nbn20160921_10q.htm Table Of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

FORM 10-Q

 

Quarterly report pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934

 

For the quarterly period ended September 30, 2016

 

Commission File Number: 1-14588

 

 

Northeast Bancorp


(Exact name of registrant as specified in its charter)

 

Maine

 

01-0425066

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

     

500 Canal Street, Lewiston, Maine

 

04240

(Address of Principal executive offices)

 

(Zip Code)

 

(207) 786-3245

Registrant's telephone number, including area code

 

 

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 subjected to such filing requirements for the past 90 days. Yes No ___

 

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

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of "accelerated filer”, “large accelerated filer" and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (check one): Large accelerated filer __ Accelerated filer Non-accelerated filer __ Smaller Reporting Company __ 

 

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

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. As of November 2, 2016, the registrant had outstanding 7,487,552 shares of voting common stock, $1.00 par value per share and 1,343,683 shares of non-voting common stock, $1.00 par value per share.

 

 

Part I. Financial Information 3

 

Item 1.

Financial Statements (unaudited)

 3

 

 

Consolidated Balance Sheets September 30, 2016 and June 30, 2016

 3

 

 

 

 

 

 

Consolidated Statements of Income Three Months Ended September 30, 2016 and 2015

 4
       
   

Consolidated Statements of Comprehensive Income Three Months Ended September 30, 2016 and 2015

 5
       

 

 

Consolidated Statements of Changes in Shareholders' Equity Three Months Ended September 30, 2016 and 2015

 6

 

 

 

 

 

 

Consolidated Statements of Cash Flows Three Months Ended September 30, 2016 and 2015

 7

 

 

 

 

 

 

Notes to Consolidated Financial Statements

 8

 

 

 

 

 

Item 2.

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

 28

 

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosure about Market Risk

 39

 

 

 

 

 

Item 4.

Controls and Procedures

 40
       
Part II. Other Information 40

 

 

 

 

 

Item 1.

Legal Proceedings

 40

 

 

 

 

 

Item 1A.

Risk Factors

 40

 

 

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 41

 

 

 

 

 

Item 3.

Defaults Upon Senior Securities

 41

 

 

 

 

 

Item 4.

Mine Safety Disclosures

 41

 

 

 

 

 

Item 5.

Other Information

 41

 

 

 

 

 

Item 6.

Exhibits

 41

 

 

PART 1- FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited) 

 

NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(Unaudited)

(Dollars in thousands, except share and per share data) 

   

September 30, 2016

   

June 30, 2016

 

Assets

               

Cash and due from banks

  $ 3,574     $ 2,459  

Short-term investments

    122,675       148,698  

Total cash and cash equivalents

    126,249       151,157  

Available-for-sale securities, at fair value

    94,583       100,572  
                 

Residential real estate loans held for sale

    4,623       6,449  

SBA loans held for sale

    2,630       1,070  

Total loans held for sale

    7,253       7,519  
                 
                 

Loans

               

Commercial real estate

    449,553       426,568  

Residential real estate

    110,223       113,962  

Commercial and industrial

    156,110       145,956  

Consumer

    5,532       5,950  

Total loans

    721,418       692,436  

Less: Allowance for loan losses

    2,506       2,350  

Loans, net

    718,912       690,086  
                 
                 

Premises and equipment, net

    7,452       7,801  

Real estate owned and other repossessed collateral, net

    3,774       1,652  

Federal Home Loan Bank stock, at cost

    2,408       2,408  

Intangible assets, net

    1,623       1,732  

Bank owned life insurance

    15,839       15,725  

Other assets

    7,475       7,501  

Total assets

  $ 985,568     $ 986,153  
                 

Liabilities and Shareholders' Equity

               

Liabilities

               

Deposits

               

Demand

  $ 74,249     $ 66,686  

Savings and interest checking

    107,365       107,218  

Money market

    302,079       275,437  

Time

    321,716       351,091  

Total deposits

    805,409       800,432  
                 

Federal Home Loan Bank advances

    30,046       30,075  

Subordinated debt

    23,393       23,331  

Capital lease obligation

    1,066       1,128  

Other liabilities

    14,101       14,596  

Total liabilities

    874,015       869,562  
                 

Commitments and contingencies

    -       -  
                 
                 

Shareholders' equity

               

Preferred stock, $1.00 par value, 1,000,000 shares authorized; no shares issued and outstanding at September 30, 2016 and June 30, 2016

    -       -  

Voting common stock, $1.00 par value, 25,000,000 shares authorized; 7,487,552 and 8,089,790 shares issued and outstanding at September 30, 2016 and June 30, 2016, respectively

    7,487       8,089  

Non-voting common stock, $1.00 par value, 3,000,000 shares authorized; 1,343,683 and 1,227,683 shares issued and outstanding at September 30, 2016 and June 30, 2016, respectively

    1,344       1,228  

Additional paid-in capital

    76,765       83,020  

Retained earnings

    27,818       26,160  

Accumulated other comprehensive loss

    (1,861 )     (1,906 )

Total shareholders' equity

    111,553       116,591  

Total liabilities and shareholders' equity

  $ 985,568     $ 986,153  

  

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

  

NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(Dollars in thousands, except share and per share data)

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 

Interest and dividend income:

               

Interest and fees on loans

  $ 11,803     $ 10,790  

Interest on available-for-sale securities

    239       228  

Other interest and dividend income

    215       95  

Total interest and dividend income

    12,257       11,113  
                 

Interest expense:

               

Deposits

    1,754       1,365  

Federal Home Loan Bank advances

    255       260  

Wholesale repurchase agreements

    -       67  

Short-term borrowings

    -       9  

Subordinated debt

    459       154  

Obligation under capital lease agreements

    14       17  

Total interest expense

    2,482       1,872  
                 

Net interest and dividend income before provision for loan losses

    9,775       9,241  

Provision for loan losses

    193       169  

Net interest and dividend income after provision for loan losses

    9,582       9,072  
                 

Noninterest income:

               

Fees for other services to customers

    408       408  

Gain on sales of residential loans held for sale

    542       560  

Gain on sales of SBA loans

    743       675  

Loss recognized on real estate owned and other repossessed collateral, net

    (14 )     (59 )

Bank-owned life insurance income

    114       112  

Other noninterest income

    15       9  

Total noninterest income

    1,808       1,705  
                 

Noninterest expense:

               

Salaries and employee benefits

    5,314       4,256  

Occupancy and equipment expense

    1,229       1,290  

Professional fees

    496       430  

Data processing fees

    421       349  

Marketing expense

    87       70  

Loan acquisition and collection expense

    227       451  

FDIC insurance premiums

    124       114  

Intangible asset amortization

    109       131  

Other noninterest expense

    619       719  

Total noninterest expense

    8,626       7,810  

Income before income tax expense

    2,764       2,967  

Income tax expense

    1,013       1,100  

Net income

  $ 1,751     $ 1,867  
                 
                 

Weighted-average shares outstanding:

               

Basic

    9,106,144       9,562,812  

Diluted

    9,133,383       9,562,812  

 

               
Earnings per common share:                

Basic

  $ 0.19     $ 0.20  

Diluted

    0.19       0.20  
                 

Cash dividends declared per common share

  $ 0.01     $ 0.01  

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

 

NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands)

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 

Net income

  $ 1,751     $ 1,867  
                 

Other comprehensive income (loss), before tax:

               

Available-for-sale securities:

               

Change in net unrealized (loss) gain on available-for-sale securities

    (78 )     466  

Derivatives and hedging activities:

               

Change in accumulated gain (loss) on effective cash flow hedges

    154       (838 )

Reclassification adjustments included in net income

    -       -  

Total derivatives and hedging activities

    154       (838 )

Total other comprehensive income (loss), before tax

    76       (372 )

Income tax (benefit) expense related to other comprehensive loss

    31       (141 )

Other comprehensive income (loss), net of tax

    45       (231 )

Comprehensive income

  $ 1,796     $ 1,636  

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

  

 

NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)

(Dollars in thousands, except share and per share data)

 

   

Preferred Stock

   

Voting Common Stock

   

Non-voting Common Stock

   

Additional

   

 

   

Accumulated

Other

   

Total

 
   

Shares

   

Amount

   

Shares

   

Amount

   

Shares

   

Amount

   

Paid-in

Capital

   

Retained

Earnings

   

Comprehensive

Loss

   

Shareholders'

Equity

 
                                                                                 

Balance at June 30, 2015

    -     $ -       8,575,144     $ 8,575       1,012,739     $ 1,013     $ 85,506     $ 18,921     $ (1,288 )   $ 112,727  

Net income

    -       -       -       -       -       -       -       1,867       -       1,867  

Other comprehensive loss, net of tax

    -       -       -       -       -       -       -       -       (231 )     (231 )

Common stock repurchased

    -       -       (52,500 )     (53 )     -       -       (495 )     -       -       (548 )

Conversion of voting common stock to non-

voting common stock

    -       -       (9,978 )     (10 )     9,978       10       -       -       -       -  

Dividends on common stock at $0.01 per share

    -       -       -       -       -       -       -       (95 )     -       (95 )

Stock-based compensation

    -       -       -       -       -       -       (16 )     -       -       (16 )

Issuance of restricted common stock

    -       -       97,500       98       -       -       (98 )     -       -       -  

Cancellation and forfeiture of restricted common stock

    -       -       (40,554 )     (40 )     -       -       40       -       -       -  

Balance at September 30, 2015

    -     $ -       8,569,612     $ 8,570       1,022,717     $ 1,023     $ 84,937     $ 20,693     $ (1,519 )   $ 113,704  
                                                                                 

Balance at June 30, 2016

    -       -       8,089,790     $ 8,089       1,227,683     $ 1,228     $ 83,020     $ 26,160     $ (1,906 )   $ 116,591  

Net income

    -       -       -       -       -       -       -       1,751       -       1,751  

Other comprehensive loss, net of tax

    -       -       -       -       -       -       -       -       45       45  

Common stock repurchased

    -       -       (645,238 )     (645 )     -       -       (6,298 )     -       -       (6,943 )

Conversion of voting common stock to non-

voting common stock

    -       -       (116,000 )     (116 )     116,000       116       -       -       -       -  

Dividends on common stock at $0.01 per share

    -       -       -       -       -       -       -       (93 )     -       (93 )

Stock-based compensation

    -       -       -       -       -       -       202       -       -       202  

Issuance of restricted common stock

    -       -       160,000       160       -       -       (160 )     -       -       -  

Cancellation and forfeiture of restricted common stock

    -       -       (1,000 )     (1 )     -       -       1       -       -       -  

Balance at September 30, 2016

    -     $ -       7,487,552     $ 7,487       1,343,683     $ 1,344     $ 76,765     $ 27,818     $ (1,861 )   $ 111,553  

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

 

NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 

Operating activities:

               

Net income

  $ 1,751     $ 1,867  
Adjustments to reconcile net income to net cash used in operating activities:                

Provision for loan losses

    193       169  

Loss on sale and impairment of real estate owned and other repossessed collateral, net

    13       53  

Loss on sale and disposal of premises and equipment, net

    1       6  

Accretion of fair value adjustments on loans, net

    (2,133 )     (2,248 )

Accretion of fair value adjustments on deposits, net

    (1 )     (3 )

Accretion of fair value adjustments on borrowings, net

    (29 )     (18 )

Amortization of subordinated debt issuance costs

    62       -  

Originations of loans held for sale

    (33,459 )     (26,877 )

Net proceeds from sales of loans held for sale

    33,758       35,318  

Gain on sales of residential loans held for sale

    (542 )     (560 )

Gain on sales of SBA loans held for sale

    (743 )     (675 )

Amortization of intangible assets

    109       131  

Bank-owned life insurance income, net

    (114 )     (112 )

Depreciation of premises and equipment

    395       405  

Stock-based compensation

    202       (16 )

Amortization of available-for-sale securities, net

    286       222  

Changes in other assets and liabilities:

               

Other assets

    (15 )     521  

Other liabilities

    (345 )     (3,059 )

Net cash (used in) provided by operating activities

    (611 )     5,124  

Investing activities:

               

Purchases of available-for-sale securities

    (9,056 )     (5,000 )

Proceeds from maturities and principal payments on available-for-sale securities

    14,681       5,808  

Loan purchases

    (13,853 )     (23,458 )

Loan originations, principal collections, and purchased loan paydowns, net

    (13,969 )     5,712  

Purchases and disposals of premises and equipment, net

    (47 )     (618 )

Proceeds from sales of real estate owned and other repossessed collateral

    67       642  

Net cash used in investing activities

    (22,177 )     (16,914 )

Financing activities:

               

Net increase in deposits

    4,978       18,722  

Net increase (decrease) in short-term borrowings

    -       130  

Repurchase of common stock

    (6,943 )     (548 )

Dividends paid on common stock

    (93 )     (95 )

Repayment of wholesale repurchase agreements

    -       (10,000 )

Repayment of capital lease obligation

    (62 )     (56 )

Net cash (used in) provided by financing activities

    (2,120 )     8,153  
                 

Net decrease in cash and cash equivalents

    (24,908 )     (3,637 )

Cash and cash equivalents, beginning of period

    151,157       89,850  

Cash and cash equivalents, end of period

  $ 126,249     $ 86,213  
                 

Supplemental schedule of noncash investing activities:

               

Transfers from loans to real estate owned and other repossessed collateral

  $ 2,188     $ 323  

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

 

NORTHEAST BANCORP AND SUBSIDIARY

Notes to Unaudited Consolidated Financial Statements

September 30, 2016

 

1. Basis of Presentation

 

The accompanying unaudited condensed and consolidated interim financial statements include the accounts of Northeast Bancorp (“Northeast” or the “Company”) and its wholly-owned subsidiary, Northeast Bank (the “Bank”).

 

These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, the accompanying consolidated financial statements contain all adjustments (consisting principally of normal recurring accruals) considered necessary for a fair presentation of the Company's financial position, results of operations, and cash flows for the interim periods presented. These financial statements and notes should be read in conjunction with the audited consolidated financial statements and notes thereto for the fiscal year ended June 30, 2016 (“Fiscal 2016”) included in the Company's Annual Report on Form 10-K filed with the Securities and Exchange Commission.

 

2. Recent Accounting Pronouncements

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”). ASU 2014-09 implements a common revenue standard that clarifies the principles for recognizing revenue. The core principle of ASU 2014-09 is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, an entity should apply the following steps: (i) identify the contract(s) with a customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) the entity satisfies a performance obligation. ASU 2015-14, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”) was issued in August 2015 which defers adoption to annual reporting periods beginning after December 15, 2017. The Company is currently evaluating the impact of the adoption of ASU 2014-09 on its consolidated financial statements.

 

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”). This guidance changes how entities account for equity investments that do not result in consolidation and are not accounted for under the equity method of accounting. Entities will be required to measure these investments at fair value at the end of each reporting period and recognize changes in fair value in net income. A practicability exception will be available for equity investments that do not have readily determinable fair values, however; the exception requires the Company to adjust the carrying amount for impairment and observable price changes in orderly transactions for the identical or a similar investment of the same issuer. This guidance also changes certain disclosure requirements and other aspects of current US GAAP. This guidance is effective for fiscal years beginning after December 15, 2017, including interim periods within the fiscal year. Early adoption is permitted for only one of the six amendments. The Company is currently evaluating the impact of the adoption of ASU 2016-01 on its consolidated financial statements.

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) (“ASU 2016-02”). The new guidance establishes the principles to report transparent and economically neutral information about the assets and liabilities that arise from leases. Entities will be required to recognize the lease assets and lease liabilities that arise from leases in the statement of financial position and to disclose qualitative and quantitative information about lease transactions, such as information about variable lease payments and options to renew and terminate leases. This guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within the fiscal year. The Company is currently evaluating the impact of the adoption of ASU 2016-02 on its consolidated financial statements.

 

In March 2016, the FASB issued ASU 2016-05, Derivatives and Hedging (Topic 815): Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships (“ASU 2016-05”). The new guidance clarifies that a change in the counterparty to a derivative instrument that has been designated as the hedging instrument under Topic 815 does not, in and of itself, require de-designation of that hedging relationship provided that all other hedge accounting criteria continue to be met. This guidance is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. The adoption of this guidance is not expected to have a significant impact on the Company’s financial statements.

 

In March 2016, the FASB issued ASU 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting (“ASU 2016-09”). The new guidance simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. Entities will be required to recognize the income tax effects of awards in the income statement when the awards vest or are settled. This guidance is effective for fiscal years beginning after December 15, 2016, and interim periods within those annual periods. The adoption of this guidance is not expected to have a significant impact on the Company’s financial statements.

