DIMECO, INC. HONESDALE, PENNSYLVANIA AUDIT REPORT

Transcription

1 DIMECO, INC. HONESDALE, PENNSYLVANIA AUDIT REPORT DECEMBER 31, 2018

2 DIMECO, INC. AUDITED CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2018 Independent Auditor s Report 1 Financial Statements Page Number Consolidated Balance Sheet 2 Consolidated Statement of Income 3 Consolidated Statement of Comprehensive Income 4 Consolidated Statement of Changes in Stockholders Equity 5 Consolidated Statement of Cash Flows 6 Notes to Consolidated Financial Statements 7-46

3 Board of Directors and Shareholders Dimeco, Inc. Honesdale, Pennsylvania Report on the Financial Statements INDEPENDENT AUDITOR S REPORT We have audited the accompanying consolidated financial statements of Dimeco, Inc. and subsidiary, which comprise the consolidated balance sheets as of December 31, 2018 and 2017; the related consolidated statements of income, comprehensive income, changes in stockholders equity, and cash flows for each of the three years in the period ended December 31, 2018; and the related notes to the consolidated financial statements. Management s Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error. Auditor s Responsibility Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditor s judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Dimeco, Inc. and subsidiary as of December 31, 2018 and 2017, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2018, in accordance with accounting principles generally accepted in the United States of America. Cranberry Township, Pennsylvania March 13,

4 CONSOLIDATED BALANCE SHEET December 31, (in thousands, except shares and per share data) Assets Cash and due from banks $ 6,609 $ 6,987 Interest-bearing deposits in other banks 5,543 1,100 Total cash and cash equivalents 12,152 8,087 Investment securities available for sale 116,947 91,739 Equity securities Mortgage loans held for sale Loans, net of unearned income 523, ,334 Less allowance for loan losses 8,125 7,582 Net loans 515, ,752 Premises and equipment 9,563 10,101 Accrued interest receivable 2,218 2,035 Bank-owned life insurance 17,568 15,976 Other real estate owned 5,067 5,807 Other assets 15,798 18,133 TOTAL ASSETS $ 694,695 $ 655,473 Liabilities Deposits: Noninterest-bearing $ 93,963 $ 87,954 Interest-bearing 438, ,278 Total deposits 532, ,232 Short-term borrowings 20,355 32,544 Other borrowed funds 53,721 42,326 Accrued interest payable Other liabilities 8,250 7,578 TOTAL LIABILITIES 615, ,968 Stockholders' Equity Common stock, $.50 par value; 5,000,000 shares authorized; 2,547,150 and 2,534,825 shares issued in 2018 and 2017; 2,487,390 and 2,475,065 shares outstanding in 2018 and 2017, respectively 1,274 1,267 Capital surplus 8,157 7,854 Retained earnings 71,820 66,466 Accumulated other comprehensive (loss) income (127) 512 Treasury stock, at cost (59,760 shares) (1,594) (1,594) TOTAL STOCKHOLDERS' EQUITY 79,530 74,505 TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 694,695 $ 655,473 The accompanying notes are an integral part of these consolidated financial statements. 2

5 CONSOLIDATED STATEMENT OF INCOME Year Ended December 31, (in thousands, except per share data) Interest Income Interest and fees on loans $ 26,138 $ 24,989 $ 23,388 Investment securities: Taxable 1, ,012 Exempt from federal income tax 953 1,112 1,259 Other Total interest income 28,982 27,175 25,755 Interest Expense Deposits 2,604 2,007 2,018 Short-term borrowings Other borrowed funds 1, Total interest expense 3,834 2,946 2,750 Net Interest Income 25,148 24,229 23,005 Provision for loan losses ,000 Net Interest Income After Provision for Loan Losses 24,648 23,529 22,005 Noninterest Income Service charges on deposit accounts Mortgage loans held for sale gains, net Investment securities gains (losses), net (173) Equity security gains, net Brokerage commissions 1,293 1,210 1,104 Earnings on bank-owned life insurance Debit card interchange fees 1, Other income Total noninterest income 4,420 4,525 4,212 Noninterest Expense Salaries and employee benefits 10,645 10,305 9,692 Occupancy expense, net 1,729 1,661 1,645 Professional fees 1, ,057 Data processing expense 1,417 1,283 1,117 Communication expense Other real estate expense 1,279 1, Other expense 3,665 3,409 3,455 Total noninterest expense 20,328 19,159 18,136 Income before income taxes 8,740 8,895 8,081 Income taxes 747 3,488 1,731 NET INCOME $ 7,993 $ 5,407 $ 6,350 Earnings Per Share: Basic $ 3.22 $ 2.19 $ 2.57 Diluted $ 3.19 $ 2.17 $ 2.56 The accompanying notes are an integral part of these consolidated financial statements. 3

