UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
(Mark One)
For the Fiscal Year Ended December 31, 2015
or
For the Transition period from to
Commission File Number: 000-51904
HOME BANCSHARES, INC.
(Exact Name of Registrant as Specified in Its Charter)
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
(501) 339-2929
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $0.01 per share
(Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No x
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 ¨
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 (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
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 definitions of “accelerated filer”, “large accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
The aggregate market value of the registrant’s common stock, par value $0.01 per share, held by non-affiliates on June 30, 2015, was $2.08 billion based upon the last trade price as reported on the NASDAQ Global Select Market of $36.56.
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practical date.
Common Stock Issued and Outstanding: 70,202,170 shares as of February 19, 2016.
Documents incorporated by reference: Part III is incorporated by reference from the registrant’s Proxy Statement relating to its 2016 Annual Meeting to be held on April 21, 2016.
December 31, 2015
INDEX
PART I:
Item 1.
Business
Item 1A.
Risk Factors
Item 1B.
Unresolved Staff Comments
Item 2.
Properties
Item 3.
Legal Proceedings
Item 4.
Mine Safety Disclosure
PART II:
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6.
Selected Financial Data
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operation
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Consolidated Financial Statements and Supplementary Data
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures
Item 9B.
Other Information
PART III:
Item 10.
Directors, Executive Officers and Corporate Governance
Item 11.
Executive Compensation
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13.
Certain Relationships and Related Transactions, and Director Independence
Item 14.
Principal Accounting Fees and Services
PART IV:
Item 15.
Exhibits, Financial Statement Schedules
Signatures
Consent and Certifications
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some of our statements contained in this document, including matters discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operation,” are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements relate to future events or our future financial performance and include statements about the competitiveness of the banking industry, potential regulatory obligations, our entrance and expansion into other markets, including through potential acquisitions, our other business strategies and other statements that are not historical facts. Forward-looking statements are not guarantees of performance or results. When we use words like “may,” “plan,” “contemplate,” “anticipate,” “believe,” “intend,” “continue,” “expect,” “project,” “predict,” “estimate,” “could,” “should,” “would,” and similar expressions, you should consider them as identifying forward-looking statements, although we may use other phrasing. These forward-looking statements involve risks and uncertainties and are based on our beliefs and assumptions, and on the information available to us at the time that these disclosures were prepared. These forward-looking statements involve risks and uncertainties and may not be realized due to a variety of factors, including, but not limited to, the following:
All written or oral forward-looking statements attributable to us are expressly qualified in their entirety by this Cautionary Note. Our actual results may differ significantly from those we discuss in these forward-looking statements. For other factors, risks and uncertainties that could cause our actual results to differ materially from estimates and projections contained in these forward-looking statements, see “Risk Factors”.
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PART I
Company Overview
Home BancShares, Inc. (“Home BancShares”, which may also be referred to in this document as “we”, “us” or the “Company”) is a Conway, Arkansas headquartered bank holding company registered under the federal Bank Holding Company Act of 1956. The Company’s common stock is traded through the NASDAQ Global Select Market under the symbol “HOMB”. We are primarily engaged in providing a broad range of commercial and retail banking and related financial services to businesses, real estate developers and investors, individuals and municipalities through our wholly owned community bank subsidiary – Centennial Bank (the “Bank”). The Bank has branch locations in Arkansas, Florida, South Alabama and a loan production office in New York City. Although the Company has a diversified loan portfolio, at December 31, 2015 and 2014, commercial real estate loans represented 60.0% and 57.2% of gross loans and 332.4% and 285.2% of total stockholders’ equity, respectively. The Company’s total assets, total deposits, total revenue and net income for each of the past three years are as follows:
Total assets
Total deposits
Total revenue (interest income plus non-interest income)
Net income
Home BancShares acquires, organizes and invests in community banks that serve attractive markets. Our community banking team is built around experienced bankers with strong local relationships. The Company was formed in 1998 by an investor group led by John W. Allison, our Chairman, and Robert H. “Bunny” Adcock, Jr., our Vice Chairman. After obtaining a bank charter, we established First State Bank in Conway, Arkansas, in 1999. We acquired Community Bank, Bank of Mountain View and Centennial Bank in 2003, 2005 and 2008, respectively. Home BancShares and its founders were also involved in the formation of Twin City Bank and Marine Bank, both of which we acquired in 2005. During 2008 and 2009, we merged all of our banks into one charter and adopted Centennial Bank as the common name. In 2010, we acquired six banks in Florida through Federal Deposit Insurance Corporation (“FDIC”) assisted transactions with loss share, including Old Southern Bank, Key West Bank, Coastal Community Bank, Bayside Savings Bank, Wakulla Bank and Gulf State Community Bank. In 2012, we acquired three banks headquartered in Florida including Vision Bank, Premier Bank and Heritage Bank of Florida (“Heritage”). Heritage was acquired through an FDIC-assisted transaction without loss share. In 2013, we acquired Liberty Bancshares, Inc. headquartered in Jonesboro, Arkansas. During 2014, we acquired Florida Traditions Bank headquartered in Dade City, Florida and Broward Financial Holdings, Inc. headquartered in Fort Lauderdale, Florida. During 2015, we acquired Doral Bank’s Florida Panhandle operations (“Doral Florida”), a pool of national commercial real estate loans, and Florida Business BancGroup, Inc., headquartered in Tampa, Florida. In connection with the acquisition of the pool of national commercial real estate loans, we opened a loan production office in New York City and created Centennial Commercial Finance Group (“Centennial CFG”).
We believe many individuals and businesses prefer banking with a locally managed community bank capable of providing flexibility and quick decisions. The execution of our community banking strategy has allowed us to rapidly build our network of banking operations through acquisitions. The following are the financial details concerning our acquisitions during the previous five years.
Acquisition of Vision Bank – On February 16, 2012, Centennial Bank completed the acquisition of operating assets and liabilities of Vision Bank, a Florida state-chartered bank with its principal office located in Panama City, Florida (“Vision”), pursuant to a Purchase and Assumption Agreement (the “Vision Agreement”), dated November 16, 2011, between the Company, Centennial, Park National Corporation, parent company of Vision (“Park”), and Vision. As a result of the acquisition, the Company had an opportunity to increase its deposit base and reduce transaction costs. The Company also reduced costs through economies of scale.
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Prior to the acquisition, Vision conducted banking business from 17 banking offices, including eight locations in Baldwin County, Alabama, and nine locations in the Florida Panhandle counties of Bay, Gulf, Okaloosa, Santa Rosa and Walton. Including the effects of the purchase accounting adjustments, Centennial Bank acquired approximately $529.5 million in assets, approximately $340.3 million in performing loans including loan discounts and approximately $524.4 million of deposits.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2013 for an additional discussion regarding the acquisition of Vision Bank.
FDIC Acquisition of Heritage Bank – On November 2, 2012, Centennial Bank acquired all the deposits and substantially all the assets of Heritage Bank from the FDIC. This transaction did not include any non-performing loans or other real estate owned of Heritage. In connection with the Heritage acquisition, Centennial Bank opted to not enter into a loss-sharing agreement with the FDIC.
Prior to the acquisition, Heritage operated three banking offices located in Tampa, Lutz and Wesley Chapel, Florida. Including the effects of the purchase accounting adjustments, Centennial Bank acquired approximately $224.8 million in assets plus a cash settlement to balance the transaction, approximately $92.6 million in performing loans including loan discounts and approximately $219.5 million of deposits.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2013 for an additional discussion regarding the acquisition of Heritage Bank.
Acquisition of Premier Bank– On December 1, 2012, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Premier Bank (“Premier”), a Florida state-chartered bank with its principal office located in Tallahassee, Florida, pursuant to an Asset Purchase Agreement (the “Premier Agreement”) with Premier Bank Holding Company, a Florida corporation and bank holding company (“PBHC”), dated August 14, 2012. The Company then merged Premier with and into Centennial Bank. The Company paid a purchase price to PBHC of $1,415,000 for the Premier acquisition.
The Premier acquisition was conducted in accordance with the provisions of Section 363 of the United States Bankruptcy Code (the “Bankruptcy Code”) pursuant to a voluntary petition for relief under Chapter 11 of the Bankruptcy Code filed by PBHC with the United States Bankruptcy Court for the Northern District of Florida (the “Bankruptcy Court”) on August 14, 2012. The sale of Premier by PBHC was subject to certain bidding procedures approved by the Bankruptcy Court. No qualifying competing bids were received. The Bankruptcy Court entered a final order on November 29, 2012 approving the sale of Premier to the Company pursuant to and in accordance with the Premier Agreement.
Prior to the acquisition, Premier conducted banking business from six locations in the Florida panhandle cities of Tallahassee (five) and Quincy (one). Including the effects of the purchase accounting adjustments, Centennial Bank acquired approximately $264.8 million in assets, approximately $138.1 million in loans including loan discounts and approximately $246.3 million of deposits.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2013 for an additional discussion regarding the acquisition of Premier Bank.
