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Live Oak Bancshares (LOB)

Filed: 6 May 20, 4:39pm

 

 

 

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 March 31, 2020

or

Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from             to             .

Commission file number: 001-37497

LIVE OAK BANCSHARES, INC.

(Exact name of registrant as specified in its charter)

 

North Carolina

26-4596286

(State or other jurisdiction of incorporation or organization)

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

 

 

1741 Tiburon Drive

Wilmington, North Carolina

28403

(Address of principal executive offices)

(Zip Code)

(910) 790-5867

(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 subject to such filing requirements for the past 90 days.    Yes      No  

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes      No  

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

 

Large accelerated filer

 

 

Accelerated filer

 

Non-accelerated filer

 

 

Smaller reporting company

 

 

 

 

 

Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

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

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

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Voting Common Stock, no par value per share

LOB

The NASDAQ Stock Market LLC

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

As of May 5, 2020, there were 37,793,904 shares of the registrant’s voting common stock outstanding and 2,715,531 shares of the registrant’s non-voting common stock outstanding.

 

 


 

 

Live Oak Bancshares, Inc.

Form 10-Q

For the Quarterly Period Ended March 31, 2020

TABLE OF CONTENTS

 

 

Page

PART I. FINANCIAL INFORMATION

 

Item 1.

 

Financial Statements (Unaudited)

 

1

 

 

Condensed Consolidated Balance Sheets as of March 31, 2020 and December 31, 2019

 

1

 

 

Condensed Consolidated Statements of Income for the Three Months Ended March 31, 2020 and 2019

 

2

 

 

Condensed Consolidated Statements of Comprehensive Income for the Three Months Ended March 31, 2020 and 2019

 

3

 

 

Condensed Consolidated Statements of Changes in Shareholders’ Equity for the Three Months Ended March 31, 2020 and 2019

 

4

 

 

Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2020 and 2019

 

5

 

 

Notes to Unaudited Condensed Consolidated Financial Statements

 

7

Item 2.

 

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

 

36

Item 3.

 

Quantitative and Qualitative Disclosures about Market Risk

 

53

Item 4.

 

Controls and Procedures

 

53

 

 

PART II. OTHER INFORMATION

 

 

Item 1.

 

Legal Proceedings

 

54

Item 1A.

 

Risk Factors

 

54

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

56

Item 3.

 

Defaults Upon Senior Securities

 

56

Item 4.

 

Mine Safety Disclosures

 

56

Item 5.

 

Other Information

 

56

Item 6.

 

Exhibits

 

57

 

 

Index to Exhibits

 

57

 

 

Signatures

 

58

 

 

 

 


 

 

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

Live Oak Bancshares, Inc.

Condensed Consolidated Balance Sheets

As of March 31, 2020 (unaudited) and December 31, 2019*

(Dollars in thousands)

 

 

 

March 31,

2020

 

 

December 31,

2019

 

Assets

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

256,824

 

 

$

126,752

 

Federal funds sold

 

 

158,226

 

 

 

96,787

 

Certificates of deposit with other banks

 

 

7,250

 

 

 

7,250

 

Investment securities available-for-sale

 

 

574,168

 

 

 

540,045

 

Loans held for sale (includes $19,151 and $16,198 measured at fair value,

   respectively)

 

 

996,050

 

 

 

966,447

 

Loans and leases held for investment (includes $831,426 and $824,520 measured

   at fair value, respectively)

 

 

2,817,491

 

 

 

2,627,286

 

Allowance for credit losses on loans and leases

 

 

(35,906

)

 

 

(28,234

)

Net loans and leases

 

 

2,781,585

 

 

 

2,599,052

 

Premises and equipment, net

 

 

274,177

 

 

 

279,099

 

Foreclosed assets

 

 

6,744

 

 

 

5,612

 

Servicing assets

 

 

33,532

 

 

 

35,365

 

Operating lease right-of-use assets

 

 

2,236

 

 

 

2,427

 

Other assets

 

 

185,524

 

 

 

156,134

 

Total assets

 

$

5,276,316

 

 

$

4,814,970

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

 

Noninterest-bearing

 

$

54,022

 

 

$

54,107

 

Interest-bearing

 

 

4,588,126

 

 

 

4,175,015

 

Total deposits

 

 

4,642,148

 

 

 

4,229,122

 

Borrowings

 

 

50,012

 

 

 

14

 

Operating lease liabilities

 

 

2,416

 

 

 

2,619

 

Other liabilities

 

 

47,968

 

 

 

50,829

 

Total liabilities

 

 

4,742,544

 

 

 

4,282,584

 

Shareholders’ equity

 

 

 

 

 

 

 

 

Preferred stock, no par value, 1,000,000 authorized, NaN issued or outstanding

   at March 31, 2020 and December 31, 2019

 

 

 

 

 

 

Class A common stock, no par value, 100,000,000 shares authorized, 37,664,670

   and 37,401,443 shares issued and outstanding at March 31, 2020 and

   December 31, 2019, respectively

 

 

314,994

 

 

 

309,526

 

Class B common stock, no par value, 10,000,000 shares authorized, 2,715,531 and

   2,915,531 shares issued and outstanding at March 31, 2020 and December 31, 2019,

   respectively

 

 

28,753

 

 

 

30,871

 

Retained earnings

 

 

172,276

 

 

 

180,265

 

Accumulated other comprehensive income

 

 

17,749

 

 

 

11,724

 

Total shareholders’ equity

 

 

533,772

 

 

 

532,386

 

Total liabilities and shareholders’ equity

 

$

5,276,316

 

 

$

4,814,970

 

 

*Derived from audited consolidated financial statements.

See Notes to Unaudited Condensed Consolidated Financial Statements

1


 

 

Live Oak Bancshares, Inc.

Condensed Consolidated Statements of Income

For the three months ended March 31, 2020 and 2019 (unaudited)

(Dollars in thousands, except per share data)

 

 

 

Three Months Ended

March 31,

 

 

 

2020

 

 

2019

 

Interest income

 

 

 

 

 

 

 

 

Loans and fees on loans

 

$

58,961

 

 

$

44,966

 

Investment securities, taxable

 

 

3,762

 

 

 

3,317

 

Other interest earning assets

 

 

750

 

 

 

1,639

 

Total interest income

 

 

63,473

 

 

 

49,922

 

Interest expense

 

 

 

 

 

 

 

 

Deposits

 

 

23,255

 

 

 

19,317

 

Borrowings

 

 

57

 

 

 

 

Total interest expense

 

 

23,312

 

 

 

19,317

 

Net interest income

 

 

40,161

 

 

 

30,605

 

Provision for loan and lease credit losses

 

 

11,792

 

 

 

3,031

 

Net interest income after provision for loan and lease credit losses

 

 

28,369

 

 

 

27,574

 

Noninterest income

 

 

 

 

 

 

 

 

Loan servicing revenue

 

 

6,422

 

 

 

7,410

 

Loan servicing asset revaluation

 

 

(4,692

)

 

 

(4,040

)

Net gains on sales of loans

 

 

11,112

 

 

 

4,198

 

Net (loss) gain on loans accounted for under the fair value option

 

 

(10,638

)

 

 

2,083

 

Equity method investments income (loss)

 

 

(2,478

)

 

 

(2,014

)

Equity security investments (losses) gains, net

 

 

(64

)

 

 

103

 

(Loss) gain on sale of investment securities available-for-sale

 

 

(79

)

 

 

5

 

Lease income

 

 

2,624

 

 

 

2,325

 

Management fee income

 

 

1,644

 

 

 

 

Construction supervision fee income

 

 

390

 

 

 

779

 

Other noninterest income

 

 

1,501

 

 

 

2,467

 

Total noninterest income

 

 

5,742

 

 

 

13,316

 

Noninterest expense

 

 

 

 

 

 

 

 

Salaries and employee benefits

 

 

28,063

 

 

 

21,855

 

Travel expense

 

 

1,781

 

 

 

1,200

 

Professional services expense

 

 

1,937

 

 

 

2,182

 

Advertising and marketing expense

 

 

1,361

 

 

 

1,364

 

Occupancy expense

 

 

2,421

 

 

 

1,609

 

Data processing expense

 

 

3,157

 

 

 

2,399

 

Equipment expense

 

 

4,635

 

 

 

3,325

 

Other loan origination and maintenance expense

 

 

2,456

 

 

 

1,639

 

FDIC insurance

 

 

1,510

 

 

 

635

 

Other expense

 

 

2,170

 

 

 

1,993

 

Total noninterest expense

 

 

49,491

 

 

 

38,201

 

(Loss) income before taxes

 

 

(15,380

)

 

 

2,689

 

Income tax (benefit) expense

 

 

(7,778

)

 

 

317

 

Net (loss) income

 

$

(7,602

)

 

$

2,372

 

Basic (loss) earnings per share

 

$

(0.19

)

 

$

0.06

 

Diluted (loss) earnings per share

 

$

(0.19

)

 

$

0.06

 

 

See Notes to Unaudited Condensed Consolidated Financial Statements

 

2


 

 

Live Oak Bancshares, Inc.

Condensed Consolidated Statements of Comprehensive Income

For the three months ended March 31, 2020 and 2019 (unaudited)

(Dollars in thousands)

 

 

 

Three Months Ended

March 31,

 

 

 

2020

 

 

2019

 

Net (loss) income

 

$

(7,602

)

 

$

2,372

 

Other comprehensive income before tax:

 

 

 

 

 

 

 

 

Net unrealized gain on investment securities

   arising during the period

 

 

7,849

 

 

 

3,518

 

Reclassification adjustment for loss (gain) on sale of

   securities available-for-sale included in net income

 

 

79

 

 

 

(5

)

Other comprehensive income before tax

 

 

7,928

 

 

 

3,513

 

Income tax expense

 

 

(1,903

)

 

 

(843

)

Other comprehensive income, net of tax

 

 

6,025

 

 

 

2,670

 

Total comprehensive (loss) income

 

$

(1,577

)

 

$

5,042

 

 

See Notes to Unaudited Condensed Consolidated Financial Statements

 

3


 

 

Live Oak Bancshares, Inc.

Condensed Consolidated Statements of Changes in Shareholders’ Equity

For the three months ended March 31, 2020 and 2019 (unaudited)

(Dollars in thousands)

 

 

 

Three Months Ended

 

 

 

Common stock

 

 

 

 

 

 

Accumulated

other

 

 

 

 

 

 

 

Shares

 

 

 

 

 

 

Retained

 

 

comprehensive

 

 

Total

 

 

 

Class A

 

 

Class B

 

 

Amount

 

 

earnings

 

 

income (loss)

 

 

equity

 

Balance at December 31, 2019

 

 

37,401,443

 

 

 

2,915,531

 

 

$

340,397

 

 

$

180,265

 

 

$

11,724

 

 

$

532,386

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

(7,602

)

 

 

 

 

 

(7,602

)

Other comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

6,025

 

 

 

6,025

 

Issuance of restricted stock

 

 

7,424

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Withholding cash issued in lieu of

   restricted stock issuance

 

 

 

 

 

 

 

 

(48

)

 

 

 

 

 

 

 

 

(48

)

Employee stock purchase program

 

 

25,161

 

 

 

 

 

 

232

 

 

 

 

 

 

 

 

 

232

 

Stock option exercises

 

 

30,642

 

 

 

 

 

 

258

 

 

 

 

 

 

 

 

 

258

 

Stock option based compensation expense

 

 

 

 

 

 

 

 

366

 

 

 

 

 

 

 

 

 

366

 

Restricted stock expense

 

 

 

 

 

 

 

 

2,542

 

 

 

 

 

 

 

 

 

2,542

 

Non-voting common stock converted to

   voting common stock in private sale

 

 

200,000

 

 

 

(200,000

)

 

 

 

 

 

 

 

 

 

 

 

 

Cumulative effect of accounting change for

   Accounting Standards Update 2016-13

 

 

 

 

 

 

 

 

 

 

 

822

 

 

 

 

 

 

822

 

Cash dividends ($0.03 per share)

 

 

 

 

 

 

 

 

 

 

 

(1,209

)

 

 

 

 

 

(1,209

)

Balance at March 31, 2020

 

 

37,664,670

 

 

 

2,715,531

 

 

$

343,747

 

 

$

172,276

 

 

$

17,749

 

 

$

533,772

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at December 31, 2018

 

 

35,512,262

 

 

 

4,643,530

 

 

$

328,113

 

 

$

167,124

 

 

$

(1,677

)

 

$

493,560

 

Net income

 

 

 

 

 

 

 

 

 

 

 

2,372

 

 

 

 

 

 

2,372

 

Other comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2,670

 

 

 

2,670

 

Issuance of restricted stock

 

 

2,140

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Withholding cash issued in lieu of

   restricted stock issuance

 

 

 

 

 

 

 

 

(5

)

 

 

 

 

 

 

 

 

(5

)

Employee stock purchase program

 

 

14,059

 

 

 

 

 

 

182

 

 

 

 

 

 

 

 

 

182

 

Stock option exercises

 

 

3,088

 

 

 

 

 

 

14

 

 

 

 

 

 

 

 

 

14

 

Stock option based compensation expense

 

 

 

 

 

 

 

 

470

 

 

 

 

 

 

 

 

 

470

 

Restricted stock expense

 

 

 

 

 

 

 

 

2,388

 

 

 

 

 

 

 

 

 

2,388

 

Cumulative effect of accounting change for

   Accounting Standards Update 2016-02

 

 

 

 

 

 

 

 

 

 

 

(66

)

 

 

 

 

 

(66

)

Cash dividends ($0.03 per share)

 

 

 

 

 

 

 

 

 

 

 

(1,205

)

 

 

 

 

 

(1,205

)

Balance at March 31, 2019

 

 

35,531,549

 

 

 

4,643,530

 

 

$

331,162

 

 

$

168,225

 

 

$

993

 

 

$

500,380

 

 

See Notes to Unaudited Condensed Consolidated Financial Statements

 

 

4


 

Live Oak Bancshares, Inc.

Condensed Consolidated Statements of Cash Flows

For the three months ended March 31, 2020 and 2019 (unaudited)

(Dollars in thousands)

 

 

 

Three Months Ended

March 31,

 

 

 

2020

 

 

2019

 

Cash flows from operating activities

 

 

 

 

 

 

 

 

Net (loss) income

 

$

(7,602

)

 

$

2,372

 

Adjustments to reconcile net (loss) income to net cash used by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

5,621

 

 

 

4,034

 

Provision for loan and lease credit losses

 

 

11,792

 

 

 

3,031

 

Amortization of premium on securities, net of accretion

 

 

269

 

 

 

105

 

Deferred tax expense (benefit)

 

 

1,264

 

 

 

(632

)

Originations of loans held for sale

 

 

(274,678

)

 

 

(206,440

)

Proceeds from sales of loans held for sale

 

 

203,340

 

 

 

80,931

 

Net gains on sale of loans held for sale

 

 

(11,112

)

 

 

(4,198

)

Net loss on sale of foreclosed assets

 

 

49

 

 

 

 

Net loss (gain) on loans accounted for under fair value option

 

 

10,638

 

 

 

(2,083

)

Net decrease in servicing assets

 

 

1,833

 

 

 

3,317

 

Loss (gain) on sale of securities available-for-sale

 

 

79

 

 

 

(5

)

Net gain on disposal of long-lived asset

 

 

 

 

 

(357

)

Net loss on disposal of property and equipment

 

 

38

 

 

 

 

Equity method investments (income) loss

 

 

2,478

 

 

 

2,014

 

Equity security investments losses (gains), net

 

 

64

 

 

 

(103

)

Stock option based compensation expense

 

 

366

 

 

 

470

 

Restricted stock expense

 

 

2,542

 

 

 

2,388

 

Stock based compensation expense tax shortfall

 

 

(34

)

 

 

(8

)

Changes in assets and liabilities:

 

 

 

 

 

 

 

 

Lease right-of-use assets and liabilities, net

 

 

(12

)

 

 

114

 

Other assets

 

 

(31,962

)

 

 

7,867

 

Other liabilities

 

 

(6,493

)

 

 

(605

)

Net cash used by operating activities

 

 

(91,520

)

 

 

(107,788

)

Cash flows from investing activities

 

 

 

 

 

 

 

 

Purchases of securities available-for-sale

 

 

(52,757

)

 

 

(198,384

)

Proceeds from sales, maturities, calls, and principal paydown of

   securities available-for-sale

 

 

26,214

 

 

 

12,548

 

Proceeds from SBA reimbursement/sale of foreclosed assets

 

 

613

 

 

 

393

 

Loan and lease originations and principal collections, net

 

 

(152,559

)

 

 

(113,064

)

Proceeds from sale of long-lived asset

 

 

 

 

 

10,895

 

Purchases of premises and equipment, net

 

 

(737

)

 

 

(13,315

)

Net cash used by investing activities

 

 

(179,226

)

 

 

(300,927

)

 

See Notes to Unaudited Condensed Consolidated Financial Statements

5


 

Live Oak Bancshares, Inc.

Condensed Consolidated Statements of Cash Flows (Continued)

For the three months ended March 31, 2020 and 2019 (unaudited)

(Dollars in thousands)

 

 

Three Months Ended

March 31,

 

 

 

2020

 

 

2019

 

Cash flows from financing activities

 

 

 

 

 

 

 

 

Net increase in deposits

��

$

413,026

 

 

$

378,822

 

Proceeds from borrowings

 

 

50,000

 

 

 

 

Repayment of borrowings

 

 

(2

)

 

 

(49

)

Stock option exercises

 

 

258

 

 

 

14

 

Employee stock purchase program

 

 

232

 

 

 

182

 

Withholding cash issued in lieu of restricted stock

 

 

(48

)

 

 

(5

)

Shareholder dividend distributions

 

 

(1,209

)

 

 

(1,205

)

Net cash provided by financing activities

 

 

462,257

 

 

 

377,759

 

Net increase (decrease) in cash and cash equivalents

 

 

191,511

 

 

 

(30,956

)

Cash and cash equivalents, beginning

 

 

223,539

 

 

 

316,823

 

Cash and cash equivalents, ending

 

$

415,050

 

 

$

285,867

 

 

 

 

 

 

 

 

 

 

Supplemental disclosures of cash flow information

 

 

 

 

 

 

 

 

Interest paid

 

$

23,858

 

 

$

17,837

 

Income tax paid (received)

 

 

362

 

 

 

(13,654

)

 

 

 

 

 

 

 

 

 

Supplemental disclosures of noncash operating, investing, and financing activities

 

 

 

 

 

 

 

 

Unrealized holding gains on available-for-sale securities, net of taxes

 

$

6,025

 

 

$

2,670

 

Transfers from loans and leases to foreclosed real estate and other repossessions

 

 

1,764

 

 

 

707

 

Net transfers between foreclosed real estate and SBA receivable

 

 

30

 

 

 

 

Right-of-use assets obtained in exchange for lessee operating lease liabilities

 

 

 

 

 

2,241

 

Transfer of loans held for sale to loans and leases held for investment

 

 

35,233

 

 

 

50,055

 

Transfer of loans and leases held for investment to loans held for sale

 

 

2,949

 

 

 

8,845

 

 

See Notes to Unaudited Condensed Consolidated Financial Statements

 

 

6


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Note 1. Basis of Presentation

Nature of Operations

Live Oak Bancshares, Inc. (the “Company” or “LOB”) is a bank holding company headquartered in Wilmington, North Carolina incorporated under the laws of North Carolina in December 2008. The Company conducts business operations primarily through its commercial bank subsidiary, Live Oak Banking Company (the “Bank”).  The Bank was organized and incorporated under the laws of the State of North Carolina on February 25, 2008 and commenced operations on May 12, 2008.  The Bank specializes in providing lending services to small businesses nationwide. The Bank identifies and grows lending to credit-worthy borrowers both within specific industries, also called verticals, through expertise within those industries, and more broadly to select borrowers outside of those industries. A significant portion of the loans originated by the Bank are guaranteed by the Small Business Administration (“SBA”) under the 7(a) Loan Program and the U.S. Department of Agriculture ("USDA") Rural Energy for America Program ("REAP"), Water and Environmental Program (“WEP”) and Business & Industry ("B&I") loan programs.  

 

The Bank’s wholly owned subsidiaries are Live Oak Number One, Inc., Live Oak Clean Energy Financing LLC (“LOCEF”), and Live Oak Private Wealth, LLC.  

 

The Company’s wholly owned subsidiaries are the Bank, Government Loan Solutions (“GLS”), Live Oak Grove, LLC (“the Grove”), Live Oak Ventures, Inc. (“Live Oak Ventures”), and Canapi Advisors, LLC (“Canapi”).

 

Live Oak Number One, Inc. holds properties foreclosed on by the Bank. GLS is a management and technology consulting firm that advises and offers solutions and services to participants in the government guaranteed lending sector. GLS primarily provides services in connection with the settlement, accounting, and securitization processes for government guaranteed loans, including loans originated under the SBA 7(a) loan programs and USDA guaranteed loans. The Grove provides Company employees and business visitors an on-site restaurant location. Live Oak Ventures’ purpose is investing in businesses that align with the Company's strategic initiative to be a leader in financial technology.  LOCEF provides financing to entities for renewable energy applications and became a wholly owned subsidiary of the Bank during the first quarter of 2019. Live Oak Private Wealth, LLC provides high-net-worth individuals and families with strategic wealth and investment management services. Canapi provides investment advisory services to a series of new funds focused on providing venture capital to new and emerging financial technology companies.

 

The Company jointly formed 504 Fund Advisors, LLC (“504FA”) to serve as the investment adviser for the 504 Fund, a closed-end mutual fund organized to invest in SBA section 504 loans.  504FA exited as advisor for the 504 Fund in May 2019 and the Company subsequently dissolved this legal entity.

The Company generates revenue primarily from net interest income and secondarily through the origination and sale of government guaranteed loans.  Income from the retention of loans is comprised of interest income.  The Company elects to account for certain loans under the fair value option with interest reported in interest income and changes in fair value reported in the net (loss) gain on loans accounted for under the fair value option line item of the consolidated statements of income.  Income from the sale of loans is comprised of loan servicing revenue and revaluation of related servicing assets along with net gains on sales of loans. Offsetting these revenues are the cost of funding sources, provision for loan and lease credit losses, any costs related to foreclosed assets and other operating costs such as salaries and employee benefits, travel, professional services, advertising and marketing and tax expense.