6 CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME Year Ended December 31, (in thousands) Net income $ 7,993 $ 5,407 $ 6,350 Other comprehensive income (loss): Unrealized (loss) gain on available for sale securities (555) 234 (1,159) Tax effect 118 (80) 394 (437) 154 (765) Investment securities (gains) losses, net (19) (159) 173 Tax effect 4 54 (58) (15) (105) 115 Other comprehensive income (loss) (452) 49 (650) Comprehensive income $ 7,541 $ 5,456 $ 5,700 The accompanying notes are an integral part of these consolidated financial statements. 4

7 CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY Accumulated Other Total Common Capital Retained Comprehensive Treasury Stockholders' (in thousands, except shares and per share data) Stock Surplus Earnings (Loss) Income Stock Equity Balance, December 31, 2015 $ 842 $ 7,543 $ 60,301 $ 1,029 $ (1,560) $ 68,155 Net income 6,350 6,350 Other comprehensive loss (650) (650) Stock compensation expense Purchase of treasury stock (1,350 shares) (34) (34) Exercise of stock options (1,020 shares) Employee stock purchase plan (1,434 shares) Cash dividends ($1.01 per share) (2,500) (2,500) Balance, December 31, ,691 64, (1,594) 71,470 Net income 5,407 5,407 Reclassification of certain income tax effects due to decrease in federal corporate income tax rate (84) 84 - Other comprehensive income Exercise of stock options (3,800 shares) Employee stock purchase plan (1,560 shares) Employee stock bonus (195 shares) 6 6 Stock split 422 (422) - Cash dividends ($1.05 per share) (2,586) (2,586) Balance, December 31, ,267 7,854 66, (1,594) 74,505 Net income 7,993 7,993 Reclassification due to FASB ASU (187) - Other comprehensive loss (452) (452) Exercise of stock options (10,475 shares) Employee stock purchase plan (1,850 shares) Cash dividends ($1.14 per share) (2,826) (2,826) Balance, December 31, 2018 $ 1,274 $ 8,157 $ 71,820 $ (127) $ (1,594) $ 79,530 The accompanying notes are an integral part of these consolidated financial statements. 5

8 CONSOLIDATED STATEMENT OF CASH FLOWS Year Ended December 31, (in thousands) Operating Activities Net income $ 7,993 $ 5,407 $ 6,350 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses ,000 Depreciation and amortization Amortization of premium and discount on investment securities, net 870 1,196 1,274 Accretion of net deferred loan origination fees (182) (181) (273) Investment securities (gains) losses, net (19) (159) 173 Equity securities gains, net (27) - - Origination of loans held for sale (9,661) (14,741) (14,651) Proceeds from sale of loans 10,245 14,743 15,171 Mortgage loans held for sale gains, net (228) (358) (520) Impairment of other real estate owned (Gain) loss on the sale of other real estate owned (92) 24 (32) Increase in accrued interest receivable (183) (93) (137) Increase (decrease) in accrued interest payable (14) Deferred federal income taxes (344) 1,582 (252) Earnings on bank-owned life insurance (429) (545) (546) Stock compensation expense Increase (decrease) in prepaid federal income taxes 370 (477) 743 Other, net 1,104 1, Net cash provided by operating activities 11,771 9,820 10,408 Investing Activities Investment securities available for sale: Proceeds from sales or calls 18,544 9,357 17,192 Proceeds from maturities or paydown 47,016 40,354 48,535 Purchases (89,993) (49,645) (68,561) Proceeds from sales of equity securities Redemption of Federal Home Loan Bank stock 2,692 2,432 2,645 Purchase of Federal Home Loan Bank stock (2,916) (3,676) (2,720) Net increase in loans (14,513) (17,931) (24,745) Investment in limited partnership (1) (2,010) (459) Purchase of bank-owned life insurance (1,201) - - Proceeds from sale of other real estate owned 1,617 1, Purchase of premises and equipment (119) (1,492) (426) Net cash used for investing activities (38,600) (21,472) (27,654) Financing Activities Net increase (decrease) in deposits 34,151 (9,819) 18,975 (Decrease) increase in short-term borrowings (12,189) 929 1,590 Proceeds from other borrowed funds 15,929 28,914 7,100 Repayment of other borrowed funds (4,534) (9,940) (4,066) Proceeds from exercise of stock options Proceeds from employee stock purchase plan Purchase of treasury stock - - (34) Cash dividends paid (2,773) (2,519) (2,500) Net cash provided by financing activities 30,894 7,724 21,127 Increase (decrease) in cash and cash equivalents 4,065 (3,928) 3,881 Cash and cash equivalents at beginning of year 8,087 12,015 8,134 Cash and cash equivalents at end of year $ 12,152 $ 8,087 $ 12,015 The accompanying notes are an integral part of these consolidated financial statements. 6

