This management's discussion and analysis of financial condition and results of operations contains forward-looking statements that involve risks and uncertainties. Please see "Cautionary Statement Regarding Forward-Looking Statements" for a discussion of the uncertainties, risks and assumptions associated with these statements. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and accompanying notes included elsewhere in this Annual Report on Form 10-K. Our actual results could differ significantly from those anticipated in these estimates and in the forward-looking statements as a result of certain factors, including those discussed in the section of this Form 10-K captioned "Risk Factors," and elsewhere in this Form 10-K. Company Overview We are a financial holding company headquartered inDallas, Texas . We provide a wide array of financial products and services including banking, trust, investment advisory, securities brokerage, third party administration, recordkeeping and insurance to individuals, small businesses and institutions in all 50 states. InJanuary 2019 , the Bank acquiredNolan , a TPA based inOverland Park, Kansas . Founded in 1979,Nolan provides clients with retirement plan design and administrative services, specializing in ministerial recordkeeping, administration, actuarial and design services for retirement plans of small businesses and professional practices.Nolan has clients in 50 states and is the administrator for over 900 retirement plans, 649 of which are also clients of the Bank, which is over 57% of the retirement plans we service in our trust department. We believe that the addition of TPA services allows us to serve our clients more fully and to attract new clients to our trust platform. Please see Note 18, Nolan Acquisition, to consolidated financial statements included in the Form 10-K for more information. OnMay 13, 2019 , we completed a merger withTectonic Holdings , through which we expanded our financial services to include investment advisory, securities brokerage and insurance services. Pursuant to the merger agreement, as amended and restated, datedMarch 28, 2019 , by and between the Company andTectonic Holdings ,Tectonic Holdings merged with and into the Company, with the Company as the surviving institution. Immediately after the completion of the Tectonic Merger, the Company completed a 1-for-2 reverse stock split with respect to the outstanding shares of its common stock. The computations of all share and per share amounts in this Form 10-Q have been adjusted retroactively to reflect the reverse stock split. Following the Tectonic Merger, we operate through four main direct and indirect subsidiaries: (i)T Bancshares , which was incorporated under the laws of theState of Texas onDecember 23, 2002 to serve as the bank holding company for the Bank, (ii)Sanders Morris , a registered broker-dealer withFINRA , and registered investment advisor with theSEC , (iii)Tectonic Advisors , a registered investment advisor registered with theSEC focused generally on managing money for relatively large, affiliated institutions, and (iv) HWG, an insurance agency registered with the TDI. The Company completed the underwritten initial public offering of its Series B preferred stock onMay 14, 2019 . In connection with the initial public offering, the Company issued and sold 1,725,000 shares of its Series B preferred stock, including 225,000 shares sold pursuant to the underwriters' full exercise of their option to purchase additional shares, at an offering price of$10.00 per share, for aggregate gross proceeds of$17.25 million before deducting underwriting discounts and offering expenses, and aggregate net proceeds of$15.5 million after deducting underwriting discounts and offering expenses. Prior to the Tectonic Merger,Sanders Morris andTectonic Advisors were wholly owned subsidiaries ofTectonic Holdings , which was under common control with the Company. The Tectonic Merger has been accounted for as a combination of businesses under common control in accordance with ASC Topic 805. Under Topic 805, all the assets and liabilities ofTectonic Holdings are carried over to the books of the Company at their then current carrying amounts, and the consolidated financial statements have been retrospectively adjusted to reflect the acquisition ofSanders Morris ,HWG and Tectonic Advisors for all periods subsequent to the date at which the entities were under common control,May 15, 2017 . All intercompany transactions and balances are eliminated in consolidation.
Critical Accounting Policies and Estimates
We prepare consolidated financial statements based on GAAP and to customary practices within the financial services industry. These policies, in certain areas, require management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. While we base estimates on historical experience, current information and other factors deemed to be relevant, actual results could differ from those estimates. 50
--------------------------------------------------------------------------------
Table of Contents
We consider accounting estimates to be critical to reported financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain at the time we make the accounting estimate and (ii) different estimates that management reasonably could have used for the accounting estimate in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, could have a material impact on the financial statements. Accounting policies related to the allowance for loan losses are considered to be critical as these policies involve considerable subjective judgment and estimation by management. A discussion of our allowance for loan losses is included in Note 1 to our Consolidated Financial Statements. Performance Summary Net income available to common shareholders totaled$6.5 million , or$0.98 per diluted common share for the year endedDecember 31, 2019 , compared to$8.8 million , or$1.34 per diluted common share for the year endedDecember 31, 2018 , a decrease of$2.3 million or 26.1%. The decrease in net income available to common shareholders for the year endedDecember 31, 2019 was the result of a$6.0 million increase in non-interest expense, a$830,000 increase in the provision for loan losses, a$891,000 increase in income tax expense and a$618,000 increase in preferred stock dividends paid, partially offset by a$1.5 million increase in net interest income and a$4.5 million increase in non-interest income. We calculate return on average tangible common equity as net income available to common shareholders (net income less dividends paid on preferred stock) divided by average tangible common equity. Average tangible common equity is a non-GAAP financial measure. The most directly comparable GAAP financial measure for average tangible common equity is average total common equity. The following table reconciles net income to income available to common shareholders and presents the calculation of return on average tangible common equity: As of and for the As of and for the Year Ended Year Ended (Dollars in thousands) December 31, 2019 December 31, 2018 Net income, as reported $ 7,879 $ 9,620 Income available to common shareholders 6,458 8,818 Average tangible common equity 18,555 16,035 Return on average tangible common equity 34.80 % 54.99 % For the year endedDecember 31, 2019 , return on average assets was 2.33%, compared to 3.33% for the prior year, and return on average tangible common equity was 34.80%, compared to 54.99% for the prior year. The higher returns for the year endedDecember 31, 2018 was primarily due to a$1.7 million gain on bargain purchase related to the acquisition of Summer Wealth Management during the three months endedMarch 31, 2018 . Total assets grew by$53.4 million , or 17.1%, to$365.1 million as ofDecember 31, 2019 , from$311.7 million as ofDecember 31, 2018 . This increase was primarily due to an increase in SBA loans. Our loans held for investment, net of allowance for loan losses increased$55.7 million , or 23.8%, to$289.7 million as ofDecember 31, 2019 , from$234.0 million as ofDecember 31, 2018 . Substantially all loans are secured by specific collateral, including business assets, consumer assets, and commercial real estate. Shareholders' equity increased$13.0 million , or 34.7%, to$50.5 million as ofDecember 31, 2019 , from$37.5 million as ofDecember 31, 2018 . See analysis of shareholders' equity in the section captioned "Capital Resources and Regulatory Capital Requirements" included elsewhere in this discussion. Results of Operations
Details of the changes in the various components of net income are discussed below.
