UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC  20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED March 31, 2014.

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

Commission file number:  0-12820

AMERICAN NATIONAL BANKSHARES INC.
(Exact name of registrant as specified in its charter)

VIRGINIA
 
54-1284688
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
628 Main Street
 
 
Danville, Virginia
 
24541
(Address of principal executive offices)
 
(Zip Code)

(434) 792-5111
(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
x
No
o
 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months.

Yes
x
No
o
 

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

Large accelerated filer  o
Accelerated filer  x
Non-accelerated filer  o
Smaller reporting company -

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)

Yes
o
No
x
 

At April 30, 2014, the Company had 7,905,243 shares of Common Stock outstanding, $1 par value.


AMERICAN NATIONAL BANKSHARES INC.

Index
 
 
Page
 
 
 
 
Part I.
FINANCIAL INFORMATION
 
 
 
 
 
 
Item 1.
Financial Statements
 
 
 
 
 
 
 
3
 
 
 
 
 
 
4
 
 
 
 
 
 
5
 
 
 
 
 
 
6
 
 
 
 
 
 
7
 
 
 
 
 
 
8
 
 
 
 
 
Item 2.
32
 
 
 
 
 
Item 3.
48
 
 
 
 
 
Item 4.
49
 
 
 
 
Part II.
OTHER INFORMATION
 
 
 
 
 
 
Item 1.
Legal Proceedings
50
 
 
 
 
 
Item 1A.
Risk Factors
50
 
 
 
 
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
50
 
 
 
 
 
Item 3.
Defaults Upon Senior Securities
50
 
 
 
 
 
Item 4.
Mine Safety Disclosures
50
 
 
 
 
 
Item 5.
Other Information
50
 
 
 
 
 
Item 6.
Exhibits
50
 
 
 
 
SIGNATURES
51
 
2
Part I.   Financial Information
Item 1. Financial Statements

American National Bankshares Inc. and Subsidiaries
  
Consolidated Balance Sheets
  
(Dollars in thousands, except share data)
  
 
Assets
  
(Unaudited)
March 31, 2014
    
(Audited)
December 31, 2013
  
Cash and due from banks
  
$
25,880
    
$
19,808
  
Interest-bearing deposits in other banks
    
45,466
      
47,873
  
 
                
Securities available for sale, at fair value
    
349,123
      
346,124
  
Restricted stock, at cost
    
4,529
      
4,889
  
Loans held for sale
    
1,389
      
2,760
  
 
                
Loans, net of unearned income
    
783,369
      
794,671
  
Less allowance for loan losses
    
(12,614
)
    
(12,600
)
Net loans
    
770,755
      
782,071
  
 
                
Premises and equipment, net
    
23,359
      
23,674
  
Other real estate owned, net
    
3,233
      
3,422
  
Goodwill
    
39,043
      
39,043
  
Core deposit intangibles, net
    
2,828
      
3,159
  
Bank owned life insurance
    
14,845
      
14,746
  
Accrued interest receivable and other assets
    
19,352
      
19,943
  
Total assets
  
$
1,299,802
    
$
1,307,512
  
 
                
Liabilities
                
Liabilities:
                
Demand deposits -- noninterest bearing
  
$
218,795
    
$
229,347
  
Demand deposits -- interest bearing
    
170,894
      
167,736
  
Money market deposits
    
194,528
      
185,270
  
Savings deposits
    
89,024
      
85,724
  
Time deposits
    
378,008
      
389,598
  
Total deposits
    
1,051,249
      
1,057,675
  
 
                
Customer repurchase agreements
    
34,153
      
39,478
  
Long-term borrowings
    
9,919
      
9,951
  
Trust preferred capital notes
    
27,444
      
27,419
  
Accrued interest payable and other liabilities
    
6,538
      
5,438
  
Total liabilities
    
1,129,303
      
1,139,961
  
 
                
Shareholders' equity
                
Preferred stock, $5 par, 2,000,000 shares authorized, none outstanding
    
-
      
-
  
Common stock, $1 par, 20,000,000 shares authorized, 7,905,243 shares outstanding at March 31, 2014 and 7,890,697 shares outstanding at December 31, 2013
    
7,905
      
7,891
  
Capital in excess of par value
    
58,202
      
58,050
  
Retained earnings
    
100,721
      
99,090
  
Accumulated other comprehensive income, net
    
3,671
      
2,520
  
Total shareholders' equity
    
170,499
      
167,551
  
Total liabilities and shareholders' equity
  
$
1,299,802
    
$
1,307,512
  

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

3



American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Income
  
(Dollars in thousands, except share and per share data) (Unaudited)
  
 
 
  
Three Months Ended
March 31
  
 
  
2014
    
2013
  
Interest and Dividend Income:
  
   
 
Interest and fees on loans
  
$
9,847
    
$
11,395
  
Interest and dividends on securities:
                