 

 

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326) (“ASU 2016-13”). This update is intended to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. To achieve this objective, the amendments in this update replace the incurred loss impairment methodology in current US GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. This ASU will be effective for fiscal years beginning after December 15, 2019. Early adoption is available as of the fiscal year beginning after December 15, 2018. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

 

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230) (“ASU 2016-15”). This update clarifies and provides guidance on several cash receipt and cash payment classification issues, including debt prepayment and extinguishment costs, settlement of zero-coupon debt instruments, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies, distributions received from equity method investees, beneficial interests in securitization transactions, and separately identifiable cash flows and application of the predominance principle. The amendments in this Update are effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The adoption of this guidance is not expected to have a significant impact on the Company’s financial statements.

 

 

3. Securities Available-for-Sale

 

The following presents a summary of the amortized cost, gross unrealized holding gains and losses, and fair value of securities available for sale.

 

   

September 30, 2016

 
   

Amortized

   

Gross Unrealized

   

Gross Unrealized

   

Fair

 
   

Cost

   

Gains

   

Losses

   

Value

 
   

(Dollars in thousands)

 

U.S. Government agency securities

  $ 48,856     $ 24     $ (31 )   $ 48,849  

Agency mortgage-backed securities

    40,483       117       (29 )     40,571  

Other investment measured at net asset value

    5,125       38       -       5,163  
    $ 94,464     $ 179     $ (60 )   $ 94,583  

 

 

    June 30, 2016  
    Amortized     Gross Unrealized     Gross Unrealized     Fair   
    Cost      Gains     Losses     Value  
    (Dollars in thousands)  

U.S. Government agency securities

  $ 51,948     $ 98     $ -     $ 52,046  

Agency mortgage-backed securities

    43,330       90       (52 )     43,368  

Other investment measured at net asset value

    5,097       61       -       5,158  
    $ 100,375     $ 249     $ (52 )   $ 100,572  

 

 

When securities are sold, the adjusted cost of the specific security sold is used to compute the gain or loss on sale. There were no securities sold during the three months ended September 30, 2016 or 2015. At September 30, 2016, no investment securities were pledged as collateral to secure outstanding borrowings.

 

The following summarizes the Company’s gross unrealized losses and fair values aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position.

 

   

September 30, 2016

 
   

Less than 12 Months

   

More than 12 Months

   

Total

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

    Unrealized  
   

Value

   

Losses

   

Value

   

Losses

   

Value

    Losses  
   

(Dollars in thousands)

 

U.S. Government agency securities

  $ 36,671     $ (31 )   $ -     $ -     $ 36,671     $ (31 )

Agency mortgage-backed securities

    2,082       (1 )     15,780       (28 )     17,862       (29 )

Other investment measured at net asset value

    -       -       -       -       -       -  
    $ 38,753     $ (32 )   $ 15,780     $ (28 )   $ 54,533     $ (60 )

 

   

June 30, 2016

 
   

Less than 12 Months

   

More than 12 Months

   

Total

 
   

Fair

    Unrealized    

Fair

   

Unrealized

   

Fair

   

Unrealized

 
   

Value

    Losses    

Value

   

Losses

   

Value

   

Losses

 
   

(Dollars in thousands)

 

U.S. Government agency securities

  $ -     $ -     $ -     $ -     $ -     $ -  

Agency mortgage-backed securities

    -       -       25,350       (52 )     25,350       (52 )

Other investment measured at net asset value

    -       -       -       -       -       -  
    $ -     $ -     $ 25,350     $ (52 )   $ 25,350     $ (52 )

 

There were no other-than-temporary impairment losses on securities during the three months ended September 30, 2016 or 2015.

 

At September 30, 2016, the Company had seven securities in a continuous loss position for greater than twelve months. At September 30, 2016, all of the Company’s available-for-sale securities were issued or guaranteed by either government agencies or government-sponsored enterprises. The decline in fair value of the Company’s available-for-sale securities at September 30, 2016 is attributable to changes in interest rates.

 

In addition to considering current trends and economic conditions that may affect the quality of individual securities within the Company’s investment portfolio, management of the Company also considers the Company’s ability and intent to hold such securities to maturity or recovery of cost. At September 30, 2016, the Company does not intend to sell and it is not more likely than not that the Company will be required to sell the investment securities before recovery of its amortized cost. As such, management does not believe any of the Company’s available-for-sale securities are other-than-temporarily impaired at September 30, 2016.

 

The investment measured at net asset value is a fund that seeks to invest in securities either issued or guaranteed by the U.S. government or its agencies. The underlying composition of such fund is primarily government agencies or other investment-grade investments. The effective duration of the investments is 4.67 years at September 30, 2016.

 

 

The amortized cost and fair values of available-for-sale debt securities by contractual maturity are shown below as of September 30, 2016. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

 

   

Amortized

   

Fair

 
   

Cost

   

Value

 
   

(Dollars in thousands)

 

Due within one year

  $ -     $ -  

Due after one year through five years

    48,856       48,849  

Due after five years through ten years

    18,104       18,217  

Due after ten years

    22,379       22,354  

Total

  $ 89,339     $ 89,420  

 

 

 

4. Loans, Allowance for Loan Losses and Credit Quality

 

Loans are carried at the principal amounts outstanding, or amortized acquired fair value in the case of acquired loans, adjusted by partial charge-offs and net of deferred loan costs or fees. Loan fees and certain direct origination costs are deferred and amortized into interest income over the expected term of the loan using the level-yield method. When a loan is paid off, the unamortized portion is recognized in interest income. Interest income is accrued based upon the daily principal amount outstanding except for loans on nonaccrual status.

 

Loans purchased by the Company are accounted for under ASC 310-30, Receivables—Loans and Debt Securities Acquired with Deteriorated Credit Quality ("ASC 310-30"). At acquisition, the effective interest rate is determined based on the discount rate that equates the present value of the Company's estimate of cash flows with the purchase price of the loan. Prepayments are not assumed in determining a purchased loan's effective interest rate and income accretion. The application of ASC 310-30 limits the yield that may be accreted on the purchased loan, or the "accretable yield," to the excess of the Company's estimate, at acquisition, of the expected undiscounted principal, interest, and other cash flows over the Company's initial investment in the loan. The excess of contractually required payments receivable over the cash flows expected to be collected on the loan represents the purchased loan's "nonaccretable difference." Subsequent improvements in expected cash flows of loans with nonaccretable differences result in a prospective increase to the loan's effective yield through a reclassification of some, or all, of the nonaccretable difference to accretable yield. The effect of subsequent credit-related declines in expected cash flows of purchased loans are recorded through a specific allocation in the allowance for loan losses. 

 

Loans are generally placed on nonaccrual status when they are past due 90 days as to either principal or interest, or when in management's judgment the collectability of interest or principal of the loan has been significantly impaired. Loans accounted for under ASC 310-30 are placed on nonaccrual when it is not possible to reach a reasonable expectation of the timing and amount of cash flows to be collected on the loan. When a loan has been placed on nonaccrual status, previously accrued and uncollected interest is reversed against interest on loans. Interest on nonaccrual loans is accounted for on a cash-basis or using the cost-recovery method when collectability is doubtful. A loan is returned to accrual status when collectability of principal is reasonably assured and the loan has performed for a reasonable period of time.

 

In cases where a borrower experiences financial difficulties and the Company makes certain concessionary modifications to contractual terms, the loan is classified as a troubled debt restructuring ("TDR"), and therefore by definition is an impaired loan. Concessionary modifications may include adjustments to interest rates, extensions of maturity, and other actions intended to minimize economic loss and avoid foreclosure or repossession of collateral. For loans accounted for under ASC 310-30, the Company evaluates whether it has granted a concession by comparing the restructured debt terms to the expected cash flows at acquisition plus any additional cash flows expected to be collected arising from changes in estimate after acquisition. As a result, if an ASC 310-30 loan is modified to be consistent with, or better than, the Company's expectations at acquisition, the modified loan would not qualify as a TDR. Nonaccrual loans that are restructured generally remain on nonaccrual status for a minimum period of six months to demonstrate that the borrower can meet the restructured terms. If the restructured loan is on accrual status prior to being modified, it is reviewed to determine if the modified loan should remain on accrual status. If the borrower's ability to meet the revised payment schedule is not reasonably assured, the loan is classified as a nonaccrual loan. With limited exceptions, loans classified as TDRs remain classified as such until the loan is paid off.

The composition of the Company’s loan portfolio is as follows on the dates indicated.

 

    September 30, 2016     June 30, 2016  
    Originated     Purchased     Total     Originated     Purchased     Total  
    (Dollars in thousands)  

Residential real estate

  $ 90,230     $ 2,895     $ 93,125     $ 93,391     $ 2,559     $ 95,950  

Home equity

    17,098       -       17,098       18,012       -       18,012  

Commercial real estate

    218,236       231,317       449,553       189,616       236,952       426,568  

Commercial and industrial

    154,008       2,102       156,110       145,758       198       145,956  

Consumer

    5,532       -       5,532       5,950       -       5,950  

Total loans

  $ 485,104     $ 236,314     $ 721,418     $ 452,727     $ 239,709     $ 692,436  

 

 

Total loans include deferred loan origination costs of $367 thousand and fees of $58 thousand as of September 30, 2016 and June 30, 2016, respectively.

 

 

Past Due and Nonaccrual Loans

 

The following is a summary of past due and non-accrual loans:

 

   

September 30, 2016

 
                   

Past Due

   

Past Due

                                 
                   

90 Days or

   

90 Days or

   

Total

                   

Non-

 
    30-59     60-89    

More-Still

   

More-

   

Past

   

Total

   

Total

   

Accrual

 
   

Days

   

Days

   

Accruing

   

Nonaccrual

   

Due

   

Current

   

Loans

   

Loans

 
   

(Dollars in thousands)

 

Originated portfolio:

                                                               

Residential real estate

  $ 75     $ 637     $ -     $ 2,367     $ 3,079     $ 87,151     $ 90,230     $ 3,273  

Home equity

    50       -       -       48       98       17,000       17,098       48  

Commercial real estate

    256       -       -       94       350       217,886       218,236       361  

Commercial and industrial

    -       -       -       -       -       154,008       154,008       347  

Consumer

    92       8       -       95       195       5,337       5,532       121  

Total originated portfolio

    473       645       -       2,604       3,722       481,382       485,104       4,150  

Purchased portfolio:

                                                               

Residential real estate

    1,108       -       -       -       1,108       1,787       2,895       1,107  

Commercial and industrial

    -       93       -       -       93       2,009       2,102       48  

Commercial real estate

    179       1,411       -       3,269       4,859       226,458       231,317       3,618  

Total purchased portfolio

    1,287       1,504       -       3,269       6,060       230,254       236,314       4,773  

Total loans

  $ 1,760     $ 2,149     $ -     $ 5,873     $ 9,782     $ 711,636     $ 721,418     $ 8,923  

 

   

June 30, 2016

 
                   

Past Due

   

Past Due

                                 
                   

90 Days or

   

90 Days or

   

Total

                   

Non-

 
      30-59       60-89    

More-Still

   

More-

   

Past

   

Total

   

Total

   

Accrual

 
   

Days

   

Days

   

Accruing

   

Nonaccrual

   

Due

   

Current

   

Loans

   

Loans

 
   

(Dollars in thousands)

 

Originated portfolio:

                                                               

Residential real estate

  $ 302     $ 910     $ -     $ 1,555     $ 2,767     $ 90,624     $ 93,391     $ 2,613  

Home equity

    146       -       -       48       194       17,818       18,012       48  

Commercial real estate

    132       -       -       188       320       189,296       189,616       474  

Commercial and industrial

    -       -       -       15       15       145,743       145,758       17  

Consumer

    73       56       -       74       203       5,747       5,950       163  

Total originated portfolio

    653       966       -       1,880       3,499       449,228       452,727       3,315  

Purchased portfolio:

                                                               

Residential real estate

    -       -       -       -       -       2,559       2,559       1,125  

Commercial and industrial

    -       -       -       -       -       198       198       -  

Commercial real estate

    -       19       -       3,387       3,406       233,546       236,952       3,387  

Total purchased portfolio

    -       19       -       3,387       3,406       236,303       239,709       4,512  

Total loans

  $ 653     $ 985     $ -     $ 5,267     $ 6,905     $ 685,531     $ 692,436     $ 7,827  

 

 

Allowance for Loan Losses and Impaired Loans

 

The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. For residential and consumer loans, a charge-off is recorded no later than the point at which a loan is 180 days past due if the loan balance exceeds the fair value of the collateral, less costs to sell. For commercial loans, a charge-off is recorded on a case-by-case basis when all or a portion of the loan is deemed to be uncollectible. Subsequent recoveries, if any, are credited to the allowance.

 

The allowance for loan losses consists of general, specific, and unallocated reserves and reflects management’s estimate of probable loan losses inherent in the loan portfolio at the balance sheet date. Management uses a consistent and systematic process and methodology to evaluate the appropriateness of the allowance for loan losses on a quarterly basis. The calculation of the allowance for loan losses is segregated by portfolio segments, which include: commercial real estate, commercial and industrial, consumer, residential real estate, and purchased loans. Risk characteristics relevant to each portfolio segment are as follows:

 

Residential real estate: All loans in this segment are collateralized by residential real estate and repayment is primarily dependent on the credit quality, loan-to-value ratio and income of the individual borrower. The overall health of the economy, particularly unemployment rates and housing prices, has a significant effect on the credit quality in this segment. For purposes of the Company’s allowance for loan loss calculation, home equity loans and lines of credit are included in residential real estate.

 

Commercial real estate: Loans in this segment are primarily income-producing properties. For owner-occupied properties, the cash flows are derived from an operating business, and the underlying cash flows may be adversely affected by deterioration in the financial condition of the operating business. The underlying cash flows generated by non-owner occupied properties may be adversely affected by increased vacancy rates. Management periodically obtains rent rolls, with which it monitors the cash flows of these loans. Adverse developments in either of these areas will have an adverse effect on the credit quality of this segment. For purposes of the allowance for loan losses, this segment also includes construction loans.

 

 

Commercial and industrial: Loans in this segment are made to businesses and are generally secured by the assets of the business. Repayment is expected from the cash flows of the business. Weakness in national or regional economic conditions, and a corresponding weakness in consumer or business spending, will have an adverse effect on the credit quality of this segment.

 

Consumer: Loans in this segment are generally secured, and repayment is dependent on the credit quality of the individual borrower. Repayment of consumer loans is generally based on the earnings of individual borrowers, which may be adversely impacted by regional labor market conditions.

 

Purchased: Loans in this segment are typically secured by commercial real estate, multi-family residential real estate, or business assets and have been acquired by the Bank's Loan Acquisition and Servicing Group (“LASG”). Loans acquired by the LASG are, with limited exceptions, performing loans at the date of purchase. Repayment of loans in this segment is largely dependent on cash flow from the successful operation of the property, in the case of non-owner occupied property, or operating business, in the case of owner-occupied property. Loan performance may be adversely affected by factors affecting the general economy or conditions specific to the real estate market, such as geographic location or property type. Loans in this segment are evaluated for impairment under ASC 310-30. The Company reviews expected cash flows from purchased loans on a quarterly basis. The effect of a decline in expected cash flows subsequent to the acquisition of the loan is recognized through a specific allocation in the allowance for loan losses 

 

The general component of the allowance for loan losses for originated loans is based on historical loss experience adjusted for qualitative factors stratified by loan segment. The Company does not weight periods used in that analysis to determine the average loss rate in each portfolio segment. This historical loss factor is adjusted for the following qualitative factors:

 

 

Levels and trends in delinquencies;

 

 

Trends in the volume and nature of loans;

 

 

Trends in credit terms and policies, including underwriting standards, procedures and practices, and the experience and ability of lending management and staff;

 

 

Trends in portfolio concentration;

 

 

National and local economic trends and conditions;

 

 

Effects of changes or trends in internal risk ratings; and

 

 

Other effects resulting from trends in the valuation of underlying collateral.

 

The allocated component of the allowance for loan losses relates to loans that are classified as impaired. Impairment is measured on a loan-by-loan basis by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent. An allowance is established when the discounted cash flows or collateral value of the impaired loan is lower than the carrying value of that loan.