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Acquisition of Liberty Bancshares, Inc. – On October 24, 2013, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Liberty Bancshares, Inc. (“Liberty”), parent company of Liberty Bank of Arkansas (“Liberty Bank”), and merged Liberty Bank into Centennial Bank. Under the terms of the Agreement and Plan of Merger (the “Liberty Agreement”) dated June 25, 2013 among Home BancShares, Centennial Bank, Liberty, Liberty Bank and an acquisition subsidiary of Home BancShares, the shareholders of Liberty received approximately $290.1 million of the Company’s common stock valued at the time of the closing, plus approximately $30.0 million in cash, in exchange for all outstanding shares of Liberty common stock. Home BancShares also repurchased all of Liberty’s SBLF preferred stock held by the U.S. Treasury shortly after the closing. The merger significantly increased the Company’s deposit market share in Arkansas making it the second largest bank holding company headquartered in Arkansas.
Prior to the acquisition, Liberty operated 46 banking offices located in Northeast Arkansas, Northwest Arkansas and Western Arkansas. Including the effects of the purchase accounting adjustments, Centennial Bank acquired approximately $2.82 billion in assets, approximately $1.73 billion in loans including loan discounts and approximately $2.13 billion of deposits.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of Liberty Bank.
Acquisition of Florida Traditions Bank – On July 17, 2014, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Florida Traditions Bank (“Traditions”) and merged Traditions into Centennial Bank. Under the terms of the Agreement and Plan of Merger (the “Traditions Agreement”) dated April 25, 2014, by and among Home BancShares, Centennial Bank, and Traditions, the shareholders of Traditions received approximately $39.5 million of the Company’s common stock valued at the time of closing, in exchange for all outstanding shares of Traditions common stock.
Prior to the acquisition, Traditions operated eight banking locations in Central Florida, including its main office in Dade City, Florida. Including the effects of the purchase accounting adjustments, Traditions had $310.5 million in total assets, $241.6 million in loans after $8.5 million of loan discounts, and $267.3 million in deposits.
The transaction was accretive to the Company’s book value per common share and tangible book value per common share.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of Traditions.
Acquisition of Broward Financial Holdings, Inc. – On October 23, 2014, the Company completed its acquisition of all of the issued and outstanding shares of common stock of Broward Financial Holdings, Inc. (“Broward”), parent company of Broward Bank of Commerce (“Broward Bank”), and merged Broward Bank into Centennial Bank. Under the terms of the Agreement and Plan of Merger (the “Broward Agreement”) dated July 30, 2014 by and among Home BancShares, Centennial Bank, Broward, Broward Bank and an acquisition subsidiary of Home BancShares, the shareholders of Broward received approximately $30.2 million of the Company’s common stock valued as of the closing date, plus $3.3 million in cash, in exchange for all outstanding shares of Broward common stock. The Company has also agreed to pay the Broward shareholders at an undetermined date up to approximately $751,000 in additional consideration. The amount and timing of the additional payment, if any, will depend on future payments received or losses incurred by Centennial Bank from certain current Broward Bank loans. At December 31, 2014, the Company had recorded a fair value of zero for the potential additional consideration.
Prior to the acquisition, Broward Bank operated two banking locations in Fort Lauderdale, Florida. Including the effects of the purchase accounting adjustments, Broward had approximately $184.4 million in total assets, $121.1 million in total loans after $3.0 million of loan discounts, and $134.2 million in deposits.
As of the acquisition date, Broward’s common equity totaled $20.4 million and the Company paid a purchase price to the Broward shareholders of approximately $33.6 million for the Broward acquisition. As a result, the Company paid a multiple of 1.62 of Broward’s book value per share and tangible book value per share.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of Broward.
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Acquisition of Doral Bank’s Florida Panhandle operations – On February 27, 2015, the Company’s banking subsidiary, Centennial, acquired all the deposits and substantially all the assets of Doral Bank’s Florida Panhandle operations (“Doral Florida”) through an alliance agreement with Popular who was the successful lead bidder with the FDIC on the failed Doral Bank of San Juan, Puerto Rico. Including the effects of the purchase accounting adjustments, the acquisition provided the Company with loans of approximately $37.9 million net of loan discounts, deposits of approximately $467.6 million, plus a $428.2 million cash settlement to balance the transaction. There is no loss-share with the FDIC in the acquired assets.
Prior to the acquisition, Doral Florida operated five branch locations in Panama City, Panama City Beach and Pensacola, Florida plus a loan production office in Tallahassee, Florida. At the time of acquisition, Centennial operated 29 branch locations in the Florida Panhandle. As a result, the Company closed all five branch locations during the July 2015 systems conversion and returned the facilities back to the FDIC.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of Doral Florida.
Acquisition of Pool of National Commercial Real Estate Loans – On April 1, 2015, the Company’s wholly-owned bank subsidiary, Centennial, entered into an agreement with AM PR LLC, an affiliate of J.C. Flowers & Co. (collectively, the “Seller”) to purchase a pool of national commercial real estate loans totaling approximately $289.1 million for a purchase price of 99% of the total principal value of the acquired loans. The purchase of the loans was completed on April 1, 2015. The acquired loans were originated by the former Doral Bank within its Doral Property Finance portfolio (“DPF Portfolio”) and were transferred to the Seller by Banco Popular of Puerto Rico (“Popular”) upon its acquisition of the assets and liabilities of Doral Bank from the FDIC, as receiver for the failed Doral Bank. This pool of loans is now housed in a division of Centennial known as the Centennial CFG. The Centennial CFG is responsible for servicing the acquired loan pool and originating new loan production.
In connection with this acquisition of loans, the Company opened a loan production office on April 23, 2015 in New York City. Through the loan production office, Centennial CFG plans to build out a national lending platform focusing on commercial real estate plus commercial and industrial loans.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of pool of national commercial real estate loans.
Acquisition of Florida Business BancGroup, Inc. – On October 1, 2015, the Company completed its acquisition of Florida Business BancGroup, Inc. (“FBBI”), parent company of Bay Cities Bank (“Bay Cities”). The Company paid a purchase price to the FBBI shareholders of $104.1 million for the FBBI acquisition. Under the terms of the agreement, shareholders of FBBI received 2,079,854 shares of its common stock valued at approximately $83.8 million as of October 1, 2015, plus approximately $20.3 million in cash in exchange for all outstanding shares of FBBI common stock. A portion of the cash consideration, $2.0 million, has been placed into escrow, and FBBI shareholders will have a contingent right to receive their pro-rata portions of such amount. The amount, if any, of such escrowed funds to be released to FBBI shareholders will depend upon the amount of losses that HBI incurs in the two years following the completion of the merger related to two class action lawsuits that are pending against Bay Cities.
FBBI formerly operated six branch locations and a loan production office in the Tampa Bay area and in Sarasota, Florida. Including the effects of any purchase accounting adjustments, as of October 1, 2015, FBBI had approximately $564.5 million in total assets, $408.3 million in loans after $14.1 million of loan discounts, and $472.0 million in deposits.
See Note 2 “Business Combinations” in the Notes to Consolidated Financial Statements for an additional discussion regarding the acquisition of FBBI.
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Our Management Team
The following table sets forth, as of December 31, 2015, information concerning the individuals who are our executive officers.
Name
Home BancShares, Inc.
Centennial Bank
John W. Allison
C. Randall Sims
Brian S. Davis
Jennifer C. Floyd
Kevin D. Hester
J. Stephen Tipton
Tracy M. French
Donna J. Townsell
Robert F. Birch, Jr.
Russell D. Carter, III
Jim Haynes
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Our Growth Strategy
Our goals are to achieve growth in earnings per share and to create and build stockholder value. Our growth strategy entails the following:
Community Banking Philosophy
Our community banking philosophy consists of four basic principles:
These principles, which make up our community banking philosophy, are the driving force for our business. As we streamlined our legacy business into an efficient banking network and have integrated new acquisitions, we have preserved lending authority with local management in most cases by using community bank boards that maintain an integral connection to the communities we serve. These community bank boards are generally empowered with lending authority of up to $6.0 million in their respective geographic areas. This allows us to capitalize on the strong relationships that these individuals and our local bank officers have in their respective communities to maintain and grow our business. Through experienced and empowered local bankers and board members, we are committed to maintaining a community banking experience for our customers.
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Operating Goals
Our operating goals focus on maintaining strong credit quality, increasing profitability, finding experienced bankers, and maintaining a “fortress” balance sheet:
Our Market Areas
As of December 31, 2015, we conducted business principally through 79 branches in Arkansas, 61 branches in Florida, six branches in Alabama and a loan production office in New York City. Our branch footprint includes markets in which we are the deposit market share leader as well as markets where we believe we have opportunities for deposit market share growth.
