1.	SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Organization and Description of Business - Old Line Bancshares, Inc. (“Old Line Bancshares”) was incorporated under the laws of the State of Maryland on April 11, 2003 to serve as the holding company of Old Line Bank. The primary business of Old Line Bancshares is to own all of the capital stock of Old Line Bank. We provide a full range of banking services to customers located in Anne Arundel, Baltimore, Baltimore City, Calvert, Carroll, Charles, Frederick, Harford, Howard, Montgomery, Prince George’s, and St. Mary’s Counties in Maryland and surrounding areas.

 

Basis of Presentation and Consolidation - The accompanying condensed consolidated financial statements include the activity of Old Line Bancshares and its wholly owned subsidiary, Old Line Bank, and its wholly-owned subsidiary Pointer Ridge Office Investments, LLC (“Pointer Ridge”), a real estate investment company. We have eliminated all significant intercompany transactions and balances.

 

The foregoing consolidated financial statements for the periods ended June 30, 2018 and 2017 are unaudited and have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”), however, in the opinion of management we have included all adjustments necessary for a fair presentation of the results of the interim period. We derived the balances as of December 31, 2017 from audited financial statements. These statements should be read in conjunction with Old Line Bancshares’ financial statements and accompanying notes included in Old Line Bancshares’ Form 10-K for the year ended December 31, 2017. We have made no significant changes to Old Line Bancshares’ accounting policies as disclosed in the Form 10-K, except as described in the Recent Accounting Pronouncements section below.

 

Use of Estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. These estimates and assumptions may affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. A material estimate that is particularly susceptible to significant change in the near term relates to the determination of the allowance for loan losses.

 

Revenue from Contracts with Customers - Old Line Bancshares records revenue from contracts with customers in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“Topic 606”). Under Topic 606, we must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) we satisfy a performance obligation. Significant revenue has not been recognized in the current reporting period that results from performance obligations satisfied in previous periods.

 

Our primary sources of revenue are derived from interest and dividends earned on loans, investment securities, and other financial instruments that are not within the scope of Topic 606. We have evaluated the nature of Old Line Bancshares’ contracts with customers and determined that further disaggregation of revenue from contracts with customers into more granular categories beyond what is presented in the Consolidated Statements of Income was not necessary. Old Line Bancshares generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers.

 

Reclassifications - We have made certain reclassifications to the 2017 financial presentation to conform to the 2018 presentation. These reclassifications did not change net income or stockholders’ equity.

 

Recent Accounting Pronouncements – In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09 – Revenue from Contracts with Customers , which will supersede nearly all existing revenue recognition guidance under U.S. GAAP. The core principal of this ASU is that an entity should recognize revenue when it transfers 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. This ASU also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. The ASU allows for either full retrospective or modified retrospective adoption. The ASU does not apply to revenue associated with financial instruments, including loans and securities that are accounted for under U.S. GAAP. Our revenue is comprised of net interest income on financial assets and liabilities, which is explicitly excluded from the scope of the new guidance, and non-interest income. The contracts that are within scope of the guidance are primarily related to service charges on deposit accounts, cardholder and merchant income, wealth advisory services income, other service charges and fees, sales of other real estate owned, insurance commissions and miscellaneous fees. Old Line Bancshares adopted the ASU on January 1, 2018, utilizing the modified retrospective approach. The adoption of this ASU did not have a material impact on our consolidated financial position or consolidated results of operations .

 

In January 2016, FASB issued ASU No. 2016-01 , Financial Instruments – Recognition and Measurement of Financial Assets and Liabilities, which is intended to improve the recognition and measurement of financial instruments by: requiring equity investments (other than equity method or consolidation) to be measured at fair value with changes in fair value recognized in net income; requiring public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; requiring separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements; eliminating the requirement to disclose the fair value of financial instruments measured at amortized cost for organizations that are not public business entities; eliminating the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; and requiring a reporting organization to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk (also referred to as “own credit”) when the organization has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. This ASU is effective for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. We adopted this ASU effective January 1, 2018. With the adoption of this ASU, equity securities can no longer be classified as available for sale, and as such marketable equity securities are disclosed as a separate line item on the balance sheet with changes in the fair value of equity securities reflected in net income. During the first quarter of 2018, we began using an exit price notion when measuring the fair value of our loan portfolio, excluding loans held for sale, for disclosure purposes. The adoption of this ASU did not have a significant impact on our consolidated financial statements.

 

In February 2016, FASB issued ASU 2016-02 , Leases (Topic 842 ). FASB issued this ASU to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet by lessees for those leases classified as operating leases under current U.S. GAAP and disclosing key information about leasing arrangements. The amendments in this ASU are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Early application of this ASU is permitted for all entities. This ASU will be effective for us in our first quarter of 2019. Old Line Bancshares is currently assessing the impact that the adoption of this standard will have on its financial condition and results of operations and will closely monitor any new developments or additional guidance to determine the potential impact the new standard will have on our consolidated financial statements.

 

In June 2016, FASB issued ASU 2016-13 , Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments , which sets forth a “current expected credit loss” (“CECL”) model requiring Old Line Bancshares to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable supportable forecasts. This replaces the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized cost and applies to some off-balance sheet credit exposures. For public business entities that are U.S. Securities and Exchange Commission filers, the amendments in this update are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Old Line Bancshares has constituted a committee that has the responsibility to gather loan information and consider acceptable methodologies to comply with this ASU. The committee meets periodically to discuss the latest developments and committee members keep themselves updated on such developments via webcasts, publications, and conferences. We have also evaluated and selected a third party vendor solution to assist us in the application of ASU 2016-13. The adoption of ASU 2016-13 is likely to result in an increase in the allowance for loan losses as a result of changing from an “incurred loss” model, which encompasses allowances for current known and inherent losses within the portfolio, to an “expected loss” model, which encompasses allowances for losses expected to be incurred over the life of the portfolio. Furthermore, ASU 2016-13 will necessitate that we establish an allowance for expected credit losses on debt securities. Old Line Bancshares’ evaluation indicates that the provisions of ASU No. 2016-13 will impact its consolidated financial statements, in particular the level of the reserve for loan losses. We are, however, continuing to evaluate the extent of the potential impact.

 

In August 2016, FASB issued ASU 2016-15 , Statement of Cash Flows (Topic 230 ): Classification of Certain Cash Receipts and Cash Payments , to address diversity in how certain cash receipts and cash payments are presented and classified in the statement of cash flows.  The amendments provide guidance on the following nine specific cash flow issues:  1) debt prepayment or debt extinguishment costs; 2) settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; 3) contingent consideration payments made after a business combination; 4) proceeds from the settlement of insurance claims; 5) proceeds from the settlement of corporate-owned life insurance policies, including bank-owned; 6) life insurance policies; 7) distributions received from equity method investees; 8) beneficial interests in securitization transactions; and 9) separately identifiable cash flows and application of the predominance principle.  The ASU is effective for all annual and interim periods beginning January 1, 2018 and is required to be applied retrospectively to all periods presented. We adopted this guidance January 1, 2018, which did not result in a change in the classification in the statement of cash flows and did not have a material impact on our consolidated financial statements or on our financial position or results of operations.

 

In January 2017, FASB issued ASU 2017-01, Business Combinations (Topic 805) : Clarifying the definition of a business , which clarifies the definition of a business and assists entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. Under this guidance, when substantially all of the fair value of gross assets acquired is concentrated in a single asset (or group of similar assets), the assets acquired would not represent a business. In addition, in order to be considered a business, an acquisition would have to include at a minimum an input and a substantive process that together significantly contribute to the ability to create an output. The guidance also narrows the definition of outputs by more closely aligning it with how outputs are described in FASB guidance for revenue recognition. We adopted this guidance effective January 1, 2018. The adoption of this ASU did not have a material impact on our consolidated financial statements.