Taxable
    
964
      
878
  
Tax-exempt
    
1,035
      
1,052
  
Dividends
    
75
      
55
  
Other interest income
    
33
      
29
  
Total interest and dividend income
    
11,954
      
13,409
  
 
                
Interest Expense:
                
Interest on deposits
    
1,229
      
1,436
  
Interest on short-term borrowings
    
2
      
21
  
Interest on long-term borrowings
    
80
      
82
  
Interest on trust preferred capital notes
    
184
      
188
  
Total interest expense
    
1,495
      
1,727
  
 
                
Net Interest Income
    
10,459
      
11,682
  
Provision for Loan Losses
    
-
      
294
  
 
                
Net Interest Income After Provision for Loan Losses
    
10,459
      
11,388
  
 
                
Noninterest Income:
                
Trust fees
    
1,122
      
588
  
Service charges on deposit accounts
    
413
      
409
  
Other fees and commissions
    
444
      
459
  
Mortgage banking income
    
263
      
718
  
Securities gains, net
    
39
      
198
  
Other
    
422
      
398
  
Total noninterest income
    
2,703
      
2,770
  
 
                
Noninterest Expense:
                
Salaries
    
3,538
      
3,439
  
Employee benefits
    
975
      
899
  
Occupancy and equipment
    
936
      
916
  
FDIC assessment
    
164
      
161
  
Bank franchise tax
    
222
      
187
  
Core deposit intangible amortization
    
331
      
420
  
Data processing
    
348
      
277
  
Software
    
262
      
212
  
Foreclosed real estate, net
    
16
      
243
  
Other
    
1,631
      
1,564
  
Total noninterest expense
    
8,423
      
8,318
  
Income Before Income Taxes
    
4,739
      
5,840
  
Income Taxes
    
1,289
      
1,689
  
Net Income
  
$
3,450
    
$
4,151
  
 
                
Net Income Per Common Share:
                
Basic
  
$
0.44
    
$
0.53
  
Diluted
  
$
0.44
    
$
0.53
  
Average Common Shares Outstanding:
                
Basic
    
7,904,759
      
7,861,991
  
Diluted
    
7,917,601
      
7,871,508
  

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



4



American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Comprehensive Income
  
(Dollars in thousands) (Unaudited)
  
 
 
  
Three Months Ended
March 31
  
 
  
2014
    
2013
  
 
  
   
 
Net income
  
$
3,450
    
$
4,151
  
 
                
Other comprehensive income (loss):
                
 
                
Unrealized gains (losses) on securities available for sale
    
1,809
      
(882
)
Income tax (expense) benefit
    
(633
)
    
309
  
 
                
Reclassification adjustment for gains on securities
    
(39
)
    
(198
)
Income tax expense
    
14
      
69
  
 
                
Other comprehensive income (loss)
    
1,151
      
(702
)
 
                
Comprehensive income
  
$
4,601
    
$
3,449
  

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


5
American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Changes in Shareholders' Equity
  
Three Months Ended March 31, 2014 and 2013
  
(Dollars in thousands except per share data) (Unaudited)
  
 
 
  
Common
Stock
    
Capital in
Excess of
Par Value
    
Retained
Earnings
    
Accumulated
Other
Comprehensive
Income
    
Total
Shareholders'
Equity
  
 
  
   
   
   
   
 
 
  
   
   
   
   
 
Balance, December 31, 2012
  
$
7,847
    
$
57,211
    
$
90,591
    
$
7,597
    
$
163,246
  
 
                                        
Net income
    
-
      
-
      
4,151
      
-
      
4,151
  
 
                                        
Other comprehensive loss
    
-
      
-
      
-
      
(702
)
    
(702
)
 
                                        
Equity based compensation
    
16
      
130
      
-
      
-
      
146
  
 
                                        
Cash dividends declared, $0.23 per share
    
-
      
-
      
(1,809
)
    
-
      
(1,809
)
 
                                        
Balance, March 31, 2013
  
$
7,863
    
$
57,341
    
$
92,933
    
$
6,895
    
$
165,032
  
 
                                        
Balance, December 31, 2013
  
$
7,891
    
$
58,050
    
$
99,090
    
$
2,520
    
$
167,551
  
 
                                        
Net income
    
-
      
-
      
3,450
      
-
      
3,450
  
 
                                        
Other comprehensive income
    
-
      
-
      
-
      
1,151
      
1,151
  
 
                                        
Equity based compensation
    
14
      
152
      
-
      
-
      
166
  
 
                                        
Cash dividends declared, $0.23 per share
    
-
      
-
      
(1,819
)
    
-
      
(1,819
)
 
                                        
Balance, March 31, 2014
  
$
7,905
    
$
58,202
    
$
100,721
    
$
3,671
    
$
170,499
  

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

6



American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Cash Flows
  
Three Months Ended March 31, 2014 and 2013
  
(Dollars in thousands) (Unaudited)
  
 
 
  
2014
    
2013
  
Cash Flows from Operating Activities:
  