9 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES A summary of the significant accounting and reporting policies applied in the presentation of the accompanying financial statements follows: Nature of Operations and Basis of Presentation Dimeco, Inc. (the Company ) is a Pennsylvania company organized as the holding company of The Dime Bank (the Bank ). The Bank is a state-chartered bank and operates from seven locations in northeastern Pennsylvania. The Company and its subsidiary derive substantially all of their income from banking and bank-related services that include interest earnings on residential real estate, commercial mortgage, commercial and consumer financing as well as interest earnings on investment securities. The Company, through its subsidiary, provides deposit services including checking, savings and certificate of deposit accounts and investment services. The Company is supervised by the Federal Reserve Board, while the Bank is subject to regulation and supervision by the Federal Deposit Insurance Corporation ( FDIC ) and the Pennsylvania Department of Banking. The consolidated financial statements of the Company include its wholly owned subsidiary, the Bank. All intercompany items have been eliminated in preparing the consolidated financial statements. The investment in subsidiary on the parent company financial statements is carried at the parent company s equity in the underlying net assets of the Bank. Wealth management assets held by the Bank in fiduciary or agency capacities for its customers are not included in the accompanying Consolidated Balance Sheet, since such items are not assets of the Bank or the Company. In accordance with industry practice, wealth management fees are recorded on a cash basis and approximate the fees that would have been recognized on the accrual basis. The consolidated financial statements have been prepared in conformity with U.S. GAAP. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the consolidated balance sheet date and revenues and expenses for the period. Actual results could differ significantly from those estimates. Investment Securities Investment securities are classified at the time of purchase, based on management s intention and ability, as securities available for sale. Debt securities have been classified as available for sale to serve principally as a source of liquidity. Unrealized holding gains and losses for available for sale securities are reported as a separate component of stockholders equity, net of tax, until realized. Realized securities gains and losses are computed using the specific identification method and included in noninterest income. Amortization of premium and discounts for U.S. government agencies, obligations of states and political subdivisions and corporate securities use the constant yield method. Amortization of premium and discounts for collateralized mortgage obligations is a two-step proration method. This method uses a proration component and the calculated final amortization/accretion date. Mortgage-backed securities and Small Business Administration ( SBA ) securities also use a two-step proration method that has a proration component and a three-month historical constant prepayment rate ( CPR ) and periodic discounted cash flow yield. The SBA securities are included in the U.S. government agency category. Interest and dividends on investment securities are recognized as income when earned. Securities are periodically reviewed for other than temporary impairment based upon a number of factors. Those factors include, but are not limited to, the length of time and extent to which the fair value has been less than cost, the financial condition of the underlying issuer, the ability of the issuer to meet contractual obligations, the likelihood of the security s ability to recover any decline in its fair value and whether management intends to sell and their belief that they will not be required to sell these securities before recovery of their cost basis, which may be at maturity. A decline in value that is considered to be other than temporary is recorded as a loss within noninterest income in the Consolidated Statement of Income. 7