 

In January 2017, FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment, which removes the requirement to compare the implied fair value of goodwill with its carrying amount as part of step 2 of the goodwill impairment test. As a result, under the ASU, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The ASU is effective for annual and interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. Old Line Bancshares does not expect the adoption of ASU 2017-04 to have a material impact on its consolidated financial statements.

 

In March 2017, FASB issued ASU No. 2017-08, Premium Amortization on Purchased Callable Debt Securities . This ASU shortens the amortization period for the premium on certain purchased callable debt securities to the earliest call date. Today, entities generally amortize the premium over the contractual life of the security. The new guidance does not change the accounting for purchased callable debt securities held at a discount; the discount continues to be amortized to maturity. ASU No. 2017-08 is effective for interim and annual reporting periods beginning after December 15, 2018; early adoption is permitted. The guidance calls for a modified retrospective transition approach under which a cumulative-effect adjustment will be made to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. We do not expect the adoption of this guidance to have a material impact on Old Line Bancshares’ consolidated financial statements.

 

In August 2017, FASB issued ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities . This ASU’s objectives are to: (1) improve the transparency and understandability of information conveyed to financial statement users about an entity’s risk management activities by better aligning the entity’s financial reporting for hedging relationships with those risk management activities; and (2) reduce the complexity of and simplify the application of hedge accounting by preparers. ASU No. 2017-12 is effective for interim and annual reporting periods beginning after December 15, 2018; early adoption is permitted. Old Line Bancshares currently does not designate any derivative financial instruments as formal hedging relationships, and therefore, does not utilize hedge accounting. However, Old Line Bancshares is currently evaluating this ASU to determine whether its provisions will enhance its ability to employ risk management strategies, while improving the transparency and understanding of those strategies for financial statement users.

 

In February 2018, FASB issued ASU No. 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (Topic 220). This ASU allows an entity to elect a reclassification from accumulated other comprehensive income (“AOCI”) to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act that changed our income tax rate from 35% to 21%. The amount of that reclassification should include the effect of changes of tax rate on the deferred tax amount, any related valuation allowance and other income tax effects on the items in AOCI. The ASU requires an entity to state if an election to reclassify the tax effect to retained earnings is made along with the description of other income tax effects that are reclassified from AOCI. ASU 2018-02 is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years with early adoption permitted. Old Line Bancshares adopted ASU 2018-02 in the first quarter of 2018. The change in accounting principal was accounted for as a cumulative effect adjustment to the balance sheet resulting in a reclass of $459,973 thousand from AOCI to retained earnings during the first quarter of 2018.

 

2.	ACQUISITION OF BAY BANCORP, INC.

 

On April 13, 2018, Old Line Bancshares acquired Bay Bancorp, Inc. (“BYBK”), the parent company of Bay Bank, FSB (“Bay Bank”). Upon the consummation of the merger, each share of common stock of BYBK outstanding immediately before the merger was converted into the right to receive 0.4088 shares of Old Line Bancshares’ common stock, provided that cash was paid in lieu of any fractional shares of Old Line Bancshares common stock. As a result, Old Line Bancshares issued 4,408,087 shares of its common stock in exchange for the shares of BYBK common stock in the merger. The aggregate merger consideration was approximately $143.6 million based on the closing sales price of Old Line Bancshares’ common stock on April 13, 2018.

 

In connection with the merger, Bay Bank merged with and into Old Line Bank, with Old Line Bank the surviving bank.

 

At April 13, 2018, BYBK had consolidated assets of approximately $663 million. This merger added eleven banking locations located in BYBK’s primary market areas of Baltimore City and Anne Arundel, Baltimore, Howard and Harford Counties in Maryland.

 

The BYBK transaction was accounted for using the acquisition method of accounting and, accordingly, assets acquired, liabilities assumed and consideration exchanged were recorded at estimated fair value on the acquisition date. Management made significant estimates and exercised significant judgment in accounting for the acquisition of BYBK. Management judgmentally assigned risk ratings to loans based on appraisals and estimated collateral values, expected cash flows, prepayment speeds and estimated loss factors to measure fair value for loans. Management used quoted or current market prices to determine the fair value of BYBK’s investment securities.

 

Fair values are preliminary and subject to refinement for up to a year after the closing date of the acquisition for new information obtained about facts and circumstances that existed at the acquisition date.

 

The following table provides the purchase price as of the acquisition date and the identifiable assets acquired and liabilities assumed at their estimated fair values.

 

Purchase Price Consideration
Cash consideration		$	973,383
Purchase price assigned to shares exchanged for stock			142,645,695
Total purchase price for BYBK acquisition			143,619,078

 

 

Fair Value of Assets Acquired
Cash and due from banks		$	22,590,994
Investment securities			51,895,757
Restricted equity securities, at cost			2,339,700
Loans, net			546,215,988
Premises and equipment			3,127,963
Accrued interest receivable			1,714,054
Accrued taxes receivable			1,912,807
Deferred income taxes			2,637,668
Bank owned life insurance			16,319,198
Other real estate owned			1,041,079
Core deposit intangible			11,243,714
Other assets			1,413,987
Total assets acquired		$	662,452,909
Fair Value of Liabilities assumed
Deposits		$	541,368,907
Short term borrowings			41,100,000
Other liabilities			5,684,884
Total liabilities assumed		$	588,153,791
Fair Value of net assets acquired			74,299,118
Total Purchase Price			143,619,078
Goodwill recorded for BYBK		$	69,319,960

 

 

13

 

Comparative and Pro Forma Financial Information for the BYBK Acquisition

 

The adjusted result of the Company for the periods ended June 30, 2018, include the adjusted results of the acquired assets and assumed liabilities since the acquisition date of April 13, 2018. Merger-related expenses of $7.1 million are recorded in the consolidated statement of income for the three and six months ended June 30, 2018; and include costs related to the conversion of systems, termination of contracts, branch closures and severance cost.

 

The following table discloses the impact of the merger wth BYBK (excluding the impact of the merger-related expenses) for the three and six months ended June 30, 2018. The table also presents certain pro forma information as if BYBK had been acquired on January 1, 2018. These results combine the historical results of BYBK into our consolidate statement of income and, while certain adjustments were made for the estimated impact of certain fiar value adjustments and other acquisition related activity, they are not indicative of what would have occurred had the acquisition taken place on January 1, 2018.

 

Merger-related expenses of $7.1 million were incurred for the three and six months ended June 30, 2018 and were excluded from the pro forma information below. In addition, no adjustments have been made to the pro formas to eliminate the provision for loans losses for the three and six months ended June 30, 2018 of BYBK in the amount of $300 thousand. No adjustments were made to reduce the impact of any OREO write downs, investment securities sold or repayment of borrowings recognized by BYBK in the three and six months ended June 30, 2018. Expenses related to conversion, contract cancellation and personnel are expected to continue to be recorded in the third quarter of 2018 for the BYBK merger. The company expects to achieve operating costs savings as a result of the acquisitions which are not reflected in the pro forma amounts below:

 

		Actual adjusted				Pro Forma				Actual adjusted				Pro Forma
		Three months ended June 30, 2018				Three months ended June 30, 2017				Six months ended June 30, 2018				Six months ended June 30, 2017
Total revenues (net interest income plus noninterest income)		$	27,473			$	24,269			$	54,937			$	47,774
Net adjusted income available to common stockholder		$	9,075			$	5,175			$	16,565			$	10,086

 

 

14

3.

