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Mackinac Financial Corp/MI – ‘10-K’ for 12/31/15

On:  Wednesday, 3/30/16, at 6:02am ET   ·   For:  12/31/15   ·   Accession #:  1104659-16-108403   ·   File #:  0-20167

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  As Of               Filer                 Filing    For·On·As Docs:Size             Issuer                      Filing Agent

 3/30/16  Mackinac Financial Corp/MI        10-K       12/31/15  102:21M                                    Toppan Merrill/FA

Annual Report   —   Form 10-K   —   Sect. 13 / 15(d) – SEA’34
Filing Table of Contents

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                Shareholders' Equity                                             
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‘10-K’   —   Annual Report
Document Table of Contents

Page (sequential)   (alphabetic) Top
 
11st Page  –  Filing Submission
"Table of Contents
"Part I
"Item 1
"Business
"Item 1B
"Unresolved Staff Comments
"Item 2
"Properties
"Item 3
"Legal Proceedings
"Item 4
"Mine Safety Disclosures
"Part Ii
"Item 5
"Market for Registrant's Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities
"Item 6
"Selected Financial Data
"Item 7
"Management's Discussion and Analysis of Financial Condition and Results of Operations
"Item 7A
"Quantitative and Qualitative Disclosures About Market Risk
"Item 8
"Financial Statements and Supplementary Data
"Item 9
"Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
"Item 9A
"Controls and Procedures
"Item 9B
"Other Information
"Part Iii
"Item 10
"Directors, Executive Officers, and Corporate Governance
"Item 11
"Executive Compensation
"Item 12
"Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
"Item 13
"Certain Relationships, Related Transactions and Director Independence
"Item 14
"Principal Accountant Fees and Services
"Part Iv
"Item 15
"Exhibits and Financial Statement Schedules

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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-K

 

x      ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2015

 

OR

 

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from          to         

 

Commission File Number 0-20167

 

Mackinac Financial Corporation

(Exact name of registrant as specified in its charter)

 

Michigan
(State or other jurisdiction of
incorporation or organization)

 

38-2062816
(I.R.S. Employer
Identification Number)

 

130 South Cedar Street

Manistique, Michigan 49854

(888) 343-8147
(Address, including ZIP Code, and telephone number,
including area code, of registrant’s principal executive offices)

 

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

Common Stock, no par value

 

The NASDAQ Stock Market, LLC

 

Securities registered pursuant to Section 12(g) of the Act: None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o  No x

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o  No x

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x  No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

 

Non-accelerated filer o
(Do not check if a smaller
reporting company)

 

Smaller reporting
company
x

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o  No x

 

The aggregate market value of the common stock held by non-affiliates of the Registrant, based on a per share price of $10.53 as of June 30, 2015, was $30.554 million.  As of March 28, 2016, there were outstanding 6,236,250 shares of the Corporation’s Common Stock (no par value).

 

Documents incorporated by reference:

 

Certain portions, as expressly described in this report, of the registrant’s Proxy Statement for the 2016 Annual Meeting of Shareholders to be filed subsequently are incorporated by reference into this report.

 

 

 



Table of Contents

 

TABLE OF CONTENTS

 

PART I

 

 

2

 

 

 

 

 

Item 1.

Business

2

 

Item 1B.

Unresolved Staff Comments

12

 

Item 2.

Properties

12

 

Item 3.

Legal Proceedings

12

 

Item 4.

Mine Safety Disclosures

12

 

 

 

 

PART II

 

 

13

 

 

 

 

 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities

13

 

Item 6.

Selected Financial Data

15

 

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

16

 

Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

34

 

Item 8.

Financial Statements and Supplementary Data

35

 

Item 9.

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

75

 

Item 9A.

Controls and Procedures

75

 

Item 9B.

Other Information

75

 

 

 

 

PART III

 

 

76

 

 

 

 

 

Item 10.

Directors, Executive Officers, and Corporate Governance

76

 

Item 11.

Executive Compensation

76

 

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

76

 

Item 13.

Certain Relationships, Related Transactions and Director Independence

77

 

Item 14.

Principal Accountant Fees and Services

77

 

 

 

 

PART IV

 

 

77

 

 

 

 

 

Item 15.

Exhibits and Financial Statement Schedules

77

 

i



Table of Contents

 

PART I

 

Item 1.                     Business

 

Mackinac Financial Corporation (the “Corporation”) was incorporated under the laws of the state of Michigan on December 16, 1974.  The Corporation changed its name from “First Manistique Corporation” to “North Country Financial Corporation” on April 14, 1998.  On December 16, 2004, the Corporation changed its name from North Country Financial Corporation to Mackinac Financial Corporation.  The Corporation is headquartered and located in Manistique, Michigan.  The mailing address of the Corporation is 130 South Cedar Street, Manistique, Michigan 49854.

 

In December of 2004, the Corporation was recapitalized with the net proceeds, approximately $26.2 million, from the issuance of $30 million of common stock in a private placement.  Commensurate with this recapitalization, the Corporation changed its name from North Country Financial Corporation to Mackinac Financial Corporation, and its subsidiary bank adopted the “mBank” identity early in 2005.

 

On December 5, 2014, the Corporation completed its acquisition of Peninsula Financial Corporation (“PFC”) and its wholly owned subsidiary, The Peninsula Bank.  PFC had six branch offices and $126 million in assets as of the acquisition date.  The results of operations due to the merger have been included in the Corporation’s results since the acquisition date.  The merger was effected by a combination of cash payments and the issuance of shares of the Corporation’s common stock to PFC shareholders.  Each share of PFC’s 288,000 shares of common stock was converted into the right to receive, at the shareholder’s election and subject to certain limitations (i) approximately 3.64 shares of the Corporation’s common stock, with cash paid in lieu of fractional shares, or (ii) cash at $46.13 per share of common stock.  The conversion of PFC’s shares resulted in the issuance of 695,361 shares of the Corporation’s common stock and payment of $4.484 million in cash to the former PFC shareholders.

 

The Corporation owns all of the outstanding stock of its banking subsidiary, mBank (the “Bank”).  The Bank currently has 13 branch offices located in the Upper Peninsula of Michigan and 4 branch offices located in Michigan’s Lower Peninsula.  The Bank maintains offices in Chippewa, Grand Traverse, Luce, Manistee, Marquette, Menominee, Oakland, Otsego, and Schoolcraft Counties.  The Bank provides drive-in convenience at 12 branch locations and has 22 automated teller machines.  The Bank has no foreign offices.

 

The Corporation also owns three non-bank subsidiaries: First Manistique Agency, presently inactive; First Rural Relending Company, a relending company for nonprofit organizations; and North Country Capital Trust, a statutory business trust which was formed solely for the issuance of trust preferred securities.  The Bank represents the principal asset of the Corporation.  The Bank has one wholly owned subsidiary, mBank Title Insurance Agency, LLC, which provided title insurance services until 2014 and is currently inactive.  The Corporation and its subsidiary Bank are engaged in a single industry segment, commercial banking, broadly defined to include commercial and retail banking activities, along with other permitted activities closely related to banking.

 

Operations

 

The principal business of the Corporation is the general commercial banking business, conducted through the Bank’s provision of a full range of loan and deposit products.  These banking services include customary retail and commercial banking services, including checking and savings accounts, time deposits, interest bearing transaction accounts, safe deposit facilities, real estate mortgage lending, commercial lending, commercial and governmental lease financing, and direct and indirect consumer financing.  Funds for the Bank’s operation are also provided by brokered deposits and through borrowings from the Federal Home Loan Bank (“FHLB”) system, proceeds from the sale of loans and mortgage-backed and other securities, funds from repayment of outstanding loans and earnings from operations.  Earnings depend primarily upon the difference between (i) revenues from loans, investments, and other interest-bearing assets and (ii) expenses incurred in payment of interest on deposit accounts and borrowings, maintaining an adequate allowance for loan losses, and general operating expenses.

 

Competition

 

Banking is a highly competitive business.  The Bank competes for loans and deposits with other banks, savings and loan associations, credit unions, mortgage bankers, and investment firms in the scope and type of services offered, pricing of loans, interest rates paid on deposits, and number and location of branches, among other things.  The Bank also faces competition for investors’ funds from mutual funds and corporate and government securities.

 

2



Table of Contents

 

The Bank competes for loans principally through interest rates and loan fees, the range and quality of the services it provides and the locations of its branches.  In addition, the Bank actively solicits deposit-related clients and competes for deposits by offering depositors a variety of savings accounts, checking accounts, and other services.

 

Employees

 

As of December 31, 2015, the Corporation and its subsidiaries employed, in the aggregate, 173 employees equating to 171 full-time equivalents.  The Corporation provides its employees with comprehensive medical and dental benefit plans, a life insurance plan, and a 401(k) plan.  None of the Corporation’s employees are covered by a collective bargaining agreement with the Corporation.  Management believes its relationship with its employees to be good.

 

Business

 

The Bank makes mortgage, commercial, and installment loans to customers throughout Michigan.  Fees may be charged for these services.  The Bank’s most prominent concentration in the loan portfolio relates to commercial loans to entities within the real estate — operators of nonresidential buildings industry.  This concentration represented $102.620 million or 22.79% of the commercial loan portfolio at December 31, 2015.  The Bank also supports the service industry, with its hospitality and related businesses, as well as gaming, forestry, restaurants, farming, fishing, and many other activities important to growth in Michigan.  The economy of the Bank’s market areas is affected by summer and winter tourism activities.

 

The Bank has become a premier SBA/USDA lender in the State of Michigan.  Many of these SBA/USDA guaranteed loans are sold at a premium on the secondary market, with the Bank retaining the servicing.  The Bank does not sell the loan guarantees on every credit, rather only those where acceptable market rates are above par.

 

The Bank also offers various consumer loan products including installment, mortgages and home equity loans.  In addition to making consumer portfolio loans, the Bank engages in the business of making residential mortgage loans for sale to the secondary market.

 

On December 5, 2014, upon the consummation of the merger of Peninsula with and into the Corporation, the Corporation consolidated Peninsula Bank with the Bank.  The acquisition nearly doubled the bank’s presence in the Upper Peninsula to 13 total branches and increased the total number of branches in Michigan from 11 to 17.

 

On January 19, 2016, the Corporation executed a stock purchase agreement to purchase all of the outstanding shares of The First National Bank of Eagle River in Eagle River, Wisconsin (“Eagle River Bank”).  The Corporation expects to consummate the transaction and consolidate Eagle River Bank into mBank early in the second quarter of 2016.  Eagle River Bank has three branches in Northeastern Wisconsin, each of which are expected to remain open following the acquisition.

 

The Bank’s primary source for lending, investments, and other general business purposes is deposits.  The Bank offers a wide range of interest bearing and non-interest bearing accounts, including commercial and retail checking accounts, negotiable order of withdrawal (“NOW”) accounts, money market accounts with limited transactions, individual retirement accounts, regular interest-bearing statement savings accounts, certificates of deposit with a range of maturity date options, and accessibility to a customer’s deposit relationship through online banking.  The sources of deposits are residents, businesses and employees of businesses within the Bank’s market areas, obtained through the personal solicitation of the Bank’s officers and directors, direct mail solicitation and limited advertisements published in the local media.  The Bank also utilizes the wholesale deposit market for any shortfalls in loan funding.  No material portions of the Bank’s deposits have been received from a single person, industry, group, or geographical location.

 

The Bank is a member of the FHLB.  The FHLB provides an additional source of liquidity and long-term funds.  Membership in the FHLB has provided access to attractive rate advances, as well as advantageous lending programs.  The Community Investment Program makes advances to be used for funding community-oriented mortgage lending, and the Affordable Housing Program grants advances to fund lending for long-term low and moderate income owner occupied and affordable rental housing at subsidized interest rates.

 

3



Table of Contents

 

The Bank has secondary borrowing lines of credit available to respond to deposit fluctuations and temporary loan demands.  The unsecured lines totaled $35.875 million at December 31, 2015, with additional amounts available if collateralized.

 

As of December 31, 2015, the Bank had no material risks relative to foreign sources.  See the “Interest Rate Risk” and “Foreign Exchange Risk” sections in Management’s Discussion and Analysis of Financial Condition and Results of Operations under Item 7 below, for details on the Corporation’s foreign account activity.

 

Compliance with federal, state, and local statutes and/or ordinances relating to the protection of the environment is not expected to have a material effect upon the Bank’s capital expenditures, earnings, or competitive position.

 

Supervision and Regulation

 

As a registered bank holding company, the Corporation is subject to regulation and examination by the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”) under the Bank Holding Company Act, as amended (the “BHCA”).  The Bank is subject to regulation and examination by the Michigan Department of Financial and Insurance Services (the “DIFS”) and the Federal Deposit Insurance Corporation (the “FDIC”).

 

Under the BHCA, the Corporation is subject to periodic examination by the Federal Reserve Board, and is required to file with the Federal Reserve Board periodic reports of its operations and such additional information as the Federal Reserve Board may require.  In accordance with Federal Reserve Board policy, the Corporation is expected to act as a source of financial strength to the Bank and to commit resources to support the Bank in circumstances where the Corporation might not do so absent such policy.  In addition, there are numerous federal and state laws and regulations which regulate the activities of the Corporation, the Bank and the non-bank subsidiaries, including requirements and limitations relating to capital and reserve requirements, permissible investments and lines of business, transactions with affiliates, loan limits, mergers and acquisitions, issuances of securities, dividend payments, inter-affiliate liabilities, extensions of credit and branch banking.

 

Federal banking regulatory agencies have established risk-based capital guidelines for banks and bank holding companies that are designed to make regulatory capital requirements more sensitive to differences in risk profiles among banks and bank holding companies.  The resulting capital ratios represent qualifying capital as a percentage of total risk-weighted assets and off-balance sheet items.  The guidelines are minimums, and the federal regulators have noted that banks and bank holding companies contemplating expansion programs should not allow expansion to diminish their capital ratios and should maintain all ratios well in excess of the minimums.  The current ratios have recently been significantly adjusted as discussed under “Basel III” below.

 

The Federal Deposit Insurance Corporation Improvement Act contains “prompt corrective action” provisions pursuant to which banks are to be classified into one of five categories based upon capital adequacy, ranging from “well capitalized” to “critically undercapitalized” and which require (subject to certain exceptions) the appropriate federal banking agency to take prompt corrective action with respect to an institution which becomes “significantly undercapitalized” or “critically undercapitalized”.  The FDIC also, after an opportunity for a hearing, has authority to downgrade an institution from “well capitalized” to “adequately capitalized” or to subject an “adequately capitalized” or “undercapitalized” institution to the supervisory actions applicable to the next lower category, for supervisory concerns.  Information pertaining to the Corporation’s capital is contained in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 below, as well as in Note 16 to the Corporation’s Consolidated Financial Statements in Item 8 below.

 

Current federal law provides that adequately capitalized and managed bank holding companies from any state may acquire banks and bank holding companies located in any other state, subject to certain conditions.

 

In 1999, Congress enacted the Gramm-Leach-Bliley Act (“GLBA”), which eliminated certain barriers to and restrictions on affiliations between banks and securities firms, insurance companies and other financial service organizations.  Among other things, GLBA repealed certain Glass-Steagall Act restrictions on affiliations between banks and securities firms, and amended the BHCA to permit bank holding companies that qualify as “financial holding companies” to engage in a broad list of “financial activities,” and any non-financial activity that the Federal Reserve Board, in consultation with the Secretary of the Treasury, determines is “complementary” to a financial activity and poses no substantial risk to the safety and soundness of depository institutions or the financial system.  GLBA treats lending, insurance underwriting, insurance company portfolio investment, financial advisory, securities underwriting, dealing and market-making, and merchant banking activities as financial in nature for this purpose.

 

4



Table of Contents

 

Under GLBA, a bank holding company may become certified as a financial holding company by filing a notice with the Federal Reserve Board, together with a certification that the bank holding company meets certain criteria, including capital, management, and Community Reinvestment Act requirements.  The Corporation is not currently required to qualify as a financial holding company.

 

Privacy Restrictions

 

GLBA, in addition to the previous described changes in permissible non-banking activities permitted to banks, bank holding companies and financial holding companies, also requires financial institutions in the U.S. to provide certain privacy disclosures to customers and consumers, to comply with certain restrictions on sharing and usage of personally identifiable information, and to implement and maintain commercially reasonable customer information safeguarding standards.  The Corporation believes that it complies with all provisions of GLBA and all implementing regulations, and the Bank has developed appropriate policies and procedures to meet its responsibilities in connection with the privacy provisions of GLBA.

 

The USA PATRIOT Act

 

In 2001, Congress enacted the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA PATRIOT Act”).  The USA PATRIOT Act is designed to deny terrorists and criminals the ability to obtain access to the United States financial system, and has significant implications for depository institutions, brokers, dealers and other businesses involved in the transfer of money.  The USA PATRIOT Act mandates financial services companies to implement additional policies and procedures with respect to, or additional measures designed to address, any or all of the following matters, among others: money laundering, terrorist financing, identifying and reporting suspicious activities and currency transactions, and currency crimes.

 

Sarbanes-Oxley Act

 

On July 30, 2002, President Bush signed into law The Sarbanes-Oxley Act of 2002.  This legislation addresses accounting oversight and corporate governance matters, including:

 

·                                          The creation of a five-member oversight board that will set standards for accountants and have investigative and disciplinary powers;

·                                          The prohibition of accounting firms from providing various types of consulting services to public clients and requiring accounting firms to rotate partners among public client assignments every five years;

·                                          Increased penalties for financial crimes;

·                                          Expanded disclosure of corporate operations and internal controls and certification of financial statements;

·                                          Enhanced controls on, and reporting of, insider training; and

·                                          Prohibition on lending to officers and directors of public companies, although the Bank may continue to make these loans within the constraints of existing banking regulations.

 

Among other provisions, Section 302(a) of the Sarbanes-Oxley Act requires that our Chief Executive Officer and Chief Financial Officer certify that our quarterly and annual reports do not contain any untrue statement or omission of a material fact.  Specific requirements of the certifications include having these officers confirm that they are responsible for establishing, maintaining and regularly evaluating the effectiveness of our disclosure controls and procedures; they have made certain disclosures to our auditors and Audit Committee about our internal controls; and they have included information in our quarterly and annual reports about their evaluation and whether there have been significant changes in our internal controls or in other factors that could significantly affect internal controls subsequent to their evaluation.

 

In addition, Section 404 of the Sarbanes-Oxley Act and the SEC’s rules and regulations thereunder require our management to evaluate, with the participation of our principal executive and principal financial officers, the effectiveness, as of the end of each fiscal year, of our internal control over financial reporting.  Our management must then provide a report of management on our internal over financial reporting that contains, among other things, a statement of their responsibility for establishing and maintaining adequate internal control over financial reporting, and a statement identifying the framework they used to evaluate the effectiveness of our internal control over financial reporting.

 

5



Table of Contents

 

Dodd-Frank Wall Street Reform and Consumer Protection Act

 

On July 21, 2010, President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”) into law.  The Dodd-Frank Act resulted in sweeping changes in the regulation of financial institutions aimed at strengthening safety and soundness for the financial services sector.  A summary of certain provisions of the Dodd-Frank Act is set forth below:

 

·                                          Increased Capital Standards and Enhanced Supervision.

 

The federal banking agencies are required to establish minimum leverage and risk-based capital requirements for banks and bank holding companies.  These new standards will be no lower than current regulatory capital and leverage standards applicable to insured depository institutions and may, in fact, be higher when established by the agencies.  The Dodd-Frank Act also increased regulatory oversight, supervision and examination of banks, bank holding companies and their respective subsidiaries by the appropriate regulatory agency.

 

·                                          Federal Deposit Insurance.

 

The Dodd-Frank Act made permanent the $250,000 deposit insurance limit for insured deposits and provided unlimited federal deposit insurance on noninterest bearing transaction accounts at all insured depository institutions through December 31, 2012.  Subsequent to 2012, these amounts reverted from unlimited insurance to $250,000 coverage per separately insured depositor.  The Dodd-Frank Act also changed the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible equity, eliminated the ceiling on the size of the Deposit Insurance Fund (the “DIF”) and increased the floor on the size of the DIF.

 

·                                          The Consumer Financial Protection Bureau (“CFPB”).

 

The Dodd-Frank Act centralized responsibility for consumer financial protection by creating a new agency, the CFPB, responsible for implementing, examining and, for large financial institutions of $10 billion or more in total assets, enforcing compliance with federal consumer financial laws.  Because we have under $10 billion in total assets, however, the Federal Reserve Bank of Chicago (“Reserve Bank”) will still continue to examine us at the federal level for compliance with such laws.

 

·                                          Interest on Demand Deposit Accounts.

 

The Dodd-Frank Act repealed the prohibition on the payment of interest on demand deposit accounts effective July 21, 2011, thereby permitting depository institutions to now pay interest on business checking and other accounts.

 

·                                          Mortgage Reform.

 

The Dodd-Frank Act provided for mortgage reform addressing a customer’s ability to repay, restricted variable-rate lending by requiring the ability to repay to be determined for variable rate loans by using the maximum rate that will apply during the first five years of a variable-rate loan term, and made more loans subject to requirement for higher-cost loans, new disclosures and certain other restrictions.

 

·                                          Interstate Branching.

 

The Dodd-Frank Act allows banks to engage in de novo interstate branching, a practice that was previously significantly limited.

 

·                                          Interchange Fee Limitations.

 

The Dodd-Frank Act gave the Federal Reserve Board the authority to establish rules regarding interchange fees charged for electronic debit transactions by a payment card issuer that, together with its affiliates, has assets of $10 billion or more and to enforce a new statutory requirement that

 

6



Table of Contents

 

such fees be reasonable and proportional to the actual cost of a transaction to the issuer.  The Federal Reserve Board has rules under this provision that limit the swipe fees that a debit card issuer can charge a merchant for a transaction to the sum of 21 cents and five basis points times the value of the transaction, plus up to one cent for fraud prevention costs.  While we are not directly subject to such regulations since our total assets do not exceed $10 billion, these regulations may impact our ability to compete with larger institutions who are subject to the restrictions.

 

We expect that many of the requirements called for in the Dodd-Frank Act will be implemented over time, and most will be subject to implementing regulations over the course of several years.  Given the uncertainty associated with the manner in which the provisions of the Dodd-Frank Act will be implemented by the various regulatory agencies and through regulations, the full extent of the impact such requirements will have on financial institutions’ operations is unclear.  The changes resulting from the Dodd-Frank Act may impact the profitability of our business activities, require changes to certain of our business practices, impose upon us more stringent capital, liquidity and leverage ratio requirements or otherwise adversely affect our business.  These changes may also require us to invest significant management attention and resources to evaluate and make necessary changes in order to comply with new statutory and regulatory requirements.

 

Basel III

 

On July 2, 2013, the Federal Reserve and OCC approved a final rule to establish a new comprehensive regulatory capital framework for all US banking organizations, with an effective date of January 1, 2015.  The Regulatory Capital Framework (“Basel III”) implements several changes to the US regulatory capital framework required by the Dodd-Frank Act.  The new US capital framework imposes higher minimum capital requirements, additional capital buffers above those minimum requirements, a more restrictive definition of capital, and higher risk weights for various enumerated classifications of assets, the combined impact of which effectively results in substantially more demanding capital standards for US banking organizations.

 

Prior to implementation of Basel III, the regulations defined the five capital categories as follows: (i) an institution was “well capitalized” if it has a total risk-based capital ratio of 10% or greater, had a Tier 1 risk-based capital ratio of 6% or greater, had a leverage ratio of 5% or greater and was not subject to any written capital order or directive to meet and maintain a specific capital level for any capital measures; (ii) an institution is “adequately capitalized” if it had a total risk-based capital ratio of 8% or greater, had Tier 1 risk-based capital ratio of 4% or greater, and had a leverage ratio of 4% or greater; (iii) an institution is “undercapitalized” if it had a total risk-based capital ratio of less than 8%, had a Tier 1 risk-based capital ratio that is less than 4% or had a leverage ratio that was less than 4%; (iv) an institution is “significantly undercapitalized” if it had a total risk-based capital ratio that was less than 6%, a Tier I risk-based capital ratio that was less than 3% or a leverage ratio that is less than 3%; (v) an institution is “critically undercapitalized” if its “tangible equity” was equal to or less than 2% of its total assets.

 

The Basel III final rule establishes a new common equity Tier 1 capital (“CET1”) requirement, an increase in the Tier 1 capital requirement from 4.0% to 6.0% and maintains the current 8.0% total capital requirement.  The new CET1 and minimum Tier 1 capital requirements became effective January 1, 2015.  In addition to these minimum risk-based capital ratios, the Basel III final rule requires that all banking organizations maintain a “capital conservation buffer” consisting of CET1 in an amount equal to 2.5% of risk-weighted assets in order to avoid restrictions on their ability to make capital distributions and to pay certain discretionary bonus payments to executive officers.  In order to avoid those restrictions, the capital conservation buffer effectively increases the minimum CET1 capital, Tier 1 capital and total capital ratios for US banking organizations to 7.0%, 8.5% and 10.5%, respectively.  Banking organizations with capital levels that fall within the buffer will be required to limit dividends, shares repurchases or redemptions (unless replaced within the same calendar quarter by capital instruments of equal or higher quality), and discretionary bonus payments.  The capital conservation buffer is phased in over a 5-year period, beginning January 1, 2016.

 

 

 

Adequately Capitalized

 

Well-Capitalized

 

Well-Capitalized

 

 

 

Requirement, effective

 

Requirement, effective

 

with Buffer, fully

 

 

 

January 1, 2015

 

January 1, 2015

 

phased in 2019

 

 

 

 

 

 

 

 

 

Leverage

 

4.0

%

5.0

%

5.0

%

CET1

 

4.5

%

6.5

%

7.0

%

Tier 1

 

6.0

%

8.0

%

8.5

%

Total Capital

 

8.0

%

10.0

%

10.5

%

 

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Table of Contents

 

As required by Dodd-Frank, the Basel III final rule requires that capital instruments such as trust preferred securities and cumulative preferred shares be phased out of Tier 1 capital by January 1, 2016, for banking organizations that had $15 billion or more in total consolidated assets as of December 31, 2009 and permanently grandfathers as Tier 1 capital such instruments issued by these smaller entities prior to May 19, 2010 (provided they do not exceed 25% of Tier 1 capital).

 

The Basel III final rule provides banking organizations under $250 billion in total consolidated assets or under $10 billion in foreign exposures with a one-time “opt-out” right to continue excluding Accumulated Other Comprehensive income from CET1 capital.  The election to opt-out must be made on the banking organization’s first Call Report filed after January 1, 2015.  The Corporation has elected to opt-out and continues to exclude Accumulated Other Comprehensive Income from its regulatory capital.

 

The Basel III final rule requires that goodwill and other intangible assets (other than mortgage servicing assets), net of associated deferred tax liabilities, be deducted from CET1 capital.  Additionally, deferred tax assets that arise from net operating loss and tax credit carryforwards, net of associated deferred tax liabilities and valuation allowances, are fully deducted from CET1 capital.  However, deferred tax assets arising from temporary differences that could not be realized through net operating loss carrybacks, along with mortgage servicing assets and “significant” (defined as greater than 10% of the issued and outstanding common stock of the unconsolidated financial institution) investments in the common stock of unconsolidated “financial institutions” are partially includible in CET1 capital, subject to deductions defined in the final rule.

 

Monetary Policy

 

The earnings and business of the Corporation and the Bank depends on interest rate differentials.  In general, the difference between the interest rates paid by the Bank to obtain its deposits and other borrowings, and the interest rates received by the Bank on loans extended to its customers and on securities held in the Bank’s portfolio, comprises the major portion of the Bank’s earnings.  These rates are highly sensitive to many factors that are beyond the control of the Bank, and accordingly, its earnings and growth will be subject to the influence of economic conditions, generally, both domestic and foreign, including inflation, recession, unemployment, and the monetary policies of the Federal Reserve Board.  The Federal Reserve Board implements national monetary policies designed to curb inflation, combat recession, and promote growth through, among other means, its open-market dealings in US government securities, by adjusting the required level of reserves for financial institutions subject to reserve requirements, through adjustments to the discount rate applicable to borrowings by banks that are members of the Federal Reserve System, and by adjusting the Federal Funds Rate, the rate charged in the interbank market for purchase of excess reserve balances.  In addition, legislative and economic factors can be expected to have an ongoing impact on the competitive environment within the financial services industry.  The nature and timing of any future changes in such policies and their impact on the Bank cannot be predicted with certainty.

 

Selected Statistical Information

 

I.                                        Distribution of Assets, Obligations, and Shareholders’ Equity; Interest Rates and Interest Differential

 

The key components of net interest income, the daily average balance sheet for each year — including the components of earning assets and supporting obligations — the related interest income on a fully tax equivalent basis and interest expense, as well as the average rates earned and paid on these assets and obligations is contained under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under Item 7 below.

 

An analysis of the changes in net interest income from period-to-period and the relative effect of the changes in interest income and expense due to changes in the average balances of earning assets and interest-bearing obligations and changes in interest rates is contained under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under Item 7 below.

 

II.                                   Investment Portfolio

 

A.                                    Investment Portfolio Composition

 

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Table of Contents

 

The following table presents the carrying value of investment securities available for sale as of December 31 of the years set forth below (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

US Treasuries

 

$

 

$

5,280

 

$

 

Corporate

 

12,646

 

12,674

 

16,079

 

US Agencies

 

27,377

 

22,717

 

14,855

 

US Agencies - MBS

 

3,759

 

13,688

 

7,359

 

State and political subdivisions

 

9,946

 

11,473

 

6,095

 

Total

 

$

53,728

 

$

65,832

 

$

44,388

 

 

B.                                    Relative Maturities and Weighted Average Interest Rates

 

The following table presents the maturity schedule of securities held and the weighted average yield of those securities, as of December 31, 2015 (fully taxable equivalent, dollars in thousands):

 

 

 

In one 

 

After one,

 

After five, 

 

 

 

 

 

Weighted 

 

 

 

year

 

but within

 

but within

 

Over

 

 

 

Average

 

 

 

or less

 

five years

 

ten years

 

ten years

 

Total

 

Yield (1)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

US Treasuries

 

$

 

$

 

$

 

$

 

$

 

%

US Agencies

 

 

27,377

 

 

 

27,377

 

1.61

%

US Agencies - MBS

 

1,679

 

1,800

 

280

 

 

3,759

 

1.55

%

Corporate

 

1,347

 

11,299

 

 

 

12,646

 

2.15

%

State and politicial subdivisions

 

429

 

2,345

 

3,930

 

3,242

 

9,946

 

4.94

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

3,455

 

$

42,821

 

$

4,210

 

$

3,242

 

$

53,728

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average yield (1)

 

1.78

%

1.95

%

4.81

%

5.10

%

2.32

%

 

 

 


(1)                                 Weighted average yield includes the effect of tax-equivalent adjustments using a 34% tax rate.

