13.1 million and $30.9 million during 2014 and 2013, respectively. We
continue to have an elevated level of real estate secured non-performing loans. We expect to resolve a significant level of these non-performing
loans through the acquisition and sale of the underlying real estate collateral.
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Investment Securities – The securities portfolio serves as a source of liquidity and earnings and contributes to the management of interest rate
risk. We have the authority to invest in various types of liquid assets, including short-term United States Treasury obligations and securities of
various federal agencies, obligations of states and political subdivisions, corporate bonds, certificates of deposit at insured savings and loans and
banks, bankers’ acceptances and federal funds. We may also invest a portion of our assets in certain commercial paper and corporate debt
securities. We are also authorized to invest in mutual funds and stocks whose assets conform to the investments that we are authorized to make
directly. The investment portfolio increased by $26.2 million, or 12.6%, to $233.1 million at December 31, 2014, compared with $207.0 million
at December 31, 2013.
The following table sets forth the carrying value of our securities portfolio at the dates indicated.
December 31, 2014
Gross
Unrealized
Gross
Unrealized
Amortized
Cost
Gains
Losses
Amortized
Fair
Value
(dollars in thousands)
Cost
December 31, 2013
Gross
Unrealized
Gross
Unrealized
Gains
Losses
Fair
Value
Securities available for sale
U.S. Government and federal agencies $ 35,725 $
Agency mortgage-backed:
308 $
(590 ) $ 35,443 $ 31,026 $
284 $ (1,444 ) $ 29,866
residential
State and municipal
Corporate
Other debt
Equity
Total available for sale
Securities held to maturity
State and municipal
Total held to maturity
121,985 1,970
722
11,690
18,087
853
572
(357 ) 123,598 102,435
(8 ) 12,404 12,965
(252 ) 18,688 18,002
572
658
135
— — — —
458 (1,950 ) 100,943
(28 ) 13,545
608
(610 ) 18,161
769
632
197
$ 188,059 $ 3,939 $ (1,207 ) $ 190,791 $ 165,135 $ 2,241 $ (4,032 ) $ 163,344
60 —
62 —
86 —
$ 42,325 $ 2,173 $ — $ 44,498 $ 43,612 $
$ 42,325 $ 2,173 $ — $ 44,498 $ 43,612 $
3 $
3 $
(668 ) $ 42,947
(668 ) $ 42,947
The following table sets forth the contractual maturities, fair values and weighted-average yields for our available for sale securities held at
December 31, 2014:
Due Within
One Year
Amount Yield
After One Year
But Within
Five Years
Amount Yield
After Five Years
But Within
Ten Years
Amount Yield
After Ten Years
Amount Yield
Total
Amount Yield
Available for sale
U.S. Government and federal agencies
Agency mortgage-backed:
residential
State and municipal
Corporate bonds
Other debt
$
90 5.27 % $ 979 1.92 % $ 14,673 2.44 % $ 19,701 2.21 % $ 35,443 2.30 %
— — 212 5.18 1,870 2.54 121,516 2.47 123,598 2.48
1,235 5.44 2,075 5.00 8,711 5.05
383 6.19 12,404 5.12
— — 5,533 5.77 1,131 5.14 12,024 2.18 18,688 3.35
658 6.50
— — — — — —
658 6.50
Total available for sale
$ 1,325 5.43 % $ 8,799 5.11 % $ 26,385 3.39 % $ 154,282 2.44 % $ 190,791 2.70 %
The following table sets forth the contractual maturities, amortized cost and weighted-average yields for our held to maturity securities held at
December 31, 2014:
Held to maturity
State and municipal
Total held to maturity
Due Within
One Year
Amount Yield
After One Year
But Within
Five Years
Amount Yield
After Five Years
But Within
Ten Years
Amount Yield
After Ten Years
Amount Yield
Total
Amount Yield
$ — — % $ 446 1.76 % $ 24,984 3.63 % $ 19,068 4.52 % $ 44,498 4.00 %
$ — — % $ 446 1.76 % $ 24,984 3.63 % $ 19,068 4.52 % $ 44,498 4.00 %
Average yields in the table above were calculated on a tax equivalent basis using a federal income tax rate of 35%. Mortgage-backed securities
are securities that have been developed by pooling a number of real estate mortgages. These securities are issued by federal agencies such as
Government National Mortgage Association (“Ginnie Mae”), Fannie Mae and Freddie Mac, as well as non-agency company issuers. These
securities are deemed to have high credit ratings, and minimum regular monthly cash flows of principal and interest. Cash flows from agency
backed mortgage-backed securities are guaranteed by the issuing agencies.
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Unlike U.S. Treasury and U.S. government agency securities, which have a lump sum payment at maturity, mortgage-backed securities provide
cash flows from regular principal and interest payments and principal prepayments throughout the lives of the securities. Mortgage-backed
securities that are purchased at a premium will generally return decreasing net yields as interest rates drop because home owners tend to
refinance their mortgages. Thus, the premium paid must be amortized over a shorter period. Therefore, those securities purchased at a discount
will obtain higher net yields in a decreasing interest rate environment. As interest rates rise, the opposite will generally be true. During a period
of increasing interest rates, fixed rate mortgage-backed securities do not tend to experience heavy prepayments of principal and consequently,
average life will not be shortened. If interest rates begin to fall, prepayments will generally increase. Non-agency issuer mortgage-backed
securities do not carry a government guarantee. We limit our purchases of these securities to bank qualified issues with high credit ratings. We
regularly monitor the performance and credit ratings of these securities and evaluate these securities, as we do all of our securities, for other-
than-temporary impairment on a quarterly basis. At December 31, 2014, 98.3% of the agency mortgage-backed securities we held had
contractual final maturities of more than ten years with a weighted average life of 23.7 years.
Deposits – We attract both short-term and long-term deposits from the general public by offering a wide range of deposit accounts and interest
rates. In recent years, we have been required by market conditions to rely increasingly on short to mid-term certificate accounts and other deposit
alternatives, including brokered and wholesale deposits, which are more responsive to market interest rates. We use forecasts based on interest
rate risk simulations to assist management in monitoring our use of certificates of deposit and other deposit products as funding sources and the
impact of their use on interest income and net interest margin in various rate environments. Our remaining brokered deposits matured during
2013. We are currently restricted from accepting, renewing, or rolling-over brokered deposits without the prior receipt of a waiver on a case-by-
case basis from our regulators.
We primarily rely on our banking office network to attract and retain deposits in our local markets and leverage our online Ascencia division to
attract out-of-market deposits. Market interest rates and rates on deposit products offered by competing financial institutions can significantly
affect our ability to attract and retain deposits. During 2014, total deposits decreased $60.9 million compared with 2013. During 2013, total
deposits decreased $77.4 million compared with 2012. The decrease in deposits for 2014 and 2013 was primarily in certificates of deposit
balances.
To evaluate our funding needs in light of deposit trends resulting from continually changing conditions, we evaluate simulated performance
reports that forecast changes in margins along with other pertinent economic data. We continue to offer attractively priced deposit products along
our product line to allow us to retain deposit customers and reduce interest rate risk during various rising and falling interest rate cycles.
We offer savings accounts, NOW accounts, money market accounts and fixed rate certificates with varying maturities. The flow of deposits is
influenced significantly by general economic conditions, changes in interest rates and competition. Our management adjusts interest rates,
maturity terms, service fees and withdrawal penalties on our deposit products periodically. The variety of deposit products allows us to compete
more effectively in obtaining funds and to respond with more flexibility to the flow of funds away from depository institutions into outside
investment alternatives. However, our ability to attract and maintain deposits and the costs of these funds has been, and will continue to be,
significantly affected by market conditions.
The following table sets forth the average daily balances and weighted average rates paid for our deposits for the periods indicated:
2014
Average
Average
Balance
Rate
For the Years Ended December 31,
2013
Average
Average
Balance
Rate
(dollars in thousands)
2012
Average
Balance
Average
Rate
Demand
Interest Checking
Money Market
Savings
Certificates of Deposit
Total Deposits
Weighted Average Rate
$ 113,150
83,504 0.15 %
96,194 0.55
36,803 0.24
632,020 1.29
$ 106,153
$ 113,325
84,917 0.23 %
69,842 0.50
39,158 0.29
703,982 1.35
$ 1,004,052
89,820 0.37 %
63,212 0.49
38,665 0.40
912,061 1.52
$ 1,217,083
0.92 %
1.01 %
1.20 %
$ 961,671
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The following table sets forth the average daily balances and weighted average rates paid for our certificates of deposit for the periods indicated:
Certificates of Deposit
Less than $100,000
$100,000 or more
Total
2014
For the Years Ended December 31,
2013
Average
Average
Balance
Rate
Average
Average
Rate
Balance
(dollars in thousands)
2012
Average
Average
Balance
Rate
$ 354,250 1.22 % $ 405,758 1.28 % $ 478,502 1.40 %
277,770 1.37 298,224 1.44 433,559 1.64
$ 632,020
1.29 % $ 703,982
1.35 % $ 912,061
1.52 %
The following table shows at December 31, 2014 the amount of our time deposits of $100,000 or more by time remaining until maturity:
Maturity Period
(in thousands)
Three months or less
Three months through six months
Six months through twelve months
Over twelve months
Total
$ 50,811
41,836
93,658
66,767
$ 253,072
We strive to maintain competitive pricing on our deposit products which we believe allows us to retain a substantial percentage of our customers
when their time deposits mature.
Borrowing – Deposits are the primary source of funds for our lending and investment activities and for our general business purposes. We can
also use advances (borrowings) from the FHLB of Cincinnati to supplement our pool of lendable funds, meet deposit withdrawal requirements
and manage the terms of our liabilities. Advances from the FHLB are secured by our stock in the FHLB, and substantially all of our first
mortgage residential loans. At December 31, 2014, we had $15.8 million in advances outstanding from the FHLB and the capacity to increase
our borrowings an additional $13.0 million. The FHLB of Cincinnati functions as a central reserve bank providing credit for savings banks and
other member financial institutions. As a member, we are required to own capital stock in the FHLB and are authorized to apply for advances on
the security of such stock and certain of our home mortgages and other assets (principally, securities which are obligations of, or guaranteed by,
the United States) provided that we meet certain standards related to creditworthiness.
The following table sets forth information about our FHLB advances as of and for the periods indicated:
Average balance outstanding
Maximum amount outstanding at any month-end during the period
End of period balance
Weighted average interest rate:
At end of period
During the period
December 31,
2014
2013
2012
(dollars in thousands)
$ 4,473
16,940
15,752
$ 4,990
5,517
4,492
$ 6,325
7,015
5,604
1.02 %
2.77 %
3.07 %
3.15 %
3.21 %
3.27 %
Subordinated Capital Note – At December 31, 2014, the Bank had a subordinated capital note outstanding in the amount of $5.0 million. The
note is unsecured, bears interest at the BBA three-month LIBOR floating rate plus 300 basis points, and qualifies as Tier 2 capital. Interest only
was due quarterly through September 30, 2010, at which time quarterly principal payments of $225,000 plus interest commenced. The note
matures July 1, 2020. At December 31, 2014, the interest rate on this note was 3.24%.
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Junior Subordinated Debentures – At December 31, 2014, we had four issues of junior subordinated debentures outstanding totaling
$25.0 million as shown in the table below.
Liquidation
Junior
Subordinated
Description
Porter Statutory Trust II
Porter Statutory Trust III
Porter Statutory Trust IV
Ascencia Statutory Trust I
Amount
Trust
Preferred
Securities
End of 20
Quarter
Deferral
Period (1)
$
Issuance
Date
(dollars in thousands)
5,000 2/13/2004 9/19/2016 3-month LIBOR + 2.85 % $
3,000 4/15/2004 9/18/2016 3-month LIBOR + 2.79 %
14,000 12/14/2006 9/1/2016 3-month LIBOR + 1.67 %
3,000 2/13/2004 9/19/2016 3-month LIBOR + 2.85 %
$
$ 25,000
Interest Rate (2)
(dollars in thousands)
5,155 2/13/2034
3,093 4/15/2034
14,434 3/1/2037
3,093 2/13/2034
25,775
Debt and
Investment
in Trust
Maturity
Date
(1) Accrued and unpaid interest totaled $2.2 million at December 31, 2014.
(2) As of December 31, 2014, the 3-month LIBOR was 0.26%.
The trust preferred securities are subject to mandatory redemption, in whole or in part, upon repayment of the subordinated debentures at
maturity or their earlier redemption at the liquidation preference. The subordinated debentures, which mature February 13, 2034, April 15, 2034,
and March 1, 2037, are redeemable before the maturity date at our option at their principal amount plus accrued interest.
We have the option to defer interest payments on the subordinated debentures from time to time for a period not to exceed 20 consecutive
quarters. After such period, we must pay all deferred interest or we will be in default. Effective with the fourth quarter of 2011, we began
deferring interest payments on our junior subordinated debentures. The deferral period ends September 30, 2016 at which time we will be
required to pay all accrued interest or be in default.
Deferring interest payments on our junior subordinated notes resulted in the deferral of distributions on our trust preferred securities. We are
prohibited from paying cash dividends on our preferred and common shares until such time as we have paid all deferred distributions on our trust
preferred securities.
The trust preferred securities issued by our subsidiary trusts are currently included in our Tier 1 capital for regulatory purposes. On March 1,
2005, the Federal Reserve Board adopted final rules that continue to allow trust preferred securities to be included in Tier 1 capital, subject to
quantitative and qualitative limits. Currently, no more than 25% of our Tier 1 capital can consist of trust preferred securities and qualifying
perpetual preferred stock. To the extent the amount of our trust preferred securities exceeds the 25% limit, the excess would be includable in Tier
2 capital. The new quantitative limits were effective March 31, 2011. As of December 31, 2014, the Company’s trust preferred securities totaled
25% of its Tier 1 capital and 49% of its Tier 2 capital.
Each of the trusts issuing the trust preferred securities holds junior subordinated debentures we issued with a 30-year maturity. The final rules
provide that in the last five years before the junior subordinated debentures mature, the associated trust preferred securities will be excluded from
Tier 1 capital and included in Tier 2 capital. In addition, the trust preferred securities during this five-year period would be amortized out of Tier
2 capital by one-fifth each year and excluded from Tier 2 capital completely during the year before maturity.
Liquidity
Liquidity risk arises from the possibility we may not be able to satisfy current or future financial commitments, or may become unduly reliant on
alternative funding sources. The objective of liquidity risk management is to ensure that we meet the cash flow requirements of depositors and
borrowers, as well as our operating cash needs, taking into account all on- and off-balance sheet funding demands. Liquidity risk management
also involves ensuring that we meet our cash flow needs at a reasonable cost. We maintain an investment and funds management policy, which
identifies the primary sources of liquidity, establishes procedures for monitoring and measuring liquidity, and establishes minimum liquidity
requirements in compliance with regulatory guidance. Our Asset Liability Committee continually monitors and reviews our liquidity position.
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Funds are available from a number of sources, including the sale of securities in the available for sale portion of the investment portfolio,
principal pay-downs on loans and mortgage-backed securities, customer deposit inflows, brokered deposits and other wholesale funding.
Historically, we have utilized brokered and wholesale deposits to supplement our funding strategy. We are currently restricted from accepting,
renewing, or rolling-over brokered deposits without the prior receipt of a waiver on a case-by-case basis from our regulators. At December 31,
2014, we had no brokered deposits.
Traditionally, we have borrowed from the FHLB to supplement our funding requirements. At December 31, 2014, we had an unused borrowing
capacity with the FHLB of $13.0 million. Our borrowing capacity is under a detailed loan listing requirement and is based on the market value of
the underlying pledged loans rather than the unpaid principal balance of the pledged loans. The listing requirement also increases the level of
collateral required for borrowings.
We also have available on a secured basis federal funds borrowing lines from correspondent banks totaling $5.0 million. Management believes
our sources of liquidity are adequate to meet expected cash needs for the foreseeable future, however, the availability of these lines could be
affected by our financial position. We are also subject to FDIC interest rate restrictions for deposits. As such, we are permitted to offer up to the
“national rate” plus 75 basis points as published weekly by the FDIC.
We have used cash to pay dividends on common shares, if and when declared by the Board of Directors, and to service debt. The Company’s
main sources of funding include dividends paid by the Bank and financing obtained in the capital markets. During 2011, Porter Bancorp
contributed $13.1 million to its subsidiary, the Bank, which substantially decreased its liquid assets. The contribution was made to strengthen the
Bank’s capital in an effort to help it comply with its capital ratio requirements under the consent order. Liquid assets decreased from
$20.3 million at December 31, 2010 to $1.9 million at December 31, 2014. Since the Bank is unlikely to be in a position to pay dividends to the
parent company for the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment
securities, and interest on deposits with the Bank. These cash inflows along with the liquid assets held at December 31, 2014, are needed to
cover ongoing operating expenses of the parent company which are forecasted at $1.0 million for 2015. Parent company liquidity could be
improved through a sale of common or preferred shares. See the “Supervision-Porter Bancorp-Dividends” section of Item 1. “Business” and the
“Dividends” section of Item 5. “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities” of this Annual Report on Form 10-K.
Capital
In the fourth quarter of 2011, we began deferring interest payments on our junior subordinated notes, which resulted in a deferral of distributions
on our trust preferred securities. Therefore, we will not be able to pay cash dividends on our common shares until such time that we have paid all
deferred distributions on our trust preferred securities. If we defer interest payments on our trust preferred securities for 20 consecutive quarters
(through September 30, 2016), we must pay all deferred interest or we will be in default. At December 31, 2014, cumulative accrued and unpaid
interest on our junior subordinated notes totaled $2.2 million.
Stockholders’ equity decreased $2.5 million to $33.5 million at December 31, 2014, compared with $35.9 million at December 31, 2013. The
decrease was due to the current year net loss, offset by the conversion of a $7.4 million dividend liability into stockholders’ equity in the
exchange transaction and an increase in the fair value of our securities portfolio of $3.1 million.
In 2010, we completed a $32.0 million private placement to accredited investors. In the transactions involved, the Company issued (i) 2,465,569
common shares, (ii) 317,042 Series C Preferred Shares and (iii) warrants to purchase 1,163,045 non-voting common shares at a price of $11.50
per share.
The Series C Preferred Shares had no voting rights (except when required by law), had a liquidation preference over our common shares, and
dividend rights equivalent to our common shares. Each Series C Preferred Share would have automatically converted into 1.05 common shares if
transferred by the holder in certain transactions in accordance with the policy of the Federal Reserve.
On November 21, 2008, we issued to the UST 35,000 shares of our Series A Preferred Stock and a warrant to purchase up to 330,561 of our
common shares for $15.88 per share for aggregate consideration of $35.0 million.
In December 2014, we completed a non-cash equity exchange transaction with the accredited investors who acquired all of our issued and
outstanding Series A Preferred Shares from UST in a public auction. We acquired and cancelled all of the issued and outstanding Series A
Preferred Shares, the accrued dividends thereon, all of the issued and outstanding Series C Preferred Shares, and warrants to purchase
798,915 shares of common stock together having an aggregate book value of approximately $45.7 million. In exchange, we issued common and
preferred shares having a fair value of approximately $9.6 million. The effect of this exchange transaction was to increase common stockholders’
equity by approximately $36.1 million, and total stockholders’ equity by $7.4 million.
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In the exchange transaction, we issued 1,821,428 common shares, 40,536 mandatorily convertible Series B Preferred Shares and 64,580
mandatorily convertible Series D Preferred Shares, which automatically converted into 4,053,600 common shares and 6,458,000 non-voting
common shares after shareholder approval on February 25, 2015. We also issued 6,198 Series E Preferred Shares and 4,304 Series F Preferred
Shares, both of which series are not convertible into common shares, have a liquidation preference of $1,000 per share, and are entitled to a 2%
noncumulative annual dividend if and when declared. Series E and Series F Preferred Shares rank senior to, and have liquidation and dividend
preferences over, our common shares and non-voting common shares.
Kentucky banking laws limit the amount of dividends that may be paid to a holding company by its subsidiary banks without prior approval.
These laws limit the amount of dividends that may be paid in any calendar year to current year’s net income, as defined in the laws, combined
with the retained net income of the preceding two years, less any dividends declared during those periods. During 2015, the amount available to
be paid by the Bank to the Company would be equal to 2015 earnings to date. However, the Bank has agreed with its primary regulators to
obtain their written consent prior to declaring or paying any future dividends.
Each of the federal bank regulatory agencies has established risk-based capital requirements for banking organizations. See Item 1. Business –
Supervision and Regulation – Porter Bancorp – Capital Adequacy Requirements and PBI Bank – Capital Requirements. In addition, the Bank
has agreed with its primary regulators to maintain a ratio of total capital to total risk-weighted assets (“total risk-based capital ratio”) of at least
12.0%, and a ratio of Tier 1 capital to average assets (“leverage ratio”) of 9.0%.
The following table shows the ratios of Tier 1 capital and total capital to risk-adjusted assets and the leverage ratios for the Company and the
Bank at December 31, 2014:
Tier 1 Capital
Total risk-based capital
Tier 1 leverage ratio
Regulatory
Well-
Capitalized
Minimums
Minimums
Minimum
Capital
Ratios
Under
Consent
Order
4.0 %
8.0
4.0
6.0 %
10.0
5.0
N/A
12.0 %
9.0
Porter
Bancorp
6.70 %
10.61
4.51
PBI
Bank
8.59 %
10.57
5.78
At December 31, 2014, the Bank’s Tier 1 leverage ratio was 5.78% and its total risk-based capital ratio was 10.57%, which are both below the
9% minimum leverage ratio and the 12% minimum risk-based capital ratio required by the Consent Order shown in the table above. Bank
regulatory agencies can exercise discretion when an institution does not maintain minimum capital levels or meet the other terms of a consent
order. The agencies may initiate changes in management, issue mandatory directives, impose monetary penalties or refrain from formal
sanctions, depending on individual circumstances. Any action taken by bank regulatory agencies could damage our reputation and have a
material adverse effect on our business.