10 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Equity Securities Equity securities are held at fair value. Holding gains and losses are recorded in income. Dividends on equity securities are recognized as income when earned. Restricted Stock Common stock of the Federal Home Loan Bank of Pittsburgh ( FHLB ) and the Atlantic Community Bankers Bank ( ACBB ) represents ownership in institutions that are wholly owned by other financial institutions. These securities are accounted for at cost and are classified with other assets. The Bank is a member of FHLB and as such, is required to maintain a minimum investment in stock of FHLB that varies with the level of advances outstanding with FHLB. The stock is bought from and sold to FHLB based upon its $100 par value. The stock does not have a readily determinable fair value and as such is classified as restricted stock, carried at cost and evaluated for impairment by management. The stock s value is determined by the ultimate recoverability of the par value rather than by recognizing temporary declines. The determination of whether the par value will ultimately be recovered is influenced by criteria such as the following: (a) the significance of the decline in net assets of FHLB as compared to the capital stock amount and the length of time this situation has persisted; (b) commitments by FHLB to make payments required by law or regulation and the level of such payments in relation to the operating performance; (c) the impact of legislative and regulatory changes on the customer base of FHLB and; (d) the liquidity position of FHLB. Management evaluated the stock of both ACBB and FHLB and concluded that the stock was not impaired for the periods presented herein. This evaluation took into consideration regulatory capital ratios and liquidity. In addition, new shares of ACBB and FHLB stock continue to exchange hands at the $250 and $100 par value, respectively. Mortgage Loans Held for Sale In general, fixed rate residential mortgage loans originated by the Bank that qualify for sale in the secondary market are held for sale and are carried at the aggregate lower of cost or fair value. Such loans sold are generally serviced by the Bank. Transfers of Financial Assets Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when: 1) the assets have been isolated from the Company; 2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets; and 3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. Loans Loans are stated at the principal amount outstanding, net of any unearned income, deferred loan fees and the allowance for loan losses. Interest on consumer loans is credited to operations over the term of each loan using a method which results in a level yield or the simple interest method. Interest income on mortgage loans is accrued on the amortized balance. Interest income on other loans is accrued on the principal amount outstanding. Loan fees which represent an adjustment to interest yield are deferred and amortized over the life of the loan. Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Accrual of interest on loans is generally discontinued when it is determined that a reasonable doubt exists as to the collectability of additional interest. When a loan is placed on nonaccrual status, unpaid interest is charged against income. Payments received on nonaccrual loans are either applied to principal or reported as interest income according to management s judgment as to the collectability of principal. Loans are returned to accrual status when past due principal and interest is collected and the collection of principal is probable. 8

11 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Allowance for Loan Losses The allowance for loan losses represents the amount which management estimates is adequate to provide for probable losses inherent in its loan portfolio as of the balance sheet date. The allowance method is used in providing for loan losses. Accordingly, all loan losses are charged to the allowance and all recoveries are credited to it. The allowance for loan losses is established through a provision for loan losses charged to operations. The provision for loan losses is based on management s periodic evaluation of individual loans, economic factors, past loan loss experience, changes in the composition and volume of the portfolio and other relevant factors. The estimates used in determining the adequacy of the allowance for loan losses, including the amounts and timing of future cash flows expected on impaired loans, are particularly susceptible to changes in the near term. Historical loss percentages for each risk category are calculated and used as the basis for calculating allowance allocations. Certain qualitative factors are then added to the historical allocation percentage to get the adjusted factor to be applied to non-classified loans. The following qualitative factors are analyzed: Levels of and trends in delinquencies Trends in volume and terms Changes in lending policies and procedures Changes in collateral value Changes in adverse classification levels Quality of the loan review function Economic trends Concentrations of credit Experience, depth and ability of management Other factors affecting the collectability of the loans The Company analyzes its loan portfolio each quarter to determine the appropriateness of its allowance for loan losses. In situations where, for economic or legal reasons related to a borrower's financial difficulties, management may grant a concession for other than an insignificant period of time to the borrower that would not otherwise be considered, the related loan is classified as a troubled debt restructuring ( TDR ). Management strives to identify borrowers in financial difficulty early and work with them to modify to more affordable terms before their loan reaches nonaccrual status. These modified terms may include rate reductions, principal forgiveness, payment forbearance and other actions intended to minimize the economic loss and to avoid foreclosure or repossession of the collateral. In cases where borrowers are granted new terms that provide for a reduction of either interest or principal, management measures any impairment on the restructuring and charges down the principal balance as determined in the analysis. This process is completed for all types of loans. It is then further analyzed to determine if the loan should be classified as impaired. Impaired loans are primarily commercial and commercial real estate loan relationships for which it is probable that the Company will not be able to collect all amounts due according to the contractual terms of the loan agreement. These types of loans which are 90 days past due are evaluated in the analysis for loan impairment. The Company individually evaluates such loans for impairment and does not aggregate loans by major risk classifications. The definition of impaired loans is not the same as the definition of nonaccrual loans, although the two categories overlap. The Company may choose to place a loan on nonaccrual status due to payment delinquency or uncertain collectability, while not classifying the loan as impaired if the loan is not a commercial or commercial real estate loan. Factors considered by management in determining impairment include payment status and collateral value. The amount of impairment for these types of impaired loans is determined by the difference between the present value of the expected cash flows related to the loan, using the original interest rate, and its recorded value, or as a practical expedient in the case of collateralized loans, the difference between the fair value of the collateral and the recorded amount of the loans. When foreclosure is probable, impairment is measured based on the fair value of the collateral. 9

