FARMERS AND MERCHANTS BANCSHARES, INC. Introduction
The following discussion and analysis is intended as a review of material changes in and significant factors affecting the financial condition and results of operations ofFarmers and Merchants Bancshares, Inc. and its consolidated subsidiaries for the periods indicated. This discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and the notes thereto contained in Item 1 of Part I of this report, and with Management's Discussion and Analysis of Financial Condition and Results of Operations, the audited consolidated financial statements and notes thereto, and the other statistical information contained in the Annual Report ofFarmers and Merchants Bancshares, Inc. on Form 10-K for the year endedDecember 31, 2020 (the "Form 10-K"). References in this report to "us", "we", "our", and "the Company" are toFarmers and Merchants Bancshares, Inc. and, unless the context clearly suggests otherwise, its consolidated subsidiaries. Forward-Looking Statements This report may contain forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995. Readers of this report should be aware of the speculative nature of "forward-looking statements." Statements that are not historical in nature, including those that include the words "intend", "believe", "estimate", "predict", "potential", or "continue" or the negative of those words and other comparable words, are based on current expectations, estimates and projections about, among other things, the industry and the markets in which we operate, and they are not guarantees of future performance. Whether actual results will conform to expectations and predictions is subject to known and unknown risks and uncertainties, including risks and uncertainties discussed in this report; general economic, market, or business conditions, including those impacted and/or driven by the COVID-19 pandemic; changes in interest rates, deposit flow, the cost of funds, and demand for loan products and financial services; changes in our competitive position or competitive actions by other companies; changes in the quality or composition of our loan and investment portfolios; our ability to manage growth; changes in laws or regulations or policies of federal and state regulators and agencies; and other circumstances beyond our control. Consequently, all of the forward-looking statements made in this report are qualified by these cautionary statements, and there can be no assurance that the actual results anticipated will be realized, or if substantially realized, will have the expected consequences on our business or operations. These and other risks are discussed in detail in the registration statements and periodic reports thatFarmers and Merchants Bancshares, Inc. files with theSecurities and Exchange Commission (the "SEC") (see Item 1A of Part II of this report for further information). Except as required by applicable laws, we do not intend to publish updates or revisions of any forward-looking statements we make to reflect new information, future events or otherwise.
Farmers and Merchants Bancshares, Inc. is aMaryland corporation and a financial holding company registered with theBoard of Governors of theFederal Reserve System (the "FRB") under the Bank Holding Company Act of 1956, as amended. The Company was incorporated onAugust 8, 2016 for the purpose of becoming the holding company ofFarmers and Merchants Bank (the "Bank") in a share exchange transaction that was intended to constitute a tax-free exchange under Section 351 of the Internal Revenue Code of 1986, as amended (the "Reorganization"). The Reorganization was consummated onNovember 1, 2016 , at which time the Bank became a wholly-owned subsidiary of the Company and all of the Bank's stockholders became stockholders of the Company by virtue of the conversion of their shares of common stock of the Bank into an equal number of shares of common stock of the Company. The Company's primary business activities are serving as the parent company of the Bank and holding a series investment inFirst Community Bankers Insurance Co., LLC , aTennessee "series" limited liability company and licensed protected cell captive insurance company ("FCBI"). The Company owns 100% of one series of membership interests issued by FCBI, which series is deemed a "protected cell" underTennessee law and has been designated "Series Protected Cell FCB-4" (such series investment is hereinafter referred to as the "Insurance Subsidiary"). 29
-------------------------------------------------------------------------------- The Bank is aMaryland commercial bank chartered onOctober 24, 1919 that is engaged in a general commercial and retail banking business. The Bank has had one inactive subsidiary,Reliable Community Financial Services, Inc. , aMaryland corporation that was incorporated inApril 1992 to facilitate the sale of fixed rate annuity products and later positioned to sell a full array of investment and insurance products. The Insurance Subsidiary represents one protected cell of a protected cell captive insurance company (i.e., FCBI) that was formed onNovember 9, 2016 to better manage our risk programs, provide insurance efficiencies, and add operating income by both keeping insurance premiums paid with respect to such risks within our affiliated group of entities and realizing certain tax benefits that are unique to captive insurance companies. The Company's investment in the Insurance Subsidiary represents one series of membership interests in FCBI. As a "series" limited liability company, FCBI is authorized by state law and its governing instruments to issue one or more series of membership interests, each of which, for all purposes under state law, is deemed to be a legal entity separate and apart from FCBI and its other series. The Company maintains an Internet site at www.fmb1919.bank on which it makes available, free of charge, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to the foregoing as soon as reasonably practicable after these reports are electronically filed with, or furnished to, theSEC .