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Lending Activities
We originate loans primarily secured by single and multi-family real estate, residential construction and commercial buildings. In addition, we make loans to small and medium-sized commercial businesses as well as to consumers for a variety of purposes.
Our loan portfolio as of December 31, 2015, was comprised as follows:
Real estate:
Commercial real estate loans
Non-farm/non-residential
Construction/land development
Agricultural
Residential real estate loans
Residential 1-4 family
Multifamily residential
Total real estate
Consumer
Commercial and industrial
Other
Total
Real Estate – Non-farm/Non-residential. Non-farm/non-residential real estate loans consist primarily of loans secured by income-producing properties, such as shopping/retail centers, hotel/motel properties, office buildings, and industrial/warehouse properties. Commercial lending on income-producing property typically involves higher loan principal amounts, and the repayment of these loans is dependent, in large part, on sufficient income from the properties collateralizing the loans to cover operating expenses and debt service. This category of loans also includes specialized properties such as churches, marinas, and nursing homes. Additionally, we make commercial mortgage loans to entities to operate in these types of properties, and the repayment of these loans is dependent, in large part, on the cash flow generated by these entities in the operations of the business. Often, a secondary source of repayment will include the sale of the subject collateral. When this is the case, it is generally our practice to obtain an independent appraisal of this collateral within the Interagency Appraisal and Evaluation Guidelines.
Real Estate – Construction/Land Development. This category of loans includes loans to residential and commercial developers to purchase raw land and to develop this land into residential and commercial land developments. In addition, this category includes construction loans for all of the types of real estate loans made by the Bank, including both commercial and residential. These loans are generally secured by a first lien on the real estate being purchased or developed. Often, the primary source of repayment will be the sale of the subject collateral. When this is the case, it is generally our practice to obtain an independent appraisal of this collateral within the Interagency Appraisal and Evaluation Guidelines.
Real Estate – Residential. Our residential mortgage loan program primarily originates loans to individuals for the purchase of residential property. We generally do not retain long-term, fixed-rate residential real estate loans in our portfolio due to interest rate and collateral risks. Residential mortgage loans to individuals retained in our loan portfolio primarily consisted of approximately 36.9% owner occupied 1-4 family properties and approximately 43.3% non-owner occupied 1-4 family properties (rental) as of December 31, 2015. The primary source of repayment for these loans is generally the income and/or assets of the individual to whom the loan is made. Often, a secondary source of repayment will include the sale of the subject collateral. When this is the case, it is generally our practice to obtain an independent appraisal of this collateral within the Interagency Appraisal and Evaluation Guidelines.
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Consumer. While our focus is on service to small and medium-sized businesses, we also make a variety of loans to individuals for personal, family and household purposes, including secured and unsecured installment and term loans. The primary source of repayment for these loans is generally the income and/or assets of the individual to whom the loan is made. When secured, we may independently assess the value of the collateral using a third-party valuation source.
Commercial and Industrial. Our commercial and industrial loan portfolio primarily consisted of 53.2% inventory/accounts receivable (“AR”) financing, 21.8% equipment/vehicle financing and 25.0% other, including letters of credit at less than 1%, as of December 31, 2015. This category includes loans to smaller business ventures, credit lines for working capital and short-term inventory financing, for example. These loans are typically secured by the assets of the business, and are supplemented by personal guaranties of the principals and often mortgages on the principals’ primary residences. The primary source of repayment may be conversion of the assets into cash flow, as in inventory and accounts receivable, or may be cash flow generated by operations, as in equipment/vehicle financing. Assessing the value of inventory can involve many factors including, but not limited to, type, age, condition, level of conversion and marketability, and can involve applying a discount factor or obtaining an independent valuation, based on the assessment of the above factors. Assessing the value of accounts receivable can involve many factors including, but not limited to, concentration, aging, and industry, and can involve applying a discount factor or obtaining an independent valuation, based on the assessment of the above factors. Assessing the value of equipment/vehicles may involve a third-party valuation source, where applicable.
Credit Risks. The principal economic risk associated with each category of the loans that we make is the creditworthiness of the borrower and the ability of the borrower to repay the loan. General economic conditions and the strength of the services and retail market segments affect borrower creditworthiness. General factors affecting a commercial borrower’s ability to repay include interest rates, inflation and the demand for the commercial borrower’s products and services as well as other factors affecting a borrower’s customers, suppliers and employees.
Risks associated with real estate loans also include fluctuations in the value of real estate, new job creation trends, tenant vacancy rates, and in the case of commercial borrowers, the quality of the borrower’s management. Consumer loan repayments depend upon the borrower’s financial stability and are more likely to be adversely affected by divorce, job loss, illness and other personal hardships.
Lending Policies. We have established common loan documentation procedures and policies, based on the type of loan, for our bank subsidiary. The board of directors periodically reviews these policies for validity. In addition, it has been and will continue to be our practice to attempt to independently verify information provided by our borrowers, including assets and income. We have not made loans similar to those commonly referred to as “no doc” or “stated income” loans. We focus on the primary and secondary methods of repayment, and prepare global cash flows where appropriate. There are legal restrictions on the dollar amount of loans available for each lending relationship. The Arkansas Banking Code provides that no loan relationship may exceed 20% of a bank’s risk based capital, and we are in compliance with this restriction. In addition, we are not dependent upon any single lending relationship for an amount exceeding 10% of our revenues. As of December 31, 2015, the maximum amount outstanding to a single borrower was $137.7 million. As a community lender, we believe from time to time it is in our best interest to agree to modifications or restructurings. These modifications/restructurings can take the form of a reduction in interest rate, a move to interest-only from principal and interest payments, or a lengthening in the amortization period or any combination thereof. Occasionally, we will modify/restructure a single loan by splitting it into two loans following the interagency guidance involving the workout of commercial real estate loans. The loan representing the portion that is supported by the current cash flow of the borrower or project will remain on the Bank’s books, while the new loan representing the portion that cannot be serviced by the current cash flow is charged-off. Furthermore, we may make an additional loan or loans to a borrower or related interest of a borrower who is past due more than 90 days. These circumstances will be very limited in nature, and when approved by the appropriate lending authority, will likely involve obtaining additional collateral that will improve the collectability of the overall relationship. It is our belief that judicious usage of these tools can improve the quality of our loan portfolio by providing our borrowers an improved probability of survival during difficult economic times.
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Loan Approval Procedures. Our bank subsidiary has supplemented our common loan policies to establish its loan approval procedures as follows:
Currently, our board of directors has established an in-house consolidated lending limit of $20.0 million to any one borrowing relationship without obtaining the approval of both our Chairman and our director Richard H. Ashley. We have 20 separate relationships that exceed this in-house limit.
Deposits and Other Sources of Funds
Our principal source of funds for loans and investing in securities is core deposits. We offer a wide range of deposit services, including checking, savings, money market accounts and certificates of deposit. We obtain most of our deposits from individuals and small businesses, and municipalities in our market areas. We believe that the rates we offer for core deposits are competitive with those offered by other financial institutions in our market areas. Additionally, our policy also permits the acceptance of brokered deposits. Secondary sources of funding include advances from the Federal Home Loan Banks of Dallas, the Federal Reserve Bank Discount Window and other borrowings. These secondary sources enable us to borrow funds at rates and terms which, at times, are more beneficial to us.
Other Banking Services
Given customer demand for increased convenience and account access, we offer a range of products and services, including 24-hour internet banking, mobile banking and voice response information, cash management, overdraft protection, direct deposit, safe deposit boxes, United States savings bonds and automatic account transfers. We earn fees for most of these services. We also receive ATM transaction fees from transactions performed by our customers participating in a shared network of automated teller machines and a debit card system that our customers can use throughout the United States, as well as in other countries.
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Insurance
Centennial Insurance Agency, Inc. is an independent insurance agency, originally founded in 1959 and purchased July 1, 2000, by Centennial Bank. In connection with the 2013 purchase of Liberty, we acquired Town and Country Insurance. Shortly after the acquisition of Liberty we merged Town and Country Insurance into Centennial Insurance Agency. As a result, all of the offices in Arkansas operated as Centennial Insurance Agency, Inc. at December 31, 2014. On January 1, 2015, Centennial Insurance Agency sold the insurance book of business of the former Town and Country Insurance to Stephens Insurance, LLC of Little Rock. This disposal was completed at our book value with no gain or loss. The profitability on this book of business was immaterial.
The offices of Centennial Insurance Agency are currently located in Jacksonville, Cabot and Conway, Arkansas.
Centennial Insurance Agency writes policies for commercial and personal lines of business including insurance for property, casualty, life, health and employee benefits. It is subject to regulation by the Arkansas Insurance Department.
