Table of Contents
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
For the Fiscal Year Ended December 31, 201 8
OR
☐☐
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number: 001-33033
LIMESTONE BANCORP, INC.
(Exact name of registrant as specified in its charter)
Kentucky
(State or other jurisdiction of
incorporation or organization)
61-1142247
(I.R.S. Employer Identification No.)
2500 Eastpoint Parkway, Louisville, Kentucky
(Address of principal executive offices)
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
N asdaq 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 ☐ 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 ☐ 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 ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation
S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
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.
☒
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging
growth company. See definition of “accelerated filer,” “large accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the
Exchange Act.:
Large accelerated filer ☐
Accelerated filer ☒
Non-accelerated filer ☐
Smaller reporting company ☒ Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised
financial accounting standards pursuant to Section 13(a) of the Exchange Act. Yes ☐ No ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
The aggregate market value of the voting and non-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, 2018, was $79,786,048 based upon the last sales price reported (for purposes of this calculation, the market value of
non-voting common shares was based on the market value of the common shares into which they are convertible upon transfer).
6,261,945 Common Shares and 1,220,000 Non-Voting Common Shares were outstanding as of February 28, 2019.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Proxy Statement for the Annual Meeting of Shareholders to be held June 19, 2019 are incorporated by reference into Part III of this Form
10-K.
TABLE OF CONTENTS
Page No.
Table of Contents
PART I
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
PART II
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Selected Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operation
Quantitative and Qualitative Disclosures About Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
Controls and Procedures
Other Information
PART III
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accounting Fees and Services
PART IV
Item 15.
Item 16.
Exhibits. Financial Statement Schedules
Index to Exhibits
Form 10-K Summary
Signatures
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9
17
17
17
17
18
18
21
22
46
48
90
90
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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 management
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 the Bank serves, 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. Management has made assumptions and bases in good faith and believe they are reasonable. 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. Management does not intend to update these statements unless required by applicable laws.
Item 1.
Business Overview
As used in this report, references to “the Company,” “we,” “our,” “us,” and similar terms refer to the consolidated entity consisting of Limestone Bancorp, Inc. and
its wholly-owned subsidiary. The “Bank” refers to Limestone Bancorp, Inc.’s bank subsidiary, Limestone Bank, Inc.
The Company is a bank holding company headquartered in Louisville, Kentucky. The Company’s common stock is traded on Nasdaq’s Capital Market under the
symbol LMST. The Company operates Limestone Bank (the Bank), its wholly owned subsidiary and the thirteenth largest bank domiciled in the Commonwealth of
Kentucky based on total assets. The Bank operates banking offices in twelve counties in Kentucky. The Bank’s markets include metropolitan Louisville in Jefferson
County and the surrounding counties of Henry and Bullitt. The Bank serves south central Kentucky and southern Kentucky from banking offices in Butler, Green,
Hart, Edmonson, Barren, Warren, Ohio, and Daviess Counties. The Bank also has 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, 2018, the Company had total assets of $1.07 billion, total
loans of $765.2 million, total deposits of $894.2 million and stockholders’ equity of $92.1 million.
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Our Markets
The Bank operates in markets that include the four largest cities in Kentucky – Louisville, Lexington, Bowling Green and Owensboro – and in other communities
along the I-65, Western Kentucky Parkway, and Natcher Parkway corridors.
■
■
■
Louisville/Jefferson, Bullitt and Henry Counties : Our headquarters are in Louisville, the largest city in Kentucky. The Bank also has banking
offices in Bullitt County, south of Louisville, and Henry County, east of Louisville. Our 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, Humana, Norton Healthcare, Brown-Forman, YUM! Brands, Papa
John’s Pizza, and Texas Roadhouse.
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.
Southern Kentucky : This market includes Bowling Green, the third largest city in Kentucky, located about 120 miles south of Louisville and 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 communities in the contiguous Barren County, including the city of Glasgow. Major employers in Barren and
Warren Counties include General Motor’s Corvette plant, automotive supply chain manufacturers, and R.R. Donnelley’s regional printing facility.
■ 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. It is an industrial, medical, retail and cultural hub for Western Kentucky and the area employers include Owensboro Medical
System, US Bank Home Mortgage, Titan Contracting, Specialty Food Group, and Toyotetsu.
■
South Central Kentucky: South of the Louisville metropolitan area, the Bank has 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
The Bank meets its customers’ banking needs with a broad range of financial products and services. Its lending services include real estate, commercial, mortgage,
agriculture, and consumer loans to those in its communities and 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 and vault services, and loan and deposit sweep accounts.
Employees
At December 31, 2018, the Company had 214 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 the Bank experiences competition from many other financial institutions and non-bank financial competitors.
Competition 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, the availability of technology channels and, in the case of loans to commercial borrowers,
relative lending limits. The Bank competes 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.
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Supervision and Regulation
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.
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 the Company and the Bank, do business. For example, regulations issued
under 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 prohibiting 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 Dodd-Frank 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 the Consumer
Financial Protection Bureau with rulemaking authority with respect to consumer protection laws; (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. The implementation of the Dodd-Frank Act has resulted in greater
compliance costs and higher fees paid to regulators.
Economic Growth, Regulatory Relief, and Consumer Protection Act . The Economic Growth, Regulatory Relief and Consumer Protection Act was signed into
law on May 25, 2018. This Act amended certain provisions of the Dodd-Frank Act and other banking laws. The amendments are designed to provide regulatory
relief to banking organizations, primarily small, community banking organizations, by adjusting thresholds at which increased regulatory requirements begin to
apply. When fully implemented through regulations, community banking organizations with assets of less than $10 billion will be subject to reduced reporting
requirements and an optional simplified capital adequacy measure will be available to those that have a leverage ratio greater than 9%.
Limestone 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 (the “Federal Reserve Board”). As such, the Company 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. The
Company is also subject to examination by the Federal Reserve Board and to operational guidelines established by the Federal Reserve Board. The Company is
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 and 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 may only do so 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, approval of the Federal Reserve Board is required
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,” incidental to financial activity, or complementary to financial activity that do not pose a substantial risk to the safety and soundness of
depository institutions or the financial system generally. Activities that are “financial in nature” include securities underwriting, dealing and market making in
securities; 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 is 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. The Bank has not filed an election to become a financial holding company.
Dividends.
Under Federal Reserve Board 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 the Company’s revenue has been from dividends paid to it 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.
Under Kentucky law, dividends by Kentucky banks may be paid only from current or retained net profits. 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. Additionally, retained earnings must be
positive. The Company is 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 if the corporation is unable to pay its debts as they come due. The Bank did not pay any dividends in 2018 or
2017. The Bank has negative retained earnings and cannot pay dividends without prior regulatory approval.
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.
Limestone 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 Kentucky; 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
Adequacy
Requirements
.
The Company and the Bank are required to comply with capital adequacy guidelines. Guidelines are established by the Federal
Reserve Board for the Company and the FDIC for the Bank. Both the Federal Reserve Board and the FDIC have substantially similar risk based and leverage ratio
guidelines for banking organizations, which are intended to ensure that banking organizations have adequate capital related to the risk levels of assets and off-
balance sheet instruments. The capital adequacy guidelines are minimum supervisory ratios generally applicable to banking organizations that meet certain specified
criteria, assuming 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.
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In July 2013, the Federal Reserve Board and the FDIC approved final rules that substantially amended the regulatory risk-based capital rules applicable to the
Company 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, and became effective for the
Company and Bank on January 1, 2015.
The Basel III minimum capital level requirements applicable to bank holding companies and banks subject to the rules are a common equity Tier 1 capital ratio of
4.5%, a Tier 1 risk-based capital ratio of 6%, a total risk-based capital ratio of 8%, and a Tier 1 leverage ratio of 4% for all institutions. The rules also establish a
“capital conservation buffer” of 2.5% above the regulatory minimum risk-based capital ratios, which was fully phased in as of January 1, 2019. With the capital
conservation buffer fully phased in, the required ratios area 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%.
An institution is 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 the Basel III capital rules, Tier 1 capital generally consists 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. Tier 2 capital may consist of subordinated debt, certain hybrid capital instruments, qualifying
preferred stock and a limited amount of the allowance for loan losses. 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. Total capital is the sum of Tier 1 and Tier 2 capital.
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 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;
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.
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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 imposes deposit insurance
assessments based on total assets rather than total deposits. Pursuant to the Dodd-Frank Act, the FDIC revised the deposit insurance assessment system and
implemented a revised assessment rate process with the goal of differentiating insured depository institutions who pose greater risk to the DIF.
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. 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.
Incentive
Compensation.
The Dodd-Frank Act requires the federal bank regulatory agencies and the SEC to establish joint regulations or guidelines prohibiting
incentive-based payment arrangements at specified regulated entities having at least $1 billion in total assets, such as Limestone Bancorp and Limestone Bank, that
encourage inappropriate risks by providing an executive officer, employee, director or principal shareholder with excessive compensation, fees, or benefits or that
could lead to material financial loss to the entity. In addition, these regulators must establish regulations or guidelines requiring enhanced disclosure to regulators of
incentive-based compensation arrangements. The agencies proposed such regulations in April 2011, but the regulations have not been finalized. If the regulations
are adopted in the form initially proposed, they will impose limitations on the manner in which the Company may structure compensation for its executives.
In June 2010, the Federal Reserve, OCC, and FDIC issued comprehensive final guidance on incentive compensation policies intended to ensure that the incentive
compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The
guidance, which covers all employees who have the ability to materially affect the risk profile of an organization, either individually or as part of a group, is based
upon the key principles that a banking organization’s incentive compensation arrangements should (i) provide incentives that do not encourage risk-taking beyond
the organization’s ability to effectively identify and manage risks, (ii) be compatible with effective internal controls and risk management, and (iii) be supported by
strong corporate governance, including active and effective oversight by the organization’s board of directors. These three principles are incorporated into the
proposed joint compensation regulations under the Dodd-Frank Act, discussed above.
The Federal Reserve will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking organizations, such
as Limestone Bancorp, that are not “large, complex banking organizations.” These reviews will be tailored to each organization based on the scope and complexity
of the organization’s activities and the prevalence of incentive compensation arrangements. The findings of the supervisory initiatives will be included in reports of
examination. Deficiencies will be incorporated into the organization’s supervisory ratings, which can affect the organization’s ability to make acquisitions and take
other actions.
Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance
processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies.
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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. Otherwise, branching 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.
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 may 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.
Consumer
Protection
Laws.
The Bank is subject to federal consumer protection statues and regulations promulgated under those laws, including, but not limited to,
the:
●
Truth-In-Lending Act and Regulation Z, governing disclosures of credit terms to consumer borrowers;
● Home Mortgage Disclosure Act and Regulation C, requiring financial institutions to provide certain information about home mortgage and refinanced
loans;
● Real Estate Settlement Procedures Act (“RESPA”), requiring lenders to provide borrowers with disclosures regarding the nature and cost of real estate
settlements and prohibiting certain abusive practices;
●
●
●
●
●
Secure and Fair Enforcement for Mortgage Licensing Act (“S.A.F.E. Act”), requiring residential loan originators who are employees of financial
institutions to meet registration requirements;
Fair Credit Reporting Act and Regulation V, governing the provision of consumer information to credit reporting agencies and the use of consumer
information;
Equal Credit Opportunity Act and Regulation B, prohibiting discrimination on the basis of race, religion or other prohibited factors in the extension of
credit;
Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies;
Truth in Savings Act, which requires disclosure of deposit terms to consumers;
● Regulation CC, which relates to the availability of deposit funds to consumers;
● Right to Financial Privacy Act, which imposes a duty to maintain the confidentiality of consumer financial records and prescribes procedures for
complying with administrative subpoenas of financial records;
●
Electronic Funds Transfer Act, governing automatic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from
the use of automated teller machines and other electronic banking services;
● Automated Overdraft Payment Regulations and Regulation E, requiring financial institutions to provide customer notices, monitor overdraft payment
programs, and prohibiting financial institutions from charging consumer fees for paying overdrafts on automated teller machine and one time debit card
transactions unless a consumer consents, or opts in to the service for those types of transactions.
The Dodd-Frank Act created 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 are subject to rules promulgated by the CFPB, but 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 Economic Growth, Regulatory Relief and Consumer Protection Act created a qualified mortgage
safe harbor for eligible loans that are originated and retained by a bank with total assets of less than $10 billion.
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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.
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 20% of an institution’s unimpaired capital and unimpaired surplus. Loans and extensions of credit fully secured by collateral may represent an additional
10% of unimpaired capital and unimpaired surplus.
Volcker
Rule
. On December 10, 2013, the final Volcker Rule under the Dodd-Frank Act was approved and implemented by the Federal Reserve Board, the FDIC,
the Securities and Exchange Commission (“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 are 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. The Economic Growth, Regulatory Relief and
Consumer Protection Act exempted banks, like the Bank, which have less than $10 billion in assets and no material trading assets and liabilities from the Volcker
Rule.
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.
Community
Reinvestment
Act.
The Community Reinvestment Act (“CRA”) requires the FDIC to assess our record in meeting the credit needs of the communities
the Bank serves, 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.
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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 bank 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.
Legislative and Regulatory Initiatives . From time to time various laws, regulations and governmental programs affecting financial institutions and the financial
industry are introduced in Congress or otherwise promulgated by regulatory agencies. Such measures may change the environment in which the Company and its
subsidiaries operate in substantial and unpredictable ways. The nature and extent of future legislative, regulatory or other changes affecting financial institutions are
unpredictable at this time. Future legislation, policies and the effects thereof might have a significant influence on overall growth and distribution of loans,
investments and deposits. They also may affect interest rates charged on loans or paid on time and savings deposits. New 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
The Company files periodic reports with the SEC including its 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 filed 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. The Bank’s
Internet address is http://www.limestonebank.com. The Company’s SEC reports are accessible at no cost on its web site at http://www.limestonebank.com, under
the Investors Relations section of the About Us tab, once they have been electronically filed with the SEC. A shareholder may also request a copy of the Annual
Report on Form 10-K free of charge upon written request to: Chief Financial Officer, Limestone Bancorp, Inc., 2500 Eastpoint Parkway, Louisville, Kentucky
40223. The Internet address of the Company is http://www.snl.com/IRW/CorporateProfile/1022071.
Item 1A.
Risk Factors
An investment in the Company’s common stock involves a number of risks. Realization of any of the risks described below could have a material adverse effect on
the Company’s business, financial condition, results of operations, cash flow and/or future prospects.
The Company’s business may be adversely affected by conditions in the financial markets and by economic conditions generally.
Weakness in business and economic conditions generally or specifically in our markets may have one or more of the following adverse effects on our business:
● A decrease in the demand for loans and other products and services the Bank offers;
● A decrease in the value of collateral securing the Bank’s loans; 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, management cannot predict how long 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 the Bank has a significant number of customers, more significantly
than other economic sectors. Furthermore, the Bank has 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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The Bank’s profitability depends significantly on local economic conditions.
Most of the Bank’s business activities are conducted in central Kentucky and most of its credit exposure is in that region. The Bank is 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, delinquency rates, foreclosures, bankruptcies and losses in the
Bank’s loan portfolio will likely increase. Moreover, the value of real estate or other collateral that secures the 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 the Bank’s business, financial condition, results of operations and future prospects.
S mall to medium-sized business portfolio may have fewer resources to weather a downturn in the economy.
The loan 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 additional capital to expand or compete and may
experience 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 the loan. A continued economic downturn may have a more pronounced
negative impact on the target market, causing the Bank to incur substantial credit losses that could materially harm operating results.
The Bank’s decisions regarding credit risk may not be accurate, and its allowance for loan losses may not be sufficient to cover actual losses, which could
adversely affect its business, financial condition and results of operations.
The Bank maintains an allowance for loan losses at a level management believes is adequate to absorb probable incurred losses in the loan portfolio based on
historical loan loss experience, economic and environmental factors, specific problem loans, value of underlying collateral and other relevant factors. If
management’s assessment of these factors is ultimately inaccurate, the allowance may not be sufficient to cover actual future loan losses, which would adversely
affect operating results. Management’s estimates are subjective, and their accuracy depends on the outcome of future events. Changes in economic, operating, and
other conditions that are generally beyond the Bank’s 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 the allowance for loan losses. Regulatory agencies may require an increase in
provision for loan losses or to recognize additional loan charge-offs when their judgment differs. Any of these events could have a material negative impact on
operating results.
Levels of classified loans and non-performing assets may increase in the foreseeable future if economic conditions cause borrowers to default. Furthermore, the
value of the collateral underlying a given loan, and the realizable value of such collateral in a foreclosure sale, may decline, making it less likely to realize a full
recovery if a borrower defaults on a loan. Any additional increases in the level of non-performing assets, loan charge-offs or provision for loan losses, or the
inability to realize the estimated net value of underlying collateral in the event of a loan default, could negatively affect the Bank’s business, financial condition,
results of operations and the trading price of the Company’s common shares.
If the Bank experience s greater credit losses than anticipated, its operating results would be adversely affected.
As a lender, the Bank is exposed to the risk that borrowers 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
operating results. Credit risk with respect to the 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. Credit risk with respect to the commercial and consumer loan portfolio will relate principally to the
general creditworthiness of businesses and individuals within the local markets.
Management makes various assumptions and judgments about the collectability of its loan portfolio and provides an allowance for estimated loss losses based on a
number of factors. Management believes the Bank’s allowance for loan losses is adequate. However, if assumptions or judgments are wrong, the allowance for loan
losses may not be sufficient to cover actual loan losses. Management may have to increase the allowance in the future at the request of one of the Bank’s primary
regulators, to adjust for changing conditions and assumptions, or as a result of any deterioration in the quality of the 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.
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A large percentage of the Bank’s loans are collateralized by real estate, and any prolonged weakness in the real estate market may result in losses and
adversely affect profitability.
Approximately 75.6% of the Bank’s loan portfolio as of December 31, 2018, 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 loan collateral and the 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, it will
become more likely that management would be required to increase the Bank’s allowance for loan losses. If during a period of depressed real estate values,
management was required to liquidate the collateral securing a loan to satisfy the debt or to increase the allowance for loan losses, it could materially reduce the
Bank’s profitability and adversely affect its financial condition.
The Bank offer s 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 the Bank’s loan portfolio
and its provision for loan loss expense. These impacts have had, and could have in the future, a material adverse effect on capital, financial condition and
results of operations.
Approximately 11.4% of our loan portfolio as of December 31, 2018 consisted of real estate construction and development loans, up from 8.1% at December 31,
2017 and 5.7% at December 31, 2016. 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 permanent financing or sale of the property. If the Bank is forced to foreclose on a project prior to its
completion, it may not be able to recover the entire unpaid portion of the loan or it 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 profitability and financial condition.
Residential construction and commercial development real estate activity in the Bank’s markets were affected by the challenging economic conditions that followed
the financial crisis of 2008. Weakness in these sectors could lead to valuation adjustments to the loan portfolios and real estate owned. A weak real estate market
could 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 loans and
the value of property used as collateral for such loans.
The Bank may acquire or hold from time to time OREO properties, which could increase operating expenses and result in future losses to the Company.
During recent years, the Bank has acquired and disposed of a significant amount of real estate as a result of foreclosure or by deed in lieu of foreclosure that is listed
on the balance sheet as other real estate owned (“OREO”). An increase in the OREO portfolio increases the expenses incurred to manage and dispose of these
properties, which sometimes includes funding construction required to facilitate sale.
Properties in our OREO portfolio are recorded at 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 may lead to additional OREO write downs, with a corresponding expense in the statement of
operations. Management evaluates OREO property values periodically and writes 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, management may utilize alternative sale strategies other than orderly disposition as part of the Bank’s
OREO disposition strategy, such as auctions or 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 OREO properties. In addition, the disposition of OREO through alternative sales strategies could impact the fair
value of comparable OREO properties remaining in the portfolio.
P rofitability is vulnerable to fluctuations in interest rates.
Changes in interest rates could harm financial condition or results of operations. The 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, interest-
earning assets mature or reprice more quickly than interest-bearing liabilities in a given period, net interest income may decrease. Likewise, 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.
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Fixed-rate loans increase the exposure to interest rate risk in a rising rate environment because interest-bearing liabilities may be subject to repricing before assets
become subject to repricing. Fixed rate investment securities are subject to fair value declines as interest rates rise. Adjustable-rate loans decrease the risk associated
with rising 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
results of operations.
If the Bank cannot obtain adequate funding, it may not be able to meet the cash flow requirements of its depositors and borrowers, or meet the operating
cash needs of the Company.
The Company’s liquidity policies and limits are established by the Board of Directors of the Bank, with operating limits managed and monitored 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, the Bank may be unable to make loans and 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.
The Bank maintains 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 the Bank is unable to access any of these funding sources when needed, it might not be able to meet the needs of customers, which could adversely impact its
financial condition, its results of operations, cash flows, and its level of regulatory-qualifying capital.
The Company may not be able to realize the value of its deferred tax assets .
Due to historic losses, the Company has a net operating loss carry-forward of $23.4 million, credit carry-forwards of $554,000, and other net deferred tax assets of
$5.3 million. In order to realize the benefit of these tax losses, credits and deductions, the Company needs to generate substantial taxable income in future periods.
Deferred tax assets are calculated using a federal corporate tax rate of 21%. Changes in tax laws and rates may affect deferred tax assets in the future. If lower
federal corporate tax rates are enacted, net deferred tax assets would be reduced commensurate with the rate reduction. Additionally, should the Company need to
raise additional capital by issuing new common shares or securities convertible into common shares, then depending on the number of common share equivalents
issued, it could trigger a “change in control,” as defined by Section 382 of the Internal Revenue Code. Such an event could negatively impact or limit the ability to
utilize net operating loss carry-forwards, credit loss carry-forwards, and other net deferred tax assets.
As a bank holding company, the Company depends on dividends and distributions paid to it by its banking subsidiary.
The Company is a legal entity separate and distinct from the Bank and its other subsidiaries. The principal source of cash flow, from which we would fund any
dividends paid to 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 the Company, and regulations of the Federal Reserve govern the ability to pay dividends or make other
distributions to shareholders. Since the Bank is unlikely to be in a position to pay dividends to the Company without prior regulatory approval until retained
earnings are positive, cash inflows for the Company are limited to common stock, preferred stock, or debt issuances. See the “Item 1. Business” “Item 5. Market for
Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities – Dividends.”
The Company’s senior debt is secured by the Bank’s common stock and contains financial covenants that must be maintained to avoid default.
The Company’s senior secured loan agreement is with a commercial bank. The loan matures on June 30, 2022. Interest is payable quarterly at a rate of three-month
LIBOR plus 250 basis points through June 30, 2020, at which time quarterly principal payments of $250,000 plus interest will commence. The loan is secured by a
first priority pledge of 100% of the issued and outstanding stock of the Bank. The Company may prepay any amount due under the promissory note at any time
without premium or penalty.
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The loan agreement contains customary representations, warranties, covenants and events of default, including the following financial covenants: (i) the Company
must maintain minimum cash on hand of not less than $2,500,000, (ii) the Company must maintain a total risk based capital ratio at least equal to 10% of risk-
weighted assets, (iii) the Bank must maintain a total risk based capital ratio at least equal to 11% of risk-weighted assets, and (iv) non-performing assets of the Bank
may not exceed 2.5% of the Bank’s total assets. Both the Company and Bank were in compliance with the covenants as of December 31, 2018.
R isk related to legal proceedings.
From time to time, the Company is involved in judicial, regulatory, and arbitration proceedings concerning matters arising from our business activities and fiduciary
responsibilities. The Company establishes reserves for legal claims when payments associated with the claims become probable and the costs can be reasonably
estimated. The Company may still incur legal costs for a matter even if a reserve has not been established. In addition, the actual cost of resolving a legal claim may
be substantially higher than any amounts reserved for that matter. The ultimate resolution of a pending or future legal proceeding, depending on the remedy sought
and granted, could materially adversely affect results of operations and financial condition.
Acquisitions may not produce revenue enhancements or cost savings at levels or within timeframes originally anticipated and may result in unforeseen
integration difficulties.
The Company regularly explores opportunities to acquire banks, financial institutions, or other financial services businesses or assets. The Company cannot predict
the number, size or timing of acquisitions. Difficulty in integrating an acquired business or company may cause the Company not to realize expected revenue
increases, cost savings, increases in geographic or product presence, and/or other projected benefits from the acquisition. The integration could result in higher than
expected deposit attrition (run-off), loss of key employees, disruption of the Company’s business or the business of the acquired company, or otherwise adversely
affect the Company’s ability to maintain relationships with customers and employees or achieve the anticipated benefits of the acquisition. Also, the negative effect
of any divestitures required by regulatory authorities in acquisitions or business combinations may be greater than expected. The Company may also issue equity
securities in connection with acquisitions, which could cause ownership and economic dilution to current shareholders.
The Company may sell capital stock in the future to raise additional capital or for additional liquidity . Fu ture sales or other dilution of equity may
adversely affect the market price of the Company’s common shares .
The issuance of additional common shares or securities convertible into common shares would dilute the ownership interest of the Company’s existing common
shareholders. The market price of the Company’s common shares could decline as a result of such an offering as well as other sales of a large block of shares of
common shares or similar securities in the market after such an offering, or the perception that such sales could occur. The Company’s common shares have traded
from time-to-time at a price below book value per share. A sale of common shares at or below book value would be dilutive to current shareholders. The sale of
shares at a price below market value could negatively impact the market price of the Company’s common shares.