 

For all portfolio segments, except loans accounted for under ASC 310-30, a loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. For the purchased loan segment, a loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to realize cash flows as expected at acquisition. For loans accounted for under ASC 310-30 for which cash flows can reasonably be estimated, loan impairment is measured based on the decrease in expected cash flows from those estimated at acquisition, excluding changes due to changes in interest rate indices and other non-credit related factors, discounted at the loan’s effective rate assumed at acquisition. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting the scheduled principal and interest payments when due.

 

 

The following table sets forth activity in the Company’s allowance for loan losses.

 

   

Three Months Ended September 30, 2016

 
   

Residential

   

Commercial

   

Commercial

                                 
   

Real Estate

   

Real Estate

   

and Industrial

   

Consumer

   

Purchased

   

Unallocated

   

Total

 
   

(Dollars in thousands)

 

Beginning balance

  $ 663     $ 1,195     $ 297     $ 62     $ 133     $ -     $ 2,350  

Provision

    (99 )     226       17       24       25       -       193  

Recoveries

    2       -       5       11       -       -       18  

Charge-offs

    (25 )     -       (1 )     (29 )     -       -       (55 )

Ending balance

  $ 541     $ 1,421     $ 318     $ 68     $ 158     $ -     $ 2,506  

 

   

Three Months Ended September 30, 2015

 
   

Residential

   

Commercial

   

Commercial

                                 
   

Real Estate

   

Real Estate

   

and Industrial

   

Consumer

   

Purchased

   

Unallocated

   

Total

 
   

(Dollars in thousands)

 

Beginning balance

  $ 741     $ 694     $ 117     $ 35     $ 283     $ 56     $ 1,926  

Provision

    (21 )     62       16       31       81       -       169  

Recoveries

    12       5       1       2       -       -       20  

Charge-offs

    -       (28 )     -       (22 )     -       -       (50 )

Ending balance

  $ 732     $ 733     $ 134     $ 46     $ 364     $ 56     $ 2,065  

 

 

The following table sets forth information regarding the allowance for loan losses by portfolio segment and impairment methodology.

 

   

September 30, 2016

 
   

Residential

   

Commercial

   

Commercial

                                 
   

Real Estate

   

Real Estate

   

and Industrial

   

Consumer

   

Purchased

   

Unallocated

   

Total

 
   

(Dollars in thousands)

 

Allowance for loan losses:

                                                       

Individually evaluated

  $ 326     $ 50     $ 2     $ 22     $ -     $ -     $ 400  

Collectively evaluated

    215       1,371       316       46       -       -       1,948  

ASC 310-30

    -       -       -       -       158       -       158  

Total

  $ 541     $ 1,421     $ 318     $ 68     $ 158     $ -     $ 2,506  
                                                         

Loans:

                                                       

Individually evaluated

  $ 5,790     $ 1,565     $ 346     $ 330     $ -     $ -     $ 8,031  

Collectively evaluated

    101,538       216,671       153,662       5,202       -       -       477,073  

ASC 310-30

    -       -       -       -       236,314       -       236,314  

Total

  $ 107,328     $ 218,236     $ 154,008     $ 5,532     $ 236,314     $ -     $ 721,418  

 

   

June 30, 2016

 
   

Residential

   

Commercial

   

Commercial

                                 
   

Real Estate

   

Real Estate

   

and Industrial

   

Consumer

   

Purchased

   

Unallocated

   

Total

 
   

(Dollars in thousands)

 

Allowance for loan losses:

                                                       

Individually evaluated

  $ 386     $ 59     $ 2     $ 23     $ -     $ -     $ 470  

Collectively evaluated

    277       1,136       295       39       -       -       1,747  

ASC 310-30

    -       -       -       -       133       -       133  

Total

  $ 663     $ 1,195     $ 297     $ 62     $ 133     $ -     $ 2,350  
                                                         

Loans:

                                                       

Individually evaluated

  $ 5,039     $ 1,686     $ 17     $ 362     $ -     $ -     $ 7,104  

Collectively evaluated

    106,364       187,930       145,741       5,588       -       -       445,623  

ASC 310-30

    -       -       -       -       239,709       -       239,709  

Total

  $ 111,403     $ 189,616     $ 145,758     $ 5,950     $ 239,709     $ -     $ 692,436  

 

 

The following table sets forth information regarding impaired loans. Loans accounted for under ASC 310-30 that have performed based on cash flow and accretable yield expectations determined at date of acquisition are not considered impaired assets and have been excluded from the tables below.

 

   

September 30, 2016

   

June 30, 2016

 
           

Unpaid

                   

Unpaid

         
   

Recorded

   

Principal

   

Related

   

Recorded

   

Principal

   

Related

 
   

Investment

   

Balance

   

Allowance

   

Investment

   

Balance

   

Allowance

 
   

(Dollars in thousands)

 

Impaired loans without a valuation allowance:

                                               

Originated:

                                               

Residential real estate

  $ 4,268     $ 4,320     $ -     $ 3,192     $ 3,299     $ -  

Consumer

    228       263       -       257       282       -  

Commercial real estate

    443       445       -       451       453       -  

Commercial and industrial

    344       344       -       15       15       -  

Purchased:

                                               

Residential real estate

    1,108       1,150       -       1,125       1,125       -  

Commercial real estate

    4,897       5,939       -       4,574       4,886       -  

Commercial and industrial

    48       88       -       -       -       -  

Total

    11,336       12,549       -       9,614       10,060       -  
                                                 

Impaired loans with a valuation allowance:

                                               

Originated:

                                               

Residential real estate

    1,522       1,510       326       1,847       1,802       386  

Consumer

    102       114       22       105       112       23  

Commercial real estate

    1,122       1,114       50       1,235       1,223       59  

Commercial and industrial

    2       2       2       2       2       2  

Purchased:

                                               

Commercial real estate

    1,574       1,865       111       1,484       1,812       66  

Total

    4,322       4,605       511       4,673       4,951       536  

Total impaired loans

  $ 15,658     $ 17,154     $ 511     $ 14,287     $ 15,011     $ 536  

 

 

The following tables set forth information regarding interest income recognized on impaired loans.

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

Average

   

Interest

   

Average

   

Interest

 
   

Recorded

   

Income

   

Recorded

   

Income

 
   

Investment

   

Recognized

   

Investment

   

Recognized

 
   

(Dollars in thousands)

 

Impaired loans without a valuation allowance:

                               

Originated:

                               

Residential real estate

  $ 3,730     $ 49     $ 2,520     $ 39  

Consumer

    243       3       290       5  

Commercial real estate

    447       8       1,200       7  

Commercial and industrial

    180       3       2       -  

Purchased:

                               

Residential real estate

    1,117       3       -       -  

Commercial real estate

    4,736       52       7,842       14  

Commercial and industrial

    24       -       -       -  

Total

    10,477       118       11,854       65  
                                 

Impaired loans with a valuation allowance:

                               

Originated:

                               

Residential real estate

    1,685       16       2,064       23  

Consumer

    104       2       23       1  

Commercial real estate

    1,179       18       924       12  

Commercial and industrial

    2       -       -       -  

Purchased:

                               

Commercial real estate

    1,529       17       1,976       36  

Total

    4,499       53       4,987       72  

Total impaired loans

  $ 14,976     $ 171     $ 16,841     $ 137  

 

 

Credit Quality

 

The Company utilizes a ten-point internal loan rating system for commercial real estate, construction, commercial and industrial, and certain residential loans as follows:

 

Loans rated 1 — 6: Loans in these categories are considered “pass” rated loans. Loans in categories 1-5 are considered to have low to average risk. Loans rated 6 are considered marginally acceptable business credits and have more than average risk.

 

Loans rated 7: Loans in this category are considered “special mention.” These loans show signs of potential weakness and are being closely monitored by management.

 

Loans rated 8: Loans in this category are considered “substandard.” Loans classified as substandard are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have a well-defined weakness or weaknesses that jeopardize the orderly repayment of the debt.

 

Loans rated 9: Loans in this category are considered “doubtful.” Loans classified as doubtful have all the weaknesses inherent in one graded 8 with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

 

Loans rated 10: Loans in this category are considered “loss” and of such little value that their continuance as loans is not warranted.

 

On an annual basis, or more often if needed, the Company formally reviews the ratings of all loans subject to risk ratings. Semi-annually, the Company engages an independent third-party to review a significant portion of loans within these segments. Management uses the results of these reviews as part of its annual review process. Risk ratings on purchased loans, with and without evidence of credit deterioration at acquisition, are determined relative to the Company’s recorded investment in that loan, which may be significantly lower than the loan’s unpaid principal balance. 

 

The following tables present the Company’s loans by risk rating.

 

 

   

September 30, 2016

 
   

Originated Portfolio

                 
   

Commercial

   

Commercial

           

Purchased

         
   

Real Estate

   

and Industrial

   

Residential(1)

   

Portfolio

   

Total

 
   

(Dollars in thousands)

 

Loans rated 1- 6

  $ 214,276     $ 153,599     $ 7,591     $ 224,071     $ 599,537  

Loans rated 7

    3,125       397       500       8,424       12,446  

Loans rated 8

    835       12       515       3,819       5,181  

Loans rated 9

    -       -       23       -       23  

Loans rated 10

    -       -       -       -       -  
    $ 218,236     $ 154,008     $ 8,629     $ 236,314     $ 617,187  

 

   

June 30, 2016

 
   

Originated Portfolio

                 
   

Commercial

   

Commercial

           

Purchased

         
   

Real Estate

   

and Industrial

   

Residential(1)

   

Portfolio

   

Total

 
   

(Dollars in thousands)

 

Loans rated 1- 6

  $ 186,165     $ 142,451     $ 7,659     $ 227,895     $ 564,170  

Loans rated 7

    2,493       3,290       431       7,147       13,361  

Loans rated 8

    958       17       537       4,667       6,179  

Loans rated 9

    -       -       23       -       23  

Loans rated 10

    -       -       -       -       -  
    $ 189,616     $ 145,758     $ 8,650     $ 239,709     $ 583,733  

 

    (1) Certain of the Company’s loans made for commercial purposes, but secured by residential collateral, are rated under the Company’s risk-rating system.

 

 

Troubled Debt Restructurings

 

The following table shows the Company’s post-modification balance of TDRs by type of modification.

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

Number of

   

Recorded

   

Number of

   

Recorded

 
   

Contracts

   

Investment

   

Contracts

   

Investment

 
   

(Dollars in thousands)

 

Extended maturity

    -     $ -       -     $ -  

Adjusted interest rate

    1       9       -       -  

Rate and maturity

    1       334       -       -  

Principal deferment

    -       -       -       -  

Court ordered concession

    -       -       -       -  
      2     $ 343       -     $ -  

 

 

The following table shows loans modified in a TDR and the change in the recorded investment subsequent to the modifications occurring.

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 
           

Recorded

   

Recorded

           

Recorded

   

Recorded

 
   

Number of

   

Investment

   

Investment

   

Number of

   

Investment

   

Investment

 
   

Contracts

   

Pre-Modification

   

Post-Modification

   

Contracts

   

Pre-Modification

   

Post-Modification

 
   

(Dollars in thousands)

 

Originated portfolio:

                                               

Residential real estate

    1     $ 9     $ 9       -     $ -     $ -  

Home equity

    -       -       -       -       -       -  

Commercial real estate

    -       -       -       -       -       -  

Commercial and industrial

    -       -       -       -       -       -  

Consumer

    -       -       -       -       -       -  

Total originated portfolio

    1       9       9       -       -       -  
                                                 

Purchased portfolio:

                                               

Residential real estate

    -       -       -       -       -       -  

Commercial real estate

    1       334       334       -       -       -  

Total purchased portfolio

    1       334       334       -       -       -  

Total

    2     $ 343     $ 343       -     $ -     $ -  

 

 

The Company considers TDRs past due 90 days or more to be in payment default. No loans modified in a TDR in the last twelve months defaulted during the three months ended September 30, 2016. As of September 30, 2016, there were no further commitments to lend to borrowers associated with loans modified in a TDR.

 

 

ASC 310-30 Loans

 

The following tables present a summary of loans accounted for under ASC 310-30 that were acquired by the Company during the period indicated.

 

   

Three Months Ended September 30, 2016

   

Three Months Ended September 30, 2015

 
   

(Dollars in thousands)

 

Contractually required payments receivable

  $ 26,254     $ 31,276  

Nonaccretable difference

    (2,517 )     (291 )

Cash flows expected to be collected

    23,737       30,985  

Accretable yield

    (9,884 )     (7,527 )

Fair value of loans acquired

  $ 13,853     $ 23,458  

 

 

Certain of the loans accounted for under ASC 310-30 that were acquired by the Company are not accounted for using the income recognition model because the Company cannot reasonably estimate cash flows expected to be collected. These loans when acquired are placed on non-accrual. The carrying amounts of such loans are as follows.

 

   

As of and for the Three Months Ended

September 30, 2016

   

As of and for the Three Months Ended

September 30, 2015

 
   

(Dollars in thousands)

 

Loans acquired during the period

  $ 1,103     $ -  

Loans at end of period

    4,439       6,826  

 

 

 

The following tables summarize the activity in the accretable yield for loans accounted for under ASC 310-30.

 

   

Three Months Ended September 30, 2016

   

Three Months Ended September 30, 2015

 
   

(Dollars in thousands)

 

Beginning balance

  $ 124,151     $ 111,449  

Acquisitions

    9,884       7,527  

Accretion

    (4,652 )     (3,755 )

Reclassifications from non-accretable difference to accretable yield

    (1,105 )     277  

Disposals and other changes

    (4,255 )     (5,883 )

Ending balance

  $ 124,023     $ 109,615  

 

 

The following table provides information related to the unpaid principal balance and carrying amounts of ASC 310-30 loans.

 

   

September 30, 2016 (1)

   

June 30, 2016 (1)

 
   

(Dollars in thousands)

 

Unpaid principal balance

  $ 265,571     $ 267,985  

Carrying amount

    234,076       237,054  

 

 

(1)

Balances include loans held for sale of $789 thousand at September 30, 2016 and $0 at June 30, 2016.

 

 

5. Transfers and Servicing of Financial Assets

 

The Company sells loans in the secondary market and for certain loans, retains the servicing responsibility. Consideration for the sale includes the cash received as well as the related servicing rights asset. The Company receives fees for the services provided.

 

Capitalized servicing rights as of September 30, 2016 totaled $2.2 million, compared to $1.8 million as of June 30, 2016, included in other assets on the consolidated balance sheets.

 

Mortgage loans sold in the quarter ended September 30, 2016 totaled $25.0 million, compared to $28.9 million in the quarter ended September 30, 2015. Mortgage loans serviced for others totaled $12.5 million at September 30, 2016 and $12.9 million at June 30, 2016. Additionally, the Company was servicing commercial loans participated out to various other institutions amounting to $33.2 million and $35.9 million at September 30, 2016 and June 30, 2016, respectively.

 

SBA loans sold during the quarter ended September 30, 2016 totaled $7.4 million, compared to $5.5 million in the quarter September 30, 2015. SBA loans serviced for others totaled $103.6 million at September 30, 2016 and $80.8 million at June 30, 2016.

 

Mortgage and SBA loans serviced for others are accounted for as sales and therefore are not included in the accompanying consolidated balance sheets. The risks inherent in mortgage servicing assets and SBA servicing assets relate primarily to changes in prepayments that result from shifts in interest rates.

 

Contractually specified servicing fees were $160 thousand and $149 thousand for the quarters ended September 30, 2016 and 2015, respectively, and were included as a component of loan related fees within non-interest income.

 

The significant assumptions used in the valuation for mortgage servicing rights as of September 30, 2016 included a weighted average discount rate of 5.5% and a weighted average prepayment speed assumption of 18.7%. For the SBA servicing rights, the significant assumptions used in the valuation included a range of discount rates from 8.5% to 14.1% and a weighted average prepayment speed assumption of 7.7%

 

6. Earnings Per Share (EPS)

 

EPS is computed by dividing net income allocated to common shareholders by the weighted average common shares outstanding (including participating securities). The Company’s only participating securities are unvested restricted stock awards that contain non-forfeitable rights to dividends. The following table shows the weighted average number of shares outstanding for the periods indicated. Shares issuable relative to stock options granted have been reflected as an increase in the shares outstanding used to calculate diluted EPS, after applying the treasury stock method. The number of shares outstanding for basic and diluted EPS is presented as follows:

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

(Dollars in thousands, except share and per share data)

 
                 

Net income

  $ 1,751     $ 1,867  

Preferred stock dividends or accretion

    -       -  

Net income available to common shareholders

  $ 1,751     $ 1,867  
                 

Weighted average shares used in calculation of basic EPS

    9,106,144       9,562,812  

Incremental shares from assumed exercise of dilutive securities

    27,239       -  

Weighted average shares used in calculation of diluted EPS

    9,133,383       9,562,812  
                 

Earnings per common share:

               

Basic

  $ 0.19     $ 0.20  

Diluted

    0.19       0.20  

 

 

For the three months ended September 30, 2016 and 2015, the following stock options were excluded from the calculation of diluted EPS due to the exercise price of these options exceeding the average market price of the Company’s common stock for the period. These options, which were not dilutive at that date, may potentially dilute EPS in the future.