INVESTMENT SECURITIES

 

Presented below is a summary of the amortized cost and estimated fair value of securities.

 

		Amortized cost				Gross unrealized gains				Gross unrealized losses				Estimated fair value
June 30, 2018
Available for sale
U.S. treasury		$	3,009,331			$	—			$	(11,206	)		$	2,998,125
U.S. government agency			18,979,460				—				(632,196	)			18,347,264
Corporate bonds			18,118,611				97,514				(18,746	)			18,197,379
Municipal securities			79,806,457				27,034				(2,811,688	)			77,021,803
Mortgage backed securities:
FHLMC certificates			18,625,051				1,161				(1,051,132	)			17,575,080
FNMA certificates			60,025,658				—				(3,239,521	)			56,786,137
GNMA certificates			20,018,892				—				(1,003,146	)			19,015,746
Total available for sale securities		$	218,583,460			$	125,709			$	(8,767,635	)		$	209,941,534
December 31, 2017
Available for sale
U.S. treasury		$	3,007,728			$	—			$	(2,337	)		$	3,005,391
U.S. government agency			18,001,200				—				(267,434	)			17,733,766
Corporate bonds			14,621,378				144,574				(107,893	)			14,658,059
Municipal securities			80,791,431				126,566				(1,362,709	)			79,555,288
Mortgage backed securities
FHLMC certificates			19,907,299				2,516				(455,580	)			19,454,235
FNMA certificates			64,476,038				—				(1,530,121	)			62,945,917
GNMA certificates			21,403,894				—				(403,992	)			20,999,902
Total available for sale securities		$	222,208,968			$	273,656			$	(4,130,066	)		$	218,352,558

 

At June 30, 2018 and December 31, 2017, securities with unrealized losses segregated by length of impairment were as follows:

 

		June 30, 2018
		Less than 12 months								12 Months or More								Total
		Fair value				Unrealized losses				Fair value				Unrealized losses				Fair value				Unrealized losses
U.S. treasury		$	2,998,125			$	11,206			$	—			$	—			$	2,998,125			$	11,206
U.S. government agency			6,092,356				192,649				12,254,908				439,547				18,347,264				632,196
Corporate bonds			3,481,254				18,746				—				—				3,481,254				18,746
Municipal securities			35,446,399				929,662				31,628,806				1,882,026				67,075,205				2,811,688
Mortgage backed securities
FHLMC certificates			—				—				17,477,773				1,051,132				17,477,773				1,051,132
FNMA certificates			2,339,754				95,229				54,446,383				3,144,292				56,786,137				3,239,521
GNMA certificates			8,279,439				394,765				10,736,306				608,381				19,015,746				1,003,146
Total		$	58,637,327			$	1,642,257			$	126,544,176			$	7,125,378			$	185,181,504			$	8,767,635

 

		December 31, 2017
		Less than 12 months								12 Months or More								Total
		Fair value				Unrealized losses				Fair value				Unrealized losses				Fair value				Unrealized losses
U.S. treasury		$	1,506,328			$	1,422			$	1,499,063			$	915			$	3,005,391			$	2,337
U.S. government agency			12,266,502				93,043				5,467,264				174,391				17,733,766				267,434
Corporate bonds			9,407,810				107,893				—				—				9,407,810				107,893
Municipal securities			25,548,751				189,668				31,343,394				1,173,041				56,892,145				1,362,709
Mortgage backed securities
FHLMC certificates			—				—				19,314,957				455,580				19,314,957				455,580
FNMA certificates			2,516,080				19,937				60,429,837				1,510,184				62,945,917				1,530,121
GNMA certificates			8,822,021				114,278				12,177,882				289,714				20,999,904				403,992
Total		$	60,067,492			$	526,241			$	130,232,397			$	3,603,825			$	190,299,890			$	4,130,066

 

At June 30, 2018 and December 31, 2017, we had 120 and 56 investment securities, respectively, in an unrealized loss position for 12 months or more and 75 and 56 securities, respectively, in an unrealized loss position for less than 12 months.  We consider all unrealized losses on securities as of June 30, 2018 to be temporary losses because we will redeem each security at face value at or prior to maturity. We have the ability and intent to hold these securities until recovery or maturity. As of June 30, 2018, we do not have the intent to sell any of the securities classified as available for sale and believe that it is more likely than not that we will not have to sell any such securities before a recovery of cost. In most cases, market interest rate fluctuations cause a temporary impairment in value. We expect the fair value to recover as the investments approach their maturity date or re-pricing date or if market yields for these investments decline. We do not believe that credit quality caused the impairment in any of these securities. Because we believe these impairments are temporary, we have not realized any loss in our consolidated statement of income.

 

During the three months ended June 30, 2018, we received $57.0 million in proceeds from sales, maturities or calls of and principal pay-downs on investment securities. The net proceeds of these transactions were used to reduce our Federal Home Loan Bank of Atlanta (“FHLB”) borrowings and fund loan growth. We acquired a total of $55.8 million of investment securities as a result of the BYBK merger. The securities sold included $51.7 million of securities that we acquired in the BYBK merger and sold immediately after the closing of the merger, resulting in no gain or loss on such sales. During the three months ended June 30, 2017, we received $19.3 million in proceeds from sales, maturities or calls of and principal pay-downs on investment securities and realized gains of $148 thousand and realized losses of $129 thousand for a net gain of $20 thousand. The net proceeds of these transactions were used to purchase new investment securities.

 

For the six months ended June 30, 2018, we received $63.2 million in proceeds from sales, maturities or calls of and principal pay-downs on investment securities. As with the three month period, the securities sold included $51.7 million of securities that we acquired in the BYBK merger and sold immediately after the closing of the merger, resulting in no gain or loss on such sales. During the six months ended June 30, 2017, we received $27.7 million in proceeds from sales, maturities or calls of and principal pay-downs on investment securities and realized gains of $164 thousand and realized losses of $129 thousand for total realized net gain of $35 thousand. The net proceeds of these transactions were used to re-balance the investment portfolio, which resulted in an overall slightly higher yield on our security investments.

 

Contractual maturities and pledged securities at June 30, 2018 are shown below. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without prepayment penalties. We classify mortgage-backed securities (“MBS”) based on maturity date. However, we receive payments on a monthly basis.

 

		Available for Sale
June 30, 2018		Amortized cost				Fair value
Maturing
Within one year		$	4,091,416			$	4,081,040
Over one to five years			4,800,322				4,774,281
Over five to ten years			57,310,148				55,765,738
Over ten years			152,381,574				145,320,475
Total		$	218,583,460			$	209,941,534
Pledged securities		$	68,010,493			$	64,632,017

 

4.