12 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Allowance for Loan Losses (continued) Mortgage loans on one-to-four family properties and all consumer loans are large groups of smaller-balance homogeneous loans and are measured for impairment collectively unless included in an impaired loan relationship. Loans that experience insignificant payment delays, which are defined as 90 days or less, generally are not classified as impaired. Management determines the significance of payment delays on a case-by-case basis taking into consideration all of the circumstances surrounding the loan and the borrower including the length of the delay, the borrower s prior payment record and the amount of shortfall in relation to the principal and interest owed. Residential mortgages and consumer loans are generally evaluated to determine a fair value of the collateral when 90 days past due and then are fully or partially charged down to reflect that fair value unless the loan is well secured and in the process of collection. Premises and Equipment Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation. Depreciation is principally computed on the straight-line method over the estimated useful lives of the related assets, which range from 3 to 20 years for furniture and equipment and 5 to 31 years for office buildings and improvements. Leasehold improvements are amortized over the shorter of their estimated useful lives or their respective lease terms, which range from 5 to 20 years. Expenditures for maintenance and repairs are charged against income as incurred. Costs of major additions and improvements are capitalized. Bank-Owned Life Insurance ( BOLI ) The Company owns insurance on the lives of a certain group of key employees. The policies were purchased to help offset the increase in the costs of various fringe benefit plans including healthcare. The cash surrender value of these policies is included as an asset on the Consolidated Balance Sheet, and any increases in cash surrender value are recorded as noninterest income on the Consolidated Statement of Income. In the event of the death of an insured individual under these policies, the Company would receive a death benefit which would be recorded as noninterest income. Other Real Estate Owned Real estate acquired by foreclosure is classified on the Consolidated Balance Sheet at its fair value minus estimated costs of sale. Prior to foreclosure, the value of the underlying collateral is written down by a charge to the allowance for loan losses, if necessary. Any subsequent write-downs are charged against operating expenses. Operating expenses of such properties, net of related income and losses on their disposition, are included as other real estate owned expense. Income Taxes The Company and the Bank file a consolidated federal income tax return. Deferred tax assets or liabilities are computed based on the difference between the financial statement and the income tax basis of assets and liabilities using the enacted marginal tax rates. Deferred income tax expenses or benefits are based on the changes in the deferred tax asset or liability from period to period. Earnings Per Share The Company provides dual presentation of basic and diluted earnings per share. Basic earnings per share are calculated utilizing net income as reported as the numerator and average shares outstanding as the denominator. The computation of diluted earnings per share differs in that the dilutive effects of any options and non-vested restricted stock grants are adjusted for in the denominator. 10

13 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Stock Based Compensation The Company accounts for stock-based compensation issued to employees, and where appropriate non-employees, at fair value. Under fair value provisions, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the appropriate vesting period using the straight-line method. The amount of stock-based compensation recognized at any date must at least equal the portion of the grant date fair value of the award that is vested at that date and as a result it may be necessary to recognize the expense using a ratable method. Determining the fair value of stock-based awards at the date of grant requires judgment, including estimating the expected term of the stock options and the expected volatility of the Company s stock. In addition, judgment is required in estimating the amount of stock-based awards that are expected to be forfeited. Mortgage Servicing Rights ( MSRs ) The Company has agreements for the express purpose of selling loans in the secondary market. The Company maintains servicing rights for most of these loans. MSRs are carried at the lower of cost or fair value. Originated MSRs are recorded by allocating total costs incurred between the loan and servicing rights based on their relative fair values. MSRs are amortized in proportion to the estimated servicing income over the estimated life of the servicing portfolio. MSRs are a component of other assets on the Consolidated Balance Sheet. Comprehensive Income The Company is required to present comprehensive income in a full set of general-purpose financial statements for all periods presented. Other comprehensive income is composed of unrealized holding gains (losses) on the available for sale securities portfolio. Cash Flows The Company has defined cash and cash equivalents as cash and due from banks and interest-bearing deposits in other banks that have original maturities of 90 days or less. Amounts paid for interest and income taxes and noncash activities are as follows (in thousands): Cash paid during the year for: Interest $ 3,665 $ 2,918 $ 2,764 Income taxes $ 721 $ 2,443 $ 1,251 Noncash investing activities: Transfer of loans to other real estate owned $ 1,783 $ 1,456 $ 1,066 Loans to facilitate the sale of other real estate owned $ 39 $ - $ 780 Changes in unrealized holding gains and losses on available for sale securities $ (574) $ 75 $ (986) Securities sold not settled $ - $ 2,205 $ - 11