 


7


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

General

In the opinion of management, all adjustments necessary for a fair presentation of the financial position and results of operations for the periods presented have been included, and all intercompany transactions have been eliminated in consolidation. Results of operations for the three months ended March 31, 2020 are not necessarily indicative of the results of operations that may be expected for the year ending December 31, 2020. The condensed consolidated balance sheet as of December 31, 2019 has been derived from the audited consolidated financial statements contained in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019, filed with the Securities Exchange Commission on February 27, 2020 (SEC File No. 001-37497) (the "2019 Annual Report"). A summary description of the significant accounting policies followed by the Company is set forth in Note 1 of the Notes to Consolidated Financial Statements in the Company’s 2019 Annual Report. These unaudited interim condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and footnotes in the Company's 2019 Annual Report.

The preparation of financial statements in conformity with United States generally accepted accounting principles, or GAAP, requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and the reported amounts of revenues and expenses during the reporting period. Actual results could differ significantly from those estimates.

Amounts in all tables in the Notes to Unaudited Condensed Consolidated Financial Statements have been presented in thousands, except percentage, time period, stock option, share and per share data or where otherwise indicated.

Business Segments

Management has determined that the Company has one significant operating segment, which is providing a lending platform for small businesses nationwide. In determining the appropriateness of segment definition, the Company considers the materiality of a potential segment, the components of the business about which financial information is available, and components for which management regularly evaluates relative to resource allocation and performance assessment.

Reclassifications

Certain reclassifications have been made to the prior period’s consolidated financial statements to place them on a comparable basis with the current year. Net income and shareholders’ equity previously reported were not affected by these reclassifications.  Current period reclassifications were primarily related to fair value presentation requirements for loans in which the fair value option had previously been elected and included a reclassification of amounts representing the credit component of the fair value discount that was previously reported as a component of the allowance for credit losses on loans and leases to be netted directly against loans and leases held for investment on the Company’s consolidated balance sheet.  Amounts reclassified from the allowance for credit losses on loans and leases to net directly against total loans and leases held for investment was $20.0 million, as of December 31, 2019. In addition, the change in the credit component of the fair value discount was previously reported in the provision for loan and lease credit losses while the change in the liquidity component of the fair value discount was previously reported in the loan servicing asset revaluation in the consolidated statements of income, but both have now been reclassified to net (loss) gain on loans accounted for under the fair value option.  Amounts reclassified from the provision for loan and lease credit losses and the loan servicing asset revaluation to net (loss) gain on loans accounted for under the fair value option were $(289) thousand and $(1.8) million, respectively, for the quarter ended March 31, 2019.


8


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The effect of the above discussed reclassifications on the consolidated balance sheets, consolidated statements of income, and consolidated statements of cash flows for each period are presented below, with additional parenthetical disclosures added:

 

 

As Reported

 

 

Reclassifications

 

 

As Reclassified

 

Consolidated Balance Sheet as of December 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

Loans held for sale

 

$

966,447

 

 

$

 

 

$

966,447

 

Loans and leases held for investment

 

 

2,647,299

 

 

 

(20,013

)

 

 

2,627,286

 

Allowance for credit losses on loans and leases

 

 

(48,247

)

 

 

20,013

 

 

 

(28,234

)

Net loans and leases

 

 

2,599,052

 

 

 

 

 

 

2,599,052

 

Total assets

 

 

4,814,970

 

 

 

 

 

 

4,814,970

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated Statement of Income for the three months ended

   March 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

Provision for loan and lease credit losses

 

$

2,742

 

 

$

289

 

 

$

3,031

 

Net interest income after provision for loan and lease credit losses

 

 

27,863

 

 

 

(289

)

 

 

27,574

 

Loan servicing asset revaluation

 

 

(2,246

)

 

 

(1,794

)

 

 

(4,040

)

Net (loss) gain on loans accounted for under the fair value option

 

 

 

 

 

2,083

 

 

 

2,083

 

Total noninterest income

 

 

13,027

 

 

 

289

 

 

 

13,316

 

Net income

 

 

2,372

 

 

 

 

 

 

2,372

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated Statement of Cash Flows for the three months ended

   March 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

Provision for loan and lease credit losses

 

$

2,742

 

 

$

289

 

 

$

3,031

 

Net decrease in servicing assets

 

 

3,317

 

 

 

 

 

 

3,317

 

Change in discount on unguaranteed loans

 

 

(1,319

)

 

 

1,319

 

 

 

 

Net loss (gain) on loans accounted for under fair value option

 

 

 

 

 

(2,083

)

 

 

(2,083

)

Net cash used by operating activities

 

 

(107,313

)

 

 

(475

)

 

 

(107,788

)

Loan and lease originations and principal collections, net

 

 

(113,539

)

 

 

475

 

 

 

(113,064

)

Net cash used by investing activities

 

 

(301,402

)

 

 

475

 

 

 

(300,927

)

Adoption of New Accounting Standard

On January 1, 2020, the Company adopted Accounting Standards Update (“ASU”) No. 2016-13 “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” (“ASU 2016-13”) along with its amendments, which replaces the incurred loss impairment methodology in current standards with the current expected credit loss methodology (“CECL”) and requires consideration of a broader range of information to determine credit loss estimates.  ASU 2016-13 requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts and requires enhanced disclosures related to the significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. In addition, ASU 2016-13 amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration.  One such change is to require credit losses to be presented as an allowance rather than as a write-down on available-for-sale debt securities management does not intend to sell.

The Company adopted Accounting Standards Codification (“ASC”) 326 using the modified retrospective method for all financial assets measured at amortized cost and off-balance-sheet credit exposures. Results for reporting periods beginning after January 1, 2020 are presented under ASC 326 while prior period amounts continue to be reported in accordance with previously applicable GAAP. The Company recorded a net increase to retained earnings of $822 thousand, comprised of a $1.3 million decrease in the allowance for credit losses combined with a $499 thousand increase in reserve on unfunded commitments, as of January 1, 2020 for the cumulative effect of adopting ASC 326.


9


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Allowance for Credit Losses – Loans and Leases Held for Investment

The allowance for credit losses (“ACL”) is a valuation account that is deducted from, or added to, the amortized cost basis of loans and leases to present a net amount expected to be collected. The ACL excludes loans held for sale and loans accounted for under the fair value option. Loans and leases are charged-off against the ACL when management believes the uncollectibility of a loan or lease balance is confirmed. Expected recoveries do not exceed the aggregate of amounts previously charged-off and expected to be charged-off.

The Company’s ACL on loans and leases is estimated using relevant information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. The Company’s historical credit loss experience provides the basis for the estimation of expected credit losses. Management adjusts historical loss information for differences in current risk characteristics such as portfolio risk grading, delinquency levels, or portfolio mix as well as for changes in environmental conditions such as changes in unemployment rates.  

The ACL is measured on a pooled basis when similar risk characteristics are present in the portfolio. The Company has identified portfolio segments based on industry and whether the receivable is secured by real estate or another form of collateral. Additional information related to the portfolio segments can be found in the Company’s 2019 Form 10-K. Expected credit losses for pooled loans and leases are estimated using a discounted cash flow (“DCF”) methodology.

Loans or leases that do not share risk characteristics are evaluated on an individual basis and are excluded from the pooled evaluation. This generally occurs when, based on current information and events, it is probable that the Company will be unable to collect all interest and principal payments due according to the originally contracted, or reasonably modified, terms of the loan or lease agreement. The Company has determined that loans and leases meeting the criteria defined below must be reviewed quarterly to determine if they should be evaluated for expected credit losses on an individual basis.

 

All commercial loans and leases classified substandard or worse.

 

Any loan or lease that is on nonaccrual, or any loan or lease that is delinquent greater than 90 days past due and still accruing interest.

 

Any loan or lease that it meets the definition of a troubled debt restructuring (“TDR”).

Expected credit losses are estimated over the contractual term of the loan or lease, adjusted for expected prepayments when appropriate. The contractual term excludes expected extensions, renewals, and modifications unless management has a reasonable expectation at the reporting date that a TDR will be executed with an individual borrower or the extension or renewal options are included in the contract at the reporting date and are not unconditionally cancellable by the Company.  

When the ACL, for pooled or individually evaluated loans and leases, is estimated using the DCF method, the effective interest rate used to discount expected cash flows is adjusted for expected prepayments.

Past due status of loans and leases is determined based on contractual terms. Loans and leases are placed in nonaccrual status and interest accrual is discontinued if they become 90 days delinquent or there is evidence that the borrower’s ability to make the required payments is impaired. When interest accrual is discontinued, all unpaid accrued interest is reversed.  Management has made the accounting policy election to exclude accrued interest receivable on loans from the estimate of credit losses.

A loan or lease is accounted for as a TDR if the Company, for reasons related to the borrower’s financial difficulties, restructures a loan or lease, and grants a concession to the borrower that it would not otherwise grant. A TDR typically involves a more than short-term modification of terms such as a reduction of the interest rate below the current market rate for a loan or lease with similar risk characteristics or the waiving of certain financial covenants without corresponding offsetting compensation or additional support.

When management determines that foreclosure is probable or when the borrower is experiencing financial difficulty at the reporting date and repayment is expected to be provided substantially through the operation or sale of the collateral, expected credit losses are based on the fair value of the collateral at the reporting date, adjusted for selling costs as appropriate.


10


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Allowance for Credit Losses – Off-Balance Sheet Credit Exposures

Expected credit losses on off-balance sheet credit exposures is estimated over the contractual period in which the Company is exposed to such losses, unless the obligation to extend credit is unconditionally cancellable. The estimate of off-balance sheet credit exposures includes consideration of the likelihood that funding will occur and an estimate of expected credit losses on commitments expected to be funded over its estimated losses. The estimate is influenced by historical loss experience, adjusted for current risk characteristics, and economic forecasts.

Allowance for Credit Losses – Available-for-Sale Securities

When available-for-sale debt securities are in an unrealized loss position, the Company first assesses whether it intends to sell, or it is more likely than not that it will be required to sell the security before recovery of its amortized cost basis.  If either of the criteria regarding intent or requirement to sell is met, the security’s amortized cost basis is written down to fair value through income. Available-for-sale debt securities that do not meet the aforementioned criteria are evaluated to determine whether the decline in fair value has resulted from credit losses or other factors. In making this assessment, management considers the extent to which fair value is less than amortized cost, any changes to the rating of the security by a rating agency, and adverse conditions specifically related to the security, among other factors. If this assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security are compared to the amortized cost basis of the security. If the present value of cash flows expected to be collected from the security is less than the amortized cost basis, a credit loss exists and an ACL is recorded for the credit loss, limited by the amount that the fair value is less than the amortized cost basis. Any impairment that has not been recorded through an allowance for credit losses is recognized in other comprehensive income. Changes in the ACL are recorded as provision for (or reversal of) credit loss expense. Losses are charged against the allowance when management believes the uncollectibility of an available-for-sale security is confirmed or when either of the criteria regarding intent or requirement to sell is met.  Management has made the accounting policy election to exclude accrued interest receivable on available-for-sale debt securities from the estimate of credit losses.  Available-for-sale securities are charged-off against the allowance or, in the absence of any allowance, written down through income when deemed uncollectible by management or when either of the aforementioned criteria regarding intent or requirement to sell is met.

Common Stock

On March 15, 2020, the Board of Directors of the Company authorized the repurchase of up to $20,000,000 in shares of the Company’s voting common stock from time to time through December 31, 2020 (the “Repurchase Program”). The Repurchase Program enables the Company to acquire shares through open market purchases or privately negotiated transactions, including through a Rule 10b5-1 plan, at the discretion of management and on terms (including quantity, timing, and price) that management determines to be advisable. Actions in connection with the repurchase program will be subject to various factors, including the Company’s capital and liquidity positions, regulatory and accounting considerations, the Company’s financial and operational performance, alternative uses of capital, the trading price of the Company’s common stock, and market conditions. The repurchase program does not obligate the Company to acquire a specific dollar amount or number of shares and may be extended, modified, or discontinued at any time. There were 0 shares repurchased during the three months ended March 31, 2020.

 

Note 2. Recent Accounting Pronouncements

In August 2018, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement” (“ASU 2018-13”). ASU 2018-13 removes, modifies and adds certain fair value disclosure requirements on fair value measurements. The Company adopted the standard on January 1, 2020 with no material effect on its consolidated financial statements.

In August 2018, the FASB issued ASU No. 2018-15, “Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract” (“ASU 2018-15”). ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The Company adopted the standard on January 1, 2020 with no material effect on its consolidated financial statements.


11


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

In March 2019, the FASB issued ASU No. 2019-01, “Leases (Topic 842): Codification Improvements” (“ASU 2019-01”). ASU 2019-01 provides updates to Topic 842 including: (i) guidance on how to determine fair value of leased items for lessors who are not dealers or manufacturers, (ii) cash flow presentation for lessors of sales-type and direct financing leases and (iii) clarifies certain transition disclosures. The Company adopted the standard on January 1, 2020 with no material effect on its consolidated financial statements.

In April 2019, the FASB issued ASU No. 2019-04, “Codification Improvements to Topic 326, Financial Instruments-Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments” (“ASU 2019-04”). ASU 2019-04 provides clarification and minor improvements related to ASU 2016-01 “Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities,” ASU 2016-13 “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” and ASU 2017-12 “Derivatives and Hedging (Topic 815) - Targeted Improvements to Accounting for Hedging Activities.” The Company adopted the standard on January 1, 2020 with no material effect on its consolidated financial statements.

In January 2020, the FASB issued ASU No. 2020-01, “Investments-Equity Securities (Topic 321), Investments-Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815)-Clarifying the Interactions between Topic 321, Topic 323, and Topic 815” (“ASU 2020-01”).  ASU 2020-01 clarifies the interaction between accounting standards related to equity securities, equity method investments, and certain derivatives including accounting for the transition into and out of the equity method and measuring certain purchased options and forward contracts to acquire investments. The amendments in this standard will be effective for the Company on January 1, 2021. The Company does not expect this standard to have a material effect on its consolidated financial statements.

In March 2020, the FASB issued ASU No. 2020-03, “Codification Improvements to Financial Instruments” (“ASU 2020-03”).  The amendments represent clarification and improvements to the codification and correct unintended application. This standard was effective immediately upon issuance and its adoption did not have a material effect on the Company’s consolidated financial statements.

In March 2020, the FASB issued ASU No. 2020-04 “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting” (“ASU 2020-04”).  ASU 2020-04 provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. The amendments are effective for the Company as of March 12, 2020 through December 31, 2022. The Company does not believe this standard will have a material impact on its consolidated financial statements.

Note 3. Earnings Per Share

Basic and diluted earnings per share are computed based on the weighted average number of shares outstanding during each period. Diluted earnings per share reflects the potential dilution that could occur, upon the exercise of stock options or upon the vesting of restricted stock grants, any of which would result in the issuance of common stock that would then be shared in the net income of the Company.

 

 

Three Months Ended

March 31,

 

 

 

2020

 

 

2019

 

Basic (loss) earnings per share:

 

 

 

 

 

 

 

 

Net (loss attributable to) income available to common shareholders

 

$

(7,602

)

 

$

2,372

 

Weighted-average basic shares outstanding

 

 

40,334,179

 

 

 

40,160,118

 

Basic (loss) earnings per share

 

$

(0.19

)

 

$

0.06

 

Diluted (loss) earnings per share:

 

 

 

 

 

 

 

 

Net (loss attributable to) income available to common shareholders,

   for diluted (loss) earnings per share

 

$

(7,602

)

 

$

2,372

 

Total weighted-average basic shares outstanding

 

 

40,334,179

 

 

 

40,160,118

 

Add effect of dilutive stock options and restricted stock grants

 

 

739,870

 

 

 

761,705

 

Total weighted-average diluted shares outstanding

 

 

41,074,049

 

 

 

40,921,823

 

Diluted (loss) earnings per share

 

$

(0.19

)

 

$

0.06

 

Anti-dilutive shares

 

 

1,839,601

 

 

 

1,597,589

 

 

12


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 4. Investment Securities

The carrying amount of investment securities and their approximate fair values are reflected in the following table:

 

March 31, 2020

 

Amortized

Cost

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Allowance for Credit Losses

 

 

Fair

Value

 

US treasury securities

 

$

4,992

 

 

$

51

 

 

$

 

 

$

 

 

$

5,043

 

US government agencies

 

 

22,444

 

 

 

635

 

 

 

 

 

 

 

 

 

23,079

 

Mortgage-backed securities

 

 

514,899

 

 

 

22,950

 

 

 

558

 

 

 

 

 

 

537,291

 

Municipal bonds

 

 

8,479

 

 

 

283

 

 

 

7

 

 

 

 

 

 

8,755

 

Total

 

$

550,814

 

 

$

23,919

 

 

$

565

 

 

$

 

 

$

574,168

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

US treasury securities

 

$

4,988

 

 

$

27

 

 

$

 

 

$

 

 

$

5,015

 

US government agencies

 

 

22,444

 

 

 

335

 

 

 

 

 

 

 

 

 

22,779

 

Mortgage-backed securities

 

 

488,694

 

 

 

15,530

 

 

 

927

 

 

 

 

 

 

503,297

 

Municipal bonds

 

 

8,493

 

 

 

469

 

 

 

8

 

 

 

 

 

 

8,954

 

Total

 

$

524,619

 

 

$

16,361

 

 

$

935

 

 

$

 

 

$

540,045

 

 

During the three months ended March 31, 2020, 2 mortgage-backed securities totaling $4.5 million were sold resulting in a net loss of $79 thousand. During the three months ended March 31, 2019, $900 thousand of 1 municipal bond was sold resulting in a net gain of $5 thousand.

 

Accrued interest receivable on available-for-sale securities totaled $1.8 million and $1.6 million at March 31, 2020 and December 31, 2019, respectively, and is included in other assets in the accompanying consolidated balance sheet.

The following tables show debt securities available-for-sale in an unrealized loss position for which an allowance for credit losses has not been recorded, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position.

 

 

 

Less Than 12 Months

 

 

12 Months or More

 

 

Total

 

March 31, 2020

 

Fair

Value

 

 

Unrealized

Losses

 

 

Fair

Value

 

 

Unrealized

Losses

 

 

Fair

Value

 

 

Unrealized

Losses

 

Mortgage-backed securities

 

$

36,320

 

 

$

213

 

 

$

25,032

 

 

$

345

 

 

$

61,352

 

 

$

558

 

Municipal bonds

 

 

 

 

 

 

 

 

93

 

 

 

7

 

 

 

93

 

 

 

7

 

Total

 

$

36,320

 

 

$

213

 

 

$

25,125

 

 

$

352

 

 

$

61,445

 

 

$

565

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Less Than 12 Months

 

 

12 Months or More

 

 

Total

 

December 31, 2019

 

Fair

Value

 

 

Unrealized

Losses

 

 

Fair

Value

 

 

Unrealized

Losses

 

 

Fair

Value

 

 

Unrealized

Losses

 

Mortgage-backed securities

 

$

42,835

 

 

$

460

 

 

$

36,518

 

 

$

467

 

 

$

79,353

 

 

$

927

 

Municipal bonds

 

 

 

 

 

 

 

 

92

 

 

 

8

 

 

 

92

 

 

 

8

 

Total

 

$

42,835

 

 

$

460

 

 

$

36,610

 

 

$

475

 

 

$

79,445

 

 

$

935

 

 

Management evaluates available-for-sale debt securities to determine whether the unrealized loss is due to credit related factors or non-credit related factors. The evaluation considers the extent to which the security’s fair value is less than cost, the financial condition and near-term prospects of the issuer, and intent and ability of the Company to retain its investment in the security for a period of time sufficient to allow for any anticipated recovery in fair value.

 

At March 31, 2020, there were 15 mortgage-backed securities and 1 municipal bond in unrealized loss positions for greater than 12 months and 12 mortgage-backed securities in unrealized loss positions for less than 12 months. Unrealized losses at December 31, 2019 were comprised of NaN mortgage-backed securities and 1 municipal bond in unrealized loss positions for greater than 12 months and 20 mortgage-backed securities in unrealized loss positions for less than 12 months.

13


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

These unrealized losses are primarily the result of non-credit related volatility in the market and market interest rates. Since none of the unrealized losses relate to marketability of the securities or the issuer’s ability to honor redemption obligations and the Company has the intent and ability to hold the securities for a sufficient period of time to recover unrealized losses, NaN of the losses have been recognized in the Company’s consolidated statements of income.

All mortgage-backed securities in the Company’s portfolio at March 31, 2020 and December 31, 2019 were backed by U.S. government sponsored enterprises (“GSEs”).

The following is a summary of investment securities by maturity:

 

 

 

March 31, 2020

 

 

 

Amortized

cost

 

 

Fair

value

 

US treasury securities

 

 

 

 

 

 

 

 

Within one year

 

$

4,992

 

 

$

5,043

 

Total

 

 

4,992

 

 

 

5,043

 

US government agencies

 

 

 

 

 

 

 

 

Within one year

 

 

7,007

 

 

 

7,070

 

One to five years

 

 

12,518

 

 

 

12,901

 

Five to ten years

 

 

2,919

 

 

 

3,108

 

Total

 

 

22,444

 

 

 

23,079

 

Mortgage-backed securities

 

 

 

 

 

 

 

 

One to five years

 

 

4,700

 

 

 

4,853

 

Five to ten years

 

 

178,652

 

 

 

191,718

 

After 10 years

 

 

331,547

 

 

 

340,720

 

Total

 

 

514,899

 

 

 

537,291

 

Municipal bonds

 

 

 

 

 

 

 

 

After 10 years

 

 

8,479

 

 

 

8,755

 

Total

 

 

8,479

 

 

 

8,755

 

 

 

 

 

 

 

 

 

 

Total

 

$

550,814

 

 

$

574,168

 

The table above reflects contractual maturities. Actual results will differ as the loans underlying the mortgage-backed securities may repay sooner than scheduled.

There were 0 securities pledged at March 31, 2020 or December 31, 2019.

 

 


14


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 5. Loans and Leases Held for Investment and Credit Quality

The following tables present total loans and leases and an aging analysis for the Company’s portfolio segments. Loans and leases are considered past due if the required principal and interest payments have not been received as of the date such payments were due.