 

III.                              Loan Portfolio

 

A.                                    Type of Loans

 

The following table sets forth the major categories of loans outstanding for each category at December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

312,805

 

$

315,387

 

$

268,809

 

$

244,966

 

$

199,201

 

Commercial, financial and agricultural

 

122,140

 

101,895

 

79,655

 

80,646

 

92,269

 

One to four family residential real estate

 

140,502

 

139,553

 

103,768

 

87,948

 

77,332

 

Construction

 

27,100

 

25,715

 

17,799

 

24,694

 

25,519

 

Consumer

 

15,847

 

18,385

 

13,801

 

10,923

 

6,925

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

618,394

 

$

600,935

 

$

483,832

 

$

449,177

 

$

401,246

 

 

B.                                    Maturities and Sensitivities of Loans to Changes in Interest Rates

 

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Table of Contents

 

The following table presents the remaining maturity of total loans outstanding for the categories shown at December 31, 2015, based on scheduled principal repayments (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial,

 

1-4 Family

 

 

 

 

 

 

 

 

 

Commercial

 

 and

 

Residential

 

 

 

 

 

 

 

 

 

Real Estate

 

Agricultural

 

Real Estate

 

Consumer

 

Construction

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

In one year or less:

 

 

 

 

 

 

 

 

 

 

 

 

 

Variable interest rates

 

$

23,175

 

$

33,806

 

$

1,188

 

$

 

$

5,353

 

$

63,522

 

Fixed interest rates

 

5,453

 

8,642

 

1,266

 

2,725

 

10,408

 

28,494

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

After one year but within five years:

 

 

 

 

 

 

 

 

 

 

 

 

 

Variable interest rates

 

69,671

 

26,196

 

2,994

 

7

 

2,057

 

100,925

 

Fixed interest rates

 

175,467

 

38,630

 

17,829

 

9,379

 

5,858

 

247,163

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

After five years:

 

 

 

 

 

 

 

 

 

 

 

 

 

Variable interest rates

 

29,044

 

6,436

 

110,872

 

876

 

3,331

 

150,559

 

Fixed interest rates

 

9,995

 

8,430

 

6,353

 

2,860

 

93

 

27,731

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

312,805

 

$

122,140

 

$

140,502

 

$

15,847

 

$

27,100

 

$

618,394

 

 

C.                                    Risk Elements

 

The following table presents a summary of nonperforming assets and problem loans as of December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Nonaccrual loans

 

$

2,353

 

$

3,939

 

$

1,406

 

$

4,687

 

$

5,490

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest income that would have been recorded for nonaccrual loans under original terms

 

1,125

 

130

 

228

 

313

 

363

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest income recorded during period for nonaccrual loans

 

795

 

 

 

54

 

118

 

 

 

 

 

 

 

 

 

 

 

 

 

Accruing loans past due 90 days or more

 

32

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restructured loans not included above

 

154

 

3,105

 

614

 

 

2,503

 

 

IV.                               Summary of Loan Loss Experience

 

A.                                    Analysis of the Allowance for Loan Losses

 

Changes in the allowance for loan losses arise from loans charged off, recoveries on loans previously charged off by loan category, and additions to the allowance for loan losses through provisions charged to expense.  Factors which influence management’s judgment in determining the provision for loan losses include establishing specified loss allowances for selected loans (including large loans, nonaccrual loans, and problem and delinquent loans) and consideration of historical loss information and local economic conditions.

 

10



Table of Contents

 

The following table presents information relative to the allowance for loan losses for the years ended December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance of allowance for loan losses at beginning of period

 

$

5,140

 

$

4,661

 

$

5,218

 

$

5,251

 

$

6,613

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans charged off:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

1,801

 

682

 

2,171

 

775

 

3,258

 

One to four family residential real estate

 

142

 

290

 

141

 

399

 

490

 

Consumer

 

87

 

74

 

120

 

82

 

52

 

Total loans charged off

 

2,030

 

1,046

 

2,432

 

1,256

 

3,800

 

 

 

 

 

 

 

 

 

 

 

 

 

Recoveries of loans previously charged off:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

662

 

259

 

150

 

253

 

128

 

One to four family residential real estate

 

2

 

22

 

26

 

7

 

1

 

Consumer

 

26

 

44

 

24

 

18

 

9

 

Total recoveries

 

690

 

325

 

200

 

278

 

138

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loans charged off

 

1,340

 

721

 

2,232

 

978

 

3,662

 

Provisions charged to expense

 

1,204

 

1,200

 

1,675

 

945

 

2,300

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at end of period

 

$

5,004

 

$

5,140

 

$

4,661

 

$

5,218

 

$

5,251

 

 

 

 

 

 

 

 

 

 

 

 

 

Average loans outstanding

 

602,904

 

509,749

 

462,500

 

422,440

 

388,115

 

 

 

 

 

 

 

 

 

 

 

 

 

Ratio of net charge-offs

 

.22

%

.14

%

.48

%

.23

%

.94

%

 

B.            Allocation of Allowance for Loan Losses

 

The allocation of the allowance for loan losses for the years ended December 31, is shown on the following table.  The percentages shown represent the percent of each loan category to total loans (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

2012

 

2011

 

 

 

Amount

 

%

 

Amount

 

%

 

Amount

 

%

 

Amount

 

%

 

Amount

 

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

1,611

 

32.19

%

$

2,813

 

54.73

%

$

1,849

 

39.67

%

$

3,267

 

62.61

%

$

2,973

 

56.62

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial, financial, and agricultural

 

645

 

12.89

%

1,539

 

29.94

%

1,378

 

29.56

%

692

 

13.26

%

1,079

 

20.55

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial construction

 

79

 

1.58

 

142

 

2.76

%

80

 

1.72

%

125

 

2.40

%

207

 

3.94

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential real estate

 

274

 

5.48

 

285

 

5.54

%

516

 

11.07

%

980

 

18.78

%

1,114

 

21.22

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consumer construction

 

7

 

.14

 

6

 

.12

%

25

 

.54

%

 

.00

%

 

.00

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consumer

 

64

 

1.28

 

13

 

.25

%

148

 

3.18

%

 

.00

%

 

.00

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unallocated general reserves

 

2,324

 

46.44

 

342

 

6.66

%

665

 

14.26

%

154

 

2.95

%

(122

)

-2.33

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

5,004

 

100.00

%

$

5,140

 

100.00

%

$

4,661

 

100.00

%

$

5,218

 

100.00

%

$

5,251

 

100.00

%

 

11



Table of Contents

 

V.            Deposits

 

Deposit information is contained in Note 7 to the Corporation’s Consolidated Financial Statements in Item 8 of this Form 10-K below.

 

VI.          Return on Equity and Assets

 

See Item 6 of this Form 10-K, “Selected Financial Data”

 

VII.         Financial Instruments with Off-Balance Sheet Risk

 

Information relative to commitments, contingencies, and credit risk are discussed in Note 19 to the Corporation’s Consolidated Financial Statements contained in Item 8 of this Form 10-K.

 

Item 1B.        Unresolved Staff Comments

 

None.

 

Item 2.           Properties

 

The Corporation’s headquarters are located at 130 South Cedar Street, Manistique, Michigan 49854.  The headquarters location is owned by the Corporation and not subject to any mortgage.

 

All of the branch locations are designed for use and operation as a bank, are well maintained, and are suitable for current operations.  Of the 17 branch locations 10 are owned and 7 are leased.  The Corporation has additional office space to house and administrative operational support.  The Corporation also leases one office that supports our commercial lending.  Below is a comprehensive listing of our branch locations:

 

Birmingham

 

260 E. Brown Street, Suite 300

 

Birmingham, MI

 

Leased

Escanaba

 

2224 N. Lincoln Road

 

Escanaba, MI

 

Owned

Gaylord

 

1955 S. Otsego Avenue

 

Gaylord, MI

 

Owned

Ishpeming - Downtown

 

100 S. Main Street

 

Ishpeming, MI

 

Owned

Ishpeming - Jubilee

 

900 US 41 West

 

Ishpeming, MI

 

Leased

Ishpeming - West

 

US West & 170 N. Daisy Street

 

Ishpeming, MI

 

Leased

Kaleva

 

14429 Wuoksi Avenue

 

Kaleva, MI

 

Owned

Manistique

 

130 South Cedar Street

 

Manistique, MI

 

Owned

Manistique - Jack’s

 

735 E. Lakeshore Drive

 

Manistique, MI

 

Leased

Marquette

 

857 W. Washington Street

 

Marquette, MI

 

Leased

Marquette - McClellan

 

175 S. McClellan Avenue

 

Marquette, MI

 

Owned

Marquette - Medical Center

 

1414 W. Fair Avenue, Suite 140

 

Marquette, MI

 

Leased

Negaunee

 

440 US 41 East

 

Negaunee, MI

 

Leased

Newberry

 

414 Newberry Avenue

 

Newberry, MI

 

Owned

Sault Ste. Marie

 

138 Ridge Street

 

Sault Ste. Marie, MI

 

Owned

Stephenson

 

S216 Menominee Street

 

Stephenson, MI

 

Owned

Traverse City

 

3530 North Country Drive

 

Traverse City, MI

 

Owned

 

Item 3.       Legal Proceedings

 

There are no pending material legal proceedings to which the Corporation is a party or to which any of its property was subject, except for proceedings which arise in the ordinary course of business.  In the opinion of management, pending legal proceedings will not have a material effect on the consolidated financial position or results of operations of the Corporation.

 

Item 4.       Mine Safety Disclosures

 

Not applicable.

 

12



Table of Contents

 

PART II

 

Item 5.       Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities

 

MARKET INFORMATION

(Unaudited)

 

The Corporation’s common stock is traded on the NASDAQ Capital Market under the symbol MFNC.  The following table sets forth the range of high and low trading prices of the Corporation’s common stock from January 1, 2014 through December 31, 2015, as reported by NASDAQ.

 

 

 

For the Quarter Ended

 

 

 

March 31

 

June 30

 

September 30

 

December 31

 

2015

 

 

 

 

 

 

 

 

 

High

 

$

12.75

 

$

12.25

 

$

10.96

 

$

12.03

 

Low

 

10.18

 

10.12

 

9.90

 

9.91

 

Close

 

11.39

 

10.53

 

10.10

 

11.49

 

Dividends delcared per share

 

.075

 

.075

 

.100

 

.100

 

Book value

 

11.99

 

12.15

 

12.18

 

12.32

 

 

 

 

 

 

 

 

 

 

 

2014

 

 

 

 

 

 

 

 

 

High

 

$

15.06

 

$

14.19

 

$

13.70

 

$

12.10

 

Low

 

9.86

 

11.35

 

10.28

 

9.95

 

Close

 

12.54

 

12.90

 

11.30

 

11.85

 

Dividends delcared per share

 

.050

 

.050

 

.050

 

.075

 

 

The Corporation had approximately 1,600 shareholders of record as of March 30, 2016.

 

Dividends

 

The holders of the Corporation’s common stock are entitled to dividends when, and if declared by the Board of Directors of the Corporation, out of funds legally available for that purpose.  In determining dividends, the Board of Directors considers the earnings, capital requirements and financial condition of the Corporation and its subsidiary bank, along with other relevant factors.  The Corporation’s principal source of funds for cash dividends is the dividends paid by the Bank.  The ability of the Corporation and the Bank to pay dividends is subject to regulatory restrictions and requirements.

 

The Bank paid a $3.0 million dividend in 2013 and 2014. The Corporation declared a $.10 dividend per share on its common stock in the fourth quarter of 2015.  There were no sales of unregistered securities in 2015. The Corporation currently has a share repurchase program.  The program is conducted under authorizations from time to time by the Board of Directors.

 

Issuer Purchases of Equity Securities

 

The Corporation currently has a share repurchase program.  The program is conducted under authorizations from time to time by the Board of Directors.  Shares repurchased to date are covered by Board authorizations made and publically announced for $600,000 on February 27, 2013, an additional $600,000 on December 17, 2013, and an additional $750,000 on April 28, 2015. None of these authorizations has an expiration date.  The Corporation purchased 102,455 shares for $1,121,615 in 2015 and 13,700 shares of its common stock for $143,298 in 2014.  As of December 31, 2015 the Corporation had $175,753 remaining of the previously authorized buyback amount.  There were 31,975 shares of common stock purchased by the Corporation for $329,988 in the fourth quarter of 2015.

 

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Table of Contents

 

For information regarding securities authorized for issuance under equity compensation plans, see Item 12 of this Form 10-K.

 

Performance Graph

 

Shown below is a line graph comparing the yearly percentage change in the cumulative total shareholder return on the Corporation’s common stock with that of the cumulative total return on the NASDAQ Bank Index and the NASDAQ Composite Index for the five-year period ended December 31, 2015. The following information is based on an investment of $100, on December 31, 2010 in the Corporation’s common stock, the NASDAQ Bank Index, and the NASDAQ Composite Index, with dividends reinvested.

 

This graph and other information contained in this section shall not be deemed to be “soliciting” material or to be “filed” with the Securities and Exchange Commission or subject to Regulation 14A or 14C, or to the liabilities of Section 18 of the Securities Exchange Act of 1934, as amended.

 

 

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Table of Contents

 

Item 6.   Selected Financial Data

 

SELECTED FINANCIAL DATA

(Unaudited)

(Dollars in Thousands, Except Per Share Data)

 

 

 

Years Ended December 31

 

 

 

2015

 

2014

 

2013

 

2012

 

2011

 

SELECTED FINANCIAL CONDITION DATA:

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

739,269

 

$

743,785

 

$

572,800

 

$

545,980

 

$

498,311

 

Loans

 

618,394

 

600,935

 

483,832

 

449,177

 

401,246

 

Securities

 

53,728

 

65,832

 

44,388

 

43,799

 

38,727

 

Deposits

 

610,323

 

606,973

 

466,299

 

434,557

 

404,789

 

Borrowings

 

45,754

 

49,846

 

37,852

 

35,925

 

35,997

 

Common shareholders’ equity

 

76,602

 

73,996

 

65,249

 

61,448

 

44,342

 

Total shareholders’ equity

 

76,602

 

73,996

 

65,249

 

72,448

 

55,263

 

 

 

 

 

 

 

 

 

 

 

 

 

SELECTED OPERATIONS DATA:

 

 

 

 

 

 

 

 

 

 

 

Interest income

 

$

33,513

 

$

27,669

 

$

25,523

 

$

24,427

 

$

23,072

 

Interest expense

 

4,393

 

4,142

 

4,124

 

4,603

 

5,143

 

Net interest income

 

29,120

 

23,527

 

21,399

 

19,824

 

17,929

 

Provision for loan losses

 

1,204

 

1,200

 

1,675

 

945

 

2,300

 

Net security gains (losses)

 

455

 

54

 

73

 

 

(1

)

Other income

 

3,434

 

3,058

 

3,865

 

4,043

 

3,657

 

Other expenses

 

(23,876

)

(22,610

)

(18,128

)

(16,757

)

(15,969

)

Income before income taxes

 

7,929

 

2,829

 

5,534

 

6,165

 

3,316

 

Provision (credit) for income taxes

 

2,333

 

1,129

 

(403

)

(922

)

1,098

 

Net income

 

5,596

 

1,700

 

5,937

 

7,087

 

2,218

 

Preferred dividend and accretion of discount

 

 

 

308

 

629

 

766

 

Net income available to common shareholders

 

$

5,596

 

$

1,700

 

$

5,629

 

$

6,458

 

$

1,452

 

 

 

 

 

 

 

 

 

 

 

 

 

PER SHARE DATA:

 

 

 

 

 

 

 

 

 

 

 

Earnings — Basic

 

$

.90

 

$

.30

 

$

1.01

 

$

1.51

 

$

.42

 

Earnings — Diluted

 

.89

 

.30

 

1.00

 

1.46

 

.41

 

Cash dividends declared

 

.350

 

.225

 

.170

 

.040

 

 

Book value

 

12.32

 

11.81

 

11.77

 

11.05

 

12.97

 

Tangible book value

 

11.54

 

11.01

 

11.77

 

11.05

 

12.97

 

Market value - closing price at year end

 

11.49

 

11.85

 

9.90

 

7.09

 

5.42

 

 

 

 

 

 

 

 

 

 

 

 

 

FINANCIAL RATIOS:

 

 

 

 

 

 

 

 

 

 

 

Return on average common equity

 

7.41

%

2.57

%

9.07

%

12.43

%

3.30

%

Return on average total equity

 

7.41

 

2.57

 

8.26

 

10.26

 

2.66

 

Return on average assets

 

.76

 

.28

 

1.01

 

1.23

 

.30

 

Dividend payout ratio

 

41.67

 

75.00

 

16.83

 

2.65

 

N/A

 

Average equity to average assets

 

10.23

 

10.94

 

12.28

 

11.95

 

11.15

 

Efficiency ratio

 

72.12

 

74.43

 

67.46

 

67.95

 

68.43

 

Net interest margin

 

4.30

 

4.19

 

4.17

 

4.17

 

4.06

 

 

 

 

 

 

 

 

 

 

 

 

 

ASSET QUALITY RATIOS:

 

 

 

 

 

 

 

 

 

 

 

Nonperforming loans to total loans

 

.50

%

.66

%

.42

%

1.04

%

1.99

%

Nonperforming assets to total assets

 

.73

 

.93

 

.58

 

1.45

 

2.24

 

Allowance for loan losses to total loans

 

.81

 

.86

 

.96

 

1.16

 

1.18

 

Allowance for loan losses to nonperforming loans

 

162.57

 

130.49

 

230.29

 

111.33

 

65.69

 

Net charge-offs to average loans

 

.21

 

.14

 

.48

 

.23

 

.94

 

Texas ratio

 

6.34

 

9.37

 

5.59

 

10.25

 

18.56

 

 

15



Table of Contents

 

Item 7.   Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Forward Looking Statements

 

This report contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  The Corporation intends such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 and is including this statement for purposes of these safe harbor provisions.  Forward-looking statements which are based on certain assumptions and describe future plans, strategies, or expectations of the Corporation, are generally identifiable by use of the words “believe”, “expect”, “intend”, “anticipate”, “estimate”, “project”, or similar expressions.  The Corporation’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain.  Factors that could cause actual results to differ from the results in forward-looking statements include, but are not limited to:

 

Risk Factors

 

Risks Related to our Lending and Credit Activities

 

·                                          Our business may be adversely affected by conditions in the financial markets and economic conditions generally, as our borrowers’ ability to repay loans and the value of the collateral securing our loans decline.

 

·                                          Weakness in the markets for residential or commercial real estate, including the secondary residential mortgage loan markets, could reduce our net income and profitability.

 

·                                          As a community banking organization, the Corporation’s success depends upon local and regional economic conditions and has different lending risks than larger banks.

 

We manage our credit exposure through careful monitoring of loan applicants and loan concentrations in particular industries and through loan approval and review procedures.  We have established an evaluation process designed to determine the adequacy of our allowance for loan losses.  While this evaluation process uses historical and other objective information, the classification of loans and the establishment of loan losses is an estimated based on experience, judgment and expectations regarding borrowers and economic conditions, as well as regulator judgments.  We can make no assurance that our loan loss reserves will be sufficient to absorb future loan losses of prevent a material adverse effect on its business, profitability or financial condition.

 

·                                          Our allowance for loan losses may be insufficient.

 

Continuing deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans, and other factors, both within and outside of our control, may require an increase in our allowance for loan losses.

 

Risks Related to Our Operations

 

·                                          We are subject to interest rate risk.

 

Our earnings and cash flows are largely dependent upon our net interest income, which is the difference between interest income on interest-earning assets such as loans and securities and interest expense paid on interest-bearing liabilities such as deposits and borrowed funds.  There are many factors which influence interest rates that are beyond our control, including but not limited to general economic conditions and governmental policy, in particular, the policies of the FRB.

 

·                                          Changes in our accounting policies or in accounting standards could materially affect how we report our financial results and condition.

 

·                                          We may not realize the expected benefits of our pending acquisition of The First National Bank of Eagle River.

 

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Table of Contents

 

·                                          Our controls and procedures may fail or be circumvented.

 

·                                          Impairment of deferred income tax assets could require charges to earnings, which could result in an adverse impact on our results of operations.

 

In assessing the realizability of deferred income tax assets, management considers whether it is more likely than not that some allowance requires management to evaluate all available evidence, both negative and positive.  Positive evidence necessary to overcome the negative evidence includes whether future taxable income in sufficient amounts and character within the carry back and carry forward periods is available under the tax law, including the use of tax planning strategies.  When negative evidence (e.g. cumulative losses in recent years, history of operating loss or tax credit carry forwards expiring unused) exists, more positive evidence than negative evidence will be necessary.  At December 31, 2015, net deferred tax assets are approximately $11.498 million.  If a valuation allowance becomes necessary with respect to such balance, it could have a material adverse effect on our business, results of operations and financial condition.

 

·                                          Our information systems may experience an interruption of breach in security.

 

Risks Related to Legal and Regulatory Compliance

 

·                                          We operate in a highly regulated environment, which could increase our cost structure or have other negative impacts on our operations.

 

·                                          The full impact of the recently enacted Dodd-Frank Act is currently unknown given that many of the details and substance of the new laws will be implemented through agency rulemaking.

 

Among the many requirements if the Dodd-Frank Act for new banking regulations is a requirement for new capital regulations to be adopted within 18 months.  These regulations must be at least as stringent as, and may call for higher levels of capital than, current regulations.

 

Strategic Risks

 

·                                          Maintaining or increasing our market share may depend on lowering prices and market acceptance of new products and services.

 

·                                          Future growth or operating results may require us to raise additional capital but that capital may not be available.

 

Reputation Risks

 

·                                          Unauthorized disclosure of sensitive of confidential client or customer information, whether through a breach of our computer system or otherwise, could severely harm our business.

 

Liquidity Risks

 

·                                          We could experience an unexpected inability to obtain needed liquidity.

 

The ability of a financial institution to meet its current financial obligations is a function of its balance sheet structure, its ability to liquidate assets and its access to alternative sources of funds.  We seek to ensure our funding needs are met by maintaining an appropriate level of liquidity through asset/liability management.

 

Risks Related to an Investment in Our Common Stock

 

·                                          Limited trading activity for shares of our common stock may contribute to price volatility.

 

·                                          Our securities are not an insured deposit.

 

·                                          You may not receive dividends on your investment in common stock.

 

Our ability to pay dividends is dependent upon our receipt of dividends from the Bank, which is subject to regulatory restrictions.  Such restrictions, which govern state-chartered banks, generally limit the payment of dividends on bank stock to the bank’s undivided profits after all payments of all necessary expenses, provided that the bank’s surplus equals or exceeds its capital.

 

17



Table of Contents

 

These risks and uncertainties should be considered in evaluating forward-looking statements.  Further information concerning the Corporation and its business, including additional factors that could materially affect the Corporation’s financial results, is included in the Corporation’s filings with the Securities and Exchange Commission.  All forward-looking statements contained in this report are based upon information presently available and the Corporation assumes no obligation to update any forward-looking statements.

 

Overview

 

The following discussion and analysis presents the more significant factors affecting the Corporation’s financial condition as of December 31, 2015 and 2014 and the results of operations for 2013 through 2015. This discussion also covers asset quality, liquidity, interest rate sensitivity, and capital resources for the years 2014 and 2015.  The information included in this discussion is intended to assist readers in their analysis of, and should be read in conjunction with, the consolidated financial statements and related notes and other supplemental information presented elsewhere in this report.  Throughout this discussion, the term “Bank” refers to mBank, the principal banking subsidiary of the Corporation.

 

The acquisition of Peninsula Financial Corporation, the holding company for Peninsula Bank (“PFC”), in December 2014 added approximately $125 million in assets, $70 million in loan balances and $100 million in deposits to the Corporation.  In connection with this acquisition we the Corporation increased shareholders’ equity by $7.804 million, issued 695,361 shares of our common stock and added approximately 350 new shareholders.

 

Dollar amounts in tables are stated in thousands, except for per share data.

 

EXECUTIVE SUMMARY

 

The purpose of this section is to provide a brief summary of the 2015 results of operations and financial condition.  A more detailed analysis of the results of operations and financial condition follows this summary.

 

The Corporation reported net income of $5.596 million, or $.90 per share for the year ended December 31, 2015, compared to $1.700 million, or $.30 per share, in 2014, and net income of $5.629 million, or $1.01 per share, for 2013.  The 2015 results include a deferred tax valuation adjustment of $.322 million and one-time charges related to regulatory audit costs incurred in connection with our approval as an SBA preferred lender and the transfer of our asset based lending subsidiary assets to mBank, which included a prepayment penalty on its line of credit.  The net positive impact of these items was approximately $.02 per share.  The 2014 results include nonrecurring transaction related expenses of $2.475 million.  The 2013 consolidated and bank results include a deferred tax valuation adjustment of $2.250 million, or $.40 per share.

 

Total assets of the Corporation at December 31, 2015, were $739.269 million, a decrease of $4.516 million, or .61%, from total assets of $743.785 million reported at December 31, 2014.

 

At December 31, 2015, the Corporation’s loans stood at $618.394 million, an increase of $17.999 million, or 3.00%, from 2014 year-end balances of $600.935 million.  Total loan production in 2015 amounted to $234.271 million, which included $53.229 million of secondary market mortgage loans sold.  The Corporation also sold $8.959 million of SBA/USDA guaranteed loans.  Loan balances were also impacted by normal amortization and paydowns, some of which related to payoffs on participation loans.

 

Nonperforming loans totaled $2.539 million, or .41%, of total loans at December 31, 2015.  Nonperforming assets at December 31, 2015, were $6.949 million, .41% of total assets, compared to $6.949 million or .93% of total assets at December 31, 2014.

 

Total deposits increased from $606.973 million at December 31, 2014 to $610.323 million at December 31, 2015, an increase of .55%.  The increase in deposits in 2015 was comprised of an increase in wholesale deposits of $27.253 million and a decrease in core deposits of $23.905 million.  In 2015, the Corporation utilized wholesale deposits in order to better manage interest rate risk in funding fixed rate loans.

 

Shareholders’ equity totaled $76.602 million at December 31, 2015, compared to $73.996 million at the end of 2014, an increase of $2.606 million.  This change reflects the net income available to common shareholders of $5.596 million, other comprehensive loss of $.265 million, an increase related to stock compensation expense of $.576 million, the repurchase of common stock of $1.122 million and dividends declared on common stock of

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$2.179 million.  The book value per common share at December 31, 2015, amounted to $12.32 compared to $11.81 at the end of 2014.

 

RESULTS OF OPERATIONS

 

(dollars in thousands, except per share data)

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Taxable-equivalent net interest income

 

$

29,210

 

$

23,575

 

$

21,471

 

Taxable-equivalent adjustment

 

(90

)

(48

)

(72

)

 

 

 

 

 

 

 

 

Net interest income, per income statement

 

29,120

 

23,527

 

21,399

 

Provision for loan losses

 

1,204

 

1,200

 

1,675

 

Other income

 

3,889

 

3,112

 

3,938

 

Other expense

 

23,876

 

22,610

 

18,128

 

 

 

 

 

 

 

 

 

Income before provision for income taxes

 

7,929

 

2,829

 

5,534

 

Provision for (benefit of) income taxes

 

2,333

 

1,129

 

(403

)

 

 

 

 

 

 

 

 

Net income

 

$

5,596

 

$

1,700

 

$

5,937

 

Preferred dividend expense

 

 

 

308

 

 

 

 

 

 

 

 

 

Net income available to common shareholders

 

$

5,596

 

$

1,700

 

$

5,629

 

 

 

 

 

 

 

 

 

Earnings per common share

 

 

 

 

 

 

 

Basic

 

$

.90

 

$

.30

 

$

1.01

 

Diluted

 

$

.89

 

$

.30

 

$

1.00

 

 

 

 

 

 

 

 

 

Return on average assets

 

.76

%

.28

%

1.01

%

Return on average common equity

 

7.41

 

2.57

 

9.07

 

Return on average equity

 

7.41

 

2.57

 

8.26

 

 

Summary

 

The Corporation reported net income available to common shareholders of $5.596 million in 2015, compared to $1.700 million in 2014 and $5.629 million in 2013.  The 2015 results include a provision for loan loss of $1.204 million and a deferred tax valuation adjustment of $.322 million.  The 2014 results include a provision for loan loss of $1.200 million and nonrecurring transaction related expense of $2.475 million.  The 2013 results include a deferred tax valuation adjustment of $2.250 million.

 

Net Interest Income

 

Net interest income is the Corporation’s primary source of core earnings.  Net interest income represents the difference between the average yield earned on interest-earning assets and the average rate paid on interest-bearing funding sources.  Net interest revenue is the Corporation’s principal source of revenue, representing 90% of total revenue in 2015.  The net interest income is impacted by economic and competitive factors that influence rates, loan demand, and the availability of funding.

 

Net interest income on a taxable equivalent basis increased $5.635 million from $23.575 million in 2014 to $29.210 million in 2015.  In 2015, interest rates were stable with the prime rate at 3.25% for nearly the entire year.  The Corporation experienced an increase, three basis points, in the overall rates on earning assets from 4.94% in 2014 to 4.97% in 2015.  Interest bearing funding sources declined by ten basis points, from .90% in 2014 to .80% in 2015.  The combination of these effective rate changes resulted in a slight increase in net interest margin from 4.20% in 2014 to 4.32% in 2015.  The increase in interest income was largely due to the PFC acquisition as we increased earning assets by $90 million.  We also had increased net interest contribution due to the accretive attributes associated with the purchase accounting adjustments related to PFC loan marks under GAAP.

 

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Table of Contents

 

The following table details sources of net interest income for the three years ended December 31 (dollars in thousands):

 

 

 

2015

 

Mix

 

2014

 

Mix

 

2013

 

Mix

 

Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans

 

$

32,047

 

95.63

%

$

26,491

 

95.74

%

$

24,400

 

95.60

%

Funds sold

 

1

 

.00

 

 

 

 

 

Taxable securities

 

1,095

 

3.27

 

962

 

3.48

 

961

 

3.77

 

Nontaxable securities

 

162

 

.48

 

64

 

.23

 

34

 

.13

 

Other interest-earning assets

 

208

 

.62

 

152

 

.55

 

128

 

.50

 

Total earning assets

 

33,513

 

100.00

%

27,669

 

100.00

%

25,523

 

100.00

%

Interest Expense

 

 

 

 

 

 

 

 

 

 

 

 

 

NOW, money markets, checking

 

583

 

13.27

%

404

 

9.75

%

388

 

9.41

%

Savings

 

31

 

.70

 

15

 

.36

 

13

 

.32

 

Certificates of deposit

 

1,627

 

37.04

 

1,984

 

47.90

 

2,413

 

58.50

 

Brokered deposits

 

1,010

 

22.99

 

815

 

19.68

 

654

 

15.86

 

Borrowings

 

1,142

 

26.00

 

924

 

22.31

 

656

 

15.91

 

Total interest-bearing funds

 

4,393

 

100.00

%

4,142

 

100.00

%

4,124

 

100.00

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest income

 

$

29,120

 

 

 

$

23,527

 

 

 

$

21,399

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Average Rates

 

 

 

 

 

 

 

 

 

 

 

 

 

Earning assets

 

4.95

%

 

 

4.93

%

 

 

4.98

%

 

 

Interest-bearing funds

 

.80

 

 

 

.90

 

 

 

.99

 

 

 

Interest rate spread

 

4.15

 

 

 

4.03

 

 

 

3.99

 

 

 

 

For purposes of this presentation, non-taxable interest income has bot been restated on a tax-equivalent basis.

 

As shown in the table above, income on loans provides more than 95% of the Corporation’s interest revenue.  The Corporation’s loan portfolio has approximately $315.006 million of variable rate loans that predominantly reprice with changes in the prime rate and $303.388 million of fixed rate loans.  A large portion of the variable rate loans, 48%, or $147.883 million, have interest rate floors.  These loans will not reprice until the prime rate increases to the extent necessary to surpass the interest rate floor.  A prime rate increase of 100 basis points or more will reprice $119.163 million of these loans with floors, while the majority of the remainder will reprice with an additional 100 basis point increase in the prime rate.