14 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Recent Accounting Pronouncements In May 2014, the FASB issued ASU , Revenue from Contracts with Customers (a new revenue recognition standard). The Update s core principle is that a company will recognize revenue to depict the transfer of 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. In addition, this Update specifies the accounting for certain costs to obtain or fulfill a contract with a customer and expands disclosure requirements for revenue recognition. Effective January 1, 2018 the Company has elected to apply the standard utilizing the modified retrospective approach with a cumulative effect of adoption for the impact from uncompleted contracts at the date of adoption. The adoption of this guidance did not result in a change to the accounting for any of the in-scope revenue streams; as such, no cumulative effect adjustments were recorded. Management determined that the primary sources of revenue emanating from interest and dividend income on loans and securities along with noninterest revenue resulting from investment security gains, loan servicing, gains on the sale of loans, commitment fees, fees from financial guarantees, certain credit cards fees, and income on bank-owned life insurance are not within the scope of ASC 606. As a result, no changes were made during the period related to these sources of revenue, which cumulatively comprise 89 percent of the total revenue of the Company. Services within the scope of ASC 606 include income from fiduciary activities, brokerage fees, service charges on deposit accounts, other service income, ATM fees, interchange fees, and gain on sale of OREO, net. For these accounts, fees are related to specific customer transactions are attributable to specific performance obligations of the Bank where the revenue is recognized at a defined point in time, completion of the requested service/transaction. In January 2016, the FASB issued ASU , Financial Instruments Overall (Subtopic ): Recognition and Measurement of Financial Assets and Financial Liabilities. This Update applies to all entities that hold financial assets or owe financial liabilities and is intended to provide more useful information on the recognition, measurement, presentation, and disclosure of financial instruments. Among other things, this Update (a) requires equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income; (b) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment; (c) eliminates the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities; (d) eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; (e) requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; (f) requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements; and (g) clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity s other deferred tax assets. Effective January 1, 2018, the Company made a one-time cumulative effect reclassification adjustment from accumulated other comprehensive income to retained earnings of $187 thousand. Gains and losses on equity securities are recorded through the Consolidated Statement of Income and are included in Note 3. Also, effects of this standard are included in Note 18 where the methods used to calculate the fair value of financial instruments were based on exit pricing assumptions at December 31,

15 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Recent Accounting Pronouncements (continued) In February 2016, the FASB issued ASU , Leases (Topic 842). The standard requires lessees to recognize the assets and liabilities that arise from leases on the balance sheet. A lessee should recognize in the statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. A short-term lease is defined as one in which (a) the lease term is 12 months or less and (b) there is not an option to purchase the underlying asset that the lessee is reasonably certain to exercise. For short-term leases, lessees may elect to recognize lease payments over the lease term on a straight-line basis. For public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2018, and interim periods within those years. The amendments should be applied at the beginning of the earliest period presented using a modified retrospective approach with earlier application permitted as of the beginning of an interim or annual reporting period. This Update will have a less than 1% effect on the Consolidated Balance Sheet. In June 2016, the FASB issued ASU , Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments, which changes the impairment model for most financial assets. This Update is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The underlying premise of the Update is that financial assets measured at amortized cost should be presented at the net amount expected to be collected, through an allowance for credit losses that is deducted from the amortized cost basis. The allowance for credit losses should reflect management s current estimate of credit losses that are expected to occur over the remaining life of a financial asset. The income statement will be effected for the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period. ASU is effective for annual and interim periods beginning after December 15, 2019, and early adoption is permitted for annual and interim periods beginning after December 15, With certain exceptions, transition to the new requirements will be through a cumulative effect adjustment to opening retained earnings as of the beginning of the first reporting period in which the guidance is adopted. We expect to recognize a one-time cumulative effect adjustment to the allowance for loan losses as of the beginning of the first reporting period in which the new standard is effective but cannot yet determine the magnitude of any such one-time adjustment or the overall impact of the new guidance on the consolidated financial statements. In August 2017, the FASB issued ASU , Derivatives and Hedging (Topic 850), the objective of which is to improve the financial reporting of hedging relationships to better portray the economic results of an entity s risk management activities in its financial statements. In addition, the amendments in this Update make certain targeted improvements to simplify the application and disclosure of the hedge accounting guidance in current general accepted accounting principles. For public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2019, and interim periods beginning after December 15, Early application is permitted in any period after issuance. For cash flow and net investment hedges existing at the date of adoption, an entity should apply a cumulative-effect adjustment related to eliminating the separate measurement of ineffectiveness to accumulated other comprehensive income with a corresponding adjustment to the opening balance of retained earnings as of the beginning of the fiscal year that an entity adopts the amendments in this Update. The amended presentation and disclosure guidance is required only prospectively. This Update is not expected to have a significant impact on the Company s financial statements. 13

16 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Recent Accounting Pronouncements (continued) In July 2018, the FASB issued ASU , Codification Improvements, represents changes to clarify, correct errors in, or make minor improvements to the Codification. The amendments make the Codification easier to understand and easier to apply by eliminating inconsistencies and providing clarifications. The transition and effective date guidance is based on the facts and circumstances of each amendment. Some of the amendments do not require transition guidance and will be effective upon issuance of this ASU. However, many of the amendments in this ASU do have transition guidance with effective dates for annual periods beginning after December 15, 2018, for public business entities. The Company is currently evaluating the impact the adoption of the standard will have on the Company s financial position or results of operations. In July 2018, the FASB issued ASU , Codification Improvements to Topic 842, Leases, represents changes to clarify, correct errors in, or make minor improvements to the Codification. The amendments in this ASU affect the amendments in ASU , which are not yet effective, but for which early adoption upon issuance is permitted. For entities that early adopted Topic 842, the amendments are effective upon issuance of this ASU, and the transition requirements are the same as those in Topic 842. For entities that have not adopted Topic 842, the effective date and transition requirements will be the same as the effective date and transition requirements in Topic 842. This Update is not expected to have a significant impact on the Company s financial statements. In July 2018, the FASB issued ASU , Leases (Topic 842): Targeted Improvements. This Update provides another transition method which allows entities to initially apply ASC 842 at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. Entities that elect this approach should report comparative periods in accordance with ASC 840, Leases. In addition, this Update provides a practical expedient under which lessors may elect, by class of underlying assets, to not separate nonlease components from the associated lease component, similar to the expedient provided for lessees. However, the lessor practical expedient is limited to circumstances in which the nonlease component or components otherwise would be accounted for under the new revenue guidance and both (a) the timing and pattern of transfer are the same for the nonlease component(s) and associated lease component and (b) the lease component, if accounted for separately, would be classified as an operating lease. If the nonlease component or components associated with the lease component are the predominant component of the combined component, an entity should account for the combined component in accordance with ASC 606, Revenue from Contracts with Customers. Otherwise, the entity should account for the combined component as an operating lease in accordance with ASC 842. If a lessor elects the practical expedient, certain disclosures are required. This Update is effective for public business entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, with early adoption permitted. This Update is not expected to have a significant impact on the Company s financial statements. In August 2018, the FASB issued ASU , Fair Value Measurement (Topic 820): Disclosure Framework Changes the Disclosure Requirements for Fair Value Measurements. The Update removes the requirement to disclose the amount of and reasons for transfers between Level I and Level II of the fair value hierarchy; the policy for timing of transfers between levels; and the valuation processes for Level III fair value measurements. The Update requires disclosure of changes in unrealized gains and losses for the period included in other comprehensive income (loss) for recurring Level III fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level III fair value measurements. This Update is effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, This Update is not expected to have a significant impact on the Company s financial statements. 14