 

 

 

Current or Less than 30 Days Past Due

 

 

30-89 Days

Past Due

 

 

90 Days or More Past Due

 

 

Total Past Due

 

 

Total Carried at Amortized Cost1

 

 

Loans Accounted for Under the Fair Value Option2

 

 

Total Loans and Leases

 

March 31, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

$

10,370

 

 

$

1

 

 

$

 

 

$

1

 

 

$

10,371

 

 

$

361

 

 

$

10,732

 

Funeral Home & Cemetery

 

 

15,092

 

 

 

 

 

 

 

 

 

 

 

 

15,092

 

 

 

12,036

 

 

 

27,128

 

Healthcare

 

 

26,877

 

 

 

1,719

 

 

 

1,322

 

 

 

3,041

 

 

 

29,918

 

 

 

19,826

 

 

 

49,744

 

Independent Pharmacies

 

 

25,320

 

 

 

 

 

 

 

 

 

 

 

 

25,320

 

 

 

78,540

 

 

 

103,860

 

Registered Investment Advisors

 

 

40,269

 

 

 

 

 

 

 

 

 

 

 

 

40,269

 

 

 

58,016

 

 

 

98,285

 

Veterinary Industry

 

 

31,336

 

 

 

481

 

 

 

 

 

 

481

 

 

 

31,817

 

 

 

20,643

 

 

 

52,460

 

Other Industries

 

 

442,930

 

 

 

10,271

 

 

 

5,637

 

 

 

15,908

 

 

 

458,838

 

 

 

172,072

 

 

 

630,910

 

Total

 

 

592,194

 

 

 

12,472

 

 

 

6,959

 

 

 

19,431

 

 

 

611,625

 

 

 

361,494

 

 

 

973,119

 

Construction & Development

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

45,333

 

 

 

 

 

 

 

 

 

 

 

 

45,333

 

 

 

 

 

 

45,333

 

Funeral Home & Cemetery

 

 

9,146

 

 

 

 

 

 

 

 

 

 

 

 

9,146

 

 

 

 

 

 

9,146

 

Healthcare

 

 

97,404

 

 

 

3,387

 

 

 

 

 

 

3,387

 

 

 

100,791

 

 

 

 

 

 

100,791

 

Independent Pharmacies

 

 

720

 

 

 

 

 

 

 

 

 

 

 

 

720

 

 

 

 

 

 

720

 

Registered Investment Advisors

 

 

2,564

 

 

 

 

 

 

 

 

 

 

 

 

2,564

 

 

 

 

 

 

2,564

 

Veterinary Industry

 

 

20,862

 

 

 

 

 

 

 

 

 

 

 

 

20,862

 

 

 

 

 

 

20,862

 

Other Industries

 

 

193,181

 

 

 

 

 

 

 

 

 

 

 

 

193,181

 

 

 

 

 

 

193,181

 

Total

 

 

369,210

 

 

 

3,387

 

 

 

 

 

 

3,387

 

 

 

372,597

 

 

 

 

 

 

372,597

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

1,291

 

 

 

 

 

 

 

 

 

 

 

 

1,291

 

 

 

762

 

 

 

2,053

 

Funeral Home & Cemetery

 

 

58,699

 

 

 

 

 

 

 

 

 

 

 

 

58,699

 

 

 

58,611

 

 

 

117,310

 

Healthcare

 

 

140,375

 

 

 

 

 

 

4,498

 

 

 

4,498

 

 

 

144,873

 

 

 

107,437

 

 

 

252,310

 

Independent Pharmacies

 

 

8,609

 

 

 

 

 

 

822

 

 

 

822

 

 

 

9,431

 

 

 

17,182

 

 

 

26,613

 

Registered Investment Advisors

 

 

2,635

 

 

 

 

 

 

 

 

 

 

 

 

2,635

 

 

 

4,591

 

 

 

7,226

 

Veterinary Industry

 

 

68,831

 

 

 

2,953

 

 

 

1,089

 

 

 

4,042

 

 

 

72,873

 

 

 

71,129

 

 

 

144,002

 

Other Industries

 

 

427,669

 

 

 

6,326

 

 

 

1,849

��

 

 

8,175

 

 

 

435,844

 

 

 

92,105

 

 

 

527,949

 

Total

 

 

708,109

 

 

 

9,279

 

 

 

8,258

 

 

 

17,537

 

 

 

725,646

 

 

 

351,817

 

 

 

1,077,463

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

268,096

 

 

 

 

 

 

2,170

 

 

 

2,170

 

 

 

270,266

 

 

 

118,115

 

 

 

388,381

 

Total

 

 

268,096

 

 

 

 

 

 

2,170

 

 

 

2,170

 

 

 

270,266

 

 

 

118,115

 

 

 

388,381

 

Total

 

$

1,937,609

 

 

$

25,138

 

 

$

17,387

 

 

$

42,525

 

 

$

1,980,134

 

 

$

831,426

 

 

$

2,811,560

 

Net Deferred Costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

5,931

 

Loan and Leases, Net of unearned

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

2,817,491

 

 

 


15


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

 

 

Current or Less than 30 Days Past Due

 

 

30-89 Days

Past Due

 

 

90 Days or More Past Due

 

 

Total Past Due

 

 

Total Carried at Amortized Cost1

 

 

Loans Accounted for Under the Fair Value Option2

 

 

Total Loans and Leases

 

December 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

$

8,941

 

 

$

 

 

$

 

 

$

 

 

$

8,941

 

 

$

396

 

 

$

9,337

 

Funeral Home & Cemetery

 

 

14,086

 

 

 

 

 

 

 

 

 

 

 

 

14,086

 

 

 

12,343

 

 

 

26,429

 

Healthcare

 

 

21,746

 

 

 

812

 

 

 

1,497

 

 

 

2,309

 

 

 

24,055

 

 

 

20,999

 

 

 

45,054

 

Independent Pharmacies

 

 

25,348

 

 

 

 

 

 

 

 

 

 

 

 

25,348

 

 

 

79,787

 

 

 

105,135

 

Registered Investment Advisors

 

 

42,421

 

 

 

 

 

 

 

 

 

 

 

 

42,421

 

 

 

56,769

 

 

 

99,190

 

Veterinary Industry

 

 

28,728

 

 

 

504

 

 

 

 

 

 

504

 

 

 

29,232

 

 

 

21,799

 

 

 

51,031

 

Other Industries

 

 

399,723

 

 

 

6,579

 

 

 

3,856

 

 

 

10,435

 

 

 

410,158

 

 

 

141,220

 

 

 

551,378

 

Total

 

 

540,993

 

 

 

7,895

 

 

 

5,353

 

 

 

13,248

 

 

 

554,241

 

 

 

333,313

 

 

 

887,554

 

Construction & Development

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

44,571

 

 

 

 

 

 

 

 

 

 

 

 

44,571

 

 

 

 

 

 

44,571

 

Funeral Home & Cemetery

 

 

9,033

 

 

 

 

 

 

 

 

 

 

 

 

9,033

 

 

 

 

 

 

9,033

 

Healthcare

 

 

94,742

 

 

 

 

 

 

 

 

 

 

 

 

94,742

 

 

 

 

 

 

94,742

 

Independent Pharmacies

 

 

443

 

 

 

 

 

 

 

 

 

 

 

 

443

 

 

 

 

 

 

443

 

Registered Investment Advisors

 

 

2,404

 

 

 

 

 

 

 

 

 

 

 

 

2,404

 

 

 

 

 

 

2,404

 

Veterinary Industry

 

 

22,132

 

 

 

 

 

 

 

 

 

 

 

 

22,132

 

 

 

 

 

 

22,132

 

Other Industries

 

 

173,993

 

 

 

 

 

 

 

 

 

 

 

 

173,993

 

 

 

 

 

 

173,993

 

Total

 

 

347,318

 

 

 

 

 

 

 

 

 

 

 

 

347,318

 

 

 

 

 

 

347,318

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

30,066

 

 

 

 

 

 

 

 

 

 

 

 

30,066

 

 

 

19,975

 

 

 

50,041

 

Funeral Home & Cemetery

 

 

53,426

 

 

 

1,817

 

 

 

 

 

 

1,817

 

 

 

55,243

 

 

 

58,171

 

 

 

113,414

 

Healthcare

 

 

125,622

 

 

 

 

 

 

4,498

 

 

 

4,498

 

 

 

130,120

 

 

 

115,887

 

 

 

246,007

 

Independent Pharmacies

 

 

8,070

 

 

 

930

 

 

 

 

 

 

930

 

 

 

9,000

 

 

 

17,013

 

 

 

26,013

 

Registered Investment Advisors

 

 

2,543

 

 

 

 

 

 

 

 

 

 

 

 

2,543

 

 

 

4,913

 

 

 

7,456

 

Veterinary Industry

 

 

65,928

 

 

 

1,727

 

 

 

1,088

 

 

 

2,815

 

 

 

68,743

 

 

 

76,154

 

 

 

144,897

 

Other Industries

 

 

361,394

 

 

 

4,585

 

 

 

 

 

 

4,585

 

 

 

365,979

 

 

 

93,537

 

 

 

459,516

 

Total

 

 

647,049

 

 

 

9,059

 

 

 

5,586

 

 

 

14,645

 

 

 

661,694

 

 

 

385,650

 

 

 

1,047,344

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

234,133

 

 

 

 

 

 

 

 

 

 

 

 

234,133

 

 

 

105,557

 

 

 

339,690

 

Total

 

 

234,133

 

 

 

 

 

 

 

 

 

 

 

 

234,133

 

 

 

105,557

 

 

 

339,690

 

Total

 

$

1,769,493

 

 

$

16,954

 

 

$

10,939

 

 

$

27,893

 

 

$

1,797,386

 

 

$

824,520

 

 

$

2,621,906

 

Net Deferred Costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

5,380

 

Loan and Leases, Net of unearned

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

2,627,286

 

 

1

Total loans and leases include $665.1 million of U.S. government guaranteed loans as of March 31, 2020, of which $12.0 million is greater than 90 days or more past due, $19.4 million is past due 30-89 days and $633.7 million are current.  Total loans and leases include $622.6 million of U.S. government guaranteed loans as of December 31, 2019, of which $6.4 million is greater than 90 days or more past due, $13.6 million is past due 30-89 days and $602.6 million are current.

2

The Company measures the carrying value of the retained portion of loans sold at fair value under ASC Subtopic 825-10. See Note 9. Fair Value of Financial Instruments for additional information.

 

16


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Credit Quality Indicators

The following tables presents asset quality indicators by portfolio segment and origination year.  See Note 5. Loans and Leases Held for Investment and Credit Quality in the Company’s 2019 Form 10-K for additional discussion around the asset quality indicators that the Company uses to manage and monitor credit risk.

 

 

 

Term Loans and Leases Amortized Cost Basis by Origination Year

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2020

 

 

2019

 

 

2018

 

 

2017

 

 

2016

 

 

Prior

 

 

Revolving Loans Amortized Cost Basis

 

 

Revolving Loans Converted to Term

 

 

Total1,2

 

March 31, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

   Risk Grades 1 - 4

 

$

71,188

 

 

$

260,917

 

 

$

68,136

 

 

$

44,091

 

 

$

12,455

 

 

$

5,108

 

 

$

99,612

 

 

$

627

 

 

$

562,134

 

   Risk Grade 5

 

 

 

 

 

6,770

 

 

 

14,554

 

 

 

31

 

 

 

 

 

 

313

 

 

 

8,201

 

 

 

79

 

 

 

29,948

 

   Risk Grades 6 - 8

 

 

 

 

 

3,300

 

 

 

10,968

 

 

 

3,852

 

 

 

 

 

 

481

 

 

 

942

 

 

 

 

 

 

19,543

 

Total

 

 

71,188

 

 

 

270,987

 

 

 

93,658

 

 

 

47,974

 

 

 

12,455

 

 

 

5,902

 

 

 

108,755

 

 

 

706

 

 

 

611,625

 

Construction & Development

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

   Risk Grades 1 - 4

 

 

18,172

 

 

 

141,380

 

 

 

138,387

 

 

 

43,656

 

 

 

11,128

 

 

 

449

 

 

 

2,175

 

 

 

 

 

 

355,347

 

   Risk Grade 5

 

 

 

 

 

 

 

 

7,788

 

 

 

8,758

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

16,546

 

   Risk Grades 6 - 8

 

 

 

 

 

 

 

 

 

 

 

704

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

704

 

Total

 

 

18,172

 

 

 

141,380

 

 

 

146,175

 

 

 

53,118

 

 

 

11,128

 

 

 

449

 

 

 

2,175

 

 

 

 

 

 

372,597

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

   Risk Grades 1 - 4

 

 

56,428

 

 

 

160,097

 

 

 

119,640

 

 

 

178,714

 

 

 

84,876

 

 

 

51,762

 

 

 

1,817

 

 

 

172

 

 

 

653,506

 

   Risk Grade 5

 

 

 

 

 

 

 

 

14,256

 

 

 

7,767

 

 

 

22,351

 

 

 

5,098

 

 

 

200

 

 

 

 

 

 

49,672

 

   Risk Grades 6 - 8

 

 

 

 

 

 

 

 

 

 

 

8,246

 

 

 

9,822

 

 

 

4,400

 

 

 

 

 

 

 

 

 

22,468

 

Total

 

 

56,428

 

 

 

160,097

 

 

 

133,896

 

 

 

194,727

 

 

 

117,049

 

 

 

61,260

 

 

 

2,017

 

 

 

172

 

 

 

725,646

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

   Risk Grades 1 - 4

 

 

5,626

 

 

 

31,404

 

 

 

54,474

 

 

 

55,682

 

 

 

66,166

 

 

 

52,576

 

 

 

 

 

 

 

 

 

265,928

 

   Risk Grade 5

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

   Risk Grades 6 - 8

 

 

 

 

 

 

 

 

4

 

 

 

 

 

 

 

 

 

4,334

 

 

 

 

 

 

 

 

 

4,338

 

Total

 

 

5,626

 

 

 

31,404

 

 

 

54,478

 

 

 

55,682

 

 

 

66,166

 

 

 

56,910

 

 

 

 

 

 

 

 

 

270,266

 

Total

 

$

151,414

 

 

$

603,868

 

 

$

428,207

 

 

$

351,501

 

 

$

206,798

 

 

$

124,521

 

 

$

112,947

 

 

$

878

 

 

$

1,980,134

 

17


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

 

 

 

 

 

 

 

 

Total1,2

 

December 31, 2019

 

 

 

 

Commercial & Industrial

 

 

 

 

   Risk Grades 1 - 4

 

$

510,508

 

   Risk Grade 5

 

 

32,462

 

   Risk Grades 6 - 8

 

 

11,271

 

Total

 

 

554,241

 

Construction & Development

 

 

 

 

   Risk Grades 1 - 4

 

 

331,135

 

   Risk Grade 5

 

 

15,477

 

   Risk Grades 6 - 8

 

 

706

 

Total

 

 

347,318

 

Commercial Real Estate

 

 

 

 

   Risk Grades 1 - 4

 

 

599,298

 

   Risk Grade 5

 

 

41,573

 

   Risk Grades 6 - 8

 

 

20,823

 

Total

 

 

661,694

 

Commercial Land

 

 

 

 

   Risk Grades 1 - 4

 

 

227,377

 

   Risk Grade 5

 

 

 

   Risk Grades 6 - 8

 

 

6,756

 

Total

 

 

234,133

 

Total

 

$

1,797,386

 

 

1

Total loans and leases include $665.1 million of U.S. government guaranteed loans as of March 31, 2020, segregated by risk grade as follows: Risk Grades 1 – 4 = $584.5 million, Risk Grade 5 = $50.0 million, Risk Grades 6 – 8 = $30.6 million. As of December 31, 2019, total loans and leases include $622.6 million of U.S. government guaranteed loans, segregated by risk grade as follows: Risk Grades 1 – 4 = $556.8 million, Risk Grade 5 = $42.7 million, Risk Grades 6 – 8 = $23.1 million. Total loans and leases exclude loans accounted for under the fair value option.

2

Excludes $831.4 million and $824.5 million of loans accounted for under the fair value option as of March 31, 2020 and December 31, 2019, respectively.    


18


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Nonaccrual Loans and Leases

As of March 31, 2020 and December 31, 2019 there were no loans greater than 90 days past due and still accruing. There was 0 interest income recognized on nonaccrual loans and leases during the three month period ended March 31, 2020 or March 31, 2019. All nonaccrual loans and leases are included in the held for investment portfolio. Accrued interest receivable on loans totaled $20.8 million and $19.8 million at March 31, 2020 and December 31, 2019, respectively, and is included in other assets in the accompany consolidated balance sheets.

Nonaccrual loans and leases as of March 31, 2020 and December 31, 2019 are as follows:

March 31, 2020

 

Loan

Balance1

 

 

Guaranteed

Balance

 

 

Unguaranteed Balance

 

 

Unguaranteed

Exposure with No ACL

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

$

1

 

 

$

1

 

 

$

 

 

$

 

Healthcare

 

 

2,099

 

 

 

1,905

 

 

 

194

 

 

 

 

Independent Pharmacies

 

 

4,424

 

 

 

3,318

 

 

 

1,106

 

 

 

 

Veterinary Industry

 

 

481

 

 

 

481

 

 

 

 

 

 

 

Other Industries

 

 

9,217

 

 

 

7,181

 

 

 

2,036

 

 

 

 

Total

 

 

16,222

 

 

 

12,886

 

 

 

3,336

 

 

 

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

4,498

 

 

 

1,254

 

 

 

3,244

 

 

 

1,841

 

Independent Pharmacies

 

 

822

 

 

 

698

 

 

 

124

 

 

 

 

Veterinary Industry

 

 

2,770

 

 

 

2,143

 

 

 

627

 

 

 

 

Other Industries

 

 

5,439

 

 

 

4,079

 

 

 

1,360

 

 

 

 

Total

 

 

13,529

 

 

 

8,174

 

 

 

5,355

 

 

 

1,841

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

4,337

 

 

 

3,405

 

 

 

932

 

 

 

32

 

Total

 

 

4,337

 

 

 

3,405

 

 

 

932

 

 

 

32

 

Total

 

$

34,088

 

 

$

24,465

 

 

$

9,623

 

 

$

1,873

 

 

 

December 31, 2019

 

Loan

Balance1

 

 

Guaranteed

Balance

 

 

Unguaranteed Balance

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

$

269

 

 

$

215

 

 

$

54

 

Healthcare

 

 

2,309

 

 

 

1,931

 

 

 

378

 

Veterinary Industry

 

 

504

 

 

 

504

 

 

 

 

Other Industries

 

 

3,856

 

 

 

2,906

 

 

 

950

 

Total

 

 

6,938

 

 

 

5,556

 

 

 

1,382

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

4,498

 

 

 

1,254

 

 

 

3,244

 

Independent Pharmacies

 

 

931

 

 

 

698

 

 

 

233

 

Veterinary Industry

 

 

2,816

 

 

 

2,178

 

 

 

638

 

Total

 

 

8,245

 

 

 

4,130

 

 

 

4,115

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

6,756

 

 

 

5,028

 

 

 

1,728

 

Total

 

 

6,756

 

 

 

5,028

 

 

 

1,728

 

Total

 

$

21,939

 

 

$

14,714

 

 

$

7,225

 

1

Excludes nonaccrual loans accounted for under the fair value option. See Note 9. Fair Value of Financial Instruments for additional information.

 

19


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The following table presents the amortized cost basis of collateral-dependent loans and leases, which are individually evaluated to determine expected credit losses, as of March 31, 2020:

 

 

 

Total Collateral Dependent Loans

 

 

Unguaranteed Portion

 

March 31, 2020

 

Real Estate

 

��

Business Assets

 

 

Other

 

 

Real Estate

 

 

Business Assets

 

 

Other

 

 

Allowance for Credit Losses

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

$

1,188

 

 

$

178

 

 

$

 

 

$

41

 

 

$

3

 

 

$

 

 

$

44

 

Independent Pharmacies

 

 

 

 

 

4,514

 

 

 

 

 

 

 

 

 

1,196

 

 

 

 

 

 

1,177

 

Other Industries

 

 

4,586

 

 

 

2,267

 

 

 

2,148

 

 

 

1,363

 

 

 

557

 

 

 

148

 

 

 

1,067

 

Total

 

 

5,774

 

 

 

6,959

 

 

 

2,148

 

 

 

1,404

 

 

 

1,756

 

 

 

148

 

 

 

2,288

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

1,821

 

 

 

 

 

 

 

 

 

1,821

 

 

 

 

 

 

 

 

 

 

Independent Pharmacies

 

 

826

 

 

 

 

 

 

 

 

 

128

 

 

 

 

 

 

 

 

 

4

 

Veterinary Industry

 

 

2,792

 

 

 

 

 

 

 

 

 

649

 

 

 

 

 

 

 

 

 

180

 

Other Industries

 

 

5,449

 

 

 

 

 

 

 

 

 

1,371

 

 

 

 

 

 

 

 

 

3

 

Total

 

 

10,888

 

 

 

 

 

 

 

 

 

3,969

 

 

 

 

 

 

 

 

 

187

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

��

 

 

 

 

Agriculture

 

 

4,359

 

 

 

 

 

 

 

 

 

952

 

 

 

 

 

 

 

 

 

328

 

Total

 

 

4,359

 

 

 

 

 

 

 

 

 

952

 

 

 

 

 

 

 

 

 

328

 

Total

 

$

21,021

 

 

$

6,959

 

 

$

2,148

 

 

$

6,325

 

 

$

1,756

 

 

$

148

 

 

$

2,803

 

Allowance for Credit Losses - Loans and Leases

On January 1, 2020 the Company adopted ASC 326.  Upon adoption, the Company’s maintains the ACL at levels management believes represents the future expected credit losses in the loan and lease portfolios as of the balance sheet date.  See Note 1. Basis of Presentation for additional information around the Company’s methodology for estimating the ACL.  See Note 1. Organization and Summary of Significant Accounting Policies and Note 5. Loans and Leases Held for Investment and Credit Quality in the Company’s 2019 Form 10-K for additional information related to the Company’s methodology for estimating the prior period allowance for credit losses under ASC 310.

The following table details activity in the ACL by portfolio segment allowance for the periods presented:

 

Three Months Ended

 

Construction &

Development

 

 

Commercial

Real Estate

 

 

Commercial

& Industrial

 

 

Commercial

Land

 

 

Total

 

March 31, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning Balance, prior to adoption of ASC 326

 

$

2,732

 

 

$

8,427

 

 

$

15,757

 

 

$

1,318

 

 

$

28,234

 

Impact of adopting ASC 326

 

 

1,131

 

 

 

1,916

 

 

 

(4,561

)

 

 

193

 

 

 

(1,321

)

Charge offs

 

 

 

 

 

(109

)

 

 

(2,345

)

 

 

(408

)

 

 

(2,862

)

Recoveries

 

 

 

 

 

28

 

 

 

35

 

 

 

 

 

 

63

 

Provision

 

 

960

 

 

 

2,848

 

 

 

7,451

 

 

 

533

 

 

 

11,792

 

Ending Balance

 

$

4,823

 

 

$

13,110

 

 

$

16,337

 

 

$

1,636

 

 

$

35,906

 

March 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning Balance

 

$

2,042

 

 

$

5,259

 

 

$

6,524

 

 

$

607

 

 

$

14,432

 

Charge offs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Recoveries

 

 

 

 

 

8

 

 

 

79

 

 

 

 

 

 

87

 

Provision

 

 

194

 

 

 

112

 

 

 

1,679

 

 

 

1,046

 

 

 

3,031

 

Ending Balance

 

$

2,236

 

 

$

5,379

 

 

$

8,282

 

 

$

1,653

 

 

$

17,550

 

 

During the three month period ended March 31, 2020, changes to the ACL were primarily related to the severity of forecasted unemployment rates as a result of the COVID-19 pandemic. Unemployment rates were forecasted for twelve months followed by a twelve-month straight-line reversion period. Additionally, the provision expense was impacted by loan and lease growth and net charge-offs during the period.