Off Balance Sheet Arrangements
In the normal course of business, we enter into various transactions, which, in accordance with GAAP, are not included in our consolidated
balance sheets. We enter into these transactions to meet the financing needs of our customers. These transactions include commitments to extend
credit and standby letters of credit, which involve, to varying degrees, elements of credit risk and interest rate risk in excess of the amounts
recognized in the consolidated balance sheets.
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Our commitments associated with outstanding standby letters of credit and commitments to extend credit as of December 31, 2014 are
summarized below. Since commitments associated with letters of credit and commitments to extend credit may expire unused, the amounts
shown do not necessarily reflect our actual future cash funding requirements:
Commitments to extend credit
Standby letters of credit
Total
More than 1
One year
year but less
3 years or
more but less
or less
than 3 years
than 5 years
(dollars in thousands)
5 years
or more
Total
$ 22,755 $ 18,622 $
2,320
$ 25,075
—
$ 18,622
$
5,484 $ 21,409 $ 68,270
2,320
—
$ 70,590
$ 21,409
—
5,484
Standby Letters of Credit – Standby letters of credit are written conditional commitments we issue to guarantee the performance of a borrower
to a third party. If the borrower does not perform in accordance with the terms of the agreement with the third party, we may be required to fund
the commitment. The maximum potential amount of future payments we could be required to make is represented by the contractual amount of
the commitment. If the commitment is funded, we would be entitled to seek recovery from the borrower. Our policies generally require that
standby letter of credit arrangements contain security and debt covenants similar to those contained in loan agreements.
Commitments to Extend Credit – We enter into contractual commitments to extend credit, normally with fixed expiration dates or termination
clauses, at specified rates and for specific purposes. Substantially all of our commitments to extend credit are contingent upon borrowers
maintaining specific credit standards at the time of loan funding. We minimize our exposure to loss under these commitments by subjecting them
to credit approval and monitoring procedures.
Contractual Obligations
The following table summarizes our contractual obligations and other commitments to make future payments as of December 31, 2014:
More than 1
year but less
3 years or
more but less
5 years or
One year
or less
than 3 years
than 5 years
(dollars in thousands)
more
Total
Time deposits
FHLB borrowing (1)
Subordinated capital note
Junior subordinated debentures
Total
$ 416,486 $ 107,684 $
1,166
12,709
1,800
900
—
—
$ 430,095 $ 110,650 $
50,509 $
2 $ 574,681
451 1,426 15,752
4,950
450
— 25,000 25,000
52,760 $ 26,878 $ 620,383
1,800
(1)
Fixed rate mortgage-matched borrowings with rates ranging from 0% to 5.25%, and maturities ranging from 2015 through 2033,
averaging 1.02%.
Impact of Inflation and Changing Prices
The financial statements and related data presented herein have been prepared in accordance with U.S. generally accepted accounting principles,
which require the measurement of financial position and operating results in historical dollars without considering changes in the relative
purchasing power of money over time due to inflation.
We have an asset and liability structure that is essentially monetary in nature. As a result, interest rates have a more significant impact on our
performance than the effects of general levels of inflation. Periods of high inflation are often accompanied by relatively higher interest rates, and
periods of low inflation are accompanied by relatively lower interest rates. As market interest rates rise or fall in relation to the rates earned on
our loans and investments, the value of these assets decreases or increases respectively.
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Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
To minimize the volatility of net interest income and exposure to economic loss that may result from fluctuating interest rates, we manage our
exposure to adverse changes in interest rates through asset and liability management activities within guidelines established by our Asset
Liability Committee (“ALCO”). The ALCO, which is comprised of senior management representatives, has the responsibility for approving and
ensuring compliance with asset/liability management policies. Interest rate risk is the exposure to adverse changes in the net interest income as a
result of market fluctuations in interest rates. The ALCO, on an ongoing basis, monitors interest rate and liquidity risk in order to implement
appropriate funding and balance sheet strategies. Management considers interest rate risk to be our most significant market risk.
We utilize an earnings simulation model to analyze net interest income sensitivity. We then evaluate potential changes in market interest rates
and their subsequent effects on net interest income. The model projects the effect of instantaneous movements in interest rates of both 100 and
200 basis points that are sustained for one year. Assumptions based on the historical behavior of our deposit rates and balances in relation to
changes in interest rates are also incorporated into the model. These assumptions are inherently uncertain and, as a result, the model cannot
precisely measure future net interest income or precisely predict the impact of fluctuations in market interest rates on net interest income. Actual
results will differ from the model’s simulated results due to timing, magnitude and frequency of interest rate changes as well as changes in
market conditions and the application and timing of various management strategies.
Our interest sensitivity profile was liability sensitive at December 31, 2014 and asset sensitive at December 31, 2013. Given an instantaneous
100 basis point increase in interest rates our base net interest income would decrease by an estimated 3.2% at December 31, 2014 compared with
an increase of 2.5% at December 31, 2013.
The following table indicates the estimated impact on net interest income under various interest rate scenarios for the year ended December 31,
2014, as calculated using the static shock model approach:
+ 200 basis points
+ 100 basis points
Change in Future
Net Interest Income
Dollar
Change
Percentage
Change
(dollars in thousands)
$ (1,613 )
(868 )
(5.86 )%
(3.15 )
We did not run a model simulation for declining interest rates as of December 31, 2014, because the Federal Reserve’s federal funds target rate
currently stands between 0.00% to 0.25%. Therefore, further short-term rate reductions are not practical. As we implement strategies to mitigate
the risk of rising interest rates in the future, these strategies will lessen our forecasted “base case” net interest income in the event of no interest
rate changes.
Our interest sensitivity at any point in time will be affected by a number of factors. These factors include the mix of interest sensitive assets and
liabilities as well as their relative pricing schedules. It is also influenced by market interest rates, deposit growth, loan growth, decay rates and
prepayment speed assumptions.
The following table sets forth the amounts of our interest-earning assets and interest-bearing liabilities outstanding at December 31, 2014, which
we anticipate, based upon certain assumptions, to reprice or mature in each of the future time periods shown. The projected repricing of assets
and liabilities anticipates prepayments and scheduled rate adjustments, as well as contractual maturities under an interest rate unchanged scenario
within the selected time intervals. While we believe such assumptions are reasonable, we cannot assure you that assumed repricing rates will
approximate our actual future activity.
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Table of Contents
Assets:
Federal funds sold and short-term
investments
Investment securities
FHLB stock
Loans held for sale
Loans, net of allowance
Fixed and other assets
Total assets
Liabilities and Stockholders’ Equity
Interest-bearing checking, savings, and
money market accounts
Certificates of deposit
Borrowed funds
Other liabilities
Stockholders’ equity
Total liabilities and stockholders’
equity
Period gap
Cumulative gap
Period gap to total assets
Cumulative gap to total assets
Cumulative interest-earning assets to
Volume Subject to Repricing Within
0 – 90
Days
91 – 181
Days
182 – 365
Days
1 – 5
Years
(dollars in thousands)
Over 5
Years
Non-
Interest
Sensitive
Total
$ 66,011
30,635
7,323
8,926
226,686
—
$ 339,581
$ —
6,784
—
—
62,466
—
$ 69,250
$ —
16,669
—
—
94,296
—
$ 110,965
$ —
85,795
—
—
174,686
—
$ 260,481
66,011
$ — $ — $
7,515 233,116
85,718
7,323
— —
8,926
— —
66,865 (19,364 ) 605,635
96,978
— 96,978
$ 85,129 $ 1,017,989
$ 152,583
$ 237,250
116,909
43,471
—
—
$ —
101,885
182
—
—
$ —
195,412
368
—
—
$ —
159,576
2,286
—
—
$ —
899
736
—
—
$ — $ 237,250
574,681
—
—
47,043
125,550
125,550
33,465
33,465
$ 397,630
$ (58,049 )
$ (58,049 )
$ 102,067
$ (32,817 )
$ (90,866 )
$ 195,780
$ (84,815 )
$ (175,681 )
$ 161,862
$ 98,619
$ (77,062 )
$ 1,635
$ 150,948
$ 73,886
(5.70 )%
(5.70 )%
(3.22 )%
(8.93 )%
(8.33 )%
(17.26 )%
9.69 %
(7.57 )%
14.83 %
7.26 %
$ 159,015 $ 1,017,989
cumulative interest-bearing liabilities
85.40 %
81.82 %
74.74 %
91.01 %
108.60 %
Our one-year cumulative gap position as of December 31, 2014 was negative $ 175.7 million or 17.3% of total assets. This is a one-day position
that is continually changing and is not necessarily indicative of our position at any other time. Any gap analysis has inherent shortcomings
because certain assets and liabilities may not move proportionally as interest rates change.
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Table of Contents
Item 8.
Financial Statements and Supplementary Data
The following consolidated financial statements and reports are included in this section:
Management’s Report on Internal Control Over Financial Reporting
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2014 and 2013
Consolidated Statements of Operations for the Years Ended December 31, 2014, 2013, and 2012
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2014, 2013, and 2012
Consolidated Statements of Change in Stockholders’ Equity for the Years Ended December 31, 2014, 2013, and 2012
Consolidated Statements of Cash Flows for the Years Ended December 31, 2014, 2013, and 2012
Notes to Consolidated Financial Statements
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Table of Contents
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The management of Porter Bancorp, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting.
Internal control over financial reporting is defined in Rule 13a-15(1) promulgated under the Securities Exchange Act of 1934 as a process
designed by, or under the supervision of; our principal executive and principal financial officers and effected by the board of directors,
management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with U.S. generally accepted accounting principles and includes those policies and procedures
that:
Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets;
Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S.
generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our
management and directors; and
Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could
have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any
evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that
the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of our internal control over financial reporting as of December 31, 2014. In making this assessment,
management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in the 1992
Internal Control-Integrated Framework. Based on that assessment, we believe that, as of December 31, 2014, our internal control over financial
reporting is not effective based on those criteria. See “Item 9A. Controls and Procedures” for further discussion of the material weakness related
to controls over the initial recording of an other real estate owned transaction at fair value less cost to sell. This annual report does not include an
attestation report of our registered public accounting firm regarding internal controls over financial reporting. Management’s report was not
subject to attestation by our registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit us to
provide only management’s report in this annual report.
/s/ John T. Taylor
John T. Taylor
Chief Executive Officer
March 30, 2015
/s/ Phillip W. Barnhouse
Phillip W. Barnhouse
Chief Financial Officer
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Table of Contents
Porter Bancorp, Inc.
Louisville, Kentucky
Crowe Horwath LLP
Independent Member Crowe Horwath International
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We have audited the accompanying consolidated balance sheets of Porter Bancorp, Inc. as of December 31, 2014 and 2013, and the related
consolidated statements of operations, comprehensive income (loss), changes in stockholders’ equity, and cash flows for each of the three years
in the period ended December 31, 2014. These consolidated financial statements are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material
misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting.
Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting.
Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Porter
Bancorp, Inc. as of December 31, 2014 and 2013, and the results of its operations and its cash flows for each of the three years in the period
ended December 31, 2014, in conformity with U.S. generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming the Company will continue as a going concern. As discussed
in Note 2 to the consolidated financial statements, the Company has incurred substantial losses in 2014, 2013 and 2012, largely as a result of
asset impairments resulting from the re-evaluation of fair value and ongoing operating expenses related to the high volume of other real estate
owned and non-performing loans. In addition, the Company’s bank subsidiary is not in compliance with a regulatory enforcement order issued
by its primary federal regulator requiring, among other things, increased minimum regulatory capital ratios as well as being involved in various
legal proceedings in which the Company disputes material factual allegations against the Company. Additional losses, adverse outcomes from
legal proceedings or the continued inability to comply with the regulatory enforcement order may result in additional adverse regulatory action.
These events raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans with regard to these
matters are also discussed in Note 2 to the consolidated financial statements. The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
Crowe Horwath, LLP
Louisville, Kentucky
March 30, 2015
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PORTER BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
December 31,
(Dollar amounts in thousands except share data)
2014
2013
Assets
Cash and due from banks
Interest bearing deposits in banks
Cash and cash equivalents
Securities available for sale
Securities held to maturity (fair value of $44,498 and $42,947, respectively)
Loans held for sale
Loans, net of allowance of $19,364 and $28,124, respectively
Premises and equipment
Other real estate owned
Federal Home Loan Bank stock
Bank owned life insurance
Accrued interest receivable and other assets
Total assets
Liabilities and Stockholders’ Equity
Deposits
Non-interest bearing
Interest bearing
Total deposits
Repurchase agreements
Federal Home Loan Bank advances
Accrued interest payable and other liabilities
Subordinated capital note
Junior subordinated debentures
Total liabilities
Commitments and contingent liabilities (Note 18)
Stockholders’ equity
Preferred stock, no par
Series A - 0 and 35,000 issued and outstanding; Liquidation preference of $0 and $35 million,
respectively
Series B - 40,536 and 0 issued and outstanding, respectively
Series C - 0 and 317,042 issued and outstanding; Liquidation preference of $0 and $3.6 million,
respectively
Series D - 64,580 and 0 issued and outstanding, respectively
Series E - 6,198 and 0 issued and outstanding; Liquidation preference of $6.2 million and $0,
respectively
Series F - 4,304 and 0 issued and outstanding; Liquidation preference of $4.3 million and $0,
respectively
Total preferred stockholders’ equity
Common stock, no par, 86,000,000 shares authorized, 14,890,514 and 12,840,999 shares issued and
outstanding, respectively
Additional paid-in capital
Retained deficit
Accumulated other comprehensive income (loss)
Total common stockholders’ equity (deficit)
Total stockholders’ equity
Total liabilities and stockholders’ equity
See accompanying notes.
62
$
14,169 $
66,011
80,180
190,791
42,325
8,926
605,635
19,507
46,197
7,323
9,167
7,938
7,465
103,669
111,134
163,344
43,612
149
681,202
19,983
30,892
10,072
8,911
6,822
$ 1,017,989 $ 1,076,121
$ 114,910 $ 107,486
880,219
811,931
987,705
926,841
2,470
1,341
4,492
15,752
14,673
10,640
5,850
4,950
25,000
25,000
1,040,190
984,524
—
—
—
2,229
—
3,552
1,644
1,127
8,552
35,000
—
3,283
—
—
—
38,283
113,238
21,442
(107,595 )
(2,172 )
24,913
33,465
112,236
20,887
(130,182 )
(5,293 )
(2,352 )
35,931
$ 1,017,989 $ 1,076,121
Table of Contents
PORTER BANCORP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31,
(Dollar amounts in thousands except per share data)
Interest income
Loans, including fees
Taxable securities
Tax exempt securities
Federal funds sold and other
Interest expense
Deposits
Federal Home Loan Bank advances
Junior subordinated debentures
Subordinated capital note
Federal funds purchased and other
Net interest income
Provision for loan losses
Net interest income after provision for loan losses
Non-interest income
Service charges on deposit accounts
Bank card interchange fees
Income from bank owned life insurance
Other real estate owned rental income
Net gain on sales of securities
Income from fiduciary activities
Other
Non-interest expense
Salaries and employee benefits
Occupancy and equipment
Loan collection expense
Other real estate owned expense
FDIC insurance
State franchise and deposit tax
Professional fees
Communications
Insurance expense
Postage and delivery
Data processing expense
Advertising
Other
Loss before income taxes
Income tax expense (benefit)
Net loss
Less:
Dividends and accretion on preferred stock
Effect of exchange of preferred stock for common stock
Earnings (loss) allocated to participating securities
Net income (loss) attributable to common shareholders
Basic and diluted income (loss) per common share
See accompanying notes.
63
2014
2013
2012
$ 33,090 $ 38,015 $ 52,918
3,333
4,945
887
936
591
542
57,729
39,513
3,706
933
574
43,228
8,867
124
612
189
3
9,795
29,718
7,100
22,618
1,988
765
276
256
92
—
702
4,079
15,658
3,497
2,994
5,839
2,272
1,445
2,771
752
575
407
1,106
563
1,556
39,435
(12,738 )
(1,583 )
(11,155 )
2,362
(36,104 )
3,159
$ 19,428
1.59
$
10,137
157
622
221
6
11,143
32,085
700
31,385
2,058
718
534
399
723
517
970
5,919
15,501
3,583
4,707
4,516
2,378
1,944
1,892
711
648
423
184
308
2,095
38,890
(1,586 )
—
(1,586 )
14,623
207
671
266
7
15,774
41,955
40,250
1,705
2,239
727
312
420
3,236
1,177
1,479
9,590
16,648
3,642
2,442
10,549
2,835
2,174
1,985
710
373
454
96
154
2,230
44,292
(32,997 )
(65 )
(32,932 )
2,079
—
(267 )
$ (3,398 )
$ (0.29 ) $
1,929
—
(1,429 )
$ (33,432 )
(2.85 )
Table of Contents
PORTER BANCORP, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
Years Ended December 31,
(in thousands)
Net loss
Other comprehensive income (loss):
Unrealized gain (loss) on securities:
Unrealized gain (loss) arising during the period
Reclassification of amount realized through sales
Net unrealized gain/(loss) recognized in comprehensive income
Tax effect
Other comprehensive income (loss)
Comprehensive loss
See accompanying notes.
64
2014
2013
$ (11,155 ) $ (1,586 ) $ (32,932 )
2012
92
4,612 (9,081 ) (4,335 )
723 3,236
4,704 (8,358 ) (1,099 )
(1,583 ) — —
3,121 (8,358 ) (1,099 )
$ (8,034 ) $ (9,944 ) $ (34,031 )
Table of Contents
PORTER BANCORP, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
Years Ended December 31,
(Dollar amounts in thousands except share and per share data)
Shares
Preferred
Amount
Preferred
Series
Series
Additional
Common
Accumulated
Other
Comprehensive
Common
Series
A
Series
B
Series
C
Series
D
E
F
Common Series A
Series
B
Series
C
Series
D
Series
E
Series
F
Paid-In
Capital
Retained
Deficit
Income(Loss) Total
Balances,
11,824,472 35,000 — 317,042 — — — $ 112,236 $ 34,661 $ — $ 3,283 $ — $ — $ — $
19,841 $ (91,656 ) $
4,164 $ 82,529
December 31,
2011
Issuance of
unvested
stock
Forfeited
unvested
stock
Stock-based
compensation
expense
Net loss
Net change in
accumulated
other
comprehensive
income, net
of taxes
Dividends on
Series A
preferred
stock
Accretion of
Series A
preferred
stock
discount
Balances,
December 31,
2012
Issuance of
unvested
stock
Forfeited
unvested
stock
Stock-based
compensation
expense
Net loss
Net change in
accumulated
other
comprehensive
income, net
of taxes
Dividends on
Series A
preferred
stock
Accretion of
Series A
preferred
stock
discount
Balances,
December 31,
2013
Issuance of
unvested
stock
Forfeited
unvested
stock
Stock-based
compensation
expense
Net loss
Net change in
accumulated
other
comprehensive
income, net
of taxes
Effect of
exchange of
preferred
191,140 — — — — — —
— — — — — — —
—
—
— —
(13,191 ) — — — — — —
— — — — — — —
—
—
— —
— — — — — — —
— — — — — — —
— — — — — — —
— — — — — — —
442
—
— (32,932 )
—
442
— (32,932 )
— — — — — — —
— — — — — — —
—
—
(1,099 ) (1,099 )
— — — — — — —
— — — — — — —
—
(1,750 )
— (1,750 )
— — — — — — —
—
179 — — — — —
—
(179 )
— —
12,002,421 35,000 — 317,042 — — — $ 112,236 $ 34,840 $ — $ 3,283 $ — $ — $ — $
20,283 $ (126,517 ) $
3,065 $ 47,190
875,569 — — — — — —
— — — — — — —
—
—
— —
(36,991 ) — — — — — —
— — — — — — —
—
—
— —
— — — — — — —
— — — — — — —
— — — — — — —
— — — — — — —
604
—
—
(1,586 )
—
604
— (1,586 )
— — — — — — —
— — — — — — —
—
—
(8,358 ) (8,358 )
— — — — — — —
— — — — — — —
—
(1,919 )
— (1,919 )
— — — — — — —
—
160 — — — — —
—
(160 )
— —
12,840,999 35,000 — 317,042 — — — $ 112,236 $ 35,000 $ — $ 3,283 $ — $ — $ — $
20,887 $ (130,182 ) $
(5,293 ) $ 35,931
288,888 — — — — — —
— — — — — — —
—
—
— —
(60,801 ) — — — — — —
— — — — — — —
—
—
— —
— — — — — — —
— — — — — — —
— — — — — — —
— — — — — — —
555
—
— (11,155 )
—
555
— (11,155 )
— — — — — — —
— — — — — — —
—
—
3,121 3,121
stock
for common
stock
Dividends on
Series A
preferred
stock
Balances,
1,821,428 (35,000 ) 40,536 (317,042 ) 64,580 6,198 4,304
1,002 (35,000 ) 2,229 (3,283 ) 3,552 1,644 1,127
— 36,104
— 7,375
— — — — — — —
— — — — — — —
—
(2,362 )
— (2,362 )
December 31,
2014
14,890,514 — 40,536 — 64,580 6,198 4,304 $ 113,238 $ — $ 2,229 $ — $ 3,552 $ 1,644 $ 1,127 $
21,442 $ (107,595 ) $
(2,172 ) $ 33,465
See accompanying notes.