17 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Recent Accounting Pronouncements (continued) In August 2018, the FASB issued ASU , Intangibles Goodwill and Other Internal-Use Software (Subtopic ). This Update addresses customers accounting for implementation costs incurred in a cloud computing arrangement that is a service contract and also adds certain disclosure requirements related to implementation costs incurred for internal-use software and cloud computing arrangements. The amendment aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). This Update is effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, with early adoption permitted. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2020, and interim periods within fiscal years beginning after December 15, The amendments in this Update can be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. The Company is currently evaluating the impact the adoption of the standard will have on the Company s financial position or results of operations. In October 2018, the FASB issued ASU , Derivatives and Hedging (Topic 815). The amendments in this Update permit use of the Overnight Index Swap (OIS) rate based on the Secured Overnight Financing Rate (SOFR) as a U.S. benchmark interest rate for hedge accounting purposes under Topic 815, in addition to the interest rates on direct Treasury obligations of the U.S. government, the London Interbank Offered Rate (LIBOR) swap rate, the OIS rate based on the Fed Funds Effective Rate, and the Securities Industry and Financial Markets Association (SIFMA) Municipal Swap Rate. For entities that have not already adopted Update , the amendments in this Update are required to be adopted concurrently with the amendments in Update For public business entities that already have adopted the amendments in Update , the amendments are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted in any interim period upon issuance of this Update if an entity already has adopted Update This Update is not expected to have a significant impact on the Company s financial statements. In November 2018, the FASB issued ASU , Codification Improvements to Topic 326, Financial Instruments - Credit Losses, which amended the effective date of ASU for entities other than public business entities (PBEs), by requiring non-pbes to adopt the standard for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years. Therefore, the revised effective dates of ASU for PBEs that are SEC filers will be fiscal years beginning after December 15, 2019, including interim periods within those years, PBEs other than SEC filers will be for fiscal years beginning after December 15, 2020, including interim periods within those years, and all other entities (non-pbes) will be for fiscal years beginning after December 15, 2021, including interim periods within those years. The ASU also clarifies that receivables arising from operating leases are not within the scope of Subtopic Rather, impairment of receivables arising from operating leases should be accounted for in accordance with Topic 842, Leases. The effective date and transition requirements for ASU are the same as those in ASU , as amended by ASU The Company is currently evaluating the impact the adoption of the standard will have on the Company s financial position or results of operations. In December 2018, the FASB issued ASU , Leases (Topic 842), which addressed implementation questions arising from stakeholders in regard to ASU , Leases. Specifically addressed in this Update were issues related to 1) sales taxes and other similar taxes collected from lessees, 2) certain lessor costs, and 3) recognition of variable payments for contracts with lease and nonlease components. The amendments in this Update affect the amendments in Update , which are not yet effective but can be early adopted. The effective date and transition requirements for the amendments in this Update are the same as the effective date and transition requirements in Update (for example, January 1, 2019, for calendar-year-end public business entities). This Update is not expected to have a significant impact on the Company s financial statements. 15

18 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Stock Split On August 11, 2017, the Company effected in the form of a stock dividend, a three for two stock split of its common stock to shareholders of record on July 28, All share and earnings per share information have been retroactively adjusted to reflect the stock split and incremental par value of the newly issued shares was recorded with the offset to additional paid-in-capital. Shareholders received cash in lieu of fractional shares except those shareholders participating in the Dividend Reinvestment and Stock Purchase Plan. Reclassification of Comparative Amounts Certain comparative amounts for prior years have been reclassified to conform to current year presentations. The reclassified amounts did not affect net income or stockholders equity. NOTE 2 - EARNINGS PER SHARE There are no convertible securities that would affect the numerator in calculating basic and diluted earnings per share; therefore, net income as presented on the Consolidated Statement of Income will be used as the numerator. The following table sets forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings per share computation Weighted-average common shares issued 2,538,547 2,530,638 2,527,278 Average treasury stock shares (59,760) (59,760) (59,620) Average unearned nonvested shares - - (1,252) Weighted-average common shares and common stock equivalents used to calculate basic earnings per share 2,478,787 2,470,878 2,466,406 Additional common stock equivalents (stock options) used to calculate diluted earnings per share 28,468 25,645 11,743 Weighted-average common shares and common stock equivalents used to calculate diluted earnings per share 2,507,255 2,496,523 2,478,149 There were no shares that were considered anti-dilutive for the years ended December 31, 2018, 2017, and