Estimates and Critical Accounting Policies
This discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States of America . The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent liabilities. See Note 1 of the Notes to the audited consolidated financial statements as of and for the year endedDecember 31, 2020 , which were included in Item 8 of Part II of the Form 10-K. On an on-going basis, management evaluates estimates, including those related to loan losses and intangible assets, other-than-temporary impairment ("OTTI") of investment securities, income taxes, and fair value of investments. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following critical accounting policies affect our more significant judgments and estimates used in the preparation of the consolidated financial statements. The allowance for loan losses represents management's estimate of probable loan losses inherent in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the balance sheet. Management applies various valuation methodologies to assets and liabilities which often involve a significant degree of judgment, particularly when liquid markets do not exist for the particular items being valued. Quoted market prices are referred to when estimating fair values for certain assets, such as most investment securities. However, for those items for which an observable liquid market does not exist, management utilizes significant estimates and assumptions to value such items. Examples of these items include loans, deposits, borrowings, goodwill, core deposit and other intangible assets, other assets and liabilities obtained or assumed in business combinations. These valuations require the use of various assumptions, including, among others, discount rates, rates of return on assets, repayment rates, cash flows, default rates, and liquidation values. The use of different assumptions could produce significantly different results, which could have material positive or negative effects on our results of operations, financial condition or disclosures of fair value information. In addition to valuation, we must assess whether there are any declines in value below the carrying value of assets that should be considered other than temporary or otherwise require an adjustment in carrying value and recognition of a loss in the consolidated statements of income. Examples include investment securities, goodwill and core deposit intangible, among others.
Management does not believe that any material changes in our critical accounting
policies have occurred since
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--------------------------------------------------------------------------------COVID-19 Pandemic The COVID-19 pandemic has been wreaking havoc on theU.S. economy since theWorld Health Organization declared it a pandemic onMarch 11, 2020 . The full impact and its effect on the banking industry, including the Company, will not be known for several quarters, but will be significant. TheU.S. and state governments reacted to the outbreak of the pandemic by issuing shelter-at-home orders and requiring that non-essential businesses be closed to prevent spread of the virus. The health crisis quickly turned into a financial crisis resulting in guidance and mandates regarding foreclosures and repossessions and accounting and regulatory changes designed to encourage banks to work with customers suffering detrimental financial impact. Although states, includingMaryland , have eased many of the previously-imposed COVID-19 restrictions, including stay-at-home orders and the required closure of non-essential businesses, and many individuals have been vaccinated, there are still a significant number of active infections throughout the Country, including in theState of Maryland , and individuals continue to become infected. As a result, it is possible that states, includingMaryland , will re-implement some or all of the COVID-19 related restrictions that have been lifted and again require some or all non-essential businesses to close or drastically alter their business operations, which could have a material adverse impact on our customers and, thus, our financial condition and results of operations. Paycheck Protection Program TheU.S. Government's Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") established theSmall Business Administration ("SBA") Paycheck Protection Program ("PPP") which provides small businesses with resources to maintain payroll, hire back employeeswho may have been laid off, and to cover applicable overhead expenses. During 2020, we made over$31 million in PPP loans. . During the first quarter of 2021, we made an additional$21 million of PPP loans. All PPP loans are 100% guaranteed by the SBA, have up to a five-year maturity, provide for a six-month deferral period, and have an interest rate of 1%. These loans may be forgiven by the SBA if the borrower meets certain conditions, including by using at least 75% of the loan proceeds for payroll costs. The majority of the PPP loans made in 2020 have been forgiven as ofMarch 31, 2021 The SBA also established processing fees from 1% to 5%, depending on the loan amount. We received$877,000 in fees during the three months endedMarch 31, 2021 which, net of related origination costs, will be amortized into interest income over the life of the loans. InApril 2020 , the Bank established eligibility to participate in the Paycheck Protection Program Liquidity Facility ("PPPLF") which was established byCongress and administered by theFederal Reserve Bank . This facility uses the SBA guaranteed PPP loans as collateral, offering 100% collateral coverage with no recourse to the Bank. The majority of the PPP loan disbursements were to internal, non-interest-bearing accounts for use by borrowers. As a result, we have not yet accessed the PPPLF, but are prepared to utilize the fund when management determines the timing is appropriate. 31 --------------------------------------------------------------------------------
Financial Condition Total assets increased by$19,065,272 , or 2.8%, to$696,382,354 atMarch 31, 2021 from$677,317,082 atDecember 31, 2020 . The increase in total assets was due primarily to increases of$19,238,507 in debt securities and$3,770,119 in bank owned life insurance, offset by decreases of$2,451,210 in loans and$1,392,875 in premises and equipment due to the sale of a former branch location. Total liabilities increased$17,681,343 , or 2.8%, to$643,268,942 atMarch 31, 2021 from$625,587,599 atDecember 31, 2020 . The increase was due primarily to a$29,839,728 increase in deposits, offset by a$12,105,703 decrease in securities sold under repurchase agreements. The increase in deposits was due to an inflow of funds from depositorswho have received numerous government stimulus funds. Stockholders' equity increased by$1,383,929 to$53,113,412 atMarch 31, 2021 from$51,729,483 atDecember 31, 2020 . The increase was due primarily to net income for the three-month period endedMarch 31, 2021 of$2,029,575 , offset by a decrease of$645,646 in accumulated other comprehensive income. Loans Major categories of loans atMarch 31, 2021 andDecember 31, 2020 were as follows: March 31 December 31, 2021 2020 Real estate: Commercial$ 312,241,779 60 %$ 309,284,811 59 % Construction/Land development 34,731,150 7 % 33,641,916 6 % Residential 116,700,951 22 % 121,327,761 23 % Commercial 60,064,503 11 % 61,368,105 12 % Consumer 258,484 0 % 288,454 0 % 523,996,867 100 % 525,911,047 100 % Less: Allowance for loan losses 3,423,088
3,296,538
Deferred origination fees net of costs 1,334,475 923,995
$ 519,239,304 $ 521,690,514
Loans decreased by $2,451,210 , or 0.5%, to $519,239,304 at March 31, 2021 from
$521,690,514 at December 31, 2020 . The decrease was due primarily to a
$4,626,810 decrease in commercial loans offset by a $2,956,968 increase in
commercial real estate loans. The allowance for loan losses increased $126,550
to $3,423,088 at March 31, 2021 from $3,296,538 at December 31, 2020 . Deferred
origination fees increased to $1,334,475 at March 31, 2021 from $923,995 at
December 31, 2020 due to the origination of the PPP loans.