65
Table of Contents
PORTER BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
(in thousands)
Cash flows from operating activities
Net loss
Adjustments to reconcile net loss to net cash from operating activities
Depreciation and amortization
Provision for loan losses
Net amortization on securities
Stock-based compensation expense
Tax benefit from OCI components
Net gain on sales of loans originated for sale
Loans originated for sale
Proceeds from sales of loans originated for sale
Net (gain) loss on sales of other real estate owned
Net write-down of other real estate owned
Net realized gain on sales of investment securities
Earnings on bank owned life insurance, net of premium expense
Net change in accrued interest receivable and other assets
Net change in accrued interest payable and other liabilities
Net cash from operating activities
Cash flows from investing activities
Purchases of available for sale securities
Sales of available for sale securities
Maturities and prepayments of available for sale securities
Calls of held to maturity securities
Proceeds from mandatory redemption of Federal Home Loan Bank stock
Proceeds from sale of other real estate owned
Improvements to other real estate owned
Loan originations and payments, net
Purchases of premises and equipment, net
Net cash from investing activities
Cash flows from financing activities
Net change in deposits
Net change in repurchase agreements
Repayment of Federal Home Loan Bank advances
Advances from Federal Home Loan Bank
Repayment of subordinated capital note
Net cash from financing activities
Net change in cash and cash equivalents
Beginning cash and cash equivalents
Ending cash and cash equivalents
Supplemental cash flow information:
Interest paid
Income taxes paid (refunded)
Supplemental non-cash disclosure:
Transfer from loans to other real estate
Financed sales of other real estate owned
Transfer from available for sale to held to maturity securities
AOCI component of transfer from available for sale to held to maturity
Transfer of loans to loans held for sale at fair value
Effect of accrued and unpaid dividends on preferred stock redemption
See accompanying notes.
66
2014
2013
2012
$ (11,155 ) $ (1,586 ) $ (32,932 )
1,738
7,100
1,614
555
(1,583 )
(53 )
(2,528 )
2,730
(306 )
4,255
(92 )
(256 )
(1,574 )
980
1,425
2,017
700
2,132
604
—
(87 )
(4,035 )
4,469
132
2,466
(723 )
(513 )
1,364
2,585
9,525
(45,803 )
6,251
15,573
1,000
2,749
13,084
—
26,923
(523 )
19,254
(60,864 )
(1,129 )
(23,765 )
35,025
(900 )
(51,633 )
(30,954 )
111,134
$ 80,180
(72,814 )
8,061
26,506
—
—
30,772
—
139,548
(281 )
131,792
(77,354 )
(164 )
(1,112 )
—
(1,125 )
(79,755 )
61,562
49,572
$ 111,134
2,288
40,250
3,335
442
—
(338 )
(16,365 )
16,827
1,672
7,154
(3,236 )
(292 )
16,150
791
35,746
(162,840 )
93,199
48,800
—
—
21,940
(1 )
167,272
(511 )
167,859
(258,704 )
896
(1,512 )
—
(675 )
(259,995 )
(56,390 )
105,962
$ 49,572
$ 9,475
—
$ 10,711
—
$ 15,402
(12,726 )
$ 32,338
—
—
—
8,926
7,375
$ 20,606
15
44,934
(1,281 )
—
—
$ 33,528
541
—
—
—
—
Table of Contents
PORTER BANCORP, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014, 2013 and 2012
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Principles of Consolidation – The consolidated financial statements include Porter Bancorp, Inc. (Company) and its
subsidiary, PBI Bank (Bank). The Company owns a 100% interest in the Bank.
The Company provides financial services through its offices in Central Kentucky and Louisville. Its primary deposit products are checking,
savings, and term certificate accounts, and its primary lending products are residential mortgage, commercial, agricultural, and real estate loans.
Substantially all loans are collateralized by specific items of collateral including business assets, commercial real estate, and residential real
estate. Commercial loans are expected to be repaid from cash flow from operations of businesses. There are no significant concentrations of
loans to any one industry or customer. However, customers’ ability to repay their loans is dependent on the real estate and general economic
conditions in the area. Other financial instruments which potentially represent concentrations of credit risk include deposit accounts in other
financial institutions and federal funds sold.
Use of Estimates – To prepare financial statements in conformity with U.S. generally accepted accounting principles, management makes
estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial
statements and the disclosures provided, and future results could differ.
Cash and Cash Equivalents – For the purpose of presentation in the statements of cash flows, the Company considers all cash and amounts due
from depository institutions as well as interest bearing deposits in banks that mature within one year and are carried at cost to be cash
equivalents. The Bank is required to maintain average reserve balances with the Federal Reserve Bank of St. Louis.
Interest Bearing Deposits in Banks – Interest bearing deposits in banks mature within one year and are carried at cost. At December 31, 2014,
approximately $9.8 million of interest bearing deposits in banks were pledged to a secure letter of credit issued by a third party for the benefit of
the Bank.
Securities – Debt securities are classified as held to maturity and carried at amortized cost when management has the positive intent and ability
to hold them to maturity. Debt securities are classified as available for sale when they might be sold before maturity. Equity securities with
readily determined fair values are classified as available for sale. Securities available for sale are carried at fair value, with unrealized holding
gains and losses reported in other comprehensive income.
Interest income includes amortization of purchase premium or discount. Premiums and discounts on securities are amortized on the level-yield
method anticipating prepayments on mortgage backed securities. Gains and losses on sales are recorded on the trade date and determined using
the specific identification method.
Management evaluates securities for other-than-temporary impairment (“OTTI”) on at least a quarterly basis, and more frequently when
economic or market conditions warrant such an evaluation. For securities in an unrealized loss position, management considers the extent and
duration of the unrealized loss, and the financial condition and near-term prospects of the issuer. Management also assesses whether it intends to
sell, or it is more likely than not that it will be required to sell, a security in an unrealized loss position before recovery of its amortized cost
basis. If either of the criteria regarding intent or requirement to sell is met, the entire difference between amortized cost and fair value is
recognized as impairment through earnings. For debt securities that do not meet the aforementioned criteria, the amount of impairment is split
into two components as follows: 1) OTTI related to credit loss, which must be recognized in the income statement and 2) OTTI related to other
factors, which is recognized in other comprehensive income. The credit loss is defined as the difference between the present value of the cash
flows expected to be collected and the amortized cost basis. For equity securities, the entire amount of impairment is recognized through
earnings.
Loans Held for Sale – Loans held for sale include residential mortgage loans originated for sale into the secondary market and loans transferred
from held for investment. Held for investment loans that have been transferred to held for sale are carried at lower of cost or fair value. The
credit component or any write down upon transfer to held for sale is reflected in charge-offs to the allowance for loan losses.
Residential mortgage loans originated and intended for sale in the secondary market are carried at the lower of aggregate cost or fair value, as
determined by outstanding commitments from investors. Net unrealized losses, if any, are recorded as a valuation allowance and charged to
earnings.
Mortgage loans held for sale are generally sold with servicing rights released. If sold with servicing retained, the carrying value of mortgage
loans sold is reduced by the amount allocated to the servicing right. Gains and losses on sales of mortgage loans are based on the difference
between the selling price and the carrying value of the related loan sold.
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Table of Contents
Mortgage banking derivatives used in the ordinary course of business consist of mandatory forward sales contracts and rate lock loan
commitments. Forward contracts represent future commitments to deliver loans at a specified price and date and are used to manage interest rate
risk on loan commitments and mortgage loans held for sale. Rate lock commitments represent commitments to fund loans at a specific rate.
These derivatives involve underlying items, such as interest rates, and are designed to transfer risk. Substantially all of these instruments expire
within 60 days from the date of issuance. Notional amounts are amounts on which calculations and payments are based, but which do not
represent credit exposure, as credit exposure is limited to the amounts required to be received or paid.
We adopted FASB ASC topic 815, “Derivative and Hedging” during the first quarter of 2009. Our commitments to deliver loans and our rate
lock loan commitments were insignificant at year end.
Loans – Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the
principal balance outstanding, net of deferred loan fees and costs, and an allowance for loan losses. Interest income is accrued on the unpaid
principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized in interest income using the level-
yield method without anticipating prepayments. The recorded investment in loans includes the outstanding principal balance and unamortized
deferred origination costs and fees.
Interest income on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless the loan is well collateralized
and in process of collection. Consumer and credit card loans are typically charged off no later than 90 days past due. Past due status is based on
the contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest
is not expected.
All interest accrued but not received for loans placed on nonaccrual is reversed against interest income. Interest received on such loans is
accounted for on the cash-basis or 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.
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 uncollectability of a loan balance is confirmed. Subsequent recoveries, if any, are
credited to the allowance. We estimate 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 our judgment, should be charged off.
The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired.
A loan is impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due
according to the contractual terms of the loan agreement. 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.
Factors considered in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and
interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired.
We determine the significance of payment delays and payment shortfalls on case-by-case basis, taking into consideration all of the circumstances
surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the
amount of the shortfall in relation to the principal and interest owed.
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. Large groups of smaller balance
homogeneous loans, such as consumer and residential real estate loans, are collectively evaluated for impairment, and accordingly, they are not
separately identified for impairment disclosures. Troubled debt restructurings are separately identified for impairment disclosures and are
measured at the present value of estimated future cash flows using the loan’s effective rate at inception. If a troubled debt restructuring is
considered to be a collateral dependent loan, the loan is reported at the fair value of the collateral. For troubled debt restructurings that
subsequently default, we determine the amount of reserve in accordance with the accounting policy for the allowance for loan losses.
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Table of Contents
The general component covers non-impaired loans and is based on historical loss experience adjusted for current factors. The historical loss
experience is determined by portfolio segment and is based on our actual loss history experienced over the most recent three years with
weighting towards the most recent periods. This actual loss experience is supplemented with other economic factors based on the risks present
for each portfolio segment. These economic factors include consideration of the following: changes in lending policies, procedures, and
practices; effects of any change in risk selection and underwriting standards; national and local economic trends and conditions; industry
conditions; trends in volume and terms of loans; experience, ability and depth of lending management and other relevant staff; levels of and
trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; and effects of changes in credit concentrations.
A portfolio segment is defined as the level at which an entity develops and documents a systematic methodology to determine its allowance for
loan losses. We identified the following portfolio segments: commercial, commercial real estate, residential real estate, consumer, agricultural,
and other.
•
•
•
Commercial loans depend on the strength of the industries of the related borrowers and the success of their businesses. Commercial
loans are advances for equipment purchases, or to provide working capital, or to meet other financing needs of business enterprises.
These loans may be secured by accounts receivable, inventory, equipment or other business assets. Financial information is obtained
from the borrowers to evaluate their ability to repay the loans.
Commercial real estate loans are affected by the local commercial real estate market and the local economy. Commercial real estate
loans include loans on properties occupied by the borrowers and on properties for commercial purposes. Construction and
development loans are a component of this segment. These loans are generally secured by land under development or homes and
commercial buildings under construction. Appraisals are obtained to support the loan amount. Financial information is obtained from
the borrowers and/or the individual project to evaluate cash flows sufficiency to service the debt.
Residential real estate loans are affected by the local residential real estate market, local economy, and, for variable rate mortgages,
movement in indices tied to these loans. For owner occupied residential loans, the borrowers’ repayment ability is evaluated through
a review of credit scores and debt to income ratios. For non-owner occupied residential loans, such as rental real estate, financial
information is obtained from the borrowers and/or the individual project to evaluate cash flows sufficiency to service the debt.
Appraisals are obtained to support the loan amount.
•
Consumer loans depend on local economies. Consumer loans are generally secured by consumer assets, but may be unsecured. We
evaluate the borrowers’ repayment ability through a review of credit scores and an evaluation of debt to income ratios.
•
•
Agriculture loans depend on the industries tied to these loans and are generally secured by livestock, crops, and/or equipment, but
may be unsecured. We evaluate the borrowers’ repayment ability through a review of credit scores and an evaluation of debt to
income ratios.
Other loans include loans to municipalities, loans secured by stock, and overdrafts. For municipal loans, we evaluate the borrowers’
revenue streams as well as ability to repay form general funds. For loans secured by stock, we evaluate the market value of the stock
securing the loan in relation to the loan amount. Overdrafts are funded based on pre-established criteria related to the deposit account
relationship.
We analyze key relevant risk characteristics for each portfolio segment and have determined that loans in each segment possess similar general
risk characteristics that are analyzed in connection with our loan underwriting processes and procedures. In determining the allocated allowance,
we utilize weighted average loss rates for the past three years most heavily weighting the current year. Commercial real estate qualitative
adjustment considerations include due to trends in our markets for underlying collateral values and risks related to tenant rents and for economic
factors such as decreased sales demand, elevated inventory levels, and declining collateral values. Residential real estate loan considerations
include macro factors such as unemployment rates, trends in vacancy rates, and home value trends. The commercial portfolio qualitative
adjustments are related to industry concentrations and geographical market. Our agricultural, consumer, and other portfolios are less significant
in terms of size and risk is assessed based on the smaller dollar size of these loans and the more geographical areas where the collateral is
located.
Transfers of Financial Assets – Transfers of financial assets are accounted for as sales, when control over the assets has been relinquished.
Control over transferred assets is deemed to be surrendered when the assets have been isolated from the Company, 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 the Company does
not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
Other Real Estate Owned – Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated costs to sell
when acquired, establishing a new cost basis. These assets are subsequently accounted for at the lower of cost or fair value, less estimated costs
to sell. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through expense. Costs after acquisition are expensed.
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Table of Contents
Premises and Equipment – Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation. Buildings and
related components are depreciated using the straight-line method with useful lives ranging from 5 to 33 years. Furniture, fixtures and equipment
are depreciated using the straight-line or accelerated method with useful lives ranging from 3 to 7 years.
Federal Home Loan Bank (FHLB) Stock – The Bank is a member of the FHLB system. Members are required to own a certain amount of
stock based on the level of borrowings and other factors, and may invest in additional amounts. FHLB stock is carried at cost, classified as a
restricted security, and periodically evaluated for impairment. Because this stock is viewed as long term investment, impairment is based on
ultimate recovery of par value. Both cash and stock dividends are reported as income.
Intangible Assets – Intangible assets with definite useful lives are amortized over their estimated useful lives to their estimated residual values.
Other intangible assets consist of core deposit intangible assets arising from whole bank and branch acquisitions. They are initially measured at
fair value and then are amortized on an accelerated or straight-line basis over their estimated useful lives, which range from 7 to 10 years.
Bank Owned Life Insurance – The Bank has purchased life insurance policies on certain key executives. Company owned life insurance is
recorded at the amount that can be realized under the insurance contract at the balance sheet date, which is the cash surrender value adjusted for
other charges or other amounts due that are probable at settlement.
Long-Term Assets – Premises and equipment, other intangible assets, and other long-term assets are reviewed for impairment when events
indicate their carrying amount may not be recoverable from future undiscounted cash flows. If impaired, the assets are recorded at fair value.
Repurchase Agreements – Substantially all repurchase agreement liabilities represent amounts advanced by various customers. Securities are
pledged to cover these liabilities, which are not covered by federal deposit insurance.
Benefit Plans – Employee 401(k) and profit sharing plan expense is the amount of matching contributions. Deferred compensation and
supplemental retirement plan expense allocates the benefits over years of service.
Stock-Based Compensation – Compensation cost is recognized for unvested stock awards issued to employees, based on the fair value of these
awards at the date of grant. The market price of the Corporation’s common stock at the date of grant is used for restricted stock awards.
Compensation cost is recognized over the required service period, generally defined as the vesting period. For awards with graded vesting,
compensation cost is recognized on a straight-line basis over the requisite service period for the entire award.
Income Taxes – Income tax expense is the total of the current year income tax due or refundable and the change in deferred tax assets and
liabilities. Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences between carrying amounts and tax
bases of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount
expected to be realized.
A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a
tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being
realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. The Company recognizes
interest and/or penalties related to income tax matters in income tax expense.
Loan Commitments and Related Financial Instruments – Financial instruments include off-balance sheet credit instruments, such as
commitments to make loans and commercial letters of credit, issued to meet customer-financing needs. The face amount for these items
represents the exposure to loss, before considering customer collateral or ability to repay. Such financial instruments are recorded when they are
funded.
Comprehensive Loss – Comprehensive loss consists of net income (loss) and other comprehensive loss. Other comprehensive loss includes
unrealized gains and losses on securities available for sale, which are also recognized as a separate component of equity.
Preferred Stock – In December 2014, we completed a non-cash equity exchange transaction with the accredited investors who acquired all of
our issued and outstanding Series A Preferred Shares from UST in a public auction. We acquired and cancelled all of the issued and outstanding
Series A Preferred Shares, the accrued dividends thereon, all of the issued and outstanding Series C Preferred Shares, and warrants to purchase
798,915 shares of common stock together having an aggregate book value of approximately $45.7 million. In exchange, we issued common and
preferred shares having a fair value of approximately $9.6 million. The effect of this exchange transaction was to increase common stockholders’
equity by approximately $36.1 million, and total stockholders’ equity by $7.4 million.
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In the exchange transaction, we issued 1,821,428 common shares, 40,536 mandatorily convertible Series B Preferred Shares and 64,580
mandatorily convertible Series D Preferred Shares, which automatically converted into 4,053,600 common shares and 6,458,000 non-voting
common shares after shareholder approval on February 25, 2015. We also issued 6,198 Series E Preferred Shares and 4,304 Series F Preferred
Shares, both of which series are not convertible into common shares, have a liquidation preference of $1,000 per share, and are entitled to a 2%
noncumulative annual dividend if and when declared. Series E and Series F Preferred Shares rank senior to, and have liquidation and dividend
preferences over, our common shares and non-voting common shares.
Earnings (Loss) Per Common Share – Basic earnings (loss) per common share are net income (loss) attributable to common shareholders
divided by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per common share include the
dilutive effect, if any, of additional potential common shares issuable under stock options and warrants. Earnings (loss) and dividends per share
are restated for all stock splits and dividends through the date of issue of the financial statements.
Earnings (Loss) Allocated to Participating Securities – Our issued and outstanding Series C Preferred Stock was automatically convertible
into common stock at such time as the holder together with its affiliates beneficially owned less than 9.9% of the then outstanding common
shares of the company. Our Series B and Series D mandatorily convertible preferred stock converted to common and nonvoting common shares
after shareholder approval on February 25, 2015. We also have issued and outstanding unvested common shares to employees and directors
through our stock incentive plan. Earnings (loss) are allocated to these participating securities based on their percentage of total issued and
outstanding shares.
Loss Contingencies – Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities
when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated. (See Note 24 for more specific disclosure.)
Dividend Restriction – Banking regulations require maintaining certain capital levels and may limit the dividends paid by the Bank to the
Company or by the Company to shareholders. (See Note 17 for more specific disclosure.)
Fair Value of Financial Instruments – Fair values of financial instruments are estimated using relevant market information and other
assumptions. Fair value estimates involve uncertainties and matters of significant judgment regarding interest rates, credit risk, prepayments, and
other factors, especially in the absence of broad markets for particular items. Changes in assumptions or in market conditions could significantly
affect the estimates. (See Note 19 for more specific disclosure.)
Reclassifications – Some items in the prior year financial statements were reclassified to conform to the current presentation. Reclassifications
had no effect on prior year net loss or stockholders’ equity.
Adoption of New Accounting Standards – In January 2014, FASB issued Accounting Standards Update 2014-04, Receivables – Troubled
Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon
Foreclosure. 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 the Company
beginning January 1, 2015 and are not expected to have a material impact on the Company’s financial statements.
In May 2014, FASB issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers (Topic 606). The ASU creates a
new topic, Topic 606, to provide guidance on revenue recognition for entities that enter into contracts with customers to transfer goods or
services or enter into contracts for the transfer of nonfinancial assets. 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. Additional disclosures are required to provide quantitative and qualitative information
regarding the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The new guidance is
effective for annual reporting periods, and interim reporting periods within those annual periods, beginning after December 15, 2016. Early
adoption is not permitted. Management is currently evaluating the impact of the adoption of this guidance on the Company’s financial
statements.
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In August 2014, the FASB amended existing guidance related to the disclosures about an entity’s ability to continue as a going concern. These
amendments are intended to define management’s responsibility to evaluate whether there is substantial doubt about an organization’s ability to
continue as a going concern and to provide related footnote disclosures. These amendments provide guidance to an organization’s management,
with principles and definitions that are intended to reduce diversity in the timing and content of disclosures that are commonly provided by
organizations in the financial statement footnotes. The amendments are effective for annual periods ending after December 15, 2016, and interim
periods within annual periods beginning after December 15, 2016. Early application is permitted for annual or interim reporting periods for
which the financial statements have not previously been issued. The effect of adopting this standard is not expected to have a material effect on
the Company’s operating results or financial condition.
NOTE 2 – GOING CONCERN CONSIDERATIONS AND FUTURE PLANS
The consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business for the foreseeable future. However, the events and circumstances described in this
Note create substantial doubt about the Company’s ability to continue as a going concern.
For the year ended December 31, 2014, we reported a net loss of $11.2 million. This loss was attributable primarily to loan loss provision of $7.1
million, OREO expense of $5.8 million resulting from fair value write-downs driven by new appraisals and reduced marketing prices, and
ongoing operating expense, along with $3.0 million in loan collection expenses. We also had lower net interest margin due to lower average
loans outstanding, loans re-pricing at lower rates, and the level of non-performing loans in our portfolio. After deductions for dividends and
accretion on preferred stock of $2.4 million, allocating losses to participating securities of $3.2 million, and the effect of the exchange of
preferred stock for common stock of $36.1 million, net income attributable to common shareholders was $19.4 million for the year ended
December 31, 2014, compared with a net loss attributable to common shareholders of $3.4 million for the year ended December 31, 2013.
At December 31, 2014, we continued to be involved in various legal proceedings in which we dispute the material factual allegations against us.
After conferring with our legal advisors, we believe we have meritorious grounds on which to prevail. If we do not prevail, the ultimate outcome
of any one of these matters could have a material adverse effect on our financial condition, results of operations, or cash flows. These matters are
more fully described in Note 24 – “Contingencies”.
For the year ended December 31, 2013, we reported a net loss to common shareholders of $3.4 million. This loss coupled with the
comprehensive loss for the year reduced shareholders equity to $35.9 million, from $47.2 million at the end of 2012. This reduction was
attributable primarily to OREO expense of $4.5 million resulting from fair value write-downs driven by new appraisals and reduced marketing
prices, net loss on sales, and ongoing operating expense, along with $4.7 million in loan collection expenses. The reduction was also attributable
to a reduction in the fair value of securities of $8.4 million, net, as well as the accrual of dividends and accretion to preferred shareholders of
$2.1 million. We also had lower net interest margin due to lower average loans outstanding, loans re-pricing at lower rates, and the level of non-
performing loans in our portfolio. Net loss to common shareholders of $3.4 million, for the year ended December 31, 2013, compares with net
loss to common shareholders of $33.4 million for year ended December 31, 2012.