Cook Insurance Agency, Inc. is an independent insurance agency, originally founded in 1913 and acquired November 19, 2010, by Centennial Bank during the FDIC acquisition of Gulf State Community Bank. Cook Insurance Agency writes policies for commercial and personal lines of business including life insurance. It is subject to regulation by the Florida Insurance Department. The offices of Cook Insurance Agency are located in Apalachicola and Crawfordville, Florida.
The Company may merge the book of business of Cook Insurance Agency into the Centennial Insurance Agency at some point in the future.
Trust Services
The Centennial Bank trust department offers a broad array of trust services. These trust services, focusing primarily on personal trusts, corporate trusts and employee benefit trusts.
Competition
As of December 31, 2015, we conducted business through 146 branches in our primary market areas of Pulaski, Faulkner, Craighead, Lonoke, Pope, Washington, White, Benton, Greene, Sebastian, Baxter, Cleburne, Independence, Stone, Clay, Conway, Crawford, Johnson, Saline, Sharp and Yell Counties in Arkansas and Monroe, Hillsborough, Leon, Bay, Franklin, Gulf, Broward, Charlotte, Collier, Escambia, Orange, Osceola, Pasco, Polk, Walton, Calhoun, Gadsden, Hernando, Lake, Liberty, Okaloosa, Pinellas, Santa Rosa, Sarasota, Seminole, Wakulla, Counties in Florida and Baldwin County in Alabama. Many other commercial banks, savings institutions and credit unions have offices in our primary market areas. These institutions include many of the largest banks operating in Arkansas and Florida, including some of the largest banks in the country. Many of our competitors serve the same counties we do. Our competitors often have greater resources, have broader geographic markets, have higher lending limits, offer various services that we may not currently offer and may better afford and make broader use of media advertising, support services and electronic technology than we do. To offset these competitive disadvantages, we depend on our reputation as having greater personal service, consistency, and flexibility and the ability to make credit and other business decisions quickly.
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Employees
On December 31, 2015, we had 1,424 full-time equivalent employees. Except for any employees acquired in future acquisitions, we expect that our 2016 staffing levels will be slightly lower than those at year end 2015 as we continue to achieve efficiencies throughout our Company. We consider our employee relations to be good, and we have no collective bargaining agreements with any employees.
SUPERVISION AND REGULATION
General
We and our bank subsidiary are subject to extensive state and federal banking regulations that impose restrictions on and provide for general regulatory oversight of our company and its operations. These laws generally are intended to protect depositors, the deposit insurance fund of the Federal Deposit Insurance Corporation (“FDIC”) and the banking system as a whole, and not stockholders. The following discussion describes the material elements of the regulatory framework that applies to us.
Financial Regulatory Reform
The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”) made extensive changes in the regulation of financial institutions and their holding companies. The Dodd-Frank Act contains a comprehensive set of provisions designed to govern the practices and oversight of financial institutions and other participants in the financial markets. The act includes provisions that, among other things:
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Many provisions of the Dodd-Frank Act have delayed effective dates, and the legislation requires various federal agencies to adopt a broad range of new rules and regulations and to prepare numerous studies and reports for Congress. These agencies are still in the process of promulgating the required regulations, and the studies and reports could potentially result in additional legislative or regulatory action. The substance and scope of these regulations therefore cannot be completely determined at this time. We expect our operating and compliance costs to continue to increase as a result of the Dodd-Frank Act and implementing its regulations.
Home BancShares
We are a bank holding company registered under the federal Bank Holding Company Act of 1956 (the “Bank Holding Company Act”) and are subject to supervision, regulation and examination by the Federal Reserve Board. The Bank Holding Company Act and other federal laws subject bank holding companies to particular restrictions on the types of activities in which they may engage, and to a range of supervisory requirements and activities, including regulatory enforcement actions for violations of laws and regulations.
Acquisitions of Banks. The Bank Holding Company Act requires every bank holding company to obtain the Federal Reserve Board’s prior approval before:
Under the Bank Holding Company Act, if well-capitalized and well managed, we, as well as other bank holding companies located within the states in which we operate, may purchase a bank located outside of those states. Conversely, a well-capitalized and well managed bank holding company located outside of the states in which we operate may purchase a bank located inside those states. In each case, however, restrictions may be placed on the acquisition of a bank that has only been in existence for a limited amount of time or will result in specified concentrations of deposits.
Permitted Activities. A bank holding company is generally permitted under the Bank Holding Company Act to engage in or acquire direct or indirect control of more than 5% of the voting shares of any company engaged in the following activities:
Activities that the Federal Reserve Board has found to be so closely related to banking as to be a proper incident to the business of banking include but are not limited to: factoring accounts receivable; making, acquiring, brokering or servicing loans and usual related activities; leasing personal or real property; operating a non-bank depository institution, such as a savings association; trust company functions; financial and investment advisory activities; conducting securities brokerage activities; underwriting and dealing in government obligations and money market instruments; providing specified management consulting and counseling activities; performing selected data processing services and support services; acting as agent or broker in selling credit life insurance and other types of insurance in connection with credit transactions; and performing selected insurance underwriting activities.
Support of Subsidiary Institutions. Under the Dodd-Frank Act, we are required to act as a source of financial strength for our bank subsidiary and to commit resources to support the bank. Under current federal law, the Federal Reserve may require us to make capital injections into our bank subsidiary and may charge us with engaging in unsafe and unsound practices if we fail to commit resources to our bank subsidiary or if we undertake actions that the Federal Reserve believes might jeopardize our ability to commit resources to the bank. As a result, an obligation to support our bank subsidiary may be required at times when, without this requirement, we might not be inclined to provide it.
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Safe and Sound Banking Practices. Bank holding companies are not permitted to engage in unsafe and unsound banking practices. The Federal Reserve Board’s Regulation Y, for example, generally requires a holding company to give the Federal Reserve Board prior notice of any redemption or repurchase of its own equity securities, if the consideration to be paid, together with the consideration paid for any repurchases or redemptions in the preceding year, is equal to 10% or more of the company’s consolidated net worth. The Federal Reserve Board may oppose the transaction if it believes that the transaction would constitute an unsafe or unsound practice or would violate any law or regulation. Depending upon the circumstances, the Federal Reserve Board could take the position that paying a dividend would constitute an unsafe or unsound banking practice.
The Federal Reserve Board has broad authority to prohibit activities of bank holding companies and their non-banking subsidiaries which represent unsafe and unsound banking practices or which constitute violations of laws or regulations, and can assess civil money penalties for certain activities conducted on a knowing and reckless basis, if those activities caused a substantial loss to a depository institution. The penalties can be as high as $1 million for each day the activity continues.
Annual Reporting; Examinations. We are required to file annual reports with the Federal Reserve Board, and such additional information as the Federal Reserve Board may require pursuant to the Bank Holding Company Act. The Federal Reserve Board may examine a bank holding company or any of its subsidiaries, and charge the company for the cost of such examination.
Capital Adequacy Requirements. The Federal Reserve Board has adopted a system using risk-based capital guidelines to evaluate the capital adequacy of bank holding companies having $500 million or more in assets on a consolidated basis. We currently have consolidated assets in excess of $500 million, and are therefore subject to the Federal Reserve Board’s capital adequacy guidelines.
Under the guidelines, specific categories of assets are assigned different risk weights, based generally on the perceived credit risk of the asset. These risk weights are multiplied by corresponding asset balances to determine a “risk-weighted” asset base. The guidelines in effect as of December 31, 2015 require a minimum total risk-based capital ratio of 8.0% (of which at least 6.0% is required to consist of Tier 1 capital elements) and a total risk-based capital ratio of at least 10% (of which at least 8.0% is required to consist of Tier 1 capital elements) to be “well-capitalized.” Total capital is the sum of Tier 1 and Tier 2 capital. As of December 31, 2015, our Tier 1 risk-based capital ratio was 11.26% and our total risk-based capital ratio was 12.16%. Thus, as of December 31, 2015, we are considered well-capitalized for regulatory purposes.
In addition to the risk-based capital guidelines, the Federal Reserve Board uses a leverage ratio as an additional tool to evaluate the capital adequacy of bank holding companies. The leverage ratio is a company’s Tier 1 capital divided by its average total consolidated assets. Certain highly-rated bank holding companies may maintain a minimum leverage ratio of 3.0%, but other bank holding companies are required to maintain a leverage ratio of at least 4.0%. Well-capitalized is a leverage ratio in excess of 5%. As of December 31, 2015, our leverage ratio was 9.91%.
The federal banking agencies’ risk-based and leverage ratios are minimum supervisory ratios generally applicable to banking organizations that meet certain specified criteria. The federal bank regulatory agencies may set capital requirements for a particular banking organization that are higher than the minimum ratios when circumstances warrant. Federal Reserve Board guidelines also provide that banking organizations experiencing internal growth or making acquisitions will be expected to maintain strong capital positions, substantially above the minimum supervisory levels, without significant reliance on intangible assets.