20


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The following tables represent the types of TDRs that were made during the periods presented:

 

 

 

Three Months Ended March 31, 2020

 

 

Three Months Ended March 31, 2019

 

 

 

All Restructurings

 

 

All Restructurings

 

 

 

Number of

Loans

 

 

Recorded investment at period end

 

 

Number of

Loans

 

 

Recorded investment at period end

 

Extended Amortization

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

 

 

$

 

 

 

1

 

 

$

3,489

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Industries

 

 

1

 

 

 

973

 

 

 

 

 

 

 

Total Extend Amortization

 

 

1

 

 

 

973

 

 

 

1

 

 

 

3,489

 

Payment Deferral

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Industries

 

 

2

 

 

 

1,487

 

 

 

 

 

 

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

 

 

 

 

 

 

1

 

 

 

1,853

 

Other Industries

 

 

1

 

 

 

3,589

 

 

 

 

 

 

 

Total Payment Deferral

 

 

3

 

 

 

5,076

 

 

 

1

 

 

 

1,853

 

Total

 

 

4

 

 

$

6,049

 

 

 

2

 

 

$

5,342

 

 

Concessions made to improve a loan or lease’s performance have varying degrees of success. NaN TDRs that were modified within the twelve months ended March 31, 2020 and 2019 subsequently defaulted during the three months ended March 31, 2020 and 2019.

 

The following tables detail the recorded allowance for loan and lease losses and the investment in loans and leases related to each portfolio segment, disaggregated on the basis of impairment evaluation methodology:

 

 

December 31, 2019

 

Construction &

Development

 

 

Commercial

Real Estate

 

 

Commercial

& Industrial

 

 

Commercial

Land

 

 

Total1,2

 

Allowance for loan and lease losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans and leases individually evaluated for

   impairment

 

$

17

 

 

$

2,067

 

 

$

3,989

 

 

$

748

 

 

$

6,821

 

Loans and leases collectively evaluated for

   impairment

 

 

2,715

 

 

 

6,360

 

 

 

11,768

 

 

 

570

 

 

 

21,413

 

Total allowance for loan and lease losses

 

$

2,732

 

 

$

8,427

 

 

$

15,757

 

 

$

1,318

 

 

$

28,234

 

Loans and leases receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans and leases individually evaluated for

   impairment

 

$

719

 

 

$

25,389

 

 

$

14,052

 

 

$

17,347

 

 

$

57,507

 

Loans and leases collectively evaluated for

    impairment

 

 

346,599

 

 

 

636,305

 

 

 

540,189

 

 

 

216,786

 

 

 

1,739,879

 

Total loans and leases receivable

 

$

347,318

 

 

$

661,694

 

 

$

554,241

 

 

$

234,133

 

 

$

1,797,386

 

 

1

As of December 31, 2019, loans and leases receivable includes $622.6 million of U.S. government guaranteed loans, of which $36.0 million are considered impaired.

2

Loans and leases receivable exclude $824.5 million of loans accounted for under the fair value option.

 

21


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Loans and leases classified as impaired as of the dates presented are summarized in the following tables.

 

December 31, 2019

 

Recorded

Investment

 

 

Guaranteed

Balance

 

 

Unguaranteed

Exposure

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

$

367

 

 

$

215

 

 

$

152

 

Healthcare

 

 

3,760

 

 

 

1,931

 

 

 

1,829

 

Veterinary Industry

 

 

504

 

 

 

504

 

 

 

 

Other Industries

 

 

9,421

 

 

 

5,348

 

 

 

4,073

 

Total

 

 

14,052

 

 

 

7,998

 

 

 

6,054

 

Construction & Development

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

719

 

 

 

530

 

 

 

189

 

Total

 

 

719

 

 

 

530

 

 

 

189

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

12,677

 

 

 

5,101

 

 

 

7,576

 

Independent Pharmacies

 

 

933

 

 

 

698

 

 

 

235

 

Veterinary Industry

 

 

5,907

 

 

 

4,707

 

 

 

1,200

 

Other Industries

 

 

5,872

 

 

 

4,079

 

 

 

1,793

 

Total

 

 

25,389

 

 

 

14,585

 

 

 

10,804

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

17,347

 

 

 

12,898

 

 

 

4,449

 

Total

 

 

17,347

 

 

 

12,898

 

 

 

4,449

 

Total

 

$

57,507

 

 

$

36,011

 

 

$

21,496

 

The following table presents evaluated balances of loans and leases classified as impaired at the dates presented that carried an associated reserve as compared to those with no reserve. The recorded investment includes accrued interest and net deferred loan and lease fees or costs.

 

 

December 31, 2019

 

 

 

Recorded Investment

 

 

 

 

 

 

 

 

 

 

 

With a

Recorded

Allowance

 

 

With No

Recorded

Allowance

 

 

Total

 

 

Unpaid

Principal

Balance

 

 

Related

Allowance

Recorded

 

Commercial & Industrial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

$

362

 

 

$

5

 

 

$

367

 

 

$

378

 

 

$

95

 

Healthcare

 

 

3,760

 

 

 

 

 

 

3,760

 

 

 

4,109

 

 

 

975

 

Veterinary Industry

 

 

504

 

 

 

 

 

 

504

 

 

 

672

 

 

 

4

 

Other Industries

 

 

9,421

 

 

 

 

 

 

9,421

 

 

 

9,725

 

 

 

2,915

 

Total

 

 

14,047

 

 

 

5

 

 

 

14,052

 

 

 

14,884

 

 

 

3,989

 

Construction & Development

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

719

 

 

 

 

 

 

719

 

 

 

706

 

 

 

17

 

Total

 

 

719

 

 

 

 

 

 

719

 

 

 

706

 

 

 

17

 

Commercial Real Estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Healthcare

 

 

10,835

 

 

 

1,842

 

 

 

12,677

 

 

 

12,602

 

 

 

1,579

 

Independent Pharmacies

 

 

933

 

 

 

 

 

 

933

 

 

 

930

 

 

 

88

 

Veterinary Industry

 

 

5,907

 

 

 

 

 

 

5,907

 

 

 

6,615

 

 

 

311

 

Other Industries

 

 

5,611

 

 

 

261

 

 

 

5,872

 

 

 

5,697

 

 

 

89

 

Total

 

 

23,286

 

 

 

2,103

 

 

 

25,389

 

 

 

25,844

 

 

 

2,067

 

Commercial Land

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agriculture

 

 

17,347

 

 

 

 

 

 

17,347

 

 

 

17,399

 

 

 

748

 

Total

 

 

17,347

 

 

 

 

 

 

17,347

 

 

 

17,399

 

 

 

748

 

Total Impaired Loans and Leases

 

$

55,399

 

 

$

2,108

 

 

$

57,507

 

 

$

58,833

 

 

$

6,821

 

 

22


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The following table presents the average recorded investment of impaired loans and leases for each period presented and interest income recognized during the period in which the loans and leases were considered impaired.

 

 

 

Three Months Ended

March 31, 2019

 

 

 

Average

Balance

 

 

Interest

Income

Recognized

 

Commercial & Industrial

 

 

 

 

 

 

 

 

Agriculture

 

$

6

 

 

$

 

Healthcare

 

 

4,492

 

 

 

29

 

Veterinary Industry

 

 

632

 

 

 

1

 

Other Industries

 

 

3,532

 

 

 

17

 

Total

 

 

8,662

 

 

 

47

 

Commercial Real Estate

 

 

 

 

 

 

 

 

Healthcare

 

 

9,772

 

 

 

101

 

Veterinary Industry

 

 

6,282

 

 

 

41

 

Other Industries

 

 

1,588

 

 

 

 

Total

 

 

17,642

 

 

 

142

 

Commercial Land

 

 

 

 

 

 

 

 

Agriculture

 

 

21,505

 

 

 

196

 

Total

 

 

21,505

 

 

 

196

 

Total

 

$

47,809

 

 

$

385

 

 

23


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 6. Leases

Lessor Equipment Leasing

The Company purchases new equipment for the purpose of leasing such equipment to customers within its verticals. Equipment purchased to fulfill commitments to commercial renewable energy projects is rented out under operating leases while leases of equipment outside of the renewable energy vertical are generally direct financing leases.  Accordingly, leased assets under operating leases are included in premises and equipment while leased assets under direct financing leases are included in loans and leases held for investment.

Direct Financing Leases

Interest income on direct financing leases is recognized when earned.  Unearned interest is recognized over the lease term on a basis which results in a constant rate of return on the unrecovered lease investment.  The term of each lease is generally 3-7 years which is consistent with the useful life of the equipment with no residual value.  The gross lease payments receivable and the net investment included in accounts receivable for such leases are as follows:

 

 

 

March 31, 2020

 

 

December 31, 2019

 

Gross direct finance lease payments receivable

 

$

13,197

 

 

$

13,959

 

Less – unearned interest

 

 

(2,334

)

 

 

(2,562

)

Net investment in direct financing leases

 

$

10,863

 

 

$

11,397

 

 

Future minimum lease payments under finance leases are as follows:

 

As of March 31, 2020

 

Amount

 

2020

 

$

2,367

 

2021

 

 

2,928

 

2022

 

 

2,699

 

2023

 

 

2,259

 

2024

 

 

1,635

 

Thereafter

 

 

1,309

 

Total

 

$

13,197

 

 

Interest income of $233 thousand and $234 thousand was recognized in the three months ended March 31, 2020 and 2019, respectively.

Operating Leases

The term of each operating lease is generally 10 to 15 years.  The Company retains ownership of the equipment and associated tax benefits such as investment tax credits and accelerated depreciation.  At the end of the lease term, the lessee has the option to renew the lease for 2 additional terms or purchase the equipment at the then current fair market value.

Rental revenue from operating leases is recognized on a straight-line basis over the term of the lease.  Rental equipment is recorded at cost and depreciated to an estimated residual value on a straight-line basis over the estimated useful life.  The useful lives generally range from 20 to 25 years and residual values generally range from 20% to 50%, however, they are subject to periodic evaluation.  Changes in useful lives or residual values will impact depreciation expense and any gain or loss from the sale of used equipment.  The estimated useful lives and residual values of the Company's leasing equipment are based on industry disposal experience and the Company's expectations for future sale prices.

If the Company decides to sell or otherwise dispose of rental equipment, it is carried at the lower of cost or fair value less costs to sell or dispose.   Repair and maintenance costs that do not extend the lives of the rental equipment are charged to direct operating expenses at the time the costs are incurred.


24


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

As of March 31, 2020 and December 31, 2019, the Company had a net investment of $141.8 million and $144.3 million, respectively, in assets included in premises and equipment that are subject to operating leases. Of the net investment, the gross balance of the assets was $164.3 million as of March 31, 2020 and December 31, 2019 and accumulated depreciation was $22.5 million and $20.0 million as of March 31, 2020 and December 31, 2019, respectively. Depreciation expense recognized on these assets for the three months ended March 31, 2020 and 2019 was $2.5 million and $2.4 million, respectively.

 

Lease income of $2.4 million and $2.3 million was recognized in the three months ended March 31, 2020 and 2019, respectively.

A maturity analysis of future minimum lease payments under non-cancelable operating leases is as follows:

 

As of March 31, 2020

 

Amount

 

2020

 

$

7,060

 

2021

 

 

9,052

 

2022

 

 

9,044

 

2023

 

 

9,075

 

2024

 

 

8,808

 

Thereafter

 

 

40,110

 

Total

 

$

83,149

 

 

Note 7. Servicing Assets

Loans serviced for others are not included in the accompanying condensed consolidated balance sheets. The unpaid principal balances of loans serviced for others requiring recognition of a servicing asset were $2.22 billion and $2.26 billion at March 31, 2020 and December 31, 2019, respectively. The unpaid principal balance for all loans serviced for others was $2.98 billion and $2.97 billion at March 31, 2020 and December 31, 2019, respectively.

The following summarizes the activity pertaining to servicing rights:

 

 

 

Three Months Ended

March 31,

 

 

 

2020

 

 

2019

 

Balance at beginning of period

 

$

35,365

 

 

$

47,641

 

Additions, net

 

 

2,859

 

 

 

723

 

Fair value changes:

 

 

 

 

 

 

 

 

Due to changes in valuation inputs or assumptions

 

 

(2,039

)

 

 

(524

)

Decay due to increases in principal paydowns or runoff

 

 

(2,653

)

 

 

(3,516

)

Balance at end of period

 

$

33,532

 

 

$

44,324

 

 

The fair value of servicing rights was determined using a weighted average discount rate of 13.0% on March 31, 2020 and 14.7% on March 31, 2019. The fair value of servicing rights was determined using a weighted average prepayment speed of 17.9% on March 31, 2020 and 13.1% on March 31, 2019, depending on the stratification of the specific right. Changes to fair value are reported in loan servicing asset revaluation within the consolidated statements of income.

The fair value of servicing rights is highly sensitive to changes in underlying assumptions. Changes in prepayment speed assumptions typically have the most significant impact on the fair value of servicing rights. Generally, as interest rates rise on variable rate loans, loan prepayments increase due to an increase in refinance activity, which results in a decrease in the fair value of servicing assets, however, weakening economic conditions or significant declines in interest rates can also increase loan prepayment activity. Measurement of fair value is limited to the conditions existing and the assumptions used as of a particular point in time, and those assumptions may not be appropriate if they are applied at a different time.

25


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 8. Borrowings

Total outstanding borrowings consisted of the following:

 

 

 

March 31,

2020

 

 

December 31,

2019

 

Borrowings

 

 

 

 

 

 

 

 

In 2019, the Company renewed a revolving line of credit issued in 2017.  The line of credit is unsecured and accrues interest at 30-day LIBOR plus 1.15% for a term of 13 months.  Payments are interest only with all principal and accrued interest due on October 20, 2020.  The terms of this loan require the Company to maintain minimum capital and debt service coverage ratios.  This $50 million line of credit has been fully advanced and there is 0 available credit remaining at March 31, 2020.

 

$

50,000

 

 

$

 

In October 2017, the Company entered into a financing lease of $19 thousand with an unaffiliated equipment lease company, secured by fitness equipment which is included in other assets on the consolidated balance sheet. Payments are principal and interest due monthly starting December 15, 2017 over a term of 60 months. At the end of the lease term there is a $1.00 bargain purchase option. As of January 1, 2019, this borrowing was revised in accordance with ASU 2016-02.

 

 

12

 

 

 

14

 

Total borrowings

 

$

50,012

 

 

$

14

 

 

The Company may purchase federal funds through unsecured federal funds lines of credit with various correspondent banks, which totaled $72.5 million as of March 31, 2020 and December 31, 2019. These lines are intended for short-term borrowings and are subject to restrictions limiting the frequency and terms of advances. These lines of credit are payable on demand and bear interest based upon the daily federal funds rate. The Company had 0 outstanding balances on the lines of credit as of March 31, 2020 and December 31, 2019.

The Company has entered into a repurchase agreement with a third party for $5.0 million as of March 31, 2020 and December 31, 2019.  At the time the Company enters into a transaction with the third party, the Company must transfer securities or other assets against the funds received.  The terms of the agreement are set at market conditions at the time the Company enters into such transaction. The Company had 0 outstanding balance on the repurchase agreement as of March 31, 2020 and December 31, 2019.

On June 18, 2018, the Company entered into a borrowing agreement with the Federal Home Loan Bank of Atlanta. These borrowings must be secured with eligible collateral approved by the Federal Home Loan Bank of Atlanta. At March 31, 2020 and December 31, 2019, the Company had approximately $1.20 billion and $1.14 billion, respectively, in borrowing capacity available under these agreements.  There is no collateral pledged and no advances outstanding as of March 31, 2020 and December 31, 2019.

The Company may borrow funds through the Federal Reserve Bank’s discount window. These borrowings are secured by a blanket floating lien on qualifying loans with a balance of $565.8 million and $526.8 million as of March 31, 2020 and December 31, 2019, respectively.  At March 31, 2020 and December 31, 2019, the Company had approximately $309.1 million and $294.5 million, respectively, in borrowing capacity available under these arrangements with 0 outstanding balance as of March 31, 2020 and December 31, 2019.

 

 


26


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 9. Fair Value of Financial Instruments

Fair Value Hierarchy

There are three levels of inputs in the fair value hierarchy that may be used to measure fair value. Financial instruments are considered Level 1 when valuation can be based on quoted prices in active markets for identical assets or liabilities. Level 2 financial instruments are valued using quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or models using inputs that are observable or can be corroborated by observable market data of substantially the full term of the assets or liabilities. Financial instruments are considered Level 3 when their values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable and when determination of the fair value requires significant management judgment or estimation.

Recurring Fair Value

The following sections provide a description of the valuation methodologies used for instruments measured at fair value on a recurring basis, as well as the general classification of such instruments pursuant to the fair value hierarchy:

Investment securities: Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would include highly liquid government bonds, mortgage products and exchange traded equities. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, discounted cash flow or at net asset value per share. Level 2 securities would include U.S. government agency securities, mortgage-backed securities, obligations of states and political subdivisions and certain corporate, asset backed mutual fund and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy.

Loans held for sale: The fair values of loans held for sale are determined by discounting estimated cash flows using interest rates approximating prevailing market rates for similar loans adjusted to reflect the inherent credit risk.

Loans held for investment: The fair values of loans held for investment are typically determined based on discounted cash flow analyses using market-based interest rate spreads. Discounted cash flow analyses are adjusted, as appropriate, to reflect current market conditions and borrower-specific credit risk. If the loan is collateral dependent, the fair value is determined based on the difference between the fair value of the collateral and the amortized cost basis of the loan as of the measurement date. Fair value of the loan’s collateral is determined by appraisals, independent valuation, or management’s estimation of fair value which is then adjusted for the cost related to liquidation of the collateral.

Servicing assets: Servicing rights do not trade in an active, open market with readily observable prices. While sales of servicing rights do occur, the precise terms and conditions typically are not readily available. Accordingly, the Company estimates the fair value of servicing rights using discounted cash flow models incorporating numerous assumptions from the perspective of a market participant including servicing income, servicing costs, market discount rates and prepayment speeds. Due to the nature of the valuation inputs, servicing rights are classified within Level 3 of the valuation hierarchy.

Mutual fund: The following mutual fund is registered with the Securities and Exchange Commission as a closed-end, non-diversified management investment company and operates as an interval fund. The fund primarily invests in the unguaranteed portion of SBA504 First Lien Loans secured by owner-occupied commercial real estate. This investment is valued using quoted prices in markets that are not active and is classified as Level 2 within the valuation hierarchy.

Equity warrant assets: Fair value measurements of equity warrant assets of private companies are priced based on a Black-Scholes option pricing model to estimate the asset value by using stated strike prices, option expiration dates, risk-free interest rates and option volatility assumptions. Option volatility assumptions used in the Black-Scholes model are based on public companies that operate in similar industries as the companies in our private company portfolio. Option expiration dates are modified to account for estimates to actual life relative to stated expiration. Values are further adjusted for a general lack of liquidity due to the private nature of the associated underlying company.  The Company classifies equity warrant assets within Level 3 of the valuation hierarchy.


27


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The tables below present the recorded amount of assets and liabilities measured at fair value on a recurring basis.

 

March 31, 2020

 

Total

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Investment securities available-for-sale

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

US treasury securities

 

$

5,043

 

 

$

 

 

$

5,043

 

 

$

 

US government agencies

 

 

23,079

 

 

 

 

 

 

23,079

 

 

 

 

Mortgage-backed securities

 

 

537,291

 

 

 

 

 

 

537,291

 

 

 

 

Municipal bonds1

 

 

8,755

 

 

 

 

 

 

8,662

 

 

 

93

 

Loans held for sale

 

 

19,151

 

 

 

 

 

 

 

 

 

19,151

 

Loans held for investment

 

 

831,426

 

 

 

 

 

 

 

 

 

831,426

 

Servicing assets2

 

 

33,532

 

 

 

 

 

 

 

 

 

33,532

 

Mutual fund

 

 

2,141

 

 

 

 

 

 

2,141

 

 

 

 

Equity warrant assets3

 

 

702

 

 

 

 

 

 

 

 

 

702

 

Total assets at fair value

 

$

1,461,120

 

 

$

 

 

$

576,216

 

 

$

884,904

 

 

December 31, 2019

 

Total

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Investment securities available-for-sale

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

US treasury securities

 

$

5,015

 

 

$

 

 

$

5,015

 

 

$

 

US government agencies

 

 

22,779

 

 

 

 

 

 

22,779

 

 

 

 

Mortgage-backed securities

 

 

503,297

 

 

 

 

 

 

503,297

 

 

 

 

Municipal bonds1

 

 

8,954

 

 

 

 

 

 

8,862

 

 

 

92

 

Loans held for sale

 

 

16,198

 

 

 

 

 

 

 

 

 

16,198

 

Loans held for investment

 

 

824,520

 

 

 

 

 

 

 

 

 

824,520

 

Servicing assets2

 

 

35,365

 

 

 

 

 

 

 

 

 

35,365

 

Mutual fund

 

 

2,206

 

 

 

 

 

 

2,206

 

 

 

 

Equity warrant assets3

 

 

570

 

 

 

 

 

 

 

 

 

570

 

Total assets at fair value

 

$

1,418,904

 

 

$

 

 

$

542,159

 

 

$

876,745

 

 

1

During the three months ended March 31, 2020, the Company recorded a fair value adjustment gain of $1 thousand. During the three months ended March 31, 2019, the Company sold $900 thousand of a municipal bond to a third party and recorded a fair value adjustment loss of $9 thousand.

2

See Note 7 for a rollforward of recurring Level 3 fair values for servicing assets.

3

During the three months ended March 31, 2020, the Company entered into equity warrant assets with a fair value of $164 thousand at the time of issuance and recorded net losses on derivative instruments of $32 thousand. During the three months ended March 31, 2019, the Company recorded net gains on derivative instruments of $255 thousand.

Fair Value Option

The Company elects to account for retained participating interests of government guaranteed loans under the fair value option in order to align the accounting presentation with the Company’s viewpoint of the economics of the loans. Interest income on loans accounted for under the fair value option is recognized in loans and fees on loans on the Company’s consolidated statements of income. There were 0 loans accounted for under the fair value option that were 90 days or more past due and still accruing interest at March 31, 2020 or December 31, 2019. The unpaid principal balance of unguaranteed exposure for nonaccruals was $12.2 million and $10.7 million at March 31, 2020 and December 31, 2019, respectively.