In June 2011, the Bank agreed to a Consent Order with the FDIC and KDFI in which the Bank agreed, among other things, to improve asset
quality, reduce loan concentrations, and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of
12%. The Consent Order was included in our Current Report on 8-K filed on June 30, 2011. In October 2012, the Bank entered into a revised
Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based
capital ratio of 12%. The Bank also agreed that if it should be unable to reach the required capital levels, and if directed in writing by the FDIC,
then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge itself into another federally insured financial
institution or otherwise immediately obtain a capital investment into the Bank sufficient to fully meet the capital requirements. We have not been
directed by the FDIC to implement such a plan.
We expect to continue to work with our regulators toward capital ratio compliance. The revised Consent Order also requires the Bank to
continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June
2011 Consent Order. The revised Consent Order was included in our Current Report on 8-K filed on September 19, 2012. As of December 31,
2014, the capital ratios required by the Consent Order were not met.
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In order to meet these capital requirements, the Board of Directors and management are continuing to evaluate strategies to achieve the
following objectives:
•
Increasing capital through a possible public offering or private placement of common stock to new and existing shareholders. We
have engaged a financial advisor to assist our Board in this evaluation.
•
Continuing to operate the Company and Bank in a safe and sound manner. This strategy will require us to reduce our lending
concentrations, remediate non-performing loans, and reduce other noninterest expense through the disposition of OREO.
•
Evaluating and implementing improvements to our internal processes and procedures, distribution of labor, and work-flow to ensure
we have adequately and appropriately deployed resources in an efficient manner in the current environment.
•
Executing on our commitment to improve credit quality and reduce loan concentrations and balance sheet risk.
•
•
•
We have reduced our loan portfolio significantly from $1.3 billion at December 31, 2010 to $625.0 million at December 31,
2014.
We have reduced our construction and development loans to less than 75% of total risk-based capital at December 31, 2014,
and have now been in compliance with the Consent Order for eleven quarters.
We have reduced our non-owner occupied commercial real estate loans, construction and development loans, and multi-
family residential real estate loans Compliance with the Consent Order requires those loans represent less than 250% of total
risk-based capital. These loans represented 262% of total risk-based capital at December 31, 2014, down from 284% at
December 31, 2013.
•
Executing on our commitment to sell other real estate owned and reinvest in quality income producing assets.
•
•
•
•
The remediation process for loans secured by real estate has led the Bank to acquire significant levels of OREO since 2010.
The Bank acquired $20.6 million, $33.5 million, $41.9 million, and $90.8 million during 2013, 2012, 2011, and 2010,
respectively. For the year ended December 31, 2014, we acquired $32.3 million of OREO.
We have incurred significant losses in disposing of this real estate. We incurred losses totaling $2.6 million, $9.3 million,
$42.8 million, and $13.9 million in 2013, 2012, 2011, and 2010, respectively, from sales at less than carrying values and fair
value write-downs attributable to declines in appraisal valuations and changes in our pricing strategies. During the year ended
December 31, 2014, we incurred OREO losses totaling $3.9 million comprised of $4.3 million in fair value write-downs from
declining values as evidenced by new appraisals and reduced marketing prices in connection with our sales strategies, offset
by $306,000 in net gain on sales of OREO.
To ensure we maximize the value we receive upon the sale of OREO, we continually evaluate sales opportunities. Proceeds
from the sale of OREO totaled $13.1 million during the year ended December 31, 2014 and $30.8 million, $22.5 million,
$26.0 million and $25.0 million during the years ended December 31, 2013, 2012, 2011, and 2010, respectively.
At December 31, 2014, the OREO portfolio consisted of 40% construction, development, and land assets, compared to 62% at
December 31, 2013. Commercial real estate represents 31% of the OREO portfolio at December 31, 2014 compared with
19% at December 31, 2013. 1-4 family residential properties represent 17% of the OREO portfolio at December 31, 2014
compared with 16% at December 31, 2013, and multi-family properties represent 11% of the OREO portfolio at
December 31, 2014, compared to 1% at December 31, 2013.
Bank regulatory agencies can exercise discretion when an institution does not meet the terms of a consent order. Based on individual
circumstances, the agencies may issue mandatory directives, impose monetary penalties, initiate changes in management, or take more serious
adverse actions such as require an institution to sell or merge itself into another institution or require the Bank to be taken into receivership.
Liquid assets were $1.9 million at December 31, 2014. Since the Bank is unlikely to be in a position to pay dividends to the parent company for
the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, and interest on
deposits with the Bank. These cash inflows along with the liquid assets held at December 31, 2014, are needed to cover ongoing operating
expenses of the parent company which are forecasted at approximately $1.0 million for 2015. Parent company liquidity could be improved
through a sale of common or preferred shares.
Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated debentures relating to our trust
preferred securities. Deferring interest payments on the junior subordinated debentures resulted in a deferral of distributions on our trust
preferred securities.
If we defer distributions on our trust preferred securities for 20 consecutive quarters, we must pay all deferred distributions in full or we will be
in default. Our deferral period expires in the third quarter of 2016. Deferred distributions on our trust preferred securities, which totaled $2.2
million as of December 31, 2014, are cumulative, and unpaid distributions accrue and compound on each subsequent payment date. If as a result
of a default we become subject to any liquidation, dissolution or winding up, holders of the trust preferred securities will be entitled to receive
the liquidation amounts to which they are entitled, including all accrued and unpaid distributions, before any distribution can be made to our
shareholders. In addition, the holders of our Series E and Series F Preferred Shares will be entitled to receive liquidation distributions totaling
$10.5 million before any distribution can be made to the holders of our common shares.
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These financial statements do not include any adjustments that may result should the Company be unable to continue as a going concern.
NOTE 3 – SECURITIES
The fair value of available for sale and held to maturity securities and the related gross unrealized gains and losses recognized in accumulated
other comprehensive income (loss) were as follows:
December 31, 2014
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
State and municipal
Corporate bonds
Other debt securities
Total available for sale
Held to maturity
State and municipal
Total held to maturity
December 31, 2013
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
State and municipal
Corporate bonds
Other debt securities
Total debt securities
Equity
Total available for sale
Held to maturity
State and municipal
Total held to maturity
Sales and calls of available for sale securities were as follows:
Proceeds
Gross gains
Gross losses
Amortized
Gross
Unrealized
Gross
Unrealized
Cost
Gains
Losses
Fair Value
(in thousands)
$ 35,725
121,985
11,690
18,087
572
$ 188,059
$
308
1,970
722
853
86
$ 3,939
$
(590 )
(357 )
(8 )
(252 )
—
$ (1,207 )
$ 35,443
123,598
12,404
18,688
658
$ 190,791
$ 42,325
$ 42,325
$ 2,173
$ 2,173
$ —
$ —
$ 44,498
$ 44,498
$ 31,026
102,435
12,965
18,002
572
165,000
135
$ 165,135
$
284
458
608
769
60
2,179
62
$ 2,241
$ (1,444 )
(1,950 )
(28 )
(610 )
—
(4,032 )
—
$ (4,032 )
$ 29,866
100,943
13,545
18,161
632
163,147
197
$ 163,344
$ 43,612
$ 43,612
$
$
3
3
$
$
(668 )
(668 )
$ 42,947
$ 42,947
2014
$ 6,251
132
—
2013
(in thousands)
$ 8,061
873
150
2012
$ 93,199
3,543
307
The tax provision related to these net gains and losses realized on sales were $46,000, $253,000, and $1.1 million, respectively.
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The amortized cost and fair value of our debt securities are shown by contractual maturity. Expected maturities may differ from actual maturities
if borrowers have the right to call or prepay obligations with or without call or prepayment penalties. Securities not due at a single maturity date,
mortgage-backed, are shown separately.
Maturity
Available for sale
Within one year
One to five years
Five to ten years
Beyond ten years
Agency mortgage-backed: residential
Total
Held to maturity
One to five years
Five to ten years
Beyond ten years
Total
December 31, 2014
Amortized
Cost
Fair
Value
(in thousands)
$ 15,739 $ 15,749
15,058
35,728
658
123,598
$ 190,791
14,171
35,592
572
121,985
$ 188,059
$ 8,876
29,327
4,122
$ 42,325
$ 9,258
30,832
4,408
$ 44,498
Securities pledged at year-end 2014 and 2013 had carrying values of approximately $80.8 million and $84.2 million, respectively, and were
pledged to secure public deposits and repurchase agreements.
At December 31, 2014 and 2013, we held securities issued by the state of Kentucky or municipalities in the state of Kentucky having a book
value of $19.1 million and $21.1 million, respectively. Additionally, at December 31, 2014 and 2013, we held securities issued by the state of
Texas or municipalities in the state of Texas having a book value of $4.4 million at each period end. At year-end 2014 and 2013, there were no
other holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of stockholders’
equity.
Securities with unrealized losses at year-end 2014 and 2013, aggregated by investment category and length of time that individual securities have
been in a continuous unrealized loss position, are as follows:
Description of Securities
2014
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
State and municipal
Corporate bonds
Total temporarily impaired
Less than 12 Months
12 Months or More
Total
Unrealized
Unrealized
Unrealized
Fair
Value
Loss
Fair
Value
Loss
(in thousands)
Fair
Value
Loss
$ 7,778 $
6,960
569
4,884
$ 20,191 $
(590 )
(530 ) $ 26,459 $
(60 ) $ 18,681 $
(357 )
24,898
17,938
(12 )
(345 )
(8 )
569
— —
(8 )
(119 )
(252 )
6,544
(133 )
1,660
(199 ) $ 38,279 $ (1,008 ) $ 58,470 $ (1,207 )
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Description of Securities
2013
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
State and municipal
Corporate bonds
Total temporarily impaired
Held to maturity
State and municipal
Total temporarily impaired
Less than 12 Months
12 Months or More
Total
Unrealized
Unrealized
Unrealized
Fair
Value
Loss
Fair
Value
Loss
(in thousands)
Fair
Value
Loss
$ 24,129 $ (1,444 ) $ — $ — $ 24,129 $ (1,444 )
(278 ) 68,601 (1,950 )
58,257 (1,672 ) 10,344
(28 )
(610 )
(278 ) $ 104,501 $ (4,032 )
(28 ) — —
458
(610 ) — — 11,313
$ 94,157 $ (3,754 ) $ 10,344 $
458
11,313
$ 39,743 $
$ 39,743 $
(654 ) $ 1,031 $
(654 ) $ 1,031 $
(14 ) $ 40,774 $
(14 ) $ 40,774 $
(668 )
(668 )
There were no held to maturity securities in an unrealized loss position at December 31, 2014.
The Company evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or
market concerns warrant such evaluation. Consideration is given to the length of time and the extent to which the fair value has been less than
cost, the financial condition and near-term prospects of the issuer, underlying credit quality of the issuer, and the intent and ability of the
Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an
issuer’s financial condition, the Company may consider whether the securities are issued by the federal government or its agencies, whether
downgrades by bond rating agencies have occurred, the sector or industry trends and cycles affecting the issuer, and the results of reviews of the
issuer’s financial condition. As of December 31, 2014, management does not believe any securities in our portfolio with unrealized losses should
be classified as other than temporarily impaired at this time. Management currently intends to hold all securities with unrealized losses until
recovery, which for fixed income securities may be at maturity.
NOTE 4 – LOANS
Loans at year-end by class were as follows:
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Less: Allowance for loan losses
Loans, net
2014
2013
(in thousands)
$ 60,936 $ 52,878
33,173
77,419
175,452
43,326
71,189
232,026
41,891
197,278
11,347
26,966
537
624,999
(19,364 )
$ 605,635
46,858
228,505
14,365
19,199
980
709,326
(28,124 )
$ 681,202
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The following table presents the activity in the allowance for loan losses by portfolio segment for the year ended December 31, 2014:
Beginning balance
Provision for loan losses
Loans charged off
Recoveries
Ending balance
Commercial
Residential
Commercial
Real Estate
Real
Estate
Consumer Agriculture Other
Total
(in thousands)
$
$
3,221 $ 16,414 $ 7,762 $
1,364
6,395
(690 )
(4,097 )
(1,099 ) (13,846 )
758
1,968
2,046 $ 10,931 $ 5,787 $
614
416 $
25
(335 )
168
274 $
305 $ 6 $ 28,124
31 (25 ) 7,100
(30 ) (19 ) (19,426 )
13 45 3,566
319 $ 7 $ 19,364
The following table presents the activity in the allowance for loan losses by portfolio segment for the year ended December 31, 2013:
Beginning balance
Provision for loan losses
Loans charged off
Recoveries
Ending balance
Commercial
Residential
Commercial
Real Estate
Real
Estate
Consumer Agriculture Other
Total
(in thousands)
$
$
435
4,402 $ 34,768 $ 16,235 $
(1,261 )
1,691
(7,703 )
(2,828 ) (21,176 )
1,212
491
1,131
3,221 $ 16,414 $ 7,762 $
857 $
66
(773 )
266
416 $
403 $ 15 $ 56,680
(222 )
700
(9 )
(128 ) — (32,608 )
252 — 3,352
305 $ 6 $ 28,124
The following table presents the activity in the allowance for loan losses by portfolio segment for the year ended December 31, 2012:
Beginning balance
Provision for loan losses
Loans charged off
Recoveries
Ending balance
Commercial
Residential
Commercial
Real Estate
Real
Estate
Consumer Agriculture Other
Total
(in thousands)
$
$
792 $
4,207 $ 33,024 $ 14,217 $
3,850 23,275 10,884 1,070
(9,071 ) (1,130 )
(3,784 ) (22,366 )
125
205
835
857 $
4,402 $ 34,768 $ 16,235 $
129
325 $ 14 $ 52,579
1,170
1 40,250
(1,164 ) — (37,515 )
72 — 1,366
403 $ 15 $ 56,680
The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on
the impairment method as of December 31, 2014:
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment
Collectively evaluated for impairment
Total ending allowance balance
Loans:
Loans individually evaluated for impairment
Loans collectively evaluated for impairment
Total ending loans balance
Commercial
Residential
Commercial
Real Estate
Real
Estate
Consumer Agriculture Other
Total
(in thousands)
$
$
33 $
227 $
491 $
2,013 10,440
5,560
2,046 $ 10,931 $ 5,787 $
752
1 $ — $ — $
319
7 18,612
319 $ 7 $ 19,364
273
274 $
2,022 $ 48,141 $ 21,384 $
263 $ 122 $ 71,993
$
58,914
553,006
$ 60,936 $ 286,044 $ 239,169 $ 11,347 $ 26,966 $ 537 $ 624,999
237,903
26,703
217,785
11,286
61 $
415
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The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on
the impairment method as of December 31, 2013:
Commercial
Residential
Commercial
Real Estate
Real
Estate
Consumer Agriculture Other
Total
(in thousands)
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment
Collectively evaluated for impairment
Total ending allowance balance
Loans:
Loans individually evaluated for impairment
Loans collectively evaluated for impairment
Total ending loans balance
$
$
$
$
Impaired Loans
290 $
2,931
3,221 $
2,345 $
14,069
16,414 $
827 $
6,935
7,762 $
9 $
407
416 $
— $ — $ 3,471
6 24,653
305
6 $ 28,124
305 $
94,330 $ 49,512 $
322 $ 631 $ 149,883
4,995 $
559,443
47,883
52,878 $ 346,541 $ 275,363 $ 14,365 $ 19,199 $ 980 $ 709,326
252,211
225,851
14,272
18,877
93 $
349
Impaired loans include restructured loans and loans on nonaccrual or classified as doubtful, whereby collection of the total amount is
improbable, or loss, whereby all or a portion of the loan has been written off or a specific allowance for loss had been provided.
The following table presents information related to loans individually evaluated for impairment by class of loan as of and for the year ended
December 31, 2014:
With No Related Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
With An Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Total
Allowance
Unpaid
Principal
Balance
Recorded
Investment
For Loan
Losses
Allocated
Average
Recorded
Investment
Interest
Income
Recognized
(in thousands)
Cash
Basis
Income
Recognized
$ 1,348 $
921 $ — $
1,114 $
55 $
55
106
1,840
4,785
80
8,332
95
275
51
16,912
27
1,542
1,476
—
—
—
80
6,319
29
263
51
10,708
—
—
—
—
—
—
21
2,518
1,285
147
8,091
14
277
54
13,521
1,343
1,101
33
2,103
4,608
5,454
49,106
4,073
3,512
37,511
—
38
453
6,013
3,744
52,500
—
75
128
—
226
—
3
13
500
32
28
—
925
4,266
10,719
32
—
71
61,285
$ 71,993
91
136
1
—
—
752
752
$
5,944
16,419
49
—
201
86,973
$ 100,494
$
180
528
3
—
3
1,699
2,199
$
4,266
11,955
32
—
316
77,080
$ 93,992
78
—
75
128
—
226
—
3
13
500
—
—
—
—
—
—
—
—
—
—
500
Table of Contents
The following table presents information related to loans individually evaluated for impairment by class of loan as of and for the year ended
December 31, 2013:
With No Related Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
With An Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Total
Allowance
Unpaid
Principal
Balance
Recorded
Investment
For Loan
Losses
Allocated
Average
Recorded
Investment
Interest
Income
Recognized
(in thousands)
Cash
Basis
Income
Recognized
$ 2,131 $ 1,533 $ — $ 1,622 $
30 $
30
64
4,074
1,568
38 —
3,898 —
1,404 —
467
4,259
1,724
164
268
367
164
268
366
444
541
11,011 10,083 — 11,533
392 —
9
401
14
9 —
322 —
13 —
19,716
17,692
—
20,390
3
3
116
115
21 — —
213 — —
11
958
11
958
10
3,734
3,462
290
3,905
99
—
10,409
6,117
94,508
9,264
4,238
75,488
218
65
2,062
20,173
5,579
77,726
88
37
1,324
—
—
—
13,883
31,327
84
—
861
160,923
$ 180,639 $ 149,883 $ 3,471 $ 169,324 $ 3,291 $
208
557
3
—
17
2,333
12,117
26,920
84
—
618
132,191
13,121
27,755
134
2
539
148,934
393
434
9
—
—
3,471
—
—
—
—
—
—
958
79
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The following table presents information related to loans individually evaluated for impairment by class of loan as of and for the year ended
December 31, 2012:
With No Related Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
With An Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Total
Allowance
Unpaid
Principal
Balance
Recorded
Investment
For Loan
Losses
Allocated
Average
Recorded
Investment
Interest
Income
Recognized
(in thousands)
Cash
Basis
Income
Recognized
$ 1,460 $ 1,234 $ — $ 1,637 $
5 $
1,155
4,448
2,134
1,109 —
4,448 —
1,892 —
1,745
4,706
3,436
2
57
3
4
2
57
3
643
643 —
13,539 13,158 — 11,291
219
366
910 — —
56
56
8
5
2 —
— — — — — —
127
70 —
45 —
70
45
24,310
22,599
23,494
—
133
4,108
4,062
263
3,964
169
26,645
8,557
100,289
25,455
6,456
86,562
1,543
734
13,769
19,514
5,794
83,087
348
43
2,011
27
5
2
185
14,906
32,835
142
10
524
188,016
$ 211,510 $ 188,808 $ 21,034 $ 175,828 $ 3,976 $
468
787
—
—
17
3,843
11,187
27,404
29
6
533
151,518
14,906
28,092
142
10
524
166,209
1,643
2,998
68
5
11
21,034
—
9
—
—
—
228
355
80
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Troubled Debt Restructuring
A troubled debt restructuring (TDR) is where the Company has agreed to a loan modification in the form of a concession for a borrower who is
experiencing financial difficulty. The majority of the Company’s TDRs involve a reduction in interest rate, a deferral of principal for a stated
period of time, or an interest only period. All TDRs are considered impaired and the Company has allocated reserves for these loans to reflect the
present value of the concessionary terms granted to the customer.
The following table presents the types of TDR loan modifications by portfolio segment outstanding as of December 31, 2014 and 2013:
December 31, 2014
Commercial
Rate reduction
Principal deferral
Commercial Real Estate:
Construction
Rate reduction
Farmland
Principal deferral
Other
Rate reduction
Principal deferral
Residential Real Estate:
Multi-family
Rate reduction
1-4 Family
Rate reduction
Consumer
Rate reduction
Total TDRs
December 31, 2013
Commercial
Rate reduction
Principal deferral
Commercial Real Estate:
Construction
Rate reduction
Principal deferral
Farmland
Rate reduction
Principal deferral
Other
Rate reduction
Principal deferral
Interest only payments
Residential Real Estate:
Multi-family
Rate reduction
Interest only payments
1-4 Family
Rate reduction
Consumer
Rate reduction
Other
Rate reduction
Total TDRs
TDRs
Performing to
Modified Terms
TDRs Not
Performing to
Modified Terms
(in thousands)
Total
TDRs
$
14
—
$
—
869
$
14
869
268
—
8,622
671
4,266
8,112
32
21,985
1,933
—
275
499
150
—
22,457
691
2,439
4,354
641
10,312
84
511
44,346
$
$
3,379
3,647
2,365
2,365
13,894
—
22,516
671
—
4,266
—
8,112
—
20,507
32
$ 42,492
—
869
$ 1,933
869
6,345
—
—
2,365
21,235
—
1,489
6,620
499
150
2,365
43,692
691
3,928
6,655
—
11,009
641
7,958
18,270
—
84
—
46,916
511
$ 91,262
$
$
$
$
81
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At December 31, 2014 and 2013, 52% and 49%, respectively, of the Company’s TDRs were performing according to their modified terms. The
Company allocated $579,000 and $2.9 million as of December 31, 2014 and 2013, respectively, in reserves to customers whose loan terms have
been modified in TDRs. The Company has committed to lend no additional amounts to customers as of December 31, 2014, and additional
amounts totaling $261,000 as of December 31, 2013 to customers with outstanding loans that are classified as TDRs.