 

The majority of interest bearing liabilities do not reprice automatically with changes in interest rates, which provides flexibility to manage interest income.  Management monitors the interest rate sensitivity of earning assets and interest bearing liabilities to minimize the risk of movements in interest rates.

 

The following table presents the amount of taxable equivalent interest income from average interest-earning assets and the yields earned on those assets, as well as the interest expense on average interest-bearing obligations and the rates paid on those obligations.  All average balances are daily average balances.

 

Taxable equivalent adjustments are the result of increasing income from tax-free loans and investments by an amount equal to the taxes that would be paid if the income were fully taxable based on a 34% federal tax rate, thus making tax-exempt yields comparable to taxable asset yields.

 

20



Table of Contents

 

 

 

Years ended December 31,

 

 

 

2015

 

2014

 

2013

 

 

 

Average

 

 

 

Average

 

Average

 

 

 

Average

 

Average

 

 

 

Average

 

(dollars in thousands)

 

Balance

 

Interest

 

Rate

 

Balance

 

Interest

 

Rate

 

Balance

 

Interest

 

Rate

 

ASSETS:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans (1,2,3)

 

$

608,938

 

$

32,053

 

5.26

%

$

509,749

 

$

26,506

 

5.20

%

$

462,500

 

$

24,454

 

5.29

%

Taxable securities

 

55,057

 

1,095

 

1.99

 

45,172

 

962

 

2.13

 

46,294

 

961

 

2.08

 

Nontaxable securities (2)

 

3,466

 

245

 

7.07

 

2,062

 

97

 

4.70

 

1,002

 

51

 

5.09

 

Other interest-earning assets

 

9,255

 

209

 

2.26

 

3,888

 

152

 

3.91

 

3,073

 

128

 

4.17

 

Total earning assets

 

676,716

 

33,602

 

4.97

 

560,871

 

27,717

 

4.94

 

512,869

 

25,594

 

4.99

 

Reserve for loan losses

 

(5,265

)

 

 

 

 

(5,187

)

 

 

 

 

(5,045

)

 

 

 

 

Cash and due from banks

 

25,985

 

 

 

 

 

23,124

 

 

 

 

 

20,535

 

 

 

 

 

Fixed assets

 

12,704

 

 

 

 

 

10,174

 

 

 

 

 

10,632

 

 

 

 

 

Other real estate owned

 

2,364

 

 

 

 

 

2,088

 

 

 

 

 

2,800

 

 

 

 

 

Other assets

 

26,183

 

 

 

 

 

14,542

 

 

 

 

 

13,361

 

 

 

 

 

 

 

61,971

 

 

 

 

 

44,741

 

 

 

 

 

42,283

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

TOTAL AVERAGE ASSETS

 

$

738,687

 

 

 

 

 

$

605,612

 

 

 

 

 

$

555,152

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOW and Money Markets

 

$

157,781

 

$

489

 

.31

%

$

114,313

 

$

309

 

.27

%

$

120,401

 

$

289

 

.24

%

Interest checking

 

51,438

 

94

 

.18

 

45,158

 

95

 

.21

 

35,242

 

99

 

.28

 

Savings deposits

 

30,020

 

31

 

.10

 

15,717

 

15

 

.10

 

13,052

 

13

 

.10

 

Certificates of deposit

 

156,828

 

1,626

 

1.04

 

168,349

 

1,984

 

1.18

 

157,325

 

2,412

 

1.53

 

Brokered deposits

 

101,789

 

1,010

 

.99

 

69,833

 

815

 

1.17

 

53,435

 

654

 

1.22

 

Borrowings

 

53,896

 

1,142

 

2.12

 

45,451

 

924

 

2.03

 

37,838

 

656

 

1.73

 

Total interest-bearing liabilities

 

551,752

 

4,392

 

.80

%

458,821

 

4,142

 

.90

 

417,293

 

4,123

 

.99

 

Demand deposits

 

107,958

 

 

 

 

 

76,880

 

 

 

 

 

67,596

 

 

 

 

 

Other liabilities

 

3,432

 

 

 

 

 

3,662

 

 

 

 

 

2,091

 

 

 

 

 

Shareholders’ equity

 

75,545

 

 

 

 

 

66,249

 

 

 

 

 

68,172

 

 

 

 

 

 

 

186,935

 

 

 

 

 

146,791

 

 

 

 

 

137,859

 

 

 

 

 

TOTAL AVERAGE LIABILITIES AND SHAREHOLDERS’ EQUITY

 

$

738,687

 

 

 

 

 

$

605,612

 

 

 

 

 

$

555,152

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Rate spread

 

 

 

 

 

4.17

 

 

 

 

 

4.04

%

 

 

 

 

4.00

%

Net interest margin/revenue, tax equivalent basis

 

 

 

$

29,210

 

4.32

%

 

 

$

23,575

 

4.20

%

 

 

$

21,471

 

4.19

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


(1) For purposes of these computations, non-accruing loans are included in the daily average loan amounts outstanding.

(2)   The amount of interest income on nontaxable securities and loans has been adjusted to a tax equivalent basis, using a 34% tax rate.

(3) Interest income on loans includes loan fees.

 

The following table presents the dollar amount, in thousands, of changes in taxable equivalent interest income and interest expense for major components of interest-earning assets and interest-bearing obligations.  It distinguishes between changes related to higher or lower outstanding balances and changes due to the levels and fluctuations in interest rates.  For each category of interest-earning assets and interest-bearing obligations, information is provided for changes attributable to (i) changes in volume (i.e. changes in volume multiplied by prior period rate) and (ii) changes in rate (i.e. changes in rate multiplied by prior period volume).  For purposes of this table, changes attributable to both rate and volume are shown as a separate variance.

 

 

 

 

Years ended December 31,

 

 

 

2015 vs. 2014

 

2014 vs. 2013

 

 

 

Increase (Decrease)
Due to

 

Total

 

Increase (Decrease)
Due to

 

Total

 

 

 

 

 

 

 

Volume

 

Increase

 

 

 

 

 

volume

 

Increase

 

 

 

Volume

 

Rate

 

and Rate

 

(Decrease)

 

Volume

 

Rate

 

and Rate

 

(Decrease)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans

 

$

5,158

 

$

326

 

$

63

 

$

5,547

 

$

2,498

 

$

(405

)

$

(41

)

$

2,052

 

Taxable securities

 

211

 

(64

)

(14

)

133

 

(23

)

25

 

(1

)

1

 

Nontaxable securities

 

66

 

49

 

33

 

148

 

54

 

(4

)

(4

)

46

 

Other interest earning assets

 

160

 

(50

)

(53

)

57

 

31

 

(6

)

(1

)

24

 

Total interest earning assets

 

$

5,595

 

$

261

 

$

29

 

$

5,885

 

$

2,560

 

$

(390

)

$

(47

)

$

2,123

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest bearing obligations:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOW and money market deposits

 

$

117

 

$

45

 

$

17

 

$

179

 

$

(15

)

$

37

 

$

(2

)

$

20

 

Interest checking

 

13

 

(12

)

(2

)

(1

)

28

 

(25

)

(7

)

(4

)

Savings deposits

 

14

 

1

 

1

 

16

 

3

 

(1

)

 

2

 

Certificates of deposit

 

(131

)

(240

)

13

 

(358

)

169

 

(557

)

(40

)

(428

)

Brokered deposits

 

373

 

(122

)

(55

)

196

 

200

 

(30

)

(9

)

161

 

Borrowings

 

172

 

39

 

7

 

218

 

132

 

113

 

23

 

268

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total interest bearing obligations

 

$

558

 

$

(289

)

$

(19

)

$

250

 

$

517

 

$

(463

)

$

(35

)

$

19

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest income, tax equivalent basis

 

 

 

 

 

 

 

$

5,635

 

 

 

 

 

 

 

$

2,104

 

 

21



Table of Contents

 

Provision for Loan Losses

 

The Corporation records a provision for loan losses when it believes it is necessary to adjust the allowance for loan losses to maintain an adequate level after considering factors such as loan charge-offs and recoveries, changes in identified levels of risk in the loan portfolio, changes in the mix of loans in the portfolio, loan growth, and other economic factors.  During 2015, the Corporation recorded a provision for loan loss of $1.204 million, compared to a provision of $1.200 million in 2014 and $1.675 million in 2013.

 

Noninterest Income

 

Noninterest income was $3.889 million, $3.112 million, and $3.938 million in 2015, 2014, and 2013, respectively.  The principal recurring sources of noninterest income are the gains on the sale of SBA/USDA guaranteed loans and secondary market loans.  In 2015, revenues from these two business lines totaled $1.681 million compared to $1.394 million in 2014 and $1.979 million in 2013.  The Corporation, in recent years, expanded its efforts to generate increased income from secondary market loans by adding additional staff and centralizing processing activities.  The Corporation also retains the servicing for the majority of mortgage loans sold to the secondary market.  In 2015, income from servicing mortgages amounted to $.547 million, compared to $.675 million in 2014 and $.790 million in 2013.

 

Deposit related income totaled $.836 million in 2015 compared to $.701 million in 2014 and $.667 million in 2013.  The current regulatory environment may limit the Corporation’s ability to grow these revenue sources.

 

The following table details noninterest income for the three years ended December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

2015-2014%

 

2014-2013

 

Deposit service charges

 

$

200

 

$

150

 

$

109

 

33.33

%

37.61

%

NSF Fees

 

636

 

551

 

558

 

15.43

 

(1.25

)

Gain on sale of secondary market loans

 

873

 

493

 

794

 

77.08

 

(37.91

)

Secondary market fees generated

 

198

 

144

 

234

 

37.50

 

(38.46

)

SBA Fees

 

610

 

757

 

951

 

(19.42

)

(20.40

)

Mortgage servicing rights

 

547

 

675

 

790

 

(18.96

)

(14.56

)

Other

 

370

 

288

 

429

 

28.47

 

(32.87

)

Subtotal

 

3,434

 

3,058

 

3,865

 

12.30

 

(20.88

)

Net security gains

 

455

 

54

 

73

 

742.59

 

(26.03

)

Total noninterest income

 

$

3,889

 

$

3,112

 

$

3,938

 

24.97

%

(20.98

)%

 

Noninterest Expense

 

Noninterest expense was $23.876 million in 2015, compared to $22.610 million and $18.128 million in 2014 and 2013, respectively.  In 2015, the increase in noninterest expense totaled $1.266 million, or 5.60%.  Salaries and benefits, at $12.449 million, increased by $2.146 million, 20.83%, from the 2014 expenses of $10.303 million and compared to $9.351 million in 2013.  Expense increases on salaries and benefits in 2014 were largely due to increased staffing resulting from the PFC acquisition late in 2014.

 

Management will continue to review all areas of noninterest expense in order to evaluate where opportunities may exist which could reduce expenses without compromising service to customers.

 

22



Table of Contents

 

The following table details noninterest expense for the three years ended December 31 (dollars in thousands):

 

 

 

 

 

 

 

 

 

% Increase (Decrease)

 

 

 

2015

 

2014

 

2013

 

2015-2014

 

2014 - 2013

 

Salaries and benefits

 

$

12,449

 

$

10,303

 

$

9,351

 

20.83

%

10.18

%

Occupancy

 

2,424

 

2,129

 

1,481

 

13.86

 

43.75

 

Furniture and equipment

 

1,551

 

1,268

 

1,102

 

22.32

 

15.06

 

Data processing

 

1,381

 

1,150

 

1,071

 

20.09

 

7.38

 

Professional service fees:

 

 

 

 

 

 

 

 

 

 

 

Accounting

 

443

 

375

 

362

 

18.13

 

3.59

 

Legal

 

139

 

205

 

264

 

(32.20

)

(22.35

)

Consulting and other

 

688

 

583

 

443

 

18.01

 

31.60

 

Total professional service fees

 

1,270

 

1,163

 

1,069

 

9.20

 

8.79

 

Loan and deposit

 

955

 

699

 

617

 

36.62

 

13.29

 

Writedowns and losses on OREO held for sale

 

332

 

280

 

265

 

18.57

 

5.66

 

FDIC insurance assessment

 

506

 

362

 

385

 

39.78

 

(5.97

)

Telephone

 

455

 

327

 

303

 

39.14

 

7.92

 

Advertising

 

507

 

449

 

436

 

12.92

 

2.98

 

Nonrecurring transaction related expenses

 

 

2,475

 

 

100.00

 

100.00

 

Other operating expenses

 

2,046

 

2,005

 

2,048

 

2.04

 

(2.10

)

Total noninterest expense

 

$

23,876

 

$

22,610

 

$

18,128

 

5.60

%

24.72

%

 

Federal Income Taxes

 

A deferred tax asset is recognized for temporary differences that will result in deductible amounts in future years and contain tax carryforwards including past net operating losses and tax credits.  For example, a temporary difference is created between the reported amount and the tax basis of a liability for estimated expenses if, for tax purposes, those estimated expenses are not deductible until a future year.  Settlement of that liability will result in tax deductions in future years, and a deferred tax asset is recognized based on the weight of available evidence.  All available evidence, both positive and negative, is considered to determine whether, based on the weight of that evidence, a valuation allowance is needed for some portion or all of a deferred tax asset.  Judgment must be used in considering the relative impact of negative and positive evidence.  The weight given to the potential effect of negative and positive evidence should be commensurate with the extent to which it can be objectively verified.  The more negative evidence that exists, (a) the more positive evidence is necessary and (b) the more difficult it is to support a conclusion that a valuation allowance is not needed.

 

A valuation allowance is provided against deferred tax assets when it is more likely than not that some or all of the deferred tax asset will not be realized.  The Corporation, as of December 31, 2015 had a net operating loss and tax credit carryforwards for tax purposes of approximately $12.738 million, and $2.336 million, respectively.  The Corporation evaluated the future benefits from these carryforwards as of December 31, 2015 and determined that it was “more likely than not” that they would be utilized prior to expiration and recognized the additional benefits totaling $.322 million. It was also determined that the remaining valuation allowance should be eliminated in conjunction with the expiration of various tax credits before they could be utilized.  This “write-off” of deferred tax assets pertaining to expired credits was approximately $.429 million. The net operating loss carryforwards expire twenty years from the date they originated.  These carryforwards, if not utilized, will begin to expire in the year 2023.  A portion of the NOL and credit carryforwards are subject to the limitations for utilization as set forth in Section 382 of the Internal Revenue Code.  The annual limitation is $1.404 million for the NOL and the equivalent value of tax credits, which is approximately $.476 million.  These limitations for use were established in conjunction with the recapitalization of the Corporation in December 2004.

 

Current Federal Tax Provision

 

The Corporation recognized a deferred tax expense of approximately $2.333 million for the year ended December 31, 2015 and a deferred tax expense of $1.129 million for the year ended December 31, 2014.  In December 2013, the Corporation reduced the valuation by $2.250 million.  After a thorough review of projected earnings and the composition and sustainability of those earnings over the projected tax carryover period, an analysis substantiated the ability to utilize these deferred tax assets.  The Corporation will continue to evaluate the future benefits from these carryforwards in order to determine if any adjustment to the deferred tax asset is warranted.

 

In connection with the Peninsula acquisition in December 2014, the Corporation acquired $.933 million of NOL carryforward and approximately $.217 million of various tax credits, which it expects to utilize prior to expiration.

 

23



Table of Contents

 

The table below details the Corporation’s deferred tax assets and liabilities (dollars in thousands):

 

 

 

2015

 

2014

 

Deferred tax assets:

 

 

 

 

 

NOL carryforward

 

$

4,331

 

$

5,500

 

Allowance for loan losses

 

1,705

 

2,194

 

Alternative Minimum Tax Credit

 

1,999

 

1,586

 

OREO Tax basis > book basis

 

162

 

474

 

Tax credit carryovers

 

338

 

767

 

Deferred compensation

 

517

 

576

 

Pension liability

 

384

 

475

 

Stock compensation

 

141

 

247

 

Purchase accounting adjustments

 

955

 

2,095

 

Other

 

141

 

33

 

 

 

 

 

 

 

Total deferred tax assets

 

10,673

 

13,947

 

 

 

 

 

 

 

Valuation allowance

 

$

 

$

(760

)

 

 

 

 

 

 

Deferred tax liabilities:

 

 

 

 

 

Core deposit premium

 

(366

)

(407

)

FHLB stock dividend

 

(100

)

(103

)

Depreciation

 

(113

)

(88

)

Unrealized gain on securities

 

(153

)

(363

)

Mortgage servicing rights

 

(667

)

(658

)

Other

 

(61

)

(70

)

Total deferred tax liabilities

 

(1,460

)

(1,689

)

 

 

 

 

 

 

 

 

Net deferred tax asset

 

$

9,213

 

$

11,498

 

 

FINANCIAL POSITION

 

The table below illustrates the relative composition of various liability funding sources and asset make-up.

 

 

 

December 31,

 

 

 

2015

 

2014

 

2013

 

(dollars in thousands)

 

Balance

 

Mix

 

Balance

 

Mix

 

Balance

 

Mix

 

Sources of funds:

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-interest bearing transactional deposits

 

$

122,775

 

16.61

%

$

95,498

 

12.84

%

$

72,936

 

12.73

%

Interest-bearing transactional deposits

 

233,666

 

31.61

 

240,580

 

32.35

 

162,162

 

28.31

 

CD’s <$100,000

 

105,859

 

14.32

 

134,951

 

18.14

 

140,495

 

24.53

 

Total core deposit funding

 

462,300

 

62.54

 

471,029

 

63.33

 

375,593

 

65.57

 

CD’s >$100,000

 

26,757

 

3.62

 

30,316

 

4.08

 

23,159

 

4.04

 

Brokered deposits

 

121,266

 

16.40

 

105,628

 

14.20

 

67,547

 

11.79

 

Total noncore deposit funding

 

148,023

 

20.02

 

135,944

 

18.28

 

90,706

 

15.84

 

FHLB and other borrowings

 

45,754

 

6.19

 

49,846

 

6.70

 

37,852

 

6.61

 

Other liabilities

 

6,590

 

.89

 

12,970

 

1.74

 

3,400

 

.59

 

Shareholders’ equity

 

76,602

 

10.36

 

73,996

 

9.95

 

65,249

 

11.39

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

739,269

 

100.00

%

$

743,785

 

100.00

%

$

572,800

 

100.00

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Uses of Funds:

 

 

 

 

 

 

 

 

 

 

 

 

 

Net Loans

 

$

613,390

 

82.97

%

$

595,795

 

80.11

%

$

479,171

 

83.66

%

Securities available for sale

 

53,728

 

7.27

 

65,832

 

8.85

 

44,388

 

7.75

 

Federal funds sold

 

3

 

.00

 

 

 

3

 

.00

 

Federal Home Loan Bank Stock

 

2,169

 

.29

 

2,973

 

.40

 

3,060

 

.53

 

Interest-bearing deposits

 

5,089

 

.69

 

5,797

 

.78

 

10

 

.00

 

Cash and due from banks

 

25,005

 

3.38

 

21,947

 

2.95

 

18,216

 

3.18

 

Other assets

 

39,885

 

5.40

 

51,441

 

6.92

 

27,952

 

4.88

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

739,269

 

100.00

%

$

743,785

 

100.00

%

$

572,800

 

100.00

%

 

Securities

 

The securities portfolio is an important component of the Corporation’s asset composition to provide diversity in its asset base and provide liquidity.  Securities decreased $12.104 million in 2015, from $65.832 million at December 31, 2014 to $53.728 million at December 31, 2015.

 

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The carrying value of the Corporation’s securities at December 31 (dollars in thousands) is as follows:

 

 

 

2015

 

2014

 

US Agencies

 

$

27,377

 

$

22,717

 

US Agencies - MBS

 

3,759

 

13,688

 

Corporate

 

12,646

 

12,674

 

Obligations of states and political subdivisions

 

9,946

 

11,473

 

US Treasury

 

 

5,280

 

 

 

 

 

 

 

Total securities

 

$

53,728

 

$

65,832

 

 

The Corporation’s policy is to purchase securities of high credit quality, consistent with its asset/liability management strategies.  The Corporation classifies all securities as available for sale, in order to maintain adequate liquidity and to maximize its ability to react to changing market conditions.  At December 31, 2015, investment securities with an estimated fair market value of $7.972 million were pledged.

 

Loans

 

The Bank is a full service lender and offers a variety of loan products in all of its markets.  The majority of its loans are commercial, which represents approximately 73% of total loans outstanding at December 31, 2015.

 

The Corporation continued to experience strong loan demand in 2015 with approximately $234.271 million of new loan production, including $53.229 million of mortgage loans sold in the secondary market.  At 2015 year-end, the Corporation’s loans stood at $618.394 million, an increase from the 2014 year-end balances of $600.935 million.  In 2014, the secondary mortgage loans that were produced and sold totaled $53.229 million while the SBA/USDA loan sales amounted to $8.959 million.  The production of loans was distributed among the regions, with the Upper Peninsula at $133.737 million, $56.142 million in the Northern Lower Peninsula and $44.392 million in Southeast Michigan.

 

The December 2014 acquisition of loans added $72.289 million to our consolidated loan portfolio.  These acquired loans consisted of approximately $33 million commercial loans and $39 million consumer loans.  These acquired loans did not result in any concentration risk.

 

Management believes a properly positioned loan portfolio provides the most attractive earning asset yield available to the Corporation and, with changes to the loan approval process and exception reporting, management can effectively manage the risk in the loan portfolio.  Management intends to continue loan growth within its markets for mortgage, consumer, and commercial loan products while concentrating on loan quality, industry concentration issues, and competitive pricing.  The Corporation is highly competitive in structuring loans to meet borrowing needs and satisfy strong underwriting requirements.

 

The following table details the loan activity for 2014 and 2015(dollars in thousands):

 

Loan balances as of December 31, 2013

 

483,832

 

 

 

 

 

Total production

 

183,403

 

Total loans acquired

 

72,289

 

Secondary market sales

 

(29,871

)

SBA loan sales

 

(7,075

)

Loans transferred to OREO

 

(588

)

Loans charged off, net of recoveries

 

(721

)

Normal amortization/paydowns and payoffs

 

(100,334

)

Loan balances as of December 31, 2014

 

$

600,935

 

 

 

 

 

Total production

 

234,271

 

Secondary market sales

 

(53,229

)

SBA loan sales

 

(8,959

)

Loans transferred to OREO

 

(1,376

)

Loans charged off, net of recoveries

 

(2,030

)

Normal amortization/paydowns and payoffs

 

(151,218

)

 

 

 

 

Loan balances as of December 31, 2015

 

$

618,394

 

 

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Following is a table that illustrates the balance changes in the loan portfolio from 2013 through 2015 year-end (dollars in thousands):

 

 

 

 

 

 

 

 

 

Percent Change

 

 

 

2015

 

2014

 

2013

 

2015-2014

 

2014-2013

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

312,805

 

$

315,387

 

$

268,809

 

(0.82

)%

17.33

%

Commercial, financial, and agricultural

 

122,140

 

101,895

 

79,655

 

19.87

 

27.92

 

One-to-four family residential real estate

 

140,502

 

139,553

 

103,768

 

0.68

 

34.49

 

Construction:

 

 

 

 

 

 

 

 

 

 

 

Consumer

 

11,770

 

9,431

 

6,895

 

24.80

 

36.78

 

Commercial

 

15,330

 

16,284

 

10,904

 

(5.86

)

49.34

 

Consumer

 

15,847

 

18,385

 

13,801

 

(13.80

)

33.21

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

618,394

 

$

600,935

 

$

483,832

 

2.91

%

24.20

%

 

Our commercial real estate loan portfolio predominantly relates to owner occupied real estate, and our loans are generally secured by a first mortgage lien.  Commercial real estate market conditions improved in 2015, and we expect this trend to continue.  We make commercial loans for many purposes, including: working capital lines, which are generally renewable annually and supported by business assets, personal guarantees and additional collateral.  Commercial business lending is generally considered to involve a higher degree of risk than traditional consumer bank lending.

 

Following is a table showing the composition of loans by significant industry types in the commercial loan portfolio as of December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

Balance

 

% of
Loans

 

% of
Capital

 

Balance

 

% of
Loans

 

% of
Capital

 

Real estate - operators of nonres bldgs

 

$

102,620

 

22.79

%

133.97

%

$

106,644

 

24.60

%

144.12

 

Hospitality and tourism

 

41,300

 

9.17

 

53.92

 

46,211

 

10.66

 

62.45

 

Lessors of residential buildings

 

25,930

 

5.76

 

33.85

 

19,776

 

4.56

 

26.73

 

Gasoline stations and convenience stores

 

21,647

 

4.81

 

28.26

 

13,841

 

3.19

 

18.71

 

Commercial construction

 

15,330

 

3.40

 

20.01

 

16,284

 

3.76

 

22.01

 

Lessors of other real estate property

 

7,055

 

1.57

 

9.21

 

9,130

 

2.11

 

12.34

 

Other

 

236,393

 

52.50

 

308.60

 

221,680

 

51.12

 

299.58

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total commercial loans

 

$

450,275

 

100.00

%

 

 

$

433,566

 

100.00

%

 

 

 

Management recognizes the additional risk presented by the concentration in certain segments of the portfolio.  On a historical basis, the Corporation’s highest concentration of credit risk was the hospitality and tourism industry.  Management does not consider the current loan concentrations in hospitality and tourism to be problematic, and has no intention of further reducing loans to this industry segment.  Management does not believe that its current portfolio composition has increased exposure related to any specific industry concentration as of 2015 year-end.  The current concentration of real estate related loans represents a broad customer base composed of a high percentage of owner-occupied developments.

 

Our residential real estate portfolio predominantly includes one-to-four family adjustable rate mortgages that have repricing terms generally from one to three years, construction loans to individuals and bridge financing loans for qualifying customers.  As of December 31, 2015, our residential loan portfolio totaled $152.272 million, or 25% of our total outstanding loans.

 

The Corporation has also extended credit to governmental units, including Native American organizations.  Tax-exempt loans and leases increased from $.858 million at the end of 2014 to $1.153 million at 2015 year-end.  The Corporation has elected to make limited tax-exempt loans, since they provide no current tax benefit due to tax net operating loss carryforwards.

 

Due to the seasonal nature of many of the Corporation’s commercial loan customers, loan payment terms provide flexibility by structuring payments to coincide with the customer’s business cycle.  The lending staff evaluates the collectability of the past due loans based on documented collateral values and payment history.  The Corporation discontinues the accrual of interest on loans when, in the opinion of management, there is an indication that the borrower may be unable to meet the payments as they become due.  Upon such discontinuance, all unpaid accrued interest is reversed.  Loans are returned to accrual status when all principal and interest amounts contractually due are brought current and future payments are reasonably assured.

 

Troubled debt restructurings (“TDR”) are determined on a loan-by-loan basis.  Generally restructurings are related to interest rate reductions, loan term extensions and short term payment forbearance as means to maximize collectability of troubled credits.  If a portion of the TDR loan is uncollectible (including forgiveness of principal),

 

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the uncollectible amount will be charged off against the allowance at the time of the restructuring.  In general, a borrower must make at least six consecutive timely payments before the Corporation would consider a return of a restructured loan to accruing status in accordance with FDIC guidelines regarding restoration of credits to accrual status.

 

The Corporation has, in accordance with generally accepted accounting principles and per recently enacted accounting standard updates, evaluated all loan modifications to determine the fair value impact of the underlying asset.  The carrying amount of the loan is compared to the expected payments to be received, discounted at the loan’s original rate, or for collateral dependent loans, to the fair value of the collateral.

 

The Corporation, at December 31, 2015, had performing loans of $5.339 million and $.154 million of nonperforming loans for which repayment terms were modified to the extent that they were deemed to be “restructured” loans.  The total restructured loans of $5.493 million is comprised of 24 performing loans, the largest of which had a December 31, 2015 balance of $1.166 million and two nonperforming loans.

 

Credit Quality

 

The table below shows balances of nonperforming assets for the three years ended December 31 (dollars in thousands):

 

 

 

 

December 31,

 

December 31,

 

December 31,

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Nonperforming Assets :

 

 

 

 

 

 

 

Nonaccrual loans

 

$

2,353

 

$

3,939

 

$

1,410

 

Loans past due 90 days or more

 

32

 

 

 

Restructured loans

 

154

 

 

614

 

Total nonperforming loans

 

2,539

 

3,939

 

2,024

 

Other real estate owned

 

2,324

 

3,010

 

1,884

 

Total nonperforming assets

 

$

4,863

 

$

6,949

 

$

3,908

 

Nonperforming loans as a % of loans

 

.41

%

.66

%

.42

 

Nonperforming assets as a % of assets

 

.66

%

.93

%

.68

 

Reserve for Loan Losses:

 

 

 

 

 

 

 

At period end

 

$

5,004

 

$

5,140

 

$

4,661

 

As a % of average loans

 

.83

%

1.01

%

.96

 

As a % of nonperforming loans

 

197.09

%

130.49

%

230.29

 

As a % of nonaccrual loans

 

212.66

%

130.49

%

330.57

 

Texas Ratio

 

6.34

%

9.37

%

5.59

 

 

 

 

 

 

 

 

 

Charge-off Information:

 

 

 

 

 

 

 

Average loans

 

$

602,904

 

$

509,749

 

$

462,500

 

Net charge-offs

 

$

1,340

 

$

721

 

$

2,232

 

Charge-offs as a % of average loans, annualized

 

.22

%

.14

%

.48

 

 

Management continues to address market issues impacting its loan customer base.  In conjunction with the Corporation’s senior lending staff and the bank regulatory examinations, management reviews the Corporation’s loans, related collateral evaluations, and the overall lending process.  The Corporation also utilizes a loan review consultant to perform a review of the loan portfolio.  The opinion of this consultant upon completion of the 2015 independent review provided findings similar to management with respect to credit quality.  The Corporation will again utilize a consultant for loan review in 2016.

 

The following table details the impact of nonperforming loans on interest income for the three years ended December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Interest income that would have been recorded at original rate

 

$

1,125

 

$

130

 

$

228

 

Interest income that was actually recorded

 

795

 

 

 

 

 

 

 

 

 

 

 

Net interest lost

 

$

330

 

$

130

 

$

228

 

 

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Table of Contents

 

Allowance for Loan Losses

 

Management analyzes the allowance for loan losses on a quarterly basis to determine whether the losses inherent in the portfolio are properly reserved for. Net charge-offs in 2015 amounted to $1.284 million, or .22% of average loans outstanding, compared to $.721 million, or .14% of loans outstanding in 2014.  The current reserve balance is representative of the relevant risk inherent within the Corporation’s loan portfolio.  Additions or reductions to the reserve in future periods will be dependent upon a combination of future loan growth, nonperforming loan balances and charge-off activity.

 

A three year history of relevant information on the Corporation’s credit quality is displayed in the following table (dollars in thousands):

 

Allowance for Loan Losses

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Balance at beginning of period

 

$

5,140

 

$

4,661

 

$

5,218

 

Loans charged off:

 

 

 

 

 

 

 

Commercial

 

1,801

 

682

 

2,171

 

One-to-four family residential real estate

 

142

 

290

 

141

 

Consumer

 

87

 

74

 

120

 

Total loans charged off

 

2,030

 

1,046

 

2,432

 

Recoveries of loans previously charged off:

 

 

 

 

 

 

 

Commercial

 

662

 

259

 

150

 

One-to-four family residential real estate

 

2

 

22

 

26

 

Consumer

 

26

 

44

 

24

 

Total recoveries of loans previously charged off

 

690

 

325

 

200

 

Net loans charged off

 

1,340

 

721

 

2,232

 

Provision for loan losses

 

1,204

 

1,200

 

1,675

 

 

 

 

 

 

 

 

 

Balance at end of period

 

$

5,004

 

$

5,140

 

$

4,661

 

 

 

 

 

 

 

 

 

Total loans, period end

 

$

618,934

 

$

600,935

 

$

483,832

 

Average loans for the year

 

602,904

 

509,749

 

462,500

 

Allowance to total loans at end of year

 

.81

%

.86

%

.96

%

Net charge-offs to average loans

 

.22

 

.14

 

.48

 

Net charge-offs to beginning allowance balance

 

26.07

 

15.47

 

42.78

 

 

The computation of the required allowance for loan losses as of any point in time is one of the critical accounting estimates made by management in the financial statements.  As such, factors used to establish the allowance could change significantly from the assumptions made and impact future earnings positively or negatively.  The future of the national and local economies and the resulting impact on borrowers’ ability to repay their loans and the value of collateral are examples of areas where assumptions must be made for individual loans, as well as the overall portfolio.