FDIC deposit insurance premiums and assessments can impact non-interest expense.
The Bank’s deposits are insured by the FDIC up to legal limits and, accordingly, the Bank is subject to FDIC deposit insurance premiums and assessments. FDIC
assessments for deposit insurance are based 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. Any increase in assessment rates may adversely affect the Bank’s business, financial condition or results of
operations.
The Bank face s strong competition from other financial institutions and financial service companies, which could adversely affect the results of operations
and financial condition.
The Bank competes with other financial institutions in attracting deposits and making loans. The 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. The
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 areas has grown in recent years as changes in banking law
have allowed banks to enter those markets by establishing new branches.
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Competition in the banking industry may also limit the 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
and may have larger lending limits. 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 the results of operations and financial
condition may otherwise be negatively impacted.
The Company depends on our senior management team, and the unexpected loss of one or more of the senior executives could impair relationship s with
customers and adversely affect business and financial results.
Future success significantly depends on the continued services and performance of key management personnel. Future performance will depend on the 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 executive
compensation practices. Such restrictions and standards may further impact the ability to compete for talent with other businesses that are not subject to the same
limitations. The loss of the services of members of senior management or other key officers or the inability to attract additional qualified personnel as needed could
materially harm our business.
R eported financial results depend on management’s selection of accounting methods and certain assumptions and estimates.
Accounting policies and assumptions are fundamental to the reported financial condition and results of operations. 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 the 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 reporting materially different results than would have
been reported under a different alternative.
Certain accounting policies are critical to presenting 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 valuation of securities, allowance for loan losses, valuation of OREO and valuation of net deferred income tax asset.
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 higher than the reserve provided, recognize impairment on OREO, or permanently impair deferred tax assets.
While management continually monitors and improves the system of internal controls, data processing systems, and corporate wide processes and
procedures, the Company may suffer losses from operational risk in the future.
Management maintains internal operational controls, and has invested in technology to help process large volumes of transactions. However, we may not be able to
continue processing at the same or higher levels of transactions. If systems of internal controls should fail to work as expected, if 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 the
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 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.
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I nformation systems may experience an interruption or security breach.
Failure in or breach of operational or security systems or infrastructure, or those of third party vendors and other service providers, including as a result of cyber
attacks, could disrupt the Bank’s businesses, result in the disclosure or misuse of confidential or proprietary information, damage its reputation, increase costs and
cause losses. As a financial institution, the Bank depends on its 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, operational systems and infrastructure must
continue to be safeguarded and monitored for potential failures, disruptions, and breakdowns. 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.
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 appropriate 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 its customers, or otherwise
disrupt the business operations of the Bank, its customers or other third parties.
Third parties with which the Bank does business or that facilitate our business activities, could also be sources of operational and information security risk to the
Bank, 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. 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 the Bank’s 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.
The Company operate s in a highly regulated environment and, as a result, is subject to extensive regulation and supervision that could adversely affect
financial performance and ability to implement growth and operating strategies.
The Company is subject to examination, supervision and comprehensive regulation by federal and state regulatory agencies, as 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, and not 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. Failure to comply with these laws, regulations, and policies or to maintain
required capital could affect the ability to pay dividends on common shares, the ability to grow through the development of new offices, make acquisitions, and
remain independent. These limitations may prevent us from successfully implementing growth and operating strategies.
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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 Consumer Financial Protection Bureau, 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 operating
results.
Changes in banking laws could have a material adverse effect.
The Bank is subject to changes in federal and state laws as well as changes in banking and credit regulations, and governmental economic and monetary policies.
Management 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.
16
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Item 1B.
Unresolved Staff Comments
Not applicable.
Item 2.
Properties
The Bank operates 15 banking offices in Kentucky. The following table shows the location, square footage and ownership of each property. Management believes
that each of these locations is adequately insured. Support operations are located at the main office in Louisville and in Glasgow.
Markets
Louisville/Jefferson, Bullitt and Henry Counties
Main Office: 2500 Eastpoint Parkway, Louisville
Eminence Office: 646 Elm Street, Eminence
Hillview Office: 6890 North Preston Highway, Hillview
Pleasureville Office: 5440 Castle Highway, Pleasureville
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 Cross Street, Brownsville
Greensburg Office: 202 North Main Street, Greensburg
Horse Cave Office: 201 East Main Street, Horse Cave
Morgantown Office: 112 West G.L. Smith Street, Morgantown
Munfordville Office: 949 South Dixie Highway, Munfordville
Beaver Dam Office: 1300 North Main Street, Beaver Dam
Owensboro/Davie s s 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 - Held for Sale
Office Building: 701 Columbia Avenue, Glasgow
Square Footage
Owned/Leased
30,000
1,500
3,500
10,000
3,900
Owned
Owned
Owned
Owned
Owned
8,500
Leased
8,500
11,000
5,000
7,500
9,000
3,200
Owned
Owned
Owned
Owned
Owned
Owned
3,000
Owned
7,500
12,000
Owned
Owned
20,000
Owned
Legal Proceedings
Item 3.
In the normal course of business, the Company and its subsidiaries have been named, from time to time, as defendants in various legal actions. Certain of the actual
or threatened legal actions may include claims for substantial compensatory and/or punitive damages or claims for indeterminate amount of damages. Litigation is
subject to inherent uncertainties and unfavorable outcomes could occur.
The Company contests liability and/or the amount of damages as appropriate in each pending matter. In view of the inherent difficulty of predicting the outcome of
such matters, particularly in cases where claimants seek substantial or indeterminate damages or where investigations and proceedings are in the early stages, the
Company cannot predict with certainty the loss or range of loss, if any, related to such matters, how or if such matters will be resolved, when they will ultimately be
resolved, or what the eventual settlement, or other relief, if any, might be. Subject to the foregoing, the Company believes, based on current knowledge and after
consultation with counsel, that the outcome of such pending matters will not have a material adverse effect on the consolidated financial condition of the Company,
although the outcome of such matters could be material to the Company’s operating results and cash flows for a particular future period, depending on, among other
things, the level of the Company’s revenues or income for such period. The Company will accrue for a loss contingency if (1) it is probable that a future event will
occur and confirm the loss and (2) the amount of the loss can be reasonably estimated.
The Company is not currently involved in any material litigation.
Item 4.
Mine Safety Disclosure
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
The Company’s common shares are traded on the Nasdaq Capital Market under the ticker symbol “LMST”.
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As of February 27, 2019, our common shares were held by approximately 1,506 shareholders, including 327 shareholders of record and approximately 1,179
beneficial owners whose shares are held in “street” name by securities broker-dealers or other nominees, and our non-voting common shares were held by two
holders.
Dividends
As a bank holding company, the Company’s ability to declare and pay dividends depends on various federal regulatory considerations, including the guidelines of
the Federal Reserve regarding capital adequacy and dividends.
The principal source of revenue with which to pay dividends on common shares are dividends the Bank may declare and pay 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 until retained
earnings are positive. 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 a 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.
Purchase of Equity Securities by Issuer
During the fourth quarter of 2018, the Company did not repurchase any of its common shares, which is its only registered class of equity securities.
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Equity Compensation Plan Information
The following table provides information about our equity compensation plans as of December 31, 2018:
Plan category
Equity compensation plans approved by shareholders
Equity compensation plans not approved by shareholders
Total
Number of securities to
be issued upon exercise
of outstanding options,
warrants and rights
Weighted-average
exercise price of
outstanding options,
warrants and rights
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column 1)
—
—
—
—
—
—
322,144
—
322,144
At December 31, 2108, 322,144 common shares remain available for issuance under the Company’s 2018 Omnibus Equity Compensation Plan.
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Item 6.
Selected Financial Data
The following table summarizes the Company’s selected historical consolidated financial data from 2014 to 2018. 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)
201 8
As of and for the Years Ended December 31,
20 1 6
20 1 5
201 7
Income Statement Data:
Interest income
Interest expense
Net interest income
Provision (negative provision) for loan losses
Non-interest income
Non-interest expense
Income (loss) before income taxes
Income tax expense (benefit)
Net income (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
Senior debt
Average Balance Data:
Average assets
Average loans
Average deposits
Average FHLB advances
Average junior subordinated debentures
Average subordinated capital note
Average senior debt
Average stockholders’ equity
$
$
$
43,461 $
9,790
33,671
(500)
5,779
29,126
10,824
2,030
8,794
—
—
144
8,650 $
1.23 $
1.23
—
12.34
12.34
37,522 $
6,405
31,117
(800)
5,404
30,767
6,554
(31,899)
38,453
—
—
967
37,486 $
6.15 $
6.15
—
11.17
11.17
35,602 $
5,981
29,621
(2,450)
5,218
40,021
(2,732)
21
(2,753)
—
—
(88)
(2,665) $
(0.46) $
(0.46)
—
4.81
4.79
36,574 $
7,023
29,551
(4,500)
7,695
44,959
(3,213)
—
(3,213)
—
—
(336)
(2,877) $
(0.62) $
(0.62)
—
5.43
5.33
20 1 4
39,513
9,795
29,718
7,100
4,079
39,435
(12,738)
(1,583)
(11,155)
2,362
(36,104)
3,159
19,428
7.94
7.94
—
8.37
8.05
$
1,069,692 $
970,801 $
945,177 $
948,722 $
1,017,989
46,549
21,000
—
10,000
11,797
21,000
2,250
10,000
22,458
21,000
3,150
—
3,081
21,000
4,050
—
15,752
25,000
4,950
—
$
1,026,310 $
743,352
860,825
43,363
21,000
1,791
10,000
84,860
947,961 $
667,474
864,278
9,184
21,000
2,805
5,068
37,851
929,140 $
621,275
852,717
2,967
21,000
3,708
—
39,423
984,419 $
635,948
907,785
3,473
23,981
4,608
—
33,083
1,049,232
662,442
961,671
4,473
25,000
5,508
—
33,881
(1) On December 16, 2016, the Company completed a 1-for-5 reverse stock split of its issued and outstanding common and non-voting common shares. As a
result of the reverse stock split, all share and per share data has been adjusted in the accompanying tables. Preferred shares were not impacted by the 1-for-5
reverse stock split.
(2) After shareholder approval on February 25, 2015, the two series of mandatorily convertible preferred shares converted into a total of 810,720 common shares
and 1,291,600 non-voting common shares.
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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
Limestone Bancorp, Inc. (the “Company”) and its wholly owned subsidiary, Limestone Bank, Inc. (the “Bank”). The Company is a Louisville, Kentucky-based
bank holding company that operates banking offices in twelve Kentucky counties. Our markets include metropolitan Louisville in Jefferson County and the
surrounding counties of Henry and Bullitt. The Bank serves south central Kentucky and southern Kentucky from banking offices in Butler, Green, Hart, Edmonson,
Barren, Warren, Ohio, and Daviess Counties. The Bank also has 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, the Bank has 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 60.9% of our total loan portfolio as of December 31, 2018, and
58.4% as of December 31, 2017. 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
Net income before taxes was $10.8 million for the year ended December 31, 2018 compared to $6.6 million for the year ended December 31, 2017. Income tax
expense was $2.0 million for 2018 and income tax benefit was $31.9 million for 2017 due to the reversal of the Company’s deferred tax asset valuation allowance
and the change in federal corporate tax rates in connection with the enactment of the Tax Cuts and Jobs Act of 2017.
For the year ended December 31, 2018, the Company reported net income of $8.8 million compared with net income of $38.5 million for the year ended
December 31, 2017 and a net loss of $2.8 million for the year ended December 31, 2016. After allocating earnings to participating securities, net income attributable
to common shareholders was $8.7 million for the year ended December 31, 2018, compared with net income attributable to common shareholders of $37.5 million
for the year ended December 31, 2017, and a net loss attributable to common shareholders of $2.7 million for the year ended December 31, 2016. Basic and diluted
income per common share were $1.23 for the year ended December 31, 2018, compared with net income per common share of $6.15 for 2017, and net loss per
common share of ($0.46) for 2016.
The following significant items are of note for the year ended December 31, 2018:
● Average loans receivable increased approximately $75.9 million or 11.4% to $743.4 million for the year ended December 31, 2018, compared with $667.5
million for the year ended December 31, 2017. Loan interest income benefited with an increase in interest revenue volume of approximately $3.8 million
and interest rate increases of $1.7 million for the year ended December 31, 2018, compared with the year ended December 31, 2017.
● Net interest margin increased five basis points to 3.53% for the year ended 2018 compared with 3.48% in the year ended December 31, 2017. The increase
in margin between periods was primarily due to an increase in the rate of interest earned on interest earning assets from 4.18% in 2017 to 4.55% in 2018,
which was partially offset by an increase in the cost of interest bearing liabilities from 0.83% to 1.23%.
●
Improving trends in asset quality continued. The Company recorded negative provision for loan losses expense of $500,000 in 2018, compared to a
negative provision for loan losses expense of $800,000 for 2017. The negative provision was attributable to net loan recoveries, declining historical loss
rates, improvements in loan quality, and management’s assessment of risk in the loan portfolio. Net loan recoveries were $1.2 million for 2018, compared
to net loan recoveries of $35,000 for 2017 and net loan charge-offs of $624,000 for 2016.
● Nonaccrual loans decreased $3.5 million to $2.0 million at December 31, 2018, compared with $5.5 million at December 31, 2017. The decrease in
nonaccrual loans was primarily due to $3.6 million in paydowns, $293,000 in charge-offs, $77,000 in loans returned to accrual status, and $730,000 in
transfers to OREO, offset by $1.2 million in loans placed on non-accrual.
●
The ratio of non-performing assets to total assets decreased to 0.60% at December 31, 2018, compared with 1.14% at December 31, 2017, and 1.70% at
December 31, 2016.
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● Deposits were $894.2 million at December 31, 2018, compared with $847.0 million at December 31, 2017. Non-interest bearing demand deposits increased
$5.2 million or 3.8% during 2018 to $142.6 million compared with $137.4 million at December 31, 2017. Money market accounts increased $20.5 million
or 13.6% during 2018 to $171.9 million compared with $151.4 million at December 31, 2017. Certificate of deposit balances increased $26.7 million
during 2018 to $450.9 million at December 31, 2018, from $424.2 million at December 31, 2017.
●
The Company completed a private placement of common stock on March 30, 2018. In the transaction, the Company issued 150,000 common shares and
1.0 million non-voting common shares to Patriot Financial Partners III, L.P. at $13.00 per share resulting in net proceeds of $14.9 million of which $5.0
million was contributed as capital to the Bank. The balance of proceeds was maintained by the Company for general corporate purposes and to support the
growth of the Bank.
● On June 26, 2018, the Company completed the purchase and retirement of all of its issued and outstanding Series E and Series F Non-Voting Perpetual
Preferred Shares for an aggregate price of $3.5 million paid in cash. The Series E and Series F Shares had an aggregate liquidation preference of $10.5
million.
These items are discussed in further detail throughout this Item 7.
Application of Critical Accounting Policies
The Company’s accounting and reporting policies comply with GAAP and conform to general practices within the banking industry. Management believes the
following significant accounting policies 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. Management evaluates 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. 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. Management develops 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 applied to individual loans based on loan type. If the mix and amount of future charge-off percentages differ
significantly from the assumptions used by management in making its determination, management may be required to materially increase its allowance for loan
losses and provision for loan losses, which could adversely affect results.
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. OREO 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. 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. Fair value of OREO is determined on an individual property basis. To determine the fair value of OREO
for smaller dollar single family homes, management consults with staff from the Bank’s special assets group as well as external realtors and appraisers. If the
internally evaluated market price is below the underlying investment in the property, appropriate write-downs are taken. For larger dollar residential and commercial
real estate properties, management obtains a new appraisal of the subject property or has staff from our special assets group evaluate the latest in-file appraisal in
connection with the transfer to OREO. Management generally obtains updated appraisals within five quarters of the anniversary date of ownership unless a sale is
imminent. When an asking price is lowered below the most recent appraised value, appropriate write-downs are taken.
Income Taxes – Income tax liabilities or assets are established for the amount of taxes payable or refundable for the current year. Deferred tax liabilities (“DTLs”)
and assets (“DTAs”) are also established for the future tax consequences of events that have been recognized in the Company’s financial statements or tax returns. A
DTL or DTA is recognized for the estimated future tax effects attributable to temporary differences and deductions that can be carried forward (used) in future
years. The valuation of current and deferred income tax liabilities and assets is considered critical, as it requires management to make estimates based on provisions
of the enacted tax laws. The assessment of tax liabilities and assets involves the use of estimates, assumptions, interpretations and judgments concerning certain
accounting pronouncements and federal and state tax codes.
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There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management’s current
assessment, the impact of which could be significant to the consolidated results of operations and reported earnings. The Company believes its tax assets and
liabilities are adequate and are properly recorded in the consolidated financial statements at December 31, 2018 and 2017.
Results of Operations
The following table summarizes components of income and expense and the change in those components for 2018 compared with 2017:
Gross interest income
Gross interest expense
Net interest income
Provision (negative provision) for loan losses
Non-interest income
Gains on sale of securities, net
Non-interest expense
Net income before taxes
Income tax expense (benefit)
Net income
NM: Not Meaningful
$
For the
Years Ended December 31,
201 7
201 8
Change from Prior Period
Percent
Amount
(dollars in thousands)
43,461 $
9,790
33,671
(500)
5,785
(6)
29,126
10,824
2,030
8,794
37,522 $
6,405
31,117
(800)
5,116
288
30,767
6,554
(31,899)
38,453
5,939
3,385
2,554
300
669
(294)
(1,641)
4,270
33,929
(29,659)
15.8%
52.8
8.2
37.5
13.1
(102.1)
(5.3)
65.2
NM
NM
Net income of $8.8 million for the year ended December 31, 2018 decreased by $29.7 million from net income of $38.5 million for 2017. Net income for 2017 was
impacted by the reversal of the Company’s deferred tax asset valuation allowance and the change in federal corporate tax rates in connection with the enactment of
the Tax Cuts and Jobs Act of 2017. This resulted in an income tax benefit of $31.9 million for 2017. During 2018, improving trends in non-performing loans, past
due loans, and loan risk categories continued. A negative provision for loan losses expense of $500,000 was recorded during 2018, compared to $800,000 negative
provision for loan losses expense for 2017. Non-interest income increased $669,000 during 2018. There was an increase of $310,000 in bank card interchange fees,
$232,000 in other non-interest income, and $102,000 in service charges on deposit accounts. Non-interest expense decreased $1.6 million during 2018 due primarily
to decreases in OREO expense of $1.1 million and FDIC insurance of $855,000 offset by an increase in salaries and employee benefits of $399,000.
The following table summarizes components of income and expense and the change in those components for 2017 compared with 2016:
Gross interest income
Gross interest expense
Net interest income
Provision (negative provision) for loan losses
Non-interest income
Gains on sale of securities, net
Non-interest expense
Net income (loss) before taxes
Income tax expense (benefit)
Net income (loss)
NM: Not Meaningful
For the
Years Ended December 31,
201 6
201 7
Change from Prior Period
Percent
Amount
(dollars in thousands)
37,522 $
6,405
31,117
(800)
5,116
288
30,767
6,554
(31,899)
38,453
35,602 $
5,981
29,621
(2,450)
5,002
216
40,021
(2,732)
21
(2,753)
1,920
424
1,496
1,650
114
72
(9,254)
9,286
(31,920)
41,206
5.4%
7.1
5.1
67.3
2.3
33.3
(23.1)
339.9
NM
NM
$
24
Table of Contents
Net income of $38.5 million for the year ended December 31, 2017 increased by $41.2 million from a net loss of $2.8 million for 2016. During the period,
improving trends in non-performing loans, past due loans, and loan risk categories continued. In addition, net income for 2017 was impacted by the reversal of the
Company’s deferred tax asset valuation allowance and the change in federal corporate tax rates in connection with the enactment of the Tax Cuts and Jobs Act of
2017. The net result of these two items, as well as income tax expense for the year, was an income tax benefit of $31.9 million for 2017. A negative provision for
loan losses expense of $800,000 was recorded during 2017, compared to $2.5 million negative provision for loan losses expense for 2016. Non-interest income
increased $114,000 during 2017. There was an increase of $295,000 in service charges on deposit accounts, $218,000 in bank card interchange fees, and $62,000 in
other non-interest income which was offset by no OREO income during 2017, compared to $456,000 during 2016. Non-interest expense decreased $9.3 million
during 2017 due primarily to a decrease in litigation and loan collection expense of $8.6 million as 2016 was negatively impacted by a ruling from the Kentucky
Court of Appeals against the Bank that approximated $8.0 million. After consideration of earnings attributable to participating securities, net income attributable to
common shareholders was $37.5 million for the year ended December 31, 2017, as compared to net loss attributable to common shareholders of $2.7 million for
2016.
Net I nterest Income – Net interest income was $33.7 million for the year ended December 31, 2018, an increase of $2.6 million, or 8.2%, compared with $31.1
million for the same period in 2017. Net interest spread and margin were 3.32% and 3.53%, respectively, for 2018, compared with 3.35% and 3.48%, respectively,
for 2017. Average nonaccrual loans were $3.5 million and $7.1 million in 2018 and 2017, respectively.
Average interest-earning assets were $957.5 million for 2018, compared with $904.1 million for 2017, a 5.9% increase, primarily attributable to higher average
loans, partially offset by a decrease in average investment securities. Average loans were $743.4 million for 2018, compared with $667.5 million for 2017, an 11.4%
increase. Average investment securities were $178.9 million for 2018, compared with $193.1 million for 2017, a 7.3% decrease. Average interest bearing deposits
with financial institutions and fed funds sold were $27.9 million in 2018, compared with $36.2 million in 2017, a 22.8% decrease. Total interest income increased
15.8% to $43.5 million for 2018, compared with $37.5 million for 2017.
Average interest-bearing liabilities increased by 3.3% to $799.0 million for 2018, compared with $773.2 million for 2017. Total interest expense increased by 52.8%
to $9.8 million for 2018, compared with $6.4 million during 2017, due primarily to increases in rates paid on certificates of deposits and other time deposits as well
as increases in average balances of FHLB advances in 2018 compared to 2017. Average volume of certificates of deposit decreased 2.8% to $439.6 million for
2018, compared with $452.4 million for 2017. The average interest rate paid on certificates of deposit increased to 1.35% for 2018, compared with 0.93% for 2017.
Average volume of interest checking and money market deposit accounts increased 0.9% to $249.4 million for 2018, compared with $247.3 million for 2017. The
average interest rate paid on interest checking and money market deposit accounts increased to 0.62% for 2018, compared with 0.38% for 2017. Both the yield on
earning assets and cost of interest-bearing liabilities were impacted by increases in short-term interest rates during 2017 and 2018.
Net interest income was $31.1 million for the year ended December 31, 2017, an increase of $1.5 million, or 5.1%, compared with $29.6 million for the same period
in 2016. Net interest spread and margin were 3.35% and 3.48%, respectively, for 2017, compared with 3.32% and 3.42%, respectively, for 2016. Average
nonaccrual loans were $7.1 million and $11.4 million in 2017 and 2016, respectively.
Average interest-earning assets were $904.1 million for 2017, compared with $875.3 million for 2016, a 3.3% increase, primarily attributable to higher average
loans and investment securities, partially offset by a decrease in interest bearing deposits with financial institutions. Average loans were $667.5 million for 2017,
compared with $621.3 million for 2016, a 7.4% increase. Average investment securities were $193.1 million for 2017, compared with $183.7 million for 2016, a
5.1% increase. Average interest bearing deposits with financial institutions and fed funds sold were $36.2 million in 2017, compared with $62.9 million in 2016, a
42.4% decrease. Total interest income increased 5.4% to $37.5 million for 2017, compared with $35.6 million for 2016.
Average interest-bearing liabilities increased by 1.7% to $773.2 million for 2017, compared with $760.7 million for 2016. Total interest expense increased by 7.1%
to $6.4 million for 2017, compared with $6.0 million during 2016, due primarily to the completion of a $10.0 million senior debt transaction during 2017 as well as
an increase in FHLB advances outstanding during 2017. Average volume of certificates of deposit decreased 2.9% to $452.4 million for 2017, compared with
$466.0 million for 2016. The average interest rate paid on certificates of deposit increased to 0.93% for 2017, compared with 0.88% for 2016. Average volume of
interest checking and money market deposit accounts increased 6.2% to $247.3 million for 2017, compared with $232.7 million for 2016. The average interest rate
paid on interest checking and money market deposit accounts decreased to 0.38% for 2017, compared with 0.40% for 2016.
25
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.