Management periodically reviews renewals/modifications of previously identified TDRs, for which there was no principal forgiveness, to
consider if it is appropriate to remove the TDR classification. If the borrower is no longer experiencing financial difficulty and the
renewal/modification did not contain a concessionary interest rate or other concessionary terms, management considers the potential removal of
the TDR classification. If deemed appropriate, the TDR classification is removed as the borrower has complied with the terms of the loan at the
date of renewal/modification and there was a reasonable expectation that the borrower would continue to comply with the terms of the loan
subsequent to the date of the renewal/modification. In this instance, the TDR was originally considered a restructuring in a prior year as a result
of a modification with an interest rate that was not commensurate with the risk of the underlying loan. Additionally, TDR classification can be
removed in circumstances in which the Company performs a non-concessionary re-modification of the loan at terms that were considered to be
at market for loans with comparable risk. Management expects the borrower will continue to perform under the re-modified terms based on the
borrower’s past history of performance.
No TDR loan modifications occurred during the twelve months ended December 31, 2014. The following table presents a summary of the types
of TDR loan modifications by portfolio type that occurred during the twelve months ended December 31, 2013:
December 31, 2013
Commercial
Rate reduction
Commercial Real Estate:
Construction
Rate reduction
Principal deferral
Other
Rate reduction
Residential Real Estate:
1-4 Family
Rate reduction
Consumer
Rate reduction
Total TDRs
TDRs
Performing to
Modified Terms
TDRs Not
Performing to
Modified Terms
(in thousands)
Total
TDRs
$
34
$
—
$
34
—
499
385
2,145
84
3,147
$
1,291
—
1,291
499
—
385
—
2,145
—
1,291
84
$ 4,438
$
As of December 31, 2013, 71% of the Company’s TDRs that occurred during 2013 were performing in accordance with their modified terms.
The Company has allocated $345,000 in reserves to customers whose loan terms have been modified during 2013. For modifications occurring
during the twelve months ended December 31, 2013, the post-modification balances approximate the pre-modification balances.
During 2013, approximately $1.3 million of TDRs defaulted on their restructured loan and the default occurred within the 12 month period
following the loan modification. The defaults in 2013 were all construction loans. A default is considered to have occurred once the TDR is past
due 90 days or more or it has been placed on nonaccrual.
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Non-performing Loans
Non-performing loans include impaired loans and smaller balance homogeneous loans, such as residential mortgage and consumer loans, that are
collectively evaluated for impairment.
The following table presents the recorded investment in nonaccrual and loans past due 90 days and still on accrual by class of loan as of
December 31, 2014 and 2013:
Nonaccrual
Loans Past
Due 90 Days
And Over Still
Accruing
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
2014
2013
(in thousands)
$ 1,978 $ 2,886 $ — $ —
2014
2013
3,831
5,054
26,892
8,528
7,844
48,447
—
—
—
—
—
—
80
8,925
30
263
122
$ 47,175
7,513
26,098
9
322
120
$ 101,767
—
151
—
—
—
$ 151
—
230
2
—
—
$ 232
The following table presents the aging of the recorded investment in past due loans by class as of December 31, 2014 and 2013:
December 31, 2014
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
30 – 59
Days
Past Due
60 – 89
Days
Past Due
90 Days
And Over
Past Due Nonaccrual
(in thousands)
Total
Past Due
And
Nonaccrual
$
86 $ — $ — $ 1,978 $ 2,064
—
400
241
—
14
318
—
—
—
3,831
5,054
26,892
3,831
5,468
27,451
—
3,124
109
—
—
$ 3,960
—
601
47
—
—
$ 980
—
151
—
—
—
$
151
80
8,925
30
263
122
$ 47,175
80
12,801
186
263
122
$ 52,266
83
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December 31, 2013
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
Credit Quality Indicators
30 – 59
Days
Past Due
60 – 89
Days
Past Due
90 Days
And Over
Past Due Nonaccrual
(in thousands)
Total
Past Due
And
Nonaccrual
$
156 $ 123 $ — $ 2,886 $ 3,165
261
484
4,375
—
41
—
—
—
—
8,528
7,844
48,447
8,789
8,369
52,822
1,181
4,059
145
35
—
$ 10,696
—
577
34
—
—
$ 775
—
230
2
—
—
$
232
7,513
26,098
9
322
120
$ 101,767
8,694
30,964
190
357
120
$ 113,470
We categorize all loans into risk categories at origination based upon original underwriting. Thereafter, we categorize 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, credit documentation, public information, and current economic trends. Additionally, loans are analyzed continuously through our
internal and external loan review processes. Borrower relationships in excess of $500,000 are routinely analyzed through our credit
administration processes which classify the loans as to credit risk. The following definitions are used for risk ratings:
Watch – Loans classified as watch are those loans which have experienced a potentially adverse development which necessitates increased
monitoring.
Special Mention – Loans classified as special mention do not have all of the characteristics of substandard or doubtful loans. They have one or
more deficiencies which warrant special attention and which corrective action, such as accelerated collection practices, may remedy.
Substandard – Loans classified as substandard are those loans with clear and defined weaknesses such as a highly leveraged position,
unfavorable financial ratios, uncertain repayment sources or poor financial condition which may jeopardize the repayment of the debt as
contractually agreed. They are characterized by the distinct possibility that we will sustain some losses if the deficiencies are not corrected.
Doubtful – Loans classified as doubtful are those loans which have characteristics similar to substandard loans but with an increased risk that
collection or liquidation in full is highly questionable and improbable.
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Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be “Pass” rated
loans. As of December 31, 2014 and 2013, and based on the most recent analysis performed, the risk category of loans by class of loans is as
follows:
December 31, 2014
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
December 31, 2013
Commercial
Commercial Real Estate:
Construction
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
Pass
Watch
Special
Mention Substandard Doubtful
Total
(in thousands)
$ 49,440 $ 5,063 $ — $
6,433 $ — $ 60,936
25,266 2,990 —
61,672 7,922 —
111,426 21,017 3,747
4,917 — 33,173
7,825 — 77,419
39,262 — 175,452
31,526 6,039 —
145,450 23,928 131
537 311
10,115
704 —
25,816
415 — —
4,326 — 41,891
27,769 — 197,278
384 — 11,347
446 — 26,966
537
122 —
$ 461,126 $ 68,200 $ 4,189 $ 91,484 $ — $ 624,999
Pass
Watch
Special
Mention Substandard Doubtful
Total
(in thousands)
$ 35,438 $ 8,517 $ 329 $
8,594 $ — $ 52,878
16,706 10,771 2,277
9,121 1,735
46,909
93,327 51,522 734
13,572 — 43,326
13,424 — 71,189
86,443 — 232,026
16,506 17,320 —
130,833 43,785 784
12,718
6
1,802 —
16,742
510 —
350
13,032 — 46,858
53,103 — 228,505
673 — 14,365
655 — 19,199
980
120 —
$ 369,529 $ 144,316 $ 5,865 $ 189,616 $ — $ 709,326
968
In December 2014, the Company identified and transferred certain substandard accruing loans to loans held for sale. The loans were transferred
to held for sale at the lower of cost or fair value. The Company identified $10.7 million of loans to sell and recorded a $1.8 million charge to the
allowance for loan losses to reduce the loan balances to the estimated fair value. Loans held for sale total $8.9 million at December 31, 2014,
comprised of $6.0 million in commercial real estate, $1.9 million in 1-4 family residential real estate, and $1.0 million in multi-family real estate.
Approximately $4.5 million of these loans were classified as TDRs prior to transfer to loans held for sale. These loans were not past due at
December 31, 2014.
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NOTE 5 – PREMISES AND EQUIPMENT
Year-end premises and equipment were as follows:
Land and buildings
Furniture and equipment
Accumulated depreciation
2014
2013
(in thousands)
$ 24,711
17,641
42,352
(22,845 )
$ 19,507
$ 24,673
17,211
41,884
(21,901 )
$ 19,983
Depreciation expense was $940,000, $1,043,000 and $1,165,000 for 2014, 2013 and 2012, respectively.
NOTE 6 – OTHER REAL ESTATE OWNED
Other real estate owned (OREO) is real estate acquired as a result of foreclosure or by deed in lieu of foreclosure. It is classified as real estate
owned until such time as it is sold. When property is acquired as a result of foreclosure or by deed in lieu of foreclosure, it is recorded at its fair
market value less cost to sell. Any write-down of the property at the time of acquisition is charged to the allowance for loan losses. Costs
incurred in order to perfect the lien prior to foreclosure may be capitalized if the fair value less the cost to sell exceeds the balance of the loan at
the time of transfer to OREO. Examples of eligible costs to be capitalized are payments of delinquent property taxes to clear tax liens or
payments to contractors and subcontractors to clear mechanics’ liens. Subsequent reductions in fair value are recorded as non-interest expense.
To determine the fair value of OREO for smaller dollar single family homes, we consult with internal real estate sales staff and external realtors,
investors, and appraisers. If the internally evaluated market price is below our underlying investment in the property, appropriate write-downs
are taken. For larger dollar residential and commercial real estate properties, we obtain a new appraisal of the subject property or have staff from
our special assets group or in our centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to other real
estate owned. We typically obtain updated appraisals within five quarters of the anniversary date of ownership unless a sale is imminent.
The following table presents the major categories of OREO at the period-ends indicated:
Commercial Real Estate:
Construction, land development, and other land
Farmland
Other
Residential Real Estate:
Multi-family
1-4 Family
Valuation allowance
2014
2013
(in thousands)
$ 18,748 $ 19,199
695
6,064
669
14,860
4,988
7,998
47,263
(1,066 )
$ 46,197
248
4,916
31,122
(230 )
$ 30,892
Activity relating to the other real estate owned valuation allowance during the years indicated is as follows:
Beginning balance
Provision to allowance
Write-downs
Ending balance
2014
$ 230
4,255
(3,419 )
$ 1,066
2013
(in thousands)
$ 1,154
2,466
(3,390 )
$ 230
2012
$ 1,667
7,154
(7,667 )
$ 1,154
86
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Activity relating to other real estate owned during the years indicated is as follows:
OREO Activity
OREO as of January 1
Real estate acquired
Valuation adjustments for declining market values
Improvements
Net gain (loss) on sale
Proceeds from sale of properties
OREO as of December 31
Expenses related to other real estate owned include:
Net (gain) loss on sales
Provision to allowance
Operating expense
Total
NOTE 7 – INTANGIBLE ASSETS
Acquired intangible assets were as follows as of year-end:
2014
2013
(in thousands)
2012
$ 30,892
32,338
(4,255 )
—
306
(13,084 )
$ 46,197
$ 43,671
20,606
(2,466 )
—
(132 )
(30,787 )
$ 30,892
$ 41,449
33,528
(7,154 )
1
(1,672 )
(22,481 )
$ 43,671
2014
$ (306 )
4,255
1,890
$ 5,839
2013
(in thousands)
$ 132
2,466
1,918
$ 4,516
2012
$ 1,672
7,154
1,723
$ 10,549
Amortized intangible assets:
Core deposit intangibles
2014
2013
Gross
Carrying
Accumulated
Gross
Carrying
Accumulated
Amount
Amortization
Amount
Amortization
(in thousands)
$ 4,183
$
3,405
$ 4,183
$
3,008
Aggregate amortization expense was $397,000, $428,000 and $467,000 for 2014, 2013 and 2012, respectively.
Estimated aggregate amortization expense for intangible assets for each of the next five years is as follows (in thousands):
2015
2016
2017
2018
2019
$ 335
334
109
—
—
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NOTE 8 – DEPOSITS
The following table shows deposits by category:
Non-interest bearing
Interest checking
Money market
Savings
Certificates of deposit
Total
December 31,
December 31,
2014
2013
(in thousands)
$ 114,910
91,086
109,734
36,430
574,681
$ 926,841
$ 107,486
84,626
79,349
36,292
679,952
$ 987,705
Time deposits of $250,000 or more were approximately $34,399,000 and $39,763,000 at year-end 2014 and 2013, respectively.
Scheduled maturities of total time deposits for each of the next five years are as follows (in thousands):
2015
2016
2017
2018
2019
Thereafter
Total
$ 416,486
95,506
12,178
10,223
40,286
2
$ 574,681
NOTE 9 – SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase are financing arrangements that mature within two years. At maturity, the securities underlying
the agreements are returned to the Company. Securities sold under agreements to repurchase are secured by agency, mortgage-backed, and
municipal securities. Information concerning securities sold under agreements to repurchase is summarized as follows:
Balance at year-end
Average daily balance during the year
Average interest rate during the year
Maximum month-end balance during the year
Weighted average interest rate at year-end
Fair value of securities sold under agreements to repurchase at year-end
2014
$ 1,341
$ 2,255
0.15 %
$ 3,473
0.14 %
$ 1,341
2013
(in thousands)
$ 2,470
$ 3,113
0.20 %
$ 4,747
0.17 %
$ 2,470
2012
$ 2,634
$ 2,088
0.35 %
$ 2,634
0.23 %
$ 2,634
NOTE 10 – ADVANCES FROM FEDERAL HOME LOAN BANK
At year-end, advances from the Federal Home Loan Bank were as follows:
Monthly amortizing advances with fixed rates from 0.00% to 5.25% and maturities
ranging from 2015 through 2033, averaging 1.02% for 2014 and 3.07% for 2013
$ 15,752
$ 4,492
2014
2013
(in thousands)
Each advance is payable per terms on agreement, with a prepayment penalty. No prepayment penalties were incurred during 2013 or 2014. The
advances were collateralized by approximately $131.5 million and $138.4 million of first mortgage loans, under a blanket lien arrangement at
year-end 2014 and 2013, respectively. Our borrowing capacity is based on the market value of the underlying pledged loans rather than the
unpaid principal balance of the pledged loans. The availability of our borrowing capacity could be affected by our financial position and the
FHLB could require additional collateral or, among other things, exercise its rights to deny a funding request, at its discretion. Additionally, any
new advances are limited to a one year maturity or less. At December 31, 2014, our additional borrowing capacity with the FHLB was $13.0
million.
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Scheduled principal payments on the above during the next five years and thereafter (in thousands):
2015
2016
2017
2018
2019
Thereafter
Advances
$ 12,709
625
541
266
185
1,426
$ 15,752
At year-end 2014, the Company had a $5.0 million federal funds line of credit available on a secured basis from a correspondent institution;
however, the availability of this line could be affected by our financial position.
NOTE 11 – SUBORDINATED CAPITAL NOTE
The subordinated capital note issued by the Bank totaled $5.0 million at December 31, 2014. The note is unsecured, bears interest at the BBA
three-month LIBOR floating rate plus 300 basis points, and qualifies as Tier 2 capital. Principal payments of $225,000 plus interest are due
quarterly. Scheduled principal payments of $900,000 per year are due each of the next five years with $450,000 due thereafter. The note matures
July 1, 2020. The interest rate on this note was 3.24% and 3.25% at December 31, 2014 and 2013, respectively.
NOTE 12 – JUNIOR SUBORDINATED DEBENTURES
The junior subordinated debentures are redeemable at par prior to the maturity dates of February 13, 2034, April 15, 2034, and March 1, 2037, at
the option of the Company as defined within the trust indenture. The Company has the option to defer interest payments on the junior
subordinated debentures from time to time for a period not to exceed twenty (20) consecutive quarters. If payments are deferred, the Company is
prohibited from paying dividends on its preferred and common shares. Effective with the fourth quarter of 2011, we began deferring interest
payments on the junior subordinated notes which resulted in a deferral of distributions on our trust preferred securities. Therefore, future cash
dividends on our common stock are subject to the prior payment of all deferred distributions on our trust preferred securities. Dividends accrued
and unpaid on our junior subordinated debentures totaled $2.2 million at December 31, 2014. A summary of the junior subordinated debentures
is as follows:
Description
Porter Statutory Trust II
Porter Statutory Trust III
Porter Statutory Trust IV
Ascencia Statutory Trust I
Issuance
Date
Interest Rate (1)
Junior
Subordinated
Debt Owed
To Trust
End of 20
Quarter
Deferral
Period
Maturity
Date (2)
02-13-2004 3-month LIBOR + 2.85% $ 5,000,000 09-19-2016 02-13-2034
04-15-2004 3-month LIBOR + 2.79% 3,000,000 09-18-2016 04-15-2034
12-14-2006 3-month LIBOR + 1.67% 14,000,000 09-01-2016 03-01-2037
02-13-2004 3-month LIBOR + 2.85% 3,000,000 09-19-2016 02-13-2034
$ 25,000,000
(1) As of December 31, 2014, the 3-month LIBOR was 0.26%.
(2) The debentures are callable at our option at their principal amount plus accrued interest.
NOTE 13 – OTHER BENEFIT PLANS
401(K) Plan – The Company 401(k) Savings Plan allows employees to contribute up to the annual limits as determined by the Internal Revenue
Service, which is matched equal to 50% of the first 4% of compensation contributed. The Company, at its discretion, may make an additional
contribution. Total contributions made by the Company to the plan totaled approximately $187,000, $195,000 and $148,000 in 2014, 2013 and
2012, respectively.
Supplemental Executive Retirement Plan – The Company has created a supplemental executive retirement plan covering certain executive
officers. Under the plan, the Company pays each participant, or their beneficiary, a specific defined benefit amount over 10 years, beginning
with the individual’s retirement or early termination of service for reasons other than cause. A liability is accrued for the obligation under these
plans. The expense incurred for the plan was $122,000, $87,000 and $151,000 for the years ended December 31, 2014, 2013 and 2012,
respectively. The related liability was $1,341,000, $1,348,000 and $1,338,000 at December 31, 2014, 2013 and 2012, respectively, and is
included in other liabilities on the balance sheets.
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The Company purchased life insurance on the participants of the plan. The cash surrender value of all insurance policies was $9,167,000 and
$8,911,000 at December 31, 2014 and 2013, respectively. Income earned from the cash surrender value of life insurance totaled $276,000,
$534,000, and $312,000 for the years ended December 31, 2014, 2013 and 2012, respectively. The income is recorded as other non-interest
income.
NOTE 14 – INCOME TAXES
Income tax expense (benefit) was as follows:
Current
Deferred
Net operating loss
Change in valuation allowance
2014
$ —
2,151
(6,651 )
2,917
$ (1,583 )
2013
(in thousands)
$ —
9,489
(10,430 )
941
$ —
2012
$
(65 )
754
(12,581 )
11,827
(65 )
$
Effective tax rates differ from federal statutory rate of 35% applied to income (loss) before income taxes due to the following.
Federal statutory rate times financial statement income (loss)
Effect of:
Valuation allowance
Tax-exempt income
Nontaxable life insurance income
Other, net
Total
Year-end deferred tax assets and liabilities were due to the following.
Deferred tax assets:
Net operating loss carry-forward
Allowance for loan losses
Other real estate owned write-down
Alternative minimum tax credit carry-forward
Net assets from acquisitions
Other than temporary impairment on securities
Net unrealized loss on securities
New market tax credit carry-forward
Nonaccrual loan interest
Amortization of non-compete agreements
Other
Deferred tax liabilities:
FHLB stock dividends
Fixed assets
Originated mortgage servicing rights
Net unrealized gain on securities
Other
Net deferred tax assets before valuation allowance
Valuation allowance
Net deferred tax asset
90
2014
2013
2012
$ (4,458 )
(in thousands)
$ (555 )
$ (11,549 )
2,917
(319 )
(97 )
374
$ (1,583 )
941
(324 )
(180 )
118
$ —
11,827
(314 )
(102 )
73
(65 )
$
December 31,
December 31,
2014
2013
(in thousands)
$
32,111
6,777
10,000
692
668
46
—
208
958
14
1,371
52,845
928
264
53
579
373
2,197
50,648
(50,648 )
—
$
$
$
25,460
9,843
9,478
692
644
89
1,067
208
911
16
1,640
50,048
1,276
333
75
—
570
2,254
47,794
(47,794 )
—
Table of Contents
Our estimate of the realizability of the deferred tax asset is dependent on our estimate of projected future levels of taxable income. In analyzing
future taxable income levels, we considered all evidence currently available, both positive and negative. Based on our analysis, we established a
valuation allowance for all deferred tax assets as of December 31, 2011. The valuation allowance remains in effect as of December 31, 2014.
The calculation for the income tax provision or benefit generally does not consider the tax effects of changes in other comprehensive income, or
OCI, which is a component of stockholders’ equity on the balance sheet. However, an exception is provided in certain circumstances, such as
when there is a full valuation allowance against net deferred tax assets, there is a loss from continuing operations and there is income in other
components of the financial statements. In such a case, pre-tax income from other categories, such as changes in OCI, must be considered in
determining a tax benefit to be allocated to the loss from continuing operations. For the year ended December 31, 2014, this resulted in $1.6
million of income tax benefit allocated to continuing operations. The December 31, 2014 tax benefit is entirely due to gains in other
comprehensive income that are presented in current operations in accordance with applicable accounting standards.
The Company does not have any beginning and ending unrecognized tax benefits. The Company does not expect the total amount of
unrecognized tax benefits to significantly increase or decrease in the next twelve months. There were no interest and penalties recorded in the
income statement or accrued for the year ended December 31, 2014 related to unrecognized tax benefits.
The Company and its subsidiaries are subject to U.S. federal income tax and the Company is subject to income tax in the state of Kentucky. The
Company is no longer subject to examination by taxing authorities for years before 2011.
NOTE 15 – RELATED PARTY TRANSACTIONS
Loans to principal officers, directors, significant shareholders, and their affiliates in 2014 were as follows (in thousands):
Beginning balance
New loans
Loans to directors who did not stand for re-election
Repayments
Ending balance
$ 1,093
11
(196 )
(908 )
$ —
Deposits from principal officers, directors, significant shareholders, and their affiliates at year-end 2014 and 2013 were $307,000 and
$1.4 million, respectively.
Our loan participation totals include participation loans sold to The Peoples Bank, Mt. Washington and The Peoples Bank, Taylorsville. The
Estate of J. Chester Porter, one of our significant shareholders, and Mr. Porter’s brother and former director, William G. Porter, each own a 50%
interest in Lake Valley Bancorp, Inc., the parent holding company of The Peoples Bank, Taylorsville, Kentucky. The Estate of J. Chester Porter
owns an interest of approximately 37.0% and Mr. Porter’s brother, William G. Porter, owns an interest of approximately 3.0% in Crossroads
Bancorp, Inc., the parent holding company of The Peoples Bank, Mount Washington, Kentucky.
As of December 31, 2014, we had $3.2 million of participation loans sold to these banks. As of December 31, 2013, we had $4.9 million of
participation loans sold to these banks. At December 31, 2014, $527,000 of loan participations sold to Peoples Bank, Taylorsville, and $527,000
sold to Peoples Bank, Mt. Washington were on nonaccrual. There were no participation loans purchased from these banks at December 31, 2014
or 2013.
The Bank entered into a Real Estate Listing and Property Management Agreement with Hogan Development Company, an entity in which our
director, W. Glenn Hogan, has an ownership interest. Under this agreement, Hogan Development Company assists the Bank in onboarding,
managing, and selling the Bank’s OREO. The agreement is periodically reviewed and evaluated by the independent members of our Audit
Committee. The Bank paid real estate management fees of $221,000 and $207,000 and real estate sales commissions of $64,000 and $773,000 to
Hogan Development Company in 2014 and 2013, respectively.
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In December 2014, we completed a non-cash equity exchange transaction with the accredited investors who acquired all of our issued and
outstanding Series A Preferred Shares from UST in a public auction. The investors included W. Glenn Hogan and Michael T. Levy, both
directors of the Company, as well as Patriot Financial Partners L.P. and Patriot Financial Partners Parallel L.P. (the “Patriot Funds”), funds for
whom a director of the Company, W. Kirk Wycoff, serves as general partner. Mr. Hogan exchanged 5,000 shares of Series A Preferred Stock,
and was issued 17,143 shares of mandatorily convertible Series B Preferred Stock, 885 shares of Series E Preferred Stock, and 1,405 shares of
Series F Preferred Stock. Mr. Levy exchanged 750 shares of Series A Preferred Stock, and was issued 257,143 common shares, 133 shares of
Series E Preferred Stock, and 211 shares of Series F Preferred Stock. The Patriot Funds exchanged 19,688 shares of Series A Preferred Stock,
317,042 shares of Series C Preferred Stock, and 753,263 warrants to purchase non-voting common shares, and was issued 6,250 shares of
mandatorily convertible Series B Preferred Stock, 64,580 shares of mandatorily convertible Series D Preferred Stock, and 3,486 shares of Series
E Preferred Stock. After shareholder approval on February 25, 2015, Mr. Hogan’s 17,143 shares of Series B Preferred Stock converted into
1,714,300 common shares and the Patriot Funds’ Series B Preferred Stock converted into 625,000 common shares. The Patriot Funds’ Series D
Preferred Stock converted into 6,458,000 non-voting common shares.
NOTE 16 – PREFERRED STOCK AND STOCK PURCHASE WARRANTS
On November 21, 2008, we issued to the U.S. Treasury 35,000 shares of our Series A Preferred Stock and a warrant to purchase up to 330,561 of
our common shares for $15.88 per share in exchange for aggregate consideration of $35.0 million. The warrant is exercisable and has a 10-year
term. The Series A Preferred Stock qualified as Tier 1 capital and was entitled to receive cumulative cash dividends quarterly at an annual rate of
5% for the first five years, and 9% beginning in November 2013. The Series A Preferred Stock was non-voting (except when required by law)
and redeemable at $1,000 per share plus accrued unpaid dividends.
In 2010, we completed a $32.0 million private placement to accredited investors. In the transactions involved, the Company issued (i) 2,465,569
common shares, (ii) 317,042 Series C Preferred Shares and (iii) warrants to purchase 1,163,045 non-voting common shares at a price of $11.50
per share.
The Series C Preferred Shares had no voting rights (except when required by law), had a liquidation preference over our common shares, and
dividend rights equivalent to our common shares. Each Series C Preferred Share would have automatically converted into 1.05 common shares if
transferred by the holder in certain transactions in accordance with the policy of the Federal Reserve.
In December 2014, we completed a non-cash equity exchange transaction with the accredited investors who acquired all of our issued and
outstanding Series A Preferred Shares from UST in a public auction. We acquired and cancelled all of the issued and outstanding Series A
Preferred Shares, the accrued dividends thereon, all of the issued and outstanding Series C Preferred Shares, and warrants to purchase 798,915
shares of common stock together having an aggregate book value of approximately $45.7 million. In exchange, we issued common and preferred
shares having a fair value of approximately $9.6 million. The effect of this exchange transaction was to increase common stockholders’ equity
by approximately $36.1 million, and total stockholders’ equity by $7.4 million.
In the exchange transaction, we issued 1,821,428 common shares, 40,536 mandatorily convertible Series B Preferred Shares and 64,580
mandatorily convertible Series D Preferred Shares, which automatically converted into 4,053,600 common shares and 6,458,000 non-voting
common shares after shareholder approval on February 25, 2015. We also issued 6,198 Series E Preferred Shares and 4,304 Series F Preferred
Shares, both of which series are not convertible into common shares, have a liquidation preference of $1,000 per share, and are entitled to a 2%
noncumulative annual dividend if and when declared. Series E and Series F Preferred Shares rank senior to, and have liquidation and dividend
preferences over, our common shares and non-voting common shares.
NOTE 17 – CAPITAL REQUIREMENTS AND RESTRICTIONS ON RETAINED EARNINGS
Banks and bank holding companies are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy
guidelines and, additionally for banks, prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-
balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative
judgments by regulators. Failure to meet capital requirements can initiate regulatory action.
On June 24, 2011, the Bank entered into a Consent Order with the FDIC and the Kentucky Department of Financial Institutions. The consent
order requires the Bank to complete a management study, to maintain Tier 1 capital as a percentage of total assets of at least 9% and a total risk
based capital ratio of at least 12%, to develop a plan to reduce our risk position in each substandard asset in excess of $1 million, to complete
board review of the adequacy of the allowance for loan losses prior to quarterly Call Report submissions, to adopt procedures which strengthen
the loan review function and ensure timely and accurate grading of credit relationships, to charge-off all assets classified as loss, to develop a
plan to reduce concentrations of construction and development loans to not more than 75% of total risk based capital and non-owner occupied
commercial real estate loans to not more than 250% of total risk based capital, to limit asset growth to no more than 5% in any quarter or 10%
annually, to not extend additional credit to any borrower classified substandard unless the board of directors adopts prior to the extension a
detailed statement giving reasons why the extension is in the best interest of the bank, and to not declare or pay any dividend without the prior
consent of our regulators. We are also restricted from accepting, renewing, or rolling-over brokered deposits without the prior receipt of a waiver
on a case-by-case basis from our regulators.
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On September 21, 2011, we entered into a Written Agreement with the Federal Reserve Bank of St. Louis. Pursuant to the Agreement, we made
formal commitments to use our financial and management resources to serve as a source of strength for the Bank and to assist the Bank in
addressing weaknesses identified by the FDIC and the KDFI, to pay no dividends without prior written approval, to pay no interest or principal
on subordinated debentures or trust preferred securities without prior written approval, and to submit an acceptable plan to maintain sufficient
capital.
In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage
ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank cannot be considered well-capitalized while under the Consent Order.
The Bank also agreed that if it should be unable to reach the required capital levels, and if directed in writing by the FDIC, then the Bank would
within 30 days develop, adopt and implement a written plan to sell or merge itself into another federally insured financial institution or otherwise
immediately obtain a capital investment into the Bank sufficient to fully meet the capital requirements. We have not been directed by the FDIC
to implement such a plan.
The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order,
and includes the substantive provisions of the June 2011 Consent Order. As of December 31, 2014, the capital ratios required by the Consent
Order were not met.
The following table shows the ratios and amounts of Tier 1 capital and total capital to risk-adjusted assets and the leverage ratios for Porter
Bancorp, Inc. and the Bank at the dates indicated (dollars in thousands):
As of December 31, 2014:
Total risk-based capital (to risk- weighted assets)
Consolidated
Bank
Tier I capital (to risk-weighted assets)
Consolidated
Bank
Tier I capital (to average assets)
Consolidated
Bank
As of December 31, 2013:
Total risk-based capital (to risk-weighted assets)
Consolidated
Bank
Tier I capital (to risk-weighted assets)
Consolidated
Bank
Tier I capital (to average assets)
Consolidated
Bank
93
Actual
Amount Ratio
For Capital
Adequacy
Purposes
Amount Ratio
$ 73,595
73,174
10.61 % $ 55,483
55,383
10.57
8.00 %
8.00
46,459
59,438
6.70
8.59
27,741
27,691
4.00
4.00
46,459
59,438
4.51
5.78
41,193
41,143
4.00
4.00
Actual
Amount Ratio
For Capital
Adequacy
Purposes
Amount Ratio
$ 80,203
83,055
11.03 % $ 58,178
58,064
11.44
8.00 %
8.00
53,371
67,897
7.34
9.35
29,089
29,032
4.00
4.00
53,371
67,897
4.95
6.28
43,156
43,221
4.00
4.00
Table of Contents
The Consent Order requires the Bank to achieve the minimum capital ratios presented below:
Total capital to risk-weighted assets
Tier I capital to average assets
Actual as of
December 31, 2014
Amount Ratio
$ 73,174
59,438
Ratio Required by
Consent Order
Amount Ratio
10.57 % $ 83,074
92,572
5.78
12.00 %
9.00
At December 31, 2014, the Bank’s Tier 1 leverage ratio was 5.78% and its total risk-based capital ratio was 10.57%, which are below the 9%
minimum capital ratio and the 12% minimum capital ratio required by the Consent Order. Bank regulatory agencies can exercise discretion when
an institution does not meet the terms of a Consent Order. Based on individual circumstances, the agencies may issue mandatory directives,
impose monetary penalties, initiate changes in management, or take more serious adverse actions.
Kentucky banking laws limit the amount of dividends that may be paid to a holding company by its subsidiary banks without prior approval.
These laws limit the amount of dividends that may be paid in any calendar year to current year’s net income, as defined in the laws, combined
with the retained net income of the preceding two years, less any dividends declared during those periods. The Bank has agreed with its primary
regulators to obtain their written consent prior to declaring or paying any future dividends. As a practical matter, the Bank cannot pay dividends
for the foreseeable future.
NOTE 18 – LOAN COMMITMENTS AND OTHER RELATED ACTIVITIES
Some financial instruments, such as loan commitments, lines of credit and letters of credit are issued to meet customer-financing needs. These
are agreements to provide credit or to support the credit of others, as long as conditions established in the contract are met, and usually have
expiration dates. Commitments may expire without being used. Off-balance-sheet risk to credit loss exists up to the face amount of these
instruments, although material losses are not anticipated. The same credit policies are used to make such commitments as are used for loans,
including obtaining collateral at exercise of the commitment.
The Company holds instruments, in the normal course of business, with clients that are considered financial guarantees. Standby letters of credit
guarantees are issued in connection with agreements made by clients to counterparties. Standby letters of credit are contingent upon failure of the
client to perform the terms of the underlying contract. The Company evaluates each credit request of its customers in accordance with
established lending policies. Based on these evaluations and the underlying policies, the amount of required collateral (if any) is established.
Collateral held varies but may include negotiable instruments, accounts receivable, inventory, property, plant and equipment, income producing
properties, residential real estate, and vehicles. The Company’s access to these collateral items is generally established through the maintenance
of recorded liens or, in the case of negotiable instruments, possession. No liability is currently established for the standby letters of credit.
The contractual amounts of financial instruments with off-balance-sheet risk at year end were as follows:
Commitments to make loans
Unused lines of credit
Standby letters of credit
Commitments to make loans are generally made for periods of one year or less.
NOTE 19 – FAIR VALUES
2014
2013
Fixed
Rate
Variable
Rate
Fixed
Rate
Variable
Rate
(in thousands)
$ 11,790
13,075
966
$ 7,843
35,562
1,354
$ 3,125
11,814
995
$ 5,751
40,721
1,504
Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most
advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. We use various
valuation techniques to determine fair value, including market, income and cost approaches. There are three levels of inputs that may be used to
measure fair values:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that an entity has the ability to access as of the
measurement date, or observable inputs.
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Level 2: Significant other observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in
markets that are not active, and other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect an entity’s own assumptions about the assumptions that market participants would use
in pricing an asset or liability.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. When that occurs, we classify the
fair value hierarchy on the lowest level of input that is significant to the fair value measurement. We used the following methods and significant
assumptions to estimate fair value.
Securities: The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities
exchanges, if available. This valuation method is classified as Level 1 in the fair value hierarchy. For securities where quoted prices are not
available, fair values are calculated on market prices of similar securities, or matrix pricing, which is a mathematical technique used widely
in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the
securities’ relationship to other benchmark quoted securities. Matrix pricing relies on the securities’ relationship to similarly traded
securities, benchmark curves, and the benchmarking of like securities. Matrix pricing utilizes observable market inputs such as benchmark
yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and
industry and economic events. In instances where broker quotes are used, these quotes are obtained from market makers or broker-dealers
recognized to be market participants. This valuation method is classified as Level 2 in the fair value hierarchy. For securities where quoted
prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market
indicators. This valuation method is classified as Level 3 in the fair value hierarchy. Discounted cash flows are calculated using spread to
swap and LIBOR curves that are updated to incorporate loss severities, volatility, credit spread and optionality. During times when trading
is more liquid, broker quotes are used (if available) to validate the model. Rating agency and industry research reports as well as defaults
and deferrals on individual securities are reviewed and incorporated into the calculations.
Impaired Loans: An impaired loan is evaluated at the time the loan is identified as impaired and is recorded at fair value less costs to sell.
Fair value is measured based on the value of the collateral securing the loan and is classified as Level 3 in the fair value hierarchy. Fair
value is determined using several methods. Generally, the fair value of real estate is determined based on appraisals by qualified licensed
appraisers. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the
income approach.
Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and
income data available. These routine adjustments are made to adjust the value of a specific property relative to comparable properties for
variations in qualities such as location, size, and income production capacity relative to the subject property of the appraisal. Such
adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value.
We routinely apply an internal discount to the value of appraisals used in the fair value evaluation of our impaired loans. The deductions to
the appraisal take into account changing business factors and market conditions, as well as potential value impairment in cases where our
appraisal date predates a likely change in market conditions. These deductions range from 10% for routine real estate collateral to 25% for
real estate that is determined (1) to have a thin trading market or (2) to be specialized collateral. This is in addition to estimated discounts
for cost to sell of six to ten percent.
We also apply discounts to the expected fair value of collateral for impaired loans where the likely resolution involves litigation or
foreclosure. Resolution of this nature generally results in receiving lower values for real estate collateral in a more aggressive sales
environment. We have utilized discounts ranging from 10% to 33% in our impairment evaluations when applicable.
Impaired loans are evaluated quarterly for additional impairment. We obtain updated appraisals on properties securing our loans when
circumstances are warranted such as at the time of renewal or when market conditions have significantly changed. This determination is
made on a property-by-property basis in light of circumstances in the broader economic climate and our assessment of deterioration of real
estate values in the market in which the property is located. The first stage of our assessment involves management’s inspection of the
property in question. Management also engages in conversations with local real estate professionals, investors, and market participants to
determine the likely marketing time and value range for the property. The second stage involves an assessment of current trends in the
regional market. After thorough consideration of these factors, management will either internally evaluate fair value or order a new
appraisal.
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Other Real Estate Owned (OREO) : OREO is evaluated at the time of acquisition and recorded at fair value as determined by
independent appraisal or internal evaluation less cost to sell. Our quarterly evaluations of OREO for impairment are driven by property
type. For smaller dollar single family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers.
Based on these consultations, we determine asking prices for OREO properties we are marketing for sale. If the internally evaluated fair
value is below our recorded investment in the property, appropriate write-downs are taken.
For larger dollar commercial real estate properties, we obtain a new appraisal of the subject property or have staff in our special assets
group or centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to other real estate owned. In
some of these circumstances, an appraisal is in process at quarter end, and we must make our best estimate of the fair value of the
underlying collateral based on our internal evaluation of the property, review of the most recent appraisal, and discussions with the
currently engaged appraiser. We generally obtain updated appraisals within five quarters of the anniversary date of ownership unless a sale
is imminent.
We routinely apply an internal discount to the value of appraisals used in the fair value evaluation of our OREO. The deductions to the
appraisal take into account changing business factors and market conditions, as well as potential value impairment in cases where our
appraisal date predates a likely change in market conditions. These deductions range from 10% for routine real estate collateral to 25% for
real estate that is determined (1) to have a thin trading market or (2) to be specialized collateral. This is in addition to estimated discounts
for cost to sell of six to ten percent.
Financial assets measured at fair value on a recurring basis are summarized below:
Fair Value Measurements at December 31, 2014 Using
(in thousands)
Significant Other
Quoted Prices In
Active Markets for
Significant
Unobservable
Description
Available for sale securities
U.S. Government and federal agency
Agency mortgage-backed: residential
State and municipal
Corporate bonds
Other debt securities
Total
Carrying
Value
Identical Assets
(Level 1)
Observable
Inputs
(Level 2)
Inputs
(Level 3)
$ 35,443
123,598
12,404
18,688
658
$ 190,791
$
$
96
—
—
—
—
—
—
$
$
35,443
123,598
12,404
18,688
—
190,133
$
$
—
—
—
—
658
658
Table of Contents
Fair Value Measurements at December 31, 2013 Using
(in thousands)
Significant Other
Quoted Prices In
Active Markets for
Significant
Unobservable
Description
Available for sale securities
U.S. Government and federal agency
Agency mortgage-backed: residential
State and municipal
Corporate bonds
Other debt securities
Equity securities
Total
Carrying
Value
Identical Assets
(Level 1)
Observable
Inputs
(Level 2)
Inputs
(Level 3)
$ 29,866
100,943
13,545
18,161
632
197
$ 163,344
$
$
—
—
—
—
—
197
197
$
$
29,866
100,943
13,545
18,161
—
—
162,515
$
$
—
—
—
—
632
—
632
There were no transfers between Level 1 and Level 2 during 2014 or 2013.
The table below presents a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3)
for the periods ended December 31, 2014 and 2013:
Balances of recurring Level 3 assets at January 1
Total gain (loss) for the period:
Included in other comprehensive income (loss)
Balance of recurring Level 3 assets at December 31
Other Debt
Securities
2014
2013
(in thousands)
$ 632
$ 618
26
$ 658
14
$ 632
Our other debt security valuation is determined internally by calculating discounted cash flows using the security’s coupon rate of 6.5% and an
estimated current market rate of 8.0% based upon the current yield curve plus spreads that adjust for volatility, credit risk, and optionality. We
also consider the issuer(s) publicly filed financial information as well as assumptions regarding the likelihood of deferrals and defaults.
Financial assets measured at fair value on a non-recurring basis are summarized below:
Fair Value Measurements at December 31, 2014 Using
(in thousands)
Significant Other
Quoted Prices In
Active Markets for
Significant
Unobservable
Description
Impaired loans:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Other real estate owned, net:
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Carrying
Value
Identical Assets
(Level 1)
Observable
Inputs
(Level 2)
Inputs
(Level 3)
$ 1,068
$
—
$
—
$
1,068
4,073
3,474
37,058
4,175
10,583
31
—
71
18,325
654
14,525
4,875
7,818
97
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
4,073
3,474
37,058
4,175
10,583
31
—
71
18,325
654
14,525
4,875
7,818
Table of Contents
Description
Impaired loans:
Commercial
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Other real estate owned, net:
Commercial real estate:
Construction
Farmland
Other
Residential real estate:
Multi-family
1-4 Family
Fair Value Measurements at December 31, 2013 Using
(in thousands)
Significant Other
Quoted Prices In
Active Markets for
Significant
Unobservable
Carrying
Value
Identical Assets
(Level 1)
Observable
Inputs
(Level 2)
Inputs
(Level 3)
$ 3,172
$
—
$
—
$
3,172
9,046
4,173
73,426
11,724
26,486
75
—
618
19,057
690
6,019
246
4,880
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
9,046
4,173
73,426
11,724
26,486
75
—
618
19,057
690
6,019
246
4,880
Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of
$61.3 million, with a valuation allowance of $752,000, at December 31, 2014, resulting in an additional provision for loan losses for the year
ended December 31, 2014 of $5.2 million. At December 31, 2013, impaired loans had a carrying amount of $132.2 million, with a valuation
allowance of $3.5 million, at December 31, 2013, resulting in no additional provision for loan losses for the year ended December 31, 2013.
Other real estate owned, which is measured at the lower of carrying or fair value less costs to sell, had a net carrying amount of $46.2 million as
of December 31, 2014, compared with $30.9 million at December 31, 2013. Write-downs of $4.3 million and $2.5 million were recorded on
other real estate owned for the years ended December 31, 2014 and 2013, respectively.