LOANS

 

Major classifications of loans held for investment are as follows:

 

		June 30, 2018												December 31, 2017
		Legacy (1)				Acquired				Total				Legacy (1)				Acquired				Total
Commercial Real Estate
Owner Occupied		$	270,562,704			$	157,411,814			$	427,974,518			$	268,128,087			$	87,658,855			$	355,786,942
Investment			590,644,980				205,379,793				796,024,773				485,536,921				52,926,739				538,463,660
Hospitality			161,865,109				7,232,455				169,097,564				164,193,228				7,395,186				171,588,414
Land and A&D			67,568,009				27,682,812				95,250,821				67,310,660				9,230,771				76,541,431
Residential Real Estate
First Lien-Investment			82,241,881				53,689,412				135,931,293				79,762,682				21,220,518				100,983,200
First Lien-Owner Occupied			83,951,550				145,703,436				229,654,986				67,237,699				62,524,794				129,762,493
Residential Land and A&D			42,156,325				21,601,505				63,757,830				35,879,853				6,536,160				42,416,013
HELOC and Jr. Liens			21,917,531				45,338,669				67,256,200				21,520,339				16,019,418				37,539,757
Commercial and Industrial			205,131,858				102,538,173				307,670,031				154,244,645				33,100,688				187,345,333
Consumer			17,073,513				42,470,686				59,544,199				10,758,589				49,082,751				59,841,340
Total loans			1,543,113,460				809,048,755				2,352,162,215				1,354,572,703				345,695,880				1,700,268,583
Allowance for loan losses			(6,444,307	)			(260,270	)			(6,704,577	)			(5,738,534	)			(182,052	)			(5,920,586	)
Deferred loan costs, net			2,363,858				—				2,363,858				2,013,434				—				2,013,434
Net loans		$	1,539,033,011			$	808,788,485			$	2,347,821,496			$	1,350,847,603			$	345,513,828			$	1,696,361,431

_______________________

(1)

As a result of the acquisitions of Maryland Bankcorp, Inc. (“Maryland Bankcorp”), the parent company of Maryland Bank & Trust Company, N.A. (“MB&T”), in April 2011, WSB Holdings Inc., the parent company of The Washington Savings Bank (“WSB”), in May 2013, Regal Bancorp, Inc. (“Regal”), the parent company of Regal Bank & Trust (“Regal Bank”), in December 2015, DCB Bancshares, Inc. (“DCB”), the parent company of Damascus Community Bank (“Damascus”), in July 2017 and BYBK, the parent company of Bay Bank, in April 2018, we have segmented the portfolio into two components, “Legacy” loans originated by Old Line Bank and “Acquired” loans acquired from MB&T, WSB, Regal Bank, Damascus and Bay Bank.

 

Credit Policies and Administration

 

We have adopted a comprehensive lending policy, which includes stringent underwriting standards for all types of loans. We have designed our underwriting standards to promote a complete banking relationship rather than a transactional relationship. Our lending staff follows pricing guidelines established periodically by our management team. In an effort to manage risk, prior to funding, the loan committee, consisting of four non-employee members of the board of directors and four executive officers, must approve by majority vote all credit decisions in excess of a lending officer’s lending authority. Management believes that we employ experienced lending officers, secure appropriate collateral and carefully monitor the financial condition of our borrowers and the concentrations of loans in the portfolio.

 

In addition to the internal business processes employed in the credit administration area, Old Line Bank retains an outside independent firm to review the loan portfolio. This firm performs a detailed annual review and an interim update. We use the results of the firm’s report to validate our internal ratings and we review the commentary on specific loans and on our loan administration activities in order to improve our operations.

 

Commercial Real Estate Loans

 

We finance commercial real estate for our clients, for owner occupied and investment properties, hospitality and land acquisition and development. Commercial real estate loans totaled $1.5 billion and $1.1 billion at June 30, 2018 and December 31, 2017, respectively. This lending has involved loans secured by owner-occupied commercial buildings for office, storage and warehouse space, as well as non-owner occupied commercial buildings. Our underwriting criteria for commercial real estate loans include maximum loan-to-value ratios, debt coverage ratios, secondary sources of repayments, guarantor requirements, net worth requirements and quality of cash flows. Loans secured by commercial real estate may be large in size and may involve a greater degree of risk than one-to-four family residential mortgage loans. Payments on such loans are often dependent on successful operation or management of the properties. We will generally finance owner occupied commercial real estate that does not exceed loan to value of 80% and investor real estate at a maximum loan to value of 75%.

 

Commercial real estate lending entails significant risks. Risks inherent in managing our commercial real estate portfolio relate to sudden or gradual drops in property values as well as changes in the economic climate that may detrimentally impact the borrower’s ability to repay. We monitor the financial condition and operating performance of the borrower through a review of annual tax returns and updated financial statements. In addition, we meet with the borrower and/or perform site visits as required.

 

At June 30, 2018, we had approximately $169.1 million of commercial real estate loans outstanding to the hospitality industry. An individual review of these loans indicates that they generally have a low loan to value, more than acceptable existing or projected cash flow, are to experienced operators and are generally dispersed throughout the region.

 

Residential Real Estate Loans

 

We offer a variety of consumer oriented residential real estate loans including home equity lines of credit, home improvement loans and first or second mortgages on owner occupied and investment properties. Our residential loan portfolio amounted to $496.6 million and $310.7 million at June 30, 2018 and December 31, 2017, respectively. Although most of these loans are in our market area, the diversity of the individual loans in the portfolio reduces our potential risk. Usually, we secure our residential real estate loans with a security interest in the borrower’s primary or secondary residence with a loan to value not exceeding 85%. Our initial underwriting includes an analysis of the borrower’s debt/income ratio which generally may not exceed 43%, collateral value, length of employment and prior credit history. A credit score of 640 is required. We do not originate any subprime residential real estate loans.

 

This segment of our portfolio also consists of funds advanced for construction of custom single family residences homes (where the home buyer is the borrower) and financing to builders for the construction of pre-sold homes and multi-family housing. These loans generally have short durations, meaning maturities typically of twelve months or less. Old Line Bank limits its construction lending risk through adherence to established underwriting procedures. These loans generally have short durations, meaning maturities typically of twelve months or less. Residential houses, multi-family dwellings and commercial buildings under construction and the underlying land for which the loan was obtained secure the construction loans. The vast majority of these loans are concentrated in our market area.

Construction lending also entails significant risk. These risks generally involve larger loan balances concentrated with single borrowers with funds advanced upon the security of the land or the project under construction. An appraisal of the property estimates the value of the project “as is and as if” completed. An appraisal of the property estimates the value of the project prior to completion of construction. Thus, initial funds are advanced based on the current value of the property with the remaining construction funds advanced under a budget sufficient to successfully complete the project within the “as completed” loan to value. To further mitigate the risks, we generally limit loan amounts to 80% or less of appraised values and obtain first lien positions on the property.

 

We generally only offer real estate construction financing only to experienced builders, commercial entities or individuals who have demonstrated the ability to obtain a permanent loan “take-out” (conversion to a permanent mortgage upon completion of the project). We also perform a complete analysis of the borrower and the project under construction. This analysis includes a review of the cost to construct, the borrower’s ability to obtain a permanent “take-out” the cash flow available to support the debt payments and construction costs in excess of loan proceeds, and the value of the collateral. During construction, we advance funds on these loans on a percentage of completion basis. We inspect each project as needed prior to advancing funds during the term of the construction loan. We may provide permanent financing on the same projects for which we have provided the construction financing.

 

We also offer fixed rate home improvement loans. Our home equity and home improvement loan portfolio gives us a diverse client base. Although most of these loans are in our market area, the diversity of the individual loans in the portfolio reduces our potential risk. Usually, we secure our home equity loans and lines of credit with a security interest in the borrower’s primary or secondary residence.

 

Under our loan approval policy, all residential real estate loans approved must comply with federal regulations. Generally, we will make residential mortgage loans in amounts up to the limits established by Fannie Mae and Freddie Mac for secondary market resale purposes. Currently this amount for single-family residential loans currently varies from $453,100 up to a maximum of $679,650 for certain high-cost designated areas. We also make residential mortgage loans up to limits established by the Federal Housing Administration, which currently is $679,650. The Washington, D.C. and Baltimore areas are both considered high-cost designated areas. We will, however, make loans in excess of these amounts if we believe that we can sell the loans in the secondary market or that the loans should be held in our portfolio. For loans we originate for sale in the secondary market, we typically require a credit score of 620 or higher, with some exceptions provided we receive an approval recommendation from FannieMae, FreddieMac or the Federal Housing Administration’s automated underwriting approval system.  Loans sold in the secondary market are sold to investors on a servicing released basis and recorded as loans as held for sale.  The premium is recorded in income on marketable loans in non-interest income, net of commissions paid to the loan officers.

 

Commercial and Industrial Lending

 

Our commercial and industrial lending consists of lines of credit, revolving credit facilities, accounts receivable financing, term loans, equipment loans, Small Business Administration loans, standby letters of credit and unsecured loans. We originate commercial loans for any business purpose including the financing of leasehold improvements and equipment, the carrying of accounts receivable, general working capital, and acquisition activities. We have a diverse client base and we do not have a concentration of these types of loans in any specific industry segment. We generally secure commercial business loans with accounts receivable, equipment, deeds of trust and other collateral such as marketable securities, cash value of life insurance and time deposits at Old Line Bank.

 

Commercial business loans have a higher degree of risk than residential mortgage loans because the availability of funds for repayment generally depends on the success of the business. They may also involve high average balances, increased difficulty monitoring and a high risk of default. To help manage this risk, we typically limit these loans to proven businesses and we generally obtain appropriate collateral and personal guarantees from the borrower’s principal owners and monitor the financial condition of the business. For loans in excess of $250,000, monitoring generally includes a review of the borrower’s annual tax returns and updated financial statements.

Consumer Installment Lending

 

We offer various types of secured and unsecured consumer loans. We make consumer loans for personal, family or household purposes as a convenience to our customer base. Consumer loans, however, are not a focus of our lending activities. The underwriting standards for consumer loans include a determination of the applicant’s payment history on other debts and an assessment of his or her ability to meet existing obligations and payments on the proposed loan. As a general guideline, a consumer’s total debt service should not exceed 40% of his or her gross income.

 

Our consumer loan portfolio, includes indirect loans, which consists primarily of auto and RV loans. These loans are financed through dealers and the dealers receive a percentage of the finance charge, which varies depending on the terms of each loan. We use the same underwriting standards in originating these indirect loans as we do for consumer loans generally.

 

Consumer loans may present greater credit risk than residential mortgage loans because many consumer loans are unsecured or rapidly depreciating assets secure these loans. Repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance because of the greater likelihood of damage, loss or depreciation. Consumer loan collections depend on the borrower’s continuing financial stability. If a borrower suffers personal financial difficulties, the consumer may not repay the loan. Also, various federal and state laws, including bankruptcy and insolvency laws, may limit the amount we can recover on such loans.

 

Concentrations of Credit

 

Most of our lending activity occurs within the state of Maryland within the suburban Washington, D.C. and Baltimore market areas in Anne Arundel, Baltimore, Baltimore City, Calvert, Carroll, Charles, Frederick, Harford, Howard, Montgomery, Prince George’s and St. Mary’s Counties. The majority of our loan portfolio consists of commercial real estate loans and residential real estate loans.

 

Non-Accrual and Past Due Loans

 

We consider loans past due if the borrower has not paid the required principal and interest payments when due under the original or modified terms of the promissory note and place a loan on non-accrual status when the payment of principal or interest has become 90 days past due. When we classify a loan as non-accrual, we no longer accrue interest on such loan and we reverse any interest previously accrued but not collected. We will generally restore a non-accrual loan to accrual status when the borrower brings delinquent principal and interest payments current and we expect to collect future monthly principal and interest payments. We recognize interest on non-accrual legacy loans only when received. We originally recorded purchased, credit-impaired loans at fair value upon acquisition, and an accretable yield is established and recognized as interest income on purchased loans to the extent subsequent cash flows support the estimated accretable yield. Purchased, credit-impaired loans that perform consistently with the accretable yield expectations are not reported as non-accrual or nonperforming. However, purchased, credit-impaired loans that do not continue to perform according to accretable yield expectations are considered impaired, and presented as non-accrual and nonperforming. Currently, management expects to fully collect the carrying value of acquired, credit-impaired loans.

The table below presents an age analysis of the loans held for investment portfolio at June 30, 2018 and December 31, 2017.

 

Age Analysis of Past Due Loans

 

		June 30, 2018												December 31, 2017
		Legacy				Acquired				Total				Legacy				Acquired				Total
Current		$	1,537,628,464			$	793,109,509			$	2,330,737,973			$	1,352,406,852			$	338,913,557			$	1,691,320,409
Accruing past due loans:
30-89 days past due
Commercial Real Estate:
Owner Occupied			2,703,169				1,308,590				4,011,759				—				—				—
Investment			291,278				2,237,802				2,529,080				1,089,022				843,706				1,932,728
Land and A&D			678,870				3,583,409				4,262,279				254,925				158,899				413,824
Residential Real Estate:
First Lien-Investment			181,994				735,393				917,387				270,822				506,600				777,422
First Lien-Owner Occupied			94,743				2,555,200				2,649,943				229				2,457,299				2,457,528
HELOC and Jr. Liens			192,937				1,442,954				1,635,891				—				130,556				130,556
Commercial and Industrial			333,010				749,793				1,082,803				51,088				261,081				312,169
Consumer			89,480				1,157,030				1,246,510				26,134				1,017,195				1,043,329
Total 30-89 days past due			4,565,481				13,770,171				18,335,652				1,692,220				5,375,336				7,067,556
90 or more days past due
Residential Real Estate:
First Lien-Owner Occupied			—				247,102				247,102				—				37,560				37,560
Commercial			177,973				1,027				179,000				—				—				—
Consumer			—				112,459				112,459				—				78,407				78,407
Total 90 or more days past due			177,973				360,588				538,561				—				115,967				115,967
Total accruing past due loans			4,743,454				14,130,759				18,874,213				1,692,220				5,491,303				7,183,523
Commercial Real Estate:
Owner Occupied			—				231,425				231,425				—				228,555				228,555
Investment			—				—				—				—				—				—
Hospitality			—				—				—				—				—				—
Land and A&D			277,704				196,171				473,875				—				190,193				190,193
Residential Real Estate:
First Lien-Investment			192,501				—				192,501				192,501				—				192,501
First Lien-Owner Occupied			271,337				1,308,934				1,580,271				281,130				872,272				1,153,402
Land and A&D			—				—				—				—				—				—
Commercial and Industrial			—				45,218				45,218				—				—				—
Consumer			—				26,739				26,739				—				—				—
Non-accruing loans:			741,542				1,808,487				2,550,029				473,631				1,291,020				1,764,651
Total Loans		$	1,543,113,460			$	809,048,755			$	2,352,162,215			$	1,354,572,703			$	345,695,880			$	1,700,268,583

 

We consider all nonperforming loans and troubled debt restructurings (“TDRs”) to be impaired. We do not recognize interest income on nonperforming loans during the time period that the loans are nonperforming. We only recognize interest income on nonperforming loans when we receive payment in full for all amounts due of all contractually required principle and interest, and the loan is current with its contractual terms. The tables below present our impaired loans at and for the periods ended June 30, 2018 and December 31, 2017.

21

 

		Impaired Loans
														Three months June 30, 2018								Six months June 30, 2018
		Unpaid Principal Balance				Recorded Investment				Related Allowance				Average Recorded Investment				Interest Income Recognized				Average Recorded Investment				Interest Income Recognized
Legacy
With no related allowance recorded:
Commercial Real Estate:
Owner Occupied		$	1,767,387			$	1,767,387			$	—			$	1,764,445			$	18,682				1,779,111			$	42,401
Investment			651,195				651,195				—				650,816				8,676				656,802				16,722
Land and A&D			277,704				277,704				—				277,704				—				277,704				—
Residential Real Estate:
First Lien-Investment			192,501				192,501				—				192,501				—				192,501				—
First Lien-Owner Occupied			219,996				219,996				—				229,901				4,200				230,466				6,449
Commercial and Industrial			368,654				368,654				—				366,484				3,355				375,616				7,798
With an allowance recorded:
Commercial Real Estate:
Investment			—				—				—				—				—				—				—
Residential Real Estate:
First Lien-Investment			1,065,222				1,065,222				39,420				1,063,646				14,968				1,072,506				34,438
First Lien-Owner Occupied			51,341				51,341				37,076				55,830				—				56,621				1,134
Commercial and Industrial			94,666				94,666				94,665				94,411				1,589				95,208				2,810
Total legacy impaired			4,688,666				4,688,666				171,161				4,695,738				51,470				4,736,535				111,752
Acquired(1)
With no related allowance recorded:
Commercial Real Estate:
Owner Occupied			557,660				557,660				—				587,825				5,296				584,136				5,296
Investment			73,241				61,504				—				400,394				5,055				401,800				5,055
Land and A&D			243,329				106,780				—				349,089				—				349,809				—
Residential Real Estate:
First Lien-Owner Occupied			1,631,478				1,511,742				—				1,797,742				5,089				1,799,968				24,257
First Lien-Investment			273,737				169,020				—				391,762				12,323				392,100				12,323
Land and A&D			593,785				390,768				—				705,086				—				705,086				—
Commercial			1,029,478				147,351				—				1,324,966				7,356				1,329,002				7,594
Consumer			216,332				32,926				—				577,107				—				587,365				242
With an allowance recorded:
Commercial Real Estate:
Land and A&D			483,149				199,297				118,891				490,004				—				488,778				—
Residential Real Estate:
First Lien-Owner Occupied			253,437				253,437				88,723				276,861								275,185
Commercial and Industrial			69,970				69,970				24,517				69,712				894				70,733				2,093
Consumer			28,556				28,556				28,139				27,668				75				27,831				242
Total acquired impaired			5,454,152				3,529,011				260,270				6,998,216				36,088				7,011,793				57,102
Total impaired		$	10,142,818			$	8,217,677			$	431,431			$	11,693,954			$	87,558				11,748,328			$	168,854

 

_______________________

(1)

Generally accepted accounting principles require that we record acquired loans at fair value at acquisition, which includes a discount for loans with credit impairment. These purchased credit impaired loans are not performing according to their contractual terms and meet the definition of an impaired loan. Although we do not accrue interest income at the contractual rate on these loans, we do recognize an accretable yield as interest income to the extent such yield is supported by cash flow analysis of the underlying loans.

 

22

 

Impaired Loans
December 31, 2017
		Unpaid Principal Balance				Recorded Investment				Related Allowance				Average Recorded Investment				Interest Income Recognized
Legacy
With no related allowance recorded:
Commercial Real Estate:
Owner Occupied		$	1,797,030			$	1,797,030			$	—			$	1,913,873			$	70,623
Investment			1,155,595				1,155,595				—				1,183,738				51,806
Residential Real Estate:
First Lien-Owner Occupied			226,554				226,554				—				233,618				10,536
Commercial and Industrial			387,208				387,208				—				379,983				30,245
With an allowance recorded:
Commercial Real Estate:
Investment			592,432				592,432				69,903				601,959				30,576
Residential Real Estate:
First Lien-Owner Occupied			54,576				54,576				37,075				217,673				—
First Lien-Investment			192,501				192,501				39,420				192,501				—
Commercial and Industrial			96,212				96,212				96,212				97,923				4,960
Total legacy impaired			4,502,108				4,502,108				242,610				4,821,268				198,746
Acquired(1)
With no related allowance recorded:
Commercial Real Estate:
Owner Occupied			253,865				253,865				—				252,988				2,155
Land and A&D			334,271				45,000				—				334,271				—
Residential Real Estate:
First Lien-Owner Occupied			1,382,055				1,269,796				—				1,390,037				31,601
First Lien-Investment			131,294				74,066				—				132,812				4,378
With an allowance recorded:
Commercial Real Estate:
Land and A&D			148,196				148,196				80,072				155,621				2,498
Residential Real Estate:
First Lien-Owner Occupied			250,194				250,194				77,464				273,596				23,424
Commercial and Industrial			72,125				72,125				24,517				74,279				3,775
Total acquired impaired			2,572,000				2,113,242				182,053				2,613,604				67,831
Total impaired		$	7,074,108			$	6,615,350			$	424,663			$	7,434,872			$	266,577

 

_______________________

(1)

Generally accepted accounting principles require that we record acquired loans at fair value at acquisition, which includes a discount for loans with credit impairment. These purchased credit impaired loans are not performing according to their contractual terms and meet the definition of an impaired loan. Although we do not accrue interest income at the contractual rate on these loans, we do recognize an accretable yield as interest income to the extent such yield is supported by cash flow analysis of the underlying loans.

 

We consider a loan a TDR when we conclude that both of the following conditions exist: the restructuring constitutes a concession and the debtor is experiencing financial difficulties. Restructured loans at June 30, 2018 consisted of seven loans for an aggregate of $2.4 million compared to seven loans for an aggregate of $2.7 million at December 31, 2017.

 

The following table includes the recorded investment in and number of modifications of TDRs for the three and six months ended June 30, 2018 and 2017. We report the recorded investment in loans prior to a modification and also the recorded investment in the loans after the loans were restructured. Reductions in the recorded investment are primarily due to the partial charge-off of the principal balance prior to the modification. We had no loans that were modified as a TDR that defaulted within three months of the modification date during the three or six month periods ended June 30, 2018 and 2017.

 

		Loans Modified as a TDR for the three months ended
		June 30, 2018												June 30, 2017
Troubled Debt Restructurings— (Dollars in thousands)		# of Contracts				Pre- Modification Outstanding Recorded Investment				Post Modification Outstanding Recorded Investment				# of Contracts				Pre- Modification Outstanding Recorded Investment				Post Modification Outstanding Recorded Investment
Legacy
Commercial Real Estate			—				—				—				1				1,596,740				1,596,740
Residential Real Estate Owner Occupied			1				201,449				28,556				—				—				—
Commercial and Industrial			—				—				—				1				414,324				414,324
Total legacy TDR's			1			$	201,449			$	28,556				2			$	2,011,064			$	2,011,064

 

 

		Loans Modified as a TDR for the six months ended
		June 30, 2018												June 30, 2017
Troubled Debt Restructurings— (Dollars in thousands)		# of Contracts				Pre- Modification Outstanding Recorded Investment				Post Modification Outstanding Recorded Investment				# of Contracts				Pre- Modification Outstanding Recorded Investment				Post Modification Outstanding Recorded Investment
Legacy
Commercial Real Estate			—				—				—				1				1,596,740				1,596,740
Residential Real Estate Owner Occupied			1				201,449				28,556				—				—				—
Commercial and Industrial			—				—				—				1				414,324				414,324
Total legacy TDR's			1			$	201,449			$	28,556				2			$	2,011,064			$	2,011,064

 

Acquired impaired loans

 

The following table documents changes in the accretable (premium) discount on acquired impaired loans during the six months ended June 30, 2018 and 2017, along with the outstanding balances and related carrying amounts for the beginning and end of those respective periods.

 

		June 30, 2018				June 30, 2017
Balance at beginning of period		$	115,066			$	(22,980	)
Additions due to BYBK acquisition			50,984				—
Accretion of fair value discounts			(404,846	)			(51,722	)
Reclassification from non-accretable discount			414,317				52,807
Balance at end of period		$	175,521			$	(21,895	)

 

		Contractually Required  Payments Receivable				Carrying Amount
At June 30, 2018		$	19,588,843			$	15,209,609
At December 31, 2017			8,277,731				6,617,774
At June 30, 2017			8,311,088				6,643,878
At December 31, 2016			9,597,703				7,558,415

 

For our acquisition of Bay Bank on April 13, 2018, we recorded all loans acquired at the estimated fair value on their purchase date with no carryover of the related allowance for loan losses. On the acquisition date, we segregated the loan portfolio into two loan pools, performing and non-performing.

We had an independent third party determine the net discounted value of cash flows on 1,991 performing loans totaling $520.5 million. The valuation took into consideration the loans’ underlying characteristics including account types, remaining terms, annual interest rates, interest types, past delinquencies, timing of principal and interest payments, current market rates, loan-to-value ratios, loss exposures, and remaining balances. These performing loans were segregated into pools based on loan and payment type and, in some cases, risk grade. The effect of this fair valuation process was a net discount of $8.3 million at acquisition.

 

We also individually evaluated 132 impaired loans totaling $13.5 million to determine their fair value as of the April 13, 2018 measurement date. In determining the fair value for each individually evaluated impaired loan, we considered a number of factors including the remaining life of the acquired loans, estimated prepayments, estimated loss ratios, estimated value of the underlying collateral and net present value of cash flows we expect to receive, among others.

 

We established a credit related non-accretable difference of $3.2 million relating to these purchased credit impaired loans, reflected in the recorded fair value.

 

We have re-classified $21.7 million (net of fair value marks) of our acquired loans to available for sale. These loans consist primarily of purchase credit impaired loans that we are currently working to market with brokers. We expect settlement on these loans to occur in the third quarter of 2018.

 

The following table outlines the contractually required payments receivable, cash flows we expect to receive, non-accretable credit adjustment and the accretable yield for all of Bay Bank’s impaired loans as of the acquisition date, April 13, 2018.

 

		Purchased Credit Impaired
Contractually required principal at acquisition		$	14,766
Contractual cash flows not expected to be colledted (non-accretable difference)			(3,201	)
Expected cash flows at acquisition-Total			11,565

 

Credit Quality Indicators

 

We review the adequacy of the allowance for loan losses at least quarterly. We base the evaluation of the adequacy of the allowance for loan losses upon loan categories. We categorize loans as residential real estate loans, commercial real estate loans, commercial loans and consumer loans. We further divide commercial real estate loans by owner occupied, investment, hospitality and land acquisition and development. We also divide residential real estate by owner occupied, investment, land acquisition and development and junior liens. All categories are divided by risk rating and loss factors and weighed by risk rating to determine estimated loss amounts. We evaluate delinquent loans and loans for which management has knowledge about possible credit problems of the borrower or knowledge of problems with collateral separately and assign loss amounts based upon the evaluation.

 

We determine loss ratios for all loans based upon a review of the three year loss ratio for the category and qualitative factors.

 

We charge off loans that management has identified as losses. We consider suggestions from our external loan review firm and bank examiners when determining which loans to charge off. We automatically charge off consumer loan accounts based on regulatory requirements. We partially charge off real estate loans that are collateral dependent based on the value of the collateral.

If a loan that was previously rated a pass performing loan, from our acquisitions, deteriorates subsequent to the acquisition, the subject loan will be assessed for risk and, if necessary, evaluated for impairment. If the risk assessment rating is adversely changed and the loan is determined to not be impaired, the loan will be placed in a migration category and the credit mark established for the loan will be compared to the general reserve allocation that would be applied using the current allowance for loan losses formula for General Reserves. If the credit mark exceeds the allowance for loan losses formula for General Reserves, there will be no change to the allowance for loan losses. If the credit mark is less than the current allowance for loan losses formula for General Reserves, the allowance for loan losses will be increased by the amount of the shortfall by a provision recorded in the income statement. If the loan is deemed impaired, the loan will be subject to evaluation for loss exposure and a specific reserve. If the estimate of loss exposure exceeds the credit mark, the allowance for loan losses will be increased by the amount of the excess loss exposure through a provision. If the credit mark exceeds the estimate of loss exposure there will be no change to the allowance for loan losses. If a loan from the acquired loan portfolio is carrying a specific credit mark and a current evaluation determines that there has been an increase in loss exposure, the allowance for loan losses will be increased by the amount of the current loss exposure in excess of the credit mark.

 

 

 

 

The following tables outline the class of loans by risk rating at June 30, 2018 and December 31, 2017:

 

At June 30, 2018		Legacy				Acquired				Total
Risk Rating
Pass(1 - 5)
Commercial Real Estate:
Owner Occupied		$	264,890,138			$	151,937,113			$	416,827,251
Investment			588,553,131				203,067,764				791,620,895
Hospitality			161,865,109				6,942,561				168,807,670
Land and A&D			65,510,282				27,216,331				92,726,613
Residential Real Estate:
First Lien-Investment			81,411,986				50,627,622				132,039,608
First Lien-Owner Occupied			83,615,303				140,680,068				224,295,371
Land and A&D			39,748,478				20,902,355				60,650,833
HELOC and Jr. Liens			21,917,531				45,147,436				67,064,967
Commercial and Industrial			201,930,359				99,346,280				301,276,639
Consumer			17,073,513				42,235,380				59,308,893
Total pass			1,526,515,830				788,102,910				2,314,618,740
Special Mention(6)
Commercial Real Estate:
Owner Occupied			428,147				2,737,280				3,165,427
Investment			375,432				1,015,974				1,391,406
Hospitality			—				289,894				289,894
Land and A&D			2,057,727				314,701				2,372,428
Residential Real Estate:
First Lien-Investment			295,279				1,757,939				2,053,218
First Lien-Owner Occupied			64,910				1,839,391				1,904,301
Land and A&D			2,130,143				104,407				2,234,550
HELOC and Jr. Liens			—				126,006				126,006
Commercial and Industrial			1,328,443				112,713				1,441,156
Consumer			—				97,515				97,515
Total special mention			6,680,081				8,395,820				15,075,901
Substandard(7)
Commercial Real Estate:
Owner Occupied			5,244,419				2,737,421				7,981,840
Investment			1,716,417				1,296,055				3,012,472
Hospitality			—				—				—
Land and A&D			—				151,780				151,780
Residential Real Estate:
First Lien-Investment			534,616				1,303,852				1,838,468
First Lien-Owner Occupied			271,337				3,183,976				3,455,313
Land and A&D			277,704				594,743				872,447
HELOC and Jr. Liens			—				65,227				65,227
Commercial and Industrial			1,873,056				3,079,180				4,952,236
Consumer			—				137,791				137,791
Total substandard			9,917,549				12,550,025				22,467,574
Doubtful(8)			—				—				—
Loss(9)			—				—				—
Total		$	1,543,113,460			$	809,048,755			$	2,352,162,215

 

 

At December 31, 2017		Legacy				Acquired				Total
Risk Rating
Pass(1 - 5)
Commercial Real Estate:
Owner Occupied		$	262,377,665			$	83,069,390			$	345,447,055
Investment			483,404,883				51,064,247				534,469,130
Hospitality			164,193,228				7,395,186				171,588,414
Land and A&D			65,184,837				9,065,405				74,250,242
Residential Real Estate:
First Lien-Investment			78,814,931				19,846,749				98,661,680
First Lien-Owner Occupied			66,888,943				57,895,058				124,784,001
Land and A&D			33,712,187				5,727,719				39,439,906
HELOC and Jr. Liens			21,520,339				16,019,418				37,539,757
Commercial and Industrial			150,881,948				32,738,715				183,620,663
Consumer			10,758,589				49,017,427				59,776,016
Total pass			1,337,737,550				331,839,314				1,669,576,864
Special Mention(6)
Commercial Real Estate:
Owner Occupied			435,751				2,816,057				3,251,808
Investment			384,011				1,037,254				1,421,265
Hospitality			—				—				—
Land and A&D			2,125,823				120,366				2,246,189
Residential Real Estate:
First Lien-Investment			300,824				1,034,942				1,335,766
First Lien-Owner Occupied			67,626				1,848,385				1,916,011
Land and A&D			2,167,666				663,248				2,830,914
Commercial and Industrial			1,519,394				59,902				1,579,296
Consumer			—				65,324				65,324
Total special mention			7,001,095				7,645,478				14,646,573
Substandard(7)
Commercial Real Estate:
Owner Occupied			5,314,671				1,773,408				7,088,079
Investment			1,748,027				825,238				2,573,265
Hospitality			—				—				—
Land and A&D			—				45,000				45,000
Residential Real Estate:
First Lien-Investment			646,927				338,827				985,754
First Lien-Owner Occupied			281,130				2,781,351				3,062,481
Land and A&D			—				145,193				145,193
Commercial and Industrial			1,843,303				302,071				2,145,374
Consumer			—				—				—
Total substandard			9,834,058				6,211,088				16,045,146
Doubtful(8)			—				—				—
Loss(9)			—				—				—
Total		$	1,354,572,703			$	345,695,880			$	1,700,268,583

 

The following table details activity in the allowance for loan losses by portfolio segment for the three and six month periods ended June 30, 2018 and 2017. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.

 

Three Months Ended June 30, 2018		Commercial and Industrial				Commercial Real Estate				Residential Real Estate				Consumer				Total
Beginning balance		$	1,211,958			$	4,231,433			$	776,298			$	37,830			$	6,257,519
Provision for loan losses			465,140				(34,959	)			(36,923	)			138,999				532,257
Recoveries			3,350				278				12,079				3,208				18,915
Total			1,680,448				4,196,752				751,454				180,037				6,808,691
Loans charged off			—				—				(1,824	)			(102,290	)			(104,114	)
Ending Balance		$	1,680,448			$	4,196,752			$	749,630			$	77,747			$	6,704,577

 

Six Months Ended June 30, 2018		Commercial and Industrial				Commercial Real Estate				Residential Real Estate				Consumer				Total
Beginning balance		$	1,262,030			$	3,783,735			$	844,355			$	30,466			$	5,920,586
Provision for loan losses			414,768				412,600				(105,012	)			204,797				927,153
Recoveries			3,650				417				12,111				6,853				23,031
Total			1,680,448				4,196,752				751,454				242,116				6,870,770
Loans charged off			—				—				(1,824	)			(164,369	)			(166,193	)
Ending Balance		$	1,680,448			$	4,196,752			$	749,630			$	77,747			$	6,704,577
Amount allocated to:
Legacy Loans:
Individually evaluated for impairment		$	94,666			$	—			$	76,495			$	—			$	171,161
Other loans not individually evaluated			1,538,766				4,100,361				584,412				49,608				6,273,147
Acquired Loans:
Individually evaluated for impairment			47,016				96,391				88,723				28,139				260,269
Ending balance		$	1,680,448			$	4,196,752			$	749,630			$	77,747			$	6,704,577

 

Three Months Ended June 30, 2017		Commercial				Commercial Real Estate				Residential Real Estate				Consumer				Total
Beginning balance		$	1,233,152			$	3,683,260			$	684,541			$	8,836			$	5,609,789
Provision for loan losses			84,583				105,746				109,254				(20,667	)			278,916
Recoveries			512				417				—				22,208				23,137
Total			1,318,247				3,789,423				793,795				10,377				5,911,842
Loans charged off			—				—				—				—				—
Ending Balance		$	1,318,247			$	3,789,423			$	793,795			$	10,377			$	5,911,842

 

Six Months Ended June 30, 2017		Commercial				Commercial Real Estate				Residential Real Estate				Consumer				Total
Beginning balance		$	1,372,235			$	3,990,152			$	823,520			$	9,562			$	6,195,469
Provision for loan losses			514,972				238,360				(28,357	)			(5,568	)			719,407
Recoveries			1,563				833				900				25,532				28,828
Total			1,888,770				4,229,345				796,063				29,526				6,943,704
Loans charged off			(570,523	)			(439,922	)			(2,268	)			(19,149	)			(1,031,862	)
Ending Balance		$	1,318,247			$	3,789,423			$	793,795			$	10,377			$	5,911,842
Amount allocated to:
Legacy Loans:
Individually evaluated for impairment		$	300,234			$	28,803			$	20,262			$	—			$	349,299
Other loans not individually evaluated			993,496				3,760,620				693,461				10,377				5,457,954
Acquired Loans:
Individually evaluated for impairment			24,517				—				80,072				—				104,589
Ending balance		$	1,318,247			$	3,789,423			$	793,795			$	10,377			$	5,911,842

 

 

Our recorded investment in loans at June 30, 2018 and 2017 related to each balance in the allowance for probable loan losses by portfolio segment and disaggregated on the basis of our impairment methodology was as follows:

 

June 30, 2018		Commercial and Industrial				Commercial Real Estate				Residential Real Estate				Consumer				Total
Legacy loans:
Individually evaluated for impairment with specific reserve		$	94,666			$	—			$	1,116,563			$	—			$	1,211,229
Individually evaluated for impairment without specific reserve			368,654				2,696,286				412,496				—				3,477,436
Other loans not individually evaluated			204,668,539				1,087,944,518				228,738,227				17,073,514				1,538,424,798
Acquired loans:
Individually evaluated for impairment with specific reserve subsequent to acquisition (ASC 310-20 at acquisition)			69,970				199,297				253,437				28,556				551,260
Individually evaluated for impairment without specific reserve (ASC 310-20 at acquisition)			147,351				725,944				2,071,530				32,926				2,977,751
Individually evaluated for impairment without specific reserve (ASC 310-30 at acquisition)			657,508				8,737,493				5,794,810				19,798				15,209,609
Collectively evaluated for impairment without reserve (ASC 310-20 at acquisition)			101,663,343				388,044,140				258,213,244				42,389,405				790,310,132
Ending balance		$	307,670,031			$	1,488,347,678			$	496,600,307			$	59,544,199			$	2,352,162,215

 

 

June 30, 2017		Commercial				Commercial Real Estate				Residential Real Estate				Consumer				Total
Legacy loans:
Individually evaluated for impairment with specific reserve		$	300,234			$	601,535			$	192,501			$	—			$	1,094,270
Individually evaluated for impairment without specific reserve			405,368				3,009,569				263,495				—				3,678,432
Other loans not individually evaluated			149,238,270				918,871,531				208,531,955				4,405,042				1,281,046,798
Acquired loans:
Individually evaluated for impairment with specific reserve subsequent to acquisition (ASC 310-20 at acquisition)			74,197				150,430				—				—				224,627
Individually evaluated for impairment without specific reserve (ASC 310-20 at acquisition)			—				252,687				1,585,980				—				1,838,667
Individually evaluated for impairment without specific reserve (ASC 310-30 at acquisition)			—				3,515,652				3,128,226				—				6,643,878
Collectively evaluated for impairment without reserve (ASC 310-20 at acquisition)			4,749,336				87,128,806				64,312,307				88,696				156,279,145
Ending balance		$	154,767,405			$	1,013,530,210			$	278,014,464			$	4,493,738			$	1,450,805,817