UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  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 June 30, 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 August 6, 2014, the Company had 7,840,132 shares of Common Stock outstanding, $1 par value.

 
AMERICAN NATIONAL BANKSHARES INC.

Index
 
 
Page
 
 
 
 
Part I.
FINANCIAL INFORMATION
 
 
 
 
 
 
Item 1.
Financial Statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
 
 
Item 3.
 
 
 
 
 
Item 4.
 
 
 
 
Part II.
OTHER INFORMATION
 
 
 
 
 
 
Item 1.
 
 
 
 
 
Item 1A.
 
 
 
 
 
Item 2.
 
 
 
 
 
Item 3.
 
 
 
 
 
Item 4.
 
 
 
 
 
Item 5.
 
 
 
 
 
Item 6.
 
 
 
 

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)
June 30, 2014
    
(Audited)
December 31, 2013
  
Cash and due from banks
  
$
21,295
    
$
19,808
  
Interest-bearing deposits in other banks
    
22,948
      
47,873
  
 
                
Securities available for sale, at fair value
    
349,719
      
346,124
  
Restricted stock, at cost
    
5,064
      
4,889
  
Loans held for sale
    
118
      
2,760
  
 
                
Loans, net of unearned income
    
813,057
      
794,671
  
Less allowance for loan losses
    
(12,763
)
    
(12,600
)
Net loans
    
800,294
      
782,071
  
 
                
Premises and equipment, net
    
23,083
      
23,674
  
Other real estate owned, net
    
2,622
      
3,422
  
Goodwill
    
39,043
      
39,043
  
Core deposit intangibles, net
    
2,498
      
3,159
  
Bank owned life insurance
    
14,945
      
14,746
  
Accrued interest receivable and other assets
    
19,019
      
19,943
  
Total assets
  
$
1,300,648
    
$
1,307,512
  
 
                
Liabilities
                
Liabilities:
                
Demand deposits -- noninterest bearing
  
$
228,588
    
$
229,347
  
Demand deposits -- interest bearing
    
189,700
      
167,736
  
Money market deposits
    
165,090
      
185,270
  
Savings deposits
    
88,539
      
85,724
  
Time deposits
    
363,883
      
389,598
  
Total deposits
    
1,035,800
      
1,057,675
  
 
                
Short-term borrowings:
                
  Customer repurchase agreements
    
38,420
      
39,478
  
  Other short-term borrowings
    
12,000
      
-
  
Long-term borrowings
    
9,924
      
9,951
  
Trust preferred capital notes
    
27,470
      
27,419
  
Accrued interest payable and other liabilities
    
4,951
      
5,438
  
Total liabilities
    
1,128,565
      
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, 7,840,132 shares outstanding at June 30, 2014 and 7,890,697 shares outstanding at December 31, 2013
    
7,840
      
7,891
  
Capital in excess of par value
    
56,944
      
58,050
  
Retained earnings
    
102,152
      
99,090
  
Accumulated other comprehensive income, net
    
5,147
      
2,520
  
Total shareholders' equity
    
172,083
      
167,551
  
Total liabilities and shareholders' equity
  
$
1,300,648
    
$
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
June 30
  
 
  
2014
    
2013
  
Interest and Dividend Income:
  
   
 
Interest and fees on loans
  
$
9,687
    
$
11,358
  
Interest and dividends on securities:
                
Taxable
    
968
      
851
  
Tax-exempt
    
1,016
      
1,045
  
Dividends
    
74
      
54
  
Other interest income
    
35
      
39
  
Total interest and dividend income
    
11,780
      
13,347
  
 
                
Interest Expense:
                
Interest on deposits
    
1,161
      
1,369
  
Interest on short-term borrowings
    
2
      
14
  
Interest on long-term borrowings
    
81
      
82
  
Interest on trust preferred capital notes
    
185
      
189
  
Total interest expense
    
1,429
      
1,654
  
 
                
Net Interest Income
    
10,351
      
11,693
  
Provision for Loan Losses
    
150
      
-
  
 
                
Net Interest Income After Provision for Loan Losses
    
10,201
      
11,693
  
 
                