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The following table presents qualitative information about level 3 fair value measurements for financial instruments measured at fair value on a
non-recurring basis at December 31, 2014:
Impaired loans – Commercial
Fair Value
(in thousands)
1,068
$
Valuation
Technique(s)
Unobservable Input(s)
Range (Weighted
Average)
Market value approach
Adjustment for
16% - 32% (24%)
receivables and inventory
discounts
Impaired loans – Commercial real estate
$
44,605
Sales comparison approach
Adjustment for
0% - 62% (14%)
differences between
the comparable sales
Impaired loans – Residential real estate
$
14,758
Sales comparison approach
Adjustment for
0% - 39% (11%)
Income approach
Discount or capitalization rate
8% - 9% (8%)
Other real estate owned – Commercial
$
33,504
Sales comparison approach
real estate
differences between
the comparable sales
Adjustment for differences
between the comparable
sales
0% - 45% (18%)
Other real estate owned – Residential real
$
12,693
Sales comparison approach
estate
Adjustment for differences
between the comparable
sales
0% - 15% (6%)
Income approach
Discount or capitalization rate 9% - 20% (13%)
The following table presents qualitative information about level 3 fair value measurements for financial instruments measured at fair value on a
non-recurring basis at December 31, 2013:
Impaired loans – Commercial
Fair Value
(in thousands)
3,172
$
Valuation
Technique(s)
Unobservable Input(s)
Range (Weighted
Average)
Market value approach
Adjustment for receivables
16% - 32% (24%)
and inventory discounts
Impaired loans – Commercial real
$
86,645
Sales comparison approach
Adjustment for
0% - 69% (20%)
estate
differences between the
comparable sales
Impaired loans – Residential real estate
$
38,210
Sales comparison approach
Adjustment for
0% - 68% (15%)
differences between the
comparable sales
Other real estate owned – Commercial
$
25,766
Sales comparison approach
Adjustment for
3% - 51% (22%)
real estate
Income approach
Discount or capitalization
7% - 16% (11%)
differences between the
comparable sales
Other real estate owned – Residential
$
5,126
Sales comparison approach
real estate
rate
Adjustment for differences
between the comparable
sales
2% - 54% (11%)
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Carrying amount and estimated fair values of financial instruments were as follows at year-end 2014:
Fair Value Measurements at December 31, 2014 Using
Carrying
Amount
Level 1
Level 2
(in thousands)
Level 3
Total
Financial assets
Cash and cash equivalents
Securities available for sale
Securities held to maturity
Federal Home Loan Bank stock
Loans held for sale
Loans, net
Accrued interest receivable
Financial liabilities
Deposits
Securities sold under agreements to repurchase
Federal Home Loan Bank advances
Subordinated capital notes
Junior subordinated debentures
Accrued interest payable
$ 80,180 $ 49,007 $ 31,173 $ — $ 80,180
190,791
44,498
N/A
8,926
615,914
3,503
658
—
N/A
—
615,914
2,114
190,791
42,325
7,323
8,926
605,635
3,503
—
—
N/A
—
—
—
190,133
44,498
N/A
8,926
—
1,389
$ 926,841 $ 114,910 $ 804,508 $ — $ 919,418
1,341
15,758
4,765
14,214
2,858
—
—
4,765
14,214
2,107
—
—
—
—
—
1,341
15,752
4,950
25,000
2,858
1,341
15,758
—
—
751
Carrying amount and estimated fair values of financial instruments were as follows at year-end 2013:
Fair Value Measurements at December 31, 2013 Using
Carrying
Amount
Level 1
Level 2
(in thousands)
Level 3
Total
Financial assets
Cash and cash equivalents
Securities available for sale
Securities held to maturity
Federal Home Loan Bank stock
Loans held for sale
Loans, net
Accrued interest receivable
Financial liabilities
Deposits
Securities sold under agreements to repurchase
Federal Home Loan Bank advances
Subordinated capital notes
Junior subordinated debentures
Accrued interest payable
$ 111,134 $ 106,885 $ 4,249 $ — $ 111,134
163,344
42,947
N/A
149
695,999
3,891
632
—
N/A
—
695,999
2,548
162,515
42,947
N/A
149
—
1,343
197
—
N/A
—
—
—
163,344
43,612
10,072
149
681,202
3,891
$ 987,705 $ 107,486 $ 879,707 $ — $ 987,193
2,470
4,495
5,586
13,526
2,535
—
—
5,586
13,526
1,493
2,470
4,492
5,850
25,000
2,535
—
—
—
—
—
2,470
4,495
—
—
1,042
The methods and assumptions used to estimate fair value are described as follows:
(a) Cash and Cash Equivalents
The carrying amounts of cash and short-term instruments approximate fair values and are classified as either Level 1 or Level 2.
Noninterest bearing deposits are Level 1 whereas interest bearing due from bank accounts and fed funds sold are Level 2.
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(b) FHLB Stock
It is not practical to determine the fair value of FHLB stock due to restrictions placed on its transferability.
(c) Loans, Net
Fair values of loans, excluding loans held for sale, are estimated as follows: For variable rate loans that reprice frequently and with no
significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are
estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of
similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described
previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.
(d) Loans Held for Sale
The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2
classification.
(e) Deposits
The fair values disclosed for non-interest bearing deposits are, by definition, equal to the amount payable on demand at the reporting date
resulting in a Level 1 classification. The carrying amounts of variable rate interest bearing deposits approximate their fair values at the
reporting date resulting in a Level 2 classification. Fair values for fixed rate interest bearing deposits are estimated using a discounted cash
flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities
on time deposits resulting in a Level 2 classification.
(f) Securities Sold Under Agreements to Repurchase
The carrying amounts of borrowings under repurchase agreements approximate their fair values resulting in a Level 2 classification.
(g) Other Borrowings
The fair values of the Company’s FHLB advances are estimated using discounted cash flow analyses based on the current borrowing rates
resulting in a Level 2 classification.
The fair values of the Company’s subordinated capital notes and junior subordinated debentures are estimated using discounted cash flow
analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.
(h) Accrued Interest Receivable/Payable
The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification based on the level of the
asset or liability with which the accrual is associated.
NOTE 20 – STOCK PLANS AND STOCK BASED COMPENSATION
The Company has two stock incentive plans. On February 23, 2006, the Company adopted the Porter Bancorp, Inc. 2006 Stock Incentive Plan.
In May 2013, shareholders approved an amendment to the plan to increase the number of shares authorized for issuance by 800,000 shares. In
May 2014, shareholders approved an amendment to the Plan to increase the number of shares authorized for issuance by 300,000 shares. The
2006 Plan now permits the issuance of up to 1,563,050 shares of the Company’s common stock upon the grant of stock awards. As of
December 31, 2014, the Company had issued and outstanding 770,440 unvested shares net of forfeitures and vesting under the stock incentive
plan. Shares issued under the plan vest annually on the anniversary date of the grant over three to ten years. The Company has 533,271 shares
remaining available for issue under the plan.
On May 15, 2006, the Board of Directors approved the Porter Bancorp, Inc. 2006 Non-Employee Directors Stock Ownership Incentive Plan,
which was approved by holders of the Company’s voting common stock on June 8, 2006. On May 16, 2012, holders of the Company’s voting
common stock voted to further amend the 2006 Non-Employee Directors Stock Ownership Incentive Plan to award restricted shares having a
fair market value of $25,000 annually to each non-employee director, and to increase the number of shares issuable under the Directors’ Plan
from 100,000 shares to 400,000 shares. In May 2014, the Plan was further amended to increase the number of shares issuable to 700,000 shares.
Unvested shares are granted automatically under the plan at fair market value on the date of grant and vest on December 31 in the year of grant.
To date, the Company has issued and outstanding 5,052 unvested shares, net of forfeitures and vesting, to non-employee directors. At
December 31, 2014, 301,512 shares remain available for issuance under this plan.
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The fair value of the 2014 unvested shares issued to employees was $113,000, or $0.93 per weighted-average share. The fair value of the 2014
unvested shares issued to directors was $150,000, or $0.90 per weighted-average share. The Company recorded $555,000 and $604,000 of stock-
based compensation during the 2014 and 2013, respectively, to salaries and employee benefits. We expect substantially all of the unvested shares
outstanding at the end of the period will vest according to the vesting schedule. No deferred tax benefit was recognized related to this expense
for either period.
The following table summarizes unvested share activity as of and for the periods indicated for the Stock Incentive Plan:
Outstanding, beginning
Granted
Vested
Forfeited
Outstanding, ending
Twelve Months Ended
December 31, 2014
Twelve Months Ended
December 31, 2013
Weighted
Average
Grant
Price
$ 1.56
0.93
2.20
4.21
$ 1.33
Weighted
Average
Grant
Price
$ 5.92
1.18
12.19
6.22
$ 1.56
Shares
153,316
693,214
(22,113 )
(36,991 )
787,426
Shares
787,426
122,220
(133,227 )
(5,979 )
770,440
The following table summarizes unvested share activity as of and for the periods indicated for the Non-Employee Directors Stock Ownership
Incentive Plan:
Outstanding, beginning
Granted
Vested
Forfeited
Outstanding, ending
Twelve Months Ended
December 31, 2014
Twelve Months Ended
December 31, 2013
Weighted
Average
Grant
Price
$ 1.69
0.90
0.98
1.29
$ 1.65
Weighted
Average
Grant
Price
$ 1.77
0.85
1.01
—
$ 1.69
Shares
80,078
182,355
(215,005 )
—
47,428
Shares
47,428
166,668
(154,222 )
(54,822 )
5,052
Unrecognized stock based compensation expense related to unvested shares for 2015 and beyond is estimated as follows (in thousands):
2015
2016
2017
2018
2019 & thereafter
102
$ 371
263
50
—
—
Table of Contents
NOTE 21 – EARNINGS (LOSS) PER SHARE
The factors used in the basic and diluted earnings per share computation follow:
2014
2013
(in thousands, except share and per share data)
2012
Net loss
Less:
Preferred stock dividends
Effect of preferred stock exchange
Accretion of Series A preferred stock discount
Income (loss) attributable to unvested shares
Income (loss) attributable to participating
preferred shares
Net income (loss) attributable to common
shareholders, basic and diluted
$
(11,155 )
$
(1,586 )
$
(32,932 )
2,362
(36,104 )
—
1,435
1,724
1,919
—
160
(171 )
(96 )
1,750
—
179
(482 )
(947 )
$
19,428
$
(3,398 )
$
(33,432 )
Basic
Weighted average common shares including unvested
common shares and participating preferred shares
outstanding
Less:
Weighted average unvested common shares
Weighted average Series B preferred shares
Weighted average Series C preferred shares
Weighted average Series D preferred shares
Weighted average common shares outstanding
Basic income (loss) per common share
Diluted
Add: Dilutive effects of assumed exercises of
common and Preferred Series C stock warrants
Weighted average common shares and potential
common shares
Diluted income (loss) per common share
14,230,936
12,722,782
12,248,936
904,208
299,855
308,269
477,715
12,240,889
1.59
$
595,150
—
332,894
—
11,794,738
(0.29 )
$
169,323
—
332,894
—
11,746,719
(2.85 )
$
—
—
—
12,240,889
1.59
$
11,794,738
(0.29 )
$
11,746,719
(2.85 )
$
The Company had no outstanding stock options at December 31, 2014, 2013 or 2012. A warrant for the purchase of 330,561 shares of the
Company’s common stock at an exercise price of $15.88 was outstanding at December 31, 2014, 2013 and 2012 but was not included in the
diluted EPS computation as inclusion would have been anti-dilutive. Additionally, warrants for the purchase of 650,544 and 1,449,459 shares of
non-voting common stock at an exercise price of $10.95 per share were outstanding at December 31, 2014 and 2013, respectively, but were not
included in the diluted EPS computation as inclusion would have been anti-dilutive.
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NOTE 22 – PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
Condensed financial information of Porter Bancorp Inc. is presented as follows:
CONDENSED BALANCE SHEETS
December 31,
ASSETS
Cash and cash equivalents
Securities available for sale
Investment in banking subsidiary
Investment in and advances to other subsidiaries
Other assets
Total assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Debt
Accrued expenses and other liabilities
Shareholders’ equity
Total liabilities and shareholders’ equity
CONDENSED STATEMENTS OF OPERATIONS
Years ended December 31,
Interest income
Dividends from subsidiaries
Other income
Interest expense
Other expense
Loss before income tax and undistributed subsidiary income
Income tax expense
Equity in undistributed subsidiary income (loss)
Net loss
104
2014
2013
(in thousands)
$ 1,275
658
58,097
776
730
$ 61,536
$ 25,775
2,296
33,465
$ 61,536
$ 1,815
829
63,815
776
740
$ 67,975
$ 25,775
6,269
35,931
$ 67,975
2014
$
53
19
44
(631 )
(1,765 )
(2,280 )
13
(8,862 )
$ (11,155 )
$
2013
(in thousands)
82
20
966
(642 )
(2,064 )
(1,638 )
—
52
$ (1,586 )
2012
$
114
21
72
(692 )
(1,453 )
(1,938 )
864
(30,130 )
$ (32,932 )
Table of Contents
CONDENSED STATEMENTS OF CASH FLOWS
Years ended December 31,
Cash flows from operating activities
Net loss
Adjustments:
Equity in undistributed subsidiary (income) loss
Gain on sale of assets
Tax expense from OCI components
Change in other assets
Change in other liabilities
Other
Net cash (used in) operating activities
Cash flows from investing activities
Investments in subsidiaries
Sales of securities
Net cash (used in) from investing activities
Cash flows from financing activities
Dividends paid on preferred stock
Dividends paid on common stock
Net cash (used in) financing activities
Net change in cash and cash equivalents
Beginning cash and cash equivalents
Ending cash and cash equivalents
2014
2013
(in thousands)
2012
$ (11,155 )
$ (1,586 )
$ (32,932 )
8,862
(44 )
13
(26 )
1,040
591
(719 )
(52 )
(727 )
—
(240 )
833
640
(1,132 )
30,130
—
—
(21 )
776
478
(1,569 )
—
179
179
—
1,952
1,952
—
—
—
—
—
—
(540 )
1,815
$ 1,275
—
—
—
820
995
$ 1,815
—
—
—
(1,569 )
2,564
995
$
NOTE 23 – QUARTERLY FINANCIAL DATA (UNAUDITED)
Provision
Net Interest
Interest
Income
Income
For
Loan
Losses
OREO
Expense
(in thousands, except per share data)
Net
Income
(Loss)
Earnings (Loss)
Per Common Share
Basic (1) Diluted (1)
2014
First quarter
Second quarter
Third quarter
Fourth quarter
2013
First quarter
Second quarter
Third quarter
Fourth quarter
$ 9,897 $
10,166
9,814
9,636
7,300 $ — $ 662 $ (287 )
$ (0.08 ) $
7,614 6,300 774 (6,234 ) (2) (0.53 )
(0.12 )
7,337 — 560
800 3,843 (3,785 ) (3) 1.91
7,467
(849 )
(0.08 )
(0.53 )
(0.12 )
1.91
$ 11,258 $
11,168
10,543
10,259
450 $ 791 $
8,298 $
(69 )
8,352 — 1,657 (1,309 )
298
7,849
250 669
(506 )
7,586 — 1,399
$ (0.04 ) $
(0.14 )
(0.01 )
(0.09 )
(0.04 )
(0.14 )
(0.01 )
(0.09 )
(1) The sum of the quarterly net income (loss) per share (basic and diluted) differs from the annual net income (loss) per share (basic and
diluted) because of the differences in the weighted average number of common shares outstanding and the common shares used in the
quarterly and annual computations as well as differences in rounding.
(2) The $6.2 million loss for the second quarter was primarily due to provision for loan losses expense of $6.3 million.
(3) The $3.8 million loss for the fourth quarter was primarily due to elevated OREO expenses of $3.8 million.
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NOTE 24 – CONTINGENCIES
We are defendants in various legal proceedings. Litigation is subject to inherent uncertainties and unfavorable rulings could occur. We record
contingent liabilities resulting from claims against us when a loss is assessed to be probable and the amount of the loss is reasonably estimable.
Assessing probability of loss and estimating probable losses requires analysis of multiple factors, including in some cases judgments about the
potential actions of third party claimants and courts. Recorded contingent liabilities are based on the best information available and actual losses
in any future period are inherently uncertain. Currently, we have accrued approximately $2.1 million related to ongoing litigation matters for
which we believe liability is probable and reasonably estimable. Accruals are not made in cases where liability is not probable or the amount
cannot be reasonably estimated. We disclose legal matters when we believe liability is reasonably possible and may be material to our
consolidated financial statements.
Signature Point Litigation. On June 18, 2010, three real estate development companies filed suit in Kentucky state court against the Bank and
Managed Assets of Kentucky (“MAKY”). Signature Point Condominiums LLC, et al. v. PBI Bank, et al ., Jefferson Circuit Court, Case No 10-
CI-04295. On July 16, 2013, a jury in Louisville, Kentucky returned a verdict against the Bank, awarding the plaintiffs compensatory damages
of $1,515,000 and punitive damages of $5,500,000. The case arose from a settlement in which the Bank agreed to release the plaintiffs and
guarantors from obligations of more than $26 million related to a real estate project in Louisville. The plaintiffs were granted a right of first
refusal to repurchase a tract of land within the project. In exchange, the plaintiffs conveyed the real estate securing the loans to the Bank. After
plaintiffs declined to exercise their right of first refusal, the Bank sold the tract to the third party. Plaintiffs alleged the Bank had knowledge of
the third party offer before the conveyance of the land by the Plaintiffs to the Bank. Plaintiffs asserted claims of fraud, breach of fiduciary duty,
breach of the duty of good faith and fair dealing, tortious interference with prospective business advantage and conspiracy to commit fraud,
negligence, and conspiracy against the Bank.
After conferring with its legal advisors, the Bank believes the findings and damages are excessive and contrary to law, and that it has meritorious
grounds on which it has moved to appeal. The Bank’s Notice of Appeal was filed on October 25, 2013. After a number of procedural issues were
resolved, the Bank filed its appellate brief on September 30, 2014. Appellee’s brief was filed on December 1, 2014. We will continue to defend
this matter vigorously. Although we have made provisions in our consolidated financial statements for this self-insured matter, the amount of our
legal accrual is less than the original amount of the damages awarded, plus accrued interest. The ultimate outcome of this matter could have a
material adverse effect on our financial condition, results of operations or cash flows.
SBAV LP Litigation. On December 17, 2012, SBAV LP filed a lawsuit against the Company, the Bank, J. Chester Porter and Maria L. Bouvette
in New York state court. The proceeding was removed to New York federal district court on January 16, 2013, and on February 27, 2013, SBAV
LP filed an Amended Complaint. On July 10, 2013, the New York federal district court granted the defendants’ motion to transfer the case to
federal district court in Kentucky. SBAV LP v. Porter Bancorp, et. al., Civ. Action 3:13-CV-710 (W.D.KY). The Amended Complaint alleges a
violation of the Kentucky Securities Act and negligent misrepresentation against all named defendants, and breach of contract against Porter
Bancorp alone. The plaintiff seeks damages in an amount in excess of $4,500,000, or the difference between the $5,000,016 purchase price and
the value of the securities when sold by the plaintiff, plus interest at the applicable statutory rate, costs and reasonable attorneys’ fees. On
September 13, 2013, defendants filed a motion to dismiss all claims in the complaint for pleading failures and for failure to state a claim upon
which relief may be granted. On March 25, 2014, the judge ruled that SBAV had failed to state a claim against the Bank and dismissed the Bank
from the case. The claims against the Company, the Estate of J. Chester Porter and Ms. Bouvette remain and have proceeded to discovery. On
April 21, 2014, the Company filed a third-party complaint for contribution against SBAV’s investment adviser, the Clinton Group, Inc. On
September 16, 2014, the Court dismissed the Third-Party Complaint, but held that, if proven, Clinton’s errors in conducting due diligence may
lessen any recovery available to SBAV. Discovery is continuing. On February 9, 2015, the parties jointly requested the Court to vacate the
current trial date of October 20, 2015 to provide additional time for discovery and motion practice in the case. We dispute the material factual
allegations made in SBAV’s complaint and intend to defend against SBAV’s claims vigorously.
Miller’s Health System Inc. Employee Stock Ownership Plan. On December 26, 2013, the United States Department of Labor (“DOL”) filed a
lawsuit against the Bank in U.S. District Court for the Northern District of Indiana. Thomas E. Perez, Secretary of the United States Department
of Labor v. PBI Bank, Inc. (Civ. Action 3:13-CV-1400-PPS). The complaint alleges that in 2007 the Bank, in the capacity of trustee for the
Miller’s Health System’s Inc. Employee Stock Ownership Plan, authorized the alleged imprudent and disloyal purchase of the stock of Miller’s
Health Systems, Inc. (“Miller’s Health”) in 2007 for $40 million, a price allegedly far in excess of the stock’s fair market value. The suit also
alleges, among other things, that the Bank approved 100% seller financing for the transaction at an excessive rate of interest. On March 31,
2014, the Bank filed its answer, disputing the material factual allegations of the complaint. On April 10, 2014, the Bank filed a third-party
complaint against Miller’s Health seeking to enforce its indemnity rights, as well as third party claims for contribution against named directors
and officers of Miller’s Health. On March 12, 2015, the parties agreed to settle the litigation, subject to the execution of a written settlement
agreement. The Bank has agreed to a settlement payment, most of which has either been previously reserved for or will be paid from insurance
proceeds. We do not anticipate the settlement of this litigation will have a material adverse effect on the Company’s financial condition or
operating results.
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AIT Laboratories Employee Stock Ownership Plan. On August 29, 2014, the United States Department of Labor (“DOL”) filed a lawsuit
against the Bank and Michael A. Evans in the U.S. District Court for the Southern District of Indiana. Thomas E. Perez, Secretary of the United
States Department of Labor v. PBI Bank, Inc. and Michael A. Evans (Case No. 1:14-CV-01429-SEB-MJD). The complaint alleges that in 2009,
the Bank, in the capacity of trustee for the AIT Laboratories Employee Stock Ownership Plan, authorized the alleged imprudent and disloyal
purchase of the stock of AIT Holdings, Inc. in 2009 for $90 million, a price allegedly far in excess of the stock’s fair market value. The Bank’s
responsive pleading was filed on November 4, 2014, disputing the material factual allegations that have been made by the DOL. Discovery is in
the early stages. We intend to defend against DOL’s claims vigorously.
United States Department of Justice Investigation. On October 17, 2014, the United States Department of Justice (the “DOJ”) notified the Bank
that the Bank was the subject of an investigation into possible violations of federal laws, including, among other things, possible violations
related to false bank entries, bank fraud and securities fraud. The investigation concerns allegations that Bank personnel engaged in practices
intended to delay or avoid disclosure of the Bank’s asset quality at the time of and following the United States Treasury’s purchase of preferred
stock from the Company in November 2008. The Bank will respond to and cooperate with any requests for information from DOJ. At this time
the investigation is ongoing, and DOJ has made no determination whether to pursue any action in the matter.
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Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
None
Item 9A.
Controls and Procedures
Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15(e) and
15d-15(e) of the Securities Exchange Act of 1934. As of December 31, 2014, an evaluation was performed under the supervision and with the
participation of management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation
of our disclosure controls and procedures.