28


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The following tables provide more information about the fair value carrying amount and the unpaid principal outstanding of loans accounted for under the fair value option at March 31, 2020 and December 31, 2019.

 

 

 

March 31, 2020

 

 

 

Total Loans

 

 

Nonaccruals

 

 

90 Days or More Past Due

 

 

 

Fair Value Carrying Amount

 

 

Unpaid Principal Balance

 

 

Difference

 

 

Fair Value Carrying Amount

 

 

Unpaid Principal Balance

 

 

Difference

 

 

Fair Value Carrying Amount

 

 

Unpaid Principal Balance

 

 

Difference

 

Fair Value Option Elections

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans held for sale

 

$

19,151

 

 

$

20,056

 

 

$

(905

)

 

$

 

 

$

 

 

$

 

 

$

 

 

$

 

 

$

 

Loans held for investment

 

 

831,426

 

 

 

858,577

 

 

 

(27,151

)

 

 

60,558

 

 

 

65,303

 

 

 

(4,745

)

 

 

39,102

 

 

 

40,876

 

 

 

(1,774

)

 

 

$

850,577

 

 

$

878,633

 

 

$

(28,056

)

 

$

60,558

 

 

$

65,303

 

 

$

(4,745

)

 

$

39,102

 

 

$

40,876

 

 

$

(1,774

)

 

 

 

December 31, 2019

 

 

 

Total Loans

 

 

Nonaccruals

 

 

90 Days or More Past Due

 

 

 

Fair Value Carrying Amount

 

 

Unpaid Principal Balance

 

 

Difference

 

 

Fair Value Carrying Amount

 

 

Unpaid Principal Balance

 

 

Difference

 

 

Fair Value Carrying Amount

 

 

Unpaid Principal Balance

 

 

Difference

 

Fair Value Option Elections

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans held for sale

 

$

16,198

 

 

$

17,230

 

 

$

(1,032

)

 

$

 

 

$

 

 

$

 

 

$

 

 

$

 

 

$

 

Loans held for investment

 

 

824,520

 

 

 

842,456

 

 

 

(17,936

)

 

 

49,739

 

 

 

54,370

 

 

 

(4,631

)

 

 

26,644

 

 

 

28,137

 

 

 

(1,493

)

 

 

$

840,718

 

 

$

859,686

 

 

$

(18,968

)

 

$

49,739

 

 

$

54,370

 

 

$

(4,631

)

 

$

26,644

 

 

$

28,137

 

 

$

(1,493

)

The following table presents the net gains (losses) from changes in fair value.

 

 

 

Three Months Ended March 31,

 

Gains (Losses) on Loans Accounted for under the Fair Value Option

 

2020

 

 

2019

 

Loans held for sale

 

$

120

 

 

$

(351

)

Loans held for investment

 

 

(10,758

)

 

 

2,434

 

 

 

$

(10,638

)

 

$

2,083

 

 

Losses related to borrower-specific credit risk were $922 thousand and $522 thousand for the three months ended March 31, 2020 and 2019, respectively.

The following tables summarize the activity pertaining to loans accounted for under the fair value option.

 

 

 

Three Months Ended March 31,

 

Loans held for sale

 

2020

 

 

2019

 

Balance at beginning of period

 

$

16,198

 

 

$

17,745

 

Issuances

 

 

3,045

 

 

 

13,635

 

Fair value changes

 

 

120

 

 

 

(351

)

Sales

 

 

 

 

 

(5,700

)

Settlements

 

 

(212

)

 

 

(36

)

Balance at end of period

 

$

19,151

 

 

$

25,293

 

 

 

 

Three Months Ended March 31,

 

Loans held for investment

 

2020

 

 

2019

 

Balance at beginning of period

 

$

824,520

 

 

$

885,527

 

Issuances

 

 

61,611

 

 

 

30,108

 

Fair value changes

 

 

(10,758

)

 

 

2,434

 

Settlements

 

 

(43,947

)

 

 

(49,415

)

Balance at end of period

 

$

831,426

 

 

$

868,654

 

29


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Non-recurring Fair Value

The following sections provide a description of the valuation methodologies used for instruments measured at fair value on a non-recurring basis, as well as the general classification of such instruments pursuant to the fair value hierarchy:

Collateral dependent loans: Loans are considered collateral dependent when the Company has determined that foreclosure of the collateral is probable or when a borrower is experiencing financial difficulty and the loan is expected to be repaid substantially through the operation or sale of collateral. A collateral dependent loan’s ACL is measured based on the difference between the fair value of the collateral and the amortized cost basis of the loan as of the measurement date. Fair value of the loan’s collateral is determined by appraisals, independent valuation, or management’s estimation of fair value which is then adjusted for the cost related to liquidation of the collateral. Collateral dependent loans are generally classified as Level 3 based on management’s judgment and estimation.

Foreclosed assets: Foreclosed real estate is adjusted to fair value less selling costs upon transfer of the loans to foreclosed real estate. Subsequently, foreclosed real estate is carried at the lower of carrying value or fair value less selling costs. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. Given the lack of observable market prices for identical properties and market discounts applied to appraised values, the Company generally classifies foreclosed assets as nonrecurring Level 3.

Equity security investment with a non-readily determinable fair value: The following equity security investment is measured at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for an identical or similar investment of the same issuer. When an observable price change in an orderly transaction occurs, the investment is classified as nonrecurring Level 1 within the valuation hierarchy.

The tables below present the recorded amount of assets and liabilities measured at fair value on a non-recurring basis.

 

March 31, 2020

 

Total

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Collateral dependent loans

 

$

2,349

 

 

$

 

 

$

 

 

$

2,349

 

Foreclosed assets

 

 

6,744

 

 

 

 

 

 

 

 

 

6,744

 

Total assets at fair value

 

$

9,093

 

 

$

 

 

$

 

 

$

9,093

 

 

December 31, 2019

 

Total

 

 

Level 1

 

 

Level 2

 

 

Level 3

 

Collateral dependent loans

 

$

1,245

 

 

$

 

 

$

 

 

$

1,245

 

Foreclosed assets

 

 

5,612

 

 

 

 

 

 

 

 

 

5,612

 

Equity security investment with a non-readily

   determinable fair value

 

 

8,738

 

 

 

8,738

 

 

 

 

 

 

 

Total assets at fair value

 

$

15,595

 

 

$

8,738

 

 

$

 

 

$

6,857

 

 


30


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Level 3 Analysis

For Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of March 31, 2020 and December 31, 2019 the significant unobservable inputs used in the fair value measurements were as follows:

March 31, 2020

Level 3 Assets with Significant

Unobservable Inputs

 

Fair Value

 

 

Valuation Technique

 

Significant

Unobservable

Inputs

 

Range

Recurring fair value

 

 

 

 

 

 

 

 

 

 

Municipal bond

 

$

93

 

 

Discounted expected cash flows

 

Discount rate

Prepayment speed

 

4.2%

5.0%

Loans held for sale

 

$

19,151

 

 

Discounted expected cash flows

 

Discount rate

Prepayment speed

 

7.1% to 15.4%

WAVG 17.9%

Loans held for

   investment

 

$

831,426

 

 

Discounted expected cash flows

Discounted appraisals

 

Loss rate

Discount rate

Prepayment speed

Appraisal adjustments

 

0.0% to 82.5% (WAVG 1.8%)

7.1% to 15.4%

WAVG 17.9%

10% to 50%

Equity warrant assets

 

$

702

 

 

Black-Scholes option pricing model

 

Volatility

Risk-free interest rate

Marketability discount

Remaining life

 

24.7 to 85.4%

0.7%

20.0%

7-10 years

Non-recurring fair value

 

 

 

 

 

 

 

 

 

 

Collateral dependent

   loans

 

$

2,349

 

 

Discounted appraisals

 

Appraisal adjustments (1)

 

10.0% to 55.0%

Foreclosed assets

 

$

6,744

 

 

Discounted appraisals

 

Appraisal adjustments (1)

 

4.0% to 14.5%

December 31, 2019

Level 3 Assets with Significant

Unobservable Inputs

 

Fair Value

 

 

Valuation Technique

 

Significant

Unobservable

Inputs

 

Range

Recurring fair value

 

 

 

 

 

 

 

 

 

 

Municipal bond

 

$

92

 

 

Discounted expected cash flows

 

Discount rate

Prepayment speed

 

4.6%

5.0%

Loans held for sale

 

$

16,198

 

 

Discounted expected cash flows

 

Discount rate

Prepayment speed

 

7.7% to 21.4%

WAVG 13.1%

Loans held for

   investment

 

$

824,520

 

 

Discounted expected cash flows

Discounted appraisals

 

Loss rate

Discount rate

Prepayment speed

Appraisal adjustments

 

0.0% to 10.9% (WAVG 1.3%)

7.7% to 21.4%

WAVG 13.1%

10.0% to 70.0%

Equity warrant assets

 

$

570

 

 

Black-Scholes option pricing model

 

Volatility

Risk-free interest rate

Marketability discount

Remaining life

 

21.0-75.0%

1.90%

20.0%

8-10 years

Non-recurring fair value

 

 

 

 

 

 

 

 

 

 

Collateral dependent

   loans

 

$

1,245

 

 

Discounted appraisals

 

Appraisal adjustments (1)

 

10.0% to 57.0%

Foreclosed assets

 

$

5,612

 

 

Discounted appraisals

 

Appraisal adjustments (1)

 

10.0% to 37.0%

 

(1)

Appraisals may be adjusted by management for customized discounting criteria, estimated sales costs, and proprietary qualitative adjustments.

31


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Estimated Fair Value of Other Financial Instruments

GAAP also requires disclosure of the fair value of financial instruments carried at book value on the consolidated balance sheets.  

The carrying amounts and estimated fair values of the Company’s financial instruments not measured at fair value on a recurring or non-recurring basis are as follows:

 

March 31, 2020

 

Carrying

Amount

 

 

Quoted Price

In Active

Markets for

Identical Assets

/Liabilities

(Level 1)

 

 

Significant

Other

Observable

Inputs

(Level 2)

 

 

Significant

Unobservable

Inputs

(Level 3)

 

 

Total

Fair

Value

 

Financial assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

256,824

 

 

$

256,824

 

 

$

 

 

$

 

 

$

256,824

 

Federal funds sold

 

 

158,226

 

 

 

158,226

 

 

 

 

 

 

 

 

 

158,226

 

Certificates of deposit with other banks

 

 

7,250

 

 

 

7,755

 

 

 

 

 

 

 

 

 

7,755

 

Loans held for sale

 

 

976,899

 

 

 

 

 

 

 

 

 

1,044,207

 

 

 

1,044,207

 

Loans and leases, net of allowance for

   credit losses on loans and leases

 

 

1,950,159

 

 

 

 

 

 

 

 

 

2,053,965

 

 

 

2,053,965

 

Financial liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

4,642,148

 

 

 

 

 

 

4,717,676

 

 

 

 

 

 

4,717,676

 

Borrowings

 

 

50,012

 

 

 

 

 

 

 

 

 

50,301

 

 

 

50,301

 

 

 

December 31, 2019

 

Carrying

Amount

 

 

Quoted Price

In Active

Markets for

Identical Assets

/Liabilities

(Level 1)

 

 

Significant

Other

Observable

Inputs

(Level 2)

 

 

Significant

Unobservable

Inputs

(Level 3)

 

 

Total

Fair

Value

 

Financial assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

126,752

 

 

$

126,752

 

 

$

 

 

$

 

 

$

126,752

 

Federal funds sold

 

 

96,787

 

 

 

96,787

 

 

 

 

 

 

 

 

 

96,787

 

Certificates of deposit with other banks

 

 

7,250

 

 

 

7,568

 

 

 

 

 

 

 

 

 

7,568

 

Loans held for sale

 

 

950,249

 

 

 

 

 

 

 

 

 

1,004,135

 

 

 

1,004,135

 

Loans and leases, net of allowance for

   credit losses on loans and leases

 

 

1,774,532

 

 

 

 

 

 

 

 

 

1,822,569

 

 

 

1,822,569

 

Financial liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

4,229,122

 

 

 

 

 

 

4,213,657

 

 

 

 

 

 

4,213,657

 

Borrowings

 

 

14

 

 

 

 

 

 

 

 

 

14

 

 

 

14

 

 

Note 10. Commitments and Contingencies

Litigation

In the normal course of business the Company is involved in various legal proceedings. Management believes that the outcome of such proceedings will not materially affect the financial position, results of operations or cash flows of the Company.

Financial Instruments with Off-balance-sheet Risk

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

32


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

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 for on-balance-sheet instruments. A summary of the Company’s commitments is as follows:

 

 

 

March 31,

2020

 

 

December 31,

2019

 

Commitments to extend credit

 

$

1,732,944

 

 

$

1,834,449

 

Standby letters of credit

 

 

27,512

 

 

 

25,532

 

Operating lease commitments

 

 

803

 

 

 

 

Total unfunded off-balance-sheet credit risk

 

$

1,761,259

 

 

$

1,859,981

 

 

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 creditworthiness 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 party. Collateral held varies, but may include accounts receivable, inventory, property and equipment, residential real estate and income-producing commercial properties. In 2012, the Company began issuing commitment letters after approval of the loan by the Credit Department. Commitment letters generally expire ninety days after issuance.

Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances which the Company deems necessary.

Operating lease commitments are non-cancelable operating lease agreements for real property entered by the Company during the period which have not commenced.  

As of March 31, 2020 and December 31, 2019, the Company had unfunded commitments to provide capital contributions for on-balance-sheet investments in the amount of $16.9 million. 

Concentrations of Credit Risk

Although the Company is not subject to any geographic concentrations, a substantial amount of the Company’s loans, leases, and commitments to extend credit have been granted to customers in the agriculture, healthcare and veterinary verticals. The concentrations of credit by type of loan are set forth in Note 5. The distribution of commitments to extend credit approximates the distribution of loans outstanding. The Company does not have a significant number of credits to any single borrower or group of related borrowers whereby their retained unguaranteed exposure exceeds $7.5 million, except for 30 relationships that have a retained unguaranteed exposure of $325.7 million of which $217.4 million of the unguaranteed exposure has been disbursed.

Additionally, the Company has future minimum lease payments due under non-cancelable operating leases totaling $83.1 million, of which $59.8 million is due from four relationships.

The Company from time-to-time may have cash and cash equivalents on deposit with financial institutions that exceed federally-insured limits.

 

 


33


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 11. Stock Plans

On March 20, 2015, the Company adopted the 2015 Omnibus Stock Incentive Plan which replaced the previously existing Amended Incentive Stock Option Plan and Nonstatutory Stock Option Plan. Subsequently on May 24, 2016, the 2015 Omnibus Stock Incentive Plan was amended to authorize awards covering a maximum of 7,000,000 common voting shares and has an expiration date of March 20, 2025. On May 15, 2018, the Amended and Restated 2015 Omnibus Stock Incentive Plan was amended to authorize awards covering a maximum of 8,750,000 common voting shares. Options or restricted shares granted under the Amended and Restated 2015 Omnibus Stock Incentive Plan (the "Plan") expire no more than 10 years from the date of grant. Exercise prices under the Plan are set by the Board of Directors at the date of grant, but shall not be less than 100% of fair market value of the related stock at the date of the grant. Options vest over a minimum of three years from the date of the grant. Restricted stock grants vest in equal installments ranging from immediate vesting to over a seven year period from the date of the grant.  Market Restricted Stock Units also have a restriction based on the passage of time and non-market-related performance criteria, but also have a restriction based on market price criteria related to the Company’s share price closing at or above a specified price defined at time of grant.

Stock Options

There were 0 stock options granted during the three months ended March 31, 2020.

At March 31, 2020, unrecognized compensation costs relating to stock options amounted to $3.7 million which will be recognized over a weighted average period of 2.35 years.

Restricted Stock

Restricted stock awards are authorized in the form of restricted stock awards or units ("RSU"s) and restricted stock awards or units with a market price condition ("Market RSU"s).

RSUs have a restriction based on the passage of time and may also have a restriction based on a non-market-related performance criteria. The fair value of the RSUs is based on the closing price on the date of the grant.

Market RSUs also have a restriction based on the passage of time and non-market-related performance criteria, but also have a restriction based on market price criteria related to the Company’s share price closing at or above a specified price ranging from $34.00 to $55.00 per share for at least twenty (20) consecutive trading days at any time prior to expiration date. The amount of Market RSUs earned will not exceed 100% of the Market RSUs awarded. The fair value of the Market RSUs and the implied service period is calculated using the Monte Carlo simulation method.

For the three months ended March 31, 2020, 483,331 RSUs were granted with a weighted average grant date fair value of $17.98. Of the RSUs granted, 447,273 were awarded in connection with annual long term incentive stock compensation.

At March 31, 2020, unrecognized compensation costs relating to RSUs amounted to $16.2 million which will be recognized over a weighted average period of 4.30 years.

There were 0 Market RSUs granted during the three months ended March 31, 2020.

At March 31, 2020, unrecognized compensation costs relating to Market RSUs amounted to $12.6 million which will be recognized over a weighted average period of 2.94 years.

Note 12. Significant Equity Method Investments

In accordance with Rule 10-01(b)(1) of Regulation S-X, the Company must assess whether any of its equity method investments are significant equity method investments. In evaluating the significance of these investments, the Company performed the income test and the investment test described in S-X 3-05 and S-X 1-02(w). Rule 10-01(b)(1) of Regulation S-X requires summarized financial information in a quarterly report if any of the two tests exceeds 20%. Under the income test, the Company’s proportionate share of its equity method investees' aggregated net losses exceeded the applicable threshold of 20% and is accordingly required to provide summarized financial information for these investees for all periods presented in this Form 10-Q.  

34


 

 

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

 

The following table provides summarized balance sheet information for the Company’s equity method investments as of March 31, 2020 and December 31, 2019. The Company’s equity method investments are included in the other assets line on the consolidated balances sheet and are largely concentrated in new or emerging financial service technology companies.

 

 

March 31, 2020

 

 

December 31, 2019

 

Balance sheet data

 

 

 

 

 

 

 

 

Current assets

 

$

52,228

 

 

$

56,710

 

Noncurrent assets

 

 

176,472

 

 

 

162,304

 

Total assets

 

$

228,700

 

 

$

219,014

 

 

 

 

 

 

 

 

 

 

Current liabilities

 

$

20,183

 

 

$

19,910

 

Noncurrent liabilities

 

 

664

 

 

 

683

 

Total liabilities

 

 

20,847

 

 

 

20,593

 

Equity interests

 

 

207,853

 

 

 

198,421

 

Total liabilities and equity

 

$

228,700

 

 

$

219,014

 

 

The following table provides summarized income statement information for the Company’s equity method investments for the three months ended March 31, 2020 and 2019.

 

 

Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

Summary of operations

 

 

 

 

 

 

 

 

Total revenues

 

$

15,792

 

 

$

13,389

 

 

 

 

 

 

 

 

 

 

Net loss

 

 

(16,433

)

 

 

(7,120

)

 

 

 

 

 

 

 

 

 

 

 

 

35


 

 

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

The following presents management’s discussion and analysis of the financial condition and results of operations of Live Oak Bancshares, Inc. (the “Company” or “LOB”). This discussion should be read in conjunction with the financial statements and related notes included elsewhere in this quarterly report on Form 10-Q and with the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2019 (the "2019 Annual Report"). Results of operations for the periods included in this quarterly report on Form 10-Q are not necessarily indicative of results to be obtained during any future period.

Important Note Regarding Forward-Looking Statements

This quarterly report on Form 10-Q contains statements that management believes are forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995. These statements generally relate to the Company’s financial condition, results of operations, plans, objectives, future performance or business. They usually can be identified by the use of forward-looking terminology, such as “believes,” “expects,” or “are expected to,” “plans,” “projects,” “goals,” “estimates,” “will,” “may,” “should,” “could,” “would,” “continues,” “intends to,” “outlook” or “anticipates,” or variations of these and similar words, or by discussions of strategies that involve risks and uncertainties. You should not place undue reliance on these statements, as they are subject to risks and uncertainties, including but not limited to, those described in this quarterly report on Form 10-Q. When considering these forward-looking statements, you should keep in mind these risks and uncertainties, as well as any cautionary statements management may make. Moreover, you should treat these statements as speaking only as of the date they are made and based only on information actually known to the Company at the time. Management undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. Forward-looking statements contained in this quarterly report on Form 10-Q are based on current expectations, estimates and projections about the Company’s business, management’s beliefs and assumptions made by management. These statements are not guarantees of the Company’s future performance and involve certain risks, uncertainties and assumptions, which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in the forward-looking statements. These risks, uncertainties and assumptions include, without limitation:

 

deterioration in the financial condition of borrowers resulting in significant increases in the Company’s loan and lease losses and provisions for those losses and other adverse impacts to results of operations and financial condition;

 

changes in Small Business Administration ("SBA") rules, regulations and loan products, including specifically the Section 7(a) program, changes in SBA standard operating procedures or changes to the status of Live Oak Banking Company (the "Bank") as an SBA Preferred Lender;

 

changes in rules, regulations or procedures for other government loan programs, including those of the USDA;

 

changes in interest rates that affect the level and composition of deposits, loan demand and the values of loan collateral, securities, and interest sensitive assets and liabilities;

 

the failure of assumptions underlying the establishment of reserves for possible loan and lease losses;

 

changes in loan underwriting, credit review or loss reserve policies associated with economic conditions, examination conclusions, or regulatory developments;

 

the potential impacts of the Coronavirus Disease 2019 (COVID-19) pandemic on trade (including supply chains and export levels), travel, employee productivity and other economic activities that may have a destabilizing and negative effect on financial markets, economic activity and customer behavior;

 

a reduction in or the termination of the Company’s ability to use the technology-based platform that is critical to the success of the Company’s business model, including a failure in or a breach of the Company’s operational or security systems or those of its third-party service providers;

 

changes in financial market conditions, either internationally, nationally or locally in areas in which the Company conducts operations, including reductions in rates of business formation and growth, demand for the Company’s products and services, commercial and residential real estate development and prices, premiums paid in the secondary market for the sale of loans, and valuation of servicing rights;

 

changes in accounting principles, policies, and guidelines applicable to bank holding companies and banking;

36


 

 

 

fluctuations in markets for equity, fixed-income, commercial paper and other securities, which could affect availability, market liquidity levels, and pricing;

 

the effects of competition from other commercial banks, non-bank lenders, consumer finance companies, credit unions, securities brokerage firms, insurance companies, money market and mutual funds, and other financial institutions operating in the Company’s market area and elsewhere, including institutions operating regionally, nationally and internationally, together with such competitors offering banking products and services by mail, telephone and the Internet;

 

the Company's ability to attract and retain key personnel;

 

changes in governmental monetary and fiscal policies as well as other legislative and regulatory changes, including with respect to SBA or USDA lending programs and investment tax credits;

 

changes in political and economic conditions;

 

the impact of heightened regulatory scrutiny of financial products and services, primarily led by the Consumer Financial Protection Bureau and various state agencies;

 

the Company's ability to comply with any requirements imposed on it by regulators, and the potential negative consequences that may result;

 

operational, compliance and other factors, including conditions in local areas in which the Company conducts business such as inclement weather or a reduction in the availability of services or products for which loan proceeds will be used, that could prevent or delay closing and funding loans before they can be sold in the secondary market;

 

the effect of any mergers, acquisitions or other transactions, to which the Company or the Bank may from time to time be a party, including management’s ability to successfully integrate any businesses acquired;

 

other risk factors listed from time to time in reports that the Company files with the SEC, including in the Company’s 2019 Annual Report; and

 

the Company’s success at managing the risks involved in the foregoing.

Except as otherwise disclosed, forward-looking statements do not reflect: (i) the effect of any acquisitions, divestitures or similar transactions that have not been previously disclosed; (ii) any changes in laws, regulations or regulatory interpretations; or (iii) any change in current dividend or repurchase strategies, in each case after the date as of which such statements are made. All forward-looking statements speak only as of the date on which such statements are made, and the Company undertakes no obligation to update any statement, to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events.

Amounts in all tables in Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) have been presented in thousands, except percentage, time period, stock option, share and per share data or where otherwise indicated.

Nature of Operations

LOB is a bank holding company headquartered in Wilmington, North Carolina incorporated under the laws of North Carolina in December 2008. The Company conducts business operations primarily through its commercial bank subsidiary, Live Oak Banking Company (the “Bank”). The Bank was incorporated in February 2008 as a North Carolina-chartered commercial bank. The Bank specializes in providing lending services to small businesses nationwide. The Bank identifies and grows within selected industry sectors, or verticals, by leveraging expertise within those industries, and more broadly to select borrowers outside of those industries. A significant portion of the loans originated by the Bank are guaranteed by the SBA under the 7(a) Loan Program and the U.S. Department of Agriculture ("USDA") Rural Energy for America Program ("REAP"), Water and Environmental Program (“WEP”) and Business & Industry ("B&I") loan programs.


37


 

 

Effective July 29, 2016, the Company elected to become a “financial holding company” within the meaning of the Bank Holding Company Act.  A financial holding company, and the nonbank companies under its control, are permitted to engage in activities considered financial in nature or incidental to financial activities.  For the Company to become and remain eligible for financial holding company status, it and the Bank must meet certain criteria, including capital, management and Community Reinvestment Act (“CRA”) requirements. The failure to meet such criteria could, depending on which requirements were not met, result in the Company facing restrictions on new financial activities or acquisitions or being required to discontinue existing activities that are not otherwise permissible for bank holding companies.

 

In 2018, the Company formed Canapi Advisors, LLC for the purpose of providing investment advisory services to a series of new funds focused on providing venture capital to new and emerging financial technology companies.  In 2019, Live Oak Clean Energy Financing LLC (“LOCEF”) became a subsidiary of the Bank.  LOCEF was formed in November 2016 as a subsidiary of the Company for the purpose of providing financing to entities for renewable energy applications. In 2018, the Bank formed Live Oak Private Wealth, LLC, a registered investment advisor that provides high-net-worth individuals and families with strategic wealth and investment management services.  In 2017, the Bank entered into a joint venture, Apiture LLC (“Apiture”), with First Data Corporation for the purpose of creating next generation technology for financial institutions.  In addition to the Bank, the Company owns Live Oak Ventures, Inc. (formerly known as "Canapi, Inc."), formed in August 2016 for the purpose of investing in businesses that align with the Company's strategic initiative to be a leader in financial technology; Live Oak Grove, LLC, formed in February 2015 for the purpose of providing Company employees and business visitors an on-site restaurant location; Government Loan Solutions, Inc. (“GLS”), a management and technology consulting firm that specializes in the settlement, accounting, and securitization processes for government guaranteed loans, including loans originated under the SBA 7(a) loan program and USDA-guaranteed loans; and 504 Fund Advisors, LLC (“504FA”), formed to serve as the investment advisor to The 504 Fund, a closed-end mutual fund organized to invest in SBA section 504 loans.  In 2019, 504FA exited as the advisor to The 504 Fund and the Company dissolved this legal entity.

The Company generates revenue primarily from net interest income and secondarily through origination and sale of government guaranteed loans.  Income from the retention of loans is comprised principally of interest income.  The Company elects to account for certain loans under the fair value option with interest reported in interest income and changes in fair value reported in the net (loss) gain on loans accounted for under the fair value option line item of the consolidated statements of income.  Income from the sale of loans is comprised of loan servicing revenue and revaluation of related servicing assets along with net gains on sales of loans. Offsetting these revenues are the cost of funding sources, provision for loan and lease credit losses, any costs related to foreclosed assets and other operating costs such as salaries and employee benefits, travel, professional services, advertising and marketing and tax expense.

Recent Developments

The COVID-19 pandemic in the United States is expected to have a complex and significant adverse impact on the economy, the banking industry and the Company in future fiscal periods, all subject to a high degree of uncertainty. While it is not possible to know the full universe or extent of these impacts as of the date of this filing, we are disclosing potentially material items of which we are aware.

Financial position and results of operations

Relating to our March 31, 2020 financial condition and results of operations, COVID-19 had a significant impact on the allowance for credit losses (“ACL”) on loans and leases, loans carried at fair value, loan servicing asset revaluation and net gains on sales of loans. While the Company has not yet experienced any charge-offs related to COVID-19, the ACL and loan fair value calculation and resulting provision for loan and lease credit losses and net loss on loans accounted for under the fair value option were significantly impacted by changes in forecasted economic conditions. Given that forecasted economic scenarios worsened substantially since the pandemic was declared in early March, the need for additional credit related reserves increased significantly by quarter end. Refer to the discussion of the ACL and loans at fair value in Notes 5 and 9, respectively, of the unaudited consolidated financial statements as well as further discussion in MD&A. Also impacted by deteriorating market conditions was the Company’s valuation of the loan servicing asset as discussed in Note 7 of the unaudited consolidated financial statements and net gains on sales of loans, both of which are further discussed in MD&A.  Should economic conditions worsen, the Company could experience further increases in the required ACL and negative fair value marks and record additional credit or market related loss expense. It is also possible that the Company’s asset quality measures could worsen at future measurement periods if the effects of COVID-19 are prolonged.

The income from gain on sale of loans in future periods could be reduced due to COVID-19.  Impacts began to be felt in the latter part of March with loan sales executed at that time as secondary markets conditions began to weaken.  At this time, the Company is unable to project the materiality of such an impact but recognizes the breadth of the economic impact is likely to impact gains in future periods.

38


 

 

Interest income could be reduced due to COVID-19.  In keeping with guidance from regulators, the Company is actively working with COVID-19 affected borrowers to help defer their payments, interest, and fees.  In addition to regulatory relief on deferrals from regulators, six months of payment relief are also available from the SBA for loans guaranteed by that agency.  While interest and fees will still accrue to interest, should eventual credit losses on these deferred payments emerge, interest income and fees accrued would need to be reversed.  In such a scenario, interest income in future periods could be negatively impacted.  At this time, we are unable to project the materiality of such an impact, but recognize the breadth of the economic impact may affect our borrowers’ ability to repay in future periods.

Capital and liquidity

As of March 31, 2020, all of the Company’s capital ratios, and the Bank’s capital ratios, were in excess of all regulatory requirements.  While the Company believes that capital is sufficient to withstand an extended economic recession brought about by COVID-19, reported and regulatory capital ratios could be adversely impacted by further credit losses.  The Company relies on cash on hand as well as dividends from its subsidiary bank to service our debt.  If our capital deteriorates such that the Bank is unable to pay dividends to the Company for an extended period of time, the Company may not be able to service its debt.

The Company maintains access to multiple sources of liquidity.  Wholesale funding markets have remained open to the Company, but rates for short term funding have recently been volatile and the secondary market for guaranteed loans, while open, has weakened as mentioned above.  In addition to increased levels of loan sales, the Company also increased its levels of deposits and borrowings in the first quarter, as discussed further in MD&A.  If funding costs are elevated for an extended period of time, it could have an adverse effect on the Company’s net interest margin.  If an extended recession caused large numbers of the Company’s deposit customers to withdraw their funds, the Company might become more reliant on volatile or more expensive sources of funding.

The Federal Reserve has created the Paycheck Protection Lending Facility (“PPLF”) to help provide financing in response to disruptions arising from COVID-19.  The PPLF extends loans to banks that have loaned money to small businesses under the Paycheck Protection Program (“PPP”), discussed in more detail below. Amounts borrowed are non-recourse and have a 100% advance rate equal to the principal amount of PPP loans pledged as security. In addition, loans financed under the PPLF have no impact on regulatory leverage capital ratios.  The maturity date of a borrowing under the PPLF is equal to the maturity date of the PPP loan pledged to secure the borrowing and would be accelerated (i) if the underlying PPP loan goes into default and is transferred to the SBA to realize on the SBA guarantee or (ii) to the extent that any loan forgiveness reimbursement is received from the SBA. Borrowings under the PPLF bear interest at a rate of 0.35% and there are no fees to the Company.  As of April 30, 2020, the Company had borrowed $462.7 million from the PPLF.

Lending operations and accommodations to borrowers

With the passage of the PPP, administered by the SBA, the Company has actively interpreted and implemented new loan programs and systems using its technology platform while participating in assisting its customers and other small businesses in need of resources through the program.  PPP loans have a two-year term and earn interest at 1%. The Company expects that some portion of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program.  As of May 5, 2020, the Company has secured funding from the SBA for 9,582 PPP loans representing $1.7 billion in funding. Loans funded through the PPP program are expected to be fully guaranteed by the U.S. government. Should those circumstances change, the Company could be required to record additional credit loss expense through earnings.


With the passage of the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) on March 27, 2020, the SBA will be making 6-months of principal and interest payments on all fully disbursed SBA 7(a) and SBA Express loans in regular servicing status.  In addition, with regulatory guidance to work with borrowers during this unprecedented situation, the Company has also mobilized to provide a payment deferral program when needed by customers that are adversely affected by the pandemic. Depending on the demonstrated need of the client, the Company is deferring either the full loan payment or the principal component of the loan payment for 60 or 90 days.  In accordance with interagency guidance issued in March 2020, these short-term deferrals are not considered troubled debt restructurings.


39


 

 

Credit

While all industries have and will continue to experience adverse impacts as a result of COVID-19, the Company has exposures in the following verticals considered to be “at-risk” of significant impact as of March 31, 2020: healthcare, hotels, early education, wine and craft beverage, entertainment centers, fitness centers, and quick service restaurants each comprising $600.2 million or 15.7%, $242.3 million or 6.3%, $193.7 million or 5.1%, $175.3 million or 4.6%, $77.9 million or 2.0%, $49.7 million or 1.3%, and $29.3 million or 0.8% of total loans and leases (all at amortized cost, inclusive of loans carried at fair value), respectively.  49.9% of these amounts are government guaranteed loans.

The Company is working with customers directly affected by COVID-19.  The Company is prepared to offer short-term assistance in accordance with regulatory guidelines.  As a result of the current economic environment caused by COVID-19, the Company has reached out to every one of its borrowers and is engaging in more frequent communication with borrowers to better understand their situation and the challenges faced, which the Company anticipates will allow it to respond proactively as needs and issues arise.

Results of Operations

Performance Summary

Three months ended March 31, 2020 compared with three months ended March 31, 2019

For the three months ended March 31, 2020, the Company reported a net loss of $7.6 million, or $(0.19) per diluted share, compared to net earnings of $2.4 million, or $0.06 per diluted share, for the first quarter of 2019.  This decrease in net income is largely due to the effects of the COVID-19 pandemic on the Company’s credit reserves and fair value adjustments, as outlined below:

 

The provision for loan and lease credit losses increased $8.8 million, or 289.1%; and

 

 

The net loss on loans accounted for under the fair value option increased $12.7 million, or 610.7%.

Outside of the effects of COVID-19, which were intensified by the adoption of new current expected credit losses model (“CECL”) in the first quarter of 2020, salaries and employee benefits increased $6.2 million, or 28.4%, as the Company continued to invest in its workforce to support growth and a variety of initiatives.

The primary factors partially offsetting the above net loss were:

 

Increase in net interest income of $9.6 million, or 31.2%, predominately driven by significant growth in total loan and lease portfolios combined with higher investment security holdings;

 

 

Net gains on sales of loans increased $6.9 million, or 164.7%, due largely to a higher volume of loans sold in the first quarter of 2020 to strengthen the Company’s capital and liquidity profile in light of the looming pandemic.  The volume in guaranteed loan sales in the first quarter of 2020 increased to $162.3 million compared to $62.9 million in the first quarter of 2019; and

 

Income tax benefit increased $8.1 million primarily as a result of a $3.7 million estimated benefit related to the enactment of the CARES Act which allows the carryback of certain net operating losses for five years combined with the Company’s overall net pretax loss in the first quarter of 2020.

Net Interest Income and Margin

Net interest income represents the difference between the income that the Company earns on interest-earning assets and the cost it incurs on interest-bearing liabilities. The Company’s net interest income depends upon the volume of interest-earning assets and interest-bearing liabilities and the interest rates that the Company earns or pays on them, respectively. Net interest income is affected by changes in the amount and mix of interest-earning assets and interest-bearing liabilities, referred to as “volume changes.” It is also affected by changes in yields earned on interest-earning assets and rates paid on interest-bearing deposits and other borrowed funds, referred to as “rate changes.” As a bank without a branch network, the Bank gathers deposits over the Internet and in the community in which it is headquartered. Due to the nature of a branchless bank and the relatively low overhead required for deposit gathering, the rates that the Bank offers are generally above the industry average.

40


 

 

Three months ended March 31, 2020 compared with three months ended March 31, 2019

For the three months ended March 31, 2020, net interest income increased $9.6 million, or 31.2%, to $40.2 million compared to $30.6 million for the three months ended March 31, 2019. This increase was principally due to the significant growth in the combined held for sale and held for investment loan and lease portfolios along with higher investment security holdings reflecting the Company's ongoing initiative to grow recurring revenue sources and strengthen liquidity.   Average interest earning assets increased by $1.13 billion, or 33.3%, to $4.53 billion for the three months ended March 31, 2020, compared to $3.40 billion for the three months ended March 31, 2019, while the yield on average interest earning assets decreased thirty-three basis points to 5.62%. The cost of funds on interest bearing liabilities for the three months ended March 31, 2020 decreased twenty-four basis points to 2.14%, and the average balance of interest bearing liabilities increased by $1.08 billion, or 32.7%, over the same period. As indicated in the rate/volume table below, increased interest earning asset volume more than offset lower yields, outpacing the higher volume and lower levels of cost declines for interest bearing liabilities, resulting in increased interest income of $13.6 million and increased interest expense of $4.0 million for the three months ended March 31, 2020 compared to the three months ended March 31, 2019.  For the three months ended March 31, 2019 compared to the three months ended March 31, 2020, net interest margin decreased from 3.65% to 3.55%, respectively, principally due to the yield decline on interest earnings assets outpacing the lower cost for interest bearing liabilities.  The decline in net interest margin reflects impacts of recent Fed rate cuts.

Average Balances and Yields. The following table presents information regarding average balances for assets and liabilities, the total dollar amounts of interest income and dividends from average interest-earning assets, the total dollar amount of interest expense on average interest-bearing liabilities, and the resulting average yields and costs. The yields and costs for the periods indicated are derived by dividing the income or expense by the average balances for assets or liabilities, respectively, for the periods presented and annualizing that result. Loan fees are included in interest income on loans.

 

 

Three Months Ended March 31,

 

 

 

2020

 

 

2019

 

 

 

Average

Balance

 

 

Interest

 

 

Average

Yield/Rate

 

 

Average

Balance

 

 

Interest

 

 

Average

Yield/Rate

 

Interest earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds sold and interest earning

   balances in other banks

 

$

229,886

 

 

$

750

 

 

 

1.31

%

 

$

283,364

 

 

$

1,639

 

 

 

2.35

%

Investment securities

 

 

536,206

 

 

 

3,762

 

 

 

2.81

 

 

 

461,339

 

 

 

3,317

 

 

 

2.92

 

Loans held for sale

 

 

1,016,572

 

 

 

15,865

 

 

 

6.26

 

 

 

749,700

 

 

 

12,583

 

 

 

6.81

 

Loans and leases held for

   investment(1)

 

 

2,750,351

 

 

 

43,096

 

 

 

6.28

 

 

 

1,905,807

 

 

 

32,383

 

 

 

6.89

 

Total interest earning assets

 

 

4,533,015

 

 

 

63,473

 

 

 

5.62

 

 

 

3,400,210

 

 

 

49,922

 

 

 

5.95

 

Less: Allowance for credit losses on loans

   and leases

 

 

(27,003

)

 

 

 

 

 

 

 

 

 

 

(15,991

)

 

 

 

 

 

 

 

 

Non-interest earning assets

 

 

510,544

 

 

 

 

 

 

 

 

 

 

 

476,232

 

 

 

 

 

 

 

 

 

Total assets

 

$

5,016,556

 

 

 

 

 

 

 

 

 

 

$

3,860,451

 

 

 

 

 

 

 

 

 

Interest bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest bearing checking

 

$

 

 

$

 

 

 

%

 

$

169

 

 

$

 

 

 

%

Savings

 

 

1,123,882

 

 

 

4,844

 

 

 

1.73

 

 

 

927,579

 

 

 

4,786

 

 

 

2.09

 

Money market accounts

 

 

77,622

 

 

 

100

 

 

 

0.52

 

 

 

83,298

 

 

 

108

 

 

 

0.53

 

Certificates of deposit

 

 

3,162,660

 

 

 

18,311

 

 

 

2.32

 

 

 

2,282,709

 

 

 

14,423

 

 

 

2.56

 

Total deposits

 

 

4,364,164

 

 

 

23,255

 

 

 

2.14

 

 

 

3,293,755

 

 

 

19,317

 

 

 

2.38

 

Other borrowings

 

 

7,156

 

 

 

57

 

 

 

3.19

 

 

 

1,464

 

 

 

 

 

 

 

Total interest bearing liabilities

 

 

4,371,320

 

 

 

23,312

 

 

 

2.14

 

 

 

3,295,219

 

 

 

19,317

 

 

 

2.38

 

Non-interest bearing deposits

 

 

52,141

 

 

 

 

 

 

 

 

 

 

 

46,822

 

 

 

 

 

 

 

 

 

Non-interest bearing liabilities

 

 

53,494

 

 

 

 

 

 

 

 

 

 

 

14,449

 

 

 

 

 

 

 

 

 

Shareholders' equity

 

 

539,601

 

 

 

 

 

 

 

 

 

 

 

503,961

 

 

 

 

 

 

 

 

 

Total liabilities and

   shareholders' equity

 

$

5,016,556

 

 

 

 

 

 

 

 

 

 

$

3,860,451

 

 

 

 

 

 

 

 

 

Net interest income and interest

   rate spread

 

 

 

 

 

$

40,161

 

 

 

3.48

%

 

 

 

 

 

$

30,605

 

 

 

3.58

%

Net interest margin

 

 

 

 

 

 

 

 

 

 

3.55

%

 

 

 

 

 

 

 

 

 

 

3.65

%

Ratio of average interest-earning

   assets to average interest-bearing

   liabilities

 

 

 

 

 

 

 

 

 

 

103.70

%

 

 

 

 

 

 

 

 

 

 

103.19

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(1)

Average loan and lease balances include non-accruing loans and leases.

41


 

 

Rate/Volume Analysis. The following table sets forth the effects of changing rates and volumes on net interest income. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The total column represents the sum of the prior columns. For purposes of this table, increases or decreases attributable to changes in both rate and volume that cannot be segregated have been allocated proportionally based on the changes due to rate and the changes due to volume.

 

 

 

Three Months Ended March 31,

 

 

 

2020 vs. 2019

 

 

 

Increase (Decrease) Due to

 

 

 

Rate

 

 

Volume

 

 

Total

 

Interest income:

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds sold and interest

   earning balances in other banks

 

$

(647

)

 

$

(242

)

 

$

(889

)

Investment securities

 

 

(87

)

 

 

532

 

 

 

445

 

Loans held for sale

 

 

(1,040

)

 

 

4,322

 

 

 

3,282

 

Loans and leases held for investment

 

 

(3,079

)

 

 

13,792

 

 

 

10,713

 

Total interest income

 

 

(4,853

)

 

 

18,404

 

 

 

13,551

 

Interest expense:

 

 

 

 

 

 

 

 

 

 

 

 

Interest bearing checking

 

 

 

 

 

 

 

 

 

Savings

 

 

(871

)

 

 

929

 

 

 

58

 

Money market accounts

 

 

(1

)

 

 

(7

)

 

 

(8

)

Certificates of deposit

 

 

(1,439

)

 

 

5,327

 

 

 

3,888

 

Other borrowings

 

 

34

 

 

 

23

 

 

 

57

 

Total interest expense

 

 

(2,277

)

 

 

6,272

 

 

 

3,995

 

Net interest income

 

$

(2,576

)

 

$

12,132

 

 

$

9,556

 

 

Provision for Loan and Lease Credit Losses

The provision for loan and lease credit losses represents the amount necessary to be charged against the current period’s earnings to maintain the allowance for credit losses (“ACL”) on loans and leases at a level that is appropriate in relation to the estimated losses inherent in the loan and lease portfolio.

Losses inherent in loan relationships are mitigated if a portion of the loan is guaranteed by the SBA or USDA. A typical SBA 7(a) loan carries a 75% guarantee while USDA guarantees range from 50% to 90% depending on loan size, which serve to reduce the risk profile of these loans. The Company believes that its focus on compliance with regulations and guidance from the SBA and USDA are key factors to managing this risk.

For the first quarter of 2020, the provision for loan and lease credit losses was $11.8 million compared to $3.0 million for the same period in 2019, an increase of $8.8 million.  The Company adopted the new current expected credit losses (“CECL”) standard effective January 1, 2020 and accordingly determined to use forecasted levels of unemployment as a primary economic variable in forecasting future expected losses.  Approximately $6.5 million of the first quarter 2020 provision was estimated to be based upon the severity of recent independent unemployment forecasts as a result of the COVID-19 pandemic with the remaining increase primarily due to continued growth of loans and leases held for investment combined with increased levels of criticized and classified loans and leases and charge-offs, with charge-offs in the Government Contracting vertical having a significant impact on historical loss factors.  