Net Interest Income Net interest income is the difference between interest income on interest-earning assets, such as loans, investment securities, and interest-bearing cash, and interest expense on interest-bearing liabilities, such as deposits and borrowings. Changes in net interest income result from changes in volume and spread, and are reflected in the net interest margin, as well as changes in average interest rates. Volume refers to the average dollar level of interest-earning assets and interest-bearing liabilities. Spread refers to the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. Margin refers to net interest income divided by average interest-earning assets, and is influenced by the level and relative mix of interest-earning assets and interest-bearing liabilities. 51
--------------------------------------------------------------------------------
Table of Contents
TheFederal Reserve influences the general market rates of interest, including the deposit and loan rates offered by many financial institutions. Interest rates are highly sensitive to many factors that are beyond the control of the Company, including changes in the expected rate of inflation, the influence of general and local economic conditions and the monetary and fiscal policies ofthe United States government, its agencies and various other governmental regulatory authorities. TheFederal Reserve increased the target rate four times in 2018 and lowered the target rate three times during 2019. During 2018, the effective federal funds rate increased 100 basis points (25 basis points in each of March, June, September and December) to end the year at 2.50%. During 2019, the effective federal funds rate decreased 50 basis points during the third quarter of 2019 (25 basis points in each of August and September) and 25 basis points inOctober 2019 to end the year at 1.75%. The following tables presents the changes in net interest income and identifies the changes due to differences in the average volume of interest-earning assets and interest-bearing liabilities and the changes due to changes in the average interest rate on those assets and liabilities. The changes in net interest income due to changes in both average volume and average interest rate have been allocated to the average volume change or the average interest rate change in proportion to the absolute amounts of the change in each. 2019 vs 2018 Increase (Decrease) Due to Change in Average (In thousands) Rate Volume Total
Interest-bearing deposits and federal funds sold $ 22 $
56$ 78 Securities (25 ) (12 ) (37 ) Loans, net of unearned discount (1) 528 2,730 3,258 Total earning assets 525 2,774 3,299 Savings and interest-bearing demand (1 ) (3 ) (4 ) Money market deposit accounts 202 46 248 Time deposits 856 796 1,652 FHLB and other borrowings 14 (124 ) (110 ) Subordinated notes 5 51 56 Total interest-bearing liabilities 1,076 766 1,842 Changes in net interest income$ (551 ) $ 2,008 $ 1,457
(1) Average loans include non-accrual.
Net interest income for years endedDecember 31, 2019 and 2018 was$12.1 million and$10.6 million , respectively, an increase of$1.5 million , or 14.2%, due primarily to an increase in the average volume of loans and average yields on loans, partially offset by an increase in the average volume of interest-bearing deposits and average rates paid on interest-bearing deposits. Net interest margin for the years endedDecember 31, 2019 and 2018 was 3.90% and 4.03%, respectively, a decrease of 13 basis points, due primarily to the increase in average rates paid on interest-bearing deposits and borrowed funds, partially offset by an increase in average yields on loans and interest-bearing deposits and federal funds sold. The average volume of loans increased$43.6 million , or 18.9%, from$231.4 million for the year endedDecember 31, 2018 , to$275.0 million for the year endedDecember 31, 2019 , and the average yield on loans increased 23 basis points from 6.03% for the year endedDecember 31, 2018 to 6.26% for the year endedDecember 31, 2019 . The average yield on loans was positively impacted by the increases in market interest rates and increase in discount accretion. For the year endedDecember 31, 2019 , loan payoffs with associated net discounts resulted in additional income of$458,000 , compared to$614,000 for loan payoffs with net discounts for the year endedDecember 31, 2018 . Average interest-bearing deposits increased$33.6 million for the year endedDecember 31, 2019 , compared to the same period in the prior year, which included an increase in time deposits and money market deposit accounts of$31.4 million and$3.0 million , respectively, offset by an$847,000 decrease in savings and interest-bearing demand deposits. The average rate paid on interest-bearing deposits increased 60 basis points from 1.62% for the year endedDecember 31, 2018 to 2.22% for the year endedDecember 31, 2019 . 52
--------------------------------------------------------------------------------
Table of Contents
The following table sets forth our average balances of assets, liabilities and shareholders' equity, in addition to the major components of net interest income and our net interest margin, for the years endedDecember 31, 2019 and 2018. Year Ended December 31, 2019 2018 (In thousands, except Average Average Average Average percentages) Balance Interest Yield Balance Interest Yield Assets Interest-bearing deposits and federal funds sold$ 12,434 $ 270 2.17 %$ 9,861 $ 192 1.95 % Securities 21,221 778 3.67 % 21,544 815 3.78 % Loans, net of unearned discount (1) 275,025 17,205 6.26 % 231,385 13,947 6.03 % Total earning assets 308,680 18,253 5.91 % 262,790 14,954 5.69 % Cash and other assets 29,890 26,352 Allowance for loan losses (1,089 ) (581 ) Total assets$ 337,481 $ 288,561 Liabilities and Shareholders' Equity Savings and interest-bearing demand$ 7,740 30 0.39 %$ 8,587 34 0.40 % Money market deposit accounts 54,609 841 1.54 % 51,593 593 1.15 % Time deposits 164,007 4,151 2.53 % 132,575 2,499 1.88 % Total interest-bearing deposits 226,356 5,022 2.22 % 192,755 3,126 1.62 % FHLB and other borrowings 11,449 305 2.66 % 16,090 415 2.58 % Subordinated notes 12,000 875 7.29 % 11,300 819 7.25 % Total interest-bearing liabilities 249,805 6,202 2.48 % 220,145 4,360 1.98 % Non-interest-bearing deposits 35,786 30,421 Other liabilities 6,336 4,060 Total liabilities 291,927 254,626 Shareholders' equity 45,554 33,935 Total liabilities and shareholders' equity$ 337,481 $ 288,561 Net interest income$ 12,051 $ 10,594 Net interest spread 3.43 % 3.71 % Net interest margin 3.90 % 4.03 %
(1) Includes non-accrual loans.
Provision for Loan Losses We determined a provision for loan losses that we consider sufficient to maintain an allowance to absorb probable losses inherent in our portfolio as of the balance sheet date. For additional information concerning this determination, see the section captioned "Allowance for Loan Losses" elsewhere in this discussion. For the years endedDecember 31, 2019 and 2018, the provision for loan losses totaled$1.6 million and$725,000 , respectively. See the section captioned "Allowance for Loan Losses" included elsewhere in this discussion for further analysis of the provision for loan losses. 53
--------------------------------------------------------------------------------
Table of Contents Non-Interest Income
The components of non-interest income were as follows:
Year Ended December 31, (In thousands) 2019 2018 Trust income$ 5,073 $ 4,703 Gain on sale of loans 427 183 Advisory income 9,869 8,900 Brokerage income 9,592 8,710 Service fees and other income 4,507 2,468 Rental income 336 304 Total$ 29,804 $ 25,268 Total non-interest income for the year endedDecember 31, 2019 increased$4.5 million , or 18.0%, as compared to the year endedDecember 31, 2018 . Changes in the various components of non-interest income are discussed below. Trust Income. Trust income is earned for trust services on the value of managed and non-managed assets held in custody. The volatility of the bond and equity markets impacts the market value of trust assets and the related fees. Trust income for the year endedDecember 31, 2019 increased$370,000 , or 7.9%, compared to the year endedDecember 31, 2018 . The fee income increased between the two years due to an increase in the average market value of the trust assets over the year endedDecember 31, 2019 , and fees for our participant directed platform, which was implemented in the first quarter of 2019. Gain on sale of loans. Gain on sale of loans primarily reflects the gain from the sale of the guaranteed portion of SBA 7(a) andUSDA loans originated by the Bank's SBA lending group. Gain on sale of loans increased$244 thousand , or 133.3%, between the year endedDecember 31, 2019 and 2018. A strategic decision on the part of management was made during 2017 to retain more of the guaranteed portion of SBA 7(a) andUSDA loans originated to increase interest income over time. This decision meant that the guaranteed portion of fewer SBA andUSDA loans were sold after such date, and accordingly, our gain on sale income declined to$183 thousand for the year endedDecember 31, 2018 . During the fourth quarter 2019, sales of the guaranteed portion of SBA loans were resumed, resulting in$427 thousand of gain on sale of loans for the year endedDecember 31, 2019 . Advisory income. Advisory fees are typically based on a percentage of the underlying average asset values for a given period, where each percentage point represents 100 basis points. These revenues are of a recurring nature, but are directly affected by