Management determined that a material weakness existed in the Company’s internal control over financial reporting at June 30, 2014. The
Company utilized information to record the fair value of other real estate owned at June 30, 2014 which was obtained prior to taking possession
of commercial real estate through a settlement agreement with a contentious borrower on June 24, 2014, rather than promptly obtaining new
information material to the fair value of the properties before the filing of the financial statements as of and for the three and six month periods
ended June 30, 2014. We determined, after the filing of those financial statements, that our initial estimate of fair value was significantly higher
than the actual fair value as it was not based upon the best information available. Based upon the restatement of the Company’s financial
statements as of and for the three and six month periods ended June 30, 2014, the Company determined that our internal controls for recording
other real estate owned at estimated fair value less costs to sell did not in this instance establish an accurate initial book value and were not
effective. Our management, overseen by the Audit Committee, worked throughout the fourth quarter of 2014 to implement controls, procedures,
and processes to remediate this control weakness.
These enhanced controls, procedures, and process improvements include:
• The Special Assets Group promptly and thoroughly reviews new information material to the fair value of the property and analyzes key
assumptions relevant to the fair value conclusion and cost to sell estimate. New information includes, but it not limited to, updated
appraisals, site visits performed by the Special Assets Group, and discussions with current tenants.
• Personnel, including senior management, consult with the Special Assets Group and external experts, such as property management
professionals, to evaluate the new information material to the fair value of the property including comparable sales, income and
expenses, and other relevant valuation factors.
• Finance and accounting personnel engage in detailed discussions regarding valuation issues and review other real estate owned,
including additions, with the Special Assets Group throughout each reporting period and through the subsequent period up to the filing
of the financial statements.
During the fourth quarter of 2014, we took steps to resolve the material weakness by changing our controls, procedures, and processes for
recording other real estate owned at estimated fair value less cost to sell, as discussed above. Notwithstanding the steps taken during the fourth
quarter of 2014, the identified material weakness will not be considered remediated until the new procedures have been in operation for a
sufficient period of time to be tested and determined by management to be operating effectively. Based on our evaluation and the reason
described above, management, including our Chief Executive Officer and our Chief Financial Officer, concluded that our disclosure controls and
procedures were not effective as of the end of the period covered by this report. Management’s Report on Internal Control Over Financial
Reporting is set forth under Item 8 “Financial Statements and Supplementary Data.” There were no other changes in our internal control over
financial reporting that occurred during the year ended December 31, 2014 that have materially affected, or are reasonably likely to materially
affect, our internal control over financial reporting.
Item 9B.
Other Information
None
PART III
Item 10.
Directors, Executive Officers and Corporate Governance.
We have adopted a code of ethics applicable to our Chief Executive Officer and our senior financial officers, which is posted on our website at
http://www.pbibank.com . If we amend or waive any of the provisions of the Code of Ethics applicable to our Chief Executive Officer or senior
financial officers, we intend to disclose the amendment or waiver on our website. We will provide to any person without charge, upon request, a
copy of this Code of Ethics. You can request a copy by contacting Porter Bancorp, Inc., Chief Financial Officer, 2500 Eastpoint Parkway,
Louisville, Kentucky, 40223, (telephone) 502-499-4800.
Additional information required by this Item 10 is omitted because we are filing a definitive proxy statement pursuant to Regulation 14A on or
before April 30, 2015, which includes the required information. The required information contained in our proxy statement is incorporated
herein by reference.
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Item 11.
Executive Compensation.
The information required by this Item 11 is omitted because we are filing a definitive proxy statement pursuant to Regulation 14A on or before
April 30, 2015, which includes the required information. The required information contained in our proxy statement is incorporated herein by
reference.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required by this Item 12 is omitted because we are filing a definitive proxy statement pursuant to Regulation 14A on or before
April 30, 2015, which includes the required information. The required information contained in our proxy statement is incorporated herein by
reference.
Item 13.
Certain Relationships and Related Transactions, and Director Independence.
The information required by this Item 13 is omitted because we are filing a definitive proxy statement pursuant to Regulation 14A on or before
April 30, 2015, which includes the required information. The required information contained in our proxy statement is incorporated herein by
reference.
Item 14.
Principal Accounting Fees and Services.
The information required by this Item 14 is omitted because we are filing a definitive proxy statement pursuant to Regulation 14A on or before
April 30, 2015, which includes the required information. The required information contained in our proxy statement is incorporated herein by
reference.
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PART IV
Item 15.
Exhibits and Financial Statement Schedules
(a) 1. The following financial statements are included in this Form 10-K:
Consolidated Balance Sheets as of December 31, 2014 and 2013
Consolidated Statements of Operations for the Years Ended December 31, 2014, 2013, and 2012
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2014, 2013, and 2012
Consolidated Statements of Change in Stockholders’ Equity for the Years Ended December 31, 2014, 2013, and 2012
Consolidated Statements of Cash Flows for the Years Ended December 31, 2014, 2013, and 2012
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
(a) 2. List of Financial Statement Schedules
Financial statement schedules are omitted because the information is not applicable.
(a) 3. List of Exhibits
The Exhibit Index of this report is incorporated by reference. The compensatory plans or arrangement required to be filed as
exhibits to this Form 10-K pursuant to Item 15(c) are noted with an asterisk in the Exhibit Index.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
March 30, 2015
PORTER BANCORP, INC.
By: /s/ John T. Taylor
John T. Taylor
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated.
/s/ John T. Taylor
John T. Taylor
/s/ Phillip W. Barnhouse
Phillip W. Barnhouse
s/ W. Glenn Hogan
W. Glenn Hogan
/s/ Michael T. Levy
Michael T. Levy
/s/ Bradford T. Ray
Bradford T. Ray
/s/ N. Marc Satterthwaite
N. Marc Satterthwaite
/s/ W. Kirk Wycoff
W. Kirk Wycoff
Chief Executive Officer
Chief Financial Officer
Director
Director
Director
Director
Director
111
March 30, 2015
March 30, 2015
March 30, 2015
March 30, 2015
March 30, 2015
March 30, 2015
March 30, 2015
Table of Contents
Exhibit No. (1)
EXHIBIT INDEX
Description
3.1
3.2
4.1
4.2
10.1+
10.2+
10.3+
10.4+
10.5+
10.6+
10.7
10.8
10.9
10.10
10.11
10.12
10.13
21.1
23.1
31.1
31.2
Amended and Restated Articles of Incorporation, dated March 2, 2015. Exhibit 3.1 to Form 8-K filed March 2, 2015 is
incorporated by reference.
Amended and Restated Bylaws of Porter Bancorp, Inc. Exhibit 3.1 to Form 8-K filed May 22, 2014 is hereby
incorporated by reference. Bylaws dated November 30, 2005. Exhibit 3.2 to Form S-1 Registration Statement
(Reg. No. 333-133198) filed April 11, 2006 is incorporated by reference.
Warrant to purchase up to 299,829 shares. Exhibit 4.1 to Form 8-K filed November 24, 2008 is incorporated by
reference.
Securities Purchase Agreement between Porter Bancorp, Inc. and Patriot Financial Partners, L.P. and other purchasers
named therein, dated as of June 30, 2010. Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the
SEC on July 7, 2010 is incorporated by reference.
Porter Bancorp, Inc. 2006 Stock Incentive Plan as amended and restated as of March 26, 2014. Exhibit 10.1 to
Registration Statement (Reg. No. 333-202749) filed March 13, 2015 is incorporated by reference. Appendix B to
Definitive Proxy Statement filed April 28, 2014 is incorporated by reference.
Form of Porter Bancorp, Inc. Restricted Stock Award Agreement. Exhibit 10.1 to Form 10-Q filed November 13, 2012
is incorporated by reference.
Porter Bancorp, Inc. 2006 Non-Employee Directors Stock Ownership Incentive Plan, as amended and restated as of
March 26, 2014. Exhibit 10.1 to Form S-8 Registration Statement (Reg. No. 333-202746) filed March 13, 2015 is
incorporated by reference. Appendix A to Definitive Proxy Statement filed April 28, 2014 is incorporated by reference.
Porter Bancorp, Inc. 2014 Incentive Compensation Bonus Plan incorporated by reference in the Definitive Proxy
Statement filed April 28, 2014.
Form of Ascencia Bank (now PBI Bank) Supplemental Executive Retirement Plan. Exhibit 10.5 to
Form S-1 Registration Statement (Reg. No. 333-133198) filed April 11, 2006 is incorporated by reference.
Form of Amendment to PBI Bank Supplemental Executive Retirement Plan. Exhibit 10.7 to Form 10-K filed March 29,
2009 is incorporated by reference.
Consent Order with Federal Deposit Insurance Corporation and Kentucky Department of Financial Institutions dated
June 24, 2011. Exhibit 99.1 to Form 8-K filed June 30, 2011 is incorporated by reference.
Employment Agreement with John T. Taylor (Exhibit 10 to Form 8-K filed August 6, 2012 is incorporated by reference.
Employment Agreement with John R. Davis (Exhibit 10.1 to Form 8-K filed September 25, 2012 is incorporated by
reference.
Employment Agreement with Joseph C. Seiler (Exhibit 10.1 to Form 10-Q filed August 8, 2013 is incorporated by
reference.
Employment Agreement with Phillip W. Barnhouse (Exhibit 10.2 to Form 10-Q filed August 8, 2013 is incorporated by
reference.
Description of Exchange Agreements dated November 19, 2014, between Porter Bancorp, Inc. and holders of Series A
Preferred Stock is incorporated by reference to Item 1.01 to Form 8-K filed November 24, 2014.
Form of Exchange Agreement dated November 19, 2014, between Porter Bancorp, Inc. and holders of Series A
Preferred Stock. Exhibit 10.1 to Form 8-K filed November 24, 2014 is incorporated by reference.
List of Subsidiaries of Porter Bancorp, Inc.
Consent of Crowe Horwath LLP, Independent Registered Public Accounting Firm
Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14 or 15d-14
Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14 or 15d-14
112
Table of Contents
32.1
32.2
99.1
99.2
101
Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14(b) or 15d-14(b) and 18 U.S.C. Section 1350
Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14(b) or 15d-14(b) and U.S.C. Section 1350
Certification of Principal Executive Officer pursuant to Section 30.15 of the U.S. Treasury’s Interim Final Rule on TARP
Standards for Compensation and Corporate Governance.
Certification of Principal Executive Officer pursuant to Section 30.15 of the U.S. Treasury’s Interim Final Rule on TARP
Standards for Compensation and Corporate Governance.
The following financial statements from the Company’s Annual Report on Form 10K for the year ended December 31, 2011,
formatted in XBRL: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations, (iii) Consolidated
Statements of Comprehensive Income, (iv) Consolidated Statements of Changes in Stockholders’ Equity, (v) Consolidated
Statements of Cash Flows, (vi) Notes to Consolidated Financial Statements.
+ Management contract or compensatory plan or arrangement.
(1) The Company has other long-term debt agreements that meet the exclusion set forth in Section 601(b)(4)(iii)(A) of Regulation S-K. The
Company hereby agrees to furnish a copy of such agreements to the Securities and Exchange Commission upon request.
113
Direct Subsidiary
PBI Bank
Ascencia Statutory Trust I
Porter Statutory Trust II
Porter Statutory Trust III
Porter Statutory Trust IV
PBIB Corporation, Inc.
SUBSIDIARIES OF PORTER BANCORP, INC.
Jurisdiction of Organization
Does Business As
Exhibit 21.1
Kentucky
Connecticut
Connecticut
Connecticut
Connecticut
Kentucky
PBI Bank
Ascencia Statutory Trust I
Porter Statutory Trust II
Porter Statutory Trust III
Porter Statutory Trust IV
PBIB Corporation, Inc.
Indirect Subsidiary
PBI Title Services, LLC
Jurisdiction of Organization
Kentucky
Does Business As
PBI Title Services, LLC
Parent Entity
PBI Bank
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in Registration Statement Nos. 333-188988; 333-189005; 333-202746 and 333-202749 on Form S-
8 of Porter Bancorp, Inc. of our report dated March 30, 2015 with respect to the consolidated financial statements of Porter Bancorp, Inc., which
report appears in this Annual Report on Form 10-K of Porter Bancorp, Inc. for the year ended December 31, 2014.
Exhibit 23.1
Louisville, Kentucky
March 30, 2015
/s/ Crowe Horwath LLP
PORTER BANCORP, INC .
RULE 13A-14(A) CERTIFICATION OF CHIEF EXECUTIVE OFFICER
Exhibit 31.1
I, John T. Taylor, Chief Executive Officer of Porter Bancorp, Inc. (the “Company”), certify that:
1. I have reviewed this Annual Report on Form 10-K of the Company;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects
the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15
(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others
within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most
recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial
reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s
internal control over financial reporting.
Dated: March 30, 2015
/s/ John T. Taylor
John T. Taylor
Chief Executive Officer
PORTER BANCORP, INC .
RULE 13A-14(A) CERTIFICATION OF CHIEF FINANCIAL OFFICER
Exhibit 31.2
I, Phillip W. Barnhouse, Chief Financial Officer of Porter Bancorp, Inc. (the “Company”), certify that:
1. I have reviewed this Annual Report on Form 10-K of the Company;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects
the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15
(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others
within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under
our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most
recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial
reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s
internal control over financial reporting.
Dated: March 30, 2015
/s/ Phillip W. Barnhouse
Phillip W. Barnhouse
Chief Financial Officer
SECTION 906 CERTIFICATION
Exhibit 32.1
In connection with the Annual Report on Form 10-K of Porter Bancorp, Inc. (the “Company”) for the annual period ended December 31,
2014, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, John T. Taylor, Chief Executive Officer of the
Company, do hereby certify, in accordance with 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002,
that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934, as
amended; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of
the Company.
Dated: March 30, 2015
PORTER BANCORP, INC.
By: /s/ John T. Taylor
John T. Taylor
Chief Executive Officer
SECTION 906 CERTIFICATION
Exhibit 32.2
In connection with the Annual Report on Form 10-K of Porter Bancorp, Inc. (the “Company”) for the annual period ended December 31,
2014, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Phillip W. Barnhouse, Chief Financial Officer
of the Company, do hereby certify, in accordance with 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, that:
(1)
(2)
The Report fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934,
as amended; and
The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of
the Company.
Dated: March 30, 2015
PORTER BANCORP, INC.
By: /s/ Phillip W. Barnhouse
Phillip W. Barnhouse
Chief Financial Officer
PORTER BANCORP, INC.
TARP CERTIFICATION OF CHIEF EXECUTIVE OFFICER
Exhibit 99.1
Note: This Certification covers the portion of the most recently completed fiscal year of Porter Bancorp, Inc. that was a TARP period,
specifically, January 1, 2014 through the last day of the TARP period, December 4, 2014, the date Porter Bancorp, Inc. and the
Treasury completed the disposition of Porter Bancorp, Inc.’s TARP securities.
I, John T. Taylor, Chief Executive Officer of Porter Bancorp, Inc. (the “Company”), certify that:
(1) The compensation committee (the “Compensation Committee”) of the Board of Directors (the “Board”) of the Company has met at least every six
months during the prior fiscal year with the senior risk officers of the Company to discuss and evaluate senior executive officer compensation plans and
employee compensation plans and the risks these plans pose to the Company;
(2) The Compensation Committee has identified and limited the features in the senior executive officer compensation plans that could lead senior
executive officers to take unnecessary and excessive risks that could threaten the value of the Company, has identified any features in the employee
compensation plans that pose risks to the Company, and has limited those features to ensure that the Company is not unnecessarily exposed to risks;
(3) The Compensation Committee has reviewed at least every six months the terms of each employee compensation plan and identified and limited the
features in the plan that could encourage the manipulation of reported earnings of the Company to enhance the compensation of an employee;
(4) The Compensation Committee will certify to these reviews;
(5) The Compensation Committee will provide a narrative description of how it limited the features in (i) senior executive officer compensation plans
that could lead senior executive officers to take unnecessary and excessive risks that could threaten the value of the Company, (ii) employee
compensation plans to ensure that the Company is not unnecessarily exposed to risks, and (iii) employee compensation plans that could encourage the
manipulation of reported earnings of the Company to enhance the compensation of an employee;
(6) The Company has required that all bonuses, retention awards, and incentive compensation of the senior executive officers and next twenty most
highly compensated employees be subject to a provision for recovery or “clawback” by the Company if the payments were based on materially
inaccurate financial statements or any other materially inaccurate performance metric criteria;
(7) The Company has prohibited any golden parachute payment to the senior executive officers and the next five most highly compensated employees.
For this purpose, a golden parachute payment is any payment triggered by involuntary termination with or without cause; bankruptcy, insolvency or
receivership of the Company; or a change in control of the Company;
(8) The Company has limited bonuses, retention awards, and incentive compensation paid to or accrued by employees to whom the bonus payment
limitation applies;
(9) The Company will permit a non-binding shareholder resolution on the senior executive officer compensation disclosures provided under the Federal
securities laws in accordance with any guidance, rules, and regulations promulgated by the SEC;
(10) The Company and its employees have complied with the excessive or luxury expenditures policy, as defined in the regulations and guidance
established under section 111 of EESA; and any expenses that, pursuant to the policy, required approval of the Board of Directors, a committee of the
Board of Directors, a senior executive officer, or an executive officer with a similar level of responsibility were properly approved;
(11) The Company will disclose the amount, nature, and justification for the offering of any perquisites whose total value exceeds $25,000 for each of
the employees subject to the bonus payment limitations;
(12) The Company will disclose whether the Company, the Board, or the Compensation Committee has engaged a compensation consultant, and the
services the compensation consultant or any affiliate provided;
(13) The Company has prohibited any tax gross-ups on compensation to the senior executive officers and the next twenty most highly compensated
employees;
(14) The Company has substantially complied with any compensation requirements set forth in the agreement between the Company and the Treasury,
as may have been amended;
(15) The Company has submitted to Treasury a complete and accurate list of the senior executive officers and the twenty next most highly compensated
employees for the current fiscal year with the non-senior executive officers ranked in descending order of level of annual compensation, and with the
name, title, and employer of each senior executive officer and most highly compensated employee identified; and,
(16) The officer certifying understands that a knowing and willful false or fraudulent statement made in connection with the certification may be
punished by fine, imprisonment or both.
Dated: March 30, 2015
By: /s/ John T. Taylor
John T. Taylor
Chief Executive Officer
PORTER BANCORP, INC.
TARP CERTIFICATION OF CHIEF FINANCIAL OFFICER
Exhibit 99.2
Note: This Certification covers the portion of the most recently completed fiscal year of Porter Bancorp, Inc. that was a TARP period,
specifically, January 1, 2014 through the last day of the TARP period, December 4, 2014, the date Porter Bancorp, Inc. and the Treasury
completed the disposition of Porter Bancorp, Inc.’s TARP securities.
I, Phillip W. Barnhouse, Chief Financial Officer of Porter Bancorp, Inc. (the “Company”), certify that:
(1) The compensation committee (the “Compensation Committee”) of the Board of Directors (the “Board”) of the Company has met at least every six
months during the prior fiscal year with the senior risk officers of the Company to discuss and evaluate senior executive officer compensation plans and
employee compensation plans and the risks these plans pose to the Company;
(2) The Compensation Committee has identified and limited the features in the senior executive officer compensation plans that could lead senior
executive officers to take unnecessary and excessive risks that could threaten the value of the Company, has identified any features in the employee
compensation plans that pose risks to the Company, and has limited those features to ensure that the Company is not unnecessarily exposed to risks;
(3) The Compensation Committee has reviewed at least every six months the terms of each employee compensation plan and identified and limited the
features in the plan that could encourage the manipulation of reported earnings of the Company to enhance the compensation of an employee;
(4) The Compensation Committee will certify to these reviews;
(5) The Compensation Committee will provide a narrative description of how it limited the features in (i) senior executive officer compensation plans
that could lead senior executive officers to take unnecessary and excessive risks that could threaten the value of the Company, (ii) employee
compensation plans to ensure that the Company is not unnecessarily exposed to risks, and (iii) employee compensation plans that could encourage the
manipulation of reported earnings of the Company to enhance the compensation of an employee;
(6) The Company has required that all bonuses, retention awards, and incentive compensation of the senior executive officers and next twenty most
highly compensated employees be subject to a provision for recovery or “clawback” by the Company if the payments were based on materially
inaccurate financial statements or any other materially inaccurate performance metric criteria;
(7) The Company has prohibited any golden parachute payment to the senior executive officers and the next five most highly compensated employees.
For this purpose, a golden parachute payment is any payment triggered by involuntary termination with or without cause; bankruptcy, insolvency or
receivership of the Company; or a change in control of the Company;
(8) The Company has limited bonuses, retention awards, and incentive compensation paid to or accrued by employees to whom the bonus payment
limitation applies;
(9) The Company will permit a non-binding shareholder resolution on the senior executive officer compensation disclosures provided under the Federal
securities laws in accordance with any guidance, rules, and regulations promulgated by the SEC;
(10) The Company and its employees have complied with the excessive or luxury expenditures policy, as defined in the regulations and guidance
established under section 111 of EESA; and any expenses that, pursuant to the policy, required approval of the Board of Directors, a committee of the
Board of Directors, a senior executive officer, or an executive officer with a similar level of responsibility were properly approved;
(11) The Company will disclose the amount, nature, and justification for the offering of any perquisites whose total value exceeds $25,000 for each of
the employees subject to the bonus payment limitations;
(12) The Company will disclose whether the Company, the Board, or the Compensation Committee has engaged a compensation consultant, and the
services the compensation consultant or any affiliate provided;
(13) The Company has prohibited any tax gross-ups on compensation to the senior executive officers and the next twenty most highly compensated
employees;
(14) The Company has substantially complied with any compensation requirements set forth in the agreement between the Company and the Treasury,
as may have been amended;
(15) The Company has submitted to Treasury a complete and accurate list of the senior executive officers and the twenty next most highly compensated
employees for the current fiscal year, with the non-senior executive officers ranked in descending order of level of annual compensation, and with the
name, title, and employer of each senior executive officer and most highly compensated employee identified; and,
(16) The officer certifying understands that a knowing and willful false or fraudulent statement made in connection with the certification may be
punished by fine, imprisonment or both.
Dated: March 30, 2015
By: /s/ Phillip W. Barnhouse
Phillip W. Barnhouse
Chief Financial Officer