 

The allowance for loan losses consists of specific and general components.  Our internal risk system is used to identify loans that meet the criteria for being “impaired” as defined in the accounting guidance.  The specific component relates to loans that are individually classified as impaired and where expected cash flows are less than carrying value.  The general component covers non-impaired loans and is based on historical loss experience adjusted for qualitative factors.  These qualitative factors include: (1) changes in the nature, volume and terms of loans, (2) changes in lending personnel, (3) changes in the quality of the loan review function, (4) changes in nature and volume of past-due, nonaccrual and/or classified loans, (5) changes in concentration of credit risk, (6) changes in economic and industry conditions, (7) changes in legal and regulatory requirements, (8) unemployment and inflation statistics, and (9) underlying collateral values.

 

At the end of 2015, the allowance for loan losses represented .81% of total loans.  In management’s opinion, the allowance for loan losses is adequate to cover probable losses related to specifically identified loans, as well as probable losses inherent in the balance of the loan portfolio.  This position is further illustrated with the ratio of the allowance as a percent of nonperforming loans, which stood at 197.09% at December 31, 2015, compared to 130.49% at 2014 year end.

 

The Corporation completed the acquisition of Peninsula Financial Corporation on December 5, 2014.  The acquired loans were divided into loans with evidence of credit quality deterioration, which are accounted for under ASC 310-30 (“acquired impaired”) and loans that do not meet that criteria, which are accounted for under ASC 310-20 (“acquired nonimpaired”).  The acquired impaired loans totaled $10.321 million.  The Corporation recorded these loans at fair value taking into account a number of factors, including remaining life, estimated loss, estimated value of the underlying collateral and net present values of cash flows.  For the period of December 5, 2014 to December

 

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Table of Contents

 

31, 2014, recorded interest compared to accretable interest on acquired impaired loans was immaterial and no significant payments of principal were recorded.

 

As part of the process of resolving problem credits, the Corporation may acquire ownership of real estate collateral which secured such credits.  The Corporation carries this collateral in other real estate held for sale on the balance sheet.

 

The following table represents the activity in other real estate held for sale (dollars in thousands):

 

Balance at December 31, 2013

 

$

1,884

 

Other real estate transferred from loans due to foreclosure

 

588

 

Other real estate acquired, net of purchase accounting

 

1,193

 

Other real estate sold

 

(375

)

Writedowns on other real estate held for sales

 

(228

)

Loss on other real estate held for sale

 

(52

)

 

 

 

 

Balance at December 31, 2014

 

$

3,010

 

 

 

 

 

Other real estate transferred from loans due to foreclosure

 

1,376

 

Other real estate sold

 

(1,702

)

Writedowns on other real estate held for sales

 

(295

)

Loss on other real estate held for sale

 

(65

)

 

 

 

 

Balance at December 31, 2015

 

$

2,324

 

 

During 2015, the Corporation received real estate in lieu of loan payments of $1.702 million.  In determining the carrying value of other real estate held for sale, the Corporation generally starts with a third party appraisal of the underlying collateral and then deducts estimated selling costs to arrive at a net asset value.  After the initial receipt, management periodically re-evaluates the recorded balance and records any additional reductions in the fair value as a write-down of other real estate held for sale.

 

Deposits

 

Total deposits at December 31, 2015 were $610.323 million, an increase of $3.350 million, or .55% from December 31, 2014 deposits of $606.973 million.  Deposits acquired totaled $102.482 million at 2014 year end.  The table below shows the deposit mix for the periods indicated (dollars in thousands):

 

 

 

2015

 

Mix

 

2014

 

Mix

 

2013

 

Mix

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

CORE:

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-interest-bearing

 

$

122,775

 

20.12

%

$

95,498

 

15.73

%

$

72,936

 

15.64

%

NOW, money market, checking

 

202,784

 

33.23

 

212,565

 

35.02

 

149,123

 

31.98

 

Savings

 

30,882

 

5.06

 

28,015

 

4.62

 

13,039

 

2.80

 

Certificates of Deposit <$250,000

 

124,084

 

20.33

 

158,657

 

26.14

 

158,598

 

34.01

 

Total core deposits

 

480,525

 

78.73

 

494,735

 

81.51

 

393,696

 

84.43

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NONCORE:

 

 

 

 

 

 

 

 

 

 

 

 

 

Certificates of Deposit >$250,000

 

8,532

 

1.40

 

6,610

 

1.09

 

5,056

 

1.08

 

Brokered CDs

 

121,266

 

19.87

 

105,628

 

17.40

 

67,547

 

14.49

 

Total non-core deposits

 

129,798

 

21.27

 

112,238

 

18.49

 

72,603

 

15.57

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total deposits

 

$

610,323

 

100.00

%

$

606,973

 

100.00

%

$

466,299

 

100.00

%

 

The increase in deposits, as illustrated above, is composed of an increase in noncore deposits of $12.079 million, while core deposits decreased by $8.729 million.  Through the acquisition of Peninsula, the Corporation has enhanced its core deposit portfolio with additional stable deposit relationships from Peninsula’s long term customer base.

 

Management has increased its efforts to grow core deposits in recent years by introducing several new deposit products and implementing a bank-wide deposit incentive program.   As shown in the table above, core deposits now represent approximately 76% of total deposits.  The Corporation will continue to emphasize core deposit growth in its funding sources, but will also supplement this funding with strategic utilization of wholesale brokered deposits to help manage interest rate risk.

 

Management continues to monitor existing deposit products in order to stay competitive, both as to terms and pricing.  It is the intent of management to be aggressive in its markets to grow core deposits with an emphasis placed on transactional accounts.

 

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Table of Contents

 

Borrowings

 

The Corporation also utilizes FHLB borrowings as a source of funding.  At 2015 year end, this source of funding totaled $35.000 million and the Corporation secured this funding by pledging loans and investments.  The $35.000 million of FHLB borrowings had a weighted average maturity of 1.6 years, with a weighted average rate of 1.68% at December 31, 2015.

 

The Corporation also has one banking borrowing relationship.  The relationship consists of a non-revolving line of credit and a term note.  The line of credit bears interest at 90-day LIBOR plus 2.75%, with a floor rate of 4.00% and has an initial term that expires on December 28, 2017.  The term note bears the same interest and matures on March 22, 2017 and requires quarterly principal payments of $100,000 beginning June 30, 2014.  This relationship is secured by all of the outstanding Bank stock.

 

Shareholders’ Equity

 

Changes in shareholders’ equity are discussed in detail in the “Capital and Regulatory” section of this report.

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Interest Rate Risk

 

In general, the Corporation attempts to manage interest rate risk by investing in a variety of assets which afford it an opportunity to reprice assets and increase interest income at a rate equal to or greater than the interest expense associated with repricing liabilities.

 

Interest rate risk is the exposure of the Corporation to adverse movements in interest rates.  The Corporation derives its income primarily from the excess of interest collected on its interest-earning assets over the interest paid on its interest-bearing obligations.  The rates of interest the Corporation earns on its assets and owes on its obligations generally are established contractually for a period of time.  Since market interest rates change over time, the Corporation is exposed to lower profitability if it cannot adapt to interest rate changes.  Accepting interest rate risk can be an important source of profitability and shareholder value; however, excess levels of interest rate risk could pose a significant threat to the Corporation’s earnings and capital base.  Accordingly, effective risk management that maintains interest rate risk at prudent levels is essential to the Corporation’s safety and soundness.

 

Loans are the most significant earning asset.  Management offers commercial and real estate loans priced at interest rates which fluctuate with various indices, such as the prime rate or rates paid on various government issued securities.  When loans are made with longer-term fixed rates, the Corporation attempts to match these balances with sources of funding with similar maturities in order to mitigate interest rate risk.  In addition, the Corporation prices loans so it has an opportunity to reprice the loan within 12 to 36 months.

 

At December 31, 2015 the Bank had $53.728 million of securities, with a weighted average maturity of 51.96 months.  The investment portfolio is intended to provide a source of liquidity to the Corporation with limited interest rate risk. The Corporation may also elect to sell monies as investments in federal funds sold to correspondent banks, and has other interest bearing deposits with correspondent banks.  These funds are generally repriced on a daily basis.

 

The Corporation offers deposit products with a variety of terms ranging from deposits whose interest rates can change on a weekly basis to certificates of deposit with repricing terms of up to five years.  Longer-term deposits generally include penalty provisions for early withdrawal.

 

Beyond general efforts to shorten the loan pricing periods and extend deposit maturities, management can manage interest rate risk by the maturity periods of securities purchased, selling securities available for sale, and borrowing funds with targeted maturity periods, among other strategies.  Also, the rate of interest rate changes can impact the actions taken, since the speed of change affects borrowers and depositors differently.

 

Exposure to interest rate risk is reviewed on a regular basis.  Interest rate risk is the potential of economic losses due to future interest rate changes.  These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. The objective is to measure the effect of interest rate changes on net interest income and to structure the composition of the balance sheet to minimize interest rate risk and, at the same time, maximize income.

 

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Management realizes certain risks are inherent and that the goal is to identify and minimize the risks.  Tools used by management include maturity and repricing analysis and interest rate sensitivity analysis.  The Bank has monthly asset/ liability (“ALCO”) meetings, whose membership includes senior management, board representation and third party investment consultants.  During these monthly meetings, we review the current ALCO position and strategize about future opportunities on risks relative to pricing and positioning of assets and liabilities.

 

The difference between repricing assets and liabilities for a specific period is referred to as the gap.  An excess of repricable assets over liabilities is referred to as a positive gap.  An excess of repricable liabilities over assets is referred to as a negative gap.  The cumulative gap is the summation of the gap for all periods to the end of the period for which the cumulative gap is being measured.

 

Assets and liabilities scheduled to reprice are reported in the following timeframes.  Those instruments with a variable interest rate tied to an index and considered immediately repricable are reported in the 1 to 90 day timeframe.  The estimates of principal amortization and prepayments are assigned to the following time frames.

 

The following are the Corporation’s repricing opportunities at December 31, 2015 (dollars in thousands):

 

 

 

1-90

 

91-365

 

>1-5

 

Over 5

 

 

 

 

 

Days

 

Days

 

Years

 

Years

 

Total

 

Interest-earning assets:

 

 

 

 

 

 

 

 

 

 

 

Loans

 

$

237,630

 

$

143,016

 

$

236,006

 

$

1,742

 

$

618,394

 

Securities

 

3,734

 

1,878

 

40,666

 

7,450

 

53,728

 

Other (1)

 

4,128

 

3,133

 

 

 

7,261

 

 

 

 

 

 

 

 

 

 

 

 

 

Total interest-earning assets

 

245,492

 

148,027

 

276,672

 

9,192

 

679,383

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing obligations:

 

 

 

 

 

 

 

 

 

 

 

NOW, money market, savings and interest checking

 

233,666

 

 

 

 

233,666

 

Time deposits

 

26,193

 

66,712

 

39,568

 

143

 

132,616

 

Brokered CDs

 

40,286

 

48,679

 

32,301

 

 

121,266

 

Borrowings

 

10,100

 

5,375

 

29,958

 

321

 

45,754

 

 

 

 

 

 

 

 

 

 

 

 

 

Total interest-bearing obligations

 

310,245

 

120,766

 

101,827

 

464

 

533,302

 

 

 

 

 

 

 

 

 

 

 

 

 

Gap

 

$

(64,753

)

$

27,261

 

$

174,845

 

$

8,728

 

$

146,081

 

 

 

 

 

 

 

 

 

 

 

 

 

Cumulative gap

 

$

(64,753

)

$

(37,492

)

$

137,353

 

$

146,081

 

 

 

 


(1) includes Federal Home Loan Bank stock

 

The above analysis indicates that at December 31, 2015, the Corporation had a cumulative asset sensitivity gap position of $37.492 million within the one-year timeframe.  The Corporation’s cumulative liability sensitive gap suggests that if market interest rates were to increase in the next twelve months, the Corporation has the potential to earn less net interest income since more liabilities would reprice at higher rates than assets.  Conversely, if market interest rates decrease in the next twelve months, the above gap position suggests the Corporation’s net interest income would increase.  A limitation of the traditional gap analysis is that it does not consider the timing or magnitude of non-contractual repricing or unexpected prepayments.  In addition, the gap analysis treats savings, NOW and money market accounts as repricing within 90 days, while experience suggests that these categories of deposits are actually comparatively resistant to rate sensitivity.

 

At December 31, 2015, the Corporation had $315.006 million of variable rate loans that reprice primarily with the prime rate index.  Approximately $147.883 million of these variable rate loans have interest rate floors.  This means that the prime rate will have to increase above the floor rate before these loans will reprice.  At year end, $119.163 million of these floor-rate loans would reprice with a 100 basis point prime rate increase, with $28.622 million repricing with an additional 100 basis point prime rate increase.

 

At December 31, 2014, the Corporation had a cumulative asset sensitive gap position of $8.027 million within the one-year time frame.

 

The Corporation’s primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk and foreign exchange risk.  The Corporation has no market risk sensitive instruments held for trading purposes.  The

 

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Corporation has limited agricultural-related loan assets, and therefore, has minimal significant exposure to changes in commodity prices.  Any impact that changes in foreign exchange rates and commodity prices would have on interest rates are assumed to be insignificant.

 

Evaluating the exposure to changes in interest rates includes assessing both the adequacy of the process used to control interest rate risk and the quantitative level of exposure.  The Corporation’s interest rate risk management process seeks to ensure that appropriate policies, procedures, management information systems, and internal controls are in place to maintain interest rate risk at prudent levels with consistency and continuity.  In evaluating the quantitative level of interest rate risk, the Corporation assesses the existing and potential future effects of changes in interest rates on its financial condition, including capital adequacy, earnings, liquidity, and asset quality.  In addition to changes in interest rates, the level of future net interest income is also dependent on a number of variables, including: the growth, composition and levels of loans, deposits, and other earning assets and interest-bearing obligations, and economic and competitive conditions; potential changes in lending, investing, and deposit strategies; customer preferences; and other factors.

 

The table below measures current maturity levels of interest-earning assets and interest-bearing obligations, along with average stated rates and estimated fair values at December 31, 2015 (dollars in thousands).  Nonaccrual loans of $2.507 million are included in the table at an average interest rate of 0.00% and a maturity greater than five years.

 

Principal/Notional Amount Maturing/Repricing In:

 

 

 

2016

 

2017

 

2018

 

2019

 

2020

 

Thereafter

 

Total

 

Fair Value
12/31/2015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Rate Sensitive Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed interest rate securities

 

$

2,187

 

$

184

 

$

11,681

 

$

12,729

 

$

18,106

 

$

8,841

 

$

53,728

 

$

53,728

 

Average interest rate

 

2.93

 

5.52

 

1.78

 

1.83

 

2.05

 

4.19

 

2.34

%

 

 

Fixed interest rate loans

 

28,118

 

52,177

 

69,999

 

46,430

 

70,650

 

36,014

 

303,388

 

303,786

 

Average interest rate

 

4.38

 

5.01

 

4.86

 

4.89

 

4.39

 

4.53

 

4.70

 

 

 

Variable interest rate loans

 

315,006

 

 

 

 

 

 

315,006

 

315,405

 

Average interest rate

 

4.67

 

 

 

 

 

 

4.67

 

 

 

Other assets

 

4,293

 

992

 

1,729

 

247

 

 

 

7,261

 

7,261

 

Average interest rate

 

.93

 

.93

 

1.78

 

2.04

 

 

 

1.17

 

 

 

Total rate sensitive assets

 

$

349,604

 

$

53,353

 

$

83,409

 

$

59,406

 

$

88,756

 

$

44,855

 

$

679,383

 

$

680,180

 

Average interest rate

 

4.59

 

4.94

 

4.36

 

4.22

 

3.91

%

4.46

 

4.17

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Rate Sensitive Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing savings, NOW, MMAs, checking

 

$

233,666

 

$

 

$

 

$

 

$

 

$

 

$

233,666

 

$

233,666

 

Average interest rate

 

.16

 

 

 

 

 

 

.16

%

 

 

Time deposits

 

181,751

 

52,401

 

12,014

 

4,913

 

2,541

 

262

 

253,882

 

251,195

 

Average interest rate

 

1.06

 

1.07

 

1.29

 

1.68

 

1.09

 

.84

 

1.09

 

 

 

Variable interest rate borrowings

 

400

 

9,650

 

 

 

 

 

10,050

 

10,050

 

Average interest rate

 

4.00

 

4.00

 

 

 

 

 

4.00

 

 

 

Fixed interest rate borrowings

 

15,075

 

76

 

10,077

 

10,077

 

78

 

321

 

35,704

 

35,939

 

Average interest rate

 

2.02

 

1.00

 

1.10

 

1.71

 

1.00

 

1.00

 

1.66

 

 

 

Total rate sensitive liabilities

 

$

430,892

 

$

62,127

 

$

22,091

 

$

14,990

 

$

2,619

 

$

583

 

$

533,302

 

$

520,800

 

Average interest rate

 

.61

 

1.53

 

1.20

 

1.70

 

1.09

 

.93

 

.77

 

 

 

 

Foreign Exchange Risk

 

In addition to managing interest rate risk, management also actively manages risk associated with foreign exchange.  The Corporation provides foreign exchange services, makes loans to, and accepts deposits from, Canadian customers primarily at its banking office in Sault Ste. Marie.  To protect against foreign exchange risk, the Corporation monitors the volume of Canadian deposits it takes in and then invests these Canadian funds in Canadian commercial loans and securities.  As of December 31, 2015, the Corporation had excess Canadian assets of $.047 million, which equated to approximately the same valuation in U.S. dollars.  Management believes the exposure to short-term foreign exchange risk is minimal and at an acceptable level for the Corporation.  Management intends to limit the Corporation’s foreign exchange risk by acquiring deposit liabilities approximately equal to its Canadian assets.

 

Off-Balance-Sheet Risk

 

Derivative financial instruments include futures, forwards, interest rate swaps, option contracts and other financial instruments with similar characteristics.  In 2015, the Corporation did not enter into futures, forwards, swaps or

 

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options.  However, the Corporation is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit and standby letters of credit and involve to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.  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 and may require collateral from the borrower if deemed necessary by the Corporation.  Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party up to a stipulated amount and with specified terms and conditions.

 

Commitments to extend credit and standby letters of credit are not recorded as an asset or liability by the Corporation until the instrument is exercised.  See Note 19 to the consolidated financial statements for additional information.

 

LIQUIDITY

 

Liquidity is defined as the ability to generate cash at a reasonable cost to fulfill lending commitments and support asset growth, while satisfying the withdrawal demands of customers and make payments on existing borrowing commitments.  The Bank’s principal sources of liquidity are core deposits and loan and investment payments and prepayments.  Providing a secondary source of liquidity is the available for sale investment portfolio.  As a final source of liquidity, the Bank can exercise existing credit arrangements.

 

During 2015, the Corporation increased cash and cash equivalents by $3.061 million.  As shown on the Corporation’s consolidated statement of cash flows, liquidity was primarily impacted by cash used in investing activities and cash provided by financing activities.  The net change in investing activities included a net increase in loans of $19.293 million and a net decrease in securities available for sale of $11.197 million.  The net increases in assets were partially offset by an increase in deposit liabilities of $3.350 million.  This increase in deposits was composed of an increase in non-core deposits of $12.079 million combined with a decrease in core deposits of $8.729 million.  The management of bank liquidity for funding of loans and deposit maturities and withdrawals includes monitoring projected loan fundings and scheduled prepayments and deposit maturities within a 30 day period, a 30 to 90 day period and from 90 days until the end of the year.  This funding forecast model is completed weekly.

 

The Bank’s investment portfolio provides added liquidity during periods of market turmoil and overall liquidity concerns in the financial markets.  As of December 31, 2015, $45.756 million of the Bank’s investment portfolio was unpledged, which makes them readily available for sale to address any short term liquidity needs.

 

It is anticipated that during 2016, the Corporation will fund anticipated loan production with a combination of core-deposit growth and noncore funding, primarily brokered CDs.

 

The Corporation’s primary source of liquidity on a stand-alone basis is dividends from the Bank.  In December 2013 and 2014, the Bank paid a $3.0 million dividend.  Bank capital, after payment of this dividend, was strong and above the “well capitalized” regulatory level.  The Corporation has a $12.0 million line of credit with a correspondent bank, which also serves as a source of liquidity.  As of December 31, 2015, $4.250 million was available under this line.  The Corporation will continue to explore alternative opportunities for longer term sources of liquidity and permanent equity to support projected asset growth.

 

Liquidity is managed by the Corporation through its Asset and Liability Committee (the “ALCO” Committee).  The ALCO Committee meets monthly to discuss asset and liability management in order to address liquidity and funding needs to provide a process to seek the best alternatives for investments of assets, funding costs, and risk management.  The liquidity position of the Bank is managed daily, thus enabling the Bank to adapt its position according to market fluctuations.  Core deposits are important in maintaining a strong liquidity position as they represent a stable and relatively low cost source of funds.  The Bank’s liquidity is best illustrated by the mix in the Bank’s core and non-core funding dependency ratio, which explains the degree of reliance on non-core liabilities to fund long-term assets.  Core deposits are herein defined as demand deposits, NOW (negotiable order withdrawals), money markets, savings and certificates of deposit under $100,000. Non-core funding consists of certificates of deposit greater than $100,000, brokered deposits, and FHLB and other borrowings.

 

At December 31, 2015, the Bank’s core deposits in relation to total funding were 70.46% compared to 71.71% in 2014.  These ratios indicated at December 31, 2015, that the Bank has increased its reliance on non-core deposits and borrowings to fund the Bank’s long-term assets, namely loans and investments.  The Bank believes that by maintaining adequate volumes of short-term investments and implementing competitive pricing strategies on deposits, it can ensure adequate liquidity to support future growth.  The Bank also has correspondent lines of credit available to meet unanticipated short-term liquidity needs.  As of December 31, 2015, the Bank had $35.875 million of unsecured overnight borrowing lines available and additional amounts available if secured.   Management believes that its liquidity position remains strong to meet both present and future financial obligations and

 

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commitments, events or uncertainties that have resulted or are reasonably likely to result in material changes with respect to the Bank’s liquidity.

 

From a long-term perspective, the Corporation’s liquidity plan for 2015 includes strategies to increase core deposits in the Corporation’s local markets and will continue to augment local deposit growth efforts with wholesale CD funding, to the extent necessary.

 

Impact of Inflation and Changing Prices

 

The accompanying financial statements have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and results of operations in historical dollars without considering the change in the relative purchasing power of money over time due to inflation.  The impact of inflation is reflected in the increased cost of the Corporation’s operations.  Nearly all the assets and liabilities of the Corporation are financial, unlike industrial or commercial companies.  As a result, the Corporation’s performance is directly impacted by changes in interest rates, which are indirectly influenced by inflationary expectations.  The Corporation’s ability to match the interest sensitivity of its financial assets to the interest sensitivity of its financial liabilities tends to minimize the effect of changes in interest rates on the Corporation’s performance.  Changes in interest rates do not necessarily move to the same extent as changes in the prices of goods and services.

 

CONTRACTUAL OBLIGATIONS AND COMMITMENTS

 

As disclosed in the Notes to the Consolidated Financial Statements, the Corporation has certain obligations and commitments to make future payments under contracts.  At December 31, 2015, the aggregate contractual obligations and commitments are (dollars in thousands):

 

 

 

Payments Due by Period

 

 

 

 

 

 

 

 

 

After 5

 

 

 

 

 

Less than 1 Year

 

1 to 3 Years

 

4 to 5 Years

 

Years

 

Total

 

Contractual Obligations

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total deposits

 

$

538,192

 

$

64,415

 

$

7,454

 

$

262

 

$

610,323

 

Federal Home Loan Bank borrowings

 

15,000

 

10,000

 

10,000

 

 

35,000

 

Other borrowings

 

475

 

9,803

 

155

 

321

 

10,754

 

Directors’ deferred compensation

 

265

 

442

 

435

 

782

 

1,924

 

Annual rental / purchase commitments under noncancelable leases / contracts

 

723

 

1,076

 

925

 

3,766

 

6,490

 

 

 

 

 

 

 

 

 

 

 

 

 

TOTAL

 

$

554,655

 

$

85,736

 

$

18,969

 

$

5,131

 

$

664,491

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Commitments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Letters of credit

 

$

6,390

 

$

 

$

 

$

 

$

6,390

 

Commitments to extend credit

 

80,474

 

 

 

 

80,474

 

Credit card commitments

 

3,747

 

 

 

 

3,747

 

 

 

 

 

 

 

 

 

 

 

 

 

TOTAL

 

$

90,611

 

$

 

$

 

$

 

$

90,611

 

 

CAPITAL AND REGULATORY

 

As a bank holding company, the Corporation is required to maintain certain levels of capital under government regulation.  There are several measurements of regulatory capital, and the Corporation is required to meet minimum requirements under each measurement.  The federal banking regulators have also established capital classifications beyond the minimum requirements in order to risk-rate deposit insurance premiums and to provide trigger points for prompt corrective action in the event an institution becomes financially troubled.  As of December 31, 2015, the Corporation and the Bank were well capitalized.

 

The Corporation and Bank capital is also impacted by the disallowed portion of the Corporation’s deferred tax asset.  The portion of the deferred tax asset which is allowed to be included in regulatory capital is only that portion that can be utilized within the next 12-month period.  See “Business — Supervision and Regulation” and “— Basel III for additional information regarding regulatory capital, as well as Note 16 to the Corporation’s Consolidated Financial Statements in Item 8 of this Form 10-K below.

 

Item 7A.            Quantitative and Qualitative Disclosures About Market Risk

 

Incorporated by reference to the Management’s Discussion and Analysis of Financial Condition and Results of Operations set forth under Item 7 above.

 

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Item 8.                     Financial Statements and Supplementary Data

 

Report of Independent Registered Public Accounting Firm

 

 

Report of Independent Registered Public Accounting Firm

 

Board of Directors

Mackinac Financial Corporation, Inc.

 

We have audited the accompanying consolidated balance sheet of Mackinac Financial Corp. (the Corporation) as of December 31, 2015 and 2014, and the related consolidated statements of operations, comprehensive income, changes in shareholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2015. These financial statements are the responsibility of the Corporation’s management.  Our responsibility is to express an opinion on these financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  The Corporation is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Corporation’s internal control over financial reporting. Accordingly, we express no such opinion.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Mackinac Financial Corp. as of December 31, 2015 and 2014, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2015, in conformity with accounting principles generally accepted in the United States of America.

 

 

March 29, 2016

Auburn Hills, Michigan

 

 

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MACKINAC FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

December 31, 2015 and 2014

(Dollars in Thousands)

 

 

 

December 31,

 

December 31,

 

 

 

2015

 

2014

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

25,005

 

$

21,947

 

Federal funds sold

 

3

 

 

Cash and cash equivalents

 

25,008

 

21,947

 

 

 

 

 

 

 

Interest-bearing deposits in other financial institutions

 

5,089

 

5,797

 

Securities available for sale

 

53,728

 

65,832

 

Federal Home Loan Bank stock

 

2,169

 

2,973

 

 

 

 

 

 

 

Loans:

 

 

 

 

 

Commercial

 

450,275

 

433,566

 

Mortgage

 

152,272

 

148,984

 

Consumer

 

15,847

 

18,385

 

Total Loans

 

618,394

 

600,935

 

Allowance for loan losses

 

(5,004

)

(5,140

)

Net loans

 

613,390

 

595,795

 

 

 

 

 

 

 

Premises and equipment

 

12,524

 

12,658

 

Other real estate held for sale

 

2,324

 

3,010

 

Deferred tax asset

 

9,213

 

11,498

 

Deposit based intangibles

 

1,076

 

1,196

 

Goodwill

 

3,805

 

3,805

 

Other assets

 

10,943

 

19,274

 

 

 

 

 

 

 

TOTAL ASSETS

 

$

739,269

 

$

743,785

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES:

 

 

 

 

 

Deposits:

 

 

 

 

 

Noninterest bearing deposits

 

$

122,775

 

$

95,498

 

NOW, money market, interest checking

 

202,784

 

212,565

 

Savings

 

30,882

 

28,015

 

CDs<$250,000

 

124,084

 

158,657

 

CDs>$250,000

 

8,532

 

6,610

 

Brokered

 

121,266

 

105,628

 

Total deposits

 

610,323

 

606,973

 

 

 

 

 

 

 

Borrowings

 

45,754

 

49,846

 

Other liabilities

 

6,590

 

12,970

 

Total liabilities

 

662,667

 

669,789

 

 

 

 

 

 

 

SHAREHOLDERS’ EQUITY:

 

 

 

 

 

Preferred stock - No par value:

 

 

 

 

 

Authorized - 500,000 shares, Issued and outstanding - none

 

 

 

Common stock and additional paid in capital - No par value

 

 

 

 

 

Authorized - 18,000,000 shares

 

 

 

 

 

Issued and outstanding - 6,217,620 and 6,266,756 respectively

 

61,133

 

61,679

 

Retained earnings

 

15,221

 

11,804

 

Accumulated other comprehensive income

 

 

 

 

 

Unrealized gains on available for sale securities

 

297

 

562

 

Minimum pension liability

 

(49

)

(49

)

 

 

 

 

 

 

Total shareholders’ equity

 

76,602

 

73,996

 

 

 

 

 

 

 

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

 

$

739,269

 

$

743,785

 

 

See accompanying notes to consolidated financial statements.