The Company has adopted policies and procedures that seek to mitigate credit
risk and to maintain the quality of the loan portfolio. These policies include
underwriting standards for new credits as well as the continuous monitoring and
reporting of asset quality and the adequacy of the allowance for loan losses.
These policies, coupled with continuous training efforts, have provided
effective checks and balances for the risk associated with the lending process.
Lending authority is based on the level of risk, size of the loan, and the
experience of the lending officer. The Company's policy is to make the majority
of its loan commitments in the market area it serves. Management believes that
this tends to reduce risk because management is familiar with the credit
histories of loan applicants and has in-depth knowledge of the risk to which a
given credit is subject. Although the loan portfolio is diversified, its
performance will be influenced by the economy of the region.
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An age analysis of past due loans, segregated by class of loans, as of
90 Days Past Due 90
30 - 59 Days 60 - 89 Days or more Total Total Days or More
Past Due Past Due Past Due Past Due Current Loans and Accruing
March 31, 2021
Real estate:
Commerical $ 181,762 $ - $ - $ 181,762 $ 312,060,017 $ 312,241,779 $ -
Construction/Land
development - - - - 34,731,150 34,731,150 -
Residential - - 50,470 50,470 116,650,211 116,700,951 -
Commercial - - - - 60,064,503 60,064,503 -
Consumer - - - - 258,484 258,484 -
Total $ 181,762 $ - $ 50,470 $ 232,232 $ 523,764,365 $ 523,996,867 $ -
90 Days Past Due 90
30 - 59 Days 60 - 89 Days or more Total Total Days or More
Past Due Past Due Past Due Past Due Current Loans and Accruing
December 31, 2020
Real estate:
Commerical $ 182,656 $ - $ - $ 182,656 $ 309,102,155 $ 309,284,811 $ -
Construction/Land
development - - - - 33,641,916 33,641,916 - Residential 24,591 - 220,967 245,558 121,082,203 121,327,761 - Commercial - - - - 61,368,105 61,368,105 - Consumer - - - - 288,454 288,454 - Total$ 207,247 $ -$ 220,967 $ 428,214 $ 525,482,833 $ 525,911,047 $ - It is the Company's policy to place a loan in nonaccrual status whenever there is substantial doubt about the ability of the borrower to pay principal or interest on any outstanding credit. Management considers such factors as payment history, the nature of the collateral securing the loan, and the overall economic situation of the borrower when making a nonaccrual decision. Management closely monitors nonaccrual loans. The Company returns a nonaccrual loan to accruing status when (i) the loan is brought current with the full payment of all principal and interest arrearages, (ii) all contractual payments are thereafter made on a timely basis for at least nine months, and (iii) management determines, based on a credit review, that it is reasonable to expect that future payments will be made as and when required by the contract. AtMarch 31, 2021 , the Company had one nonaccrual commercial real estate loan totaling$4,407,829 and one nonaccrual residential real estate loan totaling$50,470 . The loans were secured by real estate, business assets, and personal guarantees. Gross interest income of$61,924 would have been recorded for the three months endedMarch 31, 2021 if these nonaccrual loans had been current and performing in accordance with the original terms. The Company allocated$0 of its allowance for loan losses to these nonaccrual loans. The recorded investment of the nonaccrual loans was net of charge-offs and a nonaccretable discount totaling$8,176 atMarch 31, 2021 . AtDecember 31, 2020 , the Company had one nonaccrual commercial real estate loan totaling$4,407,829 and two nonaccrual residential real estate loans totaling$220,967 . The loans were secured by real estate, business assets, and personal guarantees. Gross interest income of$13,395 would have been recorded in 2020 if these nonaccrual loans had been current and performing in accordance with the original terms. The Company allocated$0 of its allowance for loan losses to these nonaccrual loans. The recorded investment of the nonaccrual loans was net of charge-offs and a nonaccretable discount totaling$8,176 atDecember 31, 2020 . 33
-------------------------------------------------------------------------------- Impaired loans as ofMarch 31, 2021 andDecember 31, 2020 are set forth in the following table:March 31 December 31, 2021 2020
Impaired loans with no valuation allowance
- -
Total impaired loans$ 8,877,787 $
9,188,535
Valuation allowance related to impaired loans $ - $
-
Impaired loans include troubled debt restructurings ("TDRs"), which are loans
that were modified to provide economic concessions to borrowers who have
experienced or are expected to experience financial difficulties. These
concessions typically result from the Company's loss mitigation activities and
could include reductions in the interest rate, payment extensions, forgiveness
of principal, forbearance, or other actions. Certain TDRs are classified as
nonperforming at the time of restructure and may only be returned to performing
status after considering the borrower's sustained repayment performance for a
reasonable period, generally six months.