   
 
Net income
  
$
3,450
    
$
4,151
  
Adjustments to reconcile net income to net cash provided by operating activities:
                
Provision for loan losses
    
-
      
294
  
Depreciation
    
434
      
424
  
Net accretion of purchase accounting adjustments
    
(896
)
    
(1,983
)
Core deposit intangible amortization
    
331
      
420
  
Net amortization (accretion) of securities
    
668
      
788
  
Net gain on sale or call of securities
    
(39
)
    
(198
)
Gain on sale of loans held for sale
    
(215
)
    
(650
)
Proceeds from sales of loans held for sale
    
13,745
      
33,782
  
Originations of loans held for sale
    
(12,159
)
    
(23,675
)
Net gain on foreclosed real estate
    
(49
)
    
(14
)
Valuation allowance on foreclosed real estate
    
24
      
70
  
Equity based compensation expense
    
166
      
146
  
Deferred income tax expense (benefit)
    
94
      
(43
)
Net change in interest receivable
    
344
      
175
  
Net change in other assets
    
(565
)
    
(1,504
)
Net change in interest payable
    
(43
)
    
(23
)
Net change in other liabilities
    
1,143
      
1,813
  
Net cash provided by operating activities
    
6,433
      
13,973
  
 
                
Cash Flows from Investing Activities:
                
Proceeds from sales of securities available for sale
    
2,061
      
2,627
  
Proceeds from maturities, calls and paydowns of securities available for sale
    
22,540
      
9,329
  
Purchases of securities available for sale
    
(26,459
)
    
(19,555
)
Net change in restricted stock
    
360
      
411
  
Net decrease (increase) in loans
    
12,225
      
(2,112
)
Purchases of premises and equipment
    
(119
)
    
(178
)
Proceeds from sales of foreclosed real estate
    
232
      
645
  
Net cash provided by (used in) investing activities
    
10,840
      
(8,833
)
 
                
Cash Flows from Financing Activities:
                
Net change in demand, money market, and savings deposits
    
5,164
      
4,199
  
Net change in time deposits
    
(11,590
)
    
5,986
  
Net change in customer repurchase agreements
    
(5,325
)
    
(3,276
)
Net change in long-term borrowings
    
(38
)
    
(37
)
Common stock dividends paid
    
(1,819
)
    
(1,809
)
Net cash (used in) provided by financing activities
    
(13,608
)
    
5,063
  
 
                
Net Increase in Cash and Cash Equivalents
    
3,665
      
10,203
  
 
                
Cash and Cash Equivalents at Beginning of Period
    
67,681
      
47,442
  
 
                
Cash and Cash Equivalents at End of Period
  
$
71,346
    
$
57,645
  

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

7

AMERICAN NATIONAL BANKSHARES INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Basis of Presentation

The consolidated financial statements include the accounts of American National Bankshares Inc. (the "Company") and its wholly owned subsidiary, American National Bank and Trust Company (the "Bank").  The Bank offers a wide variety of retail, commercial, secondary market mortgage lending, and trust and investment services which also include non-deposit products such as mutual funds and insurance policies.

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP") requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of foreclosed real estate, goodwill and intangible assets, the valuation of deferred tax assets, other-than-temporary impairments of securities, and acquired loans with specific credit-related deterioration.

All significant inter-company transactions and accounts are eliminated in consolidation, with the exception of the AMNB Trust and the MidCarolina Trusts, as detailed in Note 9.

In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary to present fairly the results of the interim periods. The results of operations for the interim periods are not necessarily indicative of the results that may occur for the year ending December 31, 2014.  Certain reclassifications have been made to prior period balances to conform to the current period presentation. These statements should be read in conjunction with the Notes to Consolidated Financial Statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2013.

Note 2 – Recent Accounting Pronouncements

In January 2014, the Financial Accounting Standards Board (the"FASB") issued Accounting Standards Update ("ASU") 2014-01, "Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects (a consensus of the FASB Emerging Issues Task Force)." The amendments in this ASU permit reporting entities to make an accounting policy election to account for their investments in qualified affordable housing projects using the proportional amortization method if certain conditions are met. Under the proportional amortization method, an entity amortizes the initial cost of the investment in proportion to the tax credits and other tax benefits received and recognizes the net investment performance in the income statement as a component of income tax expense (benefit). The amendments in this ASU should be applied retrospectively to all periods presented. A reporting entity that uses the effective yield method to account for its investments in qualified affordable housing projects before the date of adoption may continue to apply the effective yield method for those preexisting investments. The amendments in this ASU are effective for public business entities for annual periods and interim reporting periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted. The Company does not expect the adoption of ASU 2014-01 to have a material impact on its consolidated financial statements.
 
In January 2014, the FASB issued ASU 2014-04, "Receivables—Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force)." The amendments in this ASU clarify that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, the amendments require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The amendments in this ASU are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. The Company is currently assessing the impact that ASU 2014-04 will have on its consolidated financial statements.

In April 2014, the FASB issued ASU 2014-08, "Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity." The amendments in this ASU change the criteria for reporting discontinued operations while enhancing disclosures in this area. Under the new guidance, only disposals representing a strategic shift in operations should be presented as discontinued operations. Those strategic shifts should have a major effect on the organization's operations and financial results and include disposals of a major geographic area, a major line of business, or a major equity method investment. The new guidance requires expanded disclosures about discontinued operations that will provide financial statement users with more information about the assets, liabilities, income, and expenses of discontinued operations. Additionally, the new guidance requires disclosure of the pre-tax income attributable to a disposal of a significant part of an organization that does not qualify for discontinued operations reporting. The amendments in the ASU are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted. The Company does not expect the adoption of ASU 2014-08 to have a material impact on its consolidated financial statements.


8
Note 3 – Securities

The amortized cost and estimated fair value of investments in debt and equity securities at March 31, 2014 and December 31, 2013 were as follows:

 
  
March 31, 2014
  
(in thousands)
  
Amortized
Cost
    
Unrealized
Gains
    
Unrealized
Losses
    
Estimated
Fair Value
  
Securities available for sale:
  
   
   
   
 
Federal agencies and GSEs
  
$
72,872
    
$
107
    
$
394
    
$
72,585
  
Mortgage-backed and CMOs
    
64,129
      
940
      
398
      
64,671
  
State and municipal
    
194,114
      
7,178
      
287
      
201,005
  
Corporate
    
9,733
      
13
      
115
      
9,631
  
Equity securities
    
1,000
      
231
      
-
      
1,231
  
Total securities available for sale
  
$
341,848
    
$
8,469
    
$
1,194
    
$
349,123
  

 
  
December 31, 2013
  
(in thousands)
  
Amortized
Cost
    
Unrealized
Gains
    
Unrealized
Losses
    
Estimated
Fair Value
  
Securities available for sale:
  
   
   
   
 
Federal agencies and GSE
  
$
66,241
    
$
126
    
$
486
    
$
65,881
  
Mortgage-backed and CMOs
    
69,168
      
1,085
      
645
      
69,608
  
State and municipal
    
193,251
      
5,999
      
517
      
198,733
  
Corporate
    
10,959
      
4
      
164
      
10,799
  
Equity securities
    
1,000
      
103
      
-
      
1,103
  
Total securities available for sale
  
$
340,619
    
$
7,317
    
$
1,812
    
$
346,124
  

Restricted Stock

Due to restrictions placed upon the Bank's common stock investment in the Federal Reserve Bank of Richmond ("FRB") and Federal Home Loan Bank of Atlanta ("FHLB"), these securities have been classified as restricted equity securities and carried at cost.  The restricted securities are not subject to the investment security classification and are included as a separate line item on the Company's balance sheet.  The Federal Reserve Bank of Richmond requires the Bank to maintain stock with a par value equal to 4.5% of its outstanding capital.   The FHLB requires the Bank to maintain stock in an amount equal to 6% of outstanding borrowings and a specific percentage of the Bank's total assets.  The Bank also owns common stock in CBB Financial Corporation, a Community Bankers Bank located in Richmond, Virginia which provides services to community banks that was inherited from the merger with Community First Financial Corporation in 2006 and common stock in Danville Community Development Corporation, a corporation formed by local banks in the Danville, Virginia area that restores dilapidated properties for resale.  The cost of restricted stock at March 31, 2014 and December 31, 2013 were as follows:

(in thousands)
  
March 31,
    
December 31,
  
 
  
2014
    
2013
  
FRB stock
  
$
2,727
    
$
2,722
  
FHLB stock
    
1,635
      
2,000
  
CBB Financial Corporation stock
    
101
      
101
  
Danville Community Development Corporation stock
    
66
      
66
  
   Total restricted stock
  
$
4,529
    
$
4,889
  

Temporarily Impaired Securities

The following table shows estimated fair value and gross unrealized losses, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at March 31, 2014.  The reference point for determining when securities are in an unrealized loss position is month-end.  Therefore, it is possible that a security's market value exceeded its amortized cost on other days during the past twelve-month period.


 
  
Total
    
Less than 12 Months
    
12 Months or More
  
(in thousands)
  
Estimated
Fair
Value
    
Unrealized
Loss
    
Estimated
Fair
Value
    
Unrealized
Loss
    
Estimated
Fair
Value
    
Unrealized
Loss
  
Federal agencies and GSEs
  
$
52,841
    
$
394
    
$
52,841
    
$
394
    
$
-
    
$
-
  
Mortgage-backed and CMOs
    
21,655
      
398
      
19,001
      
354
      
2,654
      
44
  
State and municipal
    
25,232
      
287
      
20,672
      
215
      
4,560
      
72
  
Corporate
    
6,212
      
115
      
6,212
      
115
      
-
      
-
  
Total
  
$
105,940
    
$
1,194
    
$
98,726
    
$
1,078
    
$
7,214
    
$
116
  

GSE debt securities: The unrealized losses on the Company's investment in 26 government sponsored entities ("GSE") were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at March 31, 2014.