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The Dodd-Frank Act includes certain provisions concerning the capital regulations of the federal banking agencies. These provisions, often referred to as the “Collins Amendment,” are intended to subject bank holding companies to the same capital requirements as their bank subsidiaries and to eliminate or significantly reduce the use of hybrid capital instruments, especially trust preferred securities, as regulatory capital. Under the Collins Amendment, trust preferred securities issued before May 19, 2010 by a company, such as our Company, with total consolidated assets of less than $15 billion as of December 31, 2009, and treated as regulatory capital are grandfathered, but any such securities issued later are not eligible as regulatory capital. The Collins Amendment requires banking regulators to develop regulations setting minimum risk-based and leverage capital requirements for holding companies and banks on a consolidated basis that are no less stringent than the generally applicable requirements in effect for depository institutions under the prompt corrective action regulations discussed below. The banking regulators also must seek to make capital standards countercyclical so that the required levels of capital increase in times of economic expansion and decrease in times of economic contraction.
In July 2013, the Federal Reserve Board and the other federal bank regulatory agencies issued a final rule to revise their risk-based and leverage capital requirements and their method for calculating risk-weighted assets to make them consistent with the agreements that were reached by the Basel Committee on Banking Supervision in “Basel III: A Global Regulatory Framework for More Resilient Banks and Banking Systems” and certain provisions of the Dodd-Frank Act. The final rule applies to all depository institutions, bank holding companies with total consolidated assets of $500 million or more and savings and loan holding companies (collectively, “banking organizations”). Among other things, the rule establishes a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets) and a higher minimum Tier 1 risk-based capital requirement (6% of risk-weighted assets) and assigns higher risk weightings (150%) to exposures that are more than 90 days past due or are on non-accrual status and certain commercial real estate facilities that finance the acquisition, development or construction of real property. As of December 31, 2015, the Company’s common equity Tier 1 capital ratio was 10.50%. The final rule permanently grandfathers trust preferred securities and other non-qualifying capital instruments that were issued and outstanding as of May 19, 2010 in the Tier 1 capital of bank holding companies with total consolidated assets of less than $15 billion as of December 31, 2009. The rule phases out of Tier 1 capital these non-qualifying capital instruments issued before May 19, 2010 by all other bank holding companies. The final rule also limits a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” of 2.5% of common equity tier 1 capital to risk-weighted assets, which is in addition to the amount necessary to meet its minimum risk-based capital requirements. The final rule became effective for the Company and our bank subsidiary on January 1, 2015. The capital conservation buffer requirement will be phased in beginning January 1, 2016 and ending January 1, 2019, when the full capital conservation buffer requirement will be effective. As of December 31, 2015, our capital conservation buffer was zero.
Subsidiary Bank
General. Our bank subsidiary, Centennial Bank, is chartered as an Arkansas state bank and is a member of the Federal Reserve System, making it primarily subject to regulation and supervision by both the Federal Reserve Board and the Arkansas State Bank Department. In addition, our bank subsidiary is subject to various requirements and restrictions under federal and state law, including requirements to maintain reserves against deposits, restrictions on the types and amounts of loans that may be granted and the interest that they may charge, and limitations on the types of investments they may make and on the types of services they may offer. Various consumer laws and regulations also affect the operations of our bank subsidiary.
Prompt Corrective Action. The Federal Deposit Insurance Corporation Improvement Act of 1991 establishes a system of prompt corrective action to resolve the problems of undercapitalized financial institutions. Under this system, the federal banking regulators have established five capital categories (well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized) in which all institutions are placed. Federal banking regulators are required to take various mandatory supervisory actions and are authorized to take other discretionary actions with respect to institutions in the three undercapitalized categories. The severity of the action depends upon the capital category in which the institution is placed. The federal banking agencies have specified by regulation the relevant capital level for each category.
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An institution that is categorized as undercapitalized, significantly undercapitalized or critically undercapitalized is required to submit an acceptable capital restoration plan to its appropriate federal banking agency. An undercapitalized institution is also generally prohibited from increasing its average total assets, making acquisitions, establishing any branches or engaging in any new line of business, except under an accepted capital restoration plan or with FDIC approval. The regulations also establish procedures for downgrading an institution to a lower capital category based on supervisory factors other than capital.
The Basel III final rule issued by the federal bank regulatory agencies in July 2013 amended the prompt corrective action rules to incorporate a common equity Tier 1 capital requirement and to raise the capital requirements for certain capital categories. These rules are effective as of January 1, 2015. In order to be adequately capitalized for purposes of the prompt corrective action rules, a banking organization will be required to have at least an 8% total risk-based capital ratio, a 4% Tier 1 risk-based capital ratio, a 4.5% common equity Tier 1 risk-based capital ratio and a 4% Tier 1 leverage ratio. To be well-capitalized, a banking organization will be required to have at least a 10% total risk-based capital ratio, an 6% Tier 1 risk-based capital ratio, a 6.5% common equity Tier 1 risk-based capital ratio and a 5% Tier 1 leverage ratio.
FDIC Insurance and Assessments. Centennial Bank’s deposit accounts are insured up to applicable limits by the FDIC’s Deposit Insurance Fund (“DIF”). The Dodd-Frank Act permanently increased the deposit coverage limit to $250,000 per depositor retroactive to January 1, 2008.
The FDIC imposes an assessment against institutions for deposit insurance. This assessment is based primarily on the risk category of the institution and certain risk adjustments specified by the FDIC, with riskier institutions paying higher assessments.
In October 2010, the FDIC adopted a new restoration program for the DIF to help bolster the DIF reserve ratio to 1.35% by September 30, 2020, as required by the Dodd-Frank Act. The plan provides that, at least semi-annually, the FDIC will update its loss and income projections for the DIF and, if needed, will increase or decrease assessment rates, following notice-and-comment rulemaking if required.
On February 7, 2011, the FDIC approved a final rule implementing changes to the deposit insurance assessment system, as authorized by the Dodd-Frank Act, which became effective on April 1, 2011. The final rule, among other things, changed the assessment base for insured depository institutions from adjusted domestic deposits to the institution’s average consolidated total assets during an assessment period less average tangible equity capital (Tier 1 capital) during that period. The rule revised the assessment rate schedule so that it ranges from 2.5 basis points for the least risky institutions to 45 basis points for the riskiest institutions. The rule also suspended indefinitely the requirement of the FDIC to pay dividends from the DIF when it reaches 1.5% of insured deposits. In lieu of the dividends, the FDIC adopted progressively lower assessment rate schedules when the reserve ratio exceeds 1.15%, 2.0% and 2.5%, respectively.
Under the Federal Deposit Insurance Act, as amended, the FDIC may terminate deposit insurance upon a finding that the institution has engaged in unsafe and unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC.
Community Reinvestment Act. The Community Reinvestment Act requires, in connection with examinations of financial institutions, that federal banking regulators evaluate the record of each financial institution in meeting the credit needs of its local community, including low and moderate-income neighborhoods. These facts are also considered in evaluating mergers, acquisitions and applications to open a branch or facility. Failure to adequately meet these criteria could impose additional requirements and limitations on our bank subsidiary. Additionally, we must publicly disclose the terms of various Community Reinvestment Act-related agreements. Our bank subsidiary received a “satisfactory” CRA rating from the Federal Reserve Bank during its last exam as published in our bank’s CRA Public Evaluation.
Other Regulations. Interest and other charges collected or contracted for by our bank subsidiary are subject to state usury laws and federal laws concerning interest rates.
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Loans to Insiders. Sections 22(g) and (h) of the Federal Reserve Act and its implementing regulation, Regulation O, place restrictions on loans by a bank to executive officers, directors, and principal stockholders. Under Section 22(h), loans to a director, an executive officer and to a greater than 10% stockholder of a bank and certain of their related interests, or insiders, and insiders of affiliates, may not exceed, together with all other outstanding loans to such person and related interests, the bank’s loans-to-one-borrower limit (generally equal to 15% of the institution’s unimpaired capital and surplus). Section 22(h) also requires that loans to insiders and to insiders of affiliates be made on terms substantially the same as offered in comparable transactions to other persons, unless the loans are made pursuant to a benefit or compensation program that (i) is widely available to employees of the bank and (ii) does not give preference to insiders over other employees of the bank. Section 22(h) also requires prior Board of Director’s approval for certain loans, and the aggregate amount of extensions of credit by a bank to all insiders cannot exceed the institution’s unimpaired capital and surplus. Furthermore, Section 22(g) places additional restrictions on loans to executive officers.