 

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MACKINAC FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

Years Ended December 31, 2015, 2014, and 2013

(Dollars in Thousands, Except Per Share Data)

 

 

 

For the Years Ended
December 31,

 

 

 

2015

 

2014

 

2013

 

INTEREST INCOME:

 

 

 

 

 

 

 

Interest and fees on loans:

 

 

 

 

 

 

 

Taxable

 

$

32,034

 

$

26,461

 

$

24,295

 

Tax-exempt

 

13

 

30

 

105

 

Interest on securities:

 

 

 

 

 

 

 

Taxable

 

1,095

 

962

 

961

 

Tax-exempt

 

162

 

64

 

34

 

Other interest income

 

209

 

152

 

128

 

Total interest income

 

33,513

 

27,669

 

25,523

 

 

 

 

 

 

 

 

 

INTEREST EXPENSE:

 

 

 

 

 

 

 

Deposits

 

3,251

 

3,218

 

3,468

 

Borrowings

 

1,142

 

924

 

656

 

Total interest expense

 

4,393

 

4,142

 

4,124

 

 

 

 

 

 

 

 

 

Net interest income

 

29,120

 

23,527

 

21,399

 

Provision for loan losses

 

1,204

 

1,200

 

1,675

 

Net interest income after provision for loan losses

 

27,916

 

22,327

 

19,724

 

 

 

 

 

 

 

 

 

OTHER INCOME:

 

 

 

 

 

 

 

Deposit service fees

 

836

 

701

 

667

 

Income from loans sold on the secondary market

 

1,071

 

637

 

1,028

 

SBA/USDA loan sale gains

 

610

 

757

 

951

 

Mortgage servicing income

 

547

 

675

 

790

 

Net security gains

 

455

 

54

 

73

 

Other

 

370

 

288

 

429

 

Total other income

 

3,889

 

3,112

 

3,938

 

 

 

 

 

 

 

 

 

OTHER EXPENSE:

 

 

 

 

 

 

 

Salaries and employee benefits

 

12,449

 

10,303

 

9,351

 

Occupancy

 

2,424

 

2,129

 

1,481

 

Furniture and equipment

 

1,551

 

1,268

 

1,102

 

Data processing

 

1,381

 

1,150

 

1,071

 

Advertising

 

507

 

449

 

436

 

Professional service fees

 

1,270

 

1,163

 

1,069

 

Loan and deposit

 

955

 

699

 

617

 

Writedowns and losses on other real estate held for sale

 

332

 

280

 

265

 

FDIC insurance assessment

 

506

 

362

 

385

 

Telephone

 

455

 

327

 

303

 

Nonrecurring transaction related expenses

 

 

2,475

 

 

Other

 

2,046

 

2,005

 

2,048

 

Total other expenses

 

23,876

 

22,610

 

18,128

 

 

 

 

 

 

 

 

 

Income before provision for income taxes

 

7,929

 

2,829

 

5,534

 

Provision for (benefit of) income taxes

 

2,333

 

1,129

 

(403

)

 

 

 

 

 

 

 

 

NET INCOME

 

$

5,596

 

$

1,700

 

$

5,937

 

 

 

 

 

 

 

 

 

Preferred dividend and accretion of discount

 

 

 

308

 

 

 

 

 

 

 

 

 

NET INCOME AVAILABLE TO COMMON SHAREHOLDERS

 

$

5,596

 

$

1,700

 

$

5,629

 

 

 

 

 

 

 

 

 

INCOME PER COMMON SHARE:

 

 

 

 

 

 

 

Basic

 

$

.90

 

$

.30

 

$

1.01

 

Diluted

 

$

.89

 

$

.30

 

$

1.00

 

 

See accompanying notes to consolidated financial statements.

 

37



Table of Contents

 

MACKINAC FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Years Ended December 31, 2015, 2014, and 2013

(Dollars in Thousands)

 

 

 

For the year ended
December 31,

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Net income

 

$

5,596

 

$

1,700

 

$

5,937

 

Other comprehensive income

 

 

 

 

 

 

 

Change in securities available for sale:

 

 

 

 

 

 

 

Unrealized (losses) gains arising during the period

 

(24

)

578

 

(999

)

Reclassification adjustment for securities gains included in net income

 

(455

)

(54

)

(73

)

Tax effect

 

214

 

(178

)

364

 

Unrealized (losses) gains on available for sale securities

 

(265

)

346

 

(708

)

 

 

 

 

 

 

 

 

Defined benefit pension plans:

 

 

 

 

 

 

 

Net unrealized actuarial loss on defined benefit pension obligation

 

 

(74

)

 

Amortization of net loss and settlement cost recognized in income

 

 

 

 

Tax effect

 

 

25

 

 

Changes from defined benefit pension plans

 

 

(49

)

 

Other comprehensive (loss) income, net of tax

 

(265

)

297

 

(708

)

 

 

 

 

 

 

 

 

Total comprehensive income

 

$

5,331

 

$

1,997

 

$

5,229

 

 

See accompanying notes to consolidated financial statements.

 

38



Table of Contents

 

MACKINAC FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

Years Ended December 31, 2015, 2014, and 2013

(Dollars in Thousands)

 

 

 

Shares of
Common
Stock

 

Preferred
Stock
Series A

 

Common Stock
and Additional
Paid in Capital

 

Retained
Earnings
(Accumulated Deficit)

 

Accumulated
Other
Comprehensive
Income

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, January 1, 2013

 

5,559,859

 

11,000

 

53,797

 

6,727

 

924

 

72,448

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

 

 

5,937

 

 

 

5,937

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in unrealized gain on securities available for sale

 

 

 

 

 

(708

)

(708

)

Total comprehensive income

 

 

 

 

 

 

 

 

 

 

 

5,229

 

Stock compensation

 

 

 

333

 

 

 

333

 

Issuance of common stock

 

37,125

 

 

 

 

 

 

Repurchase of common stock

 

(55,594

)

 

 

(509

)

 

 

(509

)

Dividend on common stock

 

 

 

 

(944

)

 

(944

)

Dividend on preferred stock

 

 

 

 

(308

)

 

(308

)

Redemption of Preferred Series A

 

 

(11,000

)

 

 

 

(11,000

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2013

 

5,541,390

 

$

 

$

53,621

 

$

11,412

 

$

216

 

$

65,249

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

1,700

 

 

1,700

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in unrealized gain on securities available for sale

 

 

 

 

 

346

 

346

 

Actuarial loss on defined benefit

 

 

 

 

 

 

 

 

pension obligation

 

 

 

 

 

(49

)

(49

)

Total comprehensive income

 

 

 

 

 

 

 

 

 

297

 

1,997

 

Stock compensation

 

 

 

429

 

 

 

 

429

 

Issuance of common stock:

 

 

 

 

 

 

 

 

 

 

 

 

Acquisition - Peninsula Financial Corp

 

695,361

 

 

7,804

 

 

 

7,804

 

Stock option exercise

 

6,580

 

 

(32

)

 

 

(32

)

Restricted stock award vesting

 

37,125

 

 

 

 

 

 

Total issuance of common stock

 

739,066

 

 

7,772

 

 

 

7,772

 

Repurchase of common stock

 

(13,700

)

 

(143

)

 

 

(143

)

Dividend on common stock

 

 

 

 

(1,308

)

 

(1,308

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2014

 

6,266,756

 

$

 

$

61,679

 

$

11,804

 

$

513

 

$

73,996

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

5,596

 

 

5,596

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in unrealized gain on securities available for sale

 

 

 

 

 

(265

)

(265

)

Actuarial loss on defined benefit pension obligation

 

 

 

 

 

 

 

Total comprehensive income

 

 

 

 

 

 

 

 

 

(265

)

5,331

 

Stock compensation

 

 

 

576

 

 

 

576

 

Issuance of common stock:

 

 

 

 

 

 

 

 

 

 

 

 

Restricted stock award vesting

 

53,319

 

 

 

 

 

 

Repurchase of common stock

 

(102,455

)

 

(1,122

)

 

 

(1,122

)

Dividend on common stock

 

 

 

 

(2,179

)

 

(2,179

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2015

 

6,217,620

 

$

 

$

61,133

 

$

15,221

 

$

248

 

$

76,602

 

 

See accompanying notes to consolidated financial statements.

 

39



Table of Contents

 

MACKINAC FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS CASH FLOWS

Years Ended December 31, 2015, 2014, and 2013

(Dollars in Thousands)

 

 

 

 

For the year ended December 31,

 

 

 

2015

 

2014

 

2013

 

Cash Flows from Operating Activities:

 

 

 

 

 

 

 

Net income

 

$

5,596

 

$

1,700

 

$

5,937

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

Depreciation and amortization

 

1,670

 

1,503

 

1,657

 

Provision for loan losses

 

1,204

 

1,200

 

1,675

 

Deferred income taxes, net

 

2,333

 

1,129

 

(403

)

(Gain) on sales/calls of securities

 

(455

)

(54

)

(73

)

(Gain) on sale of loans sold in the secondary market

 

(873

)

(493

)

(794

)

Origination of loans held for sale in secondary market

 

(53,229

)

(29,871

)

(55,973

)

Proceeds from sale of loans in the secondary market

 

54,102

 

30,364

 

56,767

 

Loss on sale of premises, equipment, and other real estate held for sale

 

65

 

81

 

304

 

Writedown of other real estate held for sale

 

295

 

228

 

231

 

Stock compensation

 

576

 

429

 

333

 

Change in other assets

 

8,188

 

(4,112

)

(710

)

Change in other liabilities

 

(6,380

)

6,337

 

350

 

Net cash provided by operating activities

 

13,092

 

8,441

 

9,301

 

 

 

 

 

 

 

 

 

Cash Flows from Investing Activities:

 

 

 

 

 

 

 

Net increase in loans

 

(19,321

)

(50,969

)

(37,853

)

Net increase (decrease) in interest-bearing deposits in other financial institutions

 

708

 

(225

)

 

Purchase of securities available for sale

 

(23,894

)

(8,317

)

(15,709

)

Proceeds from maturities, sales, calls or paydowns of securities available for sale

 

35,091

 

9,449

 

13,698

 

Capital expenditures

 

(1,341

)

(1,433

)

(1,497

)

Proceeds from life insurance

 

263

 

 

 

Net cash used in Peninsula acquisition

 

 

(4,484

)

 

Proceeds from sale of premises, equipment, and other real estate

 

1,702

 

912

 

2,410

 

Redemption of FHLB stock

 

804

 

87

 

 

Net cash (used in) investing activities

 

(5,988

)

(54,980

)

(38,951

)

 

 

 

 

 

 

 

 

Cash Flows from Financing Activities:

 

 

 

 

 

 

 

Net increase in deposits

 

3,350

 

39,724

 

31,742

 

Net activity on line of credit

 

(3,367

)

9,367

 

2,000

 

Repurchase of common stock

 

(1,122

)

(143

)

(509

)

Dividend on common stock

 

(2,179

)

(1,308

)

(944

)

Redemption of Series A Preferred Stock

 

 

 

(11,000

)

Dividend on preferred stock

 

 

 

(308

)

Proceeds from term borrowing

 

 

3,000

 

 

Principal payments on borrowings

 

(725

)

(373

)

(73

)

Net cash provided by financing activities

 

(4,043

)

50,267

 

20,908

 

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

3,061

 

3,728

 

(8,742

)

Cash and cash equivalents at beginning of period

 

21,947

 

18,219

 

26,961

 

 

 

 

 

 

 

 

 

Cash and cash equivalents at end of period

 

$

25,008

 

$

21,947

 

$

18,219

 

 

 

 

 

 

 

 

 

Supplemental Cash Flow Information:

 

 

 

 

 

 

 

Cash paid during the year for:

 

 

 

 

 

 

 

Interest

 

$

4,423

 

$

4,119

 

$

4,157

 

Income taxes

 

150

 

100

 

149

 

 

 

 

 

 

 

 

 

Business Combinations

 

 

 

 

 

 

 

Fair value of tangible assets acquired (noncash)

 

$

 

$

105,265

 

$

 

Goodwill and identifiable intangible assets acquired

 

 

5,011

 

 

Liabilities assumed

 

 

104,151

 

 

Common stock issued

 

 

695,361

 

 

 

 

 

 

 

 

 

 

Noncash Investing and Financing Activities:

 

 

 

 

 

 

 

Transfers of Foreclosures from Loans to Other Real Estate Held for Sale (net of adjustments made through the allowance for loan losses)

 

$

1,376

 

$

588

 

$

932

 

 

See accompanying notes to consolidated financial statements.

 

40



Table of Contents

 

NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

The accounting policies of Mackinac Financial Corporation (the “Corporation”) and Subsidiaries conform to accounting principles generally accepted in the United States and prevailing practices within the banking industry. Significant accounting policies are summarized below.

 

Principles of Consolidation

 

The consolidated financial statements include the accounts of the Corporation and its wholly owned subsidiaries, mBank (the “Bank”) and other minor subsidiaries, after elimination of intercompany transactions and accounts.  Mackinac Commercial Credit, LLC was included as a subsidiary at December 31, 2014, but was merged into the Bank in 2015.

 

Nature of Operations

 

The Corporation’s and the Bank’s revenues and assets are derived primarily from banking activities. The Bank’s primary market area is the Upper Peninsula, the northern portion of the Lower Peninsula of Michigan, and Oakland County in Lower Michigan.  The Bank provides to its customers commercial, real estate, agricultural, and consumer loans, as well as a variety of traditional deposit products. Less than 1.0% of the Corporation’s business activity is with Canadian customers and denominated in Canadian dollars.

 

While the Corporation’s chief decision makers monitor the revenue streams of the various Corporation products and services, operations are managed and financial performance is evaluated on a Corporation-wide basis. Accordingly, all of the Corporation’s banking operations are considered by management to be aggregated in one reportable operating segment.

 

Use of Estimates in Preparation of Financial Statements

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the period. Actual results could differ from those estimates.

 

Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of investment securities, the valuation of foreclosed real estate, deferred tax assets, mortgage servicing rights, and the assessment of goodwill for impairment.

 

Cash and Cash Equivalents

 

For purposes of reporting cash flows, cash and cash equivalents include cash on hand, noninterest-bearing deposits in correspondent banks, and federal funds sold. Generally, federal funds are purchased and sold for one-day periods.

 

Securities

 

The Corporation’s securities are classified and accounted for as securities available for sale. These securities are stated at fair value. Premiums and discounts are recognized in interest income using the interest method over the period to maturity. Unrealized holding gains and losses on securities available for sale are reported as accumulated other comprehensive income within shareholders’ equity until realized.  When it is determined that securities or other investments are impaired and the impairment is other than temporary, an impairment loss is recognized in earnings and a new basis in the affected security is established.  Gains and losses on the sale of securities are recorded on the trade date and determined using the specific-identification method.

 

Federal Home Loan Bank Stock

 

As a member of the Federal Home Loan Bank (FHLB) system, the Bank is required to hold stock in the FHLB based on the anticipated level of borrowings to be advanced.  This stock is recorded at cost, which approximates fair value.  Transfer of the stock is substantially restricted.

 

41



Table of Contents

 

NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

 

Interest Income and Fees on Loans

 

Interest income on loans is reported on the level-yield method and includes amortization of deferred loan fees and costs over the loan term.  Net loan commitment fees or costs for commitment periods greater than one year are deferred and amortized into fee income or other expense on a straight-line basis over the commitment period.  The accrual of interest on loans is discontinued when, in the opinion of management, it is probable that the borrower may be unable to meet payments as they become due as well as when required by regulatory provisions.  Upon such discontinuance, all unpaid accrued interest is reversed.  Loans are returned to accrual status when all principal and interest amounts contractually due are brought current and future payments are reasonably assured.  Interest income on impaired and nonaccrual loans is recorded on a cash basis.

 

Acquired Loans

 

Loans acquired with evidence of credit deterioration since inception and for which it is probable that all contractual payments will not be received are accounted for under ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality (“ASC 310-30”).  These loans are recorded at fair value at the time of acquisition, with no carryover of the related allowance for loan losses.  Fair value of acquired loans is determined using a discounted cash flow methodology based on assumptions about the amount and timing of principal and interest payments, principal prepayments and principal defaults and losses, and current market rates.  In recording the fair values of acquired impaired loans at acquisition date, management calculates a non-accretable difference (the credit component of the purchased loans) and an accretable difference (the yield component of the purchased loans).

 

Over the life of the acquired loans, we continue to estimate cash flows expected to be collected on pools of loans sharing common risk characteristics, which are treated in the aggregate when applying various valuation techniques.  We evaluate at each balance sheet date whether the present value of our pools of loans determined using the effective interest rates has decreased significantly and if so, recognized a provision for loan loss in our consolidated statement of income.  For any significant increases in cash flows expected to be collected, we adjust the amount of the accretable yield recognized on a prospective basis over the pool’s remaining life.

 

Performing acquired loans are accounted for under FASB Topic 310-20, Receivables — Nonrefundable Fees and Other Costs.  Performance of certain loans may be monitored and based on management’s assessment of the cash flows and other facts available, portions of the accretable difference may be delayed or suspended if management deems appropriate.  The Corporation’s policy for determining when to discontinue accruing interest on performing acquired loans and the subsequent accounting for such loans is essentially the same as the policy for originated loans.

 

Servicing Rights

 

Servicing assets are recognized as separate assets when rights are acquired through purchase or through sale of financial assets.  Capitalized servicing rights are reported in other assets and are amortized into noninterest income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets.  Servicing assets are evaluated for impairment based on the fair value of the rights compared to amortized cost.  Impairment is determined by using prices for similar assets with similar characteristics, such as interest rates and terms.  Fair value is determined by using prices for similar assets with similar characteristics, when available, or based on discounted cash flows using market-based assumptions.  Impairment is recognized through a valuation allowance for an individual stratum, to the extent that fair value is less than the capitalized amount for the stratum.

 

Allowance for Loan Losses

 

The allowance for loan losses includes specific allowances related to commercial loans which have been judged to be impaired. A loan is impaired when, based on current information, it is probable that the Corporation will not collect all amounts due in accordance with the contractual terms of the loan agreement. These specific allowances are based on discounted cash flows of expected future payments using the loan’s initial effective interest rate or the fair value of the collateral if the loan is collateral dependent.

 

42



Table of Contents

 

NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

 

The Corporation also has a general allowance for loan losses for loans not considered impaired. The allowance for loan losses is maintained at a level which management believes is adequate to provide for probable loan losses. Management periodically evaluates the adequacy of the allowance using the Corporation’s past loan loss experience, known and inherent risks in the portfolio, composition of the portfolio, current economic conditions, and other factors. The allowance does not include the effects of expected losses related to future events or future changes in economic conditions. This evaluation is inherently subjective since it requires material estimates that may be susceptible to significant change. Loans are charged against the allowance for loan losses when management believes the collectability of the principal is unlikely. In addition, various regulatory agencies periodically review the allowance for loan losses. These agencies may require additions to the allowance for loan losses based on their judgments of collectability.

 

In management’s opinion, the allowance for loan losses is adequate to cover probable losses relating to specifically identified loans, as well as probable losses inherent in the balance of the loan portfolio as of the balance sheet date.

 

Troubled Debt Restructuring

 

Troubled debt restructuring of loans is undertaken to improve the likelihood that the loan will be repaid in full under the modified terms in accordance with a reasonable repayment schedule.  All modified loans are evaluated to determine whether the loans should be reported as a Troubled Debt Restructure (TDR).  A loan is a TDR when the Corporation, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower by modifying or renewing a loan that the Corporation would not otherwise consider. To make this determination, the Corporation must determine whether (a) the borrower is experiencing financial difficulties and (b) the Corporation granted the borrower a concession. This determination requires consideration of all of the facts and circumstances surrounding the modification.  An overall general decline in the economy or some deterioration in a borrower’s financial condition does not automatically mean the borrower is experiencing financial difficulties.

 

Other Real Estate Held for Sale

 

Other real estate held for sale consists of assets acquired through, or in lieu of, foreclosure and other long-lived assets to be disposed of by sale, whether previously held and used or newly acquired.  Other real estate held for sale is initially recorded at the lower of cost or fair value, less costs to sell, establishing a new cost basis.  Valuations are periodically performed by management, and the assets’ carrying values are adjusted to the lower of cost basis or fair value less costs to sell.  Impairment losses are recognized for any initial or subsequent write-downs.  Net revenue and expenses from operations of other real estate held for sale are included in other expense.

 

Premises and Equipment

 

Premises and equipment are stated at cost less accumulated depreciation.  Maintenance and repair costs are charged to expense as incurred.  Gains or losses on disposition of premises and equipment are reflected in income.  Depreciation is computed on the straight-line method over the estimated useful lives of the assets.

 

Goodwill and Other Intangible Assets

 

The excess of the cost of acquired entities over the fair value of identifiable assets acquired less liabilities assumed is recorded as goodwill.  In accordance with FASB ASC 350 (SFAS No. 142, Goodwill and Other Intangible Assets), amortization of goodwill and indefinite-lived assets is not recorded.  However, the recoverability of goodwill and other intangible assets are annually tested for impairment.  The Corporation’s core deposit intangible is currently being amortized over its estimated useful life, ten years.

 

43



Table of Contents

 

NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

 

Stock Compensation Plans

 

On May 22, 2012, the Corporation’s shareholders approved the Mackinac Financial Corporation 2012 Incentive Compensation Plan, under which current and prospective employees, non-employee directors and consultants may be awarded incentive stock options, non-statutory stock options, shares of restricted stock units (“RSUs”), or stock appreciation rights.  The aggregate number of shares of the Corporation’s common stock issuable under the plan is 575,000, which included 392,152 option shares outstanding at that time.  The Corporation’s Compensation Committee recommends awards for the executive officers, which are subsequently approved by the Board of Directors. Awards are made to certain other senior officers at the discretion of the Corporation’s management.  Compensation cost equal to the fair value of the award is recognized over the vesting period.

 

Comprehensive Income (Loss)

 

Comprehensive income (loss) consists of net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) is composed of unrealized gains and losses on securities available for sale, and unrecognized actuarial gains and losses in the defined benefit pension plan, arising during the period.  These gains and losses for the period are shown as a component of other comprehensive income.  The accumulated gains and losses are reported as a component of equity, net of any tax effect.  At December 31, 2015, the balance in accumulated other comprehensive income consisted of a change in the unrealized gain on available for sales securities of $.265 million and no change to the actuarial losses on the defined benefit pension obligation of $.049 million.  At December 31, 2014, the balance in accumulated other comprehensive income consisted of a change in the unrealized gain on available for sale securities of $.346 million and actuarial losses on the defined benefit pension obligation of $.049 million.

 

Earnings per Common Share

 

Diluted earnings per share, which reflects the potential dilution that could occur if outstanding stock options and warrants were exercised and stock awards were fully vested and resulted in the issuance of common stock that then shared in our earnings, is computed by dividing net income by the weighted average number of common shares outstanding and common stock equivalents, after giving effect for dilutive shares issued.

 

The following shows the computation of basic and diluted earnings per share for the year ended December 31, 2015, 2014 and 2013 (dollars in thousands, except per share data):

 

 

 

Year Ended December 31,

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Net income

 

$

5,596

 

$

1,700

 

$

5,937

 

Preferred stock dividends and accretion of discount

 

 

 

308

 

Net income available to common shareholders

 

$

5,596

 

$

1,700

 

$

5,629

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding

 

6,241,921

 

5,592,738

 

5,558,313

 

Effect of dilutive stock options, and vesting of restricted

 

 

 

 

 

 

 

stock units

 

31,400

 

61,073

 

91,745

 

Diluted weighted average shares outstanding

 

6,273,321

 

5,653,811

 

5,650,058

 

Income per common share:

 

 

 

 

 

 

 

Basic

 

$

.90

 

$

.30

 

$

1.01

 

Diluted

 

$

.89

 

$

.30

 

$

1.00

 

 

Income Taxes

 

Deferred income taxes have been provided under the liability method.  Deferred tax assets and liabilities are determined based upon the difference between the financial statement and tax bases of assets and liabilities as measured by the enacted tax rates which will be in effect when these differences are expected to reverse. Deferred tax expense (benefit) is the result of changes in the deferred tax asset and liability.  A valuation allowance is provided against deferred tax assets when it is more likely than not that some or all of the deferred asset will not be realized.

 

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NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

 

Off-Balance-Sheet Financial Instruments

 

In the ordinary course of business, the Corporation has entered into off-balance-sheet financial instruments consisting of commitments to extend credit, commitments under credit card arrangements, commercial letters of credit, and standby letters of credit.  For letters of credit, the Corporation recognizes a liability for the fair market value of the obligations it assumes under that guarantee.

 

Recent Developments

 

In May 2014, the Financial Accounting Standards Board (FASB) issued guidance on the recognition of revenue from contracts with customers. Revenue recognition will depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance also requires disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The guidance permits two methods of adoption: retrospectively to each prior reporting period presented or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application. The guidance is effective January 1, 2018 and early adoption is permitted, only as of January 1, 2017. The company is currently evaluating the impact of the new guidance and the method of adoption in the consolidated financial results.

 

In January 2016, the FASB issued ASU 2016-01, Financial Instruments — Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”).  ASU 2016-01 amends current guidance by requiring companies to recognize changes in fair value for equity investments that have a readily determinable fair value through net income rather than through other comprehensive income.  Under ASU 2016-01, equity investments that do not have a readily determinable fair value will either be accounted for the same as equity investments that have a readily determinable fair value, with changes in fair value recognized through net income or carried at cost, adjusted for changes in observable prices based on orderly transactions for identical or similar investments issued by the same issuer and further adjusted for impairment, if applicable.  ASU 2016-01 also requires a qualitative assessment of impairment indicators each reporting period.  If this assessment indicates that impairment exists, companies must adjust the investment to fair value and recognize an impairment loss in net income, even if the impairment is determined to be temporary.  ASU 2016-01 is effective for public companies for interim and annual periods beginning after December 15, 2017.  The Corporation’s adoption of ASU 2016-01 is not expected to have a material impact on the Corporation’s consolidated financial condition or results of operations.

 

In February 2016, the FASB issued ASU 2016-02, Leases, which will supersede the current lease requirements in ASC 840.  The ASU requires lessees to recognize an asset with right of use and related lease liability for all leases, with a limited exception for short-term leases.  Leases will be classified as either finance or operating, with the classification affecting the pattern of expense recognition in the statement of operations.  Currently, leases are classified as either capital or operating, with only capital leases recognized on the balance sheet.  The reporting of lease related expenses in the statements of operations and cash flows will be generally consistent with the current guidance.  The new lease guidance will be effective for the Corporation’s year ending December 31, 2019 and will be applied using modified retrospective transition method to the beginning of the earliest period presented.  The effect of applying the new lease guidance on the financial statements has not yet been determined.

 

Reclassifications

 

Certain amounts in the 2014 and 2013 consolidated financial statements have been reclassified to conform to the 2015 presentation.

 

NOTE 2 — RESTRICTIONS ON CASH AND CASH EQUIVALENTS

 

Cash and cash equivalents in the amount of $11.291 million were restricted on December 31, 2015 to meet the reserve requirements of the Federal Reserve System.

 

In the normal course of business, the Corporation maintains cash and due from bank balances with correspondent banks.  Balances in these accounts may exceed the Federal Deposit Insurance Corporation’s insured limit of $250,000.

 

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Table of Contents

 

Management believes that these financial institutions have strong credit ratings and the credit risk related to these deposits is minimal.

 

NOTE 3 — SECURITIES AVAILABLE FOR SALE

 

The carrying value and estimated fair value of securities available for sale are as follows (dollars in thousands):

 

 

 

Amortized

 

Unrealized

 

Unrealized

 

Estimated

 

 

 

Cost

 

Gains

 

Losses

 

Fair Value

 

December 31, 2015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Corporate

 

$

12,710

 

$

 

$

(64

)

$

12,646

 

US Agencies

 

27,358

 

62

 

(43

)

27,377

 

US Agencies - MBS

 

3,738

 

31

 

(10

)

3,759

 

Obligations of states and political subdivisions

 

9,472

 

592

 

(118

)

9,946

 

 

 

 

 

 

 

 

 

 

 

Total securities available for sale

 

$

53,278

 

$

685

 

$

(235

)

$

53,728

 

 

 

 

 

 

 

 

 

 

 

December 31, 2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

US Treasury

 

$

5,287

 

$

3

 

$

(10

)

$

5,280

 

Corporate

 

12,558

 

116

 

 

12,674

 

US Agencies

 

22,667

 

144

 

(94

)

22,717

 

US Agencies - MBS

 

13,461

 

262

 

(35

)

13,688

 

Obligations of states and political subdivisions

 

10,930

 

685

 

(142

)

11,473

 

 

 

 

 

 

 

 

 

 

 

Total securities available for sale

 

$

64,903

 

$

1,210

 

$

(281

)

$

65,832

 

 

At December 31, 2015 and 2014, the mortgage backed securities portfolio was $3.759 million (7.00 %) and $13.688 million (20.79%), respectively, of the securities portfolio. At December 31, 2015, the entire mortgage backed securities portfolio consisted of securities issued and guaranteed by either the Federal National Mortgage Association (FNMA) or the Federal Home Loan Mortgage Corporation (FHLMC), United States government-sponsored agencies.  During 2015, the Corporation restructured its securities portfolio and sold several mortgage backed securities and reallocated the funds elsewhere in the portfolio for better overall returns and improved risk profile.

 

Following is information pertaining to securities with gross unrealized losses at December 31, 2015 and 2014 aggregated by investment category and length of time these individual securities have been in a loss position (dollars in thousands):

 

 

 

Less Than Twelve Months

 

Over Twelve Months

 

 

 

Gross

 

 

 

Gross

 

 

 

 

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

 

 

Losses

 

Value

 

Losses

 

Value

 

December 31, 2015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Corporate

 

$

(64

)

$

11,299

 

$

 

$

 

US Agencies

 

(43

)

15,957

 

 

 

US Agencies - MBS

 

(10

)

1,651

 

 

 

Obligations of states and political subdivisions

 

(118

)

573

 

 

 

 

 

 

 

 

 

 

 

 

 

Total securities available for sale

 

$

(235

)

$

29,480

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

December 31, 2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

US Treasury

 

$

(10

)

$

3,958

 

$

 

$

 

Corporate

 

 

 

 

 

US Agencies

 

(9

)

1,494

 

(85

)

7,411

 

US Agencies - MBS

 

(35

)

4,511

 

 

 

Obligations of states and political subdivisions

 

(142

)

386

 

 

 

 

 

 

 

 

 

 

 

 

 

Total securities available for sale

 

$

(196

)

$

10,349

 

$

(85

)

$

7,411

 

 

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Table of Contents

 

NOTE 3 — SECURITIES AVAILABLE FOR SALE (CONTINUED)

 

There were 13 securities in an unrealized loss position in 2015 and 17 in 2014.  The gross unrealized losses in the current portfolio are considered temporary in nature and related to interest rate fluctuations.  The Corporation has both the ability and intent to hold the investment securities until their respective maturities and therefore does not anticipate the realization of the temporary losses.

 

Following is a summary of the proceeds from sales and calls of securities available for sale, as well as gross gains and losses for the years ended December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Proceeds from sales and calls

 

$

25,628

 

$

5,200

 

$

10,156

 

Gross gains on sales and calls

 

455

 

54

 

73

 

Gross (losses) on sales and calls

 

 

 

 

 

The carrying value and estimated fair value of securities available for sale at December 31, 2015, by contractual maturity, are shown below (dollars in thousands):

 

 

 

Amortized
Cost

 

Estimated
Fair Value

 

 

 

 

 

 

 

Due in one year or less

 

$

2,281

 

$

2,292

 

Due after one year through five years

 

40,996

 

41,021

 

Due after five years through ten years

 

3,387

 

3,616

 

Due after ten years

 

2,876

 

3,040

 

Subtotal

 

49,540

 

49,969

 

US Agencies - MBS

 

3,738

 

3,759

 

 

 

 

 

 

 

Total

 

$

53,278

 

$

53,728

 

 

Contractual maturities may differ from expected maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.  See Note 10 for information on securities pledged to secure borrowings from the Federal Home Loan Bank.

 

NOTE 4 - LOANS

 

The composition of loans at December 31 is as follows (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

312,805

 

$

315,387

 

Commercial, financial, and agricultural

 

122,140

 

101,895

 

Commercial construction

 

15,330

 

16,284

 

One to four family residential real estate

 

140,502

 

139,553

 

Consumer

 

15,847

 

18,385

 

Consumer construction

 

11,770

 

9,431

 

 

 

 

 

 

 

Total loans

 

$

618,394

 

$

600,935

 

 

The Corporation completed the acquisition of Peninsula Financial Corporation, (“PFC”), on December 5, 2014.  The acquired loans were divided into loans with evidence of credit quality deterioration, which are accounted for under ASC 310-30 (“acquired impaired”) and loans that do not meet that criteria, which are accounted for under ASC 310-20 (“acquired nonimpaired”).  The acquired impaired loans totaled $10.312 million.  The Corporation recorded all acquired loans at fair value taking into account a number of factors, including remaining life, estimated loss, estimated value of the underlying collateral and net present values of cash flows.  In 2015, the Corporation had positive resolution of acquired nonperforming loans, which resulted in the recognition of approximately $.578 million of the accretable interest.  The positive resolution was the result of receipt of full payoff on the loans through refinancing at another institution.  For the period of December 5, 2014 to December 31, 2014, recorded interest compared to accretable interest on acquired impaired loans was immaterial and no significant payments of principal were recorded.

 

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Table of Contents

 

NOTE 4 — LOANS (CONTINUED)

 

The table below details the outstanding balances of the acquired portfolio and the remaining balance of the acquisition fair value adjustments at acquisition date (dollars in thousands):

 

 

 

Acquired

 

Acquired

 

Acquired

 

 

 

Impaired

 

Non-impaired

 

Total

 

 

 

 

 

 

 

 

 

Loans acquired - contractual payments

 

$

13,290

 

$

53,849

 

$

67,139

 

Nonaccretable difference

 

(2,234

)

 

(2,234

)

Expected cash flows

 

11,056

 

53,849

 

64,905

 

Accretable yield

 

(744

)

(2,100

)

(2,844

)

Carrying balance at acquisition date

 

$

10,312

 

$

51,749

 

$

62,061

 

 

The table below presents a rollforward of the accretable yield on acquired loans for year ended December 31, 2015 (dollars in thousands):

 

 

 

Acquired

 

Acquired

 

Acquired

 

 

 

Impaired

 

Non-impaired

 

Total

 

 

 

 

 

 

 

 

 

Balance, December 31, 2014

 

$

744

 

$

2,042

 

$

 2,786

 

Accretion

 

(578

)

(700

)

(1,278

)

Reclassification from nonaccretable difference

 

260

 

 

260

 

Balance at December 31, 2015

 

$

426

 

$

1,342

 

$

1,768

 

 

An analysis of the allowance for loan losses for the years ended December 31 is as follows (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Balance, January 1

 

$

5,140

 

$

4,661

 

$

5,218

 

Recoveries on loans previously charged off

 

690

 

325

 

200

 

Loans charged off

 

(2,030

)

(1,046

)

(2,432

)

Provision

 

1,204

 

1,200

 

1,675

 

 

 

 

 

 

 

 

 

Balance, December 31

 

$

5,004

 

$

5,140

 

$

4,661

 

 

In 2015, net charge off activity was $1.340 million, or .22% of average loans outstanding compared to net charge-offs of $.721 million, or .14% of average loans, in the same period in 2014 and $2.232 million, or .48% of average loans, in 2013.  During 2015, a provision of $1.204 million was made to increase the allowance.  This provision was made in accordance with the Corporation’s allowance for loan loss reserve policy, which calls for a measurement of the adequacy of the reserve at each quarter end.  This process includes an analysis of the loan portfolio to take into account increases in loans outstanding and portfolio composition, historical loss rates, and specific reserve requirements of nonperforming loans.

 

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Table of Contents

 

NOTE 4 — LOANS (CONTINUED)

 

A breakdown of the allowance for loan losses and recorded balances in loans at December 31, 2015 is as follows (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

One to four

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

financial and

 

Commercial

 

family residential

 

Consumer

 

 

 

 

 

 

 

 

 

real estate

 

agricultural

 

construction

 

real estate

 

construction

 

Consumer

 

Unallocated

 

Total

 

Allowance for loan loss reserve:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance ALLR

 

$

2,813

 

$

1,539

 

$

142

 

$

285

 

$

6

 

$

13

 

$

342

 

$

5,140

 

Charge-offs

 

(52

)

(1,749

)

 

(142

)

 

(87

)

 

(2,030

)

Recoveries

 

588

 

22

 

52

 

2

 

 

26

 

 

690

 

Provision

 

(1,738

)

833

 

(115

)

129

 

1

 

112

 

1,982

 

1,204

 

Ending balance ALLR

 

$

1,611

 

$

645

 

$

79

 

$

274

 

$

7

 

$

64

 

$

2,324

 

$

5,004

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

312,805

 

$

122,140

 

$

15,330

 

$

140,502

 

$

11,770

 

$

15,847

 

$

 

$

618,394

 

Ending balance ALLR

 

(1,611

)

(645

)

(79

)

(274

)

(7

)

(64

)

(2,324

)

(5,004

)

Net loans

 

$

311,194

 

$

121,495

 

$

15,251

 

$

140,228

 

$

11,763

 

$

15,783

 

$

(2,324

)

$

613,390

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance ALLR:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated

 

$

420

 

$

192

 

$

 

$

60

 

$

 

$

55

 

$

 

$

727

 

Collectively evaluated

 

1,191

 

453

 

79

 

214

 

7

 

9

 

2,324

 

4,277

 

Acquired with deteriorated credit quality

 

 

 

 

 

 

 

 

 

Total

 

$

1,611

 

$

645

 

$

79

 

$

274

 

$

7

 

$

64

 

$

2,324

 

$

5,004

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated

 

$

1,086

 

$

617

 

$

 

$

325

 

$

83

 

$

 

$

 

$

2,111

 

Collectively evaluated

 

307,336

 

121,345

 

15,330

 

136,940

 

11,686

 

15,845

 

 

608,482

 

Acquired with deteriorated credit quality

 

4,383

 

178

 

 

3,237

 

1

 

2

 

 

 

7,801

 

Total

 

$

312,805

 

$

122,140

 

$

15,330

 

$

140,502

 

$

11,770

 

$

15,847

 

$

 

$

618,394

 

 

Impaired loans, by definition, are individually evaluated.

 

A breakdown of the allowance for loan losses and recorded balances in loans at December 31, 2014 is as follows (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

One to four

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

financial and

 

Commercial

 

family residential

 

Consumer

 

 

 

 

 

 

 

 

 

real estate

 

agricultural

 

construction

 

real estate

 

construction

 

Consumer

 

Unallocated

 

Total

 

Allowance for loan loss reserve:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance ALLR

 

$

1,849

 

$

1,378

 

$

80

 

$

516

 

$

25

 

$

148

 

$

665

 

$

4,661

 

Charge-offs

 

(19

)

(663

)

 

(290

)

 

(74

)

 

(1,046

)

Recoveries

 

131

 

78

 

50

 

22

 

 

44

 

 

325

 

Provision

 

852

 

746

 

12

 

37

 

(19

)

(105

)

(323

)

1,200

 

Ending balance ALLR

 

$

2,813

 

$

1,539

 

$

142

 

$

285

 

$

6

 

$

13

 

$

342

 

$

5,140

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

315,387

 

$

101,895

 

$

16,284

 

$

139,553

 

$

9,431

 

$

18,385

 

$

 

$

600,935

 

Ending balance ALLR

 

(2,813

)

(1,539

)

(142

)

(285

)

(6

)

(13

)

(342

)

(5,140

)

Net loans

 

$

312,574

 

$

100,356

 

$

16,142

 

$

139,268

 

$

9,425

 

$

18,372

 

$

(342

)

$

595,795

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance ALLR:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated

 

$

704

 

$

492

 

$

 

$

19

 

$

 

$

1

 

$

 

$

1,216

 

Collectively evaluated

 

2,109

 

1,047

 

142

 

266

 

6

 

12

 

342

 

3,924

 

Acquired with deteriorated credit quality

 

 

 

 

 

 

 

 

 

Total

 

$

2,813

 

$

1,539

 

$

142

 

$

285

 

$

6

 

$

13

 

$

342

 

$

5,140

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated

 

$

1,374

 

$

863

 

$

 

$

768

 

$

 

$

72

 

$

 

$

3,077

 

Collectively evaluated

 

308,661

 

100,330

 

16,126

 

134,908

 

9,216

 

18,305

 

 

587,546

 

Acquired with deteriorated credit quality

 

5,352

 

702

 

158

 

3,877

 

215

 

8

 

 

10,312

 

Total

 

$

315,387

 

$

101,895

 

$

16,284

 

$

139,553

 

$

9,431

 

$

18,385

 

$

 

$

600,935

 

 

Impaired loans, by definition, are individually evaluated.

 

49



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NOTE 4 — LOANS (CONTINUED)

 

As part of the management of the loan portfolio, risk ratings are assigned to all commercial loans.  Through the loan review process, ratings are modified as believed to be appropriate to reflect changes in the credit.  Our ability to manage credit risk depends in large part on our ability to properly identify and manage problem loans.

 

To do so, we operate a credit risk rating system under which our credit management personnel assign a credit risk rating to each loan at the time of origination and review loans on a regular basis to determine each loan’s credit risk rating on a scale of 1 through 8, with higher scores indicating higher risk.  The credit risk rating structure used is shown below.

 

In the context of the credit risk rating structure, the term Classified is defined as a problem loan which may or may not be in a nonaccrual status, dependent upon current payment status and collectability.

 

Strong (1)

 

Borrower is not vulnerable to sudden economic or technological changes.  They have “strong” balance sheets and are within an industry that is very typical for our markets or type of lending culture.  Borrowers also have “strong” financial and cash flow performance and excellent collateral (low loan to value or readily available to liquidate collateral) in conjunction with an impeccable repayment history.

 

Good (2)

 

Borrower shows limited vulnerability to sudden economic change.  These borrowers have “above average” financial and cash flow performance and a very good repayment history.  The balance sheet of the company is also very good as compared to peer and the company is in an industry that is familiar to our markets or our type of lending.  The collateral securing the deal is also very good in terms of its type, loan to value, etc.

 

Average (3)

 

Borrower is typically a well-seasoned business, however may be susceptible to unfavorable changes in the economy, and could be somewhat affected by seasonal factors.  The borrowers within this category exhibit financial and cash flow performance that appear “average” to “slightly above average” when compared to peer standards and they show an adequate payment history.  Collateral securing this type of credit is good, exhibiting above average loan to values, etc.

 

Acceptable (4)

 

A borrower within this category exhibits financial and cash flow performance that appear adequate and satisfactory when compared to peer standards and they show a satisfactory payment history.  The collateral securing the request is within supervisory limits and overall is acceptable.  Borrowers rated acceptable could also be newer businesses that are typically susceptible to unfavorable changes in the economy, and more than likely could be affected by seasonal factors.

 

Special Mention (5)

 

The borrower may have potential weaknesses that deserve management’s close attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the institution’s credit position at some future date.  Special mention assets are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification.  Examples of this type of credit include a start-up company fully based on projections, a documentation issue that needs to be corrected or a general market condition that the borrower is working through to get corrected.

 

Substandard (6)

 

Substandard loans are classified assets exhibiting a number of well-defined weaknesses that jeopardize normal repayment.  The assets are no longer adequately protected due to declining net worth, lack of earning capacity, or insufficient collateral offering the distinct possibility of the loss of a portion of the loan principal.  Loans classified as substandard clearly represent troubled and deteriorating credit situations requiring constant supervision.

 

Doubtful (7)

 

Loans in this category exhibit the same, if not more pronounced weaknesses used to describe the substandard credit.  Loans are frozen with collection improbable.  Such loans are not yet rated as Charge-off because certain actions may yet occur which would salvage the loan.

 

Charge-off/Loss (8)

 

Loans in this category are largely uncollectible and should be charged against the loan loss reserve immediately.

 

50



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NOTE 4 — LOANS (CONTINUED)

 

General Reserves:

 

For loans with a credit risk rating of 5 or better and any loans with a risk rating of 6 or 7 with no specific reserve, reserves are established based on the type of loan collateral, if any, and the assigned credit risk rating.  Determination of the allowance is inherently subjective as it requires significant estimates, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on pools of homogenous loans based on historical loss experience, and consideration of current environmental factors and economic trends, all of which may be susceptible to significant change.

 

Using a historical average loss by loan type as a base, each loan graded as higher risk is assigned a specific percentage.   The residential real estate and consumer loan portfolios are assigned a loss percentage as a homogenous group.  If, however, on an individual loan the projected loss based on collateral value and payment histories are in excess of the computed allowance, the allocation is increased for the higher anticipated loss.  These computations provide the basis for the allowance for loan losses as recorded by the Corporation.

 

Commercial construction loans in the amount of $2.409 million and $3.251 million at December 31, 2015, and 2014, respectively did not receive a specific risk rating.  These amounts represent loans made for land development and unimproved land purchases.

 

Below is a breakdown of loans by risk category as of December 31, 2015 (dollars in thousands):

 

 

 

(1)
Strong

 

(2)
Good

 

(3)
Average

 

(4)
Acceptable/
Acceptable Watch

 

(5)
Sp. Mention

 

(6)
Substandard

 

(7)
Doubtful

 

Rating
Unassigned

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

2,072

 

$

26,197

 

$

113,868

 

$

164,954

 

$

 

$

5,714

 

$

 

$

 

$

312,805

 

Commercial, financial and agricultural

 

13,067

 

5,954

 

47,194

 

53,791

 

 

2,134

 

 

 

122,140

 

Commercial construction

 

 

400

 

3,869

 

8,257

 

 

395

 

 

2,409

 

15,330

 

One-to-four family residential real estate

 

591

 

1,222

 

3,172

 

4,078

 

 

4,093

 

 

127,346

 

140,502

 

Consumer construction

 

 

 

 

 

 

 

 

11,770

 

11,770

 

Consumer

 

24

 

 

19

 

 

 

61

 

 

15,743

 

15,847

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total loans

 

$

15,754

 

$

33,773

 

$

168,122

 

$

231,080

 

$

 

$

12,397

 

$

 

$

157,268

 

$

618,394

 

 

Below is a breakdown of loans by risk category as of December 31, 2014 (dollars in thousands)

 

 

 

(1)
Strong

 

(2)
Good

 

(3)
Average

 

(4)
Acceptable/
Acceptable Watch

 

(5)
Sp. Mention

 

(6)
Substandard

 

(7)
Doubtful

 

Rating
Unassigned

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

859

 

$

28,740

 

$

129,791

 

$

147,624

 

$

 

$

8,373

 

$

 

$

 

$

315,387

 

Commercial, financial and agricultural

 

3,227

 

4,577

 

33,794

 

57,295

 

 

3,002

 

 

 

101,895

 

Commercial construction

 

80

 

441

 

2,282

 

9,324

 

 

906

 

 

3,251

 

16,284

 

One-to-four family residential real estate

 

297

 

1,074

 

3,207

 

5,882

 

 

5,745

 

 

123,348

 

139,553

 

Consumer construction

 

 

 

 

 

 

 

 

9,431

 

9,431

 

Consumer

 

53

 

 

3

 

10

 

 

11

 

 

18,308

 

18,385

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total loans

 

$

4,516

 

$

34,832

 

$

169,077

 

$

220,135

 

$

 

$

18,037

 

$

 

$

154,338

 

$

600,935

 

 

51



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NOTE 4 — LOANS (CONTINUED)

 

Impaired Loans

 

Nonperforming loans are those which are contractually past due 90 days or more as to interest or principal payments, on nonaccrual status, or loans, the terms of which have been renegotiated to provide a reduction or deferral on interest or principal.  Interest income recorded during impairment for the year ended December 31, 2015 was $.795 million.  There was no interest income recognized during impairment in 2014 and 2013.  Additional interest income that would have been recognized during these periods was $1.125 million, $.130 million and $.228 million, respectively.

 

The accrual of interest on loans is discontinued when, in management’s opinion, the borrower may be unable to meet payment obligations as they become due, as well as when required by regulatory provisions.  When interest accrual is discontinued, all unpaid accrued interest is reversed.  Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due.  Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

 

Loans are considered impaired when, based on current information and events, it is probable the Corporation will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement, including scheduled principal and interest payments.  Impairment is evaluated in total for smaller-balance loans of a similar nature and on an individual loans basis for other loans.  If a loan is impaired, a specific valuation allowance is allocated, if necessary, so that the loan is reported net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral.  Interest payments on impaired loans are typically applied to principal unless collectability of the principal amount is reasonably assured, in which case interest is recognized on a cash basis.  Impaired loans, or portions thereof, are charged off when deemed uncollectible.

 

Purchased loans acquired in a business combination are recorded at estimated fair value on their purchase date with no carryover of the related allowance for loan losses.  In determining the estimated fair value of purchased loans, management considers a number of factors including the remaining life of the acquired loans, estimated prepayments, estimated loss ratios, estimated value of the underlying collateral, net present value of cash flows expected to be received, among others.  Purchased loans are accounted for in accordance with guidance for certain loans acquired in a transfer (ASC 310-30), when the loans have evidence of credit deterioration since origination and it is probable at the date of acquisition that the acquirer will not collect all contractually required principal and interest payments.  The difference between contractually required payments and the cash flows expected to be collected at acquisition is referred to as the non-accretable difference.   Subsequent decreases to the expected cash flows will general result in a provision for loan losses.  Subsequent increase in expected cash flows will results in a reversal of the provision for loan losses to the extent of prior charges and then an adjustment to accretable yield, which would have a positive impact on interest income.  The ASC 310-30 mark on impaired loans totaled $2.978 million as of the acquisition date.  The accretable yield related to these impaired loans was estimated at $.744 million.  The Corporation recorded $.578 million due to the positive resolution of acquired nonperforming loans in 2015 and no accretable yield of the loan mark in 2014.

 

52



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NOTE 4 — LOANS (CONTINUED)

 

The following is a summary of impaired loans and their effect on interest income (dollars in thousands):

 

 

 

 

 

 

 

 

 

 

 

Interest Income

 

Interest Income

 

 

 

Nonaccrual

 

Accrual

 

Average

 

Related

 

Recognized

 

on

 

 

 

Basis

 

Basis

 

Investment

 

Valuation Reserve

 

During Impairment

 

Accrual Basis

 

December 31, 2015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With no valuation reserve:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

471

 

$

4,051

 

$

7,205

 

$

 

$

576

 

$

655

 

Commercial, financial and agricultural

 

 

1,778

 

4,849

 

 

78

 

214

 

Commercial construction

 

 

 

260

 

 

3

 

6

 

One to four family residential real estate

 

1,267

 

2,385

 

5,413

 

 

137

 

205

 

Consumer construction

 

20

 

2

 

99

 

 

 

1

 

Consumer

 

50

 

1

 

102

 

 

1

 

2

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With a valuation reserve:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

 

$

 

$

 

$

 

$

 

$

 

Commercial, financial and agricultural

 

460

 

 

699

 

192

 

 

36

 

Commercial construction

 

 

 

 

 

 

 

One to four family residential real estate

 

229

 

 

232

 

58

 

 

6

 

Consumer construction

 

 

 

 

 

 

 

Consumer

 

10

 

 

10

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

471

 

$

4,051

 

$

7,205

 

$

 

$

576

 

$

655

 

Commercial, financial and agricultural

 

460

 

1,778

 

5,548

 

192

 

78

 

250

 

Commercial construction

 

 

 

260

 

 

3

 

6

 

One to four family residential real estate

 

1,496

 

2,385

 

5,645

 

58

 

137

 

211

 

Consumer construction

 

20

 

2

 

99

 

 

 

1

 

Consumer

 

60

 

1

 

112

 

1

 

1

 

2

 

Total

 

$

2,507

 

$

8,217

 

$

18,869

 

$

251

 

$

795

 

$

1,125

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With no valuation reserve:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

632

 

$

5,352

 

$

532

 

$

 

$

 

$

7

 

Commercial, financial and agricultural

 

74

 

702

 

685

 

 

 

27

 

Commercial construction

 

 

158

 

11

 

 

 

 

One to four family residential real estate

 

1,844

 

3,877

 

656

 

 

 

25

 

Consumer construction

 

274

 

215

 

15

 

 

 

 

Consumer

 

 

8

 

1

 

 

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With a valuation reserve:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

227

 

$

 

$

229

 

$

227

 

$

 

$

18

 

Commercial, financial and agricultural

 

774

 

 

1,109

 

484

 

 

45

 

Commercial construction

 

 

 

 

 

 

 

One to four family residential real estate

 

114

 

 

116

 

9

 

 

7

 

Consumer construction

 

 

 

 

 

 

 

Consumer

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

859

 

$

5,352

 

$

761

 

$

227

 

$

 

$

25

 

Commercial, financial and agricultural

 

848

 

702

 

1,794

 

484

 

 

72

 

Commercial construction

 

 

158

 

11

 

 

 

 

One to four family residential real estate

 

1,958

 

3,877

 

772

 

9

 

 

32

 

Consumer construction

 

274

 

215

 

15

 

 

 

 

Consumer

 

 

8

 

1

 

 

 

1

 

Total

 

$

3,939

 

$

10,312

 

$

3,354

 

$

720

 

$

 

$

130

 

 

A summary of past due loans at December 31, is as follows (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

30-89 days

 

90+ days

 

 

 

30-89 days

 

90+ days

 

 

 

 

 

Past Due

 

Past Due/

 

 

 

Past Due

 

Past Due/

 

 

 

 

 

(accruing)

 

Nonaccrual

 

Total

 

(accruing)

 

Nonaccrual

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

$

521

 

$

471

 

$

992

 

$

1,857

 

$

859

 

$

2,716

 

Commercial, financial and agricultural

 

222

 

460

 

682

 

104

 

848

 

952

 

Commercial construction

 

270

 

 

270

 

 

250

 

250

 

One to four family residential real estate

 

807

 

1,528

 

2,335

 

1,412

 

1,958

 

3,370

 

Consumer construction

 

 

20

 

20

 

38

 

24

 

62

 

Consumer

 

130

 

60

 

190

 

88

 

 

88

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total past due loans

 

$

1,950

 

$

2,539

 

$

4,489

 

$

3,499

 

$

3,939

 

$

7,438

 

 

53



Table of Contents

 

NOTE 4 — LOANS (CONTINUED)

 

A roll-forward of nonaccrual activity during the year ended December 31, 2015 (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

One to four

 

 

 

 

 

 

 

 

 

Commercial
Real Estate

 

Financial and
Agricultural

 

Commercial
Construction

 

family residential
real estate

 

Consumer
Construction

 

Consumer

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NON ACCRUAL

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

859

 

$

848

 

$

250

 

$

1,958

 

$

24

 

$

 

$

3,939

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Principal payments

 

(1,239

)

(4,761

)

 

(531

)

(3

)

(24

)

(6,558

)

Charge-offs

 

(52

)

(1,744

)

(10

)

(186

)

 

(38

)

(2,030

)

Advances

 

 

 

 

 

 

 

 

Transfers to OREO

 

(371

)

 

 

(541

)

 

 

(912

)

Transfers to accruing

 

(1,291

)

(88

)

 

(226

)

 

 

(1,605

)

Transfers from accruing

 

2,490

 

6,205

 

104

 

1,068

 

 

130

 

9,997

 

Acquired impaired loans

 

 

 

 

 

 

 

 

Other

 

75

 

 

(344

)

(46

)

(1

)

(8

)

(324

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

471

 

$

460

 

$

 

$

1,496

 

$

20

 

$

60

 

$

2,507

 

 

A roll-forward of nonaccrual activity during the year ended December 31, 2014 (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

One to four

 

 

 

 

 

 

 

 

 

Commercial

 

Financial and

 

Commercial

 

family residential

 

Consumer

 

 

 

 

 

 

 

Real Estate

 

Agricultural

 

Construction

 

real estate

 

Construction

 

Consumer

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NON ACCRUAL

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

572

 

$

811

 

$

 

$

611

 

$

 

$

30

 

$

2,024

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Principal payments

 

(104

)

(692

)

 

(35

)

 

(4

)

(835

)

Charge-offs

 

(18

)

(435

)

 

(206

)

 

(32

)

(691

)

Advances

 

 

 

 

 

 

 

 

Transfers to OREO

 

(233

)

 

 

(357

)

 

 

(590

)

Transfers to accruing

 

 

(10

)

 

(127

)

 

 

(137

)

Transfers from accruing

 

 

1,167

 

 

685

 

 

6

 

1,858

 

Acquired impaired loans

 

632

 

 

250

 

1,375

 

24

 

 

2,281

 

Other

 

10

 

7

 

 

12

 

 

 

29

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

859

 

$

848

 

$

250

 

$

1,958

 

$

24

 

$

 

$

3,939

 

 

Loans accounted for under ASC 310-30 accrue interest as any nonpayment of contractual principal or interest is considered in the periodic re-estimation of expected cash flows and is included in the resulting recognition of current period loan loss provision or prospective yield adjustments.

 

Troubled Debt Restructuring

 

Troubled debt restructurings (“TDR”) are determined on a loan-by-loan basis.  Generally, restructurings are related to interest rate reductions, loan term extensions and short term payment forbearance as means to maximize collectability of troubled credits.  If a portion of the TDR loan is uncollectible (including forgiveness of principal), the uncollectible amount will be charged off against the allowance at the time of the restructuring.  In general, a borrower must make at least six consecutive timely payments before the Corporation would consider a return of a restructured loan to accruing status in accordance with FDIC guidelines regarding restoration of credits to accrual status.

 

The Corporation has, in accordance with generally accepted accounting principles and per recently enacted accounting standard updates, evaluated all loan modifications to determine the fair value impact of the underlying asset.  The carrying amount of the loan is compared to the expected payments to be received, discounted at the loan’s original rate, or for collateral dependent loans, to the fair value of the collateral.

 

There were no troubled debt restructurings that occurred during the years ended December 31 2015, and December 31, 2014.

 

54



Table of Contents

 

NOTE 4 — LOANS (CONTINUED)

 

A roll-forward of troubled debt restructuring during the year ended December 31, 2015 (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

One to four

 

Consumer and

 

 

 

 

 

Commercial

 

Financial and

 

Commercial

 

family residential

 

Consumer

 

 

 

 

 

Real Estate

 

Agricultural

 

Construction

 

real estate

 

Construction

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ACCRUING

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

1,007

 

$

1,186

 

$

852

 

$

60

 

$

 

$

3,105

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Acquired restructured

 

647

 

268

 

 

1,243

 

 

2,158

 

Principal payments

 

(307

)

(38

)

(18

)

(51

)

 

(414

)

Charge-offs

 

 

 

 

 

 

 

Transferred out of TDR

 

 

 

 

(60

)

 

(60

)

Transferred from nonaccrual

 

419

 

 

 

131

 

 

550

 

Transfers to nonaccrual

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

1,766

 

$

1,416

 

$

834

 

$

1,323

 

$

 

$

5,339

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NON ACCRUAL

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

 

$

 

$

 

$

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Acquired restructured

 

445

 

 

266

 

295

 

 

1,006

 

Principal payments

 

(13

)

 

(266

)

(23

)

 

(302

)

Charge-offs

 

 

 

 

 

 

 

Advances

 

 

 

 

 

 

 

Transfers to accruing

 

(419

)

 

 

(131

)

 

(550

)

Transfers from accruing

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

13

 

$

 

$

 

$

141

 

$

 

$

154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

TOTALS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

1,007

 

$

1,186

 

$

852

 

$

60

 

$

 

$

3,105

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Acquired restructured

 

1,092

 

268

 

266

 

1,538

 

 

3,164

 

Principal payments

 

(320

)

(38

)

(284

)

(74

)

 

(716

)

Charge-offs

 

 

 

 

 

 

 

Transferred out of TDR

 

 

 

 

(60

)

 

(60

)

Transfers to accruing

 

419

 

 

 

131

 

 

550

 

Tansfers to nonaccrual

 

 

 

 

 

 

 

Transfers to accruing

 

(419

)

 

 

(131

)

 

(550

)

Transfers from accruing

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

1,779

 

$

1,416

 

$

834

 

$

1,464

 

$

 

$

5,493

 

 

55



Table of Contents

 

NOTE 4 — LOANS (CONTINUED)

 

A roll-forward of troubled debt restructuring during the year ended December 31, 2014 (dollars in thousands):

 

 

 

 

 

Commercial,

 

 

 

One to four

 

Consumer and

 

 

 

 

 

Commercial

 

Financial and

 

Commercial

 

family residential

 

Consumer

 

 

 

 

 

Real Estate

 

Agricultural

 

Construction

 

real estate

 

Construction

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ACCRUING

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

3,520

 

$

1,186

 

$

858

 

$

99

 

$

 

$

5,663

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Principal payments

 

(2,513

)

 

(6

)

(4

)

 

(2,523

)

Charge-offs

 

 

 

 

(37

)

 

(37

)

Advances

 

 

 

 

 

 

 

New restructured

 

 

 

 

 

 

 

Transferred out of TDR

 

 

 

 

91

 

 

91

 

Transfers to nonaccrual

 

 

 

 

(89

)

 

(89

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

1,007

 

$

1,186

 

$

852

 

$

60

 

$

 

$

3,105

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NONACCRUAL

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

 

$

523

 

$

 

$

91

 

$

 

$

614

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Principal payments

 

 

(319

)

 

 

 

(319

)

Charge-offs

 

 

(204

)

 

(37

)

 

(241

)

Advances

 

 

 

 

 

 

 

New restructured

 

 

 

 

 

 

 

Transfers to foreclosed properties

 

 

 

 

(143

)

 

(143

)

Transfers from accruing

 

 

 

 

89

 

 

89

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

 

$

 

$

 

$

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

TOTALS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

3,520

 

$

1,709

 

$

858

 

$

190

 

$

 

$

6,277

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Principal payments

 

(2,513

)

(319

)

(6

)

(4

)

 

(2,842

)

Charge-offs

 

 

(204

)

 

(74

)

 

(278

)

Advances

 

 

 

 

 

 

 

New restructured

 

 

 

 

 

 

 

Transfers out of TDRs

 

 

 

 

91

 

 

91

 

Tansfers to nonaccrual

 

 

 

 

(89

)

 

(89

)

Transfers to foreclosed properties

 

 

 

 

(143

)

 

(143

)

Transfers from accruing

 

 

 

 

89

 

 

89

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

1,007

 

$

1,186

 

$

852

 

$

60

 

$

 

$

3,105

 

 

Insider Loans

 

The Bank, in the ordinary course of business, grants loans to the Corporation’s executive officers and directors, including their families and firms in which they are principal owners. Activity in such loans is summarized below (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Loans outstanding, January 1

 

$

8,789

 

$

9,043

 

New loans

 

 

33

 

Net activity on revolving lines of credit

 

778

 

1,390

 

Repayment

 

(2,680

)

(1,677

)

 

 

 

 

 

 

Loans outstanding, December 31

 

$

6,887

 

$

8,789

 

 

There were no loans to related-parties classified substandard as of December 31, 2015 and 2014.  In addition to the outstanding balances above, there were unfunded commitments of $2.565 million to related parties at December 31, 2015.

 

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Table of Contents

 

NOTE 5 — PREMISES AND EQUIPMENT

 

Details of premises and equipment at December 31 are as follows (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Land

 

$

1,812

 

$

1,812

 

Buildings and improvements

 

15,497

 

15,069

 

Furniture, fixtures, and equipment

 

8,567

 

7,892

 

Construction in progress

 

142

 

87

 

Total cost basis

 

26,018

 

24,860

 

Less - accumulated depreciation

 

13,494

 

12,202

 

 

 

 

 

 

 

Net book value

 

$

12,524

 

$

12,658

 

 

Depreciation of premises and equipment charged to operating expenses amounted to $1.457 million in 2015, $1.337 million in 2014, and $1.231 million in 2013.

 

NOTE 6 — OTHER REAL ESTATE HELD FOR SALE

 

An analysis of other real estate held for sale for the years ended December 31 is as follows (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Balance, January 1

 

$

3,010

 

$

1,884

 

Other real estate transferred from loans due to foreclosure

 

1,376

 

588

 

Other real estate acquired, net of purchase accounting

 

 

1,193

 

Other real estate sold

 

(1,702

)

(375

)

Writedowns of other real estate held for sale

 

(295

)

(228

)

Loss on sale of other real estate held for sale

 

(65

)

(52

)

 

 

 

 

 

 

Total other real estate held for sale

 

$

2,324

 

$

3,010

 

 

Foreclosed residential real estate property of $1.327 million is included in foreclosed assets as of December 31, 2015.  The recorded investment in consumer mortgage loans secured by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdictions was $.151 million as of December 31, 2015.

 

NOTE 7 — DEPOSITS

 

The distribution of deposits at December 31 is as follows (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Noninterest bearing deposits

 

$

122,775

 

$

95,498

 

NOW, money market, interest checking

 

202,784

 

212,565

 

Savings

 

30,882

 

28,015

 

CDs <$250,000

 

124,084

 

158,657

 

CDs >$250,000

 

8,532

 

6,610

 

Brokered

 

121,266

 

105,628

 

 

 

 

 

 

 

Total deposits

 

$

610,323

 

$

606,973

 

 

The aggregate amount of time deposits that meet or exceed the $250,000 FDIC insurance limit was $8.532 million and $6.610 million at December 31, 2015 and 2014, respectively.

 

57



Table of Contents

 

NOTE 7 — DEPOSITS (CONTINUED)

 

Maturities of non-brokered time deposits outstanding at December 31, 2015 are as follows (dollars in thousands):

 

2016

 

$

92,905

 

2017

 

25,100

 

2018

 

7,014

 

2019

 

4,913

 

2020

 

2,541

 

Thereafter

 

143

 

 

 

 

 

Total

 

$

132,616

 

 

NOTE 8 — GOODWILL AND OTHER INTANGIBLE ASSETS

 

During the fourth quarter of 2014, the Corporation recorded $3.805 million of goodwill and $1.206 million of deposit based intangible assets associated with the acquisition of Peninsula.

 

The excess of the cost of acquired entities over the fair value of identifiable assets acquired less liabilities assumed is recorded as goodwill.  In accordance with FASB ASC 350 (SFAS No. 142, Goodwill and Other Intangible Assets), amortization of goodwill and indefinite-lived assets is not recorded.  However, the recoverability of goodwill and other intangible assets are annually tested for impairment.  Intangible assets, including core deposits and customer business relationships, are amortized primarily on an accelerated cash flow basis over their estimated useful lives.  The Corporation is currently amortizing the deposit based intangible over a ten-year estimated life.

 

The deposit based intangible is reported net of accumulated amortization at $1.076 million at December 31, 2015, compared to $1.196 million at December 31, 2014.  Amortization expense in 2015 is $.121 million, compared to $.010 million in 2014.  Amortization expense for the next five years is expected to be at $.121 million per year.

 

NOTE 9 — SERVICING RIGHTS

 

Mortgage Loans

 

Mortgage servicing rights (“MSRs”) are recorded when loans are sold in the secondary market with servicing retained.  As of December 31, 2015, the Corporation had obligations to service $224.612 million of residential first mortgage loans.  The valuation of MSRs is based upon the net present value of the projected revenues over the expected life of the loans being serviced, as reduced by estimated internal costs to service these loans.  The fair value of the capitalized servicing rights approximates the carrying value.  On a quarterly basis, management evaluates the MSRs for impairment.  The key economic assumptions used in determining the fair value of the mortgage servicing rights include an annual constant prepayment speed of 9.45% and a discount rate of 8.97% for December 31, 2015.

 

The following summarizes the fair value of the mortgage servicing rights capitalized and amortized.  There was no valuation allowance required (dollars in thousands):

 

 

 

December 31,

 

December 31,

 

 

 

2015

 

2014

 

Balance at beginning of period

 

$

1,994

 

$

1,129

 

Additions from loans sold with servicing retained

 

585

 

636

 

MSRs acquired in Peninsula transaction

 

 

539

 

Amortization

 

(614

)

(310

)

 

 

 

 

 

 

Book value of MSRs at end of period

 

$

1,965

 

$

1,994

 

Balance of loan servicing portfolio

 

$

224,612

 

$

222,704

 

Mortgage servicing rights as % of portfolio

 

.87

%

.90

%

 

Commercial Loans

 

The Corporation also retains the servicing on commercial loans that have been sold.  These loans were originated and underwritten under the SBA and USDA government guarantee programs, in which the guaranteed portion of the loan was sold to a third party with servicing retained.  The balance of these sold loans with servicing retained at December 31, 2015 and December 31, 2014 was approximately $63 million and $46 million, respectively.  The Corporation valued these servicing rights at $.170 million as of December 31, 2015 and $.198 million at December 31, 2014.  This valuation was established in consideration of the discounted cash flow of expected servicing income over the life of the loans.

 

58



Table of Contents

 

NOTE 10 — BORROWINGS

 

Borrowings consist of the following at December 31 (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

 

 

Federal Home Loan Bank fixed rate advances at December 31, 2015 with a weighted average rate of 1.68% maturing in 2016, 2018 and 2019

 

$

35,000

 

$

35,000

 

Correspondent bank line of credit - holding company

 

7,750

 

8,000

 

Bank line of credit - wholly owned asset based lending subsidiary

 

 

3,367

 

Correspondent bank term note, current floor rate of 4%, maturing December 28, 2017

 

2,300

 

2,700

 

USDA Rural Development, fixed-rate note payable, maturing August 24, 2024 interest payable at 1%

 

704

 

779

 

 

 

 

 

 

 

 

 

$

45,754

 

$

49,846

 

 

The Federal Home Loan Bank borrowings are collateralized at December 31, 2015 by the following:  a collateral agreement on the Corporation’s one to four family residential real estate loans with a book value of approximately $36.470 million; mortgage related and municipal securities with an amortized cost and estimated fair value of $7.888 million and $7.972 million, respectively; and Federal Home Loan Bank stock owned by the Bank totaling $2.169 million.  Prepayment of the advances is subject to the provisions and conditions of the credit policy of the Federal Home Loan Bank of Indianapolis in effect as of December 31, 2015.

 

The USDA Rural Development borrowing is collateralized by loans totaling $.114 million originated and held by the Corporation’s wholly owned subsidiary, First Rural Relending, and an assignment of a demand deposit account in the amount of $.657 million, and guaranteed by the Corporation.

 

The Corporation currently has one banking borrowing relationship.  The relationship consists of a non-revolving line of credit and a term note.  The line of credit bears interest at 90-day LIBOR plus 2.75%, with a floor rate of 4.00% and has an initial term that expires on December 28, 2017.  The term note bears the same interest and matures on March 22, 2017 and requires quarterly principal payments of $100,000 beginning June 30, 2014.  This relationship is secured by all of the outstanding Bank stock.

 

Maturities and principal payments of borrowings outstanding at December 31, 2015 are as follows (dollars in thousands):

 

2016

 

$

15,475

 

2017

 

9,726

 

2018

 

10,077

 

2019

 

10,077

 

2020

 

78

 

Thereafter

 

321

 

 

 

 

 

Total

 

$

45,754

 

 

NOTE 11 — INCOME TAXES

 

The components of the federal income tax provision (credit) for the years ended December 31 are as follows (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Current tax expense (benefit)

 

$

 

$

 

$

 

Change in valuation allowance

 

(760

)

 

(2,250

)

Deferred tax expense (benefit)

 

3,093

 

1,129

 

1,847

 

 

 

 

 

 

 

 

 

Provision for (benefit of) income taxes

 

$

2,333

 

$

1,129

 

$

(403

)

 

59



Table of Contents

 

NOTE 11 — INCOME TAXES (CONTINUED)

 

A summary of the source of differences between income taxes at the federal statutory rate and the provision (credit) for income taxes for the years ended December 31 is as follows (dollars in thousands):

 

 

 

2015

 

2014

 

2013

 

 

 

 

 

 

 

 

 

Tax expense at statutory rate

 

$

2,695

 

$

962

 

$

1,882

 

Increase (decrease) in taxes resulting from:

 

 

 

 

 

 

 

Tax-exempt interest

 

(60

)

(25

)

(47

)

Change in valuation allowance

 

(760

)

 

(2,250

)

Expiration of deferred tax assets

 

429

 

 

 

Nondeductible transaction expenses

 

 

176

 

 

Other

 

29

 

16

 

12

 

 

 

 

 

 

 

 

 

Provision for (benefit of) income taxes, as reported

 

$

2,333

 

$

1,129

 

$

(403

)

 

Deferred income taxes are provided for the temporary differences between the financial reporting and tax bases of the Corporation’s assets and liabilities. The major components of net deferred tax assets at December 31 are as follows (dollars in thousands):

 

 

 

2015

 

2014

 

Deferred tax assets:

 

 

 

 

 

NOL carryforward

 

$

4,331

 

$

5,500

 

Allowance for loan losses

 

1,705

 

2,194

 

Alternative Minimum Tax Credit

 

1,999

 

1,586

 

OREO Tax basis > book basis

 

162

 

474

 

Tax credit carryovers

 

338

 

767

 

Deferred compensation

 

517

 

576

 

Pension liability

 

384

 

475

 

Stock compensation

 

141

 

247

 

Purchase accounting adjustments

 

955

 

2,095

 

Other

 

141

 

33

 

 

 

 

 

 

 

Total deferred tax assets

 

10,673

 

13,947

 

 

 

 

 

 

 

Valuation allowance

 

$

 

$

(760

)

 

 

 

 

 

 

Deferred tax liabilities:

 

 

 

 

 

Core deposit premium

 

(366

)

(407

)

FHLB stock dividend

 

(100

)

(103

)

Depreciation

 

(113

)

(88

)

Unrealized gain on securities

 

(153

)

(363

)

Mortgage servicing rights

 

(667

)

(658

)

Other

 

(61

)

(70

)

Total deferred tax liabilities

 

(1,460

)

(1,689

)

 

 

 

 

 

 

Net deferred tax asset

 

$

9,213

 

$

11,498

 

 

A valuation allowance is provided against deferred tax assets when it is more likely than not that some or all of the deferred tax asset will not be realized.  The Corporation, as of December 31, 2015 had a net operating loss and tax credit carryforwards for tax purposes of approximately $12.738 million, and $2.336 million, respectively.  The Corporation evaluated the future benefits from these carryforwards as of December 31, 2015 and determined that it was “more likely than not” that they would be utilized prior to expiration and recognized the additional benefits totaling $.322 million.  It was also determined that the remaining valuation allowance should be eliminated in conjunction with the expiration of various tax credits before they could be utilized.  This “write-off” of deferred tax assets pertaining to expired credits was approximately $.429 million.  The net operating loss carryforwards expire twenty years from the date they originated.  These carryforwards, if not utilized, will begin to expire in the year 2023.  A portion of the NOL and credit carryforwards are subject to the limitations for utilization as set forth in Section 382 of the Internal Revenue Code.  The annual limitation is $1.404 million for the NOL and the equivalent value of tax credits, which is approximately $.476 million.  These limitations for use were established in conjunction with the recapitalization of the Corporation in December 2004.

 

The Corporation recognized a deferred tax expense of approximately $2.333 million for the year ended December 31, 2015 and a deferred tax expense of $1.129 million for the year ended December 31, 2014.  In December 2013, the Corporation reduced the valuation by $2.250 million.  After a thorough review of projected earnings and the composition and sustainability of those earnings over the projected tax carryover period, an analysis substantiated the ability to utilize these

 

60



Table of Contents

 

NOTE 11 — INCOME TAXES (CONTINUED)

 

deferred tax assets.  The Corporation will continue to evaluate the future benefits from these carryforwards in order to determine if any adjustment to the deferred tax asset is warranted.

 

NOTE 12 — OPERATING LEASES

 

The Corporation currently maintains seven operating leases for office locations.  The first operating lease, for the Corporation’s location in Birmingham, was originated in September 2005 and had an original term of 66 months with an option to renew for an additional five-year period.  The original term of this was extended during 2011 for an additional three-year term and again in 2014 for an additional three year term.

 

The second operating lease, for a second location in Manistique, was executed in April 2010, the terms of which began at that time.  The original term of this lease expired in 2013, and the second of the four consecutive renewal terms in place.

 

The third operating lease, for a loan production office in Traverse City, was executed in May 2012, the terms of which began in August 2012.  The original term of this lease expired in 2015, with the first of two consecutive renewal terms is currently in place.

 

The fourth operating lease was initiated in December 2013 as the Corporation consolidated its banking offices in Marquette.  The original term of this lease is 15 years with options for two consecutive renewal terms of four years each.

 

With the acquisition of PFC, the Corporation acquired three additional operating leases for office locations.  The first, for an additional location in Marquette, was executed in February 2011 with a term of five years and will expire in 2016.  The second, for the location in Negaunee was executed in September 2012 with an initial term of five years, expiring in 2017, with option to renew for one additional term of five years.  The final, for a location in Ishpeming was executed in April 2008 for an initial term of five years.  This lease was renewed in May 2013 for an additional five years.

 

Future minimum payments for base rent, by year and in the aggregate, under the initial terms of the operating lease agreements, consist of the following (dollars in thousands):

 

2016

 

$

723

 

2017

 

605

 

2018

 

471

 

2019

 

458

 

2020

 

467

 

Thereafter

 

3,766

 

 

 

 

 

Total

 

$

6,490

 

 

Rent expense for all operating leases amounted to $.985 million in 2015, $.885 million in 2014, and $.280 million in 2013.

 

NOTE 13 — RETIREMENT PLAN

 

The Corporation has established a 401(k) profit sharing plan.  Employees who have completed three months of service and attained the age of 18 are eligible to participate in the plan.  Eligible employees can elect to have a portion, not to exceed 80%, of their annual compensation paid into the plan.  In addition, the Corporation may make discretionary contributions into the plan.  Retirement plan contributions charged to operations totaled $288,000, $214,000, and $198,000 in 2015, 2014, and 2013, respectively.

 

NOTE 14 — DEFINED BENEFIT PENSION PLAN

 

The Corporation acquired the Peninsula Financial Corporation noncontributory defined benefit pension plan.  Effective December 31, 2005, the plan was amended to freeze participation in the plan; therefore, no additional employees are eligible to become participants in the plan.  The benefits are based on years of service and the employee’s compensation at the time of retirement.  The Plan was amended effective December 31, 2010, to freeze benefit accrual for all participants.  Expected contributions to the Plan in 2016 are $.063 million.

 

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NOTE 14 — DEFINED BENEFIT PENSION PLAN (CONTINUED)

 

The anticipated distributions over the next five years and through December 31, 2015 are detailed in the table below (dollars in thousands):

 

2016

 

$

134

 

2017

 

132

 

2018

 

129

 

2019

 

126

 

2020

 

125

 

2021-2025

 

690

 

Total

 

$

1,336

 

 

The following table sets forth the plan’s funded status and amounts recognized in the Corporation’s balance sheets and the activity from date of acquisition (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Change in benefit obligation:

 

 

 

 

 

Benefit obligation, beginning of year

 

$

3,290

 

$

3,229

 

Service cost

 

 

 

Interest cost

 

127

 

9

 

Actuarial (loss) gain

 

(103

)

52

 

Benefits paid

 

(134

)

 

Benefit obligation at end of year

 

3,180

 

3,290

 

 

 

 

 

 

 

Change in plan assets:

 

 

 

 

 

Fair value of plan assets, beginning of year

 

2,107

 

2,118

 

Actual return on plan assets

 

(8

)

(11

)

Employer contributions

 

68

 

 

Benefits paid

 

(134

)

 

Fair value of plan assets at end of year

 

2,033

 

2,107

 

 

 

 

 

 

 

Funded status

 

(1,147

)

(1,183

)

Unrecognized net actuarial loss

 

 

 

Accrued pension expense, included with other liabilities

 

$

(1,147

)

$

(1,183

)

 

The accumulated benefit obligation at December 31, 2015 was $3.180 million and was $3.290 million at December 31, 2014.

 

Net pension costs included in the Corporation’s results of operations was immaterial.

 

Assumptions in the actuarial valuation were:

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Weighted average discount rate

 

3.99

%

3.98

%

Rate of increase in future compensation levels

 

N/A

 

N/A

 

Expected long-term rate of return on plan assets

 

8.00

%

8.00

%

 

The expected long-term rate of return on plan assets reflects management’s expectations of long-term average rates of return on funds invested to provide for benefits included in the projected benefit obligation.  The expected return is based on the outlook for inflation, fixed income returns and equity returns, while also considering historical returns, asset allocation and investment strategy.  The discount rate assumption is based on investment yields available on AA rated long-term corporate bonds.

 

The primary investment objective is to maximize growth of the pension plan assets to meet the projected obligations to the beneficiaries over a long period of time, and to do so in a manner that is consistent with the Corporation’s risk tolerance.  The intention of the plan sponsor is to invest the plan assets in mutual funds with the following asset allocation, which was in place at both December 31, 2015 and December 31, 2014:

 

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NOTE 14 — DEFINED BENEFIT PENSION PLAN (CONTINUED)

 

 

 

Target

 

Actual

 

 

 

Allocation

 

Allocation

 

 

 

 

 

 

 

Equity securities

 

50% to 70%

 

60

%

Fixed income securities

 

30% to 50%

 

40

%

 

NOTE 15 — DEFERRED COMPENSATION PLAN

 

Prior to the recapitalization in 2004, as an incentive to retain key members of management and directors, the Corporation established a deferred compensation plan, with benefits based on the number of years the individuals have served the Corporation.  This plan was discontinued and no longer applies to current officers and directors.  A liability was recorded on a present value basis and discounted using the rates in effect at the time the deferred compensation agreement was entered into.  The liability may change depending upon changes in long-term interest rates.  The liability at December 31, 2015 and 2014, for vested benefits under this plan, was $.273 million and $.362 million, respectively.  These benefits were originally contracted to be paid over a ten to fifteen-year period.  The final payment is scheduled to occur in 2023.  The deferred compensation plan is unfunded; however, the Bank maintains life insurance policies on the majority of the plan participants.  The cash surrender value of the policies was $1.545 million and $1.572 million at December 31, 2015 and 2014, respectively.  Deferred compensation expense for the plan was $27,000, $16,000, and $25,000 for 2015, 2014, and 2013, respectively.

 

Peninsula Financial Corporation, acquired by the Corporation in December 2014, also had a deferred compensation plan, which was similar in nature to the Corporation’s discontinued plan.  The liability for this plan at December 31, 2015 and 2014, for vested benefits under this plan was $1.219 million and $1.340 million, respectively.  The bank owned life insurance policy as of December 31, 2015 and 2014 had cash surrender values of $1.692 million and $1.666 million, respectively.  This Plan was also discontinued by the Corporation and will not apply to future employees or directors of the Corporation.

 

NOTE 16 — REGULATORY MATTERS

 

The Corporation 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 Corporation’s consolidated financial statements.  Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of the Corporation’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices.  The Corporation’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

 

Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital to risk-weighted assets and of Tier 1 capital to average assets.  Management has determined that, as of December 31, 2015, the Corporation is well capitalized.

 

Effective January 1, 2015, the Corporation was subject to new capital requirements due to the Basel III regulation, including:

 

·                  A new minimum ratio of Common Equity Tier I Capital to risk-weighted assets of 4.5%;

·                  An increase in the minimum required amount of Additional Tier 1 Capital to 6% of risk-weighted assets;

·                  A continuation of the current minimum required amount of Total Capital (Tier 1 plus Tier 2) at 8% of risk-weighted assets; and

·                  A minimum leverage ratio of Tier I Capital to total assets equal to 4% in all circumstances.

 

In order to be “well-capitalized” under the new guidelines, a depository institution must maintain a Common Equity Tier 1 Capital ratio of 6.5% or more; an Additional Tier 1 Capital ratio of 8% or more; a Total Capital ratio of 10% or more; and a leverage ratio of 5% or more.

 

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NOTE 16 — REGULATORY MATTERS (CONTINUED)

 

The Corporation’s and the Bank’s actual capital and ratios compared to generally applicable regulatory requirements as of December 31, 2015 are as follows (dollars in thousands):

 

 

 

Actual

 

 

 

Adequacy Purposes

 

 

 

Well-Capitalized

 

 

 

Amount

 

Ratio

 

 

 

Amount

 

Ratio

 

 

 

Amount

 

 

 

Ratio

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total capital to risk weighted assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

75,122

 

11.8

%

> 

 

$

51,017

 

> 8.0

%

> 

 

$

63,772

 

> 

 

10.0

%

mBank

 

$

82,217

 

13.0

%

> 

 

$

50,763

 

> 8.0

%

> 

 

$

63,454

 

> 

 

10.0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tier 1 capital to risk weighted assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

70,118

 

11.0

%

> 

 

$

38,263

 

> 6.0

%

> 

 

$

51,017

 

> 

 

8.0

%

mBank

 

$

77,254

 

12.2

%

> 

 

$

38,072

 

> 6.0

%

> 

 

$

50,763

 

> 

 

8.0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common equity Tier 1 capital to risk weighted assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

70,118

 

11.0

%

> 

 

$

28,697

 

> 4.5

%

> 

 

$

41,451

 

> 

 

6.5

%

mBank

 

$

77,254

 

12.2

%

> 

 

$

28,554

 

> 4.5

%

> 

 

$

41,245

 

> 

 

6.5

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tier 1 capital to average assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

70,118

 

9.7

%

> 

 

$

29,000

 

> 4.0

%

> 

 

$

36,251

 

> 

 

5.0

%

mBank

 

$

77,254

 

10.6

%

> 

 

$

29,258

 

> 4.0

%

> 

 

$

36,572

 

> 

 

5.0

%

 

The Corporation’s and the Bank’s actual capital and ratios compared to generally applicable regulatory requirements as of December 31, 2014 are as follows (dollars in thousands):

 

 

 

Actual

 

 

 

Adequacy Purposes

 

 

 

Well-Capitalized

 

 

 

Amount

 

Ratio

 

 

 

Amount

 

Ratio

 

 

 

Amount

 

Ratio

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total capital to risk weighted assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

67,427

 

11.1

%

> 

 

$

48,717

 

> 8.0

%

> 

 

$

60,896

 

10.0

%

mBank

 

$

70,320

 

11.8

%

> 

 

$

47,611

 

> 8.0

%

> 

 

$

59,513

 

10.0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tier 1 capital to risk weighted assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

62,287

 

10.2

%

> 

 

$

36,538

 

> 6.0

%

> 

 

$

36,538

 

6.0

%

mBank

 

$

65,355

 

11.0

%

> 

 

$

35,708

 

> 6.0

%

> 

 

$

35,708

 

6.0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tier 1 capital to average assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

$

62,287

 

8.6

%

> 

 

$

29,065

 

> 4.0

%

> 

 

$

36,332

 

5.0

%

mBank

 

$

65,355

 

9.1

%

> 

 

$

28,680

 

> 4.0

%

> 

 

$

35,850

 

5.0

%

 

NOTE 17 — STOCK COMPENSATION PLANS

 

On May 22, 2012, the Corporation’s shareholders approved the Mackinac Financial Corporation 2012 Incentive Compensation Plan, under which current and prospective employees, non-employee directors and consultants may be awarded incentive stock options, non-statutory stock options, shares of restricted stock units (“RSUs”), or stock appreciation rights.  The aggregate number of shares of the Corporation’s common stock issuable under the plan is 575,000, which included 392,152 option shares outstanding at that time.  The Corporation’s Compensation Committee recommends awards for the executive officers, which are subsequently approved by the Board of Directors. Awards are made to certain other senior officers at the discretion of the Corporation’s management.  Compensation cost equal to the fair value of the award is recognized over the vesting period.

 

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Table of Contents

 

NOTE 17 — STOCK COMPENSATION PLANS (CONTINUED)

 

Restricted Stock Awards

 

The Corporation’s restricted stock awards require certain service-based or performance requirements and have a vesting period of four years.  Compensation expense is recognized on a straight-line basis over the vesting period.  Shares are subject to certain restrictions and risk of forfeiture by the participants.

 

The Corporation, in August 2012 and March 2014, granted RSUs to members of the Board of Directors and Management.  In August 2012, 148,500 RSUs were granted at a market value of $7.91 and will vest equally over a four-year term.  In exchange for the grant of these RSUs various previously issued stock option awards were surrendered.  In March 2014, 52,774 RSUs were granted at a market value of $12.95, also vesting equally over a four-year term.   In March 2015, 37,730 RSUs were granted at a market value of $11.15, also vesting over a four-year term. The RSUs were awarded at no cost to the employee.  Compensation cost for each of the three awards to be recognized over the four year vesting periods, is $1.175 million, $.683 million and $.421 million, respectively.  On August 31, 2013, 2014 and 2015, the Corporation issued 37,125 shares of its common stock for vested RSUs, in each year.  In March 2015, the Corporation issued 13,194 shares of its common stock for vested RSUs.  In May 2015, the Corporation granted 3,000 shares, at a market value of $10.77 per share, which were immediately vested and issued.

 

A summary of changes in our nonvested shares for the year follows:

 

 

 

 

 

Weighted Average

 

 

 

Number

 

Grant Date

 

 

 

Outstanding

 

Fair Value

 

 

 

 

 

 

 

Nonvested balance at January 1, 2015

 

127,024

 

$

10.07

 

Granted during the year

 

40,730

 

11.15

 

Vested during the year

 

(53,319

)

9.34

 

Nonvested balance at December 31, 2015

 

114,435

 

$

10.72

 

 

As of December 31, 2015, unrecognized compensation expense was $.915 million.

 

The Corporation also has outstanding stock options.  A summary of stock option transactions for the years ended December 31 is as follows:

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Outstanding shares at beginning of year

 

20,000

 

237,152

 

Granted during the year

 

 

 

Exercised during the year

 

 

(70,502

)

Expired during the year

 

(10,000

)

(146,650

)

Outstanding shares at end of year

 

10,000

 

20,000

 

Exercisable shares at end of year

 

2,000

 

4,000

 

Weighted average exercise price per share at end of year

 

$

12.00

 

$

11.33

 

Shares available for grant at end of year

 

 

 

 

Following is a summary of the options outstanding and exercisable at December 31, 2015:

 

 

 

 

 

 

 

 

 

Weighted Average

 

Exercise

 

Number

 

Remaining

 

Price

 

Outstanding

 

Exercisable

 

Unvested Options

 

Contractual Life-Years

 

 

 

 

 

 

 

 

 

 

 

$

12.00

 

10,000

 

2,000

 

8,000

 

 

 

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Table of Contents

 

NOTE 18 — SHAREHOLDERS’ EQUITY

 

In December 2014, the Corporation consummated the acquisition of Peninsula Financial Corporation (“PFC”) with a combination of cash and Mackinac Financial Corporation common stock.  Peninsula Financial Corporation was a bank holding company with The Peninsula Bank as its wholly-owned subsidiary.  PFC was headquartered in Ishpeming, Michigan with six branch locations.  The purchase price of the acquisition was $12.420 million with a combination of cash and MFNC common stock.  MFNC issued 695,361 shares of its common stock and an increase shareholder equity of $7.804 million in recording this transaction, after the reduction for issuance costs of $.130 million.  The Corporation recorded assets with a fair value of $112.766 million, including loans of $67.139 million, as well as $100.950 million of deposits.

 

The Corporation currently has a share repurchase program.  The program is conducted under authorizations from time to time by the Board of Directors.  The Corporation repurchased 102,455 shares in 2015, 13,700 shares in 2014 and 55,594 shares in 2013.  The share repurchases were conducted under Board authorizations made and publicly announced of $600,000 on February 27, 2013, $600,000 on December 17, 2013 and an additional $750,000 on April 28, 2015.  None of these authorizations has an expiration date.  As of December 31, 2015, $.176 million of the total authorization was available for future purchases.

 

NOTE 19 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK

 

Financial Instruments with Off-Balance-Sheet Risk

 

The Corporation is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the consolidated balance sheets.

 

The Corporation’s exposure to credit loss, in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit, is represented by the contractual amount of those instruments.

 

The Corporation uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. These commitments at December 31 are as follows (dollars in thousands):

 

 

 

2015

 

2014

 

 

 

 

 

 

 

Commitments to extend credit:

 

 

 

 

 

Variable rate

 

$

53,628

 

$

44,134

 

Fixed rate

 

26,846

 

24,191

 

Standby letters of credit - Variable rate

 

6,390

 

6,072

 

Credit card commitments - Fixed rate

 

3,747

 

3,267

 

 

 

$

90,611

 

$

77,664

 

 

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 are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  The Corporation evaluates each customer’s creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary by the Corporation upon extension of credit, is based on management’s credit evaluation of the party.  Collateral held varies, but may include accounts receivable, inventory, property, plant and equipment, and income-producing commercial properties.

 

Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party.  Those guarantees are primarily issued to support public and private borrowing arrangements.  The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.  The commitments are structured to allow for 100% collateralization on all standby letters of credit.

 

Credit card commitments are commitments on credit cards issued by the Corporation’s subsidiary and serviced by other companies.  These commitments are unsecured.

 

Legal Proceedings and Contingencies

 

At December 31, 2015, there were no pending material legal proceedings to which the Corporation is a party or to which any of its property was subject, except for proceedings which arise in the ordinary course of business.  In the opinion of

 

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Table of Contents

 

NOTE 19 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK (CONTINUED)

 

management, pending legal proceedings will not have a material effect on the consolidated financial position or results of operations of the Corporation.

 

Concentration of Credit Risk

 

The Bank grants commercial, residential, agricultural, and consumer loans throughout Michigan.  The Bank’s most prominent concentration in the loan portfolio relates to commercial real estate loans to operators of nonresidential buildings.  This concentration at December 31, 2015 represents $102.620 million, or 22.79%, compared to $107.835 million, or 26.47%, of the commercial loan portfolio on December 31, 2014.  The remainder of the commercial loan portfolio is diversified in such categories as hospitality and tourism, real estate agents and managers, new car dealers, gaming, petroleum, forestry, agriculture, and construction.  Due to the diversity of the Bank’s locations, the ability of debtors of residential and consumer loans to honor their obligations is not tied to any particular economic sector.

 

NOTE 20 - FAIR VALUE

 

Fair value estimates, methods, and assumptions are set forth below for the Corporation’s financial instruments:

 

Cash, cash equivalents, and interest-bearing deposits - The carrying values approximate the fair values for these assets.

 

Securities - Fair values are based on quoted market prices where available.  If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities and other inputs such as interest rates and yield curves that are observable at commonly quoted intervals.

 

Federal Home Loan Bank stock — Federal Home Loan Bank stock is carried at cost, which is its redeemable value and approximates its fair value, since the market for this stock is limited.

 

Loans - Fair values are estimated for portfolios of loans with similar financial characteristics.  Loans are segregated by type such as commercial, residential mortgage, and other consumer.  The fair value of loans is calculated by discounting scheduled cash flows using discount rates reflecting the credit and interest rate risk inherent in the loan.

 

The methodology in determining fair value of nonaccrual loans is to average them into the blended interest rate at 0% interest.  This has the effect of decreasing the carrying amount below the risk-free rate amount and, therefore, discounts the estimated fair value.

 

Impaired loans are measured at the estimated fair value of the expected future cash flows at the loan’s effective interest rate or the fair value of the collateral for loans which are collateral dependent.  Therefore, the carrying values of impaired loans approximate the estimated fair values for these assets.

 

Deposits - The fair value of deposits with no stated maturity, such as noninterest-bearing demand deposits and savings, is equal to the amount payable on demand at the reporting date.  The fair value of time deposits is based on the discounted value of contractual cash flows applying interest rates currently being offered on similar time deposits.

 

Borrowings - Rates currently available for debt with similar terms and remaining maturities are used to estimate the fair value of existing debt.  The fair value of borrowed funds due on demand is the amount payable at the reporting date.

 

Accrued interest - The carrying amount of accrued interest approximates fair value.

 

Off-balance-sheet instruments - The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements, the current interest rates, and the present creditworthiness of the counterparties.  Since the differences in the current fees and those reflected to the off-balance-sheet instruments at year-end are immaterial, no amounts for fair value are presented.

 

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Table of Contents

 

NOTE 20 - FAIR VALUE (CONTINUED)

 

The following table presents information for financial instruments at December 31 (dollars in thousands):

 

 

 

 

 

December 31, 2015

 

December 31, 2014

 

 

 

Level in Fair
Value Hierarchy

 

Carrying
Amount

 

Estimated
Fair Value

 

Carrying
Amount

 

Estimated
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

Level 1

 

$

25,008

 

$

25,008

 

$

21,947

 

$

21,947

 

Interest-bearing deposits

 

Level 2

 

5,089

 

5,089

 

5,797

 

5,797

 

Securities available for sale

 

Level 2

 

53,728

 

53,728

 

65,832

 

65,832

 

Federal Home Loan Bank stock

 

Level 2

 

2,169

 

2,169

 

2,973

 

2,973

 

Net loans

 

Level 3

 

613,390

 

614,187

 

595,795

 

596,429

 

Accrued interest receivable

 

Level 3

 

1,416

 

1,416

 

1,680

 

1,680

 

Total financial assets

 

 

 

$

700,800

 

$

701,597

 

$

694,024

 

$

694,658

 

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

Level 2

 

$

610,323

 

$

607,636

 

$

606,973

 

$

606,534

 

Borrowings

 

Level 2

 

45,754

 

45,989

 

49,846

 

50,280

 

Accrued interest payable

 

Level 3

 

174

 

174

 

205

 

205

 

Total financial liabilties

 

 

 

$

656,251

 

$

653,799

 

$

657,024

 

$

657,019

 

 

Limitations - Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instrument.  These estimates do not reflect any premium or discount that could result from offering for sale at one time the Corporation’s entire holdings of a particular financial instrument.  Because no market exists for a significant portion of the Corporation’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors.  These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision.  Changes in assumptions could significantly affect the estimates.  Fair value estimates are based on existing on-and off-balance-sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments.  Significant assets and liabilities that are not considered financial assets or liabilities include premises and equipment, other assets, and other liabilities.  In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

 

The following is information about the Corporation’s assets and liabilities measured at fair value on a recurring basis at December 31, 2015 and the valuation techniques used by the Corporation to determine those fair values.

 

Level 1:              In general, fair values determined by Level 1 inputs use quoted prices in active markets for identical assets or liabilities that the Corporation has the ability to access.

 

Level 2:              Fair values determined by Level 2 inputs use other inputs that are observable, either directly or indirectly.  These Level 2 inputs include quoted prices for similar assets and liabilities in active markets, and other inputs such as interest rates and yield curves that are observable at commonly quoted intervals.

 

Level 3:              Level 3 inputs are unobservable inputs, including inputs available in situations where there is little, if any,  market activity for the related asset or liability.

 

The fair value of all investment securities at December 31, 2015 and December 31, 2014 were based on level 2 inputs.  There are no other assets or liabilities measured on a recurring basis at fair value.  For additional information regarding investment securities, please refer to “Note 3 — Investment Securities.”

 

The Corporation had no Level 3 assets or liabilities on a recurring basis as of December 31, 2015 or December 31, 2014.

 

In instances where inputs used to measure fair value fall into different levels in the above fair value hierarchy, fair value measurements in their entirety are categorized based on the lowest level input that is significant to the valuation.  The Corporation’s assessment of the significance of particular inputs to these fair value measurements requires judgment and considers factors specific to each asset or liability.

 

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NOTE 20 - FAIR VALUE (CONTINUED)

 

The Corporation also has assets that under certain conditions are subject to measurement at fair value on a non-recurring basis.  These assets include loans and other real estate held for sale.  The Corporation has estimated the fair values of these assets using Level 3 inputs, specifically discounted cash flow projections.

 

Assets Measured at Fair Value on a Nonrecurring Basis at December 31, 2015

 

 

 

 

 

Quoted Prices

 

Significant

 

Significant

 

 

 

 

 

 

 

in Active Markets

 

Other Observable

 

Unobservable

 

Total Losses for

 

 

 

Balance at

 

for Identical Assets

 

Inputs

 

Inputs

 

Year Ended

 

(dollars in thousands)

 

December 31, 2015

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

December 31, 2015

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

10,724

 

$

 

$

 

$

10,724

 

$

1,852

 

Other real estate held for sale

 

2,324

 

 

 

2,324

 

332

 

 

 

 

 

 

 

 

 

 

 

$

2,184

 

 

Assets Measured at Fair Value on a Nonrecurring Basis at December 31, 2014

 

 

 

 

 

Quoted Prices

 

Significant

 

Significant

 

 

 

 

 

 

 

in Active Markets

 

Other Observable

 

Unobservable

 

Total Losses for

 

 

 

Balance at

 

for Identical Assets

 

Inputs

 

Inputs

 

Year Ended

 

(dollars in thousands)

 

December 31, 2014

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

December 31, 2014

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

1,658

 

$

 

$

 

$

1,658

 

$

857

 

Other real estate held for sale

 

3,010

 

 

 

3,010

 

280

 

 

 

 

 

 

 

 

 

 

 

$

1,137

 

 

The Corporation had no investments subject to fair value measurement on a nonrecurring basis.

 

Impaired loans categorized as Level 3 assets consist of non-homogeneous loans that are considered impaired.  The Corporation estimates the fair value of the loans based on the present value of expected future cash flows using management’s best estimate of key assumptions.  These assumptions include future payment ability, timing of payment streams, and estimated realizable values of available collateral (typically based on outside appraisals).

 

NOTE 21 — BUSINESS COMBINATIONS

 

The Corporation completed its acquisition of PFC and its wholly owned subsidiary, The Peninsula Bank in December 2014.  PFC had six branch offices and $126 million in assets of December 5, 2014.  The results of operations due to the merger have been included in the Corporation’s results since the acquisition date.  The merger was effected by a combination of cash and the issuance of shares of the Corporation’s common stock to PFC shareholders.  Each share of PFC’s 288,000 shares of common stock was converted into the right to receive 3.64 shares of the Corporation’s common stock, with cash paid in lieu of fractional shares.  PFC shareholders also had the option to receive cash at $46.13 per share of common stock.  The conversion of PFC’s shares resulted in the issuance of 695,361 shares of the Corporation’s common stock and $4.484 million in total for all shares exchanged for cash.

 

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NOTE 21 — BUSINESS COMBINATIONS (CONTINUED)

 

The table below highlights the allocation of the purchase price:

 

Purchase Price:

 

 

 

 

 

 

 

 

 

 

 

Peninsula shares outstanding at December 5, 2014

 

288,000

 

 

 

Price per share /Cash Price

 

$

46.13

 

 

 

Aggregate value of Mackinac stock issued, 695,361 shares, at a market value of $11.41 in exch for 190,800 shares

 

$

7,934

 

 

 

Cash consideration $46.13 for 97,200 shares

 

4,484

 

 

 

Cash for partial shares

 

2

 

 

 

Total purchase price

 

 

 

$

12,420

 

 

 

 

 

 

 

Net assets acquired:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

6,295

 

 

 

Securities available for sale

 

27,768

 

 

 

Federal Home Loan Bank stock

 

394

 

 

 

Loans

 

67,139

 

 

 

Premises and equipment

 

2,918

 

 

 

Other real estate owned

 

1,011

 

 

 

Deposit based intangible

 

1,206

 

 

 

Other assets

 

6,035

 

 

 

Total assets

 

112,766

 

 

 

Non-interest bearing deposits

 

10,250

 

 

 

Interest bearing deposits

 

90,700

 

 

 

Total deposits

 

100,950

 

 

 

Other liabilities

 

3,201

 

 

 

Total liabilities

 

104,151

 

 

 

Net assets acquired

 

 

 

8,615

 

Goodwill

 

 

 

$

3,805

 

 

The results of operations for the twelve months ended December 31, 2014, include the operating results of the acquired assets and assumed liabilities for the 26 days subsequent to the acquisition date.  PFC’s results of operations prior to the acquisition date are not included in the Corporation’s consolidated statement of comprehensive income.

 

The Corporation recorded merger related expenses of $1.622 million after tax during the twelve months ended December 31, 2014.  These expenses were for professional services such as legal, accounting and contractual arrangements for consulting services and data processing termination fees.

 

The following table provides the unaudited pro forma information for the results of operations for the twelve months ended December 31, 2014, as if the acquisition had occurred on January 1.  These adjustments reflect the impact of certain purchase accounting fair value measurements, primarily on the loan and deposit portfolios of PFC.  In addition, the merger-related costs noted above are excluded from the 2014 results of operations, for comparative purposes.  Further operating cost savings are expected along with additional business synergies as a result of the merger which are not presented in the pro forma amounts.  These unaudited pro forma results are presented for illustrative purposes only and are not intended to represent or be indicative of the actual results of operations of the combined banking organization that would have been achieved had the merger occurred at the beginning of the period presented, nor are they intended to represent or be indicative of future results of the Corporation.

 

 

 

2014

 

2013

 

 

 

 

 

 

 

Net interest income

 

$

27,952

 

$

26,387

 

Noninterest income

 

4,647

 

4,733

 

Net income

 

7,740

 

6,706

 

Net income per diluted share

 

$

1.22

 

$

1.06

 

 

In most instances, determining the fair value of the acquired assets and assumed liabilities required the Corporation to estimate the cash flows expected to result from those assets and liabilities and to discount those cash flows at appropriate rates of interest.  The most significant of those determinations is related to the valuation of acquired loans.  For such loans, the excess cash flows expected at merger over the estimated fair value is recognized as interest income over the remaining lives of the loans.  The difference between contractually required payments at merger and the cash flows expected to be

 

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NOTE 21 — BUSINESS COMBINATIONS (CONTINUED)

 

collected at merger reflects the impact of estimated credit losses and other factors, such as prepayments.  In accordance with the applicable accounting guidance for business combinations, there was no carry-over of PFC’s previously established allowance for loan losses.

 

The acquired loans were divided into loans with evidence of credit quality deterioration, which are accounted for under ASC 310-30 (“acquired impaired”) and loans that do not meet the criteria, which are accounted for under ASC 310-20 (“acquired non-impaired”).  In addition, the loans are further categorized into different pools based primarily on the type and purpose of the loan.

 

NOTE 22 — SUBSEQUENT EVENT

 

On January 19, 2016, the Corporation announced the signing of a definitive agreement to acquire The First National Bank of Eagle River (“Eagle River”).  Eagle River is headquartered in Vilas County, Wisconsin, and as of September 30, 2015 had assets of approximately $140 million and three banking offices.  The consummation of this transaction is expected to occur in the second quarter of 2016.

 

Under the terms of the stock purchase agreement, the Corporation will acquire all of the outstanding stock of Eagle River in an all cash transaction for a fixed price of $12.500 million.  Eagle River is expected to maintain a minimum of $12.800 million of tangible capital equity at closing.  Completion of the acquisition is subject to regulatory approval in addition to satisfaction of other customary closing conditions.

 

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NOTE 23 - PARENT COMPANY ONLY FINANCIAL STATEMENTS

 

BALANCE SHEETS

December 31, 2015 and 2014

(Dollars in Thousands)

 

 

 

 

2015

 

2014

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

986

 

$

1,693

 

Investment in subsidiaries

 

83,786

 

83,226

 

Other assets

 

2,981

 

5,884

 

 

 

 

 

 

 

TOTAL ASSETS

 

$

87,753

 

$

90,803

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Line of Credit

 

$

7,750

 

$

8,000

 

Other borrowing

 

2,300

 

2,700

 

Other liabilities

 

1,101

 

6,107

 

Total liabilities

 

11,151

 

16,807

 

Shareholders’ equity:

 

 

 

 

 

Preferred stock - no par value:

 

 

 

 

 

Authorized 500,000 shares, Issued and outstanding - none

 

 

 

Common stock and additional paid in capital - no par value

 

 

 

 

 

Authorized 18,000,000 shares Issued and outstanding - 6,217,620 and 6,266,756 shares respectively

 

61,133

 

62,410

 

Retained earnings

 

15,221

 

11,804

 

Accumulated other comprehensive income

 

248

 

(218

)

 

 

 

 

 

 

Total shareholders’ equity

 

76,602

 

73,996

 

 

 

 

 

 

 

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

 

$

87,753

 

$

90,803

 

 

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Table of Contents

 

NOTE 23 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)

 

STATEMENTS OF OPERATIONS

Years Ended December 31, 2015, 2014, and 2013

(Dollars in Thousands)

 

 

 

2015

 

2014

 

2013

 

INCOME:

 

 

 

 

 

 

 

Interest income

 

$

 

$

 

$

1

 

Total income

 

$

 

$

 

$

1

 

EXPENSES:

 

 

 

 

 

 

 

Interest expense on borrowings

 

453

 

210

 

 

Salaries and benefits

 

876

 

609

 

482

 

Professional service fees

 

256

 

247

 

208

 

Nonrecurring transaction related expenses

 

 

1,284

 

 

Other

 

184

 

304

 

520

 

Total expenses

 

1,769

 

2,654

 

1,210

 

Loss before income taxes and equity in undistributed net income of subsidiaries

 

(1,769

)

(2,654

)

(1,209

)

(Benefit of) income taxes

 

(602

)

(726

)

(411

)

Loss before equity in undistributed net income of subsidiaries

 

(1,167

)

(1,928

)

(798

)

Equity in undistributed net income of subsidiaries

 

6,763

 

3,628

 

6,735

 

Net income

 

5,596

 

1,700

 

5,937

 

Preferred dividend and accretion of discount

 

 

 

308

 

NET INCOME AVAILABLE TO COMMON SHAREHOLDERS

 

$

5,596

 

$

1,700

 

$

5,629

 

 

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NOTE 23 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)

 

STATEMENTS OF CASH FLOWS

Years Ended December 31, 2015, 2014, and 2013

(Dollars in Thousands)

 

 

 

2015

 

2014

 

2013

 

Cash Flows from Operating Activities:

 

 

 

 

 

 

 

Net income

 

$

5,596

 

$

1,700

 

$

5,937

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

Equity in undistributed net (income) of subsidiaries

 

(6,763

)

(3,628

)

(6,735

)

Increase in capital from stock compensation

 

576

 

429

 

333

 

Change in other assets

 

2,903

 

(5,664

)

2,587

 

Change in other liabilities

 

(5,026

)

8,603

 

(3

)

Net cash provided by (used in) operating activities

 

(2,714

)

1,440

 

2,119

 

 

 

 

 

 

 

 

 

Cash Flows from Investing Activities:

 

 

 

 

 

 

 

Investments in subsidiaries

 

5,839

 

(4,000

)

(3,000

)

Net cash paid for acquisition of PFC

 

 

(4,484

)

 

Net cash (used in) investing activities

 

5,839

 

(8,484

)

(3,000

)

 

 

 

 

 

 

 

 

Cash Flows from Financing Activities:

 

 

 

 

 

 

 

Increase on term borrowing

 

 

3,000

 

 

Principal payments on borrowings

 

(100

)

(300

)

 

Net activity on line of credit

 

(550

)

6,000

 

2,000

 

Repurchase of common stock

 

(1,123

)

(143

)

(509

)

Dividend on common stock

 

(2,059

)

(1,121

)

(944

)

Dividend on preferred stock

 

 

 

(308

)

Redemption of Series A Preferred Stock

 

 

 

(11,000

)

Net cash provided by (used in) financing activities

 

(3,832

)

7,436

 

(10,761

)

Net increase (decrease) in cash and cash equivalents

 

(707

)

392

 

(11,642

)

Cash and cash equivalents at beginning of period

 

1,693

 

1,301

 

12,943

 

Cash and cash equivalents at end of period

 

$

986

 

$

1,693

 

$

1,301

 

 

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Table of Contents

 

Item 9.                     Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

 

None.

 

Item 9A.            Controls and Procedures

 

Disclosure Controls and Procedures

 

As of the end of the period covered by this report, management of the company, under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, carried out an evaluation of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”).  Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Corporation’s disclosure controls and procedures were effective, in ensuring the information relating to the Corporation (and its consolidated subsidiaries) required to be disclosed by the Corporation in the reports it files or submits under the Exchange Act was recorded, processed, summarized and reported to the Corporation’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

 

Changes in Internal Control Over Financial Reporting

 

There were no changes in the Corporation’s internal control over financial reporting that occurred during the quarter ended December 31, 2015 that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting.

 

Report on Management’s Assessment of Internal Control over Financial Reporting

 

Mackinac Financial Corporation is responsible for the preparation, integrity, and fair presentation of the consolidated financial statements included in this Form 10-K.  The consolidated financial statements and notes included in this Form 10-K have been prepared in conformity with generally accepted accounting principles in the United States and necessarily include some amounts that are based on management’s best estimates and judgments.

 

We, as management of Mackinac Financial Corporation, are responsible for establishing and maintaining effective internal control over financial reporting that is designed to produce reliable financial statements in conformity with generally accepted accounting principles in the United States.  The system of internal control over financial reporting as it relates to the financial statements is evaluated for effectiveness by management and tested for reliability through a program of internal audits.  Actions are taken to correct potential deficiencies as they are identified.  Any system of internal control, no matter how well designed, has inherent limitations, including the possibility that a control can be circumvented or overridden and misstatements due to error or fraud may occur and not be detected.  Also, because of changes in conditions, internal control effectiveness may vary over time.  Accordingly, even an effective system of internal control will provide only reasonable assurance with respect to financial statement preparation.

 

Management assessed the Corporation’s system of internal control over financial reporting as of December 31, 2015, in relation to criteria for the effective internal control over financial reporting as described in “Internal Control — Integrated Framework,” issued by the Committee of Sponsoring Organizations of the Treadway Commission.  Based on this assessment, management concludes that, as of December 31, 2015, its system of internal control over financial reporting is effective and meets the criteria of the “Internal Control — Integrated Framework.”

 

Item 9B.            Other Information

 

None.

 

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PART III

 

Item 10.              Directors, Executive Officers, and Corporate Governance

 

Executive Officers of the Registrant

 

The executive officers of the Corporation are listed below.  The executive officers serve at the pleasure of the Board of Directors and are appointed by the Board annually.  There are no arrangements or understandings between any officer and any other person pursuant to which the officer was selected.

 

Name

 

Age

 

Position

 

 

 

 

 

 

 

Paul D. Tobias

 

65

 

Chairman and Chief Executive Officer

 

 

 

 

 

 

 

Kelly W. George

 

48

 

President

 

 

 

 

 

 

 

Ernie R. Krueger

 

66

 

Executive Vice President/Chief Financial Officer

 

 

Additional information for the executive officers of the registrant is included in the Corporation’s Proxy Statement for its 2016 Annual Meeting of Shareholders under the captions “Executive Officers” and “Board of Directors Meetings and Committees.”

 

The information set forth under the captions “Information About Directors and Nominees” and “Section 16(a) Beneficial Ownership Reporting Compliance” in the Corporation’s definitive Proxy Statement for its May 24, 2016, Annual Meeting of Shareholders (the “Proxy Statement”), a copy of which will be filed with the SEC prior to the meeting date, is incorporated herein by reference.

 

Item 11.              Executive Compensation

 

Information relating to compensation of the Corporation’s executive officers and directors is contained under the caption “Compensation of Directors and Executive Officers” in the Corporation’s Proxy Statement and is incorporated herein by reference.

 

Item 12.              Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

Information relating to security ownership of certain beneficial owners and management is contained under the caption “Beneficial Ownership of Common Stock” in the Corporation’s Proxy Statement is incorporated herein by reference.

 

The following table provides information as of December 31, 2015 with respect to compensation plans (including individual compensation arrangements) under which equity securities of the Corporation are authorized for issuance.  All such compensation plans were previously approved by security holders.

 

 

 

 

 

 

 

Number of securities

 

 

 

 

 

 

 

remaining available

 

 

 

 

 

Weighted average

 

for future issuance

 

 

 

Number of securities to

 

exercise issue price

 

under equity

 

 

 

be issued upon exercise

 

of outstanding

 

compensation plans

 

 

 

of outstanding options,

 

options, warrants

 

(excluding securities

 

Plan Category

 

warrants and rights

 

and rights

 

reflected in column (a))

 

 

 

(a)

 

(b)

 

(c)

 

 

 

 

 

 

 

 

 

Equity stock option compensation plans approved by security holders:

 

 

 

 

 

 

 

Issued and outstanding:

 

 

 

 

 

 

 

Stock options

 

10,000

 

$

10.65

 

 

Restricted stock awards - August 2012

 

37,125

 

7.91

 

 

Restricted stock awards - March 2014

 

39,580

 

12.95

 

 

Restricted stock awards - March 2015

 

37,730

 

11.15

 

 

Shares available for future issuance

 

 

 

252,494

 

 

 

 

 

 

 

 

 

Total

 

124,435

 

$

10.72

 

252,494

 

 

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Table of Contents

 

Item 13.              Certain Relationships, Related Transactions and Director Independence

 

Information relating to certain relationships and related transactions is contained under the caption “Indebtedness of and Transactions with Management” in the Corporation’s Proxy Statement and is incorporated herein by reference.

 

Additional information is contained under the captions “Information about Directors and Nominees and “Board of Directors Meetings and Committees.” within the Corporation’s Proxy Statement and is incorporated herein by reference.

 

Item 14.              Principal Accountant Fees and Services

 

Information relating to principal accountant fees and services is contained under the caption “Principal Accountant Fees and Services” in the Corporation’s Proxy Statement and is incorporated herein by reference.

 

PART IV

 

Item 15.              Exhibits and Financial Statement Schedules

 

(commission file number for all incorporated documents:  0-20167)

 

(a)                                 The following documents are filed as a part of this report.

 

1.                                      Consolidated Financial Statements

 

(i)                                     The financial statements of the Corporation included in this Form 10-K are listed in Part II, Item 8.

 

2.                                      All of the schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are either not required under the related instruction, the required information is contained elsewhere in the Form 10-K, or the schedules are inapplicable, and therefore have been omitted.

 

3.                                      Exhibits

 

The exhibits required to be filed as part of this Form 10-K are listed in the attached Exhibit Index.

 

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Table of Contents

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Corporation has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, dated March 30, 2016.

 

MACKINAC FINANCIAL CORPORATION

 

 

 

/s/ Paul D. Tobias

 

Paul D. Tobias

 

Chairman and Chief Executive Officer

 

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below on March 30, 2016, by the following persons on behalf of the Corporation and in the capacities indicated.  Each director of the Corporation, whose signature appears below, hereby appoints Paul D. Tobias and Ernie R. Krueger, and each of them severally, as his attorney-in-fact, to sign in his name and on his behalf, as a director of the Corporation, and to file with the Commission any and all Amendments to this Report on Form 10-K.

 

Signature

 

 

 

 

 

/s/ Paul D. Tobias

 

/s/ Ernie R. Krueger

Paul D. Tobias — Chairman,

 

Executive Vice President/Chief Financial Officer

Chief Executive Officer & Director

 

(principal financial and accounting officer)

(principal executive officer)

 

 

 

 

 

/s/ Walter J. Aspatore

 

/s/ Joseph D. Garea

Walter J. Aspatore - Director

 

Joseph D. Garea — Director

 

 

 

/s/ Robert E. Mahaney

 

/s/ Robert H. Orley

Robert E. Mahaney — Director

 

Robert H. Orley - Director

 

 

 

/s/ Dennis B. Bittner

 

/s/ L. Brooks Patterson

Dennis B. Bittner — Director

 

L. Brooks Patterson — Director

 

 

 

/s/ Kelly W. George

 

/s/ Randolph C. Paschke

Kelly W. George — President & Director

 

Randolph C. Paschke — Director

 

 

 

/s/ David R. Steinhardt

 

 

David R. Steinhardt — Director

 

 

 

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Table of Contents

 

INDEX TO EXHIBITS

 

Exhibit

 

 

 

 

 

Incorporated by Reference

 

 

 

Number

 

Exhibit Description

 

Form

 

File No.

 

Exhibit

 

Filing Date

 

Filed Herewith

 

2.1

 

Agreement and Plan of Merger by and among Mackinac Financial Corporation, PFC Acquisition, LLC and Peninsula Financial Corporation

 

8-K

 

000-20167

 

2.1

 

7/23/2014

 

 

 

2.2

 

First Amendment to the Agreement and Plan of Merger, dated as of October 17, 2014, by and among Mackinac Financial Corporation, PFC Acquisition, LLC and Peninsula Financial Corporation

 

8-K

 

000-20167

 

2.1

 

10/20/2014

 

 

 

2.3

 

Stock Purchase Agreement, dated as of January 19, 2016, by and between Ellis Bankshares, Inc. and Mackinac Financial Corporation

 

8-K

 

000-20167

 

2.1

 

1/19/2016

 

 

 

3.1

 

Articles of Incorporation and all amendments (most recent amendment filed December 14, 2004)

 

10-K

 

000-20167

 

3.1

 

3/31/2009

 

 

 

3.3

 

Third Amended and Restated Bylaws adopted March 18, 2014

 

8-K

 

000-20167

 

3.1

 

3/24/2014

 

 

 

10.1

 

Deferred Compensation, Deferred Stock, and Current Stock Purchase Plan for the Corporation’s Nonemployee directors**

 

10-K

 

000-20167

 

10.2

 

3/28/2000

 

 

 

10.2

 

North Country Financial Corporation Stock Compensation Plan**

 

10-K

 

000-20167

 

10.3

 

3/28/2000

 

 

 

10.3

 

North Country Financial Corporation 1997 Directors’ Stock Option Plan**

 

10-K

 

000-20167

 

10.4

 

3/28/2000

 

 

 

10.4

 

North Country Financial Corporation 2000 Stock Incentive Plan**

 

10-Q

 

000-20167

 

10.1

 

5/12/2000

 

 

 

10.5

 

North Country Financial Corporation Supplemental Executive Retirement Plan**

 

10-Q

 

000-20167

 

10.6

 

11/5/1999

 

 

 

10.6

 

Form of Director and Officer Indemnification Agreement**

 

8-K

 

000-20167

 

10.1

 

3/24/2014

 

 

 

10.7

 

Mackinac Financial Corporation 2012 Incentive Compensation Plan**

 

DEF14A

 

000-20167

 

Annex I

 

4/25/2012

 

 

 

10.8

 

First Amended and Restated Securities Purchase Agreement dated May 23, 2012 between the Corporation and Steinhardt Capital Investors, LLLP

 

8-K

 

000-20167

 

10.1

 

5/23/2012

 

 

 

10.9

 

First Amendment to the First Amended and Restated Securities Purchase Agreement dated May 30, 2012, between the Corporation and Steinhardt Capital Investors, LLLP

 

8-K

 

000-20167

 

10.1

 

5/31/2012

 

 

 

10.10

 

Employment Agreement, dated as of August 10, 2012, by and between Mackinac Financial Corporation and Paul D. Tobias**

 

8-K

 

000-20167

 

10.1

 

8/15/2012

 

 

 

10.11

 

Employment Agreement, dated as of August 10, 2012, by and between Mackinac Financial Corporation and Kelly W. George**

 

8-K

 

000-20167

 

10.2

 

8/15/2012

 

 

 

10.12

 

Employment Agreement, dated as of August 10, 2012, by and between Mackinac Financial Corporation and Ernie R. Krueger**

 

8-K

 

000-20167

 

10.3

 

8/15/2012

 

 

 

10.13

 

First Amendment to Employment Agreement, dated as of March 24, 2015, by and between Mackinac Financial Corporation and Paul D. Tobias **

 

8-K

 

000-20167

 

10.1

 

3/27/2015

 

 

 

 

79



Table of Contents

 

Exhibit

 

 

 

 

 

Incorporated by Reference

 

 

 

Number

 

Exhibit Description

 

Form

 

File No.

 

Exhibit

 

Filing Date

 

Filed Herewith

 

10.14

 

First Amendment to Employment Agreement, dated as of March 24, 2015, by and between Mackinac Financial Corporation and Kelly W. George **

 

8-K

 

000-20167

 

10.2

 

3/27/2015

 

 

 

10.15

 

First Amendment to Employment Agreement, dated as of March 24, 2015, by and between Mackinac Financial Corporation and Ernie R. Krueger **

 

8-K

 

000-20167

 

10.3

 

3/27/2015

 

 

 

10.16

 

Form of Restricted Stock Unit Award Agreement under the Mackinac Financial Corporation 2012 Incentive Compensation Plan**

 

8-K

 

000-20167

 

10.3

 

8/13/2012

 

 

 

21

 

Subsidiaries of the Corporation

 

 

 

 

 

 

 

 

 

*

 

23.1

 

Consent of Plante Moran, PLLC

 

 

 

 

 

 

 

 

 

*

 

31

 

Rule 13(a) — 14(a) Certifications

 

 

 

 

 

 

 

 

 

*

 

32.1

 

Section 1350 Chief Executive Officer Certification

 

 

 

 

 

 

 

 

 

*

 

32.2

 

Section 1350 Chief Financial Officer Certification

 

 

 

 

 

 

 

 

 

*

 

101.INS

 

XBRL Instance Document

 

 

 

 

 

 

 

 

 

*

 

101.SCH

 

XBRL Taxonomy Extension Schema Document***

 

 

 

 

 

 

 

 

 

*

 

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document***

 

 

 

 

 

 

 

 

 

*

 

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document***

 

 

 

 

 

 

 

 

 

*

 

101.LAB

 

XBRL Taxonomy Extension Labels Linkbase Document***

 

 

 

 

 

 

 

 

 

*

 

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document***

 

 

 

 

 

 

 

 

 

*

 

 


*                                         Filed herewith.

**                                  Management compensatory plan, contract, or arrangement.

***                           As provided in Rule 406T of Regulation S-T, this information shall not be deemed “filed” for the purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934 or otherwise subject to liability under those Sections.

 

80



Dates Referenced Herein   and   Documents Incorporated by Reference

This ‘10-K’ Filing    Date    Other Filings
8/24/24
12/31/1910-K,  11-K
1/1/18
12/28/17
12/15/178-K
3/22/17
1/1/17
5/24/168-K,  DEF 14A
Filed on:3/30/16
3/29/16
3/28/16
1/19/168-K
1/1/16
For Period end:12/31/1511-K
9/30/1510-Q
8/31/15
6/30/1510-Q
4/28/154,  8-K
3/24/154,  8-K
1/1/15
12/31/1410-K,  11-K,  ARS
12/5/148-K,  8-K/A
10/17/148-K
8/31/14
6/30/1410-Q,  UPLOAD
3/18/144,  8-K
1/1/14
12/31/1310-K,  10-K/A,  11-K
12/17/138-K
8/31/13
7/2/13
2/27/13
1/1/13
12/31/1210-K,  11-K
8/10/123,  4,  8-K
5/30/128-K
5/23/128-K
5/22/12DEF 14A
7/21/11
12/31/1010-K,  11-K
7/21/10
5/19/10
12/31/0910-K,  11-K
12/31/0510-K,  ARS
12/16/048-K
12/14/04
7/30/02
4/14/98DEF 14A,  PRE 14A
 List all Filings 
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