Loans and leases held for investment at historical cost were $1.98 billion as of March 31, 2020, increasing by $870.2 million, or 78.0%, compared to March 31, 2019.  This growth was fueled by strong loan origination volumes and retaining substantially more loans on the balance sheet.

Net charge-offs for loans and leases measured at historical cost were $2.8 million, or 0.58% of average quarterly loans and leases held for investment, measured at historical cost, on an annualized basis, for the three months ended March 31, 2020, compared to $87 thousand in net recoveries, or (0.03)%, for the three months ended March 31, 2019.  The increase in net charge-offs was largely comprised of two loans in the Government Contracting vertical.  Net charge-offs are a key element of historical experience in the Company's estimation of the allowance for credit losses on loans and leases.


42


 

 

In addition, at March 31, 2020, nonperforming loans and leases not guaranteed by the SBA or USDA, excluding $8.2 million and $8.5 million accounted for under the fair value option at March 31, 2020 and 2019, respectively, totaled $9.6 million, which was 0.48% of the held for investment loan and lease portfolio measured at historical cost compared to $7.3 million, or 0.66% of loans and leases held for investment at March 31, 2019.

Noninterest Income

Noninterest income is principally comprised of net gains from the sale of SBA and USDA-guaranteed loans along with loan servicing revenue and related revaluation of the servicing asset. Revenue from the sale of loans depends upon the volume, maturity structure and rates of underlying loans as well as the pricing and availability of funds in the secondary markets prevailing in the period between completed loan funding and closing of sale. In addition, the loan servicing revaluation is significantly impacted by changes in market rates and other underlying assumptions such as prepayment speeds and default rates. Net (loss) gain on loans accounted for under the fair value option is also significantly impacted by changes in market rates, prepayment speeds and inherent credit risk.  Other less common elements of noninterest income include nonrecurring gains and losses on investments.

The following table shows the components of noninterest income and the dollar and percentage changes for the periods presented.

 

 

 

Three Months Ended March 31,

 

 

2020/2019 Increase (Decrease)

 

 

 

2020

 

 

2019

 

 

Amount

 

 

Percent

 

Noninterest income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loan servicing revenue

 

$

6,422

 

 

$

7,410

 

 

$

(988

)

 

 

(13.33

)%

Loan servicing asset revaluation

 

 

(4,692

)

 

 

(4,040

)

 

 

(652

)

 

 

(16.14

)

Net gains on sales of loans

 

 

11,112

 

 

 

4,198

 

 

 

6,914

 

 

 

164.70

 

Net (loss) gain on loans accounted for under the fair

   value option

 

 

(10,638

)

 

 

2,083

 

 

 

(12,721

)

 

 

(610.71

)

Equity method investments income (loss)

 

 

(2,478

)

 

 

(2,014

)

 

 

(464

)

 

 

23.04

 

Equity security investments (losses) gains, net

 

 

(64

)

 

 

103

 

 

 

(167

)

 

 

(162.14

)

(Loss) gain on sale of investment securities

   available-for-sale

 

 

(79

)

 

 

5

 

 

 

(84

)

 

 

(1,680.00

)

Lease income

 

 

2,624

 

 

 

2,325

 

 

 

299

 

 

 

12.86

 

Management fee income

 

 

1,644

 

 

 

 

 

 

1,644

 

 

 

100.00

 

Construction supervision fee income

 

 

390

 

 

 

779

 

 

 

(389

)

 

 

(49.94

)

Other noninterest income

 

 

1,501

 

 

 

2,467

 

 

 

(966

)

 

 

(39.16

)

Total noninterest income

 

$

5,742

 

 

$

13,316

 

 

$

(7,574

)

 

 

(56.88

)%

For the three months ended March 31, 2020, noninterest income decreased by $7.6 million, or 56.9%, compared to the three months ended March 31, 2019.  The decrease from the prior year is primarily the result of the aforementioned $12.7 million increase in net loss on loans accounted for under the fair value option.  Partially offsetting the overall decrease in noninterest income was an increase in net gains on sales of loans combined with increased management fee income arising from Canapi performing investment advisory services for a series of new funds providing venture capital to new and emerging financial technology companies.

 

The following table reflects loan and lease production, sales of guaranteed loans and the aggregate balance in guaranteed loans sold. These components are key drivers of the Company's noninterest income.

 

 

 

Three Months Ended March 31,

 

 

For years ended December 31,

 

 

 

2020

 

 

2019

 

 

2019

 

 

2018

 

 

2017

 

 

2016

 

Amount of loans and leases

   originated

 

$

500,634

 

 

$

390,851

 

 

$

2,001,886

 

 

$

1,765,680

 

 

$

1,934,238

 

 

$

1,537,010

 

Guaranteed portions of

   loans sold

 

 

162,297

 

 

 

62,940

 

 

 

340,374

 

 

 

945,178

 

 

 

787,926

 

 

 

761,933

 

Outstanding balance of

   guaranteed loans sold (1)

 

 

2,761,015

 

 

 

2,952,774

 

 

 

2,746,840

 

 

 

3,045,460

 

 

 

2,680,641

 

 

 

2,278,618

 

 

(1)

This represents the outstanding principal balance of guaranteed loans serviced, as of the last day of the applicable period, which have been sold into the secondary market.

43


 

 

Changes in various components of noninterest income are discussed in more detail below.

Loan Servicing Revenue: While portions of the loans that the Bank originates are sold and generate gain on sale revenue, servicing rights for those sold portions are retained by the Bank. In exchange for continuing to service sold loans, the Bank receives fee income represented in loan servicing revenue equivalent to 1.0% of the outstanding balance of SBA loans sold and 0.40% of the outstanding balance of USDA loans sold. In addition, the standard cost (adequate compensation) for servicing sold loans is approximately 0.40% of the balance of the loans sold, which is included in the loan servicing revaluation computations. Unrecognized servicing revenue above the standard cost to service is reflected in a servicing asset recorded on the balance sheet. Revenues associated with the servicing of loans are recognized over the expected life of the loan through the income statement, and the servicing asset is reduced as this revenue is recognized. For the quarter ended March 31, 2020, loan servicing revenue decreased $988 thousand, or 13.3%, to $6.4 million as compared to the quarter ended March 31, 2019, as a result of the declining balance of the serviced portfolio. At March 31, 2020, the outstanding balance of guaranteed loans sold in the secondary market was $2.76 billion compared to $2.95 billion at March 31, 2019.

Loan Servicing Revaluation: The Company revalues its serviced loan portfolio at least quarterly. The revaluation considers the amortization of the portfolio, current market conditions for loan sale premiums, and current prepayment speeds. For the three months ended March 31, 2020, there was a net negative loan servicing revaluation adjustment of $4.7 million compared to a net negative adjustment of $4.0 million for the three months ended March 31, 2019.  The lower revaluation amount for the quarter ended March 31, 2020 as compared to the corresponding period of 2019 was primarily a result of declining market conditions arising from COVID-19.  This decline was estimated to be approximately $2 million of the negative valuation adjustment in the first quarter of 2020.  

Net Gains on Sale of Loans: For the three months ended March 31, 2020, net gains on sales of loans increased $6.9 million, or 164.7%, compared to the three months ended March 31, 2019. For the three months ended March 31, 2020, the volume of guaranteed loans sold increased $99.4 million, or 157.9%, to $162.3 million from $62.9 million for the three months ended March 31, 2019.  With the average net gain on guaranteed loan sales increasing from $61.3 million to $63.1 million, per million sold, in the first quarters of 2019 and 2020, respectively, the overall increase in net gains on sales of loans in the first quarter of 2020 is due to a combination of higher volume of loans sold in the first quarter of 2020 to strengthen the Company’s capital and liquidity profile in light of uncertain market conditions and higher year over year premiums.  Partially offsetting the increase in net gains on sale of loans are increased losses from fair value changes in exchange-traded interest rate futures contracts which increased by $1.5 million, from $1.7 million in the first quarter of 2019 to $3.2 million in the first quarter of 2020.  The increase in losses on fair value changes in exchange-traded interest rate futures contracts was also influenced by the market effects of COVID-19.  

Net (Loss) Gain on Loans Accounted for Under the Fair Value Option:  For the three months ended March 31, 2020 the net loss on loans accounted for under the fair value option increased $12.7 million, or 610.7%, compared to the three months ended March 31, 2019.  The carrying amount of loans accounted for under the fair value option at March 31, 2020 and 2019 was $850.6 million ($19.2 million classified as held for sale and $831.4 million classified as held for investment) and $893.9 million ($25.3 million classified as held for sale and $868.7 million classified as held for investment), respectively, a decrease of $43.3 million, or 4.9%.  Approximately $6.3 million of the first quarter 2020 net loss on loans accounted for under the fair value option was estimated to be based upon the severity of valuation assumptions as a result of the COVID-19 pandemic with the remainder largely a product of valuation inputs driven by increased levels of criticized and classified loans and leases and charge-offs.  

 

 


44


 

 

Noninterest Expense

Noninterest expense comprises all operating costs of the Company, such as employee related costs, travel, professional services, advertising and marketing expenses, exclusive of interest and income tax expense.

The following table shows the components of noninterest expense and the related dollar and percentage changes for the periods presented.

 

 

 

Three Months Ended March 31,

 

 

2020/2019 Increase (Decrease)

 

 

 

2020

 

 

2019

 

 

Amount

 

 

Percent

 

Noninterest expense

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Salaries and employee benefits

 

$

28,063

 

 

$

21,855

 

 

$

6,208

 

 

 

28.41

%

Non-staff expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Travel expense

 

 

1,781

 

 

 

1,200

 

 

 

581

 

 

 

48.42

 

Professional services expense

 

 

1,937

 

 

 

2,182

 

 

 

(245

)

 

 

(11.23

)

Advertising and marketing expense

 

 

1,361

 

 

 

1,364

 

 

 

(3

)

 

 

(0.22

)

Occupancy expense

 

 

2,421

 

 

 

1,609

 

 

 

812

 

 

 

50.47

 

Data processing expense

 

 

3,157

 

 

 

2,399

 

 

 

758

 

 

 

31.60

 

Equipment expense

 

 

4,635

 

 

 

3,325

 

 

 

1,310

 

 

 

39.40

 

Other loan origination and maintenance expense

 

 

2,456

 

 

 

1,639

 

 

 

817

 

 

 

49.85

 

FDIC insurance

 

 

1,510

 

 

 

635

 

 

 

875

 

 

 

137.80

 

Other expense

 

 

2,170

 

 

 

1,993

 

 

 

177

 

 

 

8.88

 

Total non-staff expenses

 

 

21,428

 

 

 

16,346

 

 

 

5,082

 

 

 

31.09

 

Total noninterest expense

 

$

49,491

 

 

$

38,201

 

 

$

11,290

 

 

 

29.55

%

 

Total noninterest expense for the three months ended March 31, 2020 increased $11.3 million, or 29.6%, compared to the same period in 2019. The increase in noninterest expense was largely driven by salaries and employee benefits and equipment expenses.  Changes in various components of noninterest expense are discussed below.

Salaries and employee benefits: Total personnel expense for the three months ended March 31, 2020 increased by $6.2 million, or 28.4%, compared to the same period in 2019.  While personnel expense is carefully managed, this increase is principally due to the Company’s commitment to and investment in its workforce to support growth and a variety of initiatives. Total full-time equivalent employees increased from 507 at March 31, 2019 to 622 at March 31, 2020.  Salaries and employee benefits expense included $2.9 million of stock-based compensation for the three months ended March 31, 2020 and 2019.  Expenses related to the employee stock purchase program, stock grants, stock option compensation and restricted stock expense are all considered stock-based compensation.

 

Equipment expense:  For the three months ended March 31, 2020, equipment expense increased $1.3 million, or 39.4%, compared to the same period in 2019.  Primary factors contributing to this increase were the depreciation of technology and infrastructure investments to support the Company’s growth initiatives.

Income Tax Expense

For the first quarter of 2020 and 2019 there was an income tax benefit of $7.8 million and income tax expense of $317 thousand, and the Company’s effective tax rates were (50.6)% and 11.8%, respectively.  The negative effective rate during the first quarter of 2020 was a result of a discrete, estimated income tax benefit of $3.7 million related to the enactment of the CARES Act on March 27, 2020.  The CARES Act allows taxpayers to carryback certain net operating losses to each of the five taxable years preceding the taxable year of such losses.  As a result, the Company will be allowed to carryback its 2018 net operating loss which had been utilized and measured under the prior law using a 21% corporate income tax rate to pre-2018 taxable years during which the corporate income tax rate was 35%.  The remaining income tax benefit in the first quarter of 2020 was predominantly driven by the Company’s overall net pretax loss.  Based upon current projections, the effective tax rate for the remainder of 2020 is expected to be approximately 26.0% to 28.0%; however, there can be no assurance as to the actual amount because it will be dependent upon the nature and amount of future income and expenses, investments generating investment tax credits and transactions with discrete tax effects.

 


45


 

 

Discussion and Analysis of Financial Condition

March 31, 2020 vs. December 31, 2019

Total assets at March 31, 2020 were $5.28 billion, an increase of $461.3 million, or 9.6%, compared to total assets of $4.81 billion at December 31, 2019. The growth in total assets was principally driven by the following:

 

Cash and cash equivalents, comprised of cash and due from banks and federal funds sold, increased $191.5 million as a product of increased levels of deposits, loan sales and borrowings arising from efforts to strengthen the Company’s capital and liquidity profile in light of the uncertain market conditions and the developing pandemic;

 

Increased investment securities available-for-sale of $34.1 million which was driven by the Company’s strategy also to enhance liquidity and improve asset-liability repricing mix; and

 

Growth in loans and leases held for sale and held for investment of $219.8 million resulting from $500.6 million in originations, partially offset by current quarter sales.

Cash and cash equivalents, comprised of cash and due from banks and federal funds sold, was $415.1 million at March 31, 2020, an increase of $191.5 million, or 85.7%, compared to $223.5 million at December 31, 2019.  As mentioned above, this increase reflects the impact of the efforts to strengthen the Company’s capital and liquidity profile considering uncertain market conditions and the developing pandemic at quarter end.

Total investment securities increased $34.1 million during the first three months of 2020, from $540.0 million at December 31, 2019, to $574.2 million at March 31, 2020, an increase of 6.3%.  The Company increased its investment securities position during the first quarter of 2020 as part of its strategy to improve the returns of an enhanced liquidity profile and improve asset-liability repricing mix.  At March 31, 2020, the investment portfolio was comprised of U.S. treasury, U.S. government agency, mortgage-backed securities and municipal bonds.

Loans held for sale increased $29.6 million, or 3.1%, during the first three months of 2020, from $966.4 million at December 31, 2019, to $996.1 million at March 31, 2020. This increase reflected the impact of origination activity during the first three months of 2020, partially offset by higher levels of loan sales during the quarter.  

Loans and leases held for investment increased $190.2 million, or 7.2%, during the first three months of 2020, from $2.63 billion at December 31, 2019, to $2.82 billion at March 31, 2020. The increase was primarily the result of $500.6 million in loan and lease origination activities during the first three months of 2020.

Premises and equipment, net, decreased $4.9 million, or 1.8%, during the first three months of 2020 which was primarily driven by increased levels of depreciation of facilities and infrastructure to accommodate Company growth and solar panels to meet leasing obligations in prior periods.

Other assets increased $29.4 million, or 18.8%, from $156.1 million at December 31, 2019 to $185.5 million at March 31, 2020.  This increase was principally the result a $17.8 million increase in wire suspense from loan sales late in the quarter combined with an increase in taxes receivable of $8.7 million related to tax benefits recognized in the first quarter of 2020 related to the CARES Act and the Company’s overall pre-tax loss.  See Income Tax Expense in Results of Operations for more information.

Total deposits were $4.64 billion at March 31, 2020, an increase of $413.0 million, or 9.8%, from $4.23 billion at December 31, 2019. The increase in deposits was driven by the combined success of deposit gathering campaigns to support the growth in loan and lease originations and balance sheet management initiatives.

Borrowings increased to $50.0 million at March 31, 2020 from $14 thousand at December 31, 2019.  This increase was the result of the above mentioned efforts to strengthen the Company’s capital and liquidity profile in light of the uncertain market conditions and the developing pandemic.

46


 

 

Shareholders’ equity at March 31, 2020 was $533.8 million as compared to $532.4 million at December 31, 2019. The book value per share was $13.22 at March 31, 2020 compared to $13.20 at December 31, 2019. Average equity to average assets was 10.8% for the three months ended March 31, 2020 compared to 13.1% for the three months ended December 31, 2019. The increase in shareholders’ equity was principally the result of other comprehensive income of $6.0 million and stock-based compensation expense of $2.9 million, partially offset by net loss of $7.6 million and $1.2 million in dividends.

During the first quarter of 2020, 200,000 shares of Class B common stock (non-voting) were converted to Class A common stock (voting) under a private sale. The conversion decreased the value of Class B common stock (non-voting) and increased the value of Class A common stock (voting) by $2.1 million.

Asset Quality

Management considers asset quality to be of primary importance. A formal loan review function, independent of loan origination, is used to identify and monitor problem loans. This function reports directly to the Audit & Risk Committee of the Board of Directors.

Nonperforming Assets

The Bank places loans and leases on nonaccrual status when they become 90 days past due as to principal or interest payments, or prior to that if management has determined based upon current information available to them that the timely collection of principal or interest is not probable. When a loan or lease is placed on nonaccrual status, any interest previously accrued as income but not actually collected is reversed and recorded as a reduction of loan or lease interest and fee income. Typically, collections of interest and principal received on a nonaccrual loan or lease are applied to the outstanding principal as determined at the time of collection of the loan or lease.

Troubled debt restructurings (“TDRs”) occur when, because of economic or legal reasons pertaining to the debtor’s financial difficulties, debtors are granted concessions that would not otherwise be considered. Such concessions would include, but are not limited to, the transfer of assets or the issuance of equity interests by the debtor to satisfy all or part of the debt, modification of the terms of debt or the substitution or addition of debtor(s).

Total nonperforming assets and troubled debt restructurings, including loans carried at fair value, at March 31, 2020 were $136.7 million, which represented a $37.9 million, or 38.4%, increase from December 31, 2019. These nonperforming assets, at March 31, 2020 were comprised of $99.4 million in nonaccrual loans and leases and $6.7 million in foreclosed assets. Of the $136.7 million of nonperforming assets and TDRs, $104.5 million carried an SBA guarantee, leaving an unguaranteed exposure of $32.2 million in total nonperforming assets and TDRs at March 31, 2020. This represents an increase of $2.0 million, or 6.8%, from an unguaranteed exposure of $27.2 million at December 31, 2019.  

The following table provides information with respect to nonperforming assets and troubled debt restructurings, excluding loans measured at fair value, at the dates indicated.

 

 

March 31, 2020 (1)

 

 

December 31, 2019 (1)

 

Nonaccrual loans and leases:

 

 

 

 

 

 

 

 

Total nonperforming loans and leases (all on nonaccrual)

 

$

34,088

 

 

$

21,937

 

Total accruing loans and leases past due 90 days or more

 

 

 

 

 

 

Foreclosed assets

 

 

6,744

 

 

 

5,612

 

Total troubled debt restructurings

 

 

22,537

 

 

 

16,566

 

Less nonaccrual troubled debt restructurings

 

 

(6,080

)

 

 

(2,225

)

Total performing troubled debt restructurings

 

 

16,457

 

 

 

14,341

 

Total nonperforming assets and troubled debt restructurings

 

$

57,289

 

 

$

41,890

 

Total nonperforming loans and leases to total loans and leases held for

   investment

 

 

1.72

%

 

 

1.22

%

Total nonperforming loans and leases to total assets

 

 

0.77

%

 

 

0.55

%

Total nonperforming assets and troubled debt restructurings to total assets

 

 

1.29

%

 

 

1.05

%

 

47


 

 

 

 

March 31, 2020 (1)

 

 

December 31, 2019 (1)

 

Nonaccrual loans and leases guaranteed by U.S. government:

 

 

 

 

 

 

 

 

Total nonperforming loans and leases guaranteed by the SBA (all on

   nonaccrual)

 

$

24,465

 

 

$

14,713

 

Total accruing loans and leases past due 90 days or more guaranteed by the

   SBA

 

 

 

 

 

 

Foreclosed assets guaranteed by the SBA

 

 

5,266

 

 

 

4,492

 

Total troubled debt restructurings guaranteed by the SBA

 

 

14,387

 

 

 

10,845

 

Less nonaccrual troubled debt restructurings guaranteed by the SBA

 

 

(3,062

)

 

 

(385

)

Total performing troubled debt restructurings guaranteed by SBA

 

 

11,325

 

 

 

10,460

 

Total nonperforming assets and troubled debt restructurings guaranteed

   by the SBA

 

$

41,056

 

 

$

29,665

 

Total nonperforming loans and leases not guaranteed by the SBA to total

   loans and leases held for investment

 

 

0.48

%

 

 

0.40

%

Total nonperforming loans and leases not guaranteed by the SBA to total

   assets

 

 

0.22

%

 

 

0.18

%

Total nonperforming assets and troubled debt restructurings not

   guaranteed by the SBA to total assets

 

 

0.37

%

 

 

0.31

%

 

(1)

Excludes loans measured at fair value.

 

Nonperforming assets and TDRs, excluding loans carried at fair value, at March 31, 2020 were $57.3 million, which represented a $15.3 million, or 36.8%, increase from December 31, 2019. These nonperforming assets, at March 31, 2020 were comprised of $34.1 million in nonaccrual loans and leases and $6.7 million in foreclosed assets. Of the $57.3 million of nonperforming assets and TDRs, $41.1 million carried an SBA guarantee, leaving an unguaranteed exposure of $16.2 million in total nonperforming assets and TDRs at March 31, 2020. This represents an increase of $4.0 million, or 32.8%, from an unguaranteed exposure of $12.2 million at December 31, 2019.  

 

See the below discussion related to the change in potential problem and impaired loans and leases for management’s overall observations regarding growth in total nonperforming loans and leases.

As a percentage of the Bank’s total capital, nonperforming loans and leases, excluding loans measured at fair value, represented 7.1% at March 31, 2020, compared to 4.4% at December 31, 2019. Adjusting the ratio to include only the unguaranteed portion of nonperforming loans and leases at historical cost to reflect management’s belief that the greater magnitude of risk resides in this portion, the ratios at March 31, 2020 and December 31, 2019 were 2.0% and 1.5%, respectively.