Capital Requirements. Our bank subsidiary is also subject to certain restrictions on the payment of dividends as a result of the requirement that it maintain adequate levels of capital in accordance with guidelines promulgated from time to time by applicable regulators. The regulating agencies consider a bank’s capital levels when taking action on various types of applications and when conducting supervisory activities related to the safety and soundness of individual banks and the banking system. The Federal Reserve Bank monitors the capital adequacy of our bank subsidiary by using a combination of risk-based guidelines and leverage ratios.
The FDIC Improvement Act. The Federal Deposit Insurance Corporation Improvement Act of 1991, or “FDICIA,” made a number of reforms addressing the safety and soundness of the deposit insurance system, supervision of domestic and foreign depository institutions, and improvement of accounting standards. This statute also limited deposit insurance coverage, implemented changes in consumer protection laws and provided for least-cost resolution and prompt regulatory action with regard to troubled institutions.
FDICIA requires every bank with total assets in excess of $500 million to have an annual independent audit made of the bank’s financial statements by an independent public accountant to verify that the financial statements of the bank are presented fairly and in accordance with generally accepted accounting principles and comply with such other disclosure requirements as prescribed by the FDIC. FDICIA also places certain restrictions on activities of banks depending on their level of capital.
The capital classification of a bank affects the frequency of examinations of the bank and impacts the ability of the bank to engage in certain activities and affects the deposit insurance premiums paid by such bank. Under FDICIA, the federal banking regulators are required to conduct a full-scope, on-site examination of every bank at least once every 12 months.
Brokered Deposits. Under FDICIA, banks may be restricted in their ability to accept brokered deposits, depending on their capital classification. “Well-capitalized” banks are permitted to accept brokered deposits, but all banks that are not well-capitalized are not permitted to accept such deposits. The FDIC may, on a case-by-case basis, permit banks that are adequately capitalized to accept brokered deposits if the FDIC determines that acceptance of such deposits would not constitute an unsafe or unsound banking practice with respect to the bank.
Federal Home Loan Bank System. The Federal Home Loan Bank system, of which our bank subsidiary is a member, consists of regional FHLBs governed and regulated by the Federal Housing Finance Agency, or FHFA. The FHLBs serve as reserve or credit facilities for member institutions within their assigned regions. They are funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB system. They make loans (i.e., advances) to members in accordance with policies and procedures established by the FHLB and the Boards of Directors of each regional FHLB.
As a system member, our bank subsidiary is entitled to borrow from the FHLB of its region and is required to own a certain amount of capital stock in the FHLB. Our bank subsidiary is in compliance with the stock ownership rules with respect to such advances, commitments and letters of credit and home mortgage loans and similar obligations. All loans, advances and other extensions of credit made by the FHLB to our bank subsidiary are secured by a portion of its respective loan portfolio, certain other investments and the capital stock of the FHLB held by such bank.
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Mortgage Banking Operations. Our bank subsidiary is subject to the rules and regulations of FHA, VA, FNMA, FHLMC and GNMA with respect to originating, processing, selling and servicing mortgage loans and the issuance and sale of mortgage-backed securities. Those rules and regulations, among other things, prohibit discrimination and establish underwriting guidelines which include provisions for inspections and appraisals, require credit reports on prospective borrowers and fix maximum loan amounts, and, with respect to VA loans, fix maximum interest rates. Mortgage origination activities are subject to, among others, the Equal Credit Opportunity Act, Federal Truth-in-Lending Act and the Real Estate Settlement Procedures Act and the regulations promulgated thereunder which, among other things, prohibit discrimination and require the disclosure of certain basic information to mortgagors concerning credit terms and settlement costs. In addition, our bank subsidiary is subject to the Secure and Fair Enforcement for Mortgage Licensing Act of 2008, or SAFE Act, and the rules promulgated thereunder which, among other things, require residential mortgage loan originators who are employees of regulated financial institutions to be registered with the Nationwide Mortgage Licensing System and Registry, a database created by the Conference of State Bank Supervisors and the American Association of Residential Mortgage Regulators to support the licensing of mortgage loan originators by the states. As part of this registration process, mortgage loan originators must furnish the Registry with certain information and fingerprints and undergo a criminal background check. Our bank subsidiary is also subject to regulation by the Arkansas State Bank Department, as applicable, with respect to, among other things, the establishment of maximum origination fees on certain types of mortgage loan products.
The Consumer Financial Protection Bureau (“CFPB”) created by the Dodd-Frank Act took over responsibility for enforcing the principal federal consumer protection laws, such as the Truth in Lending Act, the Equal Credit Opportunity Act, the Real Estate Settlement Procedures Act and the Truth in Saving Act, among others, on July 21, 2011. Institutions that have assets of $10 billion or less, such as our bank subsidiary, will continue to be supervised and examined in this area by their primary federal regulators (in the case of our bank subsidiary, the Federal Reserve Board). However, the Dodd-Frank Act gives the CFPB expanded data collecting powers for fair lending purposes for both small business and mortgage loans, as well as expanded authority to prevent unfair, deceptive and abusive practices.
In January 2013, the CFPB issued a series of final rules related to mortgage loan origination and mortgage loan servicing. In particular, on January 10, 2013, the CFPB issued a final rule implementing the ability-to-repay and qualified mortgage provisions of the Truth in Lending Act, as amended by the Dodd-Frank Act (the “QM Rule”). The ability-to-repay provision requires creditors to make reasonable, good faith determinations that borrowers are able to repay their mortgages before extending the credit based on a number of factors and consideration of financial information about the borrower from reasonably reliable third-party documents. The lender is presumed to have satisfied the ability-to-repay requirements if the loan is a “qualified mortgage,” which meets certain requirements related to the loan’s amortization, fees, payment terms and maturity as well as the borrower’s debt-to-income ratio. The QM Rule became effective January 10, 2014.
Payment of Dividends
We are a legal entity separate and distinct from our bank subsidiary and other affiliated entities. The principal sources of our cash flow, including cash flow to pay dividends to our stockholders, are dividends that our bank subsidiary pays to us as its sole stockholder. Statutory and regulatory limitations apply to the dividends that our bank subsidiary can pay to us, as well as to the dividends we can pay to our stockholders.
The policy of the Federal Reserve Board that a bank holding company should serve as a source of strength to its subsidiary bank also results in the position of the Federal Reserve Board that a bank holding company should not maintain a level of cash dividends to its stockholders that places undue pressure on the capital of its bank subsidiary or that can be funded only through additional borrowings or other arrangements that may undermine the bank holding company’s ability to serve as such a source of strength. Our ability to pay dividends is also subject to the provisions of Arkansas law.
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There are certain state-law limitations on the payment of dividends by our bank subsidiary. Centennial Bank, which is subject to Arkansas banking laws, may not declare or pay a dividend of 75% or more of the net profits of such bank after all taxes for the current year plus 75% of the retained net profits for the immediately preceding year without the prior approval of the Arkansas State Bank Commissioner. Members of the Federal Reserve System must also comply with the dividend restrictions with which a national bank would be required to comply. Among other things, these restrictions require that if losses have at any time been sustained by a bank equal to or exceeding its undivided profits then on hand, no dividend may be paid. Although we have regularly paid dividends on our common stock beginning with the second quarter of 2003, there can be no assurances that we will be able to pay dividends in the future under the applicable regulatory limitations.
The payment of dividends by us, or by our bank subsidiary, may also be affected by other factors, such as the requirement to maintain adequate capital above regulatory guidelines. The federal banking agencies have indicated that paying dividends that deplete a depository institution’s capital base to an inadequate level would be an unsafe and unsound banking practice. Under FDICIA, a depository institution may not pay any dividend if payment would result in the depository institution being undercapitalized.
Restrictions on Transactions with Affiliates
We and our bank subsidiary are subject to Section 23A of the Federal Reserve Act. In general, Section 23A imposes limits on the amount of transactions between the bank and its affiliates, and also requires certain levels of collateral for loans to affiliated parties. It also limits the amount of advances to affiliates which are collateralized by the securities or obligations of the bank or its nonbanking affiliates. An affiliate of a bank is generally any company or entity that controls, is controlled by, or is under common control with the bank.
Affiliate transactions are also subject to Section 23B of the Federal Reserve Act which generally requires that certain other transactions between the bank and its affiliates be on terms substantially the same, or at least as favorable to the bank, as those prevailing at that time for comparable transactions with or involving other non-affiliated persons.
The restrictions on loans to directors, executive officers, principal stockholders and their related interests (collectively, the “insiders”) contained in Sections 22(g) and (h) of the Federal Reserve Act and in its implementing regulation, Regulation O, also apply to all insured institutions and their subsidiaries and holding companies. Insiders are subject to enforcement actions for knowingly accepting loans in violation of applicable restrictions.