Noninterest Income:
                
Trust fees
    
1,017
      
944
  
Service charges on deposit accounts
    
431
      
429
  
Other fees and commissions
    
493
      
463
  
Mortgage banking income
    
275
      
531
  
Securities gains, net
    
150
      
1
  
Other
    
334
      
318
  
Total noninterest income
    
2,700
      
2,686
  
 
                
Noninterest Expense:
                
Salaries
    
3,638
      
3,503
  
Employee benefits
    
847
      
867
  
Occupancy and equipment
    
910
      
872
  
FDIC assessment
    
165
      
161
  
Bank franchise tax
    
231
      
185
  
Core deposit intangible amortization
    
330
      
421
  
Data processing
    
345
      
310
  
Software
    
235
      
249
  
Foreclosed real estate, net
    
(9
)
    
193
  
Other
    
1,673
      
1,667
  
Total noninterest expense
    
8,365
      
8,428
  
Income Before Income Taxes
    
4,536
      
5,951
  
Income Taxes
    
1,303
      
1,741
  
Net Income
  
$
3,233
    
$
4,210
  
 
                
Net Income Per Common Share:
                
Basic
  
$
0.41
    
$
0.54
  
Diluted
  
$
0.41
    
$
0.53
  
Average Common Shares Outstanding:
                
Basic
    
7,872,079
      
7,867,222
  
Diluted
    
7,879,854
      
7,876,969
  

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

4
American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Income
  
(Dollars in thousands, except share and per share data) (Unaudited)
  
 
 
  
Six Months Ended
June 30
  
 
  
2014
    
2013
  
Interest and Dividend Income:
  
   
 
Interest and fees on loans
  
$
19,534
    
$
22,753
  
Interest and dividends on securities:
                
Taxable
    
1,932
      
1,729
  
Tax-exempt
    
2,051
      
2,097
  
Dividends
    
149
      
109
  
Other interest income
    
68
      
68
  
Total interest and dividend income
    
23,734
      
26,756
  
 
                
Interest Expense:
                
Interest on deposits
    
2,390
      
2,805
  
Interest on short-term borrowings
    
4
      
35
  
Interest on long-term borrowings
    
161
      
164
  
Interest on trust preferred capital notes
    
369
      
377
  
Total interest expense
    
2,924
      
3,381
  
 
                
Net Interest Income
    
20,810
      
23,375
  
Provision for Loan Losses
    
150
      
294
  
 
                
Net Interest Income After Provision for Loan Losses
    
20,660
      
23,081
  
 
                
Noninterest Income:
                
Trust fees
    
2,139
      
1,532
  
Service charges on deposit accounts
    
844
      
838
  
Other fees and commissions
    
937
      
922
  
Mortgage banking income
    
538
      
1,249
  
Securities gains, net
    
189
      
199
  
Other
    
756
      
716
  
Total noninterest income
    
5,403
      
5,456
  
 
                
Noninterest Expense:
                
Salaries
    
7,176
      
6,942
  
Employee benefits
    
1,822
      
1,766
  
Occupancy and equipment
    
1,846
      
1,788
  
FDIC assessment
    
329
      
322
  
Bank franchise tax
    
453
      
372
  
Core deposit intangible amortization
    
661
      
841
  
Data processing
    
693
      
587
  
Software
    
497
      
461
  
Foreclosed real estate, net
    
7
      
436
  
Other
    
3,304
      
3,231
  
Total noninterest expense
    
16,788
      
16,746
  
Income Before Income Taxes
    
9,275
      
11,791
  
Income Taxes
    
2,592
      
3,430
  
Net Income
  
$
6,683
    
$
8,361
  
 
                
Net Income Per Common Share:
                
Basic
  
$
0.85
    
$
1.06
  
Diluted
  
$
0.85
    
$
1.06
  
Average Common Shares Outstanding:
                
Basic
    
7,886,232
      
7,862,719
  
Diluted
    
7,896,541
      
7,872,351
  

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


5



American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Comprehensive Income (Loss)
  
(Dollars in thousands) (Unaudited)
  
 
 
  
Three Months Ended
June 30
  
 
  
2014
    
2013
  
 
  
   
 
Net income
  
$
3,233
    
$
4,210
  
 
                
Other comprehensive income (loss):
                
 
                
Unrealized gains (losses) on securities available for sale
    
2,422
      
(7,299
)
Income tax (expense) benefit
    
(848
)
    
2,554
  
 
                
Reclassification adjustment for gains on securities
    
(150
)
    
(1
)
Income tax expense
    
52
      
1
  
 
                
Other comprehensive income (loss)
    
1,476
      
(4,745
)
 
                
Comprehensive income (loss)
  
$
4,709
    
$
(535
)

 
  
Six Months Ended
June
  
 
  
2014
    
2013
  
 
  
   
 
Net income
  
$
6,683
    
$
8,361
  
 
                
Other comprehensive income (loss):
                
 
                
Unrealized gains (losses) on securities available for sale
    
4,231
      
(8,181
)
Income tax (expense) benefit
    
(1,481
)
    
2,863
  
 
                
Reclassification adjustment for gains on securities
    
(189
)
    
(199
)
Income tax expense
    
66
      
70
  
 
                
Other comprehensive income (loss)
    
2,627
      
(5,447
)
 
                
Comprehensive income
  
$
9,310
    
$
2,914
  

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

6

American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Changes in Shareholders' Equity
  
Six Months Ended June 30, 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
    
-
      
-
      
8,361
      
-
      
8,361
  
 
                                        
Other comprehensive loss
    
-
      
-
      
-
      
(5,447
)
    
(5,447
)
 
                                        
Stock options exercised
    
6
      
96
      
-
      
-
      
102
  
 
                                        
Equity based compensation
    
19
      
274
      
-
      
-
      
293
  
 
                                        
Cash dividends declared, $0.46 per share
    
-
      
-
      
(3,619
)
    
-
      
(3,619
)
 
                                        
Balance, June 30, 2013
  
$
7,872
    
$
57,581
    
$
95,333
    
$
2,150
    
$
162,936
  
 
                                        
Balance, December 31, 2013
  
$
7,891
    
$
58,050
    
$
99,090
    
$
2,520
    
$
167,551
  
 
                                        
Net income
    
-
      
-
      
6,683
      
-
      
6,683
  
 
                                        
Other comprehensive income
    
-
      
-
      
-
      
2,627
      
2,627
  
 
                                        
Stock repurchased and retired
    
(70
)
    
(1,430
)
    
-
      
-
      
(1,500
)
 
                                        
Equity based compensation
    
19
      
324
      
-
      
-
      
343
  
 
                                        
Cash dividends declared, $0.46 per share
    
-
      
-
      
(3,621
)
    
-
      
(3,621
)
 
                                        
Balance, June 30, 2014
  
$
7,840
    
$
56,944
    
$
102,152
    
$
5,147
    
$
172,083
  

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

7

 
American National Bankshares Inc. and Subsidiaries
  
Consolidated Statements of Cash Flows
  
Six Months Ended June 30, 2014 and 2013
  
(Dollars in thousands) (Unaudited)
  
 
 
  
2014
    
2013
  
Cash Flows from Operating Activities:
  
   
 
Net income
  
$
6,683
    
$
8,361
  
Adjustments to reconcile net income to net cash provided by operating activities:
                
Provision for loan losses
    
150
      
294
  
Depreciation
    
857
      
854
  
Net accretion of acquisition accounting adjustments
    
(1,500
)
    
(4,050
)
Core deposit intangible amortization
    
661
      
841
  
Net amortization (accretion) of securities
    
1,303
      
1,617
  
Net gain on sale or call of securities
    
(189
)
    
(199
)
Gain on sale of loans held for sale
    
(426
)
    
(1,099
)
Proceeds from sales of loans held for sale
    
34,344
      
58,268
  
Originations of loans held for sale
    
(31,276
)
    
(47,415
)
Net gain on foreclosed real estate
    
(152
)
    
(139
)
Valuation allowance on foreclosed real estate
    
46
      
294
  
Equity based compensation expense
    
343
      
293
  
Deferred income tax expense (benefit)
    
212
      
(1,874
)
Net change in interest receivable
    
168
      
(99
)
Net change in other assets
    
(1,070
)
    
1,619
  
Net change in interest payable
    
(20
)
    
(51
)
Net change in other liabilities
    
(467
)
    
(53
)
Net cash provided by operating activities
    
9,667
      
17,462
  
 
                
Cash Flows from Investing Activities:
                
Proceeds from sales of securities available for sale
    
6,477
      
2,627
  
Proceeds from maturities, calls and paydowns of securities available for sale
    
35,795
      
32,216
  
Purchases of securities available for sale
    
(42,939
)
    
(49,530
)
Net change in restricted stock
    
(175
)
    
407
  
Net increase in loans
    
(17,197
)
    
(2,222
)
Purchases of premises and equipment
    
(266
)
    
(580
)
Proceeds from sales of foreclosed real estate
    
1,292
      
1,518
  
Net cash used in investing activities
    
(17,013
)
    
(15,564
)
 
                
Cash Flows from Financing Activities:
                
Net change in demand, money market, and savings deposits
    
3,840
      
22,413
  
Net change in time deposits
    
(25,715
)
    
(3,477
)
Net change in customer repurchase agreements
    
(1,058
)
    
(7,970
)
Net change in other short-term borrowings
    
12,000
      
-
  
Net change in long-term borrowings
    
(38
)
    
(75
)
Common stock dividends paid
    
(3,621
)
    
(3,619
)
       Repurchase of stock
    
(1,500
)
    
-
  
       Proceeds from exercise of stock options
    
-
      
102
  
Net cash (used in) provided by financing activities
    
(16,092
)
    
7,374
  
 
                
Net (Decrease) Increase in Cash and Cash Equivalents
    
(23,438
)
    
9,272
  
 
                
Cash and Cash Equivalents at Beginning of Period
    
67,681
      
47,442
  
 
                
Cash and Cash Equivalents at End of Period
  
$
44,243
    
$
56,714
  

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

8

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 reclassifications did not have an impact on net income and were considered immaterial. 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 is currently assessing the impact that ASU 2014-01 will have 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.

9
In June 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers: Topic 606". This ASU applies to any entity using GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards. The guidance supersedes the revenue recognition requirements in Topic 605, "Revenue Recognition", most industry-specific guidance, and some cost guidance included in Subtopic 605-35, "Revenue Recognition—Construction-Type and Production-Type Contracts". The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To be in alignment with the core principle, an entity must apply a five step process including: identification of the contract(s) with a customer, identification of performance obligations in the contract(s), determination of the transaction price, allocation of the transaction price to the performance obligations, and recognition of revenue when (or as) the entity satisfies a performance obligation.  Additionally, the existing requirements for the recognition of a gain or loss on the transfer of nonfinancial assets that are not in a contract with a customer have also been amended to be consistent with the guidance on recognition and measurement.  The amendments in this ASU are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early adoption is not permitted. The Company is currently assessing the impact that ASU 2014-09 will have on its consolidated financial statements.

            In June 2014, the FASB issued ASU 2014-10, "Development Stage Entities (Topic 915): Elimination of Certain Financial Reporting Requirements, Including an Amendment to Variable Interest Entities Guidance in Topic 810, Consolidation". The amendments in this ASU remove all incremental financial reporting requirements from GAAP for development stage entities, including the removal of Topic 915, "Development Stage Entities", from the FASB Accounting Standards Codification. In addition, this ASU adds an example disclosure and removes an exception provided to development stage entities in Topic 810, "Consolidation", for determining whether an entity is a variable interest entity.  The presentation and disclosure requirements in Topic 915 will no longer be required for the first annual period beginning after December 15, 2014. The revised consolidation standards are effective for annual periods beginning after December 15, 2015.  Early adoption is permitted. The Company does not expect the adoption of ASU 2014-10 to have a material impact on its consolidated financial statements.

In June 2014, the FASB issued ASU No. 2014-11, "Transfers and Servicing (Topic 860): Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures".  This ASU aligns the accounting for repurchase-to-maturity transactions and repurchase agreements executed as a repurchase financing with the accounting for other typical repurchase agreements. The new guidance eliminates sale accounting for repurchase-to-maturity transactions and supersedes the guidance under which a transfer of a financial asset and a contemporaneous repurchase financing could be accounted for on a combined basis as a forward agreement. The amendments in the ASU also require a new disclosure for transactions economically similar to repurchase agreements in which the transferor retains substantially all of the exposure to the economic return on the transferred financial assets throughout the term of the transaction. Additional disclosures will be required for the nature of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings.  The amendments in this ASU are effective for the first interim or annual period beginning after December 15, 2014; however, the disclosure for transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and interim periods beginning after March 15, 2015. Early adoption is not permitted.  The Company is currently assessing the impact that ASU 2014-11 will have on its consolidated financial statements.

            In June 2014, the FASB issued ASU No. 2014-12, "Compensation – Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period". The new guidance applies to reporting entities that grant employees share-based payments in which the terms of the award allow a performance target to be achieved after the requisite service period. The amendments in the ASU require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition.  Existing guidance in "Compensation – Stock Compensation (Topic 718)", should be applied to account for these types of awards. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. Early adoption is permitted and reporting entities may choose to apply the amendments in the ASU either on a prospective or retrospective basis.  The Company is currently assessing the impact that ASU 2014-12 will have on its consolidated financial statements.

Note 3 – Securities

The amortized cost and estimated fair value of investments in debt and equity securities at June 30, 2014 and December 31, 2013 were as follows:

 
  
June 30, 2014
  
(in thousands)
  
Amortized
Cost
    
Unrealized
Gains
    
Unrealized
Losses
    
Estimated
Fair Value
  
Securities available for sale:
  
   
   
   
 
Federal agencies and GSEs
  
$
80,585
    
$
233
    
$
149
    
$
80,669
  
Mortgage-backed and CMOs
    
59,920
      
1,323
      
229
      
61,014
  
State and municipal
    
189,003
      
8,373
      
133
      
197,243
  
Corporate
    
9,664
      
69
      
58
      
9,675
  
Equity securities
    
1,000
      
118
      
-
      
1,118
  
Total securities available for sale
  
$
340,172
    
$
10,116
    
$
569
    
$
349,719
  

 
  
December 31, 2013
  
(in thousands)
  
Amortized
Cost
    
Unrealized
Gains
    
Unrealized
Losses
    
Estimated
Fair Value
  
Securities available for sale:
  
   
   
   
 
Federal agencies and GSEs
  
$
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
  

10
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 FRB requires the Bank to maintain stock with a par value equal to 6.0% of its common stock and paid-in surplus.  One-half of this amount is paid to the Federal Reserve Bank and the remaining half is subject to call when deemed necessary by the Board of Governors of the Federal Reserve System.  The FHLB requires the Bank to maintain stock in an amount equal to a specific percentage of the Bank's total assets and 4.5% of outstanding borrowings. 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 June 30, 2014 and December 31, 2013 were as follows:

(in thousands)
  
June 30,
    
December 31,
  
 
  
2014
    
2013
  
FRB stock
  
$
2,165
    
$
2,722
  
FHLB stock
    
2,732
      
2,000
  
CBB Financial Corporation stock
    
101
      
101
  
Danville Community Development Corporation stock
    
66
      
66
  
   Total restricted stock
  
$
5,064
    
$
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 June 30, 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
  
$
33,328
    
$
149
    
$
13,801
    
$
32
    
$
19,527
    
$
117
  
Mortgage-backed and CMOs
    
12,015
      
229
      
1,907
      
1
      
10,108
      
228
  
State and municipal
    
14,985
      
133
      
7,825
      
76
      
7,160
      
57
  
Corporate
    
2,783
      
58
      
-
      
-
      
2,783
      
58
  
Total
  
$
63,111
    
$
569
    
$
23,533
    
$
109
    
$
39,578
    
$
460
  

GSE debt securities: The unrealized losses on the Company's investment in 16 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 June 30, 2014.

Mortgage-backed securities and CMOs: The unrealized losses on the Company's investment in 10 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 June 30, 2014.

State and municipal securities:  The unrealized losses on 18 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 June 30, 2014.

Corporate securities:  The unrealized losses on three 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 June 30, 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 June 30, 2014, and no impairment has been recognized.

11

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 June 30, 2014 and December 31, 2013, there were no securities classified as having other-than-temporary impairment.
 
Note 4 - Loans

Segments

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

(in thousands)
  
June 30, 2014
    
December 31, 2013
  
 
  
   
 
Commercial
  
$
125,163
    
$
122,553
  
Commercial real estate:
                
Construction and land development
    
50,856
      
41,822
  
Commercial real estate
    
366,722
      
364,616
  
Residential real estate:
                
Residential
    
175,387
      
171,917
  
Home equity
    
89,725
      
87,797
  
Consumer
    
5,204
      
5,966
  
Total loans
  
$
813,057
    
$
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 six months ended June 30, 2014 was approximately $6.1 million. This included $1.6 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 June 30, 2014 and December 31, 2013 are as follows:

(in thousands)
  
June 30, 2014
    
December 31, 2013
  
Outstanding principal balance
  
$
101,006
    
$
134,099
  
Carrying amount
    
93,053
      
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, to account for interest earned, at June 30, 2014 and December 31, 2013 are as follows:

(in thousands)
  
June 30, 2014
    
December 31, 2013
  
Outstanding principal balance
  
$
19,241
    
$
21,014
  
Carrying amount
    
15,372
      
16,644
  

The following table presents changes in the accretable discount on acquired impaired loans, for which the Company applies ASC 310-30, for the six months ended June 30, 2014. The accretion reflected below includes $88,000 related to loan payoffs.

(in thousands)
  
Accretable Discount
  
Balance at December 31, 2013
  
$
2,046
  
Accretion
    
(676
)
Reclassification from nonaccretable difference
    
462
  
Balance at June 30, 2014
  
$
1,832
  
 
12
 
Past Due Loans

The following table shows an analysis by portfolio segment of the Company's past due loans at June 30, 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
  
$
2
    
$
20
    
$
-
    
$
17
    
$
39
    
$
125,124
    
$
125,163
  
Commercial real estate:
                                                        
Construction and land development
    
-
      
120
      
-
      
306
      
426
      
50,430
      
50,856
  
Commercial real estate
    
-
      
-
      
-
      
3,417
      
3,417
      
363,305
      
366,722
  
Residential:
                                                        
Residential
    
395
      
58
      
-
      
1,039
      
1,492
      
173,895
      
175,387
  
Home equity
    
-
      
-
      
-
      
440
      
440
      
89,285
      
89,725
  
Consumer
    
6
      
-
      
-
      
5
      
11
      
5,193
      
5,204
  
Total
  
$
403
    
$
198
    
$
-
    
$
5,224
    
$
5,825
    
$
807,232
    
$
813,057
  

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
  

13

Impaired Loans

The following table presents the Company's impaired loan balances by portfolio segment, excluding loans acquired with deteriorated credit quality, at June 30, 2014.

(in thousands)
  
Recorded
Investment
    
Unpaid
Principal
Balance
    
Related
Allowance
    
Average
Recorded
Investment
    
Interest
Income
Recognized
  
With no related allowance recorded:
  
   
   
   
   
 
Commercial
  
$
24
    
$
24
    
$
-
    
$
16
    
$
1
  
Commercial real estate:
                                        
Construction and land development
    
298
      
338
      
-
      
609
      
-
  
Commercial real estate
    
1,005
      
1,036
      
-
      
884
      
4
  
Residential:
                                        
Residential
    
880
      
889
      
-
      
891
      
-
  
Home equity
    
434
      
434
      
-
      
421
      
-
  
Consumer
    
5
      
5
      
-
      
4
      
-
  
 
  
$
2,646
    
$
2,726
    
$
-
    
$
2,825
    
$
5
  
With a related allowance recorded:
                                        
Commercial
    
-
      
-
      
-
      
-
      
-
  
Commercial real estate:
                                        
Construction and land development
    
600
      
600
      
22
      
604
      
16
  
Commercial real estate
    
2,204
      
2,224
      
616
      
2,228
      
4
  
Residential
                                        
Residential
    
4
      
4
      
1
      
4
      
-
  
Home equity
    
-
      
-
      
-
      
-
      
-
  
Consumer
    
17
      
17
      
3
      
17
      
1
  
 
  
$
2,825
    
$
2,845
    
$
642
    
$
2,853
    
$
21
  
Total:
                                        
Commercial
  
$
24
    
$
24
    
$
-
    
$
16
    
$
1
  
Commercial real estate:
                                        
Construction and land development
    
898
      
938
      
22
      
1,213
      
16
  
Commercial real estate
    
3,209
      
3,260
      
616
      
3,112
      
8
  
Residential:
                                        
Residential
    
884
      
893
      
1
      
895
      
-
  
Home equity
    
434
      
434
      
-
      
421
      
-
  
Consumer
    
22
      
22
      
3
      
21
      
1
  
 
  
$
5,471
    
$
5,571
    
$
642
    
$
5,678
    
$
26
  
14

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
  


The following table shows the detail of loans modified as troubled debt restructurings ("TDRs")  during the three and six months ended June 30, 2014  included in the impaired loan balances. There were no loans modified as TDRs for the three and six months ended June 30, 2013.

 
 
  
Loans Modified as a TDR for the
Three Months Ended June 30, 2014
  
(dollars in thousands)
  
Number of
Contracts
    
Pre-Modification
Outstanding Recorded
Investment
    
Post-Modification
Outstanding Recorded
Investment
  
Commercial
    
-
    
$
-
    
$
-
  
Commercial real estate
    
1
      
182
      
182
  
   Construction and land development
    
-
      
-
      
-
  
   Home Equity
    
1
      
8
      
8
  
   Residential real estate
    
2
      
117
      
117
  
Consumer
    
1
      
4
      
4
  
Total
    
5
    
$
311
    
$
311
  

 
  
Loans Modified as a TDR for the
Six Months Ended June 30, 2014
  
(dollars in thousands)
  
Number of
Contracts
    
Pre-Modification
Outstanding Recorded
Investment
    
Post-Modification
Outstanding Recorded
Investment
  
Commercial
    
-
    
$
-
    
$
-
  
Commercial real estate
    
1
      
182
      
182
  
   Construction and land development
    
-
      
-
      
-
  
   Home Equity
    
1
      
8
      
8
  
   Residential real estate
    
2
      
117
      
117
  
Consumer
    
1
      
4
      
4
  
Total
    
5
    
$
311
    
$
311
  

          During the three and six months ended June 30, 2014 and 2013, the Company had no loans that subsequently defaulted within twelve months of modification.

15
Risk Grades

The following table shows the Company's loan portfolio broken down by internal risk grading as of June 30, 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
  
$
123,824
    
$
45,033
    
$
357,138
    
$
163,897
    
$
87,613
  
Special Mention
    
1,294
      
826
      
4,526
      
8,103
      
1,414
  
Substandard
    
45
      
4,997
      
5,058
      
3,387
      
698
  
Doubtful
    
-
      
-
      
-
      
-
      
-
  
Total
  
$
125,163
    
$
50,856
    
$
366,722
    
$
175,387
    
$
89,725
  

                                      Consumer Credit Exposure
                                      Credit Risk Profile Based on Payment Activity

 
Consumer
  
 
 
Performing
  
$
5,199
  
Nonperforming
    
5
  
Total
  
$
5,204
  
 
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
  

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.
 
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.
16
 
(in thousands)
  
Six Months Ended
June 30, 2014
    
Year Ended
December 31, 2013
    
Six Months Ended
June 30, 2013
  
 
  
   
   
 
Allowance for Loan Losses
  
   
   
 
Balance, beginning of period
  
$
12,600
    
$
12,118
    
$
12,118
  
Provision for loan losses
    
150
      
294
      
294