48


 

 

As of March 31, 2020, and December 31, 2019, potential problem (also referred to as criticized) and classified loans and leases, excluding loans measured at fair value, totaled $143.2 million and $129.1 million, respectively.  The following is a discussion of these loans and leases.  Risk Grades 5 through 8 represent the spectrum of criticized and classified loans and leases.  At March 31, 2020, the portion of criticized loans and leases guaranteed by the SBA or USDA totaled $80.7 million resulting in unguaranteed exposure risk of $62.6 million, or 4.8% of total held for investment unguaranteed exposure measured at historical cost. This compares to the December 31, 2019 portion of criticized loans and leases guaranteed by the SBA or USDA which totaled $65.8 million resulting in unguaranteed exposure risk of $63.3 million, or 5.4% of total held for investment unguaranteed exposure measured at historical cost. As of March 31, 2020, loans and leases measured at historical cost in Other Industries, Healthcare and Veterinary verticals comprise the largest portion of the total potential problem and classified loans and leases at 62.3%, 21.4%, and 6.3%, respectively. Of the 62.3% of total potential problem and classified loans and leases in Other Industries, 15.6% was related to Wine and Craft Beverage, 13.3% to Hotels, 8.5% to Self Storage, 5.2% to Educational Services and 4.1% to Mergers & Acquisitions.  As of December 31, 2019, loans and leases in Other Industries, Healthcare, and Veterinary Industry verticals comprise the largest portion of the total potential problem and impaired loans and leases at 62.4%, 20.8%, and 7.1%, respectively. Of the 62.4% of total potential problem and impaired loans and leases in Other Industries, 14.7% was related to Hotels, 14.3% to Wine and Craft Beverage, 8.4% to Self Storage, 6.1% to Government Contracting, and 5.7% to Educational Services.  Two previously impaired Government Contracting relationships were charged off in the first quarter of 2020 which resulted in a reduction in impaired loans for this vertical.  The majority of the increase in potential problem and classified loans and leases was comprised of a relatively small number of borrowers largely concentrated in the Company’s more mature verticals.  Furthermore, the Company believes that its underwriting and credit quality standards have improved as the business has matured.  However, systemic issues which began to emerge during the latter part of 2019 related to higher than expected levels of competition in the Wine and Craft Beverage and Family Entertainment Center verticals continue to contribute to the increase in classified loans and leases.  Management has implemented tighter underwriting guidelines for these verticals and will continue to monitor new origination quality.  

The Bank does not classify loans and leases that experience insignificant payment delays and payment shortfalls as impaired. The Bank considers an “insignificant period of time” from payment delays to be a period of 90 days or less. The Bank would consider a modification for a customer experiencing what is expected to be a short-term event that has temporarily impacted cash flow. This could be due, among other reasons, to illness, weather, impact from a one-time expense, slower than expected start-up, construction issues or other short-term issues. In all cases, credit personnel will review the request to determine if the customer is stressed and how the event has impacted the ability of the customer to repay the loan or lease long term. To date, the only types of short-term modifications the Bank has given are payment deferral and interest only extensions. The Bank does not typically alter the rate or lengthen the amortization of the note due to insignificant payment delays. Short term modifications are not classified as TDRs, because they do not meet the definition set by the applicable accounting standards and the Federal Deposit Insurance Corporation.

Management endeavors to be proactive in its approach to identify and resolve problem loans and leases and is focused on working with the borrowers and guarantors of these loans and leases to provide loan and lease modifications when warranted.  Management implements a proactive approach to identifying and classifying loans and leases as special mention (also referred to as criticized), Risk Grade 5. For example, at March 31, 2020, and December 31, 2019, Risk Grade 5 loans and leases, excluding loans measured at fair value, totaled $96.2 million and $89.5 million, respectively. The increase in Risk Grade 5 loans and leases, exclusive of loans measured at fair value, during the first quarter of 2020 was principally confined to five verticals: Senior Care ($4.2 million or 64.5%), Healthcare ($3.9 million or 59.8%), Mergers & Acquisitions ($1.4 million or 21.7%), Self Storage ($1.3 million or 20.1%), and Funeral Home & Cemetery ($1.1 million or 16.8%). At March 31, 2020, approximately 95.6% of loans and leases classified as Risk Grade 5 are performing with no current payments past due more than 30 days.  While the level of nonperforming assets fluctuates in response to changing economic and market conditions, in light of the relative size and composition of the loan and lease portfolio and management’s degree of success in resolving problem assets, management believes that a proactive approach to early identification and intervention is critical to successfully managing a small business loan portfolio.

49


 

 

Allowance for Credit Losses on Loans and Leases

The allowance for credit losses (“ACL”) on loans and leases is a valuation account that is deducted from, or added to, the amortized cost basis of loans and leases to present a net amount expected to be collected. The ACL excludes loans held for sale and loans accounted for under the fair value option. Loans and leases are charged-off against the ACL when management believes the uncollectibility of a loan or lease balance is confirmed. Expected recoveries do not exceed the aggregate of amounts previously charged-off and expected to be charged-off. Judgment in determining the adequacy of the ACL is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available and as situations and information change.

The ACL is evaluated on a quarterly basis by management and is estimated using relevant information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. The Company’s historical credit loss experience provides the basis for the estimation of expected credit losses. Management adjusts historical loss information for differences in current risk characteristics such as portfolio risk grading, delinquency levels, or portfolio mix as well as for changes in environmental conditions such as changes in unemployment rates.  

The ACL of $28.2 million at December 31, 2019 increased by $7.7 million, or 27.2%, to $35.9 million at March 31, 2020. The ACL, as a percentage of loans and leases held for investment at historical cost, amounted to 1.8% at March 31, 2020 and 1.6% at December 31, 2019. As mentioned earlier, the Company adopted the new CECL standard effective January 1, 2020.  Upon adoption, the Company recorded a $1.3 million decrease in the ACL.  In implementing CECL, the Company accordingly determined to use forecasted levels of unemployment as a primary economic variable in forecasting future expected losses.  Based upon the severity of recent independent unemployment forecasts as a result of the COVID-19 pandemic at quarter end, the Company’s allowance for credit losses on loans and leases increased significantly, combined with the effects of the above discussed increased levels of criticized and classified loans and leases and charge-offs, as addressed more fully in the Provision for Loan and Lease Credit Losses section of Results of Operations.  

Actual past due held for investment loans and leases, inclusive of loans measured at fair value, have increased by $33.2 million since December 31, 2019.  These past dues represent 31 relationships spread across ten verticals with no consistent underlying origins of delinquency.  Total loans and leases 90 or more days past due increased $21.2 million, or 54.3%, compared to December 31, 2019.  The increase was primarily the result of an $18.1 million increase in the guaranteed portion of past due loans compared to December 31, 2019.  At March 31, 2020 and December 31, 2019, total held for investment unguaranteed loans and leases past due as a percentage of total held for investment unguaranteed loans and leases, inclusive of loans measured at fair value, was 2.10% and 1.67%, respectively.  Total unguaranteed loans and leases past due were comprised of $11.4 million carried at historical cost and $16.1 million measured at fair value as of March 31, 2020, each increasing $3.5 million and $4.5 million, respectively, since December 31, 2019.  Management continues to actively monitor and work to improve asset quality. Management believes the ACL of $35.9 million at March 31, 2020 is appropriate in light of the risk inherent in the loan and lease portfolio. Management’s judgments are based on numerous assumptions about current and expected events that it believes to be reasonable, but which may or may not be valid. Thus, there can be no assurance that loan and lease credit losses in future periods will not exceed the current ACL or that future increases in the will not be required. No assurance can be given that management’s ongoing evaluation of the loan and lease portfolio in light of changing economic conditions and other relevant circumstances will not require significant future additions to the ACL, thus adversely affecting the Company’s operating results. Additional information on the ACL is presented in Note 5. Loans and Leases Held for Investment and Credit Quality of the Notes to the Unaudited Condensed Consolidated Financial Statements in this report.

Liquidity Management

Liquidity management refers to the ability to meet day-to-day cash flow requirements based primarily on activity in loan and deposit accounts of the Company’s customers. Liquidity is immediately available from four major sources: (a) cash on hand and on deposit at other banks; (b) the outstanding balance of federal funds sold; (c) the market value of unpledged investment securities; and (d) availability under lines of credit. At March 31, 2020, the total amount of these four items was $1.38 billion, or 26.2% of total assets, an increase of $190.2 million from $1.19 billion, or 24.8% of total assets, at December 31, 2019.

Loans and other assets are funded by loan sales, wholesale deposits and core deposits. To date, an increasing retail deposit base and an increased long term wholesale deposit base have been adequate to meet loan obligations, while maintaining the desired level of immediate liquidity. Additionally, the investment securities portfolio is available for both immediate and secondary liquidity purposes.

At March 31, 2020, none of the investment securities portfolio was pledged to secure public deposits or pledged to retail repurchase agreements, leaving $574.2 million available as lendable collateral.

50


 

 

Contractual Obligations

The following table presents the Company’s significant fixed and determinable contractual obligations by payment date as of March 31, 2020. The payment amounts represent those amounts contractually due to the recipient. The table excludes liabilities recorded where management cannot reasonably estimate the timing of any payments that may be required in connection with these liabilities.

 

 

 

Payments Due by Period

 

 

 

Total

 

 

Less than

One Year

 

 

One to

Three Years

 

 

Three to

Five Years

 

 

More than

Five Years

 

Contractual Obligations

��

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits without stated maturity

 

$

1,270,053

 

 

$

1,270,053

 

 

$

 

 

$

 

 

$

 

Time deposits

 

 

3,372,095

 

 

 

2,178,839

 

 

 

743,385

 

 

 

361,933

 

 

 

87,938

 

Borrowings

 

 

50,012

 

 

 

50,004

 

 

 

8

 

 

 

 

 

 

 

Operating lease obligations

 

 

3,086

 

 

 

569

 

 

 

880

 

 

 

402

 

 

 

1,235

 

Total

 

$

4,695,246

 

 

$

3,499,465

 

 

$

744,273

 

 

$

362,335

 

 

$

89,173

 

As of March 31, 2020, and December 31, 2019, the Company had unfunded commitments to provide capital contributions for on-balance sheet investments in the amount of $16.9 million.

Asset/Liability Management and Interest Rate Sensitivity

One of the primary objectives of asset/liability management is to maximize the net interest margin while minimizing the earnings risk associated with changes in interest rates. One method used to manage interest rate sensitivity is to measure, over various time periods, the interest rate sensitivity positions, or gaps. This method, however, addresses only the magnitude of asset and liability repricing timing differences as of the report date and does not address earnings, market value nor growth. Therefore, management uses an earnings simulation model to prepare, on a regular basis, earnings projections based on a range of interest rate scenarios to more accurately measure interest rate risk.

The balance sheet is asset-sensitive with a total cumulative gap position of 1.3% at March 31, 2020. The asset sensitivity is relatively stable from the prior quarter.  An asset-sensitive position means that net interest income will generally move in the same direction as interest rates. For instance, if interest rates increase, net interest income can be expected to increase, and if interest rates decrease, net interest income can be expected to decrease. The Company attempts to mitigate interest rate risk by match funding assets and liabilities with similar rate instruments. The quarterly revaluation adjustment to the servicing asset, however, adjusts in an opposite direction to interest rate changes. Asset/liability sensitivity is primarily derived from the prime-based loans that adjust as the prime interest rate changes and the longer duration of indeterminate term deposits.

Capital

The maintenance of appropriate levels of capital is a management priority and is monitored on a regular basis. The Company’s principal goals related to the maintenance of capital are to provide adequate capital to support the Company’s risk profile consistent with the risk appetite approved by the Board of Directors; provide financial flexibility to support future growth and client needs; comply with relevant laws, regulations, and supervisory guidance; achieve optimal credit ratings for the Company and its subsidiaries; and provide a competitive return to shareholders. Management regularly monitors the capital position of the Company on both a consolidated and bank level basis. In this regard, management’s goal is to maintain capital at levels that are in excess of the regulatory “well capitalized” levels. Risk-based capital ratios, which include Tier 1 Capital, Total Capital and Common Equity Tier 1 Capital, are calculated based on regulatory guidance related to the measurement of capital and risk-weighted assets.


51


 

 

Capital amounts and ratios as of March 31, 2020 and December 31, 2019, are presented in the table below.

 

 

 

Actual

 

 

Minimum Capital

Requirement

 

 

Minimum To Be

Well Capitalized

Under Prompt

Corrective Action

Provisions (1)

 

 

 

Amount

 

 

Ratio

 

 

Amount

 

 

Ratio

 

 

Amount

 

 

Ratio

 

Consolidated - March 31, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Equity Tier 1 (to Risk-Weighted Assets)

 

$

494,870

 

 

 

13.81

%

 

$

161,247

 

 

 

4.50

%

 

N/A

 

 

N/A

 

Total Capital (to Risk-Weighted Assets)

 

$

531,452

 

 

 

14.83

%

 

$

286,661

 

 

 

8.00

%

 

N/A

 

 

N/A

 

Tier 1 Capital (to Risk-Weighted Assets)

 

$

494,870

 

 

 

13.81

%

 

$

214,996

 

 

 

6.00

%

 

N/A

 

 

N/A

 

Tier 1 Capital (to Average Assets)

 

$

494,870

 

 

 

9.94

%

 

$

199,107

 

 

 

4.00

%

 

N/A

 

 

N/A

 

Bank - March 31, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Equity Tier 1 (to Risk-Weighted Assets)

 

$

445,499

 

 

 

12.67

%

 

$

158,255

 

 

 

4.50

%

 

$

228,590

 

 

 

6.50

%

Total Capital (to Risk-Weighted Assets)

 

$

482,081

 

 

 

13.71

%

 

$

281,342

 

 

 

8.00

%

 

$

351,677

 

 

 

10.00

%

Tier 1 Capital (to Risk-Weighted Assets)

 

$

445,499

 

 

 

12.67

%

 

$

211,006

 

 

 

6.00

%

 

$

281,342

 

 

 

8.00

%

Tier 1 Capital (to Average Assets)

 

$

445,499

 

 

 

9.00

%

 

$

197,990

 

 

 

4.00

%

 

$

247,487

 

 

 

5.00

%

Consolidated - December 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Equity Tier 1 (to Risk-Weighted Assets)

 

$

499,513

 

 

 

14.90

%

 

$

150,927

 

 

 

4.50

%

 

N/A

 

 

N/A

 

Total Capital (to Risk-Weighted Assets)

 

$

527,747

 

 

 

15.74

%

 

$

268,315

 

 

 

8.00

%

 

N/A

 

 

N/A

 

Tier 1 Capital (to Risk-Weighted Assets)

 

$

499,513

 

 

 

14.90

%

 

$

201,236

 

 

 

6.00

%

 

N/A

 

 

N/A

 

Tier 1 Capital (to Average Assets)

 

$

499,513

 

 

 

10.65

%

 

$

187,582

 

 

 

4.00

%

 

N/A

 

 

N/A

 

Bank - December 31, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Equity Tier 1 (to Risk-Weighted Assets)

 

$

451,807

 

 

 

13.66

%

 

$

148,950

 

 

 

4.50

%

 

$

215,150

 

 

 

6.50

%

Total Capital (to Risk-Weighted Assets)

 

$

480,040

 

 

 

14.51

%

 

$

264,800

 

 

 

8.00

%

 

$

331,000

 

 

 

10.00

%

Tier 1 Capital (to Risk-Weighted Assets)

 

$

451,807

 

 

 

13.66

%

 

$

198,600

 

 

 

6.00

%

 

$

264,800

 

 

 

8.00

%

Tier 1 Capital (to Average Assets)

 

$

451,807

 

 

 

9.68

%

 

$

186,627

 

 

 

4.00

%

 

$

233,283

 

 

 

5.00

%

 

(1)

Prompt corrective action provisions are not applicable at the bank holding company level.

Critical Accounting Policies and Estimates

The preparation of consolidated financial statements in accordance with GAAP requires the Company to make estimates and judgments that affect reported amounts of assets, liabilities, income and expenses and related disclosure of contingent assets and liabilities. The Company bases estimates on historical experience and on various other assumptions that are believed to be reasonable under current circumstances, results of which form the basis for making judgments about the carrying value of certain assets and liabilities that are not readily available from other sources. Estimates are evaluated on an ongoing basis. Actual results may differ from these estimates under different assumptions or conditions.

Accounting policies, as described in detail in the Notes to the Company’s Unaudited Condensed Consolidated Financial Statements in this report and in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, are an integral part of the Company’s consolidated financial statements. A thorough understanding of these accounting policies is essential when reviewing the Company’s reported results of operations and financial position. Management believes that the critical accounting policies and estimates listed below require the Company to make difficult, subjective or complex judgments about matters that are inherently uncertain.

 

Determination of the allowance for credit losses on loans and leases;

 

Valuation of loans accounted for under the fair value option;

 

Valuation of servicing assets;

 

Income taxes;

 

Restricted stock unit awards with market price conditions;

 

Valuation of foreclosed assets;

52


 

 

 

Business combination and goodwill; and

 

Unconsolidated joint ventures.

Changes in these estimates, that are likely to occur from period to period, or the use of different estimates that the Company could have reasonably used in the current period, would have a material impact on the Company’s financial position, results of operations or liquidity.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Management considers interest rate risk the most significant market risk. Interest rate risk is the exposure to adverse changes in net interest income due to changes in interest rates. Consistency of net interest income is largely dependent upon the effective management of interest rate risk.

The Company’s Asset/Liability Management Committee (“ALCO”), which includes senior management representatives and reports to the Board of Directors, monitors and manages interest rate risk. See “Asset/Liability Management and Interest Rate Sensitivity” in Item 2 of this Form 10-Q for further discussion.

The objective of asset/liability management is the maximization of net interest income within the Company’s risk guidelines. This objective is accomplished through management of the balance sheet composition, maturities, liquidity, and interest rate risk exposures arising from changing economic conditions, interest rates and customer preferences.

To identify and manage its interest rate risk, the Company employs an earnings simulation model to analyze net interest income sensitivity to changing interest rates. The model is based on contractual cash flows and repricing characteristics and incorporates market-based assumptions regarding the effect of changing interest rates on the prepayment rates of certain assets and liabilities. The model also includes management projections for activity levels in each of the product lines offered by the Bank. Assumptions are inherently uncertain, and the measurement of net interest income or the impact of rate fluctuations on net interest income cannot be precisely predicted. Actual results may differ materially from simulated results due to timing, magnitude, and frequency of interest rate changes as well as changes in market conditions and management strategies.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

An evaluation of the Company’s disclosure controls and procedures (as defined in Rules 13(a)-15(e) and 15(d)-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)), was carried out under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer as of March 31, 2020, the last day of the period covered by this Quarterly Report. The Company’s Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures were effective as of March 31, 2020 in ensuring that the information required to be disclosed in the reports the Company files or submits under the Exchange Act is (i) accumulated and communicated to management (including the Company’s Chief Executive Officer and Chief Financial Officer) as appropriate to allow timely decisions regarding required disclosures, and (ii) recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms.

Changes in Internal Control Over Financial Reporting

Beginning January 1, 2020, the Company adopted ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The Company implemented changes to the policies, processes, and controls over the estimation of the allowance for credit losses to support the adoption of ASU 2016-13.  While many controls in operation under this new standard mirror controls under prior GAAP, there were some new controls implemented. Except as related to the adoption of ASU 2016‑13, there were no changes in the Company’s internal control over financial reporting during the three months ended March 31, 2020 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

53


 

 

PART II. OTHER INFORMATION

In the ordinary course of operations, the Company is party to various legal proceedings. The Company is not involved in, nor has it terminated during the three months ended March 31, 2020, any pending legal proceedings other than nonmaterial proceedings occurring in the ordinary course of business.

Item 1A. Risk Factors

There have been no material changes in the Company’s risk factors from those disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, with the exception of the following:

The ongoing COVID-19 pandemic and measures intended to prevent its spread could have a material adverse effect on our business, results of operations, and financial condition, and such effects will depend on future developments that are highly uncertain and difficult to predict.

Global health concerns relating to the COVID-19 outbreak and related government actions taken to reduce the spread of the virus have had a significant negative impact on the macroeconomic environment, and the outbreak has significantly increased economic uncertainty and reduced economic activity. The outbreak has resulted in government authorities implementing numerous measures to try to contain the virus, such as travel bans and restrictions, quarantines, shelter-in-place or total lock-down orders and business limitations and shutdowns. Such measures have significantly contributed to rising unemployment and negatively impacted consumer and business spending. The United States government has taken steps to attempt to mitigate some of the more severe anticipated economic effects of the virus, including the passage of the Coronavirus Aid, Relief, and Economic Security Act, or the CARES Act, but there can be no assurance that such steps will be effective or achieve their desired results in a timely fashion.

The outbreak has adversely impacted and is likely to further adversely impact our operations and the operations of our borrowers, customers, and business partners. For example, as a result of the significant uncertainty due to the COVID-19 pandemic we realized a substantial build in our allowance for credit losses for the first quarter of 2020. We could also experience declining values of other financial assets and other negative impacts on our financial position, including possible constraints on liquidity and capital, as well as higher costs of capital. A number of factors impacting us or our borrowers, customers or business partners could materially adversely affect our business, results of operations, and financial condition, including but not limited to:

 

elevated levels of unemployment may lead to increases in loan delinquencies, losses, and charge-offs;

 

collateral for loans, including real estate, may decline in value, which could cause loan losses to increase;

 

demand for our products and services may decline, making it difficult to grow or maintain assets and income;

 

noninterest income from premiums paid in the secondary market for the sale of loans may be reduced due to deteriorating market conditions and a decrease in the number of potential buyers;

 

the net worth and liquidity of loan guarantors may decline, impairing their ability to honor commitments to us;

 

we may experience operational failures due to changes in our normal business practices necessitated by the outbreak and related governmental actions;

 

third-party vendors on which we rely may not be able to provide us critical services;

 

our risk management policies and practices may be negatively impacted in general, including, but not limited to, the effectiveness and accuracy of our models given the lack of data and comparable precedent;

 

cyber and payment fraud risk may increase as cybercriminals attempt to profit from the disruption given increased online and remote activity; and

 

FDIC deposit insurance premiums may increase if the agency experiences additional resolution costs.

54


 

 

The spread of COVID-19 has caused us to modify our business practices (including restricting employee travel and developing work-from-home and social distancing plans for our employees), and we may take further actions as may be required by government authorities or as we determine are in the best interests of our employees, customers, and business partners. There is no certainty that such measures will be sufficient to mitigate the risks posed by the virus or will otherwise be satisfactory to government authorities.

Federal, state and local governmental authorities have enacted, and may enact in the future, legislation, regulations, and protocols in response to the COVID-19 pandemic, including governmental programs intended to provide