For the Years Ended December 31,
Average
Balance
201 8
Interest
Earned/Paid
Average
Yield/Cost
Average
Balance
(dollars in thousands)
201 7
Interest
Earned/Paid
Average
Yield/Cost
ASSETS
Interest-earning assets:
Loans receivables (1)(2)
Real estate
Commercial
Consumer
Agriculture
Other
U.S. Treasury and agencies
Mortgage-backed securities
Collateralized loan obligations
State and political subdivision securities (non-
taxable) (3)
State and political subdivision securities (taxable)
Corporate bonds
FHLB stock
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
$
548,877 $
123,044
32,049
38,796
586
23,732
81,771
32,163
14,189
18,890
8,162
7,280
1,152
27,296
5,934
1,765
2,334
13
549
2,142
1,177
383
570
442
429
22
4.97% $
4.82
5.51
6.02
2.22
2.31
2.62
3.66
3.42
3.02
5.42
5.89
1.91
405
43,461
1.51
4.55%
26,763
957,454
(8,692)
77,548
1,026,310
$
LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities
$
Certificates of deposit and other time deposits
Interest checking and money market deposits
Savings accounts
FHLB advances
Junior subordinated debentures and subordinated
capital note
Senior debt
Total interest-bearing liabilities
Non-interest-bearing liabilities
Non-interest-bearing deposits
Other liabilities
Total liabilities
Stockholders’ equity
Total liabilities and stockholders’ equity
$
439,597 $
249,415
34,866
43,363
21,791
10,000
799,032
136,947
5,471
941,450
84,860
1,026,310
5,949
1,543
57
867
985
389
9,790
24,544
4,403
843
2,047
29
694
2,240
541
571
757
167
366
10
310
37,522
4,191
940
59
120
901
194
6,405
509,133 $
107,188
10,790
39,839
524
31,440
94,451
20,242
19,617
23,689
3,651
7,323
960
35,222
904,069
(8,961)
52,853
947,961
452,443 $
247,261
35,486
9,184
23,805
5,068
773,247
129,088
7,775
910,110
37,851
947,961
$
1.35% $
0.62
0.16
2.00
4.52
3.89
1.23%
$
Net interest income
Net interest spread
Net interest margin
Ratio of average interest-earning assets to average
interest-bearing liabilities
$
33,671
$
31,117
3.32%
3.53%
119.83%
Includes loan fees in both interest income and the calculation of yield on loans.
(1)
(2) Calculations include non-accruing loans of $3.5 million and $7.1 million in average loan amounts outstanding.
(3)
Taxable equivalent yields are calculated assuming a 21% and 35% federal income tax rate for 2018 and 2017, respectively.
26
4.82%
4.11
7.81
5.14
5.53
2.21
2.37
2.67
4.48
3.20
4.57
5.00
1.04
0.88
4.18%
0.93%
0.38
0.17
1.31
3.78
3.83
0.83%
3.35%
3.48%
116.92%
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
Collateralized loan obligations
State and political subdivision securities (non-
taxable) (3)
State and political subdivision securities (taxable)
Corporate bonds
FHLB stock
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
Interest checking and money market deposits
Savings accounts
FHLB advances
Junior subordinated debentures and subordinated
$
capital note
Senior debt
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,
Average
Balance
201 7
Interest
Earned/Paid
Average
Yield/Cost
Average
Balance
(dollars in thousands)
201 6
Interest
Earned/Paid
Average
Yield/Cost
509,133 $
107,188
10,790
39,839
524
31,440
94,451
20,242
19,617
23,689
3,651
7,323
960
35,222
904,069
(8,961)
52,853
947,961
452,443 $
247,261
35,486
9,184
23,805
5,068
773,247
129,088
7,775
910,110
37,851
947,961
24,544
4,403
843
2,047
29
694
2,240
541
571
757
167
366
10
4.82% $
4.11
7.81
5.14
5.53
2.21
2.37
2.67
4.48
3.20
4.57
5.00
1.04
310
37,522
0.88
4.18%
4,191
940
59
120
901
194
6,405
$
0.93% $
0.38
0.17
1.31
3.78
3.83
0.83%
$
493,068 $
81,110
9,818
36,811
468
34,049
101,249
802
21,041
23,921
2,656
7,323
639
62,307
875,262
(10,719)
64,597
929,140
466,007 $
232,717
34,257
2,967
24,708
—
760,656
119,736
9,325
889,717
39,423
929,140
24,486
3,471
826
1,733
21
757
2,240
28
620
768
93
293
3
263
35,602
4,111
921
61
70
818
—
5,981
$
31,117
$
29,621
3.35%
3.48%
116.92%
4.97%
4.28
8.41
4.71
4.49
2.22
2.21
3.49
4.53
3.21
3.50
4.00
0.47
0.42
4.11%
0.88%
0.40
0.18
2.36
3.31
—
0.79%
3.32%
3.42%
115.07%
Includes loan fees in both interest income and the calculation of yield on loans.
(1)
(2) Calculations include non-accruing loans of $7.1 million and $11.4 million in average loan amounts outstanding.
(3)
Taxable equivalent yields are calculated assuming a 35% federal income tax rate for 2017 and 2016.
27
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, 201 8 vs. 201 7
Increase (decrease)
due to change in
Year Ended December 31, 201 7 vs. 20 1 6
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
Collateralized loan obligations
State and political subdivision securities
Corporate bonds
FHLB stock
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
Interest checking and money market accounts
Savings accounts
FHLB advances
Junior subordinated debentures
Senior debt
Total increase (decrease) in interest expense
Increase (decrease) in net interest income
$
1,723 $
32
220
245
(76)
36
65
9
182
2,436
1,880
595
(1)
94
165
3
2,736
(300) $
3,753 $
(177)
(318)
391
(299)
239
(2)
3
(87)
3,503
(122)
8
(1)
653
(81)
192
649
2,854 $
5,476 $
(145)
(98)
636
(375)
275
63
12
95
5,939
1,758
603
(2)
747
84
195
3,385
2,554 $
(895) $
(5)
155
(9)
(9)
33
73
4
196
(457)
202
(37)
(4)
(42)
114
—
233
(690) $
2,224 $
(58)
(155)
522
(51)
41
—
3
(149)
2,377
(122)
56
2
92
(31)
194
191
2,186 $
Non- i nterest Income – The following table presents for the periods indicated the major categories of non-interest income:
Service charges on deposit accounts
Bank card interchange fees
Income from bank owned life insurance
Net gain (loss) on sales and calls of securities
Other real estate owned rental income
Other
Total non-interest income
201 8
For the Years Ended
December 31,
201 7
(in thousands)
20 1 6
$
$
2,355 $
1,831
437
(6)
—
1,162
5,779 $
2,253 $
1,521
412
288
—
930
5,404 $
1,329
(63)
—
513
(60)
74
73
7
47
1,920
80
19
(2)
50
83
194
424
1,496
1,958
1,303
417
216
456
868
5,218
Non-interest income increased by $375,000 for 2018 to $5.8 million compared with $5.4 million for the year ended December 31, 2017. This increase was primarily
attributable to a $310,000 increase in bank card interchange fees, a $232,000 increase in other non-interest income, and a $102,000 increase in service charges on
deposit accounts partially offset by a $6,000 net loss on sale of securities for 2018 compared to a $288,000 net gain during 2017.
28
Table of Contents
The $232,000 net increase in other non-interest income for 2018 includes a $150,000 third quarter gain on sale of the Bank’s secondary market residential mortgage
servicing rights portfolio, as well as a $632,000 fourth quarter gain on sale of a subdivided lot at the Company’s headquarters, partially offset by a $392,000 fourth
quarter impairment charge associated with the transfer of the Bank’s data processing center to Premises Held for Sale.
In December 2018, the Bank completed a core system conversion, which Management believes will provide opportunities for work flow efficiencies and
improvements in customer experience. In connection with the completion of the core systems conversion, Management approved the closure of its central data
processing facility. Support services personnel will be relocated from the bank-owned data processing facility to other nearby facilities in 2019. In December 2018,
the data processing facility was transferred to Premises Held For Sale at fair value, as determined by an independent third party appraisal, less estimated cost to sell.
The transfer to held for sale resulted in the $392,000 impairment charge noted above, which is included in other non-interest income. Upon sale of the facility,
Management expects to realize annual occupancy expense savings of approximately $200,000.
Non-interest income increased by $186,000 in 2017 to $5.4 million compared with $5.2 million for the year ended December 31, 2016. This increase was primarily
attributable to a $295,000 increase in service charges on deposit accounts, a $218,000 increase in bank card interchange fees, and a $72,000 increase in net gain on
sale of securities partially offset by no OREO income during 2017, compared to $456,000 during 2016.
Non-interest Expense – The following table presents the major categories of non-interest expense:
Salary and employee benefits
Occupancy and equipment
FDIC insurance
Data processing expense
Marketing expense
State franchise and deposit tax
Deposit account related expense
Professional fees
Communications
Insurance expense
Postage and delivery
Litigation and loan collection expense
Other real estate owned expense
Other
Total non-interest expense
For the Years Ended
December 31,
201 7
(in thousands)
20 1 6
15,489 $
3,586
557
1,192
1,114
1,118
823
814
701
478
364
245
868
1,777
29,126 $
15,090 $
3,420
1,412
1,256
1,098
956
896
978
722
540
395
179
1,973
1,852
30,767 $
15,508
3,517
1,660
1,185
973
965
787
1,568
706
565
359
8,805
1,541
1,882
40,021
201 8
$
$
Non-interest expense for the year ended December 31, 2018 of $29.1 million represented a 3.1% decrease from $30.8 million for 2017. The decrease in non-interest
expense was attributable primarily to a decrease in OREO expense of $1.1 million. Non-interest expense also benefited from a $855,000 decrease in FDIC insurance
as a result of the Bank’s improved risk profile, partially offset by a $399,000 increase in salaries and employee benefits. As shown below, expenses related to OREO
decreased due to lower valuation adjustment write-downs during 2018 compared to 2017.
Net gain on sales
Valuation adjustment write-downs
Operating expense
Total
201 8
201 7
(in thousands)
(72) $
850
90
868 $
(74)
1,963
84
1,973
$
$
During the year ended December 31, 2018, fair value write-downs of $850,000 were recorded compared with $2.0 million for the year ended December 31, 2017.
The 2018 write-downs reflect declines in the fair value due to changes in marketing strategies and new appraisals. OREO sales totaled $876,000 and $793,000
during 2018 and 2017, respectively.
29
Table of Contents
Non-interest
Expense
Comparison
–
201
7
to
201
6
Non-interest expense for the year ended December 31, 2017 of $30.8 million represented a 23.1% decrease from $40.0 million for 2016. The decrease in non-
interest expense was attributable primarily to a decrease in litigation and loan collection expense, which decreased $8.6 million. Litigation expense was negatively
impacted in 2016 by a ruling from the Kentucky Court of Appeals against the Bank that approximated $8.0 million. Non-interest expense also benefited from a
$590,000 decrease in professional fees, a $418,000 decrease in salaries and employee benefits, and a $248,000 decrease in FDIC insurance. As shown below,
expenses related to OREO trended higher due to higher valuation adjustment write-downs during 2017 compared to 2016.
Net gain on sales
Valuation adjustment write-downs
Operating expense
Total
201 7
201 6
(in thousands)
(74) $
1,963
84
1,973 $
(222)
1,180
583
1,541
$
$
During the year ended December 31, 2017, fair value write-downs totaled $2.0 million compared with $1.2 million for the year ended December 31, 2016. The
write-downs reflect declines in fair value due to updated appraisals, changes in marketing strategies, and reductions in listing prices for certain properties. The Bank
was successful in selling OREO totaling $793,000 and $12.7 million during 2017 and 2016, respectively.
Income Tax Expense and Benefit – Effective tax rates differ from the federal statutory rate applied to income (loss) before income taxes due to the following:
Statutory tax rate
Federal statutory rate times financial statement income (loss)
Effect of:
Valuation allowance
Tax-exempt income
Non-taxable life insurance income
Restricted stock vesting
Change in federal statutory rate
Other, net
Total
201 8
201 7
(in thousands)
20 1 6
21%
$
2,273
—
(80)
(92)
(115)
—
44
2,030
$
35%
$
2,294
(54,049)
(196)
(144)
(121)
20,274
43
(31,899) $
35%
(956)
1,238
(211)
(146)
—
—
96
21
$
$
The Company had a full valuation allowance against its net deferred tax asset since 2011. During the fourth quarter of 2017, management concluded it was more-
likely-than-not the asset would be utilized to reduce future taxes payable related to the future taxable income of the Company, and as such, reversed the valuation
allowance. As a result of the conclusion to reverse the valuation allowance, the Company recorded an income tax benefit of $54.0 million for the year ended
December 31, 2017.
On December 22, 2017, the Tax Cuts and Jobs Act of 2017 was signed into law. Among other significant changes to the tax code, the new law lowered the federal
corporate tax rate from 35% to 21% beginning in 2018. As a result, the Company revalued its net deferred tax asset at the new 21% rate for 2017. Due to this
revaluation, the Company recorded a $20.3 million charge to income tax expense for the year ended December 31, 2017.
The combination of the reversal of the valuation allowance and the change in federal corporate tax rates, as well as income tax expense for the year, resulted in an
income tax benefit of $31.9 million for the year ended December 31, 2017.
See Note 11, “Income Taxes”, for additional discussion of our income taxes.
Analysis of Financial Condition
Total assets at December 31, 2018 were $1.07 billion compared with $970.8 million at December 31, 2017, an increase of $98.9 million or 10.2%. This increase was
primarily attributable to an increase in net loans of $52.5 million as well as an increase in securities available for sale of $48.5 million.
Total assets at December 31, 2017 were $970.8 million compared with $945.2 million at December 31, 2016, an increase of $25.6 million or 2.7%. This increase
was primarily attributable to an increase in net loans of $73.6 million as well as the restoration of a net deferred tax asset of $31.3 million. These increases were
partially offset by a decrease in investment securities of $41.9 million as well as a $30.9 million decrease in interest bearing deposits in banks.
30
Table of Contents
Loans Receivable – Loans receivable increased $53.1 million, or 7.5%, during the year ended December 31, 2018, to $765.2 million. Our commercial, commercial
real estate and real estate construction portfolios increased by an aggregate of $50.2 million, or 12.1%, during 2018 and comprised 60.9% of the total loan portfolio
at December 31, 2018.
Loans receivable increased $72.9 million, or 11.4%, during the year ended December 31, 2017, to $712.1 million. Our commercial, commercial real estate and real
estate construction portfolios increased by an aggregate of $61.0 million, or 17.2%, during 2017 and comprised 58.4% of the total loan portfolio at December 31,
2017.
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.
As of December 31,
201 8
201 7
Amount
Percent
Amount
Percent
(dollars in thousands)
$
129,368
16.91% $
113,771
15.98%
86,867
77,937
172,177
49,757
175,761
39,104
33,737
536
765,244
11.35
10.18
22.50
6.50
22.97
5.11
4.41
0.07
100.00% $
$
20 16
As of December 31,
20 15
8.05
12.40
22.01
7.94
25.17
2.59
5.78
0.08
100.00%
57,342
88,320
156,724
56,588
179,222
18,439
41,154
555
712,115
2014
Amount
Percent
Amount
Percent
Amount
Percent
(dollars in thousands)
$
97,761
15.29% $
86,176
13.93% $
60,936
9.75%
36,330
71,507
149,546
48,197
188,092
9,818
37,508
477
639,236
5.68
11.19
23.39
7.54
29.42
1.54
5.87
0.08
100.00% $
33,154
76,412
140,570
44,131
201,478
10,010
26,316
419
618,666
5.36
12.35
22.72
7.13
32.57
1.62
4.25
0.07
100.00% $
33,173
77,419
175,452
41,891
197,278
11,347
26,966
537
624,999
5.31
12.39
28.07
6.70
31.56
1.82
4.31
0.09
100.00%
$
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total loans
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total loans
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 or
guarantor was approximately $36.2 million at December 31, 2018.
The Bank had 13 and 12 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 at December 31, 2018 and 2017, respectively.
As of December 31, 2018, the Bank had $57.5 million of loan participations purchased from, and $20.1 million of loan participations sold to, other banks. As of
December 31, 2017, the Bank had $46.2 million of loan participations purchased from, and $19.1 million of loan participations sold to, other banks.
31
Table of Contents
Loan Maturity Schedule – The following table sets forth at December 31, 2018, 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
Nonfarm nonresidential
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
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total floating rate loans
Maturing
Within
One Year
As of December 31, 201 8
Maturing
1 through
5 Years
Maturing
Over 5
Years
(dollars in thousands)
Total
Loans
$
2,464 $
31,085 $
6,759 $
40,308
8,594
20,268
27,314
13,022
69,543
29,392
583
54
171,234 $
11,091
13,858
67,042
26,526
23,345
6,406
5,262
336
184,951 $
23,563
3,482
8,861
3,922
6,730
1,214
2,246
64
56,841 $
43,248
37,608
103,217
43,470
99,618
37,012
8,091
454
413,026
18,547 $
59,701 $
10,812 $
89,060
13,417
32,188
43,791
1,208
67,496
27
546
78
177,298 $
24,917
7,021
20,515
4,878
5,342
—
9,161
4
131,539 $
5,285
1,120
4,654
201
3,305
2,065
15,939
—
43,381 $
43,619
40,329
68,960
6,287
76,143
2,092
25,646
82
352,218
$
$
$
Loan Portfolio by Risk Category –
The following table presents a summary of the loan portfolio at the dates indicated, by risk category.
Pass
Watch
Special Mention
Substandard
Doubtful
Total
201 8
201 7
As of December 31,
201 6
(in thousands)
201 5
20 1 4
$
$
745,604 $
13,164
113
6,363
—
765,244 $
673,033 $
25,715
164
13,203
—
712,115 $
586,430 $
30,431
497
21,878
—
639,236 $
517,484 $
63,363
1,395
36,424
—
618,666 $
461,126
68,200
4,189
91,484
—
624,999
Loans receivable increased $53.1 million, or 7.5%, during the year ended December 31, 2018. All loan risk categories have decreased since December 31, 2017,
with the exception of pass graded loans. The pass category increased approximately $72.6 million, the watch category declined approximately $12.6 million, the
special mention category declined approximately $51,000, and the substandard category declined approximately $6.8 million. The $6.8 million decrease in loans
classified as substandard was primarily driven by $12.6 million in principal payments received, $730,000 in loans moved to OREO, $480,000 in charge-offs, and
$92,000 in loans upgraded from substandard, offset by $7.1 million in loans moved to substandard during 2018.
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Table of Contents
Loan Delinquency –
The following table presents a summary of loan delinquencies at the dates indicated.
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
201 8
201 7
As of December 31,
201 6
(in thousands)
201 5
20 1 4
$
$
1,593 $
331
—
1,924
1,991
3,915 $
1,478 $
171
1
1,650
5,457
7,107 $
2,302 $
315
—
2,617
3,133 $
241
—
3,374
9,216
11,833 $
14,087
17,461 $
3,960
980
151
5,091
47,175
52,266
Loans past due 30-59 days increased from $1.5 million at December 31, 2017 to $1.6 million at December 31, 2018, and loans past due 60-89 days increased from
$171,000 at December 31, 2017 to $331,000 at December 31, 2018. This represents a $274,000 increase in loans past due 30-89 days. This trend in delinquency
levels is considered during the evaluation of qualitative trends in the portfolio when establishing the general component of our allowance for loan losses.
Nonaccrual loans decreased $3.5 million from December 31, 2017 to December 31, 2018. This decrease was primarily driven by $3.6 million in paydowns,
$293,000 in charge-offs, $730,000 in transfers to OREO, and $77,000 in loans returned to accrual status, offset by $1.2 million in loans placed on non-accrual. The
$2.0 million in nonaccrual loans at December 31, 2018, and $5.5 million at December 31, 2017, were generally secured by farmland and 1-4 family residential real
estate loans. Management believes it has established adequate loan loss reserves for these credits.
Troubled Debt Restructuring – A troubled debt restructuring (TDR) occurs when the Bank has agreed to a loan modification in the form of a concession to a
borrower who is experiencing financial difficulty. The Bank’s TDRs typically 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 Bank 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.
The Bank does not have a formal loan modification program. If a borrower is unable to make contractual payments, management reviews the particular
circumstances of that borrower’s situation and determine whether or not to negotiate a revised payment stream. The goal when restructuring a credit is to afford the
borrower a reasonable period of time to remedy the issue causing cash flow constraints so that the credit may return to performing status over time. If a borrower
fails to perform under the modified terms, the loan(s) are placed on nonaccrual status and collection actions are initiated.
Management periodically reviews renewals and 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 based upon
current underwriting, 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. Additionally, the TDR
classification may 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
performance.
If the borrower fails to perform, management places the loan on nonaccrual status and seeks to liquidate the underlying collateral. The nonaccrual policy for
restructured loans is identical to the nonaccrual policy for all loans. The 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.
33
Table of Contents
At December 31, 2018, the Bank had two restructured loans totaling $910,000 with borrowers who experienced deterioration in financial condition compared with
six restructured loans totaling $3.0 million at December 31, 2017. In general, these loans were granted interest rate reductions to provide cash flow relief to
borrowers experiencing cash flow difficulties. At December 31, 2018, the Bank had no restructured loans that had been granted principal payment deferrals until
maturity compared with two loans totaling approximately $1.8 million at December 31, 2017. There were no concessions made to forgive principal relative to these
loans, although partial charge-offs have been recorded for certain restructured loans. In general, these loans are secured by first liens on 1-4 residential properties,
commercial real estate properties, or farmland. At December 31, 2018 both TDRs were performing according to their modified terms, compared to $1.2 million at
December 31, 2017.
There were no modifications granted during 2018 or 2017 that resulted in loans being identified as TDRs. During the twelve months ended December 31, 2018,
TDRs were reduced as a result of $1.5 million in payments and $500,000 due to the transfer of a loan to OREO. See “Note 3 – Loans,” to the financial statements
for additional disclosure related to troubled debt restructuring.
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 agreed to with the borrower, management institutes measures to remedy the default, including commencing a foreclosure action. Consumer loans
generally are charged off when a loan is deemed uncollectible and often before any available collateral has been disposed. Commercial business and real estate loan
delinquencies are handled on an individual basis 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.
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:
Loans on nonaccrual status
Troubled debt restructurings on accrual
Past due 90 days or more still 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
Non-performing loans and TDRs on accrual to total loans
Non-performing assets and TDRs on accrual to total assets
Allowance for non-performing loans
Allowance for non-performing loans to non-performing loans and TDRs
201 8
201 7
As of December 31,
201 6
(dollars in thousands)
20 1 5
20 1 4
1,991
910
—
2,901
3,485
—
6,386
$
5,457
1,217
1
6,675
4,409
—
11,084
$
9,216
5,350
—
14,566
6,821
—
21,387
$
14,087
17,440
—
31,527
19,214
—
50,741
$
47,175
21,985
151
69,311
46,197
—
115,508
0.38%
0.60%
$
83
0.94%
1.14%
$
108
2.28%
2.26%
$
241
5.10%
5.35%
$
295
11.09%
11.35%
1,253
$
$
$
on accrual
2.86%
1.62%
1.65%
0.94%
1.81%
34
Table of Contents
Interest income that would have been earned on non-performing loans was $274,000, $465,000, and $738,000 for the years ended December 31, 2018, 2017, and
2016, respectively. Interest income recognized on non-performing loans was $452,000, $135,000, and $445,000 for the years ended December 31, 2018, 2017, and
2016, 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
$
8,202
$
8,967
$
12,041
$
19,364
$
28,124
201 8
201 7
As of December 31,
201 6
(dollars in thousands)
20 15
20 14
Loans charged-off:
Real estate
Commercial
Consumer
Agriculture
Other
Total charge-offs
Recoveries:
Real estate
Commercial
Consumer
Agriculture
Other
Total recoveries
Net charge-offs (recoveries)
Provision (negative provision) for loan losses
Balance at end of period
450
50
95
13
8
616
1,437
261
69
15
12
1,794
(1,178)
(500)
8,880
$
750
5
51
95
—
901
714
59
115
33
15
936
(35)
(800)
8,202
$
$
Allowance for loan losses to period-end loans
Net charge-offs (recoveries) to average loans
Allowance for loan losses to non-performing loans and TDRs
1.16%
(0.16)%
1.15%
(0.01)%
2,157
276
99
18
79
2,629
1,189
334
299
114
69
2,005
624
(2,450)
$
8,967
1.40%
0.10%
5,050
696
221
118
47
6,132
2,338
723
184
8
56
3,309
2,823
(4,500)
$
12,041
1.95%
0.44%
17,943
1,099
335
30
19
19,426
2,726
614
168
13
45
3,566
15,860
7,100
19,364
3.10%
2.39%
on accrual
306.10%
122.88%
61.16%
38.19%
27.94%
The 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. The loan loss reserve, as a percentage of total loans at December 31, 2018, was stable at 1.16% and 1.15% at
December 31, 2017. New loans continue to be underwritten with lower loss expectations. Historical loss experience, risk grade classification metrics, charge-off
levels, and past due trends remained stable between periods. The allowance for loan losses to non-performing loans was 306.10% at December 31, 2018, compared
with 122.88% at December 31, 2017. Net recoveries totaled $1.2 million for 2018 compared to $35,000 for 2017.
A general reserve is maintained for each loan type in the loan portfolio. In determining the amount of the general reserve portion of the 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, management applies 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.
35
Table of Contents
Generally, all loans 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 the Bank 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.
Management makes specific allowances for each impaired loan based on its type and risk classification as discussed above. At year-end 2018, the allowance for loan
losses to total non-performing loans and TDRs on accrual increased to 306.10% from 122.88% at year-end 2017. It is important to look more closely at this ratio as
a significant portion of 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 recorded investment less allocated allowance relative to the unpaid principal balance. Impaired loans have
been assessed for collectability which 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.
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, 2018 and 2017.