 

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 

Stock options

    714,545       980,269  

 

 

 

7. Derivatives and Hedging Activities

 

The Company has stand-alone derivative financial instruments in the form of interest rate caps that derive their value from a fee paid and are adjusted to fair value based on index and strike rate, and swap agreements that derive their value from the underlying interest rate. These transactions involve both credit and market risk. The notional amounts are amounts on which calculations, payments and the value of the derivative are based. Notional amounts do not represent direct credit exposures. Direct credit exposure arises in the event of nonperformance by the counterparties to these agreements, and is limited to the net difference between the calculated amounts to be received and paid, if any. Such differences, which represent the fair value of the derivative instruments, are reflected on the Company's balance sheet as derivative assets and derivative liabilities. The Company controls the credit risk of its financial contracts through credit approvals, limits and monitoring procedures, and does not expect any counterparties to fail to meet their obligations.

 

The Company currently holds derivative instruments that contain credit-risk related features that are in a net liability position, which may require that collateral be assigned to dealer banks. At September 30, 2016, the Company had posted cash collateral totaling $3.1 million with dealer banks related to derivative instruments in a net liability position.

 

The Company does not offset fair value amounts recognized for derivative instruments. The Company does not net the amount recognized for the right to reclaim cash collateral against the obligation to return cash collateral arising from derivative instruments executed with the same counterparty under a master netting arrangement.

 

Risk Management Policies—Derivative Instruments

 

The Company evaluates the effectiveness of entering into any derivative instrument agreement by measuring the cost of such an agreement in relation to the reduction in net income volatility within an assumed range of interest rates.

 

Interest Rate Risk Management—Cash Flow Hedging Instruments

 

The Company uses variable rate debt as a source of funds for use in the Company's lending and investment activities and other general business purposes. These debt obligations expose the Company to variability in interest payments due to changes in interest rates. If interest rates increase, interest expense increases. Conversely, if interest rates decrease, interest expense decreases. Management believes it is prudent to limit the variability of a portion of its interest payments and, therefore, generally hedges a portion of its variable-rate interest payments.

 

Information pertaining to outstanding interest rate caps and swap agreements used to hedge variable rate debt is as follows.

 

 

September 30, 2016

Notional Amount

 

Inception Date

 

Termination Date

 

Index

 

Receive Rate

   

Pay Rate

   

Strike Rate

   

Unrealized Loss

   

Fair Value

 

Balance Sheet Location

(Dollars in thousands)

Interest rate swaps:                                                      
$ 5,000  

July 2013

 

July 2033

 

3 Mo. LIBOR

    0.85 %     3.38 %     n/a     $ (1,314 )   $ (1,314 )

Other Liabilities

  5,000  

July 2013

 

July 2028

 

3 Mo. LIBOR

    0.85 %     3.23 %     n/a       (947 )     (947 )

Other Liabilities

  5,000  

July 2013

 

July 2023

 

3 Mo. LIBOR

    0.85 %     2.77 %     n/a       (493 )     (493 )

Other Liabilities

Interest rate caps:                                                      
  6,000  

October 2014

 

September 2019

 

3 Mo. LIBOR

    n/a       n/a       2.50 %     (170 )     7  

Other Assets

  10,000  

March 2015

 

February 2020

 

3 Mo. LIBOR

    n/a       n/a       2.50 %     (198 )     18  

Other Assets

$ 31,000                                       $ (3,122 )   $ (2,729 )  

 

June 30, 2016

Notional Amount

 

Inception Date

 

Termination Date

 

Index

 

Receive Rate

   

Pay Rate

   

Strike Rate

   

Unrealized Loss

   

Fair Value

 

Balance Sheet Location

(Dollars in thousands)

Interest rate swaps:

                                                 
$ 5,000  

July 2013

 

July 2033

 

3 Mo. LIBOR

    0.65 %     3.38 %     n/a     $ (1,352 )   $ (1,352 )

Other Liabilities

  5,000  

July 2013

 

July 2028

 

3 Mo. LIBOR

    0.65 %     3.23 %     n/a       (1,005 )     (1,005 )

Other Liabilities

  5,000  

July 2013

 

July 2023

 

3 Mo. LIBOR

    0.65 %     2.77 %     n/a       (560 )     (560 )

Other Liabilities

Interest rate caps:

                                                 
  6,000  

October 2014

 

September 2019

 

3 Mo. LIBOR

    n/a       n/a       2.50 %     (167 )     10  

Other Assets

  10,000  

March 2015

 

February 2020

 

3 Mo. LIBOR

    n/a       n/a       2.50 %     (192 )     25  

Other Assets

$ 31,000                                       $ (3,276 )   $ (2,882 )  

 

 

During the three months ended September 30, 2016 and 2015, no interest rate cap or swap agreements were terminated prior to maturity. Changes in the fair value of interest rate caps and swaps designated as hedging instruments of the variability of cash flows associated with variable rate debt are reported in other comprehensive income. These amounts subsequently are reclassified into interest expense as a yield adjustment in the same period in which the related interest on the debt affects earnings. Risk management results for the three months ended September 30, 2016 and 2015 related to the balance sheet hedging of variable rate debt indicates that the hedges were effective.


 

8. Other Comprehensive Income

 

The components of other comprehensive income (loss) are as follows:

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

Pre-tax

   

Tax Expense

   

After-tax

   

Pre-tax

   

Tax Expense

   

After-tax

 
   

Amount

   

(Benefit)

   

Amount

   

Amount

   

(Benefit)

   

Amount

 
   

(Dollars in thousands)

 

Change in net unrealized gain or loss on available-for-sale securities

  $ (78 )   $ (30 )   $ (48 )   $ 466     $ 178     $ 288  
                                                 

Change in accumulated loss on effective cash flow hedges

    154       61       93       (838 )     (319 )     (519 )

Reclassification adjustment for net gains included in net income

    -       -       -       -       -       -  

Total derivatives and hedging activities

    154       61       93       (838 )     (319 )     (519 )

Total other comprehensive loss

  $ 76     $ 31     $ 45     $ (372 )   $ (141 )   $ (231 )

 


Accumulated other comprehensive loss is comprised of the following:

 

   

September 30, 2016

   

June 30, 2016

 
   

(Dollars in thousands)

 

Unrealized loss on available-for-sale securities

  $ 119     $ 197  

Tax effect

    (45 )     (75 )

Net-of-tax amount

    74       122  

Unrealized loss on cash flow hedges

    (3,122 )     (3,276 )

Tax effect

    1,187       1,248  

Net-of-tax amount

    (1,935 )     (2,028 )

Accumulated other comprehensive loss

  $ (1,861 )   $ (1,906 )

 

 

9. Commitments and Contingencies

 

Commitments

 

The Company 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 and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit, standby letters of credit, and commitments to fund investments. Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. The contract amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.

 

The Company’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 Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

 

Financial instruments with contract amounts which represent credit risk are as follows:

 

   

September 30, 2016

   

June 30, 2016

 
   

(Dollars in thousands)

 

Commitments to grant loans

  $ 24,920     $ 44,684  

Unfunded commitments under lines of credit

    58,635       58,412  

Standby letters of credit

    3,822       3,822  

Commitment to fund investment

    2,500       2,500  

 

 

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 Company evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the counter party. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, and income-producing commercial properties. The Company has recorded an allowance for possible losses on commitments and unfunded loans totaling $56 thousand and $81 thousand recorded in other liabilities at September 30, 2016 and June 30, 2016, respectively.

 

The Company committed $2.5 million to a fund that acquires CRA qualified investments in loans for the Company’s portfolio. The Fund Manager will call the funds from the Company when an investment is successfully acquired. Through the three months ended September 30, 2016, the fund has not called any funds from the Company.

 

Contingencies

 

The Company and its subsidiary are parties to litigation and claims arising in the normal course of business. Management believes that the liabilities, if any, arising from such litigation and claims will not be material to the Company’s consolidated financial position or results of operations.  

 

 

10Stock-Based Compensation  

 

A summary of restricted share activity for the quarter ended September 30, 2016 follows:

 

   

Shares

   

Weighted Average Grant Date Fair Value

 

Unvested at beginning of period

    251,859     $ 9.93  

Granted

    160,000       11.20  

Vested

    -       -  

Forfeited

    (1,000 )     9.47  

Unvested at end of period

    410,859       10.43  

  

A summary of the vesting schedule for the shares granted in the quarter ended September 30, 2016 follows:

 

15,000 restricted shares vest in full on August 25, 2019;

 

50,000 restricted shares are subject to performance-based vesting over a three year period (the “performance shares”). The performance shares include an absolute metric and a sliding metric within the performance period. The absolute metric requires that the Company be in compliance with the regulatory commitments made to the Federal Reserve Bank and Maine Bureau of Financial Institutions.  The sliding metric is based on reaching certain thresholds in regards to the company’s return on equity (“ROE”).  The performance shares shall vest in certain defined increments for such periods if the ROE is at least 70% of such targeted returns.  This performance will be measured on both a year-by-year basis for three years, and an average basis over the three year performance period; and,

 

95,000 restricted shares vest in three equal installments, commencing on August 25, 2019.

  

 

11. Fair Value Measurements

 

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. The Company uses prices and inputs that are current as of the measurement date, including during periods of market dislocation. In periods of market dislocation, the observability of prices and inputs may be reduced for many instruments. This condition could cause an instrument to be reclassified from one level to another. When market assumptions are not readily available, the Company’s own assumptions are set to reflect those that market participants would use in pricing the asset or liability at the measurement date. If there has been a significant decrease in the volume and level of activity for the asset or liability, regardless of the valuation technique(s) used, the objective of a fair value measurement remains the same.

 

ASC 820 defines fair value and establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under ASC 820 are described below:

 

 

Level 1 — Inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

 

Level 2 — Valuations based on significant observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

 

Level 3 — Prices or valuations that require inputs that are both significant to the fair value measurement and unobservable.

 

 

To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by the Company in determining fair value is greatest for instruments categorized in Level 3. A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.

 

Valuation techniques - There have been no changes in the valuation techniques used during the current period.

 

Transfers- There were no transfers of assets and liabilities measured at fair value on a recurring or nonrecurring basis during the current period.

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis:

 

Available-for-sale securities - Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Examples of such instruments include publicly-traded common and preferred stocks. If quoted prices are not available, then fair values are estimated by using pricing models ( i.e., matrix pricing) and market interest rates and credit assumptions or quoted prices of securities with similar characteristics and are classified within Level 2 of the valuation hierarchy. Examples of such instruments include government agency and government sponsored agency mortgage-backed securities, as well as certain preferred and trust preferred stocks. Level 3 securities are securities for which significant unobservable inputs are utilized.

 

Certain investments are measured at fair value using the net asset value per share as a practical expedient. The fund seeks to invest in securities either issued or guaranteed by the U.S. government or its agencies. The Company’s investments can be redeemed daily at the closing net asset value per share. In accordance with ASU 2015-07, these investments have not been included in the fair value hierarchy.

 

Derivative financial instruments - The valuation of the Company’s interest rate swaps and caps are determined using widely accepted valuation techniques including discounted cash flow analyses on the expected cash flows of derivatives. These analyses reflect the contractual terms of the derivatives, including the period to maturity, and use observable market-based inputs, including forward interest rate curves and implied volatilities. Unobservable inputs, such as credit valuation adjustments are insignificant to the overall valuation of the Company’s derivative financial instruments. Accordingly, the Company has determined that its interest rate derivatives fall within Level 2 of the fair value hierarchy.

 

 

The fair value of derivative loan commitments and forward loan sale agreements are estimated using the anticipated market price based on pricing indications provided from syndicate banks. These commitments and agreements are categorized as Level 2. The fair value of such instruments was nominal at each date presented.

 

 

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis:

 

Collateral Dependent Impaired Loans- Valuations of impaired loans measured at fair value are determined by a review of collateral values. Certain inputs used in appraisals are not always observable, and therefore impaired loans are generally categorized as Level 3 within the fair value hierarchy. 

 

Real Estate Owned and Other Repossessed collateral - The fair values of real estate owned and other repossessed collateral are estimated based upon appraised values less estimated costs to sell. Certain inputs used in appraisals are not always observable, and therefore may be categorized as Level 3 within the fair value hierarchy. When inputs used in appraisals are primarily observable, they are classified as Level 2.

 

Loan servicing rights— The fair value of the SBA and mortgage servicing rights is based on a valuation model that calculates the present value of estimated future net servicing income. Adjustments are only recorded when the discounted cash flows derived from the valuation model are less than the carrying value of the asset. Certain inputs are not observable, and therefore loan servicing rights are generally categorized as Level 3 within the fair value hierarchy.

 

Fair Value of other Financial Instruments:

 

Cash and cash equivalents - The fair value of cash, due from banks, interest bearing deposits and FHLBB overnight deposits approximates their relative book values, as these financial instruments have short maturities.

 

FHLBB stock - The carrying value of FHLBB stock approximates fair value based on redemption provisions of the FHLBB.

 

Loans- Fair values are estimated for portfolios of loans with similar financial characteristics. The fair value of performing loans is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. The estimates of maturity are based on the Company’s historical experience with repayments for each loan classification, modified, as required, by an estimate of the effect of current economic conditions, lending conditions and the effects of estimated prepayments.

 

Loans held for sale - The fair value of loans held-for-sale is estimated based on bid quotations received from loan dealers.

 

Accrued Interest receivable - The fair value of this financial instrument approximates the book value. It is the Company’s policy to stop accruing interest on loans past due by more than 90 days. Therefore, this financial instrument has been adjusted for estimated credit loss.

 

Deposits - The fair value of deposits with no stated maturity, such as noninterest-bearing demand deposits, savings, NOW accounts and money market accounts, is equal to the amount payable on demand. The fair values of time deposits are based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. The fair value estimates do not include the benefit that results from the low-cost funding provided by the deposit liabilities compared to the cost of borrowing funds in the market. If that value were considered, the fair value of the Company’s net assets could increase.

 

Borrowings - The fair value of the Company’s borrowings with the FHLBB is estimated by discounting the cash flows through maturity or the next re-pricing date based on current rates available to the Company for borrowings with similar maturities. The fair value of the Company’s short-term borrowings, capital lease obligations, wholesale repurchase agreements and other borrowings is estimated by discounting the cash flows through maturity based on current rates available to the Company for borrowings with similar maturities.

 

Off-Balance Sheet Credit-Related Instruments -Fair values for off-balance-sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The fair value of such instruments was nominal at each date presented.

 

 

Assets and liabilities measured at fair value on a recurring basis are summarized below. 

 

   

September 30, 2016

 
   

Total

   

Level 1

   

Level 2

   

Level 3

 
    (Dollars in thousands)  

Assets

 

 

 

Securities available-for-sale:

                               

U.S. Government agency securities

  $ 48,849     $ -     $ 48,849     $ -  

Agency mortgage-backed securities

    40,571       -       40,571       -  

Other investment measured at net asset value(1)

    5,163       -       -       -  

Other assets – interest rate caps

    25       -       25       -  

Liabilities

                               

Other liabilities – interest rate swaps

    2,754       -       2,754       -  

 

   

June 30, 2016

 
   

Total

   

Level 1

   

Level 2

   

Level 3

 
    (Dollars in thousands)  

Assets

 

 

 

Securities available-for-sale:

                               

U.S. Government agency securities

  $ 52,046     $ -     $ 52,046     $ -  

Agency mortgage-backed securities

    43,368       -       43,368       -  

Other investment measured at net asset value(1)

    5,158       -       -       -  

Other assets – interest rate caps

    35       -       35       -  

Liabilities

                               

Other liabilities – interest rate swap

    2,917       -       2,917       -  

 

 

(1)

In accordance with ASU 820-10, certain investments that are measured at fair value using the net asset value per share (or its equivalent) as a practical expedient have not been classified in the fair value hierarchy. The fair value amount presented in the table are intended to permit reconciliation of the fair value amount to the consolidated financial statements.

 

 

Assets measured at fair value on a nonrecurring basis are summarized below.

 

   

September 30, 2016

 
   

Total

   

Level 1

   

Level 2

   

Level 3

 
   

(Dollars in thousands)

 

Collateral dependent impaired loans

  $ 1,743     $ -     $ -     $ 1,743  

Real estate owned and other repossessed collateral

    3,774       -       -       3,774  

Loan servicing rights

    2,174       -       -       2,174  

 

   

June 30, 2016

 
   

Total

   

Level 1

   

Level 2

   

Level 3

 
   

(Dollars in thousands)

 

Collateral dependent impaired loans

  $ 922     $ -     $ -     $ 922  

Real estate owned and other repossessed collateral

    1,652       -       -       1,652  

Loan servicing rights

    1,771       -       -       1,771  

 

 

The table below presents quantitative information about significant unobservable inputs (Level 3) for assets measured at fair value on a nonrecurring basis at the dates indicated.

 

   

Fair Value

   
   

September 30,

2016

   

June 30,
2016

 

Valuation Technique

   

(Dollars in thousands)

   

Collateral dependent impaired loans

  $ 1,743     $ 922  

Appraisal of collateral(1)

Real estate owned and other repossessed collateral

    3,774       1,652  

Appraisal of collateral(1)

Loan servicing rights

    2,174       1,771  

Discounted cash flow(2)

 

(1) Fair value is generally determined through independent appraisals of the underlying collateral. The Company may also use another available source of collateral assessment to determine a reasonable estimate of the fair value of the collateral. Appraisals may be adjusted by management for qualitative factors such as economic factors and estimated liquidation expenses. The range of these possible adjustments was 6% to 71%.

(2) Fair value is determined using a discounted cash flow model. The unobservable inputs include anticipated rate of loan prepayments and discount rates. The range of prepayment assumptions used was 7.7% to 18.7%. For discount rates, the range was 5.5% to 14.1%. 

 

 

The following table presents the estimated fair value of the Company's financial instruments.

 

   

Carrying

   

Fair Value Measurements at September 30, 2016

 
   

Amount

   

Total

   

Level 1

   

Level 2

   

Level 3

 
   

(Dollars in thousands)

 

Financial assets:

                                       

Cash and cash equivalents

  $ 126,249     $ 126,249     $ 126,249     $ -     $ -  

Available-for-sale securities

    89,420       89,420       -       89,420       -  

Other investment measured at net asset value(1)

    5,163       5,163       -       -       -  

Federal Home Loan Bank stock

    2,408       2,408       -       2,408       -  

Loans held for sale

    7,253       7,253       -       7,253       -  

Loans, net

    718,912       727,794       -       -       727,794  

Accrued interest receivable

    1,728       1,728       -       1,728       -  

Interest rate caps

    25       25       -       25       -  
                                         

Financial liabilities:

                                       

Deposits

    805,409       806,325       -       806,325       -  

FHLBB advances

    30,046       30,262       -       30,262       -  

Capital lease obligation

    1,066       1,145       -       1,145       -  

Subordinated debentures

    23,393       25,932       -       -       25,932  

Interest rate swaps

    2,754       2,754       -       2,754       -  

 

   

Carrying

   

Fair Value Measurements at June 30, 2016

 
   

Amount

   

Total

   

Level 1

   

Level 2

   

Level 3

 
   

(Dollars in thousands)

 

Financial assets:

                                       

Cash and cash equivalents

  $ 151,157     $ 151,157     $ 151,157     $ -     $ -  

Available-for-sale securities

    95,414       95,414       -       95,414       -  

Other investment measured at net asset value(1)

    5,158       5,158       -       -       -  

Federal Home Loan Bank stock

    2,408       2,408       -       2,408       -  

Loans held for sale

    7,519       7,519       -       7,519       -  

Loans, net

    690,086       695,830       -       -       695,830  

Accrued interest receivable

    1,579       1,579       -       1,579       -  

Interest rate caps

    35       35       -       35       -  
                                         

Financial liabilities:

                                       

Deposits

    800,432       801,045       -       801,045       -  

FHLBB advances

    30,075       30,396       -       30,396       -  

Capital lease obligation

    1,128       1,219       -       1,219       -  

Subordinated debentures

    23,331       25,664       -       -       25,664  

Interest rate swaps

    2,917       2,917       -       2,917       -  

 

 

(1)

In accordance with ASU 820-10, certain investments that are measured at fair value using the net asset value per share (or its equivalent) as a practical expedient have not been classified in the fair value hierarchy. The fair value amount presented in the table are intended to permit reconciliation of the fair value amount to the consolidated financial statements.

 

 

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

 

The following discussion should be read in conjunction with the consolidated financial statements, notes and tables included in Northeast Bancorp’s Annual Report on Form 10-K for the fiscal year ended June 30, 2016, filed with the Securities and Exchange Commission.

 

A Note about 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, such as statements relating to the Company’s financial condition, prospective results of operations, future performance or expectations, plans, objectives, prospects, loan loss allowance adequacy, simulation of changes in interest rates, capital spending and finance sources and revenue sources. These statements relate to expectations concerning matters that are not historical facts. Accordingly, statements that are based on management’s projections, estimates, assumptions, and judgments constitute forward-looking statements. These forward-looking statements, which are based on various assumptions (some of which are beyond the Company’s control), may be identified by reference to a future period or periods, or by the use of forward-looking terminology such as “believe”, “expect”, “estimate”, “anticipate”, “continue”, “plan”, “approximately”, “intend”, “objective”, “goal”, “project”, or other similar terms or variations on those terms, or the future or conditional verbs such as “will”, “may”, “should”, “could”, and “would”. Although the Company believes that these forward-looking statements are based on reasonable estimates and assumptions, they are not guarantees of future performance and are subject to known and unknown risks, uncertainties, contingencies, and other factors. Accordingly, the Company cannot give you any assurance that its expectations will, in fact, occur or that its estimates or assumptions will be correct. The Company cautions you that actual results could differ materially from those expressed or implied by such forward-looking statements as a result of, among other factors, changes in interest rates and real estate values; competitive pressures from other financial institutions; weakness in general economic conditions on a national basis or in the local markets in which the Company operates, including changes which adversely affect borrowers’ ability to service and repay the Company’s loans; changes in loan defaults and charge-off rates; changes in the value of securities and other assets, adequacy of loan loss reserves, or deposit levels necessitating increased borrowing to fund loans and investments; changes in government regulation; the risk that the Company may not be successful in the implementation of its business strategy; the risk of compromises or breaches of the company's security systems; the risk that intangibles recorded in the Company’s financial statements will become impaired; changes in assumptions used in making such forward-looking statements; and the other risks and uncertainties detailed in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2016 as updated in the Company’s Quarterly Reports on Form 10-Q and other filings submitted to the Securities and Exchange Commission. These forward-looking statements speak only as of the date of this report and the Company does not undertake any obligation to update or revise any of these forward-looking statements to reflect events or circumstances occurring after the date of this report or to reflect the occurrence of unanticipated events.

 

Description of Business and Strategy

 

Business Overview

Northeast Bancorp (“we,” “our,” “us,” “Northeast” or the “Company”), incorporated under Maine law in 1987, is a bank holding company registered with the Board of Governors of the Federal Reserve System (the “Federal Reserve”). As a bank holding company registered under the Bank Holding Company Act of 1956, as amended (the “BHCA”), the Company is subject to regulation and supervision by the Federal Reserve. The Company’s primary subsidiary and principal asset is its wholly-owned banking subsidiary, Northeast Bank (the “Bank” or “Northeast Bank”), a Maine state-chartered bank originally organized in 1872. As a Federal Deposit Insurance Corporation (“FDIC”) insured Maine-chartered bank, the Bank is subject to regulation and supervision by the Maine Bureau of Financial Institutions (the “Bureau”) and the FDIC.

 

On December 29, 2010, the merger of the Company and FHB Formation LLC, a Delaware limited liability company (“FHB”), was consummated. As a result of the merger, the surviving company received a capital contribution of $16.2 million (in addition to the approximately $13.1 million in cash consideration paid to former shareholders), and the former members of FHB collectively acquired approximately 60% of the Company’s outstanding common stock. The Company applied the acquisition method of accounting, as described in Accounting Standards Codification (“ASC”) 805, Business Combinations (“ASC 805”) to the merger, which represents an acquisition by FHB of Northeast, with Northeast as the surviving company. 

 

 

In connection with the transaction, as part of the regulatory approval process, the Company and the Bank made certain commitments to the Federal Reserve, the most significant of which are (i) to maintain a Tier 1 leverage ratio of at least 10%, (ii) to maintain a total risk-based capital ratio of at least 15%, (iii) to limit purchased loans to 40% of total loans, (iv) to fund 100% of the Company’s loans with core deposits (defined as non-maturity deposits and non-brokered insured time deposits), and (v) to hold commercial real estate loans (including owner-occupied commercial real estate) to within 300% of total risk-based capital. On June 28, 2013, the Federal Reserve approved the amendment to exclude owner-occupied commercial real estate loans from the commitment to hold commercial real estate loans to within 300% of total risk-based capital. All other commitments made to the Federal Reserve in connection with the merger remain unchanged. The Company and the Bank are currently in compliance with all commitments to the Federal Reserve. The Company’s compliance ratios at September 30, 2016 follow:

 

 

Condition

 

Ratios as of September 30, 2016

 

(i) Tier 1 leverage capital ratio

    12.25 %

(ii) Total capital ratio

    18.82 %

(iii) Ratio of purchased loans to total loans, including loans held for sale

    32.54 %

(iv) Ratio of loans to core deposits (1)

    90.22 %

(v) Ratio of commercial real estate loans to total risk-based capital (2)

    179.96 %

 

(1) Core deposits include all non-maturity deposits and maturity deposits less than $250 thousand

(2) For purposes of calculating this ratio, commercial real estate includes all non-owner occupied commercial real estate loans defined as such by regulatory guidance, including all land development and construction loans.

 

As of September 30, 2016, the Company, on a consolidated basis, had total assets of $985.6 million, total deposits of $805.4 million, and shareholders’ equity of $111.6 million. The Company gathers retail deposits through its banking offices in Maine and the Bank's online affinity deposit program, ableBanking; originates loans through the Bank’s Community Banking Division; originates Small Business Administration (“SBA”) loans through the Bank’s national SBA group (“SBA Division”); and purchases and originates commercial loans through the LASG. The Community Banking Division, with ten full-service branches and two loan production offices, operates from the Bank’s headquarters in Lewiston, Maine. LASG, ableBanking, and the SBA Division operate from the Company's offices in Boston, Massachusetts.

 

Unless the context otherwise requires, references herein to the Company include the Company and its subsidiary on a consolidated basis.

 

Strategy

 

The Company’s goal is to prudently grow its franchise, while maintaining sound operations and risk management, by implementing the following strategies:

 

Continuing our community banking tradition. With a history that dates to 1872, our Community Banking Division maintains its focus on sales and service, with the goal of attracting and retaining deposits, and serving the lending needs of retail and commercial customers within our core markets.

 

Growing LASG’s national originated and purchased loan business. We purchase commercial real estate loans nationally, at prices that on average have produced yields significantly higher than those available on our originated loan portfolio. We also originate loans nationally, taking advantage of our core expertise in underwriting and servicing national credits.

 

Growing our national SBA origination business. We originate loans on a national basis to small businesses, primarily through the SBA 7(a) program, which provides the partial guarantee of the SBA.

 

Generating deposits to fund our business. We offer a full line of deposit products through our ten-branch network located in the Community Banking Division’s market. ableBanking is a direct savings platform providing an additional channel to raise core deposits to fund our asset strategy.

 

Critical Accounting Policies

 

Critical accounting policies are those that involve significant judgments and assessments by management, and which could potentially result in materially different results under different assumptions and conditions. The reader is encouraged to review each of the policies included in Form 10-K for the year ended June 30, 2016 to gain a better understanding of how Northeast’s financial performance is measured and reported. There has been no material change in critical accounting policies during the three months ended September 30, 2016.

 

Overview

 

Net income was $1.8 million, or $0.19 per diluted common share, for the quarter ended September 30, 2016, compared to $1.9 million, or $0.20 per diluted common share, for the quarter ended September 30, 2015.

 

 

Net interest and dividend income before provision for loan losses increased by $534 thousand, or 5.8%, to $9.8 million for the quarter ended September 30, 2016 compared to the quarter ended September 30, 2015. The increase is primarily due to higher average balances in the total loan portfolio, offset by higher average deposit balances and the effect of the issuance of the subordinated debt.

 

Noninterest income increased by $103 thousand for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015, principally due to an increase in gains realized on sale of SBA loans.

 

Noninterest expense increased by $816 thousand for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015, primarily due to an increase in salaries and employee benefits of $1.1 million, largely attributable to higher employee headcount, increased incentive compensation, and the benefit recognized upon the forfeiture of stock awards in the quarter ended September 30, 2015.

 

Financial Condition

 

Overview

 

Total assets decreased by $585 thousand, or 0.1%, to $985.6 million at September 30, 2016, compared to June 30, 2016. The principal components of the change in the balance sheet were as follows:

 

 

The loan portfolio – excluding loans held for sale – has grown by $29.0 million, or 4.2%, compared to June 30, 2016, principally on the strength of $28.5 million of net growth in commercial loans purchased or originated by the LASG and net growth of $5.1 million in originations by the SBA Division. This net growth was offset by a $4.6 million decrease in the Bank’s Community Banking Division loan portfolio.

     
  ●  Loans generated by the LASG totaled $55.9 million for the quarter ended September 30, 2016. The growth in LASG loans consisted of $13.9 million of purchased loans, at an average price of 82.5% of unpaid principal balance, and $42.0 million of originated loans. SBA loans closed during the quarter totaled $15.2 million, of which $13.3 million were fully funded in the quarter. In addition, the Company sold $7.4 million of the guaranteed portion of SBA loans in the secondary market, of which $6.3 million were originated in the current quarter and $1.1 million were originated in prior quarters. Residential loan production sold in the secondary market totaled $25.0 million for the quarter.
     
    As noted above in the “Business Overview” section, the Company made certain commitments to the Board of Governors of the Federal Reserve System in connection with the merger of FHB Formation LLC with and into the Company in December 2010. The Company’s loan purchase and commercial real estate loan availability under these conditions follow.

 

Basis for

Regulatory Condition

 

Condition

 

Availability at September 30, 2016

       

(Dollars in millions)

Total Loans

 

Purchased loans may not exceed 40% of total loans

 

$

90.6

Regulatory Capital

 

Non-owner occupied commercial real estate loans may not exceed 300% of total capital

 

$

165.8

           

 

An overview of the Bank’s LASG portfolio follows:

 

   

LASG Portfolio

 
   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

Purchased (1)

   

Originated

   

Secured Loans to

Broker-Dealers

   

Total LASG

   

Purchased

   

Originated

   

Secured Loans to

Broker-Dealers

   

Total LASG

 
   

(Dollars in thousands)

 

Loans purchased or originated during the period:

                                                               

Unpaid principal balance

  $ 16,790     $ 42,002     -     $ 58,792     $ 23,583     $ 10,941     -     $ 34,524  

Net investment basis

    13,853       42,002       -       55,855       23,458       10,941       -       34,399  
                                                                 

Loan returns during the period:

                                                               

Yield

    10.40 %     5.88 %     0.50 %     7.58 %     12.07 %     5.67 %     0.50 %     8.23 %

Total Return (2)

    10.43 %     5.88 %     0.50 %     7.59 %     12.11 %     5.67 %     0.50 %     8.26 %
                                                                 
Total loans as of period end:                                                                
Unpaid principal balance   $ 269,462     $ 206,748     $ 48,000     $ 524,210     $ 249,229     $ 119,732     $ 60,000     $ 428,961  
Net investment basis     237,103       206,748       48,000       491,851       214,199       119,732       60,000       393,931  

 

(1) Purchased loan balances include loans held for sale of $789 thousand.

(2) The total return on purchased loans represents scheduled accretion, accelerated accretion, gains on asset sales, and other noninterest income recorded during the period divided by the average invested balance, which includes loans held for sale, on an annualized basis. The total return does not include the effect of purchased loan charge-offs or recoveries in the quarter. The total return presented is a non-GAAP measure.

 

 

Assets

 

Cash, Short-term Investments and Securities

 

Cash and short-term investments were $126.2 million as of September 30, 2016, a decrease of $24.9 million, or 16.5%, from $151.2 million at June 30, 2016. The decrease is primarily due to the increase in loans, offset by the increase in deposits in the period.

 

Available-for-sale securities totaled $94.6 million as of September 30, 2016, compared to $100.6 million as of June 30, 2016, representing a decrease of $6.0 million, or 6.0% due to the maturity of securities issued by government agencies as well as principal payments on mortgage backed securities. Included in available-for-sale securities are securities issued by government agencies and government-sponsored enterprises, as well as an investment of approximately $5.2 million in a CRA qualified fund that seeks to invest in securities either issued or guaranteed by the U.S. government or its agencies. At September 30, 2016, no securities were pledged for outstanding borrowings.

 

Loans

 

The Company’s loan portfolio (excluding loans held-for-sale) by lending division follows:

 

 

 

 

    September 30, 2016  
    Community Banking Division     LASG     SBA Division     Total     Percent of Total  
    (Dollars in thousands)  

Originated loans:

                                       

Residential real estate

  $ 90,097     $ -     $ 133     $ 90,230       12.51 %

Home equity

    17,098       -       -       17,098       2.37 %

Commercial real estate: non-owner occupied

    50,246       56,801       9,341       116,388       16.13 %

Commercial real estate: owner occupied

    19,173       66,657       16,018       101,848       14.12 %

Commercial and industrial

    16,639       131,290       6,079       154,008       21.35 %

Consumer

    5,532       -       -       5,532       0.77 %

Subtotal

    198,785       254,748       31,571       485,104       67.25 %

Purchased loans:

                                       

Residential real estate

    -       2,895       -       2,895       0.40 %

Commercial real estate: non-owner occupied

    -       132,911       -       132,911       18.42 %

Commercial real estate: owner occupied

    -       98,406       -       98,406       13.64 %

Commercial and industrial

    -       2,102       -       2,102       0.29 %

Subtotal

    -       236,314       -       236,314       32.75 %

Total

  $ 198,785     $ 491,062     $ 31,571     $ 721,418       100.00 %


 

 

    June 30, 2016  
    Community Banking Division     LASG     SBA Division     Total     Percent of Total  
    (Dollars in thousands)  

Originated loans:

                                       

Residential real estate

  $ 93,258     $ -     $ 133     $ 93,391       13.49 %

Home equity

    18,012       -       -       18,012       2.60 %

Commercial real estate: non-owner occupied

    49,514       52,744       5,639       107,897       15.58 %

Commercial real estate: owner occupied

    20,578       46,727       14,414       81,719       11.80 %

Commercial and industrial

    16,069       123,447       6,242       145,758       21.05 %

Consumer

    5,950       -       -       5,950       0.86 %

Subtotal

    203,381       222,918       26,428       452,727       65.38 %

Purchased loans:

                                       

Residential real estate

    -       2,559       -       2,559       0.37 %

Commercial real estate: non-owner occupied

    -       142,286       -       142,286       20.55 %

Commercial real estate: owner occupied

    -       94,666       -       94,666       13.67 %

Commercial and industrial

    -       198       -       198       0.03 %

Subtotal

    -       239,709       -       239,709       34.62 %

Total

  $ 203,381     $ 462,627     $ 26,428     $ 692,436       100.00 %

 

 

Classification of Assets

 

Loans are classified as non-performing when 90 or more days past due, unless a loan is well-secured and in the process of collection. Loans less than 90 days past due, for which collection of principal or interest is considered doubtful, also may be designated as non-performing. In both situations, accrual of interest ceases. The Company typically maintains such loans as non-performing until the respective borrowers have demonstrated a sustained period of payment performance.

 

In cases where a borrower experiences financial difficulties and the Company makes certain concessionary modifications, the loan is classified as a troubled debt restructuring (“TDR”). Concessionary modifications may include adjustments to interest rates, extensions of maturity, or other actions intended to minimize economic loss and avoid foreclosure or repossession of collateral. Nonaccrual loans that are restructured generally remain on nonaccrual status for a minimum period of six months to demonstrate that the borrower can meet the restructured terms. If the restructured loan is on accrual status prior to being modified, it is reviewed to determine if the modified loan should remain on accrual status. If the borrower’s ability to meet the revised payment schedule is not reasonably assured, the loan is classified as a nonaccrual loan. With limited exceptions, loans classified as TDRs remain classified as such until the loan is paid off.

 

Other nonperforming assets include other real estate owned (“OREO”) and other personal property securing loans repossessed by the Bank. The real estate and personal property collateral for commercial and consumer loans is written down to its estimated realizable value upon repossession. Revenues and expenses are recognized in the period when received or incurred on OREO and in substance foreclosures. Gains and losses on disposition are recognized in noninterest income.

 

The following table details the Company's nonperforming assets and other credit quality indicators as of September 30, 2016 and June 30, 2016. Management believes that, based on their carrying amounts, nonperforming assets are well secured based on the estimated fair value of underlying collateral.

 

   

Non-Performing Assets at September 30, 2016

 
   

Originated

   

Purchased

   

Total

 
   

(Dollars in thousands)

 

Loans:

                       

Residential real estate

  $ 3,273     $ 1,107     $ 4,380  

Home equity

    48       -       48  

Commercial real estate

    361       3,618       3,979  

Commercial and industrial

    347       48       395  

Consumer

    121       -       121  

Subtotal

    4,150       4,773       8,923  

Real estate owned and other repossessed collateral

    764       3,010       3,774  

Total

  $ 4,914     $ 7,783     $ 12,697  
Ratio of nonperforming loans to total loans                     1.24 %
Ratio of nonperforming assets to total assets                     1.29 %
Ratio of loans past due to total loans                     1.36 %
Nonperforming loans that are current                   $ 1,682  
Commercial loans risk rated substandard or worse                   $ 3,558  
Troubled debt restructurings:                        

On accrual status

                  $ 6,456  

On nonaccrual status

                  $ 1,320  

 

   

Non-Performing Assets at June 30, 2016

 
   

Originated

   

Purchased

   

Total

 
   

(Dollars in thousands)

 

Loans:

                       

Residential real estate

  $ 2,613     $ 1,125     $ 3,738  

Home equity

    48       -       48  

Commercial real estate

    474       3,387       3,861  

Commercial and industrial

    17       -       17  

Consumer

    163       -       163  

Subtotal

    3,315       4,512       7,827  

Real estate owned and other repossessed collateral

    830       822       1,652  

Total

  $ 4,967     $ 4,512     $ 9,479  
Ratio of nonperforming loans to total loans                     1.13 %
Ratio of nonperforming assets to total assets                     0.96 %
Ratio of loans past due to total loans                     1.00 %
Nonperforming loans that are current                   $ 2,271  
Commercial loans risk rated substandard or worse                   $ 4,518  
Troubled debt restructurings:                        
On accrual status                   $ 7,036  
Nonaccrual status                   $ 1,152  

 

At September 30, 2016, nonperforming assets totaled $12.7 million, or 1.29% of total assets, as compared to $9.5 million, or 0.96% of total assets, at June 30, 2016. The increase is largely due to one loan added to OREO and the effect of loans acquired in the current quarter which were classified as non-performing upon purchase.

 

 

Allowance for Loan Losses

 

In connection with the application of the acquisition method of accounting for the merger on December 29, 2010, the allowance for loan losses was reduced to zero when the loan portfolio was marked to its then current fair value. Since that date, the Company has provided for an allowance for loan losses as new loans are originated or in the event that credit exposure in the pre-merger loan portfolio or other acquired loans exceeds the exposure estimated when initial fair values were determined.

 

The Company’s allowance for loan losses was $2.5 million as of September 30, 2016, which represents an increase of $156 thousand from $2.4 million as of June 30, 2016. The increase during the period was principally due to loan growth in the quarter.

 

The following table details ratios related to the allowance for loan losses for the periods indicated.

 

 

September 30, 2016

 

June 30, 2016

 

September 30, 2015

Allowance for loan losses to nonperforming loans

28.08%

 

30.02%

 

19.11%

Allowance for loan losses to total loans

0.35%

 

0.34%

 

0.33%

Last twelve months of net-charge offs to average loans

0.18%

 

 0.18%

 

0.03%

 

While management believes that it uses the best information available to make its determinations with respect to the allowance for loan losses, there can be no assurance that the Company will not have to increase its provision for loan losses in the future as a result of changing economic conditions, adverse markets for real estate or other factors.

 

Other Assets

 

The cash surrender value of the Company’s bank-owned life insurance (“BOLI”) assets increased $114 thousand, or 0.7% to $15.8 million at September 30, 2016, compared to $15.7 million at June 30, 2016. Increases in cash surrender value are recognized in other income and are not subject to income taxes. Borrowing on, or surrendering a policy, may subject the Company to income tax expense on the increase in cash surrender value. For these reasons, management considers BOLI an illiquid asset. BOLI represented 11.5% of the Company’s total capital at September 30, 2016.

 

Intangible assets totaled $1.6 million and $1.7 million at September 30, 2016 and June 30, 2016, respectively. The $109 thousand decrease was the result of core deposit intangible asset amortization during the period.

 

Deposits, Borrowed Funds, Subordinated Debt, Liquidity, Capital, and Stock Repurchases

 

Deposits

 

The Company’s principal source of funding is its core deposit accounts. At September 30, 2016, non-maturity accounts, and certificates of deposit with balances less than $250 thousand represented 99.9% of total deposits.

 

Total deposits increased $5.0 million to $805.4 million as of September 30, 2016 from $800.4 million as of June 30, 2016. The increase, which funded growth in the Company’s loan portfolio, was centered mainly in money market accounts attracted through the Bank’s Community Banking Division.

 

The composition of total deposits at September 30, 2016 and June 30, 2016 is as follows:

 

   

September 30, 2016

   

June 30, 2016

 
   

Amount

   

Percent of Total

   

Amount

   

Percent of Total

 
   

(Dollars in thousands)

 

Demand deposits

  $ 74,249       9.22 %   $ 66,686       8.33 %

NOW accounts

    71,853       8.92 %     71,148       8.89 %

Regular and other savings

    35,512       4.41 %     36,070       4.51 %

Money market deposits

    302,079       37.51 %     275,437       34.41 %

Total non-certificate accounts

    483,693       60.06 %     449,341       56.14 %

Term certificates less than $250 thousand

    321,215       39.88 %     351,091       43.86 %

Term certificates of $250 thousand or more

    501       0.06 %     -       0.00 %

Total certificate accounts

    321,716       39.94 %     351,091       43.86 %

Total deposits

  $ 805,409       100.00 %   $ 800,432       100.00 %

 

Borrowed Funds

 

Advances from the FHLBB were $30.0 million at September 30, 2016, as compared to $30.1 million at June 30, 2016. At September 30, 2016, the Company had pledged certain residential real estate loans, commercial real estate loans, and FHLBB deposits free of liens or pledges to secure outstanding advances and provide additional borrowing capacity. At September 30, 2016, no securities were pledged for outstanding borrowings.

 

 

Subordinated Debt

 

On June 29, 2016, the Company entered into a Subordinated Note Purchase Agreement with certain institutional accredited investors pursuant to which the Company sold and issued subordinated notes equal to $15.05 million in aggregate principal amount with an interest rate of 6.75% fixed-to-floating maturing in 2026 (“subordinated notes”). The subordinated notes, net of issuance costs of $524 thousand, totaled $14.5 million at both September 30, 2016 and June 30, 2016, respectively.

 

The Company had junior subordinated debentures issued to affiliated trusts totaling $8.9 million and $8.8 million at September 30, 2016 and June 30, 2016, respectively.

 

Liquidity

 

The following table is a summary of unused borrowing capacity of the Company at September 30, 2016, in addition to traditional retail deposit products (dollars in thousands):

 

Brokered time deposits

  $ 246,392  

Subject to policy limitation of 25% of total assets

Federal Home Loan Bank of Boston

    68,478  

Unused advance capacity subject to eligible and qualified collateral

Federal Discount Window Borrower-in-Custody

    1,742  

Unused credit line subject to the pledge of loans

Other available lines

    17,500    

Total unused borrowing capacity

  334,112    

 

Retail deposits and other core deposit sources including deposit listing services are used by the Bank to manage its overall liquidity position. While we currently do not seek wholesale funding such as FHLBB advances and brokered deposits, the ability to raise them remains an important part of our liquidity contingency planning. While we closely monitor and forecast our liquidity position, it is affected by asset growth, deposit withdrawals and meeting other contractual obligations and commitments. The accuracy of our forecast assumptions may increase or decrease our overall available liquidity. To utilize the FHLBB advance capacity, the purchase of additional capital stock in the Federal Home Loan Bank of Boston may be required.

 

At September 30, 2016, the Company had $411.2 million of immediately accessible liquidity, defined as cash that the Bank reasonably believes could be raised within seven days through collateralized borrowings, brokered deposits or security sales. This position represented 41.9% of total assets. The Company also had $126.2 million of cash and cash equivalents at September 30, 2016.

 

Management believes that there are adequate funding sources to meet its liquidity needs for the foreseeable future. Primary funding sources are the repayment of principal and interest on loans, the renewal of time deposits, the potential for growth in the deposit base, and the credit availability from the FHLB. Management does not believe that the terms and conditions that will be present at the renewal of these funding sources will significantly impact the Company’s operations, due to its management of the maturities of its assets and liabilities.

 

Capital

 

The unpaid principal balance and carrying amount of junior subordinated debentures totaled $16.5 million and $8.9 million, respectively, as of September 30, 2016. This debt represents qualifying Tier 1 capital for the Company, up to a maximum of 25% of total Tier 1 capital. At September 30, 2016, the carrying amounts of the junior subordinated notes, net of the Company’s $496 thousand investment in the affiliated trusts, qualified as Tier 1 capital.

 

At September 30, 2016, shareholders’ equity was $111.6 million, a decrease of $5.0 million, or 4.3% from June 30, 2016. Book value per outstanding common share was $12.63 at September 30, 2016 and $12.51 at June 30, 2016. Tier 1 capital to total average assets of the Company was 12.25% as of September 30, 2016 and 13.27% at June 30, 2016.

 

Under the capital rules, risk-based capital ratios are calculated by dividing Tier 1 and total capital, respectively, by risk-weighted assets. Assets and off-balance sheet credit equivalents are assigned to one of several risk-weight categories, based primarily on relative risk. The rules require banks and bank holding companies to maintain a minimum common equity Tier 1 capital ratio of 4.5%, a minimum Tier 1 capital ratio of 6%, a total capital ratio of 8% and a leverage ratio of 4%. Additionally, subject to a transition schedule, the capital rules require a bank holding company to establish a capital conservation buffer of Tier 1 capital in an amount above the minimum risk-based capital requirements for "adequately capitalized" institutions equal to 2.5% of total risk weighted assets, or face restrictions on the ability to pay dividends, pay discretionary bonuses, and to engage in share repurchases.

 

A bank holding company, such as the Company, is considered "well capitalized" if the bank holding company (i) has a total capital ratio of at least 10%, (ii) has a Tier 1 risk-based capital ratio of at least 6%, and (iii) is not subject to any written agreement order, capital directive or prompt corrective action directive to meet and maintain a specific capital level for any capital measure. In addition, the FDIC has amended its prompt corrective action rules to reflect the revisions made by the revised capital rules described above. Under the FDIC's revised rules, which became effective January 1, 2015, an insured state nonmember bank is considered "well capitalized" if it (i) has a total capital ratio of 10.0% or greater; (ii) a Tier 1 risk-based capital ratio of 8.0% or greater; (iii) a common Tier 1 equity ratio of 6.5% or greater, (iv) a leverage capital ratio of 5.0% or greater; and (iv) is not subject to any written agreement, order, capital directive, or prompt corrective action directive to meet and maintain a specific capital level for any capital measure.

 

 

The Company and the Banks are considered "well capitalized" under all regulatory definitions. The Company's and the Bank's regulatory capital ratios are set forth below.

 

                       

Minimum To Be Well

 
   

Actual

   

Minimum Capital

Requirements

 

Capitalized Under Prompt

Correction Action Provisions

 
   

Amount

   

Ratio

   

Amount

 

Ratio

 

Amount

   

Ratio

 
   

(Dollars in thousands)

 

September 30, 2016:

                                         

Common equity tier 1 capital to risk weighted assets:

                                         

Company

  $ 112,672       15.35 %   $ 33,024  

>4.5%

  $ N/A       N/A  

Bank

    119,472       16.27 %     33,048  

>4.5%

    47,736    

>6.5%

 
                                           

Total capital to risk weighted assets:

                                         

Company

    138,130       18.82 %     58,709  

>8.0%

    N/A       N/A  

Bank

    122,243       16.65 %     58,753  

>8.0%

    73,441    

>10.0%

 
                                           

Tier 1 capital to risk weighted assets:

                                         

Company

    121,043       16.49 %     44,032  

>6.0%

    N/A       N/A  

Bank

    119,472       16.27 %     44,064  

>6.0%

    58,753    

>8.0%

 
                                           

Tier 1 capital to average assets:

                                         

Company

    121,043       12.25 %     39,538  

>4.0%

    N/A       N/A  

Bank

    119,472       12.09 %     39,542  

>4.0%

    49,428    

>5.0%

 
                                           

June 30, 2016:

                                         

Common equity tier 1 capital to risk weighted assets:

                                         

Company

  $ 126,046       17.97 %   31,559  

>4.5%

  N/A       N/A  

Bank

    117,212       16.69 %     31,611  

>4.5%

    45,660    

>6.5%

 
                                           

Total capital to risk weighted assets:

                                         

Company

    142,988       20.39 %     56,105  

>8.0%

    N/A       N/A  

Bank

    119,971       17.08 %     56,197  

>8.0%

    70,246    

>10.0%

 
                                           

Tier 1 capital to risk weighted assets:

                                         

Company

    126,046       17.97 %     42,079  

>6.0%

    N/A       N/A  

Bank

    117,212       16.69 %     42,148  

>6.0%

    56,197    

>8.0%

 
                                           

Tier 1 capital to average assets:

                                         

Company

    126,046       13.27 %     38,006  

>4.0%

    N/A       N/A  

Bank

    117,212       12.33 %     38,022  

>4.0%

    47,528    

>5.0%

 

 

Stock Repurchases

 

On August 22, 2016, the Company purchased 645,238 shares at a price of $10.75 per share.

 

On October 21, 2016, the Board of Directors voted to amend the existing stock repurchase program to authorize the Company to purchase an additional 500,000 shares of its common stock, representing 5.7% of the Company’s outstanding common shares. Under the existing program, implemented in April 2014, the Company has purchased 1,970,000 shares through October 25, 2016 and no shares remained available for repurchase under the program on that date, prior to the 500,000 share increase in the repurchase plan. The amended stock repurchase program will expire on October 21, 2018.

 

Off-balance Sheet Financial Instruments

 

The Company 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, unused lines of credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit and interest-rate risk in excess of the amounts recognized in the condensed consolidated balance sheet. The contract or notional amounts of these instruments reflect the extent of the Company’s involvement in particular classes of financial instruments. 

 

See Part I. Item I. “Notes to Unaudited Consolidated Financial Statements – Note 9: Commitments and Contingencies” for further discussion.

 

 

Results of Operations

 

General

 

Net income decreased by $116 thousand to $1.8 million for the quarter ended September 30, 2016, compared to $1.9 million for the quarter ended September 30, 2015.

 

The following table details the “Total Return” on purchased loans, which includes transactional interest income of $1.3 million for the quarter ended September 30, 2016. The yield on purchased loans for the quarter ended September 30, 2016 was 10.4% as compared to 12.1% in the quarter ended September 30, 2015, primarily due to lower transactional income in the quarter. The following table details the total return on purchased loans:

 

 

   

Total Return on Purchased Loans

 
   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

Income

   

Return (1)

   

Income

   

Return (1)

 
   

(Dollars in thousands)

 

Regularly scheduled interest and accretion

  $ 4,754       8.13 %   $ 3,887       7.70 %

Transactional income:

                               

Gain on loan sales

    -       0.00 %     -       0.00 %

Gain on sale of real estate owned

    19       0.03 %     22       0.04 %

Other noninterest income

    -       0.00 %     -       0.00 %

Accelerated accretion and loan fees

    1,327       2.27 %     2,208       4.37 %

Total transactional income

    1,346       2.30 %     2,230       4.41 %

Total

  $ 6,100       10.43 %   $ 6,117       12.11 %

 

 

(1)

The total return on purchased loans represents scheduled accretion, accelerated accretion, gains on asset sales, gains on real estate owned and other noninterest income recorded during the period divided by the average invested balance, which includes loans held for sale, on an annualized basis. The total return does not include the effect of purchased loan charge-offs or recoveries in the quarter. The total return presented is a non-GAAP measure.

 

 

 

Net Interest Income

 

Three Months Ended September 30, 2016 and 2015

 

Net interest and dividend income before provision for loan losses increased by $534 thousand for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015. The increase is primarily due to higher average balances in the total loan portfolio, offset by higher average deposit balances and the effect of the issuance of the subordinated debt.

 

 

 

   

Interest Income and Yield on Loans

 
   

Three Months Ended September 30,

 
   

2016

   

2015

 
   

Average

   

Interest

           

Average

   

Interest

         
   

Balance (1)

   

Income (2)

   

Yield

   

Balance (1)

   

Income (2)

   

Yield

 
   

(Dollars in thousands)

 

Community Banking

  $ 205,765     $ 2,401       4.63 %   $ 225,151     $ 2,707       4.77 %

SBA

    31,148       519       6.61 %     13,722       217       6.27 %

LASG:

                                               

Originated

    185,109       2,742       5.88 %     118,574       1,696       5.67 %

Purchased

    231,999       6,081       10.40 %     200,385       6,095       12.07 %

Secured Loans to Broker-Dealers

    48,000       60       0.50 %     60,007       75       0.50 %

Total LASG

    465,108       8,883       7.58 %     378,966       7,866       8.23 %

Total

  $ 702,021     $ 11,803       6.67 %   $ 617,839     $ 10,790       6.93 %

 

 

(1)

Includes loans held for sale.

 

(2)

SBA interest income includes fees of $50 thousand and $13 thousand for the quarters ended September 30, 2016 and 2015, respectively.

 

 

The Company’s interest rate spread decreased by 41 basis points and net interest margin decreased by 39 basis points for the quarter ended September 30, 2016 compared to the quarter ended September 30, 2015. The decrease was principally due to lower transactional interest income in the purchased portfolio, as well as the effect of the issuance of the subordinated debt in June 2016.

 

 

The following sets forth the average balance sheets, interest income and interest expense, and average yields and costs for the three months ended September 30, 2016 and 2015.

 

   

Three Months Ended September 30,

 
   

2016

   

2015

 
           

Interest

   

Average

           

Interest

   

Average

 
   

Average

   

Income/

   

Yield/

   

Average

   

Income/

   

Yield/

 
   

Balance

   

Expense

   

Rate

   

Balance

   

Expense

   

Rate

 

Assets:

                                               

Interest-earning assets:

                                               

Investment securities

  $ 94,899     $ 239       1.00 %   $ 102,241     $ 228       0.88 %

Loans (1) (2) (3)

    702,021       11,821       6.68 %     617,839       10,808       6.94 %

Federal Home Loan Bank stock

    2,408       23       3.79 %     4,102       34       3.29 %

Short-term investments (4)

    154,392       192       0.49 %     99,649       61       0.24 %

Total interest-earning assets

    953,720       12,275       5.11 %     823,831       11,131       5.36 %

Cash and due from banks

    2,941                       3,026                  

Other non-interest earning assets

    30,812                       36,420                  

Total assets

  $ 987,473                     $ 863,277                  
                                                 

Liabilities & Stockholders' Equity:

                                               

Interest-bearing liabilities:

                                               

Interest-bearing deposits:

                                               

NOW accounts

  $ 70,850     $ 51       0.29 %   $ 69,619     $ 46       0.26 %

Money market accounts

    291,734       682       0.93 %     170,566       353       0.82 %

Savings accounts

    35,769       12       0.13 %     36,360       12       0.13 %

Time deposits

    336,271       1,009       1.19 %     350,867       954       1.08 %

Total interest-bearing deposits

    734,624       1,754       0.95 %     627,412       1,365       0.86 %

Short-term borrowings

    -       -       0.00 %     1,950       9       1.83 %

Borrowed funds

    30,061       255       3.37 %     39,324       327       3.30 %

Subordinated debt

    23,360       459       7.80 %     8,650       154       7.06 %

Capital lease obligations

    1,087       14       5.11 %     1,332       17       5.06 %

Total interest-bearing liabilities

    789,132       2,482       1.25 %     678,668       1,872       1.09 %
                                                 

Non-interest bearing liabilities:

                                               

Demand deposits and escrow accounts

    75,672                       64,008                  

Other liabilities

    8,213                       7,431                  

Total liabilities

    873,017                       750,107                  

Stockholders' equity

    114,456                       113,170                  

Total liabilities and stockholders' equity

  $ 987,473                     $ 863,277                  
                                                 

Net interest income

          $ 9,793                     $ 9,259          
                                                 

Interest rate spread

                    3.86 %                     4.27 %

Net interest margin (5)

                    4.07 %                     4.46 %

 

(1) Interest income and yield are stated on a fully tax-equivalent basis using a 34% tax rate. Fully tax-equivalent adjustment, a non-GAAP measure, totaled $18 thousand for the three months ended September 30, 2016 and 2015.

(2) Includes loans held for sale.

(3) Nonaccrual loans are included in the computation of average, but unpaid interest has not been included for purposes of determining interest income.

(4) Short term investments include FHLB overnight deposits and other interest-bearing deposits.

(5) Net interest margin is calculated as net interest income divided by total interest-earning assets.

 

 
37 

Table Of Contents
 

 

The following table presents the extent to which changes in volume and interest rates of interest earning assets and interest bearing liabilities have affected the Company’s interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (changes in volume multiplied by prior period rate), (ii) changes attributable to changes in rates (changes in rates multiplied by prior period volume) and (iii) change attributable to a combination of changes in rate and volume (change in rates multiplied by the changes in volume). Changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.

 

   

Three Months Ended September 30, 2016 compared to 2015

 
   

Change Due to Volume

   

Change Due to Rate

   

Total Change

 
   

(Dollars in thousands)

 

Interest earning assets:

                       

Investment securities

  $ (17 )   $ 28     $ 11  

Loans

    1,430       (417 )     1,013  

Regulatory stock

    (15 )     4       (11 )

Short-term investments

    46       85       131  

Total interest-earning assets

    1,444       (300 )     1,144  
                         

Interest-bearing liabilities:

                       

Interest-bearing deposits

    229       160       389  

Short-term borrowings

    (3 )     (6 )     (9 )

Borrowed funds

    (79 )     7       (72 )

Subordinated debentures

    287       18       305  

Capital lease obligations

    (3 )     -       (3 )

Total interest-bearing liabilities

    431       179       610  

Total change in net interest income

  $ 1,013     $ (479 )   $ 534  

 

Provision for Loan Losses

 

Quarterly, the Company determines the amount of the allowance for loan losses that is appropriate to provide for losses inherent in the Company’s loan portfolios, with the provision for loan losses determined by the net change in the allowance for loan losses. For loans accounted for under ASC 310-30, a provision for loan loss is recorded when estimates of future cash flows are lower than had been previously expected. See Part I. Item I. “Notes to Unaudited Consolidated Financial Statements — Note 4: Loans, Allowance for Loan losses and Credit Quality” for further discussion.

 

The provision for loan losses for periods subsequent to the merger with FHB Formation LLC reflects the impact of adjusting loans to their then fair values, as well as the elimination of the allowance for loan losses in accordance with the acquisition method of accounting. Subsequent to the merger, the provision for loan losses has been recorded based on estimates of inherent losses in newly originated loans and for incremental reserves required for pre-merger loans based on estimates of deteriorated credit quality post-merger.

 

The provision for loan losses for the quarter ended September 30, 2016 and 2015 was $193 thousand and $169 thousand, respectively. The increase in the Company’s loan loss provision resulted principally due to the increased volume of newly originated loans.

 

Noninterest Income

 

Noninterest income increased by $103 thousand for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015, principally due to an increase in gains realized on sale of SBA loans of $68 thousand.

 

Noninterest Expense

 

Noninterest expense increased by $816 thousand for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015, primarily due to an increase in salaries and employee benefits of $1.1 million, largely attributable to higher employee headcount, increased incentive compensation, and the benefit recognized upon the forfeiture of stock awards in the quarter ended September 30, 2015.

 

Income Taxes

 

The Company’s income tax expense was $1.0 million or an effective rate of 36.6%, for the three months ended September 30, 2016, as compared to $1.1 million, or an effective rate of 37.1%, for the three months ended September 30, 2015, primarily due to state apportionment changes.

 

  

Item 3. Quantitative and Qualitative Disclosure about Market Risk

 

Market Risk

 

Market risk is the risk of loss due to adverse changes in market prices and rates, and typically encompasses exposures such as sensitivity to changes in market interest rates, foreign currency exchange rates, and commodity prices. The Company has no exposure to foreign currency exchange or commodity price movements. Because net interest income is our primary source of revenue, interest rate risk is a significant market risk to which the Company is exposed.

 

Interest-Rate Risk

 

Interest rate risk can be defined as the exposure of future net interest income to adverse movements in interest rates. Net interest income is affected by changes in interest rates as well as by fluctuations in the level, mix and duration of the Company's assets and liabilities. Over and above the influence that interest rates have on net interest income, changes in rates also affect the volume of lending activity, the ability of borrowers to repay loans, the volume of loan prepayments, the flow and mix of deposits, and the market value of the Company's assets and liabilities.

 

Asset/Liability Management

 

The Company's management has established an Asset Liability Management Committee ("ALCO"), which is responsible for managing the Company's interest rate risk in accordance with policies and limits approved by the Board of Directors. With regard to management of market risk, the ALCO is charged with managing the Company's mix of assets and funding sources to produce results that are consistent with the Company's liquidity, capital adequacy, growth, and profitability goals.

 

Exposure to interest rate risk is managed by Northeast through periodic evaluations of the current interest rate risk inherent in its rate-sensitive assets and liabilities, coupled with determinations of the level of risk considered appropriate given the Company's capital and liquidity requirements, business strategy, and performance objectives. Through such management, Northeast seeks to mitigate the potential volatility in its net interest income due to changes in interest rates in a manner consistent with the risk appetite established by the Board of Directors.

 

The ALCO's primary tool for measuring, evaluating, and managing interest rate risk is income simulation analysis. Income simulation analysis measures the interest rate risk inherent in the Company's balance sheet at a given point in time by showing the effect of interest rate shifts on net interest income over defined time horizons. These simulations take into account the specific repricing, maturity, prepayment and call options of financial instruments that vary under different interest rate scenarios. The ALCO reviews simulation results to determine whether the exposure to a decline in net interest income remains within established tolerance levels over the simulation horizons and to develop appropriate strategies to manage this exposure. The Company considers a variety of specified rate scenarios, including instantaneous rate shocks, against static (or flat) rates when measuring interest rate risk, and evaluates results over two consecutive twelve-month periods. All changes are measured in comparison to the projected net interest income that would result from an "unchanged" scenario, where interest rates remain stable over the measured time horizon(s).

 

While the ALCO reviews simulation assumptions to ensure they are reasonable, and back-tests simulation results on a periodic basis as a monitoring tool, income simulation analysis may not always prove to be an accurate indicator of the Company's interest rate risk or future earnings. There are inherent shortcomings in income simulation, given the number and variety of assumptions that must be made to perform it. For example, the projected level of future market interest rates and the shape of future interest rate yield curves have a major impact on income simulation results. Many assumptions concerning the repricing of financial instruments, the degree to which non-maturity deposits react to changes in market rates, and the expected prepayment rates on loans, mortgage-backed securities, and callable debt securities are also inherently uncertain. In addition, as income simulation analysis assumes that the Company's balance sheet will remain static over the simulation horizon, the results do not reflect the Company's expectations for future balance sheet growth, nor changes in business strategy that the Company could implement in response to rate shifts to mitigate its loss exposures. As such, although the analysis described above provides an indication of the Company's sensitivity to interest rate changes at a point in time, these estimates are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on the Company's net interest income and will differ from actual results.

 

Measuring Interest-Rate Risk

 

The Company can be subject to margin compression depending on the economic environment and the shape of the yield curve.  Under the Company's current balance sheet position, the Company's margin generally performs slightly better over time in a rising rate environment, while it generally decreases in a declining rate environment and when the yield curve is flattening or inverted.

 

Under a flattening yield curve scenario, margin compression occurs as the spread between the cost of funding and the yield on interest earning assets narrows.  Under this scenario the degree of margin compression is highly dependent on the Company's ability to fund asset growth through lower cost deposits.  However, if the curve is flattening, while short-term rates are rising, the adverse impact on margin may be somewhat delayed, as increases in the Prime Rate will initially result in the Company's asset yields re-pricing more quickly than funding costs.

 

 

Under an inverted yield curve situation, shorter-term rates exceed longer-term rates, and the impact on margin is similar but more adverse than the flat curve scenario.  Again, however, the extent of the impact on margin is highly dependent on the Company's balance sheet mix.

 

In a declining rate environment, margin compression will eventually occur as the yield on interest earning assets decreases more rapidly than decreases in funding costs.  The primary causes would be the impact of interest rate decreases (including decreases in the Prime Rate) on adjustable rate loans and the fact that decreases in deposit rates may be limited or lag decreases in the Prime Rate.

 

There have been no material changes in the results of the Company's net interest income sensitivity analysis as reported in the Company's 2016 Annual Report on Form 10-K.  At September 30, 2016, management continues to consider the Company's primary interest rate risk exposure to be margin compression that may result from changes in interest rates and/or changes in the mix of the Company's balance sheet components.  This would include the mix of fixed versus variable rate loans and investments on the asset side, and higher cost versus lower cost deposits and overnight borrowings versus term borrowings and certificates of deposit on the liability side.

 

 

Item 4. Controls and Procedures

 

The Company maintains controls and procedures designed to ensure that information required to be disclosed in the reports the Company files or submits under the Securities Exchange Act of 1934 (“Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission, and that such information is accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer (the Company’s principal executive officer and principal financial officer, respectively), as appropriate to allow for timely decisions regarding timely disclosure. In designing and evaluating disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost/benefit relationship of possible controls and procedures.

 

The Company’s management, with the participation of the Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of its disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this Quarterly Report on Form 10-Q.

 

Based on this evaluation of the Company’s disclosure controls and procedures, the Chief Executive Officer and Chief Financial Officer have concluded that these disclosure controls and procedures were effective as of September 30, 2016.

 

There were no changes in the Company’s internal controls over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2016 that have materially affected, or is reasonably likely to materially affect, the Company’s internal controls over financial reporting.

 

PART II – OTHER INFORMATION

 

 

Item 1.

Legal Proceedings

 

None.

 

 

Item 1A.

Risk Factors

 

There have been no material changes to the risk factors disclosed in Item 1A of the Company’s Form 10-K for the year ended June 30, 2016.

 

 
40 

Table Of Contents
 

 

 

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

The following table sets forth information with respect to purchases made by the Company of its common stock during the three months ended September 30, 2016.

 

Period

 

Total Number of

Shares Purchased (1)

   

Average Price

Paid Per

share

   

Total Number of

Shares Purchased

as Part of Publicly

Announced

Programs

   

Maximum

Number of Shares

that May Yet Be

Purchased Under

the Program

 

July 1 – July 31

    -       -       1,324,762       645,238  

Aug. 1 – Aug. 31

    -       -       1,324,762       645,238  

Sep. 1 - Sep. 30

    645,238       10.75       1,970,000       -  
                                 
(1)     Based on trade date, not settlement date  

 

Item 3.

 

 

 

Item 4.

 

 

 

Item 5.

 

 

Defaults Upon Senior Securities

 

None.

 

Mine Safety Disclosures

 

Not applicable.

 

Other Information

 

None.

 

Item 6. Exhibits
   

 

 

Exhibits No.

Description

     
  10.18+ Performance-Based Restricted Stock Agreement, dated August 25, 2016, by and between Northeast Bancorp and Richard Wayne. *

 

31.1

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). *

 

31.2

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). *

 

32.1

Certificate of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). **

 

32.2

Certificate of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). **

 

101

The following materials from Northeast Bancorp’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2016 formatted in XBRL: (i) Consolidated Balance Sheets at September 30, 2016 and June 30, 2016; (ii) Consolidated Statements of Income for the three months ended September 30, 2016 and 2015; (iii) Consolidated Statements of Comprehensive Income for the three months ended September 30, 2016 and 2015; (iv) Consolidated Statements of Changes in Shareholders’ Equity for the three months ended September 30, 2016 and 2015; (v) Consolidated Statements of Cash Flows for the three months ended September 30, 2016 and 2015; and (v) Notes to Unaudited Consolidated Financial Statements.

 

* Filed herewith

** Furnished herewith

+ Management contract or compensatory plan or agreement

 

 

SIGNATURES

 

Pursuant to the requirements of the Securities Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

Date: November 9, 2016

 

NORTHEAST BANCORP

 

By:

/s/ Richard Wayne

 

 

  Richard Wayne

 

 

  President and Chief Executive Officer

 

 

 

 

By:

/s/ Brian Shaughnessy

 

 

  Brian Shaughnessy

 

 

  Chief Financial Officer

 

 

NORTHEAST BANCORP

Index to Exhibits

 

 

Exhibits No.

Description

     
  10.18+ Performance-Based Restricted Stock Agreement, dated August 25, 2016, by and between Northeast Bancorp and Richard Wayne. *

 

31.1

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). *

 

31.2

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). *

 

32.1

Certificate of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). **

 

32.2

Certificate of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). **

 

101

The following materials from Northeast Bancorp’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2016 formatted in XBRL: (i) Consolidated Balance Sheets at September 30, 2016 and June 30, 2016; (ii) Consolidated Statements of Income for the three months ended September 30, 2016 and 2015; (iii) Consolidated Statements of Comprehensive Income for the three months ended September 30, 2016 and 2015; (iv) Consolidated Statements of Changes in Shareholders’ Equity for the three months ended September 30, 2016 and 2015; (v) Consolidated Statements of Cash Flows for the three months ended September 30, 2016 and 2015; and (v) Notes to Unaudited Consolidated Financial Statements.

 

* Filed herewith

** Furnished herewith

+ Management contract or compensatory plan or agreement 

 

43

ex10-18.htm

Exhibit 10.18

 

PERFORMANCE

RESTRICTED STOCK AWARD AGREEMENT
UNDER NORTHEAST BANCORP amended and restated
2010 STOCK OPTION AND INCENTIVE PLAN

 

 

Name of Grantee:

Richard Wayne

 

 

 

 

Type of Stock:

Voting Common Stock

 

 

 

 

No. of Shares:

50,000

 

 

 

 

Grant Date:

August 25, 2016

 

 

 

Pursuant to the Northeast Bancorp Amended and Restated 2010 Stock Option and Incentive Plan (the “Plan”) as amended through the date hereof, Northeast Bancorp (the “Company”) hereby grants a Restricted Stock Award (an “Award”) to the Grantee named above. Upon acceptance of this Award, the Grantee shall receive the number of shares of Voting Common Stock of the Company specified above, subject to the restrictions and conditions set forth herein and in the Plan. The Company acknowledges the receipt from the Grantee of consideration with respect to the par value of the Stock in the form of cash, past or future services rendered to the Company by the Grantee or such other form of consideration as is acceptable to the Administrator.

 

1.     Award. The shares of Restricted Stock awarded hereunder shall be issued and held by the Company’s transfer agent in book entry form, and the Grantee’s name shall be entered as the stockholder of record on the books of the Company. Thereupon, the Grantee shall have all the rights of a stockholder with respect to such shares, including voting and dividend rights, subject, however, to the restrictions and conditions specified below. The Grantee shall (i) sign and deliver to the Company a copy of this Award Agreement and (ii) deliver to the Company a stock power endorsed in blank.

 

2.     Restrictions and Conditions.

 

(a)     Any book entries for the shares of Restricted Stock granted herein shall bear an appropriate legend, as determined by the Administrator in its sole discretion, to the effect that such shares are subject to restrictions as set forth herein and in the Plan.

 

(b)     Shares of Restricted Stock granted herein may not be sold, assigned, transferred, pledged or otherwise encumbered or disposed of by the Grantee prior to vesting.

 

(c)     Except as otherwise set forth below or as described in Exhibit A, if the Grantee’s employment with the Company and its Subsidiaries is voluntarily or involuntarily terminated for any reason prior to vesting of shares of Restricted Stock granted herein, all shares of Restricted Stock shall immediately and automatically be forfeited and returned to the Company. The Administrator’s determination of the reason for termination of the Grantee’s employment shall be conclusive and binding on the Grantee and his or her representatives or legatees.

 

 
 

 

 

3.     Vesting of Restricted Stock. The restrictions and conditions in Paragraph 2 of this Agreement shall lapse based on the Company’s performance during the period beginning on July 1, 2016 and ending on June 30, 2019 (the “Cumulative Measurement Period”), and during each fiscal year during the Cumulative Measurement Period (each, an “Annual Measurement Period,” and each of the Cumulative Measurement Period and each Annual Measurement Period shall be referred to herein as a “Measurement Period”). The Shares of Restricted Stock shall vest if, and only to the extent that, the Company achieves the performance targets described on Exhibit A.

 

The number of shares of Restricted Stock set forth above (the “Target Award”) represents the number of shares of Restricted Stock that will vest if the Company achieves target levels of performance, and the actual number of shares of Restricted Stock that may vest could be lower than the Target Award and could be zero. The Grantee shall forfeit any portion of the Target Award that does not vest upon the conclusion of the applicable performance period.

 

4.     Dividends. Dividends on shares of Restricted Stock shall be accumulated and shall be subject to restrictions, conditions and risk of forfeiture to the same extent as the shares of Restricted Stock granted hereunder. Such accumulated dividends shall be distributed and paid to the Grantee at such time and only to the extent that the Shares subject to this Award shall vest in accordance with Section 3 and Exhibit A hereof.

 

5.     Incorporation of Plan. Notwithstanding anything herein to the contrary, this Award shall be subject to and governed by all the terms and conditions of the Plan, including the powers of the Administrator set forth in Section 2(b) of the Plan. Capitalized terms in this Agreement shall have the meaning specified in the Plan, unless a different meaning is specified herein.

 

6.     Transferability. This Agreement is personal to the Grantee, is non-assignable and is not transferable in any manner, by operation of law or otherwise, other than by will or the laws of descent and distribution.

 

7.     Tax Withholding. The Grantee shall, not later than the date as of which the receipt of this Award becomes a taxable event for Federal income tax purposes, pay to the Company or make arrangements satisfactory to the Administrator for payment of any Federal, state, and local taxes required by law to be withheld on account of such taxable event. Except in the case where an election is made pursuant to Paragraph 8 below, the Grantee may elect to have the minimum required tax withholding obligation satisfied, in whole or in part, by authorizing the Company to withhold from shares of Stock to be issued a number of shares of Stock with an aggregate Fair Market Value that would satisfy the minimum withholding amount due..

 

8.     Election Under Section 83(b). The Grantee and the Company hereby agree that the Grantee may, within 30 days following the Grant Date of this Award, file with the Internal Revenue Service and the Company an election under Section 83(b) of the Internal Revenue Code. In the event the Grantee makes such an election, he or she agrees to provide a copy of the election to the Company. The Grantee acknowledges that he or she is responsible for obtaining the advice of his or her tax advisors with regard to the Section 83(b) election and that he or she is relying solely on such advisors and not on any statements or representations of the Company or any of its agents with regard to such election.

 

 
2

 

 

9.     No Obligation to Continue Employment. Neither the Company nor any Subsidiary is obligated by or as a result of the Plan or this Agreement to continue the Grantee in employment and neither the Plan nor this Agreement shall interfere in any way with the right of the Company or any Subsidiary to terminate the employment of the Grantee at any time.

 

10.     Integration. This Agreement constitutes the entire agreement between the parties with respect to this Award and supersedes all prior agreements and discussions between the parties concerning such subject matter.

 

11.     Data Privacy Consent. In order to administer the Plan and this Agreement and to implement or structure future equity grants, the Company, its subsidiaries and affiliates and certain agents thereof (together, the “Relevant Companies”) may process any and all personal or professional data, including but not limited to Social Security or other identification number, home address and telephone number, date of birth and other information that is necessary or desirable for the administration of the Plan and/or this Agreement (the “Relevant Information”). By entering into this Agreement, the Grantee (i) authorizes the Company to collect, process, register and transfer to the Relevant Companies all Relevant Information; (ii) waives any privacy rights the Grantee may have with respect to the Relevant Information; (iii) authorizes the Relevant Companies to store and transmit such information in electronic form; and (iv) authorizes the transfer of the Relevant Information to any jurisdiction in which the Relevant Companies consider appropriate. The Grantee shall have access to, and the right to change, the Relevant Information. Relevant Information will only be used in accordance with applicable law.

 

12.     Notices. Notices hereunder shall be mailed or delivered to the Company at its principal place of business and shall be mailed or delivered to the Grantee at the address on file with the Company or, in either case, at such other address as one party may subsequently furnish to the other party in writing.

 

[REMAINDER OF PAGE INTENTIONAL LEFT BLANK]

 

 
3

 

 

 

NORTHEAST BANCORP

 

 

 

 

 

 

 

 

 

 

By:

/s/ Robert Glauber 

 

 

 

Name: Robert Glauber

 

 

 

Title: Chairman of the Board of Directors

 

 

 

The foregoing Agreement is hereby accepted and the terms and conditions thereof hereby agreed to by the undersigned. Electronic acceptance of this Agreement pursuant to the Company’s instructions to the Grantee (including through an online acceptance process) is acceptable.

 

 

 

 

 

 

 

 

 

 

 

 

Dated:

August 25, 2016 

  /s/ Richard Wayne 

 

 

 

 

Grantee’s Signature

 

 

 

 

 

 

         
      Grantee’s name and address:  
         
         
         

 

 

 

4

ex31-1.htm

Exhibit 31.1 Certification of the Chief Executive Officer

 

Chief Executive Officer Certification
Pursuant To Section 302 Of
The Sarbanes-Oxley Act Of 2002


 

I, Richard Wayne, certify that:

   

1.

I have reviewed this Quarterly Report on Form 10-Q of Northeast Bancorp;

   

2.

Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

   

3.

Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

   

4.

The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have

   
 

(a)  Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

   
 

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

   
 

(c)  Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

   
 

(d)  Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

   

5.

The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

   
 

(a)  All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

   
 

(b)  Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

 

November 9, 2016

 
 

     /s/ Richard Wayne

 

          Richard Wayne

          President and Chief Executive Officer

 

 

  

ex31-2.htm

Exhibit 31.2     Certification of the Chief Financial Officer

 

Chief Financial Officer Certification
Pursuant To Section 302 Of
The Sarbanes-Oxley Act Of 2002

 

I, Brian Shaughnessy, certify that:

   

1.

I have reviewed this Quarterly Report on Form 10-Q of Northeast Bancorp;

   

2.

Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

   

3.

Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

   

4.

The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

   
 

(a)  Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

   
 

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

   
 

(c)  Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

   
 

(d)  Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

   

5.

The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

   
 

(a)  All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

   
 

(b)  Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

 

November 9, 2016

/s/ Brian Shaughnessy

 

     Brian Shaughnessy

 

     Chief Financial Officer

 

ex32-1.htm

Exhibit 32.1. Certificate of the Chief Executive Officer

 

Certification of the Chief Executive Officer Pursuant to
18 U.S.C. Section 1350,
As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002

 

In connection with the Quarterly Report of Northeast Bancorp. (the "Company") on Form 10-Q for the quarterly period ended September 30, 2016 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Richard Wayne, as Chief Executive Officer of the Company, hereby certify pursuant to 18 U.S.C. 1350, as adopted pursuant to 906 of the Sarbanes-Oxley Act of 2002, that:

   
 

(1)  The Report fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and

   
 

(2)  The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company for the dates and the periods covered by the Report.

 

This certification shall not be deemed “filed” for any purpose, nor shall it be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934 regardless of any general incorporation language in such filing.

 

 

November 9, 2016

/s/ Richard Wayne

 

     Richard Wayne

 

     President and Chief Executive Officer

 

ex32-2.htm

Exhibit 32.2.     Certificate of the Chief Financial Officer

 

Certification of the Chief Financial Officer Pursuant to
18 U.S.C. Section 1350,
As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002

 

In connection with the Quarterly Report of Northeast Bancorp. (the "Company") on Form 10-Q for the quarterly period ended September 30, 2016 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Brian Shaughnessy, as Chief Financial Officer of the Company, hereby certify pursuant to 18 U.S.C. 1350, as adopted pursuant to 906 of the Sarbanes-Oxley Act of 2002, that:

   
 

(1)  The Report fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and

   
 

(2)  The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company for the dates and the periods covered by the Report.

 

This certification shall not be deemed “filed” for any purpose, nor shall it be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934 regardless of any general incorporation language in such filing.

 

 

November 9, 2016

/s/ Brian Shaughnessy

 

     Brian Shaughnessy

 

     Chief Financial Officer