increases and decreases in the values of the underlying assets. For the year endedDecember 31, 2019 , advisory income increased$969,000 , or 10.9%, compared to the year endedDecember 31, 2018 . This increase was due to an increase in market value of the assets on whichTectonic Advisors earns advisory fees during the year endedDecember 31, 2019 , combined with an increase in advisory income at Sanders Morris, both from an increase in their assets under management, and from increased performance based fees. Brokerage income. Brokerage revenues are generally based on a per share fee or commission to trade a share of a particular stock, bond or other security. In addition, brokerage revenues in this context include private placements, participation in syndication of public offerings, and certain other brokerage revenues, including interest earned on margin lending. Brokerage revenue is dependent on the volume of trading, cash held in brokerage accounts which funds margin lending, and on private placement and syndication activity during the period. Brokerage income for the year endedDecember 31, 2019 increased$882,000 , or 10.1%, compared to the year endedDecember 31, 2018 . These increases are primarily due to increased private placement activity and increases in interest earned on margin lending, offset by the planned termination of an agreement with a former affiliate to assist with transition of its business and decreases in certain segments of traditional brokerage activity. 54
--------------------------------------------------------------------------------
Table of Contents
The chart below reflects our advisory and brokerage assets as ofDecember 31, 2019 and 2018. December 31, December 31, (In thousands) 2019 2018 Advisory assets Tectonic Advisors$ 2,057,570 $ 1,736,637 Sanders Morris 560,820 272,974 Total advisory assets 2,618,390 2,009,611
Brokerage assets -
Total advisory and brokerage assets
Service fees and other income. Service fees includes fees for deposit-related services, and beginning inJanuary 2019 , third party administrative fees related to the acquisition ofNolan . For the year endedDecember 31, 2019 , service fees and other income increased$2.0 million , or 82.6%, compared to the year endedDecember 31, 2018 , which was primarily due to the administrative fees recorded for services provided byNolan of$4.3 million , offset by bargain purchase gain of$1.7 million that occurred during the first quarter 2018. Net loan servicing fees decreased$148,000 , income from securities not readily marketable decreased$150,000 , and the remaining$302,000 decrease is attributable to decreases in other income. Rental income. The Company receives monthly rental income from tenants leasing space in the Bank building. Rental income for the year endedDecember 31, 2019 increased$33,000 , or 10.9%, compared to the year endedDecember 31, 2018 . Non-Interest Expense
The components of non-interest expense were as follows:
Year Ended December 31, (In thousands) 2019 2018
Salaries and employee benefits
2,684 1,927 Trust expenses 2,004 1,979 Brokerage and advisory direct costs 1,765 1,559 Professional fees 1,701 1,062 Data processing 981 994 Other expense 2,896 2,512 Total$ 30,519 $ 24,506 Total non-interest expense for the year endedDecember 31, 2019 increased$6.0 million , or 24.5%, compared to the year endedDecember 31, 2018 . Changes in the various components of non-interest income are discussed below. Salaries and employee benefits. Salaries and employee benefits include employee payroll expense, incentive compensation, health insurance, benefit plans and payroll taxes. Salaries and employee benefits increased$4.0 million , or 27.7%, from$14.5 million for the year endedDecember 31, 2018 to$18.5 million for the year endedDecember 31, 2019 . The acquisition ofNolan accounted for$3.0 million of this increase. The remaining increase was due to an increase in the number of employees in loan production and operation support areas of the Company, and in the trust area related to the addition of participant directed plan services, combined with increases in commissions and incentive bonuses related to increases in brokerage activity, the majority of which was related to the increase private placement activity, and annual merit increases and rate increases for medical benefits. Occupancy and equipment expense. Occupancy and equipment expense include building, furniture, fixtures and equipment depreciation and maintenance costs. Occupancy and equipment expense increased$757,000 , or 39.3%, from$1.9 million for the year endedDecember 31, 2018 to$2.7 million for the year endedDecember 31, 2019 . The acquisition ofNolan accounted for$349,000 of the increase. The remaining increase is related to increased rent and utilities expense atTectonic Advisors andSanders Morris , and an increase in depreciation expense related to improvements to ourHouston office. 55
--------------------------------------------------------------------------------
Table of Contents
Trust expenses. Trust expenses include advisory fees paid on the common trust funds managed by the Company based on the value of the assets held in custody. The volatility of the bond and equity markets impacts the market value of trust assets and the related expenses. The monthly advisory fees are assessed based on the market value of assets at month-end. Trust expenses increased by an immaterial amount for the year endedDecember 31, 2019 as compared to the year endedDecember 31, 2018 . Brokerage and advisory direct costs. Brokerage and advisory direct costs increased$206,000 , or 13.2%, from$1.6 million for the year endedDecember 31, 2018 to$1.8 million for the year endedDecember 31, 2019 , related to increases in brokerage activity and related clearing firm service fees, execution charges and referral fees. Professional fees. Professional fees, which include legal, consulting, audit and professional fees, increased$639,000 , or 60.2%, from$1.1 million for the year endedDecember 31, 2018 to$1.7 million for the year endedDecember 31, 2019 . The increases included$312,000 related to the consulting arrangement with the previous owner ofNolan (see Note 18, Nolan Acquisition, to the consolidated financial statements included in this Form 10-K for more information), and other consulting and professional expenses incurred atNolan of$67,000 , and an increase of$193,000 for consulting expense related to the implementation of the participant directed retirement plan platform for trust clients, which was partially offset by a decrease in professional fees of$134,000 in other areas in the business. Legal fees increased$135,000 related to legal and regulatory matters at Sanders Morris, offset by a decrease of$40,000 in legal fees elsewhere in the business. Audit and tax consulting fees increased by$105,000 during the year endedDecember 31, 2019 as compared to the year endedDecember 31, 2018 related to reviews of our public filings in 2019. Data processing. Data processing includes costs related to the Company's operating systems. Data processing expense decreased by an immaterial amount for the year endedDecember 31, 2019 as compared to the year endedDecember 31, 2018 . The decrease was due to lower trust data processing fees related to the merger of ten common funds with other funds during 2018, partly offset by an increase of$31,000 related to the acquisition ofNolan . Other. Other expenses include costs for insurance,Federal Deposit Insurance Corporation ("FDIC") andOffice of the Comptroller of the Currency ("OCC") assessments, director fees, and regulatory filing fees related to our brokerage business, business travel, management fees, and other operational expenses. Other expenses increased$384,000 , or 15.3%, from$2.5 million for the year endedDecember 31, 2018 to$2.9 million for the year endedDecember 31, 2019 . The increases included$20,000 to reimburse losses to a Bank customer account due to fraudulent activity by an employee of the customer during the first quarter 2019, a$300,000 settlement fee related to a client matter at Sanders Morris incurred during the third quarter of 2019, directors fees of$22,500 , and increases in donations of$34,000 related to the Bank's CRA programs and an increase of$33,000 in our advertising and marketing expenses at Sanders Morris. The remaining increases relate to increased staffing and activity, which increased our expenses in business travel, internet charges, computer services, supplies, and software licenses. These increases were partly offset by a decrease of$103,000 forFDIC insurance premiums, a decrease of$29,000 for employee recruiting expenses, and decreases in management fees, office expenses, filing fees, and other general operating costs. Income Taxes The income tax expense for the years endedDecember 31, 2019 and 2018 was$1.9 million and$1.0 million , respectively. The effective income tax rate was 19.4% and 9.5% for the years endedDecember 31, 2019 and 2018, respectively. The effective income tax rate differed from theU.S. statutory rate of 21% primarily due toTectonic Advisors andSanders Morris' tax status as partnerships for the periods prior toMay 13, 2019 , the date the Tectonic Merger was completed. Segment Reporting
We have three operating segments: Banking,
Our Banking operating segment includes both commercial and consumer banking services. Commercial banking services are provided primarily to small- to medium-sized businesses and their employees, which includes a wide array of lending and cash management products. Consumer banking services include lending and depository services.
OurOther Financial Services segment includesTectonic Advisors ,Sanders Morris , the Bank's Trust Division, which includes a TPA services unit, and HWG. Through these business divisions, we offer investment advisory and brokerage services to individuals and businesses, private trust services, and financial management services, including personal wealth management, retirement plan design and administrative services, and insurance brokerage services.
A third operating segment, HoldCo, includes the Bank's immediate parent and related subordinated debt, as well as operations of the financial holding company that serves as parent for the group overall. Our principal source of revenue is dividends from our subsidiaries.
56
--------------------------------------------------------------------------------
Table of Contents
The following table presents key metrics related to our segments:
Year Ended December 31, 2019 Other Financial (In thousands) Banking Services HoldCo Consolidated Revenue(1)$ 13,829 $ 28,924 $ (898 ) $ 41,855 Net income (loss) before taxes$ 4,153 $ 7,390 $ (1,762 ) $ 9,781 Year Ended December 31, 2018 Other Financial (In thousands) Banking Services HoldCo Consolidated Revenue(1)$ 12,269 $ 22,697 $ 896 $ 35,862 Net income before taxes$ 4,003 $ 6,272 $ 356 $ 10,631
(1) Net interest income plus non-interest income
Banking Income before taxes for the year endedDecember 31, 2019 increased$150,000 , or 3.7%, compared to the year endedDecember 31, 2018 . The increase was primarily the result of a$1.4 million increase in net interest income and a$136,000 increase in non-interest income, partly offset by an$830,000 increase in the provision for loan losses and a$580,000 increase in non-interest expense. Net interest income for the year endedDecember 31, 2019 increased$1.4 million , or 12.3%, compared to the year endedDecember 31, 2018 , due primarily to an increase in average volume of loans, partially offset by increase in average volume of interest-bearing deposits and average rates paid on interest-bearing deposits. See the analysis of net interest income included in the section captioned "Net Interest Income" included elsewhere in this discussion. The provision for loan losses for the year endedDecember 31, 2019 increased$830,000 , or 114.5%, to$1.6 million , compared to$725,000 for the year endedDecember 31, 2018 . See "Allowance for Loan Losses" included elsewhere in this discussion. Non-interest income for the year endedDecember 31, 2019 increased$136,000 , or 18.8%, compared to the year endedDecember 31, 2018 , which was primarily due to a$244,000 increase in gain on sale of loans and a$32,000 increase in rental income, partly offset by a$140,000 decrease in service fees, primarily the net loan servicing fees. See the analysis of non-interest income included in the section captioned "Non-Interest Income" included elsewhere in this discussion. Non-interest expense for the year endedDecember 31, 2019 increased$580,000 , or 7.7%, compared to the year endedDecember 31, 2018 . The increase was primarily related to increases in salaries and employee benefits, occupancy and equipment expense and data processing expense, partly offset be a decrease in other expenses. See the analysis of non-interest expense included in the section captioned "Non-Interest Expense" included elsewhere in this discussion. Other Financial Services Income before taxes for the year endedDecember 31, 2019 increased$1.1 million , or 17.8%, compared to the year endedDecember 31, 2018 . The increase was primarily the result of a$6.2 million increase in non-interest income partly offset by a$5.1 million increase in non-interest expense. Non-interest income for the year endedDecember 31, 2019 increased$6.2 million , or 27.4%, compared to the year endedDecember 31, 2018 . The increase was primarily due to increases in brokerage income of$882,000 , related to increased trading activity, including private placements, and increases in service fees and other income of$4.0 million , which was primarily related to theNolan acquisition onJanuary 2, 2019 . In addition, advisory and trust income increased related to increases in the average market value of trust assets and advisory assets under management by$1.3 million for the year endedDecember 31, 2019 as compared to the year endedDecember 31, 2018 . See the analysis of non-interest income included in the section captioned "Non-Interest Income" included elsewhere in this discussion. Non-interest expense for the year endedDecember 31, 2019 increased$5.1 million , or 31.1%, compared to the year endedDecember 31, 2018 . The increases were primarily related to increases in salaries and employee benefits, as well as increases in occupancy and equipment costs and professional fees, related to the acquisition of theNolan business and other new business activity, as well as annual merit increases. Brokerage and advisory direct costs showed increases primarily from increased brokerage activity, which led to increases in clearing fees and execution charges. See the analysis of non-interest income included in the section captioned "Non-Interest Expense" included elsewhere in this discussion. 57
--------------------------------------------------------------------------------
Table of Contents HoldCo The HoldCo operating segment had a loss before taxes of$1.8 million during the year endedDecember 31, 2019 , compared to income before taxes of$356,000 for the year endedDecember 31, 2018 . The loss resulted from a decrease in other income as compared to the year endedDecember 31, 2018 , during which we recognized a gain on bargain purchase of$1.7 million related to the acquisition of Summer Wealth Management during the first quarter of 2018. In addition, there were increases in salaries and compensation expense and professional fees for the year endedDecember 31, 2019 as compared to the prior year, partly offset by decreases in other expense and interest expense related to the payoff of the bank stock loan inMay 2019 . Financial ConditionInvestment Securities The primary purpose of the Company's investment portfolio is to provide a source of earnings for liquidity management purposes, to provide collateral to pledge against borrowings, and to control interest rate risk. In managing the portfolio, the Company seeks to attain the objectives of safety of principal, liquidity, diversification, and maximized return on investment. Securities are classified as available for sale when we intend to hold for an indefinite period of time but might be sold before maturity. Securities available for sale are carried at fair value, with unrealized holding gains and losses reported as a separate component of stockholders' equity as other comprehensive income (loss), net of tax. Securities are classified as held to maturity and carried at amortized cost when management has the positive intent and ability to hold them to maturity. As ofDecember 31, 2019 and 2018, securities available for sale consisted ofU.S. government agency securities and mortgage-backed securities guaranteed byU.S. government agencies. Securities held to maturity consisted of Property Assessed Clean Energy investments. These investment contracts or bonds, located inCalifornia andFlorida , originate under a contractual obligation between the property owners, the local county administration, and a third-party administrator and sponsor. The assessments are created to fund the purchase and installation of energy saving improvements to the property, such as solar panels. Generally, as a property assessment, the total assessment is repaid in installments over a period of 10 to 15 years by the then current property owner(s). Each installment is collected by the County Tax Collector where the property is located. The assessments are an obligation of the property. Each assessment is equal in priority to the other property taxes and assessments associated with the property, including local school, city, and county ad-valorem taxes. Restricted securities consisted of FRB stock, having an amortized cost and fair value of$1.2 million and$980,000 as ofDecember 31, 2019 and 2018, respectively, and FHLB stock, having an amortized cost and fair value of$1.2 million and$946,000 as ofDecember 31, 2019 and 2018, respectively.
Securities not readily marketable consists of an income interest in a private investment.
The following presents the amortized cost and fair values of the securities portfolio as of the dates indicated:
As of December 31, 2019 As of December 31, 2018 Amortized Estimated Amortized Estimated (In thousands) Cost Fair Value Cost Fair Value Securities available for sale: U.S. government agencies$ 10,684 $ 10,731 $ 9,233 $ 9,008 Mortgage-backed securities 1,925 1,946 2,536 2,496
Total securities available for sale
Securities held to maturity: Property assessed clean energy$ 6,349 $ 6,349 $ 7,722 $ 7,722 Securities, restricted: Other$ 2,417 $ 2,417 $ 1,926 $ 1,926
Securities not readily marketable
58
--------------------------------------------------------------------------------
Table of Contents
The following table summarizes the maturity distribution schedule with corresponding weighted-average yields of securities available for sale and securities held to maturity as ofDecember 31, 2019 . Yields are calculated based on amortized cost. Mortgage-backed securities are included in maturity categories based on their stated maturity date. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations. Other securities classified as restricted include stock in the FRB and the FHLB, which have no maturity date. These securities have been included in the total column only and are not included in the total yield. Maturing After One Year After Five Years One Year Through Through After or Less Five Years Ten Years Ten Years Total (In thousands, except percentages) Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Securities available for sale: U.S. government agencies $ - - %$ 2,450 2.43 %$ 7,924 2.44 %$ 310 3.62 %$ 10,684 2.47 % Mortgage-backed securities - - 241 3.13 943 2.89 741 2.68 1,925 2.84 Total $ - - %$ 2,691 2.49 %$ 8,867 2.49 %$ 1,051 2.95 %$ 12,609 2.53 % Securities held to maturity: Property assessed clean energy $ - - %$ 673 6.34 %$ 2,819 5.71 %$ 2,857 7.32 %$ 6,349 6.50 % Securities, restricted: Other $ - - % $ - - % $ - - % $ - - %$ 2,417 - % Securities not readily marketable $ - - % $ - - % $ - - % $ - - %$ 100 - % Loan Portfolio Composition Total loans excluding allowance for loan losses, increased$56.2 million , or 23.9%, to$291.1 million atDecember 31, 2019 , compared to$234.9 million atDecember 31, 2018 . SBA loans comprise the largest group of loans in our portfolio totaling$139.7 million , or 48.0% of the total loans atDecember 31, 2019 , compared to$91.6 million , or 39.0% atDecember 31, 2018 . Commercial and industrial loans totaled$85.5 million , or 29.4% of the total loans atDecember 31, 2019 , compared to$88.9 million , or 37.8%, atDecember 31, 2018 . Commercial and construction real estate loans totaled$54.8 million , or 18.8%, of the total loans atDecember 31, 2019 , compared to$39.9 million , or 17.0%, atDecember 31, 2018 .
The following table sets forth the composition of our loans held for investment:
(In
thousands, except percentages) 2019 2018 2017
2016 2015 Loans held for investment at December 31, Commercial and industrial$ 85,476 $ 88,915 $ 86,552 $ 81,945 $ 71,562 Consumer installment 3,409 3,636 4,483 3,749 2,049 Real estate - residential 5,232 7,488 6,826 6,531 6,851 Real estate - commercial 46,981 35,221 19,203 20,042 16,736 Real estate - construction and land 7,865 4,653 8,477 6,335 10,322 SBA 7(a) guaranteed 69,963 33,884 11,826 - - SBA 7(a) unguaranteed 47,132 44,326 41,373 29,859 22,596 SBA 504 22,591 13,400 17,109 9,825 6,349 USDA 2,430 3,367 3,415 3,589 2,787 Other - 17 2 6 1,542 Total Loans$ 291,079 $ 234,907 $ 199,266 $ 161,881 $ 140,794 The Company records the guaranteed portion of the SBA 7(a) andUSDA loans as held for sale at the lower of cost or fair value. Loans held for sale totaled$9.9 million and$16.3 million atDecember 31, 2019 and 2018, respectively. During the year endedDecember 31, 2019 , the Company elected to reclassify$36.5 million of the SBA loans held for sale to held for investment. The Company determined that holding these loans provides better long-term risk adjusted returns than selling the loans. 59
--------------------------------------------------------------------------------
Table of Contents
Loan Origination/Risk Management. The Company has certain lending policies and procedures in place that are designed to maximize loan income with an acceptable level of risk. Management reviews and approves these policies and procedures on an annual basis and makes changes as appropriate. Management receives and reviews monthly reports related to loan originations, loan quality, concentrations of credit, loan delinquencies and nonperforming and potential problem loans. Diversification in the loan portfolio is a means of managing risk associated with fluctuations in economic conditions, both by type of loan and geographic location. Commercial and industrial loans, which are predominantly loans to dentists, are underwritten based on historical and projected income of the business and individual borrowers and guarantors. The Company utilizes a comprehensive global debt service coverage analysis to determine debt service coverage ratios. This analysis compares global cash flow of the borrowers and guarantors on an individual credit to existing and proposed debt after consideration of personal and business related other expenses. Collateral is generally a lien on all available assets of the business borrower including intangible assets. Credit worthiness of individual borrowers and guarantors is established through the use of credit reports and credit scores. Consumer loans are evaluated on the basis of credit worthiness as established through the use of credit reports and credit scores. Additional credit quality indicators include borrower debt to income ratios based on verifiable income sources. Real estate mortgage loans are evaluated based on collateral value as well as global debt service coverage ratios based on historical and projected income from all related sources including the collateral property, the borrower, and all guarantors where applicable. The Company originates SBA loans which are sometimes sold into the secondary market. The Company continues to service these loans after sale and is required under the SBA programs to retain specified amounts. The two primary SBA loan programs that the Company offers are the basic 7(a) loan guaranty program and the 504 loan program in conjunction with junior lien financing from aCertified Development Company ("CDC"). The 7(a) program serves as the SBA's primary business loan program to help qualified small businesses obtain financing when they might not be eligible for business loans through normal lending channels. Loan proceeds under this program can be used for most business purposes including working capital, machinery and equipment, furniture and fixtures, land and building (including purchase, renovation and new construction), leasehold improvements and debt refinancing. Loan maturity is generally up to 10 years for non-real estate collateral and up to 25 years for real estate collateral. The 7(a) loan is approved and funded by a qualified lender, partially guaranteed by the SBA and subject to applicable regulations. In general, the SBA guarantees up to 75% of the loan amount depending on loan size. The Company is required by the SBA to service the loan and retain a contractual minimum of 5% on all SBA 7(a) loans, but generally retains 25% (the unguaranteed portion). The servicing spread is 1% of the guaranteed portion of the loan that is sold in the secondary market. The 504 program is an economic development-financing program providing long-term, low down payment loans to businesses. Typically, a 504 project includes a loan secured from a private-sector lender with a senior lien, a loan secured from a CDC (funded by a 100% SBA-guaranteed debenture) with a junior lien covering up to 40% of the total cost, and a contribution of at least 10% equity from the borrower. Debenture limits are$5.0 million for regular 504 loans and$5.5 million for those 504 loans that meet a public policy goal.
The SBA has designated the Bank as a "Preferred Lender". As a Preferred Lender, the Bank has been delegated loan approval, closing and most servicing and liquidation authority from the SBA.
The Company also offers Business & Industry ("B&I") program loans through theUSDA . These loans are similar to the SBA product, except they are guaranteed by theUSDA . The guaranteed amount is generally 80%. B&I loans are made to businesses in designated rural areas and are generally larger loans to larger businesses than the SBA 7(a) loans. Similar to the SBA 7(a) product, they can be sold into the secondary market. These loans can be utilized for rural commercial real estate and equipment. The loans can have maturities up to 30 years and the rates can be fixed or variable. Construction and land development loans are evaluated based on the borrower's and guarantor's credit worthiness, past experience in the industry, track record and experience with the type of project being considered, and other factors. Collateral value is determined generally by independent appraisal utilizing multiple approaches to determine value based on property type.
For all loan types, the Company establishes guidelines for its underwriting criteria including collateral coverage ratios, global debt service coverage ratios, and maximum amortization or loan maturity terms.
Loan concentrations are considered to exist when there are amounts loaned to multiple borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. As ofDecember 31, 2019 , our loan portfolio included$69.2 million of loans, approximately 23.8% of our total funded loans, to the dental industry, compared to$76.2 million , or 32.4% of total funded loans, as ofDecember 31, 2018 . We believe that these loans are to credit worthy borrowers and are diversified geographically. 60
--------------------------------------------------------------------------------
Table of Contents
As ofDecember 31, 2019 , 48.2% of the loan portfolio, or$140.2 million , matured or re-priced within one year or less. The following table presents the contractual maturity ranges for commercial, consumer and real estate loans outstanding as ofDecember 31, 2019 and 2018, and also presents for each maturity range the portion of loans that have fixed interest rates or variable interest rates over the life of the loan in accordance with changes in the interest rate environment as represented by the base rate: As of December 31, 2019 Over 1 Year through 5 Years Over 5 Years Floating or Floating or One Year or Adjustable Adjustable (In thousands) Less Fixed Rate Rate Fixed Rate Rate Total
Commercial and industrial
8,880$ 54,419 $ -$ 85,476 Consumer installment 3,070 339 - - - 3,409 Real estate - residential 1,258 3,974 - - - 5,232 Real estate - commercial 4,602 12,974 21,287 1,998 6,120 46,981 Real estate - construction and land 4,121 99 3,645 - - 7,865 SBA 7(a) guaranteed 59,065 115 10,004 779 - 69,963 SBA 7(a) unguaranteed 42,094 38 4,498 502 - 47,132 SBA 504 8,456 - 11,747 - 2,388 22,591 USDA 2,430 - - - - 2,430 Other - - - - - - Total$ 140,213 $ 24,599 $ 60,061 $ 57,698 $ 8,508 $ 291,079 As of December 31, 2018 Over 1 Year through 5 Years Over 5 Years Floating or Floating or One Year or Adjustable Adjustable (In thousands) Less Fixed Rate Rate Fixed Rate Rate Total
Commercial and industrial
-$ 88,915 Consumer installment 728 2,288 - 620 - 3,636 Real estate - residential 1,641 5,041 746 60 - 7,488 Real estate - commercial 3,184 4,422 19,074 3,146 5,395 35,221 Real estate - construction and land 3,912 741 - - - 4,653 SBA 7(a) guaranteed 29,082 141 4,091 570 - 33,884 SBA 7(a) unguaranteed 39,947 47 2,306 776 1,250 44,326 SBA 504 4,226 - 8,074 - 1,100 13,400 USDA 2,432 - 935 - - 3,367 Other 17 - - - - 17 Total$ 94,640 $ 20,221 $ 51,626 $ 60,675 $ 7,745 $ 234,907
Scheduled contractual principal repayments of loans do not reflect the actual life of such assets. The average life of loans is less than their average contractual terms due to prepayments.
Loans acquired in acquisitions are initially recorded at fair value with no carryover of the related allowance for credit losses. The fair value of the loans is determined using market participant assumptions in estimating the amount and timing of principal and interest cash flows initially expected to be collected on the loans and discounting those cash flows at an appropriate market rate of interest.
Under the accounting model for acquired loans, the excess of cash flows expected to be collected over the carrying amount of the loans, referred to as the "accretable yield," is accreted into interest income over the life of the loans.
Non-performing Assets Non-performing assets include non-accrual loans, loans 90 days or more past due and still accruing, and foreclosed assets. Non-performing assets totaled$6.0 million as ofDecember 31, 2019 , compared to$2.5 million as ofDecember 31, 2018 . As ofDecember 31, 2019 , non-performing assets consisted of SBA non-accrual loans totaling$6.0 million , of which$4.9 million was guaranteed by the SBA, and one commercial and industrial loan of$60,000 . As ofDecember 31, 2018 , non-performing assets consisted solely of SBA non-accrual loans totaling$2.5 million , of which$2.3 million was guaranteed by the SBA. 61
--------------------------------------------------------------------------------
Table of Contents
Loans are considered past due when principal and interest payments have not been received as of the date such payments are contractually due. Loans are placed on non-accrual status when management has concerns relating to the ability to collect the loan interest and generally when such loans are 90 days or more past due. Accrued interest is charged off and no further interest is accrued. Subsequent payments received on non-accrual loans are recorded as reductions of principal. A loan is considered impaired when it is probable that not all principal and interest amounts will be collected according to the original loan contract. There were no loans past due 90 days or more and still accruing interest as ofDecember 31, 2019 and 2018. Foreclosed assets represent property acquired as the result of borrower defaults on loans. Foreclosed assets are recorded at estimated fair value, less estimated selling costs, at the time of foreclosure. Write-downs occurring at foreclosure are charged against the allowance for possible loan losses. On an ongoing basis, properties are appraised as required by market indications and applicable regulations. Write-downs are provided for subsequent declines in value and are included in other non-interest expense along with other expenses related to maintaining the properties. There were no foreclosed assets as ofDecember 31, 2019 and 2018.
The following table sets forth certain information regarding non-performing assets and restructured loans by type, including ratios of such loans to total assets as of the dates indicated:
AtDecember 31 ,
(In
thousands, except percentages) 2019 2018 2017
2016 2015 Non-accrual loans: Commercial and industrial$ 60 $ - $ -$ 39 $ 443 SBA guaranteed 4,892 2,252 2,186 - 477 SBA unguaranteed 1,039 293 124 - - Total non-accrual loans 5,991 2,545 2,310 39 920 Loans past due 90 days and accruing - - - - - Foreclosed assets - - - - - Total non-performing assets$ 5,991 $ 2,545 $ 2,310 $ 39 $ 920 As a % of total loans and foreclosed assets 2.06 % 1.08 % 1.16 % 0.02 % 0.66 % As a % of total assets 1.64 0.82 0.84 0.02 0.52 Restructured loans are considered "troubled debt restructurings" if, due to the borrower's financial difficulties, we have granted a concession that we would not otherwise consider. This may include a transfer of real estate or other assets from the borrower, a modification of loan terms, or a combination of the two. Modifications of terms that could potentially qualify as a troubled debt restructuring include reduction of contractual interest rate, extension of the maturity date at a contractual interest rate lower than the current market rate for new debt with similar risk, or a reduction of the face amount of debt, either forgiveness of principal or accrued interest. As ofDecember 31, 2019 and 2018, we had no loans considered to be a troubled debt restructuring.
Allowance for Loan and Lease Losses
ALLL is a valuation allowance for credit losses in the loan portfolio. Management has adopted a methodology to properly analyze and determine an adequate loan loss allowance, which includes allowance allocations calculated in accordance with FASB ASC Topic 310, Receivables, and allowance allocations calculated in accordance with FASB ASC Topic 450, Contingencies. The analysis is based on sound, reliable and well documented information and is designed to support an allowance that is adequate to absorb all estimated incurred losses in our loan portfolio. In estimating the specific and general exposure to loss on impaired loans, we have considered a number of factors, including the borrower's character, overall financial condition, resources and payment record, the prospects for support from any financially responsible guarantors, and the realizable value of any collateral.
We also consider other internal and external factors when determining the allowance for loan losses, which include, but are not limited to, changes in national and local economic conditions, loan portfolio concentrations, and trends in the loan portfolio.
Senior management and the Directors' Loan Committee review this calculation and the underlying assumptions on a routine basis not less frequently than quarterly.
62
--------------------------------------------------------------------------------
Table of Contents
Under accounting standards for business combinations, acquired loans are recorded at fair value with no credit loss allowance on the date of acquisition. A provision for credit losses is recorded in periods after the date of acquisition for the emergence of new probable and estimable losses on acquired non-credit impaired loans. As ofDecember 31, 2019 and 2018, we had no acquired loans requiring a credit loss allowance. The entire loan portfolio acquired in the acquisition ofT Bancshares onMay 15, 2017 was initially recorded at fair value with no carryover of the related allowance for credit losses. The allowance for loan losses represents the calculated reserve for new loans originated since the acquisition, as well as reserves assessed since the acquisition on acquired loans. The allowance for loan losses totaled$1.4 million and$874,000 , atDecember 31, 2019 and 2018, respectively, based upon measured loan portfolio balances of$195.5 million and$121.2 million , respectively. During the year endedDecember 31, 2019 , the Company had charge-offs of$1.1 million and recoveries of$51,000 . For the year endedDecember 31, 2018 , the Company had charge-offs of$267,000 , and recoveries of$30,000 . The total reserve percentage for loans originated post-Tectonic Merger was 0.72% atDecember 31, 2019 and 2018. Loans acquired in the acquisition inMay 2017 were discounted to fair value. The discount balance is compared to a calculated allowance for those loans, and as long as the discount is higher, no allowance for loan loss is recognized. There was no allowance for loan loss recognized as ofDecember 31, 2019 and 2018 for the loans acquired. Based on an analysis performed by management atDecember 31, 2019 , the allowance for loan losses is believed to be adequate to cover estimated loan losses in the portfolio as of that date based on the loan loss methodology employed by management. However, management's judgment is based upon a number of assumptions about future events, which are believed to be reasonable, but which may or may not prove valid. Thus, charge-offs in future periods may exceed the allowance for loan losses or significant additional increases in the allowance for loan losses may be required.
The table below presents a summary of the Company's net loan loss experience and provisions to the ALLL for the period indicated:
(In
thousands, except percentages) 2019 2018 2017
2016 2015 Balance at January 1,$ 874 $ 386 $ 1,695 $ 1,564 $ 1,695 Charge-offs: Commercial and industrial 214 1 9 391 - Consumer installment - - - 97 - SBA 7(a) 858 266 360 - 159 Total charge-offs 1,072 267 369 488 159 Recoveries: Commercial and industrial 30 - 8 19 22 Consumer installment - - - - - Real estate - construction and land - - - 10 6 SBA 7(a) 21 30 1 1 - Total recoveries 51 30 9 30 28 Net charge-offs 1,020 237 360 458 131 Provision for loan losses 1,555 725 736 589 - Reduction related to acquisition of predecessor - - (1,685 ) - - Balance at December 31,$ 1,408 $ 874 $ 386 $ 1,695 $ 1,564 Loans at year-end$ 291,079 $ 234,907 $ 199,266 $ 161,881 $ 140,794 Average loans 275,025 231,385 193,482 163,580 143,005 Net charge-offs/average loans 0.37 % 0.10 % 0.19 % 0.28 % 0.09 % Allowance for loan losses/year-end loans 0.48 0.37 0.19 1.05 1.11 Total provision for loan losses/average loans 0.57 0.31 0.38 0.36 0.00 63
--------------------------------------------------------------------------------
Table of Contents
The following tables set forth the allocation of the allowance as of the date indicated and the percentage of loans in each category to total gross loans as of the date indicated: At December 31, 2019 2018 2017 2016 2015 Allowance Allowance Allowance (In thousands) Amount Allowance Amount Allowance Amount Amount Amount
Commercial and industrial$ 501 $ 419 $ 237$ 985 $ 878 Consumer installment 27 27 13 17 26 Real estate - residential 22 27 16 79 86 Real estate - commercial 347 210 25 241 210 Real estate - construction and land 76 34 27 77 130 SBA 435 157 68 296 214 USDA - - - - - Other - - - - 20 Total allowance for loan losses$ 1,408 $ 874 $ 386$ 1,695 $ 1,564 2019 2018 2017 2016 2015 %(1) %(1) %(1) %(1) %(1) Commercial and industrial 29.4 % 37.9 % 43.4 % 50.6 % 50.8 % Consumer installment 1.2 1.5 2.3 2.3 1.5 Real estate - residential 1.8 3.2 3.4 4.0 4.9 Real estate - commercial 16.1 15.0 9.6 12.4 11.9 Real estate - construction and land 2.7 2.0 4.3 3.9 7.3 SBA 48.0 39.0 35.3 24.6 20.5 USDA 0.8 1.4 1.7 2.2 2.0 Other - - -
- 1.1 Total allowance for loan losses 100 % 100 % 100 % 100 % 100 %
(1) Percentage of loans in each category to total loans
Deposits Deposits are attracted principally from our primary geographic market area with the exception of time deposits, which, due to the Company's attractive rates, are attracted from across the nation. The Company offers a broad selection of deposit products, including demand deposit accounts, NOW accounts, money market accounts, regular savings accounts, term certificates of deposit and retirement savings plans (such as IRAs). Deposit account terms vary, with the primary differences being the minimum balance required, the time period the funds must remain on deposit, and the associated interest rates. Management sets the deposit interest rates periodically based on a review of deposit flows and a survey of rates among competitors and other financial institutions. The Company relies primarily on customer service and long-standing relationships with customers to attract and retain deposits; however, market interest rates and rates offered by competing financial institutions significantly affect the Company's ability to attract and retain deposits. Total deposits increased$33.2 million , or 13.3%, to$283.6 million as ofDecember 31, 2019 , from$250.4 million as ofDecember 31, 2018 . The following table sets forth our average deposit account balances, the percentage of each type of deposit to total deposits, and average cost of funds for each category of deposits for the periods indicated: Year EndedDecember 31 , Year EndedDecember 31, 2019 2018
(In thousands, except Average Percent of Average Average Percent of Average percentages)
Balance Deposits Rate Balance Deposits Rate Non-interest-bearing deposits$ 35,786 13.7 % - %$ 30,421 13.7 % - % NOW accounts 3,533 1.4 0.24 3,606 1.6 0.28 Money market accounts 54,609 20.8 1.54 51,593 23.1 1.15 Savings accounts 4,207 1.6 0.50 4,981 2.2 0.50 Time deposits$100,000 and over 158,154 60.3 2.54 128,283 57.5 1.90 Time deposits under$100,000 5,853 2.2 2.28 4,292 1.9 1.56 Total deposits$ 262,142 100.0 % 2.22 %$ 223,176 100.0 % 1.62 % 64
--------------------------------------------------------------------------------
Table of Contents
The following table presents maturity of our time deposits of
December 31, (In thousands) 2019 December 31, 2018 Three months or less$ 30,305 $ 31,602 Over three months through six months 37,203
34,282
Over six months through twelve months 70,665 50,127 Over twelve months 39,831 28,165 Total$ 178,004 $ 144,176 Borrowings The Company's FHLB borrowed funds totaled$12.0 million and$5.0 million as ofDecember 31, 2019 and 2018, respectively. The Company has a credit line with the FHLB that requires certain loans and securities to be pledged as collateral for any outstanding borrowings. The collateral pledged as ofDecember 31, 2019 totaled$23.1 million . The Company determines its borrowing needs and renews the advances accordingly at varying terms. As ofDecember 31, 2019 , the Company had an overnight advance of$2.0 million with an interest rate of 1.45%. In addition, the Company had a six-month fixed term advance of$10.0 million with an interest rate of 2.18% and maturity date ofJanuary 27, 2020 . At maturity, the advance was rolled into the overnight advance. AtDecember 31, 2018 , the Company had no overnight advances, and had a three month term advance of$5.0 million , with a fixed interest rate of 2.53% and maturity date ofMarch 13, 2019 . At maturity, the advance was paid off.
The Company also has a credit line with the
As ofDecember 31, 2018 , the Company had a$1.9 million bank stock loan with a variable interest rate of prime plus 0.75% and maturity date ofMay 11, 2028 . The loan was paid in full onMay 31, 2019 using the proceeds from our initial public offering. As ofDecember 31, 2019 and 2018, the Company also had subordinated notes totaling$12.0 million , consisting of$8.0 million issued in 2017 bearing an interest rate of 7.125%, payable semi-annually and maturing onJuly 20, 2027 , and$4.0 million issued in 2018 bearing an interest rate of 7.125%, payable semi-annually and maturing onMarch 31, 2028 . The subordinated notes are unsecured and subordinated in right of payment to the payment of our existing and future senior indebtedness and structurally subordinated to all existing and future indebtedness of our subsidiaries.
Capital Resources and Regulatory Capital Requirements
Shareholders' equity increased$13.0 million to$50.5 million as ofDecember 31, 2019 , from$37.5 million as ofDecember 31, 2018 , after adjusting for the Tectonic Merger. The Tectonic Merger has been accounted for as a combination of businesses under common control in accordance with Topic 805. Under Topic 805, all the assets and liabilities ofTectonic Holdings are carried over to the books of the Company at their then current carrying amounts, and the consolidated financial statements have been retrospectively adjusted to reflect the Tectonic Merger for all periods subsequent to the date at which the entities were under common control,May 15, 2017 . As ofDecember 31, 2018 , the Tectonic Merger had the effect of increasing retained earnings and additional paid in capital by a total of$811,000 , while increasing Series A preferred stock by approximately$8.0 million , attributable to preferred stock outstanding atTectonic Holdings at the time of the Tectonic Merger. The majority of the increase in shareholders' equity of$13.0 million is attributable to the issuance of 1,725,000 shares of Series B preferred stock in our initial public offering, which raised$15.5 million , net of issuance costs, including underwriting discounts and offering expenses, partly offset by the$8.0 million repurchase of the Series A preferred stock. The balance is related to 2019 dividends paid on the Series A preferred stock of$640,000 and on Series B preferred stock of$781,000 , regular distributions made byTectonic Holdings to its limited liability company members prior to the date of the Tectonic Merger of$1.3 million , a$263,000 net after-tax increase in the market value of the securities available for sale, a$109,000 increase in additional paid-in capital related to stock compensation expense, and net income of$7.9 million for the year endedDecember 31, 2019 . 65
--------------------------------------------------------------------------------
Table of Contents
Together with the Bank, the Company is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Bank's and, accordingly, the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company's assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. As ofDecember 31, 2019 , the Company and the Bank met all capital adequacy requirements to which they were subject. As ofDecember 31, 2019 , the Bank qualified as "well capitalized" under the prompt corrective action regulations of Basel III and the OCC. Quantitative measures established by regulations to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined in the regulations), common equity Tier 1 capital (as defined in the regulations) to risk-weighted assets, and of Tier 1 capital (as defined in the regulations) to average assets (as defined in the regulations).
The following table presents our regulatory capital ratios, as well as those of the Bank, as of the dates indicated:
(In thousands) December 31, 2019 December 31, 2018 Amount Ratio Amount RatioTectonic Financial, Inc. Tier 1 Capital (to Average Assets)$ 38,301 11.20 %$ 27,193 9.40 % Common Equity Tier 1 (to Risk Weighted Assets) 21,051 8.20 19,159 8.47 Tier 1 Capital (to Risk Weighted Assets) 38,301 14.92 27,193 12.02 Total Capital (to Risk Weighted Assets) 39,709 15.47 28,067 12.41 T Bank, N.A. Tier 1 Capital (to Average Assets)$ 38,541 11.09 %$ 29,242 10.32 % Common Equity Tier 1 (to Risk Weighted Assets) 38,541 15.16 29,242 13.06 Tier 1 Capital (to Risk Weighted Assets) 38,541 15.16 29,242 13.06 Total Capital (to Risk Weighted Assets) 39,949 15.71 30,116 13.45 In addition to the regulatory requirements of the federal banking agencies,Sanders Morris is subject to the regulatory framework applicable to registered investment advisors under theSEC's Division of Investment Management .Sanders Morris is also regulated byFINRA , which, among other requirements, imposes minimums on its net regulatory capital. As ofDecember 31, 2019 ,Sanders Morris is in compliance withFINRA's net regulatory capital requirements. Liquidity Our liquidity relates to our ability to maintain a steady flow of funds to support our ongoing operating, investing and financing activities. Our board of directors establishes policies and analyzes and manages liquidity to ensure that adequate funds are available to meet normal operating requirements in addition to unexpected customer demands for funds, such as high levels of deposit withdrawals or loan demand, in a timely and cost-effective manner. The most important factor in the preservation of liquidity is maintaining public confidence that facilitates the retention and growth of a large, stable supply of core deposits and funds. Ultimately, public confidence is generated through profitable operations, sound credit quality and a strong capital position. Liquidity management is viewed from a long-term and a short-term perspective as well as from an asset and liability perspective. We monitor liquidity through a regular review of loan and deposit maturities and forecasts, incorporating this information into a detailed projected cash flow model. The Bank's liquidity is monitored by its management, the Asset-Liability Committee and its board of directors who review historical funding requirements, current liquidity position, sources and stability of funding, marketability of assets, options for attracting additional funds, and anticipated future funding needs, including the level of unfunded commitments. The Company's primary sources of funds are retail, small business, custodial, wholesale commercial deposits, loan repayments, maturity of investment securities, other short-term borrowings, and other funds provided by operations. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and loan prepayments are more influenced by interest rates, general economic conditions, and competition. The Company will maintain investments in liquid assets based upon management's assessment of (1) the need for funds, (2) expected deposit flows, (3) yields available on short-term liquid assets, and (4) objectives of the asset/liability management program. 66
--------------------------------------------------------------------------------
Table of Contents
The Company had cash and cash equivalents of$20.2 million , or 5.5% of total assets, as ofDecember 31, 2019 . In addition to the on balance sheet liquidity available, the Company has lines of credit with the FHLB and the FRB, which provide the Company with a source of off-balance sheet liquidity. As ofDecember 31, 2019 , the Company's borrowing capacity with the FHLB was$23.1 million , or 6.3% of assets, of which$12.0 million was utilized. The borrowing capacity with the FRB was$35.0 million , or 9.6% of assets, of which none was utilized or outstanding as ofDecember 31, 2019 . The Company's trust operations serve in a fiduciary capacity for approximately$1.4 billion in total market value of assets as ofDecember 31, 2019 . Some of these custody assets are invested in cash. This cash is maintained either in a third-party money market mutual fund (invested predominately inU.S. Treasury securities and other high grade investments) or in a Bank money market account. Only cash which is fully insured by theFDIC is maintained at the Bank. This cash can be moved readily between the Bank and the third party money market mutual fund. As ofDecember 31, 2019 , approximately$29.1 million of cash could be held at the Bank in deposit accounts fully insured by theFDIC . As ofDecember 31, 2019 , deposits of$12.7 million were held at the Bank, leaving$16.4 million which is available to the Bank. As ofDecember 31, 2019 ,Sanders Morris andTectonic Advisors held approximately$5.0 million in their accounts at the Bank, which is eliminated on the financial statements and in the cash and cash equivalents as stated above.
Off-Balance Sheet Arrangements and Contractual Obligations
We are a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the accompanying balance sheets. Our exposure to credit loss in the event of non-performance by the other party to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. We follow the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The amount of credit extended is based on management's credit evaluation of the customer and, if deemed necessary, may require collateral. Standby letters of credit are conditional commitments issued by us to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers.
The following table presents future contractual obligations to make future payments, excluding interest, for the periods indicated:
As of December 31, 2019 Less than One to Over Three to Over Five (In thousands) One Year Three Years Five Years Years Total FHLB$ 12,000 $ - $ - $ -$ 12,000 Subordinated notes - - - 12,000 12,000 Time deposits 141,778 36,361 6,213 - 184,352 Minimum lease payments 776 603 83 - 1,462 Total$ 154,554 $ 36,964 $ 6,296$ 12,000 $ 209,814 The following table presents contractual financial commitments for the periods indicated, however some of these commitments may expire unused or only partially used, so the total amounts do not necessarily reflect future cash requirements. As of December 31, 2019 Less than One to Over Three to Over Five (In thousands) One Year Three Years Five Years Years Total
Undisbursed loan commitments$ 13,068 $ 247 $ 1,265$ 17,009 $ 31,589 Standby letters of credit 172 - - - 172 67
--------------------------------------------------------------------------------
Table of Contents
© Edgar Online, source