December 31 , 201 8
December 31, 201 7
Commercial
Real Estate
Residential
Real Estate
Commercial
Real Estate
Residential
Real Estate
Unpaid principal balance
Prior charge-offs
Recorded investment
Allocated allowance
$
$
2,421
(1,911)
(in thousands)
3,398
$
(1,050)
4,734
$
(2,099)
510
(35)
2,348
(168)
2,635
—
Recorded investment, less allocated allowance
$
475
$
2,180
$
2,635
$
5,456
(1,506)
3,950
(206)
3,744
Recorded investment, less allocated allowance/ Unpaid principal balance
19.62%
64.16%
55.66%
68.62%
Based on prior charge-offs, the current recorded investments in loans individually evaluated for impairment in the commercial real estate and residential real estate
segments of the portfolio are significantly below the unpaid principal balances of those loans. The recorded investment net of the allocated allowance was 19.62%
and 64.16% of the unpaid principal balance in the commercial real estate and residential real estate segments, respectively, at December 31, 2018.
A significant portion of the portfolio is comprised of loans secured by real estate. A decline in the value of the real estate serving as collateral for loans may impact
our ability to collect those loans. In general, management obtains 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. Management uses qualified licensed appraisers approved by our Board of Directors. These
appraisers possess prerequisite certifications and knowledge of the local and regional marketplace.
36
Table of Contents
Based on its assessment of the loan portfolio, management presents a quarterly review of the allowance for loan losses to the Bank’s 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.
This assessment is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available or as events
change. The allowance for loan losses was stable as a percentage of loans outstanding at 1.16% at December 31, 2018 and 1.15% at December 31, 2017. New loans
continue to be underwritten with lower loss expectations. Historical loss experience, risk grade classification metrics, charge-off levels, and past due trends
remained stable between periods. The level of the allowance is based on estimates, and losses may ultimately vary from these estimates.
The Bank follows a loan grading program designed to evaluate the credit risk in the loan portfolio. Through this loan grading process, an internally classified watch
list is maintained 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 show weakened elements as compared with those of a satisfactory credit. These loans are reviewed to assist in assessing the adequacy
of the allowance for loan losses.
In establishing the appropriate risk rating for specific assets, management considers, among other factors, the borrower’s ability to repay, the borrower’s repayment
history, the current delinquency status, the estimated value of the underlying collateral, and the capacity and willingness of a guarantor to satisfy the obligation. 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 that 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 that may jeopardize the repayment of the debt as contractually agreed. They are characterized by the distinct
possibility that the Bank 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, 2018, $6.4 million of loans were classified as substandard, $113,000 classified as special mention and no loans classified as doubtful or loss.
This compares with $13.2 million of loans classified as substandard, $164,000 classified as special mention and no loans classified as doubtful or loss as of
December 31, 2017. The $6.8 million decrease in loans classified as substandard was primarily driven by $12.6 million in principal payments received, $730,000 in
migration to OREO, $92,000 in loans upgraded from substandard, and $480,000 in charge-offs, offset by $7.1 million in loans moved to substandard during 2018.
Substandard loans are primarily concentrated in the residential real estate portfolio. As of December 31, 2018, $266,000 of the allowance for loan losses was
allocated to substandard loans. This compares to allocations of $418,000 in the allowance for loan losses related to substandard loans at December 31, 2017.
37
Table of Contents
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 for 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.
As of December 31,
201 8
201 7
Amount of
Allowance
Percent of
Loans to Total
Loans
Amount of
Allowance
Percent of
Loans to Total
Loans
(dollars in thousands)
$
1,299
16.91% $
892
15.98%
419
543
3,714
403
2,049
130
321
2
8,880
11.35
10.18
22.50
6.50
22.97
5.11
4.41
0.07
100.0% $
$
20 1 6
As of December 31,
20 1 5
8.05
12.40
22.01
7.94
25.17
2.59
5.78
0.08
100.0%
301
449
3,282
627
2,273
64
313
1
8,202
20 1 4
Amount of
Allowance
Percent of
Loans to Total
Loans
Amount of
Allowance
Percent of
Loans to Total
Loans
Amount of
Allowance
Percent of
Loans to Total
Loans
(dollars in thousands)
$
475
15.29% $
818
13.93% $
2,046
9.75%
470
288
4,136
610
2,816
8
162
2
8,967
5.68
11.19
23.39
7.54
29.42
1.54
5.87
0.08
100.0% $
424
364
6,205
422
3,562
122
122
2
12,041
5.36
12.35
22.72
7.13
32.57
1.62
4.25
0.07
100.0% $
739
1,094
9,098
886
4,901
274
319
7
19,364
5.31
12.39
28.07
6.70
31.56
1.82
4.31
0.09
100.0%
$
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
Provision
for
Loan
Losses
–
A negative provision for loan losses of $500,000 was recorded for the year ended December 31, 2018, compared with a negative
provision for loan losses of $800,000 for 2017 and a negative provision for loan losses of $2.5 million for 2016. The negative provision in 2018 was driven by
declining historical loss rates, net recoveries for the year, improvements in asset quality, changes on the composition of the portfolio, and management’s assessment
of risk within the portfolio. Asset quality improvement is evidenced by, among other things, improvements in loan risk category migration. The pass category
increased approximately $72.6 million, the watch category declined approximately $12.6 million, the special mention category declined approximately $51,000 and
the substandard category declined approximately $6.8 million. Additionally, non-accrual loans decreased $3.5 million or 63.5% during 2018. Net recoveries were
$1.2 million for 2018 compared to net recoveries of $35,000 in 2017 and net charge-offs of $624,000 in 2016. Management considers 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.
38
Table of Contents
Foreclosed
Properties
– Foreclosed properties at December 31, 2018 were $3.5 million compared with $4.4 million at December 31, 2017. See “Note 5 - Other
Real Estate Owned,” to the financial statements. During 2018, the Bank acquired $730,000 of OREO properties and sold properties totaling approximately
$876,000. Management values foreclosed properties at fair value less estimated cost to sell when acquired and expects 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. When foreclosed properties are acquired, management obtains a new appraisal or has staff from the Bank’s special assets group evaluate
the latest in-file appraisal in connection with the transfer to OREO. Management typically obtains updated appraisals within five quarters of the anniversary date of
ownership unless a sale is imminent. Subsequent reductions in fair value are recorded as non-interest expense when a new appraisal indicates a decline in value or in
cases where a listing price is lowered below the appraisal amount.
The following table presents the major categories of OREO at the year-ends indicated:
Commercial Real Estate:
Construction, land development, and other land
Farmland
Residential Real Estate:
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 adjustment write-downs
Net gain on sale
Proceeds from sale of properties
OREO as of December 31
201 8
201 7
(in thousands)
201 6
3,485 $
—
—
3,485 $
4,335 $
74
—
4,409 $
6,571
—
250
6,821
201 8
201 7
(in thousands)
201 6
4,409 $
730
(850)
72
(876)
3,485 $
6,821 $
270
(1,963)
74
(793)
4,409 $
19,214
1,273
(1,180)
222
(12,708)
6,821
$
$
$
$
Net gain on sales, write-downs, and operating expenses for OREO totaled $868,000 for the year ended December 31, 2018, compared with $2.0 million in 2017 and
$1.5 million in 2016.
During the year ended December 31, 2018, fair value write-downs of $850,000 were recorded compared with $2.0 million for 2017 and $1.2 million for 2016. The
write-downs recorded in each year reflect fair value write-downs due to updated appraisals, changes in marketing strategies, and reductions in listing prices for
certain properties. OREO sales totaled $876,000, $793,000, and $12.7 million during 2018, 2017, and 2016, respectively. Management expects to resolve certain
nonaccrual loans through the acquisition and sale of the underlying real estate collateral.
Investment Securities – The securities portfolio serves as a source of liquidity and earnings and contributes to the management of interest rate risk. Investments are
made in various types of liquid assets, including U.S. Treasury obligations and securities of various federal agencies, obligations of states and political subdivisions,
corporate bonds, collateralized loan obligations, certificates of deposit at insured savings and loans and banks, bankers’ acceptances and federal funds. The
investment portfolio increased by $48.5 million, or 31.7%, to $201.2 million at December 31, 2018, compared with $152.7 million at December 31, 2017.
39
Table of Contents
The following table sets forth the carrying value of our securities portfolio at the dates indicated.
December 31, 201 8
Gross
Gross
Unrealized
Unrealized
Losses
Gains
Amortized
Cost
December 31, 201 7
Gross
Gross
Unrealized
Unrealized
Losses
Gains
Fair
Value
Fair
Value
Amortized
Cost
(dollars in thousands)
Securities available for sale
U.S. Government and federal agencies
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Corporate bonds
Total available for sale
$
23,280 $
87,689
49,942
32,841
9,890
$ 203,642 $
2 $
192
—
230
127
551 $
(722) $
(1,891)
(103)
(259)
(26)
22,105 $
22,560 $
65,935
85,990
25,343
49,839
33,303
32,812
6,838
9,991
(3,001) $ 201,192 $ 153,524 $
2 $
117
182
508
78
887 $
(483) $
(1,087)
(20)
(101)
—
21,624
64,965
25,505
33,710
6,916
(1,691) $ 152,720
The following table sets forth the contractual maturities, fair values and weighted-average yields for our available for sale securities held at December 31, 2018:
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
$
—
—% $
—
—% $
8,981
2.54% $ 13,579
2.20% $ 22,560
2.33%
Available for sale
U.S. Government and
federal agencies
Agency mortgage-backed:
residential
Collateralized loan obligations
State and municipal
Corporate bonds
Total available for sale
$
—
—
5,173
—
5,173
—
—
2.89
—
5,540
—
19,225
—
2.89% $ 24,765
2.49
—
3.04
—
11,020
4,048
5,968
6,099
2.92% $ 36,116
69,430
2.33
45,791
4.42
2,446
3.34
5.18
3,892
3.25% $ 135,138
85,990
3.02
49,839
3.77
32,812
4.36
6.55
9,991
3.31% $ 201,192
2.89
3.82
3.17
5.71
3.24%
Average yields in the table above were calculated on a tax equivalent basis using a federal income tax rate of 21%. 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 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.
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. Management limits purchases of these securities to bank qualified issues with high credit ratings. At this
time, there are no holdings of this type in the portfolio. At December 31, 2018, 80.7% of the Bank’s agency mortgage-backed securities had contractual final
maturities of more than ten years with a weighted average life of 20.5 years.
The Bank owns Collateralized Loan Obligations (CLOs), which are debt securities secured by professionally managed portfolios of senior-secured loans to
corporations. CLO managers are typically large non-bank financial institutions or banks and are typically $300 million to $1 billion in size, contain one hundred or
more loans and have five to six credit tranches ranging from AAA, AA, A, BBB, BB, B and equity tranche. Interest and principal are paid first to the AAA tranche
then to the next lower rated tranche. Losses are borne first by the equity tranche then by the subsequently higher rated tranche. CLOs may be less liquid than
government securities from time to time and volatility in the CLO market may cause the value of these investments to decline.
The market value of CLOs may be affected by, among other things, changes in composition of the underlying loans, changes in the cash flows from the underlying
loans, defaults and recoveries on the underlying loans, capital gains and losses on the underlying loans, and prepayments on the underlying loans. Although we
attempt to mitigate the credit and liquidity risks associated with CLOs by purchasing CLOs with credit ratings of A or higher, completing pre-purchase due
diligence, and through ongoing monitoring, no assurance can be given that these risk mitigation efforts will be successful.
40
Table of Contents
At December 31, 2018, $33.1 million and $16.7 million of our CLOs were AA and A rated, respectively. There were no CLOs rated below A and none of the CLOs
were subject to ratings downgrade in 2018. All of our CLOs are floating rate, with rates set on a quarterly basis at three month LIBOR plus a spread.
Deposits – The Bank attracts 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, the Bank has been required by market conditions to rely increasingly on short to mid-term certificate accounts and other deposit alternatives, which are
more responsive to market interest rates.
The Bank primarily relies on its banking office network to attract and retain deposits in its local markets and has in the past leveraged the online channel 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 2018, total deposits increased $47.2 million compared with 2017. During 2017, total deposits decreased $2.9 million compared with
2016. The increase in deposits for 2018 and 2017 was primarily in certificates of deposit balances as well as money market accounts.
To evaluate our funding needs in light of deposit trends resulting from continually changing conditions, management evaluates simulated performance reports that
forecast changes in margins along with other pertinent economic data. The Bank continues to offer attractively priced deposit products along its product line to
allow it to retain deposit customers and reduce interest rate risk during various rising and falling interest rate cycles.
The Bank offers savings accounts, interest checking 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. Management adjusts interest rates, maturity terms, service fees
and withdrawal penalties on the Bank’s deposit products periodically. The variety of deposit products allows the Bank 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, the ability to attract
and maintain deposits and the cost of these funds have 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 deposits for the periods indicated:
201 8
For the Years Ended December 31,
201 7
20 1 6
Average
Balance
Average
Rate
Average
Balance
Average
Rate
Average
Balance
Average
Rate
$
$
136,947
90,583
158,832
34,866
439,597
860,825
(dollars in thousands)
$
0.13%
0.90
0.16
1.35
$
0.88%
129,088
101,980
145,281
35,486
452,443
864,278
$
0.13%
0.55
0.17
0.93
$
0.60%
119,736
96,294
136,423
34,257
466,007
852,717
0.13%
0.58
0.18
0.88
0.60%
Demand
Interest Checking
Money Market
Savings
Certificates of Deposit
Total Deposits
Weighted Average Rate
The following table sets forth the average daily balances and weighted average rates paid for our certificates of deposit for the periods indicated:
201 8
For the Years Ended December 31,
201 7
20 1 6
Average
Balance
Average
Rate
Average
Balance
Average
Rate
Average
Balance
Average
Rate
(dollars in thousands)
Less than $250,000
$250,000 or more
Total
$
$
410,942
28,655
439,597
419,816
32,627
452,443
0.92% $
1.01
0.93% $
437,955
28,052
466,007
0.88%
0.97
0.88%
1.34% $
1.51
1.35% $
41
Table of Contents
The following table shows at December 31, 2018 the amount of our time deposits of $250,000 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
$
$
3,799
4,002
8,490
11,820
28,111
The Bank maintains competitive pricing on its deposit products, which Management believes allows it to retain a substantial percentage of our customers when their
time deposits mature.
Borrowing – Deposits are the primary source of funds for lending and investment activities and for general business purposes. The Bank also uses advances
(borrowings) from the FHLB of Cincinnati to supplement the pool of lendable funds, meet deposit withdrawal requirements and manage the terms of liabilities.
Advances from the FHLB are secured by the Bank’s stock in the FHLB, and substantially all of its first mortgage residential loans. At December 31, 2018, the Bank
had $46.5 million in advances outstanding from the FHLB and the capacity to increase borrowings by an additional $42.7 million. The FHLB of Cincinnati
functions as a central reserve bank providing credit for member financial institutions. As a member, the Bank is required to own capital stock in the FHLB and is
authorized to apply for advances on the security of such stock and certain of our home mortgages and other assets (principally, securities that are obligations of, or
guaranteed by, the United States) provided that it meets 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
201 8
December 31,
201 7
(dollars in thousands)
9,184
$
26,830
11,797
$
43,363
71,630
46,549
$
2.45%
2.00%
1.48%
1.31%
20 1 6
2,967
22,458
22,458
0.85%
2.34%
Junior Subordinated Debentures – At December 31, 2018, the Company had four issues of junior subordinated debentures outstanding totaling $21.0 million as
shown in the table below.
Liquidation
Amount
Trust
Preferred
Securities
Issuance Date
Interest Rate ( 1 )
Junior
Subordinated
Debt and
Investment
in Trust
Maturity Date
3,000
5,000
3,000
10,000
21,000
2/13/2004
2/13/2004
4/15/2004
12/14/2006
3-month LIBOR + 2.85%
3-month LIBOR + 2.85%
3-month LIBOR + 2.79%
3-month LIBOR + 1.67%
$
$
3,093
5,155
3,093
10,435
21,776
2/13/2034
2/13/2034
4/15/2034
3/1/2037
Description
(dollars in thousands)
Statutory Trust I
Statutory Trust II
Statutory Trust III
Statutory Trust IV
$
$
(1) As of December 31, 2018, the 3-month LIBOR was 2.80%.
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 are redeemable before the maturity date at our option at their principal amount plus accrued
interest.
The Company has the option to defer interest payments on the subordinated debentures from time to time for a period not to exceed 20 consecutive quarters. A
deferral period may begin at the Company’s discretion so long as interest payments are current.
On June 29, 2016, the Company began deferring interest payments on the junior subordinated debentures held by our trust subsidiaries, requiring the trust
subsidiaries to defer distributions on the trust preferred securities held by investors. Deferred distributions on the $21.0 million of trust preferred securities
outstanding totaled $1.2 million at December 31, 2017. In June 2018, the Company paid all deferred interest payments and brought interest current. At December
31, 2018, the Company is current on all interest payments.
42
Table of Contents
The Federal Reserve Board rules allow trust preferred securities issued prior to May 19, 2010 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. As of December 31, 2018, the Company’s trust preferred
securities totaled 21% of its Tier 1 capital and 10% of its Tier 2 capital.
Each of the trusts issuing the trust preferred securities holds junior subordinated debentures issued with an original maturity of 30 years. In the last five years before
the junior subordinated debentures mature, the associated trust preferred securities are excluded from Tier 1 capital and included in Tier 2 capital. In addition, the
trust preferred securities during this five-year period are amortized out of Tier 2 capital by one-fifth each year and excluded from Tier 2 capital completely during
the year before maturity.
Senior Debt – On June 30, 2017, the Company entered into a $10.0 million senior secured loan agreement with a commercial bank. The loan matures on June 30,
2022. Interest is payable quarterly at a rate of three-month LIBOR plus 250 basis points through June 30, 2020, at which time quarterly principal payments of
$250,000 plus interest will commence. The loan is secured by a first priority pledge of 100% of the issued and outstanding stock of the Bank. The Company may
prepay any amount due under the promissory note at any time without premium or penalty.
The Company contributed $9.0 million of the borrowing proceeds to the Bank as common equity Tier 1 capital. The remaining $1.0 million of the borrowing
proceeds were retained by the lender in escrow to service quarterly interest payments. At December 31, 2018, the escrow account had a balance of $417,000.
The loan agreement contains customary representations, warranties, covenants and events of default, including the following financial covenants: (i) the Company
must maintain minimum cash on hand of not less than $2,500,000, (ii) the Company must maintain a total risk based capital ratio at least equal to 10% of risk-
weighted assets, (iii) the Bank must maintain a total risk based capital ratio at least equal to 11% of risk-weighted assets, and (iv) non-performing assets of the Bank
may not exceed 2.5% of the Bank’s total assets. Both the Company and Bank were in compliance with the covenants as of December 31, 2018.
Liquidity
Liquidity risk arises from the possibility the Company 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
operating cash needs, taking into account all on- and off-balance sheet funding demands. Liquidity risk management also involves ensuring that cash flow needs are
met at a reasonable cost. Management maintains 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. The Asset Liability
Committee regularly monitors and reviews our liquidity position.
Funds are available to the Bank from a number of sources, including the sale of securities in the available for sale investment portfolio, principal pay-downs on
loans and mortgage-backed securities, customer deposit inflows, and other wholesale funding.
The Bank also borrows from the FHLB to supplement funding requirements. At December 31, 2018, the unused borrowing capacity with the FHLB was $42.7
million. Advances are collateralized by first mortgage residential loans and borrowing capacity is based on the underlying book value of eligible pledged loans.
The Bank also has available on an unsecured basis federal funds borrowing line from a correspondent bank totaling $5.0 million. Management believes the sources
of liquidity are adequate to meet expected cash needs for the foreseeable future. Historically, the Bank has also utilized brokered and wholesale deposits to
supplement its funding strategy. At December 31, 2018, the Bank had no brokered deposits.
The Company uses cash on hand to service senior debt, service junior subordinated debentures, and to provide for operating cash flow needs. The Company also
may issue common equity, preferred equity and debt to support cash flow needs and liquidity requirements. At December 31, 2018, cash on hand totaled $5.4
million, of which, $417,000 is held in escrow by the Company’s senior debt holder to service interest payments.
43
Table of Contents
Capital
Stockholders’ equity increased $19.4 million to $92.1 million at December 31, 2018, compared with $72.7 million at December 31, 2017. The increase was due
primarily to the $14.9 million issuance of common stock completed during the first quarter of 2018, as well as current year net income $8.8 million, offset by the
$3.5 million repurchase of the Company’s series E and F preferred shares and the other comprehensive loss for the year of $1.3 million.
The Company completed a private placement of common stock on March 30, 2018. In the transaction, the Company issued 150,000 common shares and 1.0 million
non-voting common shares to Patriot Financial Partners III, L.P. at $13.00 per share resulting in net proceeds of $14.9 million of which $5.0 million was contributed
as capital to the Bank. The balance of proceeds was maintained by the Company for general corporate purposes and to support the growth of the Bank.
The following table shows the ratios of Tier 1 capital, common equity Tier 1, and total capital to risk-adjusted assets and the leverage ratios (excluding the capital
conservation buffer) for the Bank at December 31, 2018:
Tier 1 capital
Common equity Tier 1 capital
Total risk-based capital
Tier 1 leverage ratio
Regulatory
Minimums
Well-Capitalized
Minimums
Limestone
Bank
6.0%
4.5
8.0
4.0
8.0%
6.5
10.0
5.0
11.83%
11.83
12.88
9.60
Failure to meet minimum capital requirements could result in additional discretionary actions by regulators that, if taken, could have a materially adverse effect on
our financial condition.
Each of the federal bank regulatory agencies has established risk-based capital requirements for banking organizations. 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 final rules allowed 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 opted out of this requirement. The rules also establish a “capital
conservation buffer” of 2.5% above the regulatory minimum risk-based capital ratios. Once the capital conservation buffer is fully phased in, the minimum ratios 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%. The phase-in of the
capital conservation buffer requirement began in January 2016 at 0.625% of risk-weighted assets and increases each year until fully implemented at 2.5% of risk-
weighted assets in January 2019. An institution is 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.
Off Balance Sheet Arrangements
In the normal course of business, the Bank enters into various transactions, which, in accordance with GAAP, are not included in the Company’s consolidated
balance sheets. The Bank enter into these transactions to meet the financing needs of its 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.
The commitments associated with outstanding standby letters of credit and commitments to extend credit as of December 31, 2018 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
year but less
than 3 years
3 years or
more but less
than 5 years
(dollars in thousands)
5 years
or more
Total
28,102 $
1,376
29,478 $
7,854 $
1
7,855 $
19,922 $
—
19,922 $
96,987
2,293
99,280
One year
or less
$
$
41,109 $
916
42,025 $
44
Table of Contents
Standby Letters of Credit – Standby letters of credit are written conditional commitments the Bank issues 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, the Bank may be required to fund the commitment. The
maximum potential amount of future payments the Bank could be required to make is represented by the contractual amount of the commitment. If the commitment
is funded, the Bank would be entitled to seek recovery from the borrower. The Bank’s policies generally require that standby letter of credit arrangements be
underwritten in a manner consistent with a loan of similar characteristics.
Commitments to Extend Credit – The Bank enters into contractual commitments to extend credit, normally with fixed expiration dates or termination clauses, at
specified rates and for specific purposes. Substantially all of the Bank’s commitments to extend credit are contingent upon borrowers maintaining specific credit
standards at the time of loan funding. The Bank minimizes our exposure to loss under these commitments by subjecting them to credit approval and monitoring
procedures.
Risk Participation Agreements – In connection with the purchase of loan participations, the Bank has entered into risk participation agreements, which had
notional amounts totaling $26.6 million at December 31, 2018 and $19.8 million at December 31, 2017.
Contractual Obligations
The following table summarizes our contractual obligations and other commitments to make future payments as of December 31, 2018:
Time deposits
FHLB borrowing (1)
Junior subordinated debentures
Senior debt
Total
One year
or less
More than 1
year but less
than 3 years
3 years or
more but less
than 5 years
(dollars in thousands)
5 years or
more
Total
$
$
256,745 $
45,172
—
—
301,917 $
176,682 $
1,190
—
500
178,372 $
17,459 $
159
—
9,500
27,118 $
— $
28
21,000
—
21,028 $
450,886
46,549
21,000
10,000
528,435
(1)
Fixed rate borrowings with rates ranging from 0% to 5.24%, and maturities ranging from 2019 through 2033, averaging 2.45%.
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.
The Bank has an asset and liability structure that is essentially monetary in nature. As a result, interest rates have a more significant impact on 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 loans and investments, the value of these assets decreases or
increases respectively.
45
Table of Contents
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, the Bank manages its exposure to
adverse changes in interest rates through asset and liability management activities within guidelines established by the Asset Liability Committee (“ALCO”). The
ALCO, which is comprised of senior officers, 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.
The Company utilizes an earnings simulation model to analyze net interest income sensitivity. It then evaluates 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 may 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.
Given an instantaneous 100 basis point increase in interest rates, the base net interest income would increase by an estimated 2.0% at December 31, 2018 compared
with an increase of 0.9% at December 31, 2017.
The following table indicates the estimated impact on net interest income under various interest rate scenarios for the year ended December 31, 2018, as calculated
using the static shock model approach:
+ 200 basis points
+ 100 basis points
- 100 basis points
- 200 basis points
Change in Future
Net Interest Income
Dollar Change
Percentage Change
(dollars in thousands)
$
1,272
660
(1,258)
(1,816)
3.9%
2.0
(3.8)
(5.5)
Implementation of strategies to mitigate the risk of changing interest rates in the future, could lessen our forecasted “base case” net interest income in the event of
no interest rate changes. 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, deposit decay rates and asset
prepayment speed assumptions.
46
Table of Contents
The following table sets forth the amounts of our interest-earning assets and interest-bearing liabilities outstanding at December 31, 2018, which management
anticipates, 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 management believes such assumptions are reasonable, management cannot provide assurance that assumed repricing rates will approximate actual
future activity.
Assets:
Federal funds sold and short-term investments
Investment securities
FHLB stock
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
Volume Subject to Repricing Within
0 – 90
Days
91 – 181
Days
182 – 36 5
Days
1 – 5
Years
Over 5
Years
(dollars in thousands)
Non-
Interest
Sensitive
Total
$
28,398
74,699
7,233
308,143
—
$ 418,373
$
$
—
4,899
—
45,716
—
50,615
$
—
15,837
—
90,951
—
$ 106,788
$
—
62,997
—
263,552
—
$ 326,549
$
—
44,326
—
56,882
—
$ 101,208
$
$
28,398
— $
201,192
(1,566)
7,233
—
756,364
(8,880)
76,505
76,505
66,059 $ 1,069,692
$ 300,727
78,549
76,032
—
—
$ 455,308
$ (36,835)
$ (36,835)
$
—
61,157
281
—
—
$
61,438
$ (10,823)
$ (47,658)
$
—
116,509
302
—
—
$ 116,811
$ (10,023)
$ (57,681)
$
—
194,407
892
—
—
$ 195,299
$ 131,250
73,569
$
$
—
264
42
—
—
$
306
$ 100,902
$ 174,471
$
— $ 300,727
450,886
—
77,549
—
148,433
148,433
92,097
92,097
$ 240,530 $ 1,069,692
Period gap to total assets
Cumulative gap to total assets
Cumulative interest-earning assets to cumulative interest-
bearing liabilities
(3.44)%
(3.44)%
(1.01)%
(4.46)%
(0.94)%
(5.39)%
12.27%
6.88%
9.43%
16.31%
91.91%
90.78%
90.90%
108.88%
121.04%
The one-year cumulative gap position as of December 31, 2018 was negative $57.7 million or 5.4% of total assets. This is a one-day position that is continually
changing and is not necessarily indicative of the Company’s position at any other time. Any gap analysis has inherent shortcomings because certain assets and
liabilities may not move proportionally as interest rates change.
47
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, 2018 and 2017
Consolidated Statements of Operations for the Years Ended December 31, 2018, 2017, and 2016
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2018, 2017, and 2016
Consolidated Statements of Change in Stockholders’ Equity for the Years Ended December 31, 2018, 2017, and 2016
Consolidated Statements of Cash Flows for the Years Ended December 31, 2018, 2017, and 2016
Notes to Consolidated Financial Statements
48
Table of Contents
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The Management of Limestone Bancorp, Inc. (the “Company”) is responsible for the preparation, integrity, and fair presentation of the Company’s annual
consolidated financial statements. All information has been prepared in accordance with U.S. generally accepted accounting principles and, as such, includes certain
amounts that are based on Management’s best estimates and judgments.
Management is responsible for establishing and maintaining adequate internal control over financial reporting presented in conformity with U.S. generally accepted
accounting principles. Internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in
reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (2) 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 receipts and
expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (3) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the
financial statements.
Two of the objectives of internal control are to provide reasonable assurance to Management and the Board of Directors that transactions are properly authorized
and recorded in the Company’s financial records, and that the preparation of the Company’s financial statements and other financial reporting is done in accordance
with U.S. generally accepted accounting principles. There are inherent limitations in the effectiveness of internal control, including the possibility of human error
and the circumvention or overriding of controls. Accordingly, even effective internal control can provide only reasonable assurance with respect to reliability of
financial statements. Furthermore, internal control can vary with changes in circumstances.
Management has made its own assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2018, in relation to the
criteria described in the report, Internal
Control
—
Integrated
Framework
(2013)
, issued by the Committee of Sponsoring Organizations of the Treadway
Commission (“COSO”).
Based on its assessment, Management believes that as of December 31, 2018, the Company’s internal control over financial reporting was effective in achieving the
objectives stated above. Crowe LLP has provided its report on the audited 2018 consolidated financial statements and on the effectiveness of the Company’s internal
control over financial reporting in their report dated March 8, 2019.
John T. Taylor
Chief Executive Officer
Phillip W. Barnhouse
Chief Financial Officer
March 8, 2019
49
Table of Contents
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Crowe LLP
Independent Member Crowe Global
Shareholders and the Board of Directors of Limestone Bancorp, Inc.
Louisville, Kentucky
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated balance sheets of Limestone Bancorp, Inc. (the "Company") as of December 31, 2018 and 2017, the related
consolidated statements of operations, comprehensive income (loss), changes in stockholders’ equity, and cash flows for each of the years in the three-year period
ended December 31, 2018, and the related notes (collectively referred to as the "financial statements"). We also have audited the Company’s internal control over
financial reporting as of December 31, 2018, based on criteria established in Internal Control – Integrated Framework: (2013) issued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and
2017, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2018 in conformity with accounting
principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2018, based on criteria established in Internal Control – Integrated Framework: (2013) issued by COSO.
Basis for Opinions
The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment
of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting.
Our responsibility is to express an opinion on the Company’s financial statements and an opinion on the Company’s internal control over financial reporting based
on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be
independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange
Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable
assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over
financial reporting was maintained in all material respects.
Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error
or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and
disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as
evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal
control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal
control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our
audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed 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. A company’s internal control over financial
reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions
and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with
authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company’s 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. Also, 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.
/s/ Crowe LLP
We have served as the Company's auditor since 1998.
Louisville, Kentucky
March 8, 2019
50
Table of Contents
LIMESTONE BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
December 31,
(Dollar amounts in thousands except share data)
201 8
201 7
Assets
Cash and due from banks
Interest bearing deposits in banks
Cash and cash equivalents
Securities available for sale
Loans held for sale
Loans, net of allowance of $8,880 and $8,202, respectively
Premises and equipment, net
Premises held for sale
Other real estate owned
Federal Home Loan Bank stock
Bank owned life insurance
Deferred taxes, net
Accrued interest receivable and other assets
Total assets
Liabilities and Stockholders’ Equity
Deposits
Non-interest bearing
Interest bearing
Total deposits
Federal Home Loan Bank advances
Accrued interest payable and other liabilities
Subordinated capital note
Junior subordinated debentures
Senior debt
Total liabilities
Commitments and contingent liabilities (Note 15)
Stockholders’ equity
Preferred stock, no par
Series E - none and 6,198, respectively, issued and outstanding; Liquidation preference of $6.2 million
Series F - none and 4,304, respectively, issued and outstanding; Liquidation preference of $4.3 million
Total preferred stockholders’ equity
Common stock, no par, 39,000,000 shares authorized, 6,242,720 and 6,039,864 voting, and 1,220,000 and
220,000 non-voting shares issued and outstanding, respectively
Additional paid-in capital
Retained deficit
Accumulated other comprehensive loss
Total common stockholders’ equity
Total stockholders' equity
Total liabilities and stockholders’ equity
See accompanying notes.
51
$
$
$
$
6,963 $
28,398
35,361
201,192
—
756,364
14,655
1,050
3,485
7,233
15,646
29,282
5,424
1,069,692 $
142,618 $
751,613
894,231
46,549
5,815
—
21,000
10,000
977,595
—
—
—
—
140,639
24,287
(66,201)
(6,628)
92,097
92,097
1,069,692 $
8,137
25,966
34,103
152,720
70
703,913
16,789
—
4,409
7,323
15,229
31,313
4,932
970,801
137,386
709,638
847,024
11,797
6,057
2,250
21,000
10,000
898,128
—
1,644
1,127
2,771
125,729
24,497
(75,108)
(5,216)
69,902
72,673
970,801
Table of Contents
LIMESTONE BANCORP, INC.
CONSOLIDATED STATEMENTS OF OPER A TIONS
Years Ended December 31,
(Dollar amounts in thousands except per share data)
201 8
201 7
20 1 6
Interest income
Loans, including fees
Taxable securities
Tax exempt securities
Federal funds sold and other
Interest expense
Deposits
Federal Home Loan Bank advances
Senior debt
Junior subordinated debentures
Subordinated capital note
Net interest income
Negative provision for loan losses
Net interest income after negative 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 (loss) on sales and calls of investment securities
Other
Non-interest expense
Salaries and employee benefits
Occupancy and equipment
FDIC insurance
Data processing expense
Marketing expense
State franchise and deposit tax
Deposit account related expense
Professional fees
Communications
Insurance expense
Postage and delivery
Litigation and loan collection expense
Other real estate owned expense
Other
Income (loss) before income taxes
Income tax expense (benefit)
Net income (loss)
Basic and diluted income (loss) per common share
$
$
See accompanying notes.
52
37,342 $
4,880
383
856
43,461
7,549
867
389
946
39
9,790
33,671
(500)
34,171
2,355
1,831
437
—
(6)
1,162
5,779
15,489
3,586
557
1,192
1,114
1,118
823
814
701
478
364
245
868
1,777
29,126
10,824
2,030
8,794
1.23 $
31,866 $
4,399
571
686
37,522
5,190
120
194
753
148
6,405
31,117
(800)
31,917
2,253
1,521
412
—
288
930
5,404
15,090
3,420
1,412
1,256
1,098
956
896
978
722
540
395
179
1,973
1,852
30,767
6,554
(31,899)
38,453
6.15 $
30,537
3,886
620
559
35,602
5,093
70
—
671
147
5,981
29,621
(2,450)
32,071
1,958
1,303
417
456
216
868
5,218
15,508
3,517
1,660
1,185
973
965
787
1,568
706
565
359
8,805
1,541
1,882
40,021
(2,732)
21
(2,753)
(0.46)
Table of Contents
LIMESTONE BANCORP, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME ( LOSS )
Years Ended December 31,
(in thousands)
Net income (loss)
Other comprehensive income (loss):
Unrealized gain (loss) on securities:
201 8
201 7
201 6
$
8,794 $
38,453 $
(2,753)
Unrealized gain (loss) arising during the period
Transfer of investment securities from held to maturity to available for sale
Amortization during the period of net unrealized loss transferred to held to maturity
Reclassification of adjustment for (gains) losses included in net income (loss)
Net unrealized gain/(loss) recognized in comprehensive income
Tax effect
Other comprehensive income (loss)
Comprehensive income (loss)
(1,652)
—
—
6
(1,646)
347
(1,299)
1,141
702
119
(288)
1,674
(587)
1,087
(1,917)
—
129
(216)
(2,004)
—
(2,004)
(4,757)
$
7,495 $
39,540 $
See accompanying notes.
53
Table of Contents
Balances,
December 31,
2015
Issuances of
LIMESTONE BANCORP, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
Years Ended December 31, 2018
(Dollar amounts in thousands except share and per share data)
Preferred
Common
Preferred
Shares
Amount
Common
Series
Series
E
F Common
Non-
Voting
Common
Total
Common
Series
E
Series
F
Common
and Non-
Voting
Common
Additional
Paid-In
Capital
Accumulated
Other
Comprehensive
Loss
Total
Retained
Deficit
6,198 4,304 4,017,907 1,371,600 5,389,507 $ 1,644 $ 1,127 $ 120,699 $
23,654 $ (110,808) $
(4,299) $ 32,017
unvested stock — —
35,465
—
34,465 — —
—
—
—
Forfeited unvested
stock
— —
(1,972)
—
(1,972) — —
—
—
—
—
—
—
—
— —
1,533
—
1,533 — —
—
—
—
—
—
— —
— —
—
—
—
—
— — —
— — —
—
—
443
—
—
(2,753)
—
443
— (2,753)
Reverse stock
split rounding
shares
Stock-based
compensation
expense
Net loss
Net change in
accumulated
other
comprehensive
loss, net of
taxes
— —
—
Issuance of stock — — 580,000
Balances,
—
— — —
220,000 800,000 — —
—
5,030
—
—
—
—
(2,004) (2,004)
— 5,030
December 31,
2016
Issuance of
6,198 4,304 4,632,933 1,591,600 6,224,533 $ 1,644 $ 1,127 $ 125,729 $
24,097 $ (113,561) $
(6,303) $ 32,733
unvested stock — —
37,865
—
37,865 — —
—
—
—
Forfeited unvested
stock
— —
(1,316)
—
(1,316) — —
—
—
—
—
—
—
—
Reverse stock
split rounding
shares
Stock-based
compensation
expense
Net income
Net change in
accumulated
other
comprehensive
income, net of
taxes
Non-voting shares
converted to
voting
Balances,
December 31,
2017
Issuance of
— —
(1,218)
—
(1,218) — —
—
—
—
—
—
— —
— —
—
—
—
—
— — —
— — —
—
—
400
—
—
38,453
400
—
— 38,453
— —
—
—
— — —
—
—
—
1,087 1,087
— — 1,371,600 (1,371,600)
— — —
—
—
—
—
—
6,198 4,304 6,039,864
220,000 6,259,864 $ 1,644 $ 1,127 $ 125,729 $
24,497 $ (75,108) $
(5,216) $ 72,673
unvested stock — —
52,856 — —
Issuance of stock — — 150,000 1,000,000 1,150,000 — —
Redemption and
retirement of
preferred shares (6,198) (4,304)
— (1,644) (1,127)
52,856
—
—
—
—
14,910
—
—
—
—
—
—
— 14,910
—
(734)
—
— (3,505)
Stock-based
compensation
— —
— —
expense
Net income
Reclassification of
disproportionate
tax effect due to
change in
federal tax rate — —
—
—
—
—
— — —
— — —
—
—
524
—
—
8,794
—
524
— 8,794
—
—
— — —
—
—
113
(113)
—
Net change in
accumulated
other
comprehensive
loss, net of
taxes
Balances,
December 31,
2018
— —
—
—
— — —
—
—
—
(1,299) (1,299)
— — 6,242,720 1,220,000 7,462,720 $ — $ — $ 140,639 $
24,287 $ (66,201) $
(6,628) $ 92,097
See accompanying notes to unaudited consolidated financial statements.
54
Table of Contents
LIMESTONE BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
(in thousands)
Cash flows from operating activities
Net income (loss)
Adjustments to reconcile net income (loss) to net cash from operating activities
201 8
201 7
201 6
$
8,794 $
38,453 $
Depreciation and amortization
Negative provision for loan losses
Net amortization on securities
Stock-based compensation expense
Deferred taxes, net
Net gain on sales of loans held for sale
Origination of loans held for sale
Proceeds from sales of loans held for sale
Net gain on sales of other real estate owned
Net write-down of other real estate owned
Net realized (gain) loss on sales and calls of investment securities
Net (gain) loss on sale of premises and equipment
Impairment on transfer of premises to held for sale
Increase in cash surrender value of 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
Proceeds from sales and calls of available for sale securities
Proceeds from maturities and prepayments of available for sale securities
Proceeds from calls of held to maturity securities
Proceeds from maturities of held to maturity securities
Proceeds from sale of other real estate owned
Proceeds from mandatory redemption of Federal Home Loan Bank stock
Net changes in loans
Proceeds from sale of premises and equipment
Purchases of premises and equipment
Purchase of bank owned life insurance
Net cash from investing activities
Cash flows from financing activities
Net change in deposits
Payment of Federal Home Loan Bank advances
Advances from Federal Home Loan Bank
Payment of subordinated capital note
Proceeds from senior debt
Proceeds from issuance of common stock, net
Redemption of preferred stock
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:
Proceeds from common stock issuance directed by investors to pay junior
subordinated debt interest
Transfer from loans to other real estate
Transfer from premises and equipment to premises and equipment held for sale
Financed sales of other real estate owned
Transfer from held to maturity to available for sale securities
AOCI component of transfer from held to maturity to available for sale, net of
$
$
$
1,080
(500)
865
524
2,376
(1)
—
71
(72)
850
6
(692)
392
(417)
(491)
(155)
12,630
(77,159)
6,054
20,116
—
—
876
90
(52,885)
1,590
(1,168)
—
(102,486)
47,207
(120,248)
155,000
(2,250)
—
14,910
(3,505)
91,114
1,258
34,103
35,361 $
1,239
(800)
1,246
400
(31,899)
(46)
(2,859)
2,835
(74)
1,963
(288)
3
—
(391)
2,079
(9,854)
2,007
(21,112)
41,686
21,838
47
145
793
—
(73,202)
331
(284)
—
(29,758)
(2,901)
(55,661)
45,000
(900)
10,000
—
—
(4,462)
(32,213)
66,316
34,103 $
10,607 $
—
5,665 $
—
—
730 $
1,050
—
—
—
270 $
—
—
41,380
(2,753)
1,725
(2,450)
1,297
443
—
(86)
(5,145)
5,417
(222)
1,180
(216)
(1)
—
(397)
(814)
8,133
6,111
(41,827)
8,311
22,876
—
—
12,438
—
(22,368)
268
(464)
(5,000)
(25,766)
(28,072)
(623)
20,000
(900)
—
2,231
—
(7,364)
(27,019)
93,335
66,316
5,253
21
2,799
1,273
—
270
—
tax
—
456
—
See accompanying notes.
55
Table of Contents
LIMESTONE BANCORP, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 201 8 , 201 7 and 201 6
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Principles of Consolidation – The consolidated financial statements include Limestone Bancorp, Inc. (Company) and its subsidiary,
Limestone Bank (Bank). The Company owns a 100% interest in the Bank.
The Company provides financial services through its offices in Central and South Central Kentucky, Lexington 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 and 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, borrowers’ 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, federal funds sold, municipal securities, collateralized loan obligations, corporate securities, and bank
owned life insurance.
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. Included in cash and due from
banks and interest bearing deposits are amounts required to be held at the Federal Reserve Bank of St. Louis or maintained in vault cash in accordance with
regulatory reserve requirements. The balance requirements were $7.4 million and $11.0 million at December 31, 2018 and 2017, respectively.
Securities – Debt securities are classified as held to maturity and carried at amortized cost when management has the intent and ability to hold them to maturity.
Debt securities are classified as available for sale when they might be sold before maturity. 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 1) OTTI related to credit loss, which is 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.
Loans Held for Sale – Loans held for sale include residential mortgage loans originated for sale into the secondary market and 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.
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.
Commitments to deliver loans and rate lock loan commitments were insignificant at year end.
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Table of Contents
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 recognition 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 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. Management
estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and
estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is
available for any loan that, in management’s judgment, should be charged off.
The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. A loan is deemed
impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of
the loan agreement. 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 treated 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. The significance of payment delays
and payment shortfalls is determined on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the
length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.
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 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, the amount of reserve is determined in accordance with the accounting policy for the allowance for loan losses.
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 actual loss history experienced over the most recent five years with equal weighting. 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.
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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.
Management identified the following portfolio segments: commercial, commercial real estate, residential real estate, consumer, agricultural, and other.
● Commercial loans are made to businesses and depend on the strength of the industries, related borrowers, and cash flow from the 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
commercial properties occupied by borrowers and/or tenants. 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. Loans secured by farmland are also a component of
this segment. 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 unsecured, but may be secured by consumer assets. Management evaluates the
borrowers’ repayment ability through a review of credit scores and an evaluation of debt to income ratios. Consumer loans may be for consumer goods
purchases, cash flow needs, or for student loans or student debt refinances.
● Agriculture loans depend on the industries tied to these loans and are generally secured by livestock, crops, and/or equipment, but may be unsecured.
Management evaluates the borrowers’ repayment ability through financial and business performance review.
● Other loans include loans to municipalities, loans secured by stock, and overdrafts. For municipal loans, management evaluates the borrowers’ revenue
streams as well as ability to repay form general funds. For loans secured by stock, management evaluates 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.
Management analyzes key relevant risk characteristics for each portfolio segment having determined that loans in each segment possess similar general risk
characteristics that are analyzed in connection with loan underwriting processes and procedures. In determining the allocated allowance, the weighted average loss
rates over the most recent five years are used with equal weighting. Commercial real estate qualitative adjustment considerations include trends in the markets for
underlying collateral values, risks related to tenant rents, and economic factors such as decreased sales demand, elevated inventory levels, and declining collateral
values. Residential real estate loan considerations include macro economic factors such as unemployment rates, trends in vacancy rates, and home value trends. The
commercial and agricultural portfolio qualitative adjustments are related to economic and portfolio performance trends. The 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 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 (“OREO”) – 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 write-down is recorded through expense. Costs after acquisition are expensed.
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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 generally ranging from 5 to 40 years. Furniture, fixtures and equipment are depreciated using the
straight-line or accelerated method with useful lives generally ranging from 2 to 10 years.
Premises and equipment held for sale are recorded at fair value less estimated cost to sell at the time of transfer based upon independent third party appraisal. If fair
value declines subsequent to transfer, write-downs are recorded through expense.
Premises and equipment 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 through a charge to earnings.
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.
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.
Benefit Plans – Employee 401(k) 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 Income ( Loss ) – Comprehensive loss consists of net income (loss) and other comprehensive income (loss). Other comprehensive income (loss)
includes unrealized gains and losses on securities available for sale, which are also recognized as a separate component of equity.
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, warrants, and any convertible securities. 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 – The Company has issued and outstanding unvested common shares to employees and directors through
the 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 normal 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.
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Dividend Restriction s – 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.
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.
D erivative I nstruments – Derivative Instruments are carried at fair value and reflect the estimated amounts that would have been received to terminate these
contracts at the reporting date based upon pricing or valuation models applied to current market information.
As part of the asset/liability management program, the Company utilizes, from time to time, risk participation agreements to reduce its sensitivity to changing
interest rates. These are derivative instruments, which are recorded as assets or liabilities in the consolidated balance sheets at fair value. Changes in the fair values
of derivatives are reported in the consolidated statements of operations or other comprehensive income (“OCI”) depending on the use of the derivative and whether
the instrument qualifies for hedge accounting. The key criterion for the hedge accounting is that the hedged relationship must be found to be effective as determined
by FASB ASC 815 Derivatives and Hedging.
Derivatives that qualify for the hedge accounting treatment are designated as either: a hedge of the fair value of the recognized asset or liability or of an
unrecognized commitment (a fair value hedge) or a hedge of a forecasted transaction or the variability of cash flows to be received or paid related to a recognized
asset or liability (a cash flow hedge). To date, the Company has not entered into a cash flow hedge. For cash flow hedges, changes in the fair values of the derivative
instruments are reported in OCI to the extent the hedge is effective. The gains and losses on derivative instruments that are reported in OCI are reflected in the
consolidated statements of income in the periods in which the results of operations are impacted by the variability of the cash flows of the hedged item. Generally,
net interest income is increased or decreased by amounts receivable or payable with respect to the derivatives, which qualify for hedge accounting. At inception of
the hedge, a Company must establish the method it uses for assessing the effectiveness of the hedging derivative and the measurement approach for determining the
ineffective aspect of the hedge. The ineffective portion of the hedge, if any, is recognized currently in the consolidated statements of operations and time value
expiration of the hedge when measuring ineffectiveness is excluded.
The risk participation agreements are not designated against specific assets or liabilities under ASC 815, and, therefore, do not qualify for hedge accounting. The
derivatives are recorded on the balance sheet at fair value and changes in fair value of both the borrower and the offsetting swap agreements are recorded (and
essentially offset) in non-interest income. The fair value of the derivative instruments incorporates a consideration of credit risk in accordance with ASC 820,
resulting in some volatility in earnings each period.
New Accounting Standards – In May 2014, FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASC 606”). The ASU provides
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. The majority of the Company’s revenues
come from interest income and other sources, including loans and securities that are outside the scope of ASC 606. The Company’s services that fall within the
scope of ASC 606 are presented in non-interest income and are recognized as revenue as the Company satisfies its obligation to the customer. Services within the
scope of ASC 606 include service charges on deposit accounts, bank card interchange income, and the sale of OREO. 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 became effective for the Company on January 1, 2018. The impact of adopting this new guidance did not have a material impact on the consolidated
financial statements, but did result in additional disclosures, which have been incorporated into “Note
19
–
Revenue
from
Contracts
with
Customers.”
In January 2016, the FASB issued an update ASU No. 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial
Assets and Financial Liabilities. The amendments in this update impact public business entities as follows: 1) Require equity investments (except those accounted
for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in
net income. 2) Simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify
impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value. 3) Eliminate the
requirement to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at
amortized cost on the balance sheet. 4) Require entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes. 5)
Require an entity to present separately in other comprehensive income the portion of the total change in fair value of a liability resulting from a change in the
instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. 6)
Require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and
receivables) on the balance sheet or the accompanying notes to the financial statements. 7) Clarify that an entity should evaluate the need for a valuation allowance
on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. The amendments in this update became
effective for the Company on January 1, 2018. The impact of adopting the new guidance did not have a material impact on the consolidated financial statements, but
did require additional disclosures. The additional disclosures have been incorporated into “Note
16
–
Fair
Value
s
.”
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In February 2016, the FASB issued an update ASU No. 2016-02, Leases (Topic 842). Under the new guidance, lessees will be required to recognize the following
for all leases, with the exception of short-term leases, at the commencement date: a lease liability, which is a lessee’s obligation to make lease payments arising
from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified
asset for the lease term. Under the new guidance, lessor accounting in largely unchanged. The amendments in this update become effective for annual periods and
interim periods within those annual periods beginning after December 15, 2018. Based on the Company’s existing lease agreements, the impact of adopting the new
guidance on the consolidated financial statements was the recording of a lease liability and a right of use asset of approximately $700,000 on January 1, 2019.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The
final standard will change estimates for credit losses related to financial assets measured at amortized cost such as loans, held-to-maturity debt securities, and certain
other contracts. For estimating credit losses, the FASB is replacing the incurred loss model with an expected loss model, which is referred to as the current expected
credit loss (CECL) model. Under the CECL model, certain financial assets that are carried at amortized cost, such as loans held for investment and held-to-maturity
debt securities, are required to be presented at the net amount expected to be collected. The measurement of expected credit losses is to be based on information
about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount.
This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the
“incurred loss” model required under current GAAP, which delays recognition until it is probable a loss has been incurred. The change could materially affect how
the allowance for loan losses is determined. The standard is effective for public companies for fiscal years beginning after December 15, 2019. As previously
disclosed, management has formed a cross functional committee that has overseen the enhancement of existing technology required to source and model data for the
purpose of meeting this standard. The committee has selected a vendor to assist in generating loan level cash flows and disclosures. The project plan is targeting
data and model validation completion during the first half of 2019, with parallel processing the existing model with the CECL model for two to three quarters prior
to implementation, depending on how model completion and validation occurs. During 2019, management is focused on refining assumptions and continued review
and challenges to the model. Additionally, management is researching and resolving interpretive accounting issues in the ASU, contemplating various accounting
policies, developing processes and related controls, and considering various reporting disclosures. The impact of CECL model implementation is being evaluated,
but it is expected that a one-time cumulative-effect adjustment to the allowance for loan losses will be recognized in retained earnings on the consolidated balance
sheet as of the beginning of the first reporting period in which the new standard is effective, as is consistent with regulatory expectations set forth in interagency
guidance. The magnitude of any adjustment or the overall impact of the new standard on financial condition or results of operation cannot yet be determined;
however, management expects to identify a range in the Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2019. In December 2018, the
OCC, The Board of Governors of the Federal Reserve System, and the FDIC approved a final rule to address changes to the credit loss accounting under GAAP,
including banking organizations’ implementation of CECL. The final rule provides banking organizations the option to phase in over a three-year period the day-one
adverse effects on regulatory capital that may result from adoption of the new accounting standard.
In March 2017, the FASB issued ASU No. 2017-08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization of Purchased
Callable Debt Securities. The final standard will shorten the amortization period for premiums on callable debt securities by requiring that premiums be amortized to
the first (or earliest) call date instead of as an adjustment to the yield over the contractual life. The standard is effective for public companies for fiscal years
beginning after December 15, 2018. Adoption of this new guidance will not have a material impact on the consolidated financial statements.
In February 2018, the FASB issued ASU No. 2018-02, Income Statement – Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects
From Other Comprehensive Income. The final standard allows institutions to elect to reclassify the stranded tax effects from AOCI to retained earnings, limited to
amounts in AOCI that are affected by the tax reform law. This includes re-measuring deferred tax assets and liabilities related to items presented in AOCI at the
newly enacted tax rate and on other income tax effects of items remaining in AOCI. The standard is effective for public companies for fiscal years beginning after
December 15, 2018, and interim periods during 2018. Early adoption was permitted. The Company adopted the standard on January 1, 2018 and adoption did not
have a material impact on the consolidated financial statements as it resulted in a $113,000 entry between AOCI and retained deficit.
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N OTE 2 – SECURITIES
Securities are classified as available for sale (AFS). AFS securities may be sold if needed for liquidity, asset liability management, or other reasons. AFS securities
are reported at fair value, with unrealized gains or losses included as a separate component of equity, net of tax.
The amortized cost and fair value of securities and the related gross unrealized gains and losses recognized in accumulated other comprehensive income (loss) were
as follows:
December 31, 201 8
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Corporate bonds
Total available for sale
December 31, 201 7
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Corporate bonds
Total available for sale
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
(in thousands)
Fair Value
$
$
$
$
23,280 $
87,689
49,942
32,841
9,890
203,642 $
2 $
192
—
230
127
551 $
(722) $
(1,891)
(103)
(259)
(26)
(3,001) $
22,560
85,990
49,839
32,812
9,991
201,192
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
(in thousands)
Fair Value
22,105 $
65,935
25,343
33,303
6,838
153,524 $
2 $
117
182
508
78
887 $
(483) $
(1,087)
(20)
(101)
—
(1,691) $
21,624
64,965
25,505
33,710
6,916
152,720
In 2013, the Bank transferred a portion of its tax-free municipal and taxable municipal bond portfolios from AFS to held to maturity (HTM). At that time, the
transfer occurred at fair value with the unrealized loss of $1.3 million remaining in other comprehensive income. That unrealized loss was subsequently amortized
on the level yield method out of other comprehensive income with an offsetting entry reducing interest income as a yield adjustment through earnings. No gain or
loss was recorded at the time of transfer in 2013. Given the Bank’s balance sheet composition, interest rate risk profile, the tax environment, and the Bank’s
strategic plan, management reassessed the classification of the HTM securities and, effective December 1, 2017, transferred $41.4 million of tax-free municipals and
taxable municipals from HTM to AFS. As a result, the $702,000 in remaining unamortized loss from the 2013 transfer was reclassified through a book value
adjustment of these securities. At December 31, 2017, these securities were carried at fair value with unrealized holding gains and losses reported in other
comprehensive income, net of tax, with the remaining securities classified as AFS.
Sales and calls of securities were as follows:
Proceeds
Gross gains
Gross losses
201 8
201 7
(in thousands)
201 6
$
6,054 $
—
6
41,733 $
449
161
8,311
245
29
The tax provision related to net gains and losses realized on sales was an income tax benefit of $1,000 for 2018 and an income tax expense of $101,000, and
$76,000 for 2017 and 2016, respectively.
62
Table of Contents
The amortized cost and fair value of our debt securities are shown by contractual maturity. Expected maturities may differ from actual maturities when borrowers
have the right to call or prepay obligations with or without call or prepayment penalties. Mortgage-backed securities not due at a single maturity date are shown
separately.
Maturity
Available for sale
Within one year
One to five years
Five to ten years
Agency mortgage-backed: residential
Total
December 31, 201 8
Amortized
Cost
Fair
Value
(in thousands)
$
$
27,583 $
75,548
12,822
87,689
203,642 $
27,662
74,964
12,576
85,990
201,192
Securities pledged at year-end 2018 and 2017 had carrying values of approximately $64.4 million and $76.8 million, respectively, and were pledged to secure public
deposits.
At December 31, 2018 and 2017, the Bank held securities issued by the Commonwealth of Kentucky or Kentucky municipalities having a book value of $15.3
million and $15.4 million, respectively. At year-end 2018, 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.
The Bank owns Collateralized Loan Obligations (CLOs), which are debt securities secured by professionally managed portfolios of senior-secured loans to
corporations. CLO managers are typically large non-bank financial institutions or banks and are typically $300 million to $1 billion in size, contain one hundred or
more loans and have five to six credit tranches ranging from AAA, AA, A, BBB, BB, B and equity tranche. Interest and principal are paid first to the AAA tranche
then to the next lower rated tranche. Losses are borne first by the equity tranche then by the subsequently higher rated tranche. CLOs may be less liquid than
government securities from time to time and volatility in the CLO market may cause the value of these investments to decline.
The market value of CLOs may be affected by, among other things, changes in composition of the underlying loans, changes in the cash flows from the underlying
loans, defaults and recoveries on the underlying loans, capital gains and losses on the underlying loans, and prepayments on the underlying loans.
At December 31, 2018, $33.1 million and $16.7 million of our CLOs were AA and A rated, respectively. There were no CLOs rated below A and none of the CLOs
were subject to ratings downgrade in 2018. All of our CLOs are floating rate, with rates set on a quarterly basis at three month LIBOR plus a spread.
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, 2018, management does not believe any securities in the portfolio with
unrealized losses should be classified as other than temporarily impaired.
63
Table of Contents
Securities with unrealized losses at December 31, 2018 and December 31, 2017, aggregated by investment category and length of time the individual securities have
been in a continuous unrealized loss position, are as follows:
Description of Securities
201 8
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Corporate Bonds
Total temporarily impaired
Description of Securities
201 7
Available for sale
U.S. Government and federal agency
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Total temporarily impaired
N OTE 3 – LOANS
$
$
$
$
Less than 12 Months
12 Months or More
Total
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
(in thousands)
3,431 $
30,229
48,294
6,133
3,569
91,656 $
(57) $
(343)
(103)
(29)
(26)
(558) $
17,212 $
40,932
—
7,252
—
65,396 $
(665) $
(1,548)
—
(230)
—
(2,443) $
20,643 $
71,161
48,294
13,385
3,569
157,052 $
(722)
(1,891)
(103)
(259)
(26)
(3,001)
Less than 12 Months
12 Months or More
Total
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
(in thousands)
5,788 $
21,104
6,038
7,492
40,422 $
(97) $
(172)
(20)
(101)
(390) $
14,121 $
27,158
—
—
41,279 $
(386) $
(915)
—
—
(1,301) $
19,909 $
48,262
6,038
7,492
81,701 $
(483)
(1,087)
(20)
(101)
(1,691)
Loans net of unearned income, deferred loan origination costs, and net premiums on acquired loans by class were as follows:
201 8
201 7
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Less: Allowance for loan losses
Loans, net
$
(in thousands)
129,368 $
86,867
77,937
172,177
49,757
175,761
39,104
33,737
536
765,244
(8,880)
756,364 $
$
64
113,771
57,342
88,320
156,724
56,588
179,222
18,439
41,154
555
712,115
(8,202)
703,913
Table of Contents
The following table presents the activity in the allowance for loan losses by portfolio segment for the year ended December 31, 2018, 2017, and 2016:
December 31, 201 8 :
Beginning balance
Provision (negative provision)
Loans charged off
Recoveries
Ending balance
Dec ember 3 1 , 201 7 :
Beginning balance
Provision (negative provision)
Loans charged off
Recoveries
Ending balance
Dec ember 3 1 , 201 6 :
Beginning balance
Provision (negative provision)
Loans charged off
Recoveries
Ending balance
Commercial
Commercial
Real Estate
Residential
Real Estate Consumer Agriculture
Other
Total
(in thousands)
$
$
892 $
196
(50)
261
1,299 $
4,032 $
(192)
(198)
1,034
4,676 $
2,900 $
(599)
(252)
403
2,452 $
64 $
92
(95)
69
130 $
313 $
6
(13 )
15
321 $
1 $
(3)
(8)
12
2 $
8,202
(500)
(616)
1,794
8,880
Commercial
Commercial
Real Estate
Residential
Real Estate Consumer Agriculture
Other
Total
(in thousands)
$
$
$
$
475 $
363
(5)
59
892 $
818 $
(401)
(276)
334
475 $
4,894 $
(1,223)
(58)
419
4,032 $
6,993 $
(2,438)
(505)
844
4,894 $
3,426 $
(129)
(692)
295
2,900 $
3,984 $
749
(1,652)
345
3,426 $
8 $
(8)
(51)
115
64 $
122 $
(314)
(99)
299
8 $
162 $
213
(95 )
33
313 $
122 $
(56)
(18 )
114
162 $
2 $
(16)
–
15
1 $
2 $
10
(79)
69
2 $
8,967
(800)
(901)
936
8,202
12,041
(2,450)
(2,629)
2,005
8,967
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, 2018:
Commercial
Commercial
Real Estate
Residential
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:
$
$
– $
1,299
1,299 $
35 $
4,641
4,676 $
168 $
2,284
2,452 $
– $
130
130 $
– $
321
321 $
– $
2
2 $
203
8,677
8,880
Loans individually evaluated for impairment $
Loans collectively evaluated for impairment
$
Total ending loans balance
53 $
129,315
129,368 $
510 $
336,471
336,981 $
2,348 $
223,170
225,518 $
– $
39,104
39,104 $
– $
33,737
33,737 $
– $
536
536 $
2,911
762,333
765,244
65
Table of Contents
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, 2017:
Commercial
Commercial
Real Estate
Residential
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:
$
$
13 $
879
892 $
– $
4,032
4,032 $
206 $
2,694
2,900 $
– $
64
64 $
– $
313
313 $
– $
1
1 $
219
7,983
8,202
Loans individually evaluated for impairment $
Loans collectively evaluated for impairment
$
Total ending loans balance
587 $
113,184
113,771 $
2,635 $
299,751
302,386 $
3,950 $
231,860
235,810 $
1 $
18,438
18,439 $
– $
41,154
41,154 $
– $
555
555 $
7,173
704,942
712,115
Im paired Loans
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, 2018:
Unpaid
Principal
Balance
Recorded
Investment
Allowance
For Loan
Losses
Allocated
(in thousands)
Average
Recorded
Investment
Interest
Income
Cash
Basis
Income
Recognized
Recognized
With No Related Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
With An Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Total
$
120 $
53 $
— $
125 $
1 $
—
1,860
402
—
2,678
12
—
—
5,072
—
—
—
159
—
720
—
—
—
879
5,951 $
—
89
262
—
1,628
—
—
—
2,032
—
—
—
159
—
720
—
—
—
879
2,911 $
66
$
—
—
—
—
—
—
—
—
—
—
—
—
35
—
168
—
—
—
203
203 $
—
1,156
327
—
1,964
1
—
—
3,573
60
—
—
100
—
1,111
—
—
—
1,271
4,844 $
—
525
19
—
164
—
7
—
716
3
—
—
—
—
44
—
—
—
47
763 $
1
—
360
—
—
111
—
6
—
478
—
—
—
—
—
—
—
—
—
—
478
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, 2017:
Unpaid
Principal
Balance
Recorded
Investment
Allowance
For Loan
Losses
Allocated
(in thousands)
Average
Recorded
Investment
Interest
Income
Cash
Basis
Income
Recognized
Recognized
With No Related Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
With An Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Total
$
703 $
487 $
— $
495 $
7 $
—
3,687
1,047
—
4,293
9
—
—
9,739
—
2,059
576
—
2,787
1
—
—
5,910
100
100
—
—
—
—
1,163
—
—
—
1,263
11,002 $
$
—
—
—
—
1,163
—
—
—
1,263
7,173 $
67
—
—
—
—
—
—
—
—
—
13
—
—
—
—
206
—
—
—
219
219 $
—
2,651
716
820
2,884
2
24
—
7,592
100
—
235
238
—
1,404
—
24
—
2,001
9,593 $
—
210
59
—
143
2
1
—
422
7
—
—
14
—
68
—
—
—
89
511 $
7
—
210
47
—
143
2
1
—
410
—
—
—
—
—
—
—
—
—
—
410
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, 2016:
Unpaid
Principal
Balance
Recorded
Investment
Allowance
For Loan
Losses
Allocated
(in thousands)
Average
Recorded
Investment
Interest
Income
Recognized
Cash
Basis
Income
Recognized
$
707 $
495 $
— $
758 $
39 $
—
5,566
4,502
4,100
4,663
41
—
—
19,579
100
—
614
303
—
1,676
—
78
—
2,771
22,350 $
—
3,742
1,219
4,100
2,910
1
—
—
12,467
100
—
590
303
—
1,611
—
60
—
2,664
15,131 $
$
—
—
—
—
—
—
—
—
—
13
—
5
30
—
350
—
1
—
399
399 $
156
4,188
4,699
2,608
5,509
7
73
—
17,998
20
—
358
398
2,506
1,659
—
39
—
4,980
22,978 $
9
94
310
287
162
8
28
—
937
6
—
—
23
101
111
—
—
—
241
1,178 $
39
—
95
189
1
94
8
28
—
454
—
—
—
—
—
—
—
—
—
—
454
With No Related Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
With An Allowance Recorded:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Subtotal
Total
Troubled Debt Restructuring
A troubled debt restructuring (TDR) occurs when the Bank has agreed to a loan modification in the form of a concession for a borrower who is experiencing
financial difficulty. The Bank’s TDRs typically 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 Bank has allocated reserves for these loans to reflect the present value of the concessionary terms granted to the borrower.
68
Table of Contents
The following table presents the types of TDR loan modifications by portfolio segment outstanding as of December 31, 2018 and 2017:
December 31, 201 8
Commercial Real Estate:
Nonfarm nonresidential
Rate reduction
Residential Real Estate:
1-4 Family
Rate reduction
Total TDRs
December 31, 201 7
Commercial
Rate reduction
Principal deferral
Commercial Real Estate:
Farmland
Principal deferral
Nonfarm nonresidential
Rate reduction
Residential Real Estate:
1-4 Family
Rate reduction
Total TDRs
TDRs
Performing to
Modified Terms
TDRs Not
Performing to
Modified Terms
(in thousands)
Total
TDRs
190 $
— $
720
910 $
— $
—
—
483
734
1,217 $
—
— $
33 $
434
1,362
—
—
1,829 $
$
$
$
$
190
720
910
33
434
1,362
483
734
3,046
At December 31, 2018 and 2017, 100% and 40%, respectively, of the Company’s TDRs were performing according to their modified terms. The Company allocated
$168,000 and $122,000 as of December 31, 2018 and 2017, 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, 2018 or 2017 with outstanding loans that are classified as TDRs.
Management periodically reviews renewals and 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 based upon
current underwriting, 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, 2018, 2017, or 2016. During the year ended December, 31 2018, 2017, and
2016, no TDRs defaulted on their restructured loan within the twelve-month period following the loan modification. A default is considered to have occurred once
the TDR is past due 90 days or more or it has been placed on nonaccrual.
69
Table of Contents
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, 2018 and 2017:
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
Nonaccrual
Loans Past
Due 90 Days
And Over Still
Accruing
201 8
201 7
201 8
201 7
(in thousands)
$
53 $
487 $
—
249
61
—
1,628
—
—
—
1,991 $
—
2,059
93
—
2,817
1
—
—
5,457 $
$
— $
—
—
—
—
—
—
—
—
— $
—
—
—
—
—
—
—
1
—
1
The following table presents the aging of the recorded investment in past due loans by class as of December 31, 2018 and 2017:
December 31 , 201 8
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
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
(in thousands)
Nonaccrual
Total
Past Due
And
Nonaccrual
$
39 $
— $
—
244
—
—
1,299
8
3
—
1,593 $
70
$
—
107
52
—
137
35
—
—
331 $
— $
—
—
—
—
—
—
—
—
— $
53 $
—
249
61
—
1,628
—
—
—
1,991 $
92
—
600
113
—
3,064
43
3
—
3,915
Table of Contents
December 31, 201 7
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
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
(in thousands)
Nonaccrual
Total
Past Due
And
Nonaccrual
$
— $
—
593
—
—
850
30
5
—
1,478 $
$
— $
—
—
—
—
126
45
—
—
171 $
— $
487 $
—
—
—
—
—
—
1
—
1 $
—
2,059
93
—
2,817
1
—
—
5,457 $
487
—
2,652
93
—
3,793
76
6
—
7,107
Management categorizes all loans into risk categories at origination based upon original underwriting. Thereafter, management categorizes loans into risk categories
based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, credit
documentation, public information, and current economic trends. Additionally, loans are analyzed through internal and external loan review processes. Borrower
relationships in excess of $500,000 are routinely analyzed through 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 or may experience 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 the Bank will sustain some loss 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.
71
Table of Contents
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, 2018 and 2017, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:
Pass
Watch
Special
Mention
Substandard
Doubtful
Total
$
129,106 $
141 $
86,867
74,054
169,551
44,697
169,342
38,768
32,683
536
745,604 $
—
2,741
1,983
5,060
2,209
11
1,019
—
13,164 $
$
(in thousands)
— $
—
—
—
—
113
—
—
—
113 $
121 $
— $
129,368
—
1,142
643
—
4,097
325
35
—
6,363 $
—
—
—
—
—
—
—
—
— $
86,867
77,937
172,177
49,757
175,761
39,104
33,737
536
765,244
Pass
Watch
Special
Mention
Substandard
Doubtful
Total
(in thousands)
$
112,978 $
84 $
— $
709 $
— $
113,771
57,342
76,563
152,004
47,121
169,774
18,042
38,654
555
673,033 $
—
7,607
2,906
9,467
3,535
306
1,810
—
25,715 $
$
—
—
—
—
164
—
—
—
164 $
—
4,150
1,814
—
5,749
91
690
—
13,203 $
—
—
—
—
—
—
—
—
— $
57,342
88,320
156,724
56,588
179,222
18,439
41,154
555
712,115
December 31, 201 8
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
December 31, 201 7
Commercial
Commercial Real Estate:
Construction
Farmland
Nonfarm nonresidential
Residential Real Estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Total
N OTE 4 – PREMISES AND EQUIPMENT
Year-end premises and equipment were as follows:
Land and buildings
Furniture and equipment
Accumulated depreciation
201 8
201 7
(in thousands)
19,999 $
11,283
31,282
(16,627)
14,655 $
23,124
10,151
33,275
(16,486)
16,789
$
$
During 2018, the Company recognized a $692,000 gain on sale of a subdivided lot at the Company’s headquarters. The gain on sale is included in other non-interest
income.
In connection with the completion of a core system conversion in December 2018, management approved the closure of the Bank’s central data processing facility.
As a result, the data processing facility was transferred to Premises Held for Sale at fair value, as determined by an independent third party appraisal, less estimated
cost to sell. The transfer to held for sale resulted in a $392,000 impairment charge, which is included in other non-interest income. The carrying value is $1.1 million
at December 31, 2018.
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Table of Contents
Depreciation expense was $833,000, $955,000 and $1.1 million for 2018, 2017 and 2016, respectively.
N OTE 5 – 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 estimated cost to sell.
Any write-down of the property at the time of acquisition is charged to the allowance for loan losses.
Fair value of OREO is determined on an individual property basis. When foreclosed properties are acquired, management obtains a new appraisal of the subject
property or has staff from the Bank’s special assets group evaluate the latest in-file appraisal in connection with the transfer to OREO. Updated appraisals are
typically obtained within five quarters of the anniversary date of ownership unless a sale is imminent. Subsequent reductions in fair value are recorded as non-
interest expense when a new appraisal indicates a decline in value or in cases where a marketing price is lowered below the appraised amount.
The following table presents the major categories of OREO at the period-ends indicated:
Commercial Real Estate:
Construction, land development, and other land
Farmland
201 8
201 7
(in thousands)
$
$
3,485 $
—
3,485 $
4,335
74
4,409
Residential loans secured by 1-4 family residential properties in the process of foreclosure totaled $771,000 and $616,000 at December 31, 2018 and December 31,
2017, respectively.
Activity relating to OREO during the years indicated is as follows:
OREO Activity
OREO as of January 1
Real estate acquired
Valuation adjustment write-downs
Net gain on sale
Proceeds from sale of properties
OREO as of December 31
Expenses related to OREO include:
Net gain on sales
Valuation adjustment write-downs
Operating expense
Total
N OTE 6 – DEPOSITS
The following table details deposits by category:
Non-interest bearing
Interest checking
Money market
Savings
Certificates of deposit
Total
201 8
201 7
(in thousands)
20 1 6
4,409 $
730
(850)
72
(876)
3,485 $
6,821 $
270
(1,963)
74
(793)
4,409 $
19,214
1,273
(1,180)
222
(12,708)
6,821
201 8
201 7
(in thousands)
20 1 6
(72) $
850
90
868 $
(74) $
1,963
84
1,973 $
(222)
1,180
583
1,541
$
$
$
$
December 31,
201 8
December 31,
201 7
(in thousands)
$
$
142,618 $
94,269
171,924
34,534
450,886
894,231 $
137,386
99,383
151,388
34,632
424,235
847,024
73
Table of Contents
Time deposits of $250,000 or more were approximately $28.1 million and $31.7 million at year-end 2018 and 2017, respectively.
Scheduled maturities of total time deposits for each of the next five years are as follows (in thousands):
2019
2020
2021
2022
2023
Total
256,745
171,043
5,639
6,523
10,936
450,886
$
$
NOTE 7 – ADVANCES FROM FEDERAL HOME LOAN BANK
At year-end, advances from the Federal Home Loan Bank were as follows:
Short term advances (fixed rates 2.47% to 2.52%) maturing January 2019
Long term advances (fixed rates 0.00% to 5.24%) maturing April 2020 to August 2033
Total advances from the Federal Home Loan Bank
December 31,
2018
December 31,
2017
(in thousands)
$
$
45,000 $
1,549
46,549 $
10,000
1,797
11,797
FHLB advances had a weighted-average rate of 2.45% at December 31, 2018 and 1.48% at December 31, 2017. Each advance is payable per terms on agreement,
with a prepayment penalty. No prepayment penalties were incurred during 2018 or 2017. The advances were collateralized by approximately $130.4 million and
$130.9 million of first mortgage loans, under a blanket lien arrangement at December 31, 2018 and December 31, 2017, respectively. At December 31, 2018, our
additional borrowing capacity with the FHLB was $42.7 million.
Scheduled principal payments during the next five years and thereafter (in thousands):
2019
2020
2021
2022
2023
Thereafter
Advances
45,172
471
719
100
59
28
46,549
$
$
At year-end 2018, the Company had a $5.0 million federal funds line of credit available on an unsecured basis from a correspondent institution.
N OTE 8 – JUNIOR SUBORDINATED DEBENTURES
The junior subordinated debentures are redeemable at par prior to maturity 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 20 consecutive quarters. A deferral period may
begin at the Company’s discretion so long as interest payments are current. The Company is prohibited from paying dividends on preferred and common shares
when interest payments are in deferral.
On June 29, 2016, the Company notified the trustees of its election to defer interest payments effective with the third quarter 2016 payment. The deferral period
ends after the second quarter of 2021. After 20 consecutive quarters, the Company must pay all deferred distributions to avoid default. Dividends accrued and
unpaid on our junior subordinated debentures totaled $1.2 million at December 31, 2017. In June 2018, the Company paid all deferred interest payments and
brought interest current. At December 31, 2018, the Company is current on all interest payments.
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Table of Contents
A summary of the junior subordinated debentures is as follows:
Description
Statutory Trust I
Statutory Trust II
Statutory Trust III
Statutory Trust IV
Issuance
Date
2/13/2004
2/13/2004
4/15/2004
12/14/2006
Interest Rate (1)
3-month LIBOR + 2.85%
3-month LIBOR + 2.85%
3-month LIBOR + 2.79%
3-month LIBOR + 1.67%
(1) As of December 31, 2018, the 3-month LIBOR was 2.80%.
(2)
The debentures are callable at the Company’s option at their principal amount plus accrued interest.
N OTE 9 – S ENIOR D EBT
Junior
Subordinated
Debt Owed
To Trust
$
$
3,000,000
5,000,000
3,000,000
10,000,000
21,000,000
Maturity
Date (2)
2/13/2034
2/13/2034
4/15/2034
3/01/2037
On June 30, 2017, the Company entered into a $10.0 million senior secured loan agreement with a commercial bank. The loan matures on June 30, 2022. Interest is
payable quarterly at a rate of three-month LIBOR plus 250 basis points through June 30, 2020, at which time quarterly principal payments of $250,000 plus interest
will commence. The loan is secured by a first priority pledge of 100% of the issued and outstanding stock of the Bank. The Company may prepay any amount due
under the promissory note at any time without premium or penalty.
The Company contributed $9.0 million of the borrowing proceeds to the Bank as common equity Tier 1 capital. The remaining $1.0 million of the borrowing
proceeds were retained by the lender in escrow to service quarterly interest payments. At December 31, 2018, the escrow account had a balance of $417,000.
The loan agreement contains customary representations, warranties, covenants and events of default, including the following financial covenants: (i) the Company
must maintain minimum cash on hand of not less than $2,500,000, (ii) the Company must maintain a total risk based capital ratio at least equal to 10% of risk-
weighted assets, (iii) the Bank must maintain a total risk based capital ratio at least equal to 11% of risk-weighted assets, and (iv) non-performing assets of the Bank
may not exceed 2.5% of the Bank’s total assets. Both the Company and Bank were in compliance with the covenants as of December 31, 2018.
NOTE 1 0 – OTHER BENEFIT PLANS
401( k ) Plan – The Company's 401(k) Savings Plan allows employees to contribute up to the annual limits as determined by the Internal Revenue Service. For
2018, the Company matched 100% of the first 1% of compensation contributed and 50% of the next 5% contributed by employees. In 2017 and 2016, the Company
matched 50% of the first 4% of compensation contributed. The Company, at its discretion, may make additional contributions. Total contributions made by the
Company to the plan totaled approximately $347,000, $200,000 and $189,000 in 2018, 2017 and 2016, respectively.
Supplemental Executive Retirement Plan – The Company has 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 $77,000, $121,000 and
$121,000 for the years ended December 31, 2018, 2017 and 2016, respectively. The related liability was $1.3 million at December 31, 2018 and 2017 and is
included in other liabilities on the balance sheets.
In January 2018, the Company approved the termination of the plan effective January 31, 2018. As a result of the termination, the plan was liquidated with all
benefits paid in a lump sum to the participants on February 1, 2019. No additional expenses were incurred as a result of the plan termination.
The Company purchased life insurance on the participants of the plan. The cash surrender value of all insurance policies was $15.6 million and $15.2 million at
December 31, 2018 and 2017, respectively. Income earned from the cash surrender value of life insurance totaled $437,000, $412,000 and $417,000 for the years
ended December 31, 2018, 2017, and 2016, respectively.
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Table of Contents
NOTE 1 1 – INCOME TAXES
Prior to 2017, the Company had a full valuation allowance against its net deferred tax asset which was established in 2011. During the fourth quarter of 2017,
management concluded it was more-likely-than-not the asset would be utilized to reduce future taxes payable related to the future taxable income of the Company,
and as such, reversed the valuation allowance. As a result of the conclusion to reverse the valuation allowance, the Company recorded an income tax benefit of
$54.0 million for the year ended December 31, 2017.
On December 22, 2017, the Tax Cuts and Jobs Act of 2017 was signed into law. Among other significant changes to the tax code, the new law lowered the federal
corporate tax rate from 35% to 21% beginning in 2018. As a result, the Company revalued its net deferred tax asset at the new 21% rate. Due to this revaluation, the
Company recorded a $20.3 million charge to income tax expense for the year ended December 31, 2017.
The combination of the reversal of the valuation allowance and the change in federal corporate tax rates, as well as income tax expense for the year, resulted in an
income tax benefit of $31.9 million for the year ended December 31, 2017.
Income tax expense (benefit) was as follows:
Current
Deferred
Net operating loss
Change in federal statutory rate
Change in valuation allowance
201 8
201 7
(in thousands)
20 1 6
$
$
(346) $
121
2,255
—
—
2,030 $
— $
2,523
(647)
20,274
(54,049)
(31,899) $
Effective tax rates differ from federal statutory rate applied to income (loss) before income taxes due to the following:
Federal statutory rate
Federal statutory rate times financial statement income (loss)
Effect of:
Valuation allowance
Tax-exempt income
Non-taxable life insurance income
Restricted stock vesting
Change in federal statutory rate
Other, net
Total
201 8
201 7
(in thousands)
21%
$
2,273
—
(80)
(92)
(115)
—
44
2,030
$
35%
$
2,294
(54,049)
(196)
(144)
(121)
20,274
43
(31,899) $
$
$
76
21
2,771
(4,009)
—
1,238
21
20 1 6
35%
(956)
1,238
(211)
(146)
—
—
96
21
Table of Contents
Year-end deferred tax assets and liabilities were due to the following:
Deferred tax assets:
Net operating loss carry-forward
Allowance for loan losses
OREO write-down
Alternative minimum tax credit carry-forward
Net assets from acquisitions
Net unrealized loss on securities
New market tax credit carry-forward
Nonaccrual loan interest
Accrued expenses
Deferred compensation
Other
Deferred tax liabilities:
FHLB stock dividends
Fixed assets
Deferred loan costs
Other
Net deferred tax assets
201 8
201 7
(in thousands)
23,390 $
1,865
2,611
346
290
515
208
235
239
267
241
30,207
557
94
136
138
925
29,282 $
25,645
1,723
2,432
692
358
169
208
271
172
277
241
32,188
557
68
152
98
875
31,313
$
$
At December 31, 2018, the Company had net operating loss carryforwards (“NOLs”) of $111.4 million, which will begin to expire in 2031. As of December 31,
2018, a total of $346,000 in alternative minimum tax credit carry-forward was reclassified to other assets as it is currently refundable for the 2018 tax year.
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 years ended
December 31, 2018 or December 31, 2017 related to unrecognized tax benefits.
Under Section 382 of the Internal Revenue Code, as amended (“Section 382”), the Company’s net operating loss carryforwards and other deferred tax assets can
generally be used to offset future taxable income and therefore reduce federal income tax obligations. However, the Company's ability to use its NOLs would be
limited if there was an “ownership change” as defined by Section 382. This would occur if shareholders owning (or deemed to own under the tax rules) 5% or more
of the Company's voting and non-voting common shares increase their aggregate ownership of the Company by more than 50 percentage points over a defined
period of time.
In 2015, the Company took two measures to preserve the value of its NOLs. First, the Company adopted a tax benefits preservation plan designed to reduce the
likelihood of an “ownership change” occurring as a result of purchases and sales of the Company's common shares. Upon adoption of this plan, the Company
declared a dividend of one preferred stock purchase right for each common share outstanding as of the close of business on July 10, 2015. Any shareholder or group
that acquires beneficial ownership of 5% or more of the Company (an “acquiring person”) could be subject to significant dilution in its holdings if the Company's
Board of Directors does not approve such acquisition. Existing shareholders holding 5% or more of the Company will not be considered acquiring persons unless
they acquire additional shares, subject to certain exceptions described in the plan. In addition, the Board of Directors has the discretion to exempt certain
transactions and certain persons whose acquisition of securities is determined by the Board not to jeopardize the Company's deferred tax assets. The rights plan was
extended in May 2018 to expire upon the earlier of (i) June 30, 2021, (ii) the beginning of a taxable year with respect to which the Board of Directors determines
that no tax benefits may be carried forward, (iii) the repeal or amendment of Section 382 or any successor statute, if the Board of Directors determines that the plan
is no longer needed to preserve the tax benefits, and (iv) certain other events as described in the plan.
On September 23, 2015, the Company’s shareholders approved an amendment to its articles of incorporation to further help protect the long-term value of the
Company’s NOLs. The amendment provides a means to block transfers of our common shares that could result in an ownership change under Section 382. The
transfer restrictions were extended in May 2018 by shareholder vote and will expire on the earlier of (i) May 23, 2021, (ii) the beginning of a taxable year with
respect to which the Board of Directors determines that no tax benefit may be carried forward, (iii) the repeal of Section 382 or any successor statute if our Board
determines that the transfer restrictions are no longer needed to preserve the tax benefits of our NOLs, or (iv) such date as the Board otherwise determines that the
transfer restrictions are no longer necessary.
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Table of Contents
The Company and its subsidiaries are subject to U.S. federal income tax and the Company is subject to income tax in the Commonwealth of Kentucky. The
Company is no longer subject to examination by taxing authorities for years before 2015.
NOTE 1 2 – RELATED PARTY TRANSACTIONS
Loans to principal officers, directors, significant shareholders, and their affiliates in 2018 were as follows (in thousands):
Beginning balance
New loans
Repayments
Ending balance
$
$
9,400
7,104
(2,313)
14,191
Deposits from principal officers, directors, significant shareholders, and their affiliates at year-end 2018 and 2017 were $178,000 and $401,000, respectively.
Hogan Development Company assists the Bank in onboarding, managing, and selling the Bank’s OREO. Hogan Development Company is owned by W. Glenn
Hogan, a director. The agreement with Hogan Development Company is periodically reviewed and evaluated by the Audit Committee. The Bank paid real estate
management fees of $20,000 in both 2018 and 2017. The Bank paid no real estate sales and leasing commissions in 2018 and $6,000 to Hogan Development
Company in 2017.
On March 30, 2018, the Company completed a private placement of common stock. In the transaction, the Company issued 150,000 common shares and 1.0 million
non-voting common shares to Patriot Financial Partners III, L.P. at $13.00 per share resulting in net proceeds of $14.9 million of which $5.0 million was contributed
as capital to the Bank. The balance of proceeds was maintained by the Company for general corporate purposes and to support the growth of the Bank. W. Kirk
Wycoff, a director of the Company and Bank, serves as a general partner of Patriot Financial Partners III, L.P.
On June 26, 2018, the Company completed the purchase and retirement of all of its issued and outstanding Series E and Series F Non-Voting Perpetual Preferred
Shares for an aggregate price of $3.5 million paid in cash. The Series E and Series F Shares had an aggregate liquidation preference of $10.5 million. Participating
sellers in the transaction, among others, were directors W. Glenn Hogan, Michael T. Levy, Dr. Edmond J. Seifried, and Patriot Financial Partners, L.P. and Patriot
Financial Partners Parallel, L.P., each affiliates of director W. Kirk Wycoff. An independent third party financial advisory firm served as the financial advisor in this
transaction to a special committee of directors comprised of members having no interest in the repurchase transaction.
NOTE 1 3 – PREFERRED STOCK
At December 31, 2017, the Company had issued and outstanding 6,198 Series E preferred shares and 4,304 Series F preferred shares, both of which series were not
convertible into common shares, had a liquidation preference of $1,000 per share, and were entitled to a 2% noncumulative annual dividend if and when declared.
Series E and Series F preferred shares ranked senior to, and had liquidation and dividend preferences over, the common shares and non-voting common shares.
On June 26, 2018, the Company completed the purchase and retirement of all of its issued and outstanding Series E and Series F preferred shares for an aggregate
price of $3.5 million paid in cash. The Series E and F shares had an aggregate liquidation preference of $10.5 million.
NOTE 1 4 – REGULATORY CAPITAL MATTERS
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
result in regulatory action.
The final rules implementing Basel Committee on Banking Supervision’s capital guidelines for U.S. Banks (Basel III rules) became effective for the Company and
Bank on January 1, 2015 with full compliance with all of the requirements being phased in over a multi-year schedule through January 1, 2019. The final
rules allowed 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 opted out of this requirement. The rules also
establish a “capital conservation buffer” of 2.5% above the regulatory minimum risk-based capital ratios. Once the capital conservation buffer is fully phased in, the
minimum ratios 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%. The capital conservation buffer for 2018 is 1.875% and 1.25% for 2017. An institution is 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.
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Table of Contents
Management believes as of December 31, 2018, the Company and Bank meet all capital adequacy requirements to which they are subject. At year end 2018 and
2017, the most recent regulatory notifications categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. There are no
conditions or events since the notification that management believes have changed the institution’s category.
The following tables show the ratios (excluding capital conservation buffer) and amounts of common equity Tier 1, Tier 1 capital, and total capital to risk-adjusted
assets and the leverage ratios for the Bank at the dates indicated (dollars in thousands):
As of December 31, 201 8 :
Total risk-based capital (to risk-weighted
assets)
Total common equity Tier 1 risk-based
capital (to risk-weighted assets)
Tier 1 capital (to risk-weighted assets)
Tier 1 capital (to average assets)
Actual
Minimum Requirement
for Capital Adequacy
Purposes
Minimum Requirement
to be Well Capitalized
Under Prompt
Corrective Action
Provisions
Amount
Ratio
Amount
Ratio
Amount
Ratio
$
109,309
12.88% $
67,920
8.00% $
84,900
10.00%
100,429
100,429
100,429
11.83
11.83
9.60
38,205
50,940
41,837
4.50
6.00
4.00
55,185
67,920
52,297
6.50
8.00
5.00
Actual
Minimum Requirement
for Capital Adequacy
Purposes
Minimum Requirement
to be Well Capitalized
Under Prompt
Corrective Action
Provisions
Amount
Ratio
Amount
Ratio
Amount
Ratio
As of December 31, 2017:
Total risk-based capital (to risk-weighted
assets)
Total common equity Tier 1 risk-based
capital (to risk-weighted assets)
Tier 1 capital (to risk-weighted assets)
Tier 1 capital (to average assets)
$
91,305
11.61% $
62,938
8.00% $
78,672
10.00%
81,393
81,393
81,393
10.35
10.35
8.70
35,403
47,203
37,421
4.50
6.00
4.00
51,137
62,938
46,777
6.50
8.00
5.00
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. In addition, a bank must have positive retained earnings.
NOTE 1 5 – OFF BALANCE SHEET RISKS, COMMITMENTS, AND CONTINGENT LIABILITIES
The Company, in the normal course of business, is party to financial instruments with off balance sheet risk. The financial instruments include commitments to
extend credit and standby letters of credit. The contract or notional amounts of these instruments reflect the potential future obligations of the Company pursuant to
those financial instruments. Creditworthiness for all instruments is evaluated on a case-by-case basis in accordance with the Company’s credit policies. Collateral
from the client may be required based on the Company’s credit evaluation of the client and may include business assets of commercial clients, as well as personal
property and real estate of individual clients or guarantors.
An approved but unfunded loan commitment represents a potential credit risk and a liquidity risk, since the Company’s client(s) may demand immediate cash that
would require funding. In addition, unfunded loan commitments represent interest rate risk as market interest rates may rise above the rate committed to the
Company’s client. Since a portion of these loan commitments normally expire unused, the total amount of outstanding commitments at any point in time may not
require future funding. Commitments to make loans are generally made for periods of one year or less.
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Table of Contents
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a client to a third party. The terms and risk of loss
involved in issuing standby letters of credit are similar to those involved in issuing loan commitments and extending credit. In addition to credit risk, the Company
also has liquidity risk associated with standby letters of credit because funding for these obligations could be required immediately. The Company does not deem
this risk to be material. No liability is currently established for standby letters of credit.
The following table presents the contractual amounts of financial instruments with off-balance sheet risk for each year ended:
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.
201 8
201 7
Fixed
Rate
Variable
Rate
Fixed
Rate
Variable
Rate
$
5,317 $
7,410
541
(in thousands)
11,236 $
73,024
1,752
27,349 $
11,034
2,216
31,412
57,727
373
In connection with the purchase of loan participations, the Bank entered into risk participation agreements, which had notional amounts totaling $26.6 million at
December 31, 2018 and $19.8 million at December 31, 2017. The risk participation agreements are not designated against specific assets or liabilities under ASC
815, Derivatives and Hedging, and, therefore, do not qualify for hedge accounting. The Company does not use derivatives for trading or speculative purposes but
rather as a result of services provided to certain borrowers. The derivatives are recorded in other liabilities on the balance sheet at fair value and changes in fair
value of both the borrower and the offsetting swap agreements are recorded (and essentially offset) in non-interest income.
In the normal course of business, the Company and its subsidiaries have been named, from time to time, as defendants in various legal actions. Certain of the actual
or threatened legal actions may include claims for substantial compensatory and/or punitive damages or claims for indeterminate amounts of damages.
The Company contests liability and/or the amount of damages as appropriate in each pending matter. In view of the inherent difficulty of predicting the outcome of
such matters, particularly in cases where claimants seek substantial or indeterminate damages or where investigations and proceedings are in the early stages, the
Company cannot predict with certainty the loss or range of loss, if any, related to such matters, how or if such matters will be resolved, when they will ultimately be
resolved, or what the eventual settlement, or other relief, if any, might be. Subject to the foregoing, the Company believes, based on current knowledge and after
consultation with counsel, that the outcome of such pending matters will not have a material adverse effect on the consolidated financial condition of the Company,
although the outcome of such matters could be material to the Company’s operating results and cash flows for a particular future period, depending on, among other
things, the level of the Company’s revenues or income for such period. The Company will accrue for a loss contingency if (1) it is probable that a future event will
occur and confirm the loss and (2) the amount of the loss can be reasonably estimated. The Company is not currently involved in any material litigation.
NOTE 1 6 – FAIR VALUES
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. Various valuation techniques are used 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.
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.
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In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. When that occurs, the fair value hierarchy is classified
on the lowest level of input that is significant to the fair value measurement. The following methods and significant assumptions are used 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.
Management routinely apply internal discounts 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
to have a thin trading market or to be specialized collateral. This is in addition to estimated discounts for cost to sell of six to ten percent.
Management 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. Discounts ranging
from 10% to 33% have been utilized in our impairment evaluations when applicable.
Impaired loans are evaluated quarterly for additional impairment. Management obtains 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 the assessment of deterioration of real estate values in the market
in which the property is located.
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 estimated cost to sell. Quarterly evaluations of OREO for impairment are driven by property type. For smaller dollar single family
homes, management consults with staff from the Bank’s special assets group as well as external realtors and appraisers. Based on these consultations,
management determines asking prices for OREO properties being marketed for sale. If the internally evaluated fair value or asking price is below the
recorded investment in the property, appropriate write-downs are taken.
For larger dollar commercial real estate properties, management obtains a new appraisal of the subject property or has staff in the special assets group
evaluate the latest in-file appraisal in connection with the transfer to OREO. Management generally obtains updated appraisals within five quarters of the
anniversary date of ownership unless a sale is imminent. When an asking price is lowered below the most recent appraised value, appropriate write-downs
are taken.
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Financial assets measured at fair value on a recurring basis are summarized below:
Description
Available for sale securities
U.S. Government and federal agency
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Corporate bonds
Total
Description
Available for sale securities
U.S. Government and federal agency
Agency mortgage-backed: residential
Collateralized loan obligations
State and municipal
Corporate bonds
Total
$
$
$
$
There were no transfers between Level 1 and Level 2 during 2018 or 2017.
Fair Value Measurements at December 31, 201 8 Using
(in thousands)
Significant
Other
Observable
Inputs
(Level 2)
Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
Significant
Unobservable
Inputs
(Level 3)
Carrying
Value
22,560 $
85,990
49,839
32,812
9,991
201,192 $
— $
—
—
—
—
— $
22,560 $
85,990
49,839
32,812
9,991
201,192 $
Fair Value Measurements at December 31, 201 7 Using
(in thousands)
Significant
Other
Observable
Inputs
(Level 2)
Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
Significant
Unobservable
Inputs
(Level 3)
Carrying
Value
21,624 $
64,965
25,505
33,710
6,916
152,720 $
82
— $
—
—
—
—
— $
21,624 $
64,965
25,505
33,710
6,916
152,720 $
—
—
—
—
—
—
—
—
—
—
—
—
Table of Contents
Financial assets measured at fair value on a non-recurring basis are summarized below:
Description
Impaired lo ans :
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Other real estate owned, net :
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Description
Impaired loans:
Commercial
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Consumer
Agriculture
Other
Other real estate owned, net :
Commercial real estate:
Construction
Farmland
Nonfarm nonresidential
Residential real estate:
Multi-family
1-4 Family
Fair Value Measurements at December 31, 201 8 Using
(in thousands)
Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Carrying
Value
$
— $
— $
— $
—
—
124
—
552
—
—
—
3,485
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
124
—
552
—
—
—
3,485
—
—
—
—
Fair Value Measurements at December 31, 201 7 Using
(in thousands)
Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Carrying
Value
$
87 $
—
—
—
—
957
—
—
—
4,335
74
—
—
—
— $
— $
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
87
—
—
—
—
957
—
—
—
4,335
74
—
—
—
Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $879,000, with a
valuation allowance of $203,000, at December 31, 2018, resulting in no additional provision for loan losses for the year ended December 31, 2018. At December 31,
2017, impaired loans had a carrying amount of $1.3 million, with a valuation allowance of $219,000, at December 31, 2017, resulting in no additional provision for
loan losses for the year ended December 31, 2017.
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Table of Contents
OREO, which is measured at the lower of carrying or fair value less costs to sell, had a net carrying amount of $3.5 million as of December 31, 2018, compared with
$4.4 million at December 31, 2017. Write-downs of $850,000 and $2.0 million were recorded on OREO for the years ended December 31, 2018 and 2017,
respectively.
The following table presents qualitative information about level 3 fair value measurements for financial assets measured at fair value on a non-recurring basis at
December 31, 2018:
Fair Value
(in thousands)
Valuation
Technique(s)
Unobservable Input(s)
Range
(Weighted
Average)
Impaired loans – Residential real estate $
552 Sales comparison approach
Adjustment for differences between the
0% - 26%
comparable sales
Other real estate owned – Commercial
real estate
$
3,485 Sales comparison approach
Adjustment for differences between the
0% - 35%
comparable sales
(11%)
(18%)
Income approach
Discount or capitalization rate
25% (25%)
The following table presents qualitative information about level 3 fair value measurements for financial assets measured at fair value on a non-recurring basis at
December 31, 2017:
Fair Value
(in thousands)
Valuation
Technique(s)
Unobservable Input(s)
Range
(Weighted
Average)
Impaired loans – Residential real estate $
957 Sales comparison approach
Adjustment for differences between the
0% - 26%
comparable sales
Other real estate owned – Commercial
real estate
$
4,409 Sales comparison approach
Adjustment for differences between the
0% - 35%
comparable sales
(9%)
(18%)
Income approach
Discount or capitalization rate
25% (25%)
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Carrying amount and estimated fair values of financial instruments were as follows at year-end 2018:
Financial assets
Cash and cash equivalents
Securities available for sale
Federal Home Loan Bank stock
Loans, net
Accrued interest receivable
Financial liabilities
Deposits
Federal Home Loan Bank advances
Junior subordinated debentures
Senior debt
Accrued interest payable
Carrying
Amount
Fair Value Measurements at December 31, 201 8 Using
Level 1
Level 2
(in thousands)
Level 3
Total
$
$
35,361 $
201,192
7,233
756,364
3,665
894,231 $
46,549
21,000
10,000
658
35,361 $
—
N/A
—
—
142,618 $
—
—
—
—
— $
201,192
N/A
—
1,222
750,015 $
46,519
—
—
598
— $
—
N/A
744,076
2,443
— $
—
16,226
9,585
60
35,361
201,192
N/A
744,076
3,665
892,633
46,519
16,226
9,585
658
Carrying amount and estimated fair values of financial instruments were as follows at year-end 2017:
Financial assets
Cash and cash equivalents
Securities available for sale
Federal Home Loan Bank stock
Loans held for sale
Loans, net
Accrued interest receivable
Financial liabilities
Deposits
Federal Home Loan Bank advances
Subordinated capital notes
Junior subordinated debentures
Senior debt
Accrued interest payable
Carrying
Amount
Fair Value Measurements at December 31, 2017 Using
Level 1
Level 2
(in thousands)
Level 3
Total
$
$
34,103 $
152,720
7,323
70
703,913
3,136
847,024 $
11,797
2,250
21,000
10,000
1,475
34,103 $
—
N/A
—
—
—
137,386 $
—
—
—
—
—
— $
152,720
N/A
70
—
925
693,320 $
11,799
—
—
—
357
— $
—
N/A
—
703,263
2,211
— $
—
2,246
19,090
10,000
1,118
34,103
152,720
N/A
70
703,263
3,136
830,706
11,799
2,246
19,090
10,000
1,475
The methods utilized to estimate the fair value of financial instruments at December 31, 2017 did not necessarily represent an exit price. In accordance with the
Company’s adoption of ASU 2016-01 as of January 1, 2018, the methods utilized to measure the fair value of financial instruments at December 31, 2018 represent
an approximation of exit price; however, an actual exit price may differ.
N OTE 1 7 – STOCK PLANS AND STOCK BASED COMPENSATION
Shares available for issuance under the 2018 Omnibus Equity Compensation Plan (“2018 Plan”) total 322,144. Shares issued to employees under the plan vest
annually on the anniversary date of the grant over three years. Shares issued annually to each non-employee directors have a fair market value of $25,000 and vest
on December 31 in the year of grant.
The fair value of the 2018 unvested shares issued was $737,000, or $13.94 per weighted-average share. The Company recorded $524,000, $400,000, and $443,000
of stock-based compensation during 2018, 2017, and 2016, respectively, to salaries and employee benefits. Management expects substantially all of the unvested
shares outstanding at the end of the period to vest according to the vesting schedule. A deferred tax benefit of $110,000 was recognized in 2018 related to this
expense, compared to a deferred tax benefit of $140,000 in 2017 and no deferred tax benefit in 2016.
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Table of Contents
The following table summarizes unvested share activity as of and for the periods indicated for the Stock Incentive Plan:
Twelve Months Ended
December 31 , 201 8
Twelve Months Ended
December 31, 201 7
Weighted
Average
Grant
Price
Shares
Weighted
Average
Grant
Price
Shares
Outstanding, beginning
Granted
Vested
Forfeited
Outstanding, ending
142,334 $
52,856
(78,281)
—
116,909 $
5.67
13.94
6.75
—
8.69
179,513 $
37,865
(73,728)
(1,316)
142,334 $
Unrecognized stock based compensation expense related to unvested shares for 2019 and beyond is estimated as follows (in thousands):
2019
2020
2021
2022 & thereafter
N OTE 1 8 – EARNINGS (LOSS) PER SHARE
The factors used in the basic and diluted earnings per share computation follow:
$
4.89
9.64
5.75
9.35
5.67
287
213
94
—
201 8
201 7
(in thousands, except share and per share data)
201 6
Net income (loss)
Less:
Earnings (losses) allocated to unvested shares
Net income (loss) attributable to common shareholders, basic and diluted
Basic
Weighted average common shares including unvested common shares and
participating preferred shares outstanding
Less:
Weighted average unvested common shares
Weighted average common shares outstanding
Basic income (loss) per common share
Diluted
Add: Dilutive effects of assumed exercises of common stock warrants
Weighted average common shares and potential common shares
Diluted income (loss) per common share
$
$
$
$
8,794 $
38,453 $
144
8,650 $
967
37,486 $
(2,753)
(88)
(2,665)
7,159,723
6,249,059
5,980,945
117,030
7,042,693
1.23 $
—
7,042,693
1.23 $
157,127
6,091,932
6.15 $
—
6,091,932
6.15 $
192,232
5,788,713
(0.46)
—
5,788,713
(0.46)
The Company had no outstanding stock options at December 31, 2018, 2017 or 2016. A warrant for the purchase of 66,113 shares of the Company’s common stock
at an exercise price of $79.41 was outstanding at December 31, 2017 and 2016, but was not included in the diluted EPS computation as inclusion would have been
anti-dilutive. The warrant expired on November 21, 2018.
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NOTE 19 – REVENUE FROM CONTRACTS WITH CUSTOMERS
The Company adopted ASC 606 using the full retrospective method. The adoption of ASC 606 for in-scope revenue streams did not result in a cumulative effect
adjustment. Bank card interchange income and expenses were previously reported net in non-interest income. The income statement impact of adopting ASC 606
resulted in a reclassification adjustment of $549,000 and $454,000 related to the year ended December 31, 2017 and 2016, respectively, between bank card
interchange income and deposit account related expense in order to report debit card interchange income gross and provide a comparable disclosure for all periods.
This reclassification adjustment had no impact on previously reported net income for the year ended December 31, 2017 or 2016.
All of the Company’s revenue from customers in the scope of ASC 606 is recognized within non-interest income. A description of the Company’s revenue streams
accounted for under ASC 606 follows:
Service Charges on Deposit Accounts: The Company earns fees from its deposit customers for transaction-based, account maintenance, and overdraft services.
Transaction-based fees, which include services such as ATM use fees, stop payment charges, statement rendering, and ACH fees, are recognized at the time the
transaction is executed as that is the point in time the Company fulfills the customer’s request. Account maintenance fees, which relate primarily to monthly
maintenance, are earned over the course of a month, representing the period over which the Company satisfies the performance obligation. Overdraft fees are
recognized at the point in time that the overdraft occurs. Service charges are withdrawn from the customer’s account balance.
Bank Card Interchange Income: The Company earns interchange fees from bank cardholder transactions conducted through a third party payment network.
Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction
processing services provided to the cardholder. Prior to adopting ASC 606, the Company reported bank card interchange fees net of expenses. Under ASC 606, bank
card interchange fees are reported gross.
Gains/Losses on Sales of OREO: The Company records a gain or loss from the sale of OREO when control of the property transfers to the buyer, which generally
occurs at the time of an executed deed. When the Company finances the sale of OREO to the buyer, the Company assess whether the buyer is committed to perform
their obligations under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the OREO asset is derecognized and
the gain or loss on sale is recorded upon transfer of control of the property to the buyer. In determining the gain or loss on the sale, the Company adjusts the
transaction price and related gain (loss) on sale if a significant financing component is present. Gains and losses on sales of OREO are netted with OREO expense
and reported in non-interest expense.
Other Non-interest Income : Other non-interest income includes revenue from several sources that are within the scope of ASC 606, including title insurance
commissions, income from secondary market loan sales, gains on sales of premises and equipment, and other transaction-based revenue that is individually
immaterial. Other non-interest income included approximately $660,000, $666,000, and $678,000 of revenue for the years ended December 31, 2018, 2017, and
2016, respectively, within the scope of ASC 606. The remaining other non-interest income for the year is excluded from the scope of ASC 606.
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Table of Contents
NOTE 20 – PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
Condensed financial information of Limestone Bancorp Inc. is presented as follows:
CONDENSED BALANCE SHEETS
ASSETS
Cash and cash equivalents (1)
Investment in banking subsidiary
Investment in and advances to other subsidiaries
Deferred taxes, net
Other assets
Total assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Debt
Accrued expenses and other liabilities
Shareholders’ equity
Total liabilities and shareholders’ equity
December 31,
201 8
201 7
(in thousands)
5,369 $
114,042
776
3,142
682
124,011 $
31,775 $
139
92,097
124,011 $
2,045
99,651
776
2,497
711
105,680
31,775
1,232
72,673
105,680
$
$
$
$
(1)
$417,000 is held in escrow by the senior note lender to be used exclusively for interest payments on senior debt.
CONDENSED STATEMENTS OF OPERATIONS
Interest income
Dividends from subsidiaries
Other income
Interest expense
Other expense
Loss before income tax and undistributed subsidiary income
Income tax expense (benefit)
Equity in undistributed subsidiary income (loss)
Net income ( loss )
201 8
Years ended December 31,
201 7
(in thousands)
201 6
45 $
35
38
(1,370)
(1,290)
(2,542)
(645)
10,691
8,794 $
4 $
26
—
(973)
(1,137)
(2,080)
(2,497)
38,036
38,453 $
5
23
17
(694)
(1,240)
(1,889)
21
(843)
(2,753)
$
$
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Table of Contents
CONDENSED STATEMENTS OF CASH FLOWS
Cash flows from operating activities
Net income (loss)
Adjustments:
Equity in undistributed subsidiary (income) loss
Deferred taxes, net
Change in other assets
Change in other liabilities
Other
Net cash (used in) operating activities
Cash flows from investing activities
Investments in subsidiaries
Net cash (used in) from investing activities
Cash flows from financing activities
Proceeds from issuance of common stock
Redemption of preferred stock
Proceeds from senior debt
Net cash provided by (used in) from financing activities
Net change in cash and cash equivalents
Beginning cash and cash equivalents
Ending cash and cash equivalents
$
NOTE 2 1 – QUARTERLY FINANCIAL DATA (UNAUDITED)
201 8
Years ended December 31,
201 7
(in thousands)
20 1 6
$
8,794 $
38,453 $
(2,753)
(10,691)
(645)
29
(1,093)
525
(3,081)
(5,000)
(5,000)
14,910
(3,505)
—
11,405
3,324
2,045
5,369 $
(38,036)
(2,497)
743
(128)
462
(1,003)
(9,000)
(9,000)
—
—
10,000
10,000
(3)
2,048
2,045 $
843
—
(95)
358
978
(669)
(500)
(500)
2,231
—
—
2,231
1,062
986
2,048
Interest
Income
Net Interest
Income
Negative
Provision
For
Loan Losses
Net
Income
(Loss)
(in thousands, except per share data)
OREO
Expense
Earnings (Loss)
Per Common Share
Basic (1)
Diluted (1)
201 8
First quarter
Second quarter
Third quarter
Fourth quarter
201 7
First quarter
Second quarter
Third quarter
Fourth quarter
$
$
10,015 $
10,585
11,120 $
11,741
9,225 $
9,134
9,446
9,717
8,181 $
8,374
8,412 $
8,704
7,741 $
7,588
7,787
8,001
— $
(150)
(350) $
—
— $
—
—
(800)
82 $
237
271 $
278
(16) $
(3)
111
1,881
$
$
$
1,934
1,983
2,437
2,440
1,680
1,709
1,794
33,270(2)
0.31 $
0.27
0.33 $
0.33
0.27 $
0.27
0.29
5.31
0.31
0.27
0.33
0.33
0.27
0.27
0.29
5.31
(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) Net income for the fourth quarter of 2017 was impacted by the reversal of the Company’s deferred tax asset valuation allowance and the change in federal
corporate tax rates in connection with the enactment of the Tax Cuts and Jobs Act of 2017. The net result of these two items, as well as tax expense for the
year, was an income tax benefit of $31.9 million.
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Table of Contents
Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
None
Item 9A.
Controls and Procedures
Disclosure 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. Our management, under the supervision and with the participation of our Chief Executive Officer and our Chief Financial Officer,
evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of December 31, 2018. Based on that evaluation, management
believes that our disclosure controls and procedures were effective to collect, process, and disclose the information required to be disclosed in the reports filed or
submitted under the Securities Exchange Act of 1934 within the required time periods as of the end of the period covered by this report.
There was no change in the internal control over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonably likely to
materially affect, the Company’s internal control over financial reporting.
Internal Control over Financial Reporting
Management’s Report on Internal Controls Over Financial Reporting and the Report of Independent Registered Public Accounting Firm included in Item 8 of this
report are incorporated herein by reference.
Item 9B.
Other Information
None
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Item 10.
Directors , Executive Officers and Corporate Governance .
PART III
The Company has adopted a code of ethics applicable to the Chief Executive Officer and the senior financial officers, which is posted on the Bank’s website at
http://www.limestonebank.com under the Investors Relations section of the About Us tab. If the Company amends or waives any of the provisions of the Code of
Ethics applicable to its Chief Executive Officer or senior financial officers, management intends to disclose the amendment or waiver on our website. The Company
will provide to any person without charge, upon request, a copy of this Code of Ethics. You can request a copy by contacting Limestone 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,
2019, which includes the required information. The required information contained in our proxy statement under the headings “Proposal 1: Election of Directors,”
“Corporate Governance,” and “Certain Relationships and Related Transactions – Section 16(a) Beneficial Ownership Reporting Compliance” is incorporated herein
by reference.
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, 2019,
which includes the required information. The required information contained in our proxy statement under the headings “Corporate Governance,” “Compensation
Discussion and Analysis,” “Executive Compensation,” and “Compensation Committee Report” is incorporated herein by reference.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Certain 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, 2019,
which includes the required information. The required information contained in our proxy statement under the heading “Stock Ownership of Directors, Officers, and
Principal Shareholders” is incorporated herein by reference.
Certain information required by this Item 12 appears under the heading “Equity Compensation Plan Information” in Item 5 of this report and 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, 2019,
which includes the required information. The required information contained in our proxy statement under the headings “Corporate Governance” and “Certain
Relationships and Related Transactions” 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, 2019,
which includes the required information. The required information contained in our proxy statement under the heading “Principal Accountant Fees and Services” is
incorporated herein by reference.
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Item 15.
Exhibits and Financial Statement Schedules
(a) 1. The following financial statements are included in this Form 10-K:
PART IV
Consolidated Balance Sheets as of December 31, 2018 and 2017
Consolidated Statements of Operations for the Years Ended December 31, 2018, 2017, and 2016
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2018, 2017, and 2016
Consolidated Statements of Change in Stockholders’ Equity for the Years Ended December 31, 2018, 2017, and 2016
Consolidated Statements of Cash Flows for the Years Ended December 31, 2018, 2017, and 2016
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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Table of Contents
Exhibit No. (1) Description
EXHIBIT INDEX
3.1
3.3
4.1
4.2
4.3
10.1
10.2
10.3
10.4+
10.5+
10.6+
10.7+
10.8+
Articles of Incorporation of the Company, restated to reflect amendments. Exhibit 3.1 to Form 10-Q filed August 2, 2018 is incorporated by
reference.
Amended and Restated Bylaws of Limestone Bancorp, Inc. dated June 18, 2018. Exhibit 3.2 to Form 8-K filed June 6, 2018 is hereby
incorporated by reference.
Tax Benefits Preservation Plan, dated as of June 25, 2015, between the Company and American Stock Transfer Company, as Rights Agent.
Exhibit 3.1 to Form 8-K filed June 29, 2015 is incorporated by reference.
Amendment No. 1 to the Tax Benefits Preservation Plan, dated August 4, 2015. Exhibit 4.2 to the Quarterly Report on Form 10-Q filed August 5,
2015 is incorporated by reference.
Amendment No. 2 to the Tax Benefits Preservation Plan dated May 23, 2018. Exhibit 4 to the Form 8-K filed May 23, 2018 is incorporated by
reference.
Loan Agreement between Limestone Bancorp, Inc. and First Merchants Bank dated June 30, 2017. Exhibit 1.1 to Form 8-K filed July 5, 2017 is
incorporated by reference.
Promissory Note between Limestone Bancorp, Inc. and First Merchants Bank dated June 30, 2017. Exhibit 1.2 to Form 8-K filed July 5, 2017 is
incorporated by reference.
Pledge Agreement between Limestone Bancorp, Inc. and First Merchants Bank dated June 30, 2017. Exhibit 1.3 to Form 8-K filed July 5, 2017 is
incorporated by reference.
Limestone Bancorp, Inc. 2016 Omnibus Equity Compensation Plan. Appendix A to Schedule 14A proxy statement (DEF 14A) filed April 25,
2016 is incorporated by reference.
Form of Limestone Bancorp, Inc. Restricted Stock Award Agreement. Exhibit 10.3 to 8-K filed June 22, 2016 is incorporated by reference.
Limestone 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.
Limestone Bancorp, Inc. 2017 Incentive Compensation Bonus Plan. Exhibit 10.1 to Form 10-Q filed May 4, 2017 is incorporated by reference.
Form of Ascencia Bank (now Limestone 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.
10.9+
Form of Amendment to Supplemental Executive Retirement Plan. Exhibit 10.7 to Form 10-K filed March 26, 2009 is incorporated by reference.
10.10+
Limestone Bancorp, Inc. 2018 Omnibus Equity Compensation Plan, Appendix B to Schedule 14A Proxy Statement (DEF 14A) filed April 13,
2018 is incorporated by reference.
10.11+
Form of Restricted Stock Award Agreement
10.12+
Employment Agreement with John T. Taylor. Exhibit 10.1 to Form 8-K filed September 27, 2016 is incorporated by reference.
10.13+
Employment Agreement with John R. Davis. Exhibit 10.2 to Form 8-K filed September 27, 2016 is incorporated by reference.
10.14+
Employment Agreement with Joseph C. Seiler. Exhibit 10.3 to Form 8-K filed September 27, 2016 is incorporated by reference.
10.15+
Employment Agreement with Phillip W. Barnhouse. Exhibit 10.4 to Form 8-K filed September 27, 2016 is incorporated by reference.
93
Table of Contents
Exhibit No. (1) Description
10.16
Securities Purchase Agreement, dated March 30, 2018, between Limestone Bancorp, Inc. and Patriot Financial Partners III, L.P., incorporated by
reference to exhibit 10.1 of the Current Report on Form 8-K dated March 30, 2018.
10.17
Registration Rights Agreement, dated March 30, 2018, between Limestone Bancorp, Inc. and Patriot Financial Partners III, L.P., incorporated by
reference to Exhibit 10.2 of the Current Report on Form 8-K dated March 30, 2018.
10.18
Offer to Purchase Issued and Outstanding Series E Preferred Shares and Series F Preferred Shares dated June 25, 2018. Exhibit 10.1 to Form 8-K
21.1
23.1
31.1
31.2
32.1
32.2
101
filed June 27, 2018 is incorporated by reference
List of Subsidiaries of Limestone Bancorp, Inc.
Consent of Crowe 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.
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.
The following financial statements from the Company’s Annual Report on Form 10-K for the year ended December 31, 2018, 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.
+
(1)
Management contract or compensatory plan or arrangement.
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.
Item 16. Form 10-K Summary
None
94
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
March 8, 2019
LIMESTONE 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
Chief Executive Officer
Chief Financial Officer
/s/ W. Glenn Hogan
W. Glenn Hogan
/s/ Michael T. Levy
Michael T. Levy
/s/ Bradford T. Ray
Bradford T. Ray
/s/ W. Kirk Wycoff
W. Kirk Wycoff
/s/ James M. Parsons
James M. Parsons
/s/ Dr. Edmond J. Seifried
Dr. Edmond J. Seifried
/s/ Celia P. Catlett
Celia P. Catlett
Director
Director
Director
Director
Director
Director
Director
95
March 8, 2019
March 8, 2019
March 8, 2019
March 8, 2019
March 8, 2019
March 8, 2019
March 8, 2019
March 8, 2019
March 8, 2019
Exhibit 10.11
LIMESTONE BANCORP, INC.
2018 OMNIBUS EQUITY COMPENSATION PLAN
RESTRICTED STOCK AWARD AGREEMENT
Limestone Bancorp, Inc. (“Limestone” “”) grants as of [ ] (the “Grant Date”) to [ ] (the “Employee” or “you”) the number of common
shares of Limestone set forth below under the Limestone Bancorp, Inc. 2018 Omnibus Equity Compensation Plan (the “Plan”). A copy of the Plan is attached,
and any capitalized terms used but not defined in this Agreement shall have the meaning given them in the Plan.
GRANT OF AWARD . Subject to the terms and conditions of this Agreement and the Plan, Limestone hereby grants to you a Restricted Stock Award in the amount
of [ ] shares (the “Restricted Shares”). Your Restricted Shares will be issued to you after you sign this Agreement, but are subject to forfeiture if you
terminate employment with Limestone or Limestone Bank (the “Bank”).
RESTRICTION PERIOD . The Restricted Shares vest at the rate of 1/3 rd each one-year anniversary of the Grant Date stated above, provided you are still employed
by the Bank, Limestone's subsidiary, at the vesting date. However, your Restricted Shares will become 100% vested if there is a Change in Control of
Limestone, as defined in the Plan, or in the event of your death or Disability, as defined in the Plan.
TAXATION OF AWARD . Your Restricted Shares will be taxable when they vest, at the value on the vesting date. See the attachment to this Agreement explaining
your option to include the value of the Restricted Shares in income within 30 days of the Grant Date. You may only choose this option if you make arrangements
satisfactory to Limestone to pay the required withholding taxes due now if the election is made. Check below if you wish to make this election:
___ I elect to make an 83(b) tax election to include the value of the Restricted Shares granted to me in income now.
TRANSFER RESTRICTIONS . Until such time as the Restricted Shares become vested in accordance with the schedule set forth above, the Restricted Shares shall not
be transferred, pledged or disposed of except by will or the laws of descent and distribution, and are subject to forfeiture in accordance with this Agreement and
the Plan.
ACKNOWLEDGMENTS . By signing below, you acknowledge that you have received a copy of the Plan, and you hereby accept the Restricted Shares subject to all
the terms and provisions of the Plan. Nothing contained in the Plan or this Agreement shall give you any rights to continued employment by the Bank or
interfere in any way with the right of Limestone or the Bank to terminate your employment or change your compensation at any time.
You also further agree by signing below that, should you leave employment of the Company, you will not for a period of one-year from the date of your
departure, without the prior written consent of the Company, (i) solicit for employment any of the employees of the Bank; or (ii) solicit any customer or
borrower of the Bank.
Employee
Date:
LIMESTONE BANCORP, INC.
By:
Date:
Important Information About Section 83(b) Election
to Include Value of Restricted Stock Grant in Income at Grant Date:
As a recipient of a restricted stock grant under the Limestone Bancorp, Inc. 2018 Omnibus Equity Compensation Plan, you may make an election
(called an “83(b) election”) to recognize compensation income when the stock is granted, even though the stock is then subject to a risk of forfeiture (vesting).
Making an 83(b) election causes current taxation of the fair market value of the stock granted, and withholding taxes are immediately due. If you make an 83(b)
election, you must make arrangements satisfactory to Limestone to pay those withholding taxes now.
By making an 83(b) election, any later appreciation in the stock will be taxed as capital gain income, and your holding period for capital gain purposes
will begin on the date of taxation. An 83(b) election must be made, if at all, within 30 days after the transfer of the stock to you .
The downside of making an 83(b) election is that the election is generally irrevocable. Also, if you forfeit the stock, you may not receive any deduction
for the amount previously included in income.
To the extent an 83(b) election is not made, Limestone will be treated as the owner of the stock that continues to be subject to restriction for tax
purposes, so any dividends will be treated as compensation paid to you by Limestone, and will therefore be subject to withholding and FICA and Medicare taxes.
-2-
ELECTION TO INCLUDE VALUE
OF RESTRICTED STOCK AWARD IN GROSS INCOME
PURSUANT TO SECTION 83(b) OF THE INTERNAL REVENUE CODE
__________________________ [insert date]
The undersigned hereby elects, under IRC Section 83(b) to include in gross income, as compensation for services, the excess of the fair market value at
the time of transfer of the property described below over the amount paid for such property.
The following information is supplied in accordance with Treasury Regulation §1.83-2(e):
1. The name, address and social security number of the undersigned:
Name: __________________________
Address: ________________________________________________
________________________________________________________
_________________________________________________________
SSN: __________________________________
2. The property with respect to which the election is being made is common stock of Limestone Bancorp, Inc.
3. The property was transferred on _____________________________ [insert date]. The taxable year for which election is made is calendar year
20____.
4. The nature of the restrictions or risks of forfeiture to which the property is subject is that if the undersigned ceases to be employed by Limestone
Bancorp or its subsidiary, the unvested portion of the undersigned's restricted stock will be forfeited. The undersigned vests in the property at the rate of 1/3 on
each anniversary of the grant date or upon a change in control as defined in the Restricted Stock Grant Plan.
5. The fair market value of property at the time of transfer (determined without regard to any lapse restriction) was $_____________.
6. The taxpayer received the property solely for the performance of services.
7. Copies of this statement have been have been furnished, as required by Reg 1.83-2(d), to Limestone Bancorp, Inc. and its subsidiary for which the
services were performed.
___________________________________
Instructions for Filing : File this statement within 30 days from the Grant Date with IRS at the address you will use to file your 1040 for the tax year involved
as stated in item 3 above, AND file it with your tax return for that year
-3-
SUBSIDIARIES OF LIMESTONE BANCORP, INC.
Exhibit 21.1
Direct Subsidiary
Limestone Bank, Inc.
Statutory Trust I
Statutory Trust II
Statutory Trust III
Statutory Trust IV
PBIB Corporation, Inc.
Jurisdiction of Organization
Does Business As
Kentucky
Connecticut
Connecticut
Connecticut
Connecticut
Kentucky
Limestone Bank, Inc.
Statutory Trust I
Statutory Trust II
Statutory Trust III
Statutory Trust IV
PBIB Corporation, Inc.
Indirect Subsidiary
PBI Title Services, LLC
Jurisdiction of Organization
Kentucky
Does Business As
Parent Entity
PBI Title Services, LLC
Limestone Bank, Inc.
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Exhibit 23.1
We consent to the incorporation by reference in Registration Statement Nos. 333-188988; 333-189005; 333-202746; 333-202749; and 333-225384 on Form S-8
of Limestone Bancorp, Inc. of our report dated March 8, 2019 with respect to the consolidated financial statements and effectiveness of internal control over
financial reporting of Limestone Bancorp, Inc., which report appears in this Annual Report on Form 10-K of Limestone Bancorp, Inc. for the year ended
December 31, 2018.
Louisville, Kentucky
March 8, 2019
/s/ Crowe LLP
Exhibit 31.1
LIMESTONE BANCORP, INC .
RULE 13A-14(A) CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, John T. Taylor, Chief Executive Officer of Limestone 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 8, 2019
/s/ John T. Taylor
John T. Taylor
Chief Executive Officer
Exhibit 31.2
LIMESTONE BANCORP, INC .
RULE 13A-14(A) CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Phillip W. Barnhouse, Chief Financial Officer of Limestone 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 8, 2019
/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 Limestone Bancorp, Inc. (the “Company”) for the annual period ended December 31, 2018, 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 8, 2019
LIMESTONE 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 Limestone Bancorp, Inc. (the “Company”) for the annual period ended December 31, 2018, 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)
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 8, 2019
LIMESTONE BANCORP, INC.
By:/s/ Phillip W. Barnhouse
Phillip W. Barnhouse
Chief Financial Officer