9
Mortgage-backed securities and CMOs: The unrealized losses on the Company's investment in 16 GSE mortgage-backed securities and collateralized mortgage obligations ("CMOs") were caused by interest rate increases. The contractual cash flows of those investments are guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Company's investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at March 31, 2014.

State and municipal securities:  The unrealized losses on 28 state and municipal securities were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at March 31, 2014.

Corporate securities:  The unrealized losses on six investments in corporate securities were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at March 31, 2014.

Restricted stock: When evaluating restricted stock for impairment, its value is based on the ultimate recoverablity of the par value rather than by recognizing temporary declines is value. The company does not consider restricted stock to be other-than-temoraily impaired at March 31, 2014, and no impairment has been recognized.


The table below shows gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities had been in a continuous unrealized loss position, at December 31, 2013.

 
  
Total
    
Less than 12 Months
    
12 Months or More
  
(in thousands)
  
Estimated
Fair
Value
    
Unrealized
Loss
    
Estimated
Fair
Value
    
Unrealized
Loss
    
Estimated
Fair
Value
    
Unrealized
Loss
  
Federal agencies and GSEs
  
$
41,586
    
$
486
    
$
41,586
    
$
486
    
$
-
    
$
-
  
Mortgage-backed and CMOs
    
23,916
      
645
      
19,042
      
577
      
4,874
      
68
  
State and municipal
    
33,192
      
517
      
29,732
      
462
      
3,460
      
55
  
Corporate
    
7,347
      
164
      
7,347
      
164
      
-
      
-
  
Total
  
$
106,041
    
$
1,812
    
$
97,707
    
$
1,689
    
$
8,334
    
$
123
  

Other-Than-Temporary-Impaired Securities

As of March 31, 2014 and December 31, 2013, there were  securities classified as having other-than-temporary impairment.
10

Note 4 - Loans

Segments

Loans, excluding loans held for sale, were comprised of the following:

(in thousands)
  
March 31, 2014
    
December 31, 2013
  
 
  
   
 
Commercial
  
$
119,042
    
$
122,553
  
Commercial real estate:
                
Construction and land development
    
40,458
      
41,822
  
Commercial real estate
    
358,362
      
364,616
  
Residential real estate:
                
Residential
    
170,517
      
171,917
  
Home equity
    
89,081
      
87,797
  
Consumer
    
5,909
      
5,966
  
Total loans
  
$
783,369
    
$
794,671
  

Acquired Loans

Interest income, including accretion, on loans acquired from MidCarolina Financial Corporation ("MidCarolina") in connection with the Company's acquisition of MidCarolina for the three months ended March 31, 2014 was approximately $3.4 million. This included $1.1 million in accretion income of which $88,000 was related to loan payoffs and renewals and $410,000 related to recoveries of loans charged off prior to the merger. The outstanding principal balance and the carrying amount of these loans included in the consolidated balance sheets at March 31, 2014 and December 31, 2013 are as follows:

(in thousands)
  
March 31, 2014
    
December 31, 2013
  
Outstanding principal balance
  
$
110,702
    
$
134,099
  
Carrying amount
    
102,133
      
124,828
  

The outstanding principal balance and related carrying amount of acquired impaired loans, for which the Company applies Accounting Standards Codification ("ASC") 310-30 (formerly Statement of Position ("SOP") 03-3), to account for interest earned, at March 31, 2014 and December 31, 2013 are as follows:

(in thousands)
  
March 31, 2014
    
December 31, 2013
  
Outstanding principal balance
  
$
19,958
    
$
21,014
  
Carrying amount
    
15,909
      
16,644
  

The following table presents changes in the accretable discount on acquired impaired loans, for which the Company applies ASC 310-30 (formerly SOP 03-3), for the three months ended March 31, 2014. The accretion reflected below includes $88,000 related to loan payoffs.

(in thousands)
  
Accretable Discount
  
Balance at December 31, 2013
  
$
2,046
  
Accretion
    
(440
)
Reclassification from nonaccretable difference
    
236
  
Balance at March 31, 2014
  
$
1,842
  

11

Past Due Loans

The following table shows an analysis by portfolio segment of the Company's past due loans at March 31, 2014.

 
  
   
   
   
   
   
   
 
(in thousands)
  
30- 59 Days
Past Due
    
60-89 Days
Past Due
    
90 Days +
Past Due
and Still
Accruing
    
Non-
Accrual
Loans
    
Total
Past
Due
    
Current
    
Total
Loans
  
 
  
   
   
   
   
   
   
 
Commercial
  
$
69
    
$
-
    
$
-
    
$
9
    
$
78
    
$
118,964
    
$
119,042
  
Commercial real estate:
                                                        
Construction and land development
    
-
      
-
      
-
      
909
      
909
      
39,549
      
40,458
  
Commercial real estate
    
-
      
312
      
-
      
3,296
      
3,608
      
354,754
      
358,362
  
Residential:
                                                        
Residential
    
201
      
147
      
-
      
931
      
1,279
      
169,238
      
170,517
  
Home equity
    
109
      
432
      
-
      
409
      
950
      
88,131
      
89,081
  
Consumer
    
3
      
-
      
-
      
3
      
6
      
5,903
      
5,909
  
Total
  
$
382
    
$
891
    
$
-
    
$
5,557
    
$
6,830
    
$
776,539
    
$
783,369
  

The following table shows an analysis by portfolio segment of the Company's past due loans at December 31, 2013.

(in thousands)
  
30- 59 Days
Past Due
    
60-89 Days
Past Due
    
90 Days +
Past Due
and Still
Accruing
    
Non-
Accrual
Loans
    
Total
Past
Due
    
Current
    
Total
Loans
  
 
  
   
   
   
   
   
   
 
Commercial
  
$
27
    
$
-
    
$
-
    
$
11
    
$
38
    
$
122,515
    
$
122,553
  
Commercial real estate:
                                                        
Construction and land development
    
-
      
51
      
-
      
877
      
928
      
40,894
      
41,822
  
Commercial real estate
    
667
      
-
      
-
      
2,879
      
3,546
      
361,070
      
364,616
  
Residential:
                                                        
Residential
    
642
      
202
      
-
      
880
      
1,724
      
170,193
      
171,917
  
Home equity
    
109
      
18
      
-
      
424
      
551
      
87,246
      
87,797
  
Consumer
    
21
      
1
      
-
      
-
      
22
      
5,944
      
5,966
  
Total
  
$
1,466
    
$
272
    
$
-
    
$
5,071
    
$
6,809
    
$
787,862
    
$
794,671
  

12

Impaired Loans

The following table presents the Company's impaired loan balances by portfolio segment, excluding loans acquired with deteriorated credit quality, at March 31, 2014.

(in thousands)
  
Recorded
Investment
    
Unpaid
Principal
Balance
    
Related
Allowance
    
Average
Recorded
Investment
    
Interest
Income
Recognized
  
With no related allowance recorded:
  
   
   
   
   
 
Commercial
  
$
16
    
$
16
    
$
-
    
$
14
    
$
-
  
Commercial real estate:
                                        
Construction and land development
    
63
      
63
      
-
      
64
      
-
  
Commercial real estate
    
1,942
      
1,955
      
-
      
2,063
      
1
  
Residential:
                                        
Residential
    
932
      
936
      
-
      
956
      
-
  
Home equity
    
409
      
409
      
-
      
413
      
-
  
Consumer
    
3
      
3
      
-
      
3
      
-
  
 
  
$
3,365
    
$
3,382
    
$
-
    
$
3,513
    
$
1
  
With a related allowance recorded:
                                        
Commercial
    
-
      
-
      
-
      
-
      
-
  
Commercial real estate:
                                        
Construction and land development
    
1,453
      
1,496
      
88
      
1,456
      
8
  
Commercial real estate
    
2,231
      
2,239
      
483
      
2,246
      
2
  
Residential
                                        
Residential
    
4
      
-
      
-
      
-
      
-
  
Home equity
    
-
      
-
      
-
      
-
      
-
  
Consumer
    
17
      
17
      
3
      
18
      
-
  
 
  
$
3,705
    
$
3,752
    
$
574
    
$
3,720
    
$
10
  
Total:
                                        
Commercial
  
$
16
    
$
16
    
$
-
    
$
14
    
$
-
  
Commercial real estate:
                                        
Construction and land development
    
1,516
      
1,559
      
88
      
1,520
      
8
  
Commercial real estate
    
4,173
      
4,194
      
483
      
4,309
      
3
  
Residential:
                                        
Residential
    
936
      
936
      
-
      
956
      
-
  
Home equity
    
409
      
409
      
-
      
413
      
-
  
Consumer
    
20
      
20
      
3
      
21
      
-
  
 
  
$
7,070
    
$
7,134
    
$
574
    
$
7,233
    
$
11
  
13

The following table presents the Company's impaired loan balances by portfolio segment, excluding loans acquired with deteriorated credit quality, at December 31, 2013.

(in thousands)
  
Recorded
Investment
    
Unpaid
Principal
Balance
    
Related
Allowance
    
Average
Recorded
Investment
    
Interest
Income
Recognized
  
With no related allowance recorded:
  
   
   
   
   
 
Commercial
  
$
19
    
$
19
    
$
-
    
$
20
    
$
1
  
Commercial real estate:
                                        
Construction and land development
    
18
      
18
      
-
      
261
      
4
  
Commercial real estate
    
936
      
936
      
-
      
950
      
13
  
Residential:
                                        
Residential
    
880
      
888
      
-
      
1,200
      
11
  
Home equity
    
424
      
424
      
-
      
433
      
-
  
   Consumer
    
-
      
-
      
-
      
-
      
-
  
 
  
$
2,277
    
$
2,285
    
$
-
    
$
2,864
    
$
29
  
With a related allowance recorded:
                                        
Commercial
  
$
-
    
$
-
    
$
-
    
$
-
    
$
-
  
Commercial real estate:
                                        
Construction and land development
    
1,468
      
1,507
      
68
      
1,551
      
33
  
Commercial real estate
    
2,266
      
2,264
      
488
      
1,198
      
7
  
Residential:
                                        
Residential
    
1,198
      
-
      
-
      
-
      
-
  
Home equity
    
-
      
-
      
-
      
-
      
-
  
   Consumer
    
18
      
18
      
3
      
19
      
1
  
 
  
$
3,752
    
$
3,789
    
$
559
    
$
2,768
    
$
41
  
Total:
                                        
Commercial
  
$
19
    
$
19
    
$
-
    
$
20
    
$
1
  
Commercial real estate:
                                        
Construction and land development
    
1,486
      
1,525
      
68
      
1,812
      
37
  
Commercial real estate
    
3,202
      
3,200
      
488
      
2,148
      
20
  
Residential:
                                        
Residential
    
880
      
888
      
-
      
1,200
      
11
  
Home equity
    
424
      
424
      
-
      
433
      
-
  
   Consumer
    
18
      
18
      
3
      
19
      
1
  
 
  
$
6,029
    
$
6,074
    
$
559
    
$
5,632
    
$
70
  

There were no loans modified as a troubled debt restructuring ("TDR") for the three months ended March 31, 2014 and 2013.

None of the loans modified as a TDR within the previous twelve months have subsequently defaulted during the three month periods ending March 31, 2014 and 2013.

14
Risk Grades

The following table shows the Company's loan portfolio broken down by internal risk grading as of March 31, 2014.

(in thousands)
Commercial and Consumer Credit Exposure
Credit Risk Profile by Internally Assigned Grade

 
  
Commercial
    
Commercial
Real Estate
Construction
    
Commercial
Real Estate
Other
    
Residential
    
Home
Equity
  
 
  
   
   
   
   
 
Pass
  
$
117,576
    
$
33,911
    
$
347,780
    
$
158,722
    
$
86,519
  
Special Mention
    
1,450
      
887
      
5,345
      
8,265
      
1,788
  
Substandard
    
16
      
5,660
      
5,237
      
3,530
      
774
  
Doubtful
    
-
      
-
      
-
      
-
      
-
  
Total
  
$
119,042
    
$
40,458
    
$
358,362
    
$
170,517
    
$
89,081
  

Consumer Credit Exposure
Credit Risk Profile Based on Payment Activity

 
Consumer
  
 
 
Performing
  
$
5,906
  
Nonperforming
    
3
  
Total
  
$
5,909
  

The following table shows the Company's loan portfolio broken down by internal risk grading as of December 31, 2013.

(in thousands)
Commercial and Consumer Credit Exposure
Credit Risk Profile by Internally Assigned Grade

 
  
Commercial
    
Commercial
Real Estate
Construction
    
Commercial
Real Estate
Other
    
Residential
    
Home
Equity
  
 
  
   
   
   
   
 
Pass
  
$
121,033
    
$
35,563
    
$
351,801
    
$
158,478
    
$
85,163
  
Special Mention
    
1,500
      
1,005
      
6,795
      
8,242
      
1,650
  
Substandard
    
20
      
5,254
      
6,020
      
5,197
      
984
  
Doubtful
    
-
      
-
      
-
      
-
      
-
  
Total
  
$
122,553
    
$
41,822
    
$
364,616
    
$
171,917
    
$
87,797
  

Consumer Credit Exposure
Credit Risk Profile Based on Payment Activity

 
  
Consumer
  
 
  
 
Performing
  
$
5,966
  
Nonperforming
    
-
  
Total
  
$
5,966
  

15
Loans classified in the Pass category typically are fundamentally sound and risk factors are reasonable and acceptable.

Loans classified in the Special Mention category typically have been criticized internally, by loan review or the loan officer, or by external regulators under the current credit policy regarding risk grades.

Loans classified in the Substandard category typically have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt; they are typically characterized by the possibility that the Bank will sustain some loss if the deficiencies are not corrected.

Loans classified in the Doubtful category typically have all the weaknesses inherent in loans classified as substandard, plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values highly questionable and improbable. However, these loans are not yet rated as loss because certain events may occur that may salvage the debt.

Consumer loans are classified as performing or nonperforming.  A loan is nonperforming when payments of interest and principal are past due 90 days or more, or payments are less than 90 days past due, but there are other good reasons to doubt that payment will be made in full.
16

Note 5 – Allowance for Loan Losses and Reserve for Unfunded Lending Commitments

Changes in the allowance for loan losses and the reserve for unfunded lending commitments as of the indicated dates and periods are presented below:

The reserve for unfunded loan commitments is included in other liabilities.

(in thousands)
  
Three Months Ended
March 31, 2014
    
Year Ended
December 31, 2013
    
Three Months Ended
March 31, 2013
  
 
  
   
   
 
Allowance for Loan Losses
  
   
   
 
Balance, beginning of period
  
$
12,600
    
$
12,118
    
$
12,118
  
Provision for loan losses
    
-
      
294
      
294
  
Charge-offs
    
(73
)
    
(837
)
    
(287
)
Recoveries
    
87
      
1,025
      
403
  
Balance, end of period
  
$
12,614
    
$
12,600
    
$
12,528
  
 
                        
Reserve for Unfunded Lending Commitments
                        
Balance, beginning of period
  
$
210
    
$
201
    
$
201
  
Provision for loan losses
    
7
      
9
      
10
  
Charge-offs
    
-
      
-
      
-
  
Balance, end of period
  
$
217
    
$
210
    
$
211
  

The following table presents the Company's allowance for loan losses by portfolio segment and the related loan balance total by segment at March 31, 2014.

 
  
Commercial
    
Commercial
Real Estate
    
Residential
Real Estate
    
Consumer
    
Unallocated
    
Total
  
(in thousands)
  
   
   
   
   
   
 
 
  
   
   
   
   
   
 
Allowance for Loan Losses
  
   
   
   
   
   
 
Balance as of December 31, 2013
  
$
1,810
    
$
6,819
    
$
3,690
    
$
99
    
$
182
    
$
12,600
  
Charge-offs
    
-
      
-
      
(53
)
    
(20
)
    
-
      
(73
)
Recoveries
    
8
      
14
      
43
      
22
      
-
      
87
  
Provision for loan losses
    
(30
)
    
113
      
126
      
(27
)
    
(182
)
    
-
  
Balance as of March 31, 2014
  
$
1,788
    
$
6,946
    
$
3,806
    
$
74
    
$
-
    
$
12,614
  
 
                                                
Balance as of March 31, 2014:
                                                
 
                                                
Allowance for Loan Losses
                                                
Individually evaluated for impairment
  
$
-
    
$
571
    
$
-
    
$
3
    
$
-
    
$
574
  
Collectively evaluated for impairment
    
1,785
      
6,110
      
3,615
      
71
      
-
      
11,581
  
Loans acquired with deteriorated credit quality
    
3
      
265
      
191
      
-
      
-
      
459
  
Total
  
$
1,788
    
$
6,946
    
$
3,806
    
$
74
    
$
-
    
$
12,614
  
 
                                                
Loans
                                                
Individually evaluated for impairment
  
$
16
    
$
5,689
    
$
1,345
    
$
20
    
$
-
    
$
7,070
  
Collectively evaluated for impairment
    
118,906
      
384,693
      
250,902
      
5,889
      
-
      
760,390
  
Loans acquired with deteriorated credit quality
    
120
      
8,438
      
7,351
      
-
      
-
      
15,909
  
Total
  
$
119,042
    
$
398,820
    
$
259,598
    
$
5,909
    
$
-
    
$
783,369
  
17

The following table presents the Company's allowance for loan losses by portfolio segment and the related loan balance total by segment at December 31, 2013.

 
  
Commercial
    
Commercial
Real Estate
    
Residential
Real Estate
    
Consumer
    
Unallocated
    
Total
  
(in thousands)
  
   
   
   
   
   
 
 
  
   
   
   
   
   
 
Allowance for Loan Losses
  
   
   
   
   
   
 
Balance as of December 31, 2012
  
$
1,450
    
$
6,822
    
$
3,638
    
$
208
    
$
-
    
$
12,118
  
Charge-offs
    
(129
)
    
(164
)
    
(369
)
    
(175
)
    
-
      
(837
)
Recoveries
    
335
      
323
      
244
      
123
      
-
      
1,025
  
Provision for loan losses
    
154
      
(162
)
    
177
      
(57
)
    
182
      
294
  
Balance as of December 31, 2013
  
$
1,810
    
$
6,819
    
$
3,690
    
$
99
    
$
182
    
$
12,600
  
 
                                                
Balance as of December 31, 2013:
                                                
 
                                                
Allowance for Loan Losses
                                                
Individually evaluated for impairment
  
$
-
    
$
556
    
$
-
    
$
3
    
$
-
    
$
559
  
Collectively evaluated for impairment
    
1,810
      
6,039
      
3,483
      
96
      
182
      
11,610
  
Loans acquired with deteriorated credit quality
    
-
      
224
      
207
      
-
      
-
      
431
  
Total
  
$
1,810
    
$
6,819
    
$
3,690
    
$
99
    
$
182
    
$
12,600
  
 
                                                
Loans