Section 4013 of the U.S. Government's Coronavirus Aid, Relief, and Economic
Security Act allows financial institutions to suspend application of certain
current TDRs accounting guidance under ASC 310-40 for loan modifications related
to the COVID-19 pandemic made between March 1, 2020 and the earlier of January
1, 2022 or 60 days after the end of the COVID-19 national emergency, provided
certain criteria are met. This relief can be applied to loan modifications for
borrowers that were not more than 30 days past due as of December 31, 2019 and
to loan modifications that defer or delay the payment of principal or interest,
or change the interest rate on the loan. In April 2020 , federal and state
banking regulators issued the Interagency Statement on Loan Modifications and
Reporting for Financial Institutions Working with Customers Affected by the
Coronavirus to provide further interpretation of when a borrower is experiencing
financial difficulty, specifically indicating that if the modification is either
short-term (e.g., six months) or mandated by a federal or state government in
response to the COVID-19 pandemic, the borrower is not experiencing financial
difficulty under ASC 310-40. The Company continues to prudently work with
borrowers negatively impacted by the COVID-19 pandemic while managing credit
risks and recognizing appropriate allowance for loan losses on its loan
portfolio. As of March 31, 2021 , $15.9 million , or 3% of the Company's loan
portfolio, were granted three-month deferrals. None of these loans were
classified as TDRs as of March 31, 2021 because they met the criteria discussed
above.
The Company has provided loan modifications to its borrowers who are impacted by
the COVID-19 pandemic. Modifications include deferrals of principal and interest
for periods up to three months and interest only periods of three months. These
deferrals can be extended for an additional three months, subject to approval by
the Company. As of March 31, 2021 , $15.9 million , or 3% of the Company's loan
portfolio, were granted three-month deferrals. None of these loans were
classified as TDRs as of March 31, 2021 because they met the criteria discussed
above.
The Company continues to prudently work with borrowers that have been negatively
impacted by the COVID-19 pandemic while managing credit risks and recognizing
appropriate allowance for loan losses on its loan portfolio. See Note 4 to the
financial statements included elsewhere in this report for additional
information.
At March 31, 2021 , the Company had two commercial real estate loans totaling
$2,236,410 and one residential real estate loan totaling $43,371 that were
classified as TDRs. All are included in impaired loans above. At March 31, 2021 ,
all three loans were paying as agreed. There have been no charge-offs or
allowances associated with these three loans.
34
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At December 31, 2020 , the Company had two commercial real estate loans totaling
$2,252,316 and one residential loan totaling $44,733 classified as TDRs. One of
the commercial real estate loans with a principal balance of $182,656 was
restructured as a TDR during 2020. All three loans are included in impaired
loans above. Each loan is paying as agreed. There have been no charge-offs or
allowances associated with these three loans
March 31, December 31,
2021 2020
Restructured loans (TDRs):
Performing as agreed $ 2,279,781 $ 2,297,049
Not performing as agreed - -
Total TDRs $ 2,279,781 $ 2,297,049
The allowance for loan losses is a reserve established through a provision for
loan losses charged to expense. The allowance for loan losses represents an
amount which, in management's judgment, will be adequate to absorb probable
losses on existing loans and other extensions of credit that may become
uncollectible. The Company's allowance for loan loss methodology includes
allowance allocations calculated in accordance with ASC Topic 310, "Receivables"
and allowance allocations calculated in accordance with ASC Topic 450,
"Contingencies." Accordingly, the methodology is based on historical loss
experience by type of credit and internal risk grade, specific homogeneous risk
pools and specific loss allocations, with adjustments for current events and
conditions.
The Company's process for determining the appropriate level of the allowance for
loan losses is designed to account for credit deterioration as it occurs. The
provision for loan losses reflects loan quality trends, including the levels of
and trends related to non-accrual loans, past due loans, potential problem
loans, classified and criticized loans and net charge-offs or recoveries, among
other factors.
Although management believes that, based on information currently available, the
Company's allowance for loan losses is sufficient to cover losses inherent in
its loan portfolio at this time, no assurances can be given that the Company's
level of allowance for loan losses will be sufficient to cover future loan
losses incurred by the Company or that future adjustments to the allowance for
loan losses will not be necessary if economic and other conditions differ
substantially from the economic and other conditions at the time management
determined the current level of the allowance for loan losses.
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The following table details activity in the allowance for loan losses by
portfolio for the three-month periods ended March 31, 2021 and 2020 and the year
ended December 31, 2020 . Allocation of a portion of the allowance to one
category of loans does not preclude its availability to absorb losses in other
categories.
Allowance for loan losses Outstanding loan
Provision ending balance evaluated balances evaluated
Beginning for loan Charge Ending for impairment: for impairment:
March 31, 2021 balance losses offs Recoveries balance Individually Collectively Individually Collectively
Real estate:
Commercial
- $ 2,556,397 $ 6,689,472 $ 305,552,307
Construction
and land
development 201,692 (39,269 ) - 4,050 166,473 - 166,473 1,554,070 33,177,080
Residential 644,639 (154,755 ) - - 489,884 - 489,884 634,245 116,066,706
Commercial 111,390 (12,143 ) - - 99,247 - 99,247 - 60,064,503
Consumer 2,138 320 - - 2,458 - 2,458 - 258,484
Unallocated 106,550 2,079 - - 108,629 - 108,629 - -
$ 3,296,538 $ 120,000 $ - $ 6,550 $ 3,423,088 $ - $ 3,423,088 $ 8,877,787 $ 515,119,080
Allowance for loan losses Outstanding loan
Provision ending balance evaluated balances evaluated
Beginning for loan Charge Ending for impairment: for impairment:
March 31, 2020 balance losses offs Recoveries balance Individually Collectively Individually Collectively
Real estate:
Commercial
- $ 1,915,721 $ 2,071,836 $ 239,065,558
Construction
and land
development 192,828 13,677 - 3,600 210,105 - 210,105 - 19,574,506
Residential 478,124 1,629 - - 479,753 - 479,753 49,342 75,057,346
Commercial 107,782 (16,720 ) - 15,835 106,897 - 106,897 - 25,452,964
Consumer 4,133 824 - - 4,957 - 4,957 - 285,801
Unallocated 46,987 (24,270 ) - - 22,717 - 22,717 - -
$ 2,593,715 $ 125,000 $ - $ 21,435 $ 2,740,150 $ - $ 2,740,150 $ 2,121,178 $ 359,436,175
Allowance for loan losses Outstanding loan
Provision ending balance evaluated balances evaluated
Beginning for loan Charge Ending for impairment: for impairment:
December 31,
2020 balance losses offs Recoveries balance Individually Collectively Individually Collectively
Real estate:
Commercial
- $ 2,230,129 $ 6,811,698 $ 302,473,113
Construction
and land
development 192,828 (5,536 ) - 14,400 201,692 - 201,692 1,566,174 32,075,742
Residential 478,124 166,515 - - 644,639 - 644,639 810,663 120,517,098
Commercial 107,782 (12,353 ) - 15,961 111,390 - 111,390 - 61,368,105
Consumer 4,133 (1,995 ) - - 2,138 - 2,138 - 288,454
Unallocated 46,987 59,563 -
- 106,550 - 106,550 - -
$ 2,593,715 $ 625,000 $ - $ 77,823 $ 3,296,538 $ - $ 3,296,538 $ 9,188,535 $ 516,722,512
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The provision for loan losses was
During the three-month periods endedMarch 31, 2021 and 2020, the Company had recoveries from loans written off in prior periods totaling$6,550 and$21,435 , respectively, and no loan charge-offs in either period. As ofMarch 31, 2021 , the Company had$9,469,300 of loans on a watch list, other than impaired loans, for which the borrowers have the potential for experiencing financial difficulties. As ofDecember 31, 2020 , the Company had$9,546,879 of such loans. These loans are subject to ongoing management attention and their classifications are reviewed regularly. Watch list loans include loans classified as Special Mention, Substandard, and Doubtful.Investment Securities Investments in debt securities increased by$19,238,507 or 24.8% to$96,794,312 atMarch 31, 2021 from$77,555,805 atDecember 31, 2020 . AtMarch 31, 2021 andDecember 31, 2020 , the Company had classified 77% and 70%, respectively, of the investment portfolio as available for sale. The balance of the portfolio was classified as held to maturity. Securities classified as available for sale are held for an indefinite period of time and may be sold in response to changing market and interest rate conditions as part of the Company's asset/liability management strategy. Available for sale debt securities are carried at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of stockholders' equity, net of income taxes. Securities classified as held to maturity, which the Company has both the positive intent and ability to hold to maturity, are reported at amortized cost. The Company records unrealized gains and losses on equity securities in earnings. The Company does not currently follow a strategy of making security purchases with a view to near-term sales, and, therefore, does not own trading securities. The Company manages the investment portfolio within policies that seek to achieve desired levels of liquidity, manage interest rate sensitivity, meet earnings objectives, and provide required collateral for deposit and borrowing activities.
The following table sets forth the carrying value of investments in debt
securities at
March 31, December 31,
2021 2020
Available for sale
State and municipal $ 974,066 $ 986,532
SBA pools 1,713,871 1,783,807
Corporate bonds 6,674,003 6,797,431
Mortgage-backed securities 65,566,925 44,909,516
$ 74,928,865 $ 54,477,286
Held to maturity
State and municipal $ 21,865,447 $ 23,078,519
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The following table sets forth the scheduled maturities of investments in debt
securities at
Available for Sale Held to Maturity
Amortized Amortized
Cost Fair Value Cost Fair Value
Within 1 year $ - $ - $ 489,060 $ 492,666
Over 1 to 5 years 4,634,500 4,756,528 795,231 810,700
Over 5 to 10 years 2,694,963 2,690,665 2,025,039 2,196,415
Over 10 years 200,736 200,876 18,556,117 19,241,395
7,530,199 7,648,069 21,865,447 22,741,176
SBA Pools 1,748,461 1,713,871 - -
Mortgage-backed securities 65,566,556 65,566,925 - -
$ 74,845,216 $ 74,928,865 $ 21,865,447 $ 22,741,176 SBA pools and mortgage-backed securities are due in monthly installments.
Other Real Estate Owned
Other real estate owned ("OREO") at March 31, 2021 and December 31, 2020
included two properties with an aggregate carrying value of $1,411,605 . The
first property is an apartment building in Baltimore, Maryland with a carrying
value of $1,411,605 that was obtained in the Merger. The property is under an
optional sales contract with no projected closing date. The other property is
land in Cecil County, Maryland with a carrying value of $0 . It was acquired
through foreclosure in 2007. The latter property consists of 10.43 acres and is
currently under contract for a gross sales price of $295,000 with closing
expected in 2021. Due to the length of time the property has been held, Maryland
banking law required a write-down of the value to $0 in 2019.
Deposits
Total deposits increased by $29,839,728 , or 5.2%, to $603,241,275 at March 31,
2021 from $573,401,547 at December 31, 2020 . The increase in deposits was due to
an $18,770,755 increase in noninterest-bearing accounts, a $16,890,659 increase
in savings accounts, and a $1,784,145 increase in interest bearing checking
accounts, offset by a $2,131,913 decrease in money market accounts and a
$5,473,918 decrease in time deposits.
The following table shows the average balances and average costs of deposits for
the three-month periods ended
March 31, 2021 March 31, 2020
Average Average
Balance Cost Balance Cost
Noninterest bearing demand deposits $ 111,624,572 0.00 % $ 59,982,921 0.00 %
Interest bearing demand deposits 83,532,279 0.26 % 63,806,965 0.35 %
Savings and money market deposits 199,036,116 0.15 % 102,211,943 0.32 %
Time deposits 194,296,941 0.96 % 156,493,583 1.97 %
$ 588,489,908 0.40 % $ 382,495,412 0.95 %
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Liquidity Management Liquidity describes our ability to meet financial obligations that arise out of the ordinary course of business. Liquidity is primarily needed to meet depositor withdrawal requirements, to fund loans, and to fund our other debts and obligations as they come due in the normal course of business. We maintain our asset liquidity position internally through short-term investments, the maturity distribution of the investment portfolio, loan repayments, and income from earning assets. On the liability side of the balance sheet, liquidity is affected by the timing of maturing liabilities and the ability to generate new deposits or borrowings as needed. The Bank is approved to borrow 75% of eligible pledged single-family residential loans and 50% of eligible pledged commercial loans as well as investment securities, or approximately$82.3 million under a secured line of credit with theFederal Home Loan Bank ("FHLB"). The Bank also has a facility with theFederal Reserve Bank of Richmond (the "Reserve Bank ") under which the Bank can borrow approximately$29.5 million . Finally, the Bank has$23,500,000 ($14,500,000 unsecured and$9,000,000 secured) of overnight federal funds lines of credit available from commercial banks. FHLB advances of$5,000,000 were outstanding as ofMarch 31, 2021 andDecember 31, 2020 . The Company borrowed$17,000,000 to facilitate the acquisition ofCarroll as more fully described below. There were no borrowings from theReserve Bank or our commercial bank lenders atMarch 31, 2021 andDecember 31, 2020 . Management believes that we have adequate liquidity sources to meet all anticipated liquidity needs over the next 12 months. Management knows of no trend or event which is likely to have a material impact on our ability to maintain liquidity at satisfactory levels.
Borrowings and Other Contractual Obligations
The Company's contractual obligations consist primarily of borrowings and operating leases for various facilities.
OnSeptember 30, 2020 , the Company borrowed$17,000,000 fromFirst Horizon Bank ("FHN") for the purpose of funding a portion of the merger consideration that was payable to the stockholders ofCarroll when it was merged with and into the Company onOctober 1, 2020 . Net of issuance costs, the amount of the net long-term debt was$16,974,687 and$16,973,280 as ofMarch 31, 2021 andDecember 31, 2020 , respectively. The loan matures onSeptember 30, 2025 . The interest rate on the loan is fixed at 4.10%. The Company is required to make quarterly interest-only payments throughOctober 1, 2021 . The Company expects that the amount of these quarterly interest-only payments to be$174,250 . During the remaining term of the loan, the Company is required to make quarterly interest and principal payments of approximately$646,472 , which will be based on a nine-year straight-line amortization schedule. The remaining balance of approximately$9,916,667 will be due at maturity. To secure its obligations under this loan, the Company pledged all of its shares of common stock of the Bank to FHN. Securities sold under agreements to repurchase represent overnight borrowings from customers. Securities owned by the Company which are used as collateral for these borrowings are primarilyU.S. government agency securities.
Specific information about the Company's borrowings and contractual obligations is set forth in the following table:
September 30, December 31,
2020 2019
Amount oustanding at period-end:
Securities sold under repurchase agreements $ 12,648,269 $ 24,753,972
Federal Home Loan Bank advances 5,000,000 5,000,000
Long-term debt (net of issuance costs) 16,974,687
16,973,280
Weighted average rate paid at period-end:
Securites sold under repurchase agreements 0.45 % 0.61 %
Federal Home Loan Bank advances 1.00 % 1.00 %
Long-term debt 4.10 % 4.10 %
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Year endingDecember 31, 2022 1,888,889 Year endingDecember 31, 2023 1,888,889 Year endingDecember 31, 2024 1,888,889 Year endingDecember 31, 2025 16,333,333
Capital Resources and Adequacy
The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possible additional, discretionary actions by the regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain offbalance sheet items as calculated under regulatory accounting practices.
Quantitative measures established by the Basel III Capital Rules to ensure capital adequacy require the maintenance of minimum amounts and ratios (set forth in the table below) of Common Equity Tier 1 capital, Tier 1 capital, and Total capital (as defined in the regulations) to riskweighted assets (as defined), and of Tier 1 capital to adjusted quarterly average assets (as defined).
Additional information regarding the capital requirements that apply to us can be found in Note 6 to the consolidated financial statements presented elsewhere in this report and in Item 1 of Part I of the Form 10-K under the heading, "Supervision and Regulation - Capital Requirements". The following table presents actual and required capital ratios as ofMarch 31, 2021 andDecember 31, 2020 for the Bank under the Basel III Capital Rules. The minimum required capital amounts presented include the minimum required capital levels as ofMarch 31, 2021 andDecember 31, 2020 , based on the phase-in provisions of the Basel III Capital Rules. Capital levels required to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules. Minimum To Be Well (Dollars in thousands) Actual Capital Adequacy Capitalized
March 31, 2021 Amount Ratio Amount Ratio Amount Ratio Total capital (to risk-weighted assets)$ 65,177 12.59 %$ 54,344 10.50 %$ 51,756 10.00 % Tier 1 capital (to risk-weighted assets) 61,754 11.93 % 43,993 8.50 % 41,405 8.00 % Common equity tier 1 (to risk- weighted assets) 61,754 11.93 % 36,229 7.00 % 33,642 6.50 % Tier 1 leverage (to average assets) 61,754 9.19 % 26,884 4.00 % 33,605 5.00 % December 31, 2020 Total capital (to risk-weighted assets)$ 63,400 12.62 %$ 52,732 10.50 %$ 50,221 10.00 % Tier 1 capital (to risk-weighted assets) 60,104 11.97 % 42,688 8.50 % 40,177 8.00 % Common equity tier 1 (to risk- weighted assets) 60,104 11.97 % 35,155 7.00 % 32,644 6.50 % Tier 1 leverage (to average assets) 60,104 9.05 % 26,569 4.00 % 33,211 5.00 % The Company intends to fund future growth primarily with cash, federal funds, maturities of investment securities and deposit growth. Management knows of no other trend or event that will have a material impact on capital. 40 --------------------------------------------------------------------------------
Off-Balance Sheet Arrangements
In the normal course of business, the Bank makes commitments to extend credit and issues standby letters of credit. Outstanding loan commitments, unused lines of credit, and letters of credit as ofMarch 31, 2021 andDecember 31, 2020 are as follows: March 31, December 31, 2021 2020 Loan commitments Construction and land development$ 425,000 $ 4,668,250 Commercial 2,233,720 1,000,000 Consumer 30,000 - Commercial real estate 25,968,100 15,772,020 Residential 6,677,250 4,668,750$ 35,334,070 $ 26,109,020 Unused lines of credit Home-equity lines$ 13,777,640 $ 13,716,894 Commercial lines 27,787,549 23,996,679$ 41,565,189 $ 37,713,573 Letters of credit$ 1,553,018 $ 1,891,428 Loan commitments and lines of credit are agreements to lend to a customer as long as there is no violation of any condition to the contract. Loan commitments generally have interest rates at current market amounts, fixed expiration dates, and may require payment of a fee. Lines of credit generally have variable interest rates. Such lines do not represent future cash requirements because it is unlikely that all customers will draw upon their lines in full at any time. Letters of credit are commitments issued to guarantee the performance of a customer to a third party. The maximum exposure to credit loss in the event of nonperformance by the customer is the contractual amount of the commitment. Loan commitments, lines of credit and letters of credit are made on the same terms, including collateral, as outstanding loans. Management is not aware of any accounting loss that is likely to be incurred as a result of funding its credit commitments. RESULTS OF OPERATIONS
Comparison of Operating Results for the Three Months Ended
General Net income for the three months endedMarch 31, 2021 was$2,029,575 , compared to$843,307 for the same period of 2020. The increase of$1,186,268 , or 140.7%, was due to a$1,807,921 increase in net interest income, a$254,943 increase in noninterest income, and a$5,000 decrease in the loan loss provision, offset by a$448,811 increase in noninterest expenses and a$432,785 increase in income taxes. 41
-------------------------------------------------------------------------------- The Company incurred significant one-time costs during 2020 in connection with the Company's acquisition ofCarroll . The table below provides a comparison of the Company's results for the first quarter of 2021 versus the same period of the prior year with and without$179,824 of acquisition costs incurred during the first quarter of 2020. Three Months Ended March 31, 2021 March 31, 2020 Excluding As Reported As Reported Acquisition Costs Income before taxes$ 2,615,276 $ 996,223 $ 1,176,047 Income taxes 585,701 152,916 202,399 Net income$ 2,029,575 $ 843,307 $ 973,648 Earnings per share $ 0.67$ 0.28 $ 0.33 Return on average assets 1.19 % 0.75 % 0.87 % Return on average equity 15.37 % 6.72 % 7.76 % Net Interest Income Net interest income, which is the difference between interest income on loans and investments and interest expense on deposits and borrowings, was$5,573,455 for the three months endedMarch 31, 2021 , compared to$3,765,534 for the same period of 2020. Total interest income for the three months endedMarch 31, 2021 was$6,370,592 , compared to$4,710,036 for the same period of 2020, an increase of$1,660,556 , or 35.3%. Total interest income on loans for the three months endedMarch 31, 2021 increased by$1,662,003 when compared to the same period of 2021 due to a$162.8 million higher average loan balance for the first three months of 2021 when compared to the same period of 2020, offset by a lower loan yield of 4.54% for the first three months of 2021 versus 4.74% for the same period of 2020. Investment income for the first three months of 2021 increased by$17,208 , or 4.9%, when compared to the same period of 2020 due to a$49.3 million higher average investment balance, offset by a decrease in fully-taxable equivalent yield to 1.60% for three months endedMarch 31, 2021 , compared to 2.86% for the same period of 2020. The fully-taxable equivalent yield on total interest-earning assets decreased 50 basis points to 3.92% for the three months endedMarch 31, 2021 compared to 4.42% for the same period of 2020. The average balance of total interest-earning assets increased by$225.4 million to$655.4 million for the three months endedMarch 31, 2021 , compared to$430.0 million for the same period of 2020. Total interest expense for the three months endedMarch 31, 2021 was$797,137 , compared to$944,502 for the same period of 2020, a decrease of$147,365 , or 15.6%. The decrease was due to a lower overall cost of funds on interest bearing deposits and borrowings of 0.63% for the three months endedMarch 31, 2021 , compared to 1.13% for the same period of 2020, offset by a$176.2 million increase in the average balance of interest-bearing liabilities to$509.3 million in the first three months of 2021, compared to$333.0 million in the same period of 2020. Cost of funds for time deposits decreased to 0.96% for the three months endedMarch 31, 2021 from 1.97% for the same period of 2020. Securities sold under repurchase agreements cost of funds decreased to 0.52% for the first three months of 2021 from 1.47% for the first three months of 2020. Average noninterest-earning assets increased by$5.2 million to$23.0 million in the first three months of 2021, compared to$17.8 million in the same period of 2020. Average noninterest-bearing deposits increased by$51.6 million to$111.6 million during the first three months of 2021, compared to$60.0 million in the same period of 2020. The average balance in stockholders' equity increased by$2.6 million for the three months endedMarch 31, 2021 , when compared with the same period of 2020. 42
-------------------------------------------------------------------------------- The following table sets forth information regarding the average balances of interest-earning assets and interest-bearing liabilities, the amount of interest income and interest expense and the resulting yields on average interest-earning assets and rates paid on average interest-bearing liabilities for the three-month periods endedMarch 31, 2021 and 2020. Average balances are also provided for noninterest-earning assets and noninterest-bearing liabilities. Three Months Ended March 31, 2021 Three Months Ended March 31, 2020 Average Average Balance Interest Yield Balance Interest Yield Assets: Loans$ 527,459,924 $ 5,984,657 4.54 %$ 364,706,926 $ 4,322,654 4.74 % Securities, taxable 83,279,735 212,244 1.02 % 37,155,531 211,746 2.28 % Securities, tax exempt 21,150,879 206,367 3.90 % 18,023,848 183,275 4.07 % Federal funds sold and other interest-earning assets 23,532,775 14,818 0.25 % 10,125,466 34,059 1.35 % Total interest-earning assets 655,423,313 6,418,086 3.92 % 430,011,771 4,751,734 4.42 % Noninterest-earning assets 23,003,563 17,754,285 Total assets$ 678,426,876 $ 447,766,056 Liabilities and Stockholders' Equity: NOW, savings, and money market$ 282,568,395 130,585 0.18 %$ 166,018,908 136,947 0.33 % Certificates of deposit 194,296,941 464,935 0.96 % 156,493,583 769,252 1.97 % Securities sold under repurchase agreements 10,445,266 13,511 0.52 % 10,391,770 38,194 1.47 % Long-term debt 16,973,984 175,656 4.14 % - - - FHLB advances and other borrowings 5,000,000 12,450 1.00 % 131,958 109 0.33 % Total interest-bearing liabilities 509,284,586 797,137 0.63 % 333,036,219 944,502 1.13 % Noninterest-bearing deposits 111,624,572 59,982,921 Noninterest-bearing liabilities 4,694,670 4,539,576 Total liabilities 625,603,828 397,558,716 Stockholders' equity 52,823,048 50,207,340 Total liabilities and stockholders' equity$ 678,426,876 $ 447,766,056 Net interest income$ 5,620,949 $ 3,807,232 Interest rate spread 3.29 % 3.29 % Net yield on interest-earning assets 3.43 % 3.54 % Ratio of average interest-earning assets to Average interest-bearing liabilities 128.69 % 129.12 %
Interest on tax-exempt securities and other tax-exempt investments are reported on fully taxable equivalent basis.
Noninterest Income Noninterest income for the three months endedMarch 31, 2021 was$556,945 , compared to$302,002 for the same period of 2020, an increase of$254,943 , or 84.4%. The increase was primarily a result of a$194,010 increase in mortgage banking income, a$28,107 increase in bank owned life insurance income, and a$37,613 gain on the sale of a formerCarroll branch office. 43 --------------------------------------------------------------------------------
Noninterest Expense Noninterest expense for the three months endedMarch 31, 2021 totaled$3,395,124 , compared to$2,946,313 for the same period of 2020, an increase of$448,811 , or 15.2%. The increase was due primarily to, increases in salaries and benefits of$297,203 , in occupancy, furniture and equipment of$103,294 , and in other of$228,138 , offset by a decrease in costs incurred related to the acquisition ofCarroll of$179,824 . The increases are all a result of the employees, locations, and customers added from the acquisition ofCarroll . Income Tax Expense Income tax expense for the three months endedMarch 31, 2021 was$585,701 , compared to$152,916 for the same period of 2020. The effective tax rate was 22.4% for the three months endedMarch 31, 2021 , compared to 15.3% for the same period of 2020. The increase in income tax expense was due primarily to higher income before income taxes and a lower percentage of tax exempt revenue for the three months endedMarch 31, 2021 when compared to the same period in 2020.
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