Heightened Requirements for Bank Holding Companies with $10 Billion or More in Assets
Various federal banking laws and regulations, including rules adopted by the Federal Reserve pursuant to the requirements of the Dodd-Frank Act, impose heightened requirements on certain large banks and bank holding companies. Most of these rules apply primarily to bank holding companies with at least $50 billion in total consolidated assets, but certain rules also apply to banks and bank holding companies with at least $10 billion in total consolidated assets. Following the fourth consecutive quarter (and any applicable phase-in period) where our or our bank subsidiary’s total consolidated assets, as applicable, equal or exceed $10 billion, we or our bank subsidiary, as applicable, will, among other requirements:
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Beginning on July 1 of the calendar year following the year in which our total consolidated assets pass the $10 billion threshold, we will also become subject to the so-called Durbin Amendment to the Dodd-Frank Act relating to debit card interchange fees, called “swipe fees.” Under the Durbin Amendment and the Federal Reserve’s implementing regulations, bank issuers who are not exempt may only receive an interchange fee from merchants that is reasonable and proportional to the cost of clearing the transaction. The maximum permissible interchange fee is equal to no more than 21 cents plus 5 basis points of the transaction value for many types of debit interchange transactions. A debit card issuer may also recover 1 cent per transaction for fraud prevention purposes if the issuer complies with certain fraud-related requirements required by the Federal Reserve. In addition, the Federal Reserve has rules governing routing and exclusivity that require issuers to offer two unaffiliated networks for routing transactions on each debit or prepaid product. Currently, we are exempt from the Durbin Amendment’s limitations on interchange fees because we and our bank subsidiary have total consolidated assets of less than $10 billion.
While neither we nor our bank subsidiary are currently subject to the above requirements, we have begun analyzing these rules to ensure we are prepared to comply with the rules if and when they become applicable to us. We believe they could become applicable to us as early as 2017.
Incentive Compensation
The Dodd-Frank Act requires the federal bank regulators and the Securities and Exchange Commission (the “SEC”) to establish joint regulations or guidelines prohibiting incentive-based payment arrangements at specified regulated entities having at least $1 billion in total assets that encourage inappropriate risks by providing an executive officer, employee, director or principal shareholder with excessive compensation, fees, or benefits or that could lead to material financial loss to the entity. In addition, these regulators must establish regulations or guidelines requiring enhanced disclosure to regulators of incentive-based compensation arrangements.
In June 2010, the Federal Reserve and FDIC issued comprehensive final guidance on incentive compensation policies intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The guidance, which covers all employees that have the ability to materially affect the risk profile of an organization, either individually or as part of a group, is based upon the key principles that a banking organization’s incentive compensation arrangements should (1) provide incentives that appropriately balance risk and financial results in a manner that does not encourage employees to expose their organizations to imprudent risk, (2) be compatible with effective internal controls and risk management and (3) be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors.
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In April 2011, the Federal Reserve, other federal banking agencies and the SEC jointly published proposed rulemaking designed to implement the provisions of the Dodd-Frank Act prohibiting incentive compensation arrangements that encourage inappropriate risk taking at a covered institution, which includes a bank or bank holding company with $1 billion or more of assets, such as the Company and our bank subsidiary. The proposed joint compensation regulations would require compensation practices consistent with the three principles discussed above. As of February 1, 2016, these regulations have not been finalized. Unless and until a final rule is adopted, we cannot fully determine whether compliance with such a rule will adversely affect the Company’s or our bank subsidiary’s ability to hire, retain and motivate our key employees.
The Volcker Rule
The Dodd-Frank Act prohibits banks and their affiliates from engaging in proprietary trading and investing in and sponsoring hedge funds and private equity funds. The statutory provision is commonly called the “Volcker Rule.” In December 2013, federal regulators adopted final rules to implement the Volcker Rule that became effective in April 2014. The Federal Reserve, however, issued an order extending the period that institutions have to conform their activities to the requirements of the Volcker Rule to July 21, 2015. In addition, the Federal Reserve recently granted an additional extension until July 21, 2016 of the conformance period for banking entities to conform investments in and relationships with covered funds that were in place prior to December 31, 2013, and announced its intention to further extend this aspect of the conformance period until July 21, 2017. Banks with less than $10 billion in total consolidated assets, such as our bank, that do not engage in any covered activities, other than trading in certain government, agency, state or municipal obligations, do not have any significant compliance obligations under the rules implementing the Volcker Rule. We are continuing to evaluate the effects of the Volcker Rule on our business, but we do not currently anticipate that the Volcker Rule will have a material effect on our operations.
Privacy
Under the Gramm-Leach-Bliley Act, financial institutions are required to disclose their policies for collecting and protecting confidential information. Customers generally may prevent financial institutions from sharing nonpublic personal financial information with nonaffiliated third parties except under narrow circumstances, such as the processing of transactions requested by the consumer or when the financial institution is jointly sponsoring a product or service with a nonaffiliated third party. Additionally, financial institutions generally may not disclose consumer account numbers to any nonaffiliated third party for use in telemarketing, direct mail marketing or other marketing to consumers. We and our subsidiary have established policies and procedures to assure our compliance with all privacy provisions of the Gramm-Leach-Bliley Act.
Anti-Terrorism and Money Laundering Legislation
Our bank subsidiary is subject to the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA PATRIOT Act”), the Bank Secrecy Act and rules and regulations of the Office of Foreign Assets Control (the “OFAC”). These statutes and related rules and regulations impose requirements and limitations on specific financial transactions and account relationships intended to guard against money laundering and terrorism financing. Our bank subsidiary has established a customer identification program pursuant to Section 326 of the USA PATRIOT Act and the Bank Secrecy Act, and otherwise has implemented policies and procedures intended to comply with the foregoing rules.
Proposed Legislation and Regulatory Action
New regulations and statutes are regularly proposed that contain wide-ranging proposals for altering the structures, regulations and competitive relationships of financial institutions operating and doing business in the United States. We cannot predict whether or in what form any proposed regulation or statute will be adopted or the extent to which our business may be affected by any new regulation or statute.
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Effect of Governmental Monetary Polices
Our earnings are affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies. The Federal Reserve Board’s monetary policies have had, and are likely to continue to have, an important impact on the operating results of commercial banks through its power to implement national monetary policy in order, among other things, to curb inflation or combat a recession. The monetary policies of the Federal Reserve Board affect the levels of bank loans, investments and deposits through its control over the issuance of United States government securities, its regulation of the discount rate applicable to banks and its influence over reserve requirements to which banks are subject. We cannot predict the nature or impact of future changes in monetary and fiscal policies.
AVAILABLE INFORMATION
We are subject to the information requirements of the Securities Exchange Act of 1934. Accordingly, we file annual, quarterly and current reports, proxy statements and other information with the SEC. You may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the Public Reference Room. You can also review our filings by accessing the website maintained by the SEC at http://www.sec.gov. The site contains reports, proxy and information statements and other information regarding issuers that file electronically with the SEC. In addition, we maintain a website at http://www.homebancshares.com. We make available on our website copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to such documents as soon as practicable after we electronically file such materials with or furnish such documents to the SEC.
Our business exposes us to certain risks. Risks and uncertainties that management is not aware of or focused on may also adversely affect our business and operation. The following is a discussion of the most significant risks and uncertainties that may affect our business, financial condition and future results.
Risks Related to Our Industry
We are subject to extensive regulation that could limit or restrict our activities and impose financial requirements or limitations on the conduct of our business, which limitations or restrictions could adversely affect our profitability.
We and our bank subsidiary are subject to extensive federal and state regulation and supervision. As a registered bank holding company, we are primarily regulated by the Federal Reserve Board. Our bank subsidiary is also primarily regulated by the Federal Reserve Board and the Arkansas State Bank Department.
Banking industry regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the banking system as a whole, not security holders. Complying with such regulations is costly and may limit our growth and restrict certain of our activities, including payment of dividends, mergers and acquisitions, investments, loans and interest rates charged, interest rates paid on deposits and locations of offices. We are also subject to capital requirements by our regulators. Violations of various laws, even if unintentional, may result in significant fines or other penalties, including restrictions on branching or bank acquisitions.
Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. The Dodd-Frank Act instituted major changes to the banking and financial institutions regulatory regimes in light of the recent performance of and government intervention in the financial services sector. The act requires the issuance of a substantial number of new regulations by federal regulatory agencies which will affect financial institutions, many of which have yet to be issued or implemented.
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As the provisions of the Dodd-Frank Act and the regulations promulgated under the act are implemented, there could be additional new federal or state laws, regulations and policies regarding lending and funding practices and liquidity standards. Additionally, financial institution regulatory agencies have intensified their response to concerns and trends identified in examinations, including through the issuance of formal enforcement actions. Negative developments in the financial services industry or other new legislation or regulations could adversely impact our operations and our financial performance by subjecting us to additional costs, restricting our business operations, including our ability to originate or sell loans, and/or increasing the ability of non-banks to offer competing financial services.
As regulation of the banking industry continues to evolve, we expect the costs of compliance to continue to increase and, thus, to affect our ability to operate profitably. In addition, industry, legislative or regulatory developments may cause us to materially change our existing strategic direction, capital strategies, compensation or operating plans. If these developments negatively impact our ability to implement our business strategies, it may have a material adverse effect on our results of operations and future prospects.
If we exceed $10 billion in assets, we will be subject to increased regulatory requirements, which could materially and adversely affect us.
Based on our historic organic growth rates, we expect that our total assets and our bank subsidiary’s total assets could exceed $10 billion during 2016. The Dodd-Frank Act and its implementing regulations impose various additional requirements on bank holding companies with $10 billion or more in total assets, including compliance with portions of the Federal Reserve’s enhanced prudential oversight requirements and annual stress testing requirements. Failure to meet the enhanced prudential standards and stress testing requirements could limit, among other things, our ability to engage in expansionary activities or make dividend payments to our shareholders. In addition, banks with $10 billion or more in total assets are primarily examined by the CFPB with respect to various federal consumer financial protection laws and regulations. Currently, our bank subsidiary is subject to regulations adopted by the CFPB, but the Federal Reserve is primarily responsible for examining our bank subsidiary’s compliance with consumer protection laws and those CFPB regulations. As a relatively new agency with evolving regulations and practices, there is uncertainty as to how the CFPB’s examination and regulatory authority might impact our business.
With respect to deposit-taking activities, banks with assets in excess of $10 billion are subject to two changes. First, these institutions are subject to a deposit assessment based on a new scorecard issued by the FDIC. This scorecard considers, among other things, the bank’s CAMELS rating, results of asset-related stress testing and funding-related stress, as well our use of core deposits, among other things. Depending on the results of the bank’s performance under that scorecard, the total base assessment rate is between 2.5 to 45 basis points. Any increase in our bank subsidiary’s deposit insurance assessments may result in an increased expense related to our use of deposits as a funding source. Additionally, banks with over $10 billion in total assets are no longer exempt from the requirements of the Federal Reserve’s rules on interchange transaction fees for debit cards. This means that, beginning on July 1 of the year following the time when our total assets reach or exceed $10 billion, our bank subsidiary will be limited to receiving only a “reasonable” interchange transaction fee for any debit card transactions processed using debit cards issued by our bank subsidiary to our customers. The Federal Reserve has determined that it is unreasonable for a bank with more than $10 billion in total assets to receive more than $0.21 plus 5 basis points of the transaction plus a $0.01 fraud adjustment for an interchange transaction fee for debit card transactions. A reduction in the amount of interchange fees we receive for electronic debit interchange will reduce our revenues. In 2015, we earned $20.4 million in debit card interchange fees.
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In anticipation of becoming subject to the heightened regulatory requirements, we have begun to hire additional compliance personnel and implement structural initiatives to address these requirements. However, compliance with these requirements may necessitate that we hire additional compliance or other personnel, design and implement additional internal controls, or incur other significant expenses, any of which could have a material adverse effect on our business, financial condition or results of operations. Compliance with the annual stress testing requirements, part of which must be publicly disclosed, may also be misinterpreted by the market generally or our customers and, as a result, may adversely affect our stock price or our ability to retain our customers or effectively compete for new business opportunities. To ensure compliance with these heightened requirements when effective, our regulators may require us to fully comply with these requirements or take actions to prepare for compliance even before our or our bank subsidiary’s total assets equal or exceed $10 billion at the end of four consecutive quarters. As a result, we may incur compliance-related costs before we might otherwise be required, including if we do not continue to grow at the rate we expect or at all. Our regulators may also consider our preparation for compliance with these regulatory requirements when examining our operations generally or considering any request for regulatory approval we may make, even requests for approvals on unrelated matters.
Difficult market and economic conditions may adversely affect our industry and our business.
The financial crisis and the resulting economic downturn in the latter years of the last decade had a significant adverse impact on the banking industry, and particularly community banks. Dramatic declines in the housing market, with falling home prices and increased delinquencies and foreclosures, negatively impacted the credit performance of mortgage and construction loans and resulted in significant write-downs of assets by many financial institutions. Reduced availability of commercial credit and sustained higher unemployment negatively impacted the credit performance of commercial and consumer credit, resulting in additional write-downs. As a result of these market conditions and the raising of credit standards, our industry experienced commercial and consumer deficiencies, low customer confidence, market volatility and generally sluggish business activity.
Although general economic conditions nationally and locally in our market areas have improved in recent years, we cannot be certain that the recent positive economic trends will continue. The improvement of certain economic indicators, such as real estate asset values, rents and unemployment, may vary between geographic markets and may continue to lag behind improvement in the overall economy. These economic indicators typically affect certain industries, such as real estate and financial services, more significantly than other economic sectors. If the positive movement in these economic indicators in our market areas subsides or conditions once again worsen, the adverse effects of an economic downturn on us, our customers and the other financial institutions in our market may result in increased foreclosures, delinquencies and customer bankruptcies as well as more restricted access to funds. Any such negative events may have an adverse effect on our business, financial condition, results of operations and stock price.
Recent legislative and regulatory initiatives to address difficult market and economic conditions may not maintain stability within the U.S. banking system.
Since 2008, the U.S. Congress, the Federal Reserve, the Treasury, the FDIC, the CFPB, the SEC and others have taken numerous legislative and regulatory actions to stabilize the U.S. banking system and to prevent future financial crises like the one experienced in 2008 and 2009. These measures have included the Emergency Economic Stabilization Act of 2008 (the “EESA”), which authorized the Treasury to purchase troubled assets and capital securities from banks and their holding companies under the TARP program; significant financial reforms under the Dodd-Frank Act; homeowner relief that encourages loan restructuring and modification; the establishment of significant liquidity and credit facilities for financial institutions and investment banks; the lowering of the federal funds rate; emergency action against short selling practices; a temporary guaranty program for money market funds; the establishment of a commercial paper funding facility to provide back-stop liquidity to commercial paper issuers; efforts by the Federal Reserve to purchase U.S. Treasury bonds; and coordinated international efforts to address illiquidity and other weaknesses in the banking sector.
While the banking system in the United States has substantially stabilized, it is unknown whether these legislative and regulatory initiatives will produce broad, long-term stability, particularly if conditions in the real estate markets worsen or if any significant negative economic developments occur as a result of fiscal and political uncertainties in the United States and abroad. Should these or other legislative or regulatory initiatives fail to fully stabilize the financial markets and prevent similar future crises, our business, financial condition, results of operations and prospects could be materially and adversely affected.
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The short-term and long-term impact of the changing regulatory capital requirements and new capital rules is uncertain.
In July 2013, the Federal Reserve Board and the other federal bank regulatory agencies issued a final rule to revise their risk-based and leverage capital requirements and their method for calculating risk-weighted assets to make them consistent with the agreements that were reached by the Basel Committee on Banking Supervision and certain provisions of the Dodd-Frank Act. The final rule applies to all banking organizations. Among other things, the rule establishes a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets) and a higher minimum Tier 1 risk-based capital requirement (6% of risk-weighted assets) and assigns higher risk weightings (150%) to exposures that are more than 90 days past due or are on non-accrual status and certain commercial real estate facilities that finance the acquisition, development or construction of real property. The final rule also limits a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” of 2.5% of common equity tier 1 capital to risk-weighted assets, which is in addition to the amount necessary to meet its minimum risk-based capital requirements. The final rule became effective for the Company and our bank subsidiary on January 1, 2015. The capital conservation buffer requirement will be phased in beginning January 1, 2016, and ending January 1, 2019, when the full capital conservation buffer requirement will be effective. An institution will be subject to limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses if its capital level falls below the buffer amount. These limitations will establish a maximum percentage of eligible retained income that can be utilized for such activities.
While our current capital levels well exceed the revised capital requirements, our capital levels could decrease in the future as a result of factors such as acquisitions, faster than anticipated growth, reduced earnings levels, operating losses and other factors. The application of more stringent capital requirements for us could, among other things, result in lower returns on equity, require the raising of additional capital, and result in our inability to pay dividends or repurchase shares if we were to be unable to comply with such requirements.
Additional bank failures or further changes to the FDIC insurance assessment system may increase our FDIC insurance assessments and result in higher noninterest expense.
In July 2010, the Dodd-Frank Act made permanent the $250,000 per depositor coverage limit on federal deposit insurance provided by the FDIC. The FDIC has taken a number of actions since 2008 in order to maintain a strong funding position and restore reserve ratios of the DIF depleted by the increased deposit insurance coverage and the high number of bank failures.
Effective April 1, 2011, the FDIC approved a final rule implementing additional changes to the deposit insurance assessment system, as authorized by the Dodd-Frank Act. The final rule, among other things, changes the assessment base for insured institutions, suspends indefinitely certain requirements of the FDIC to pay dividends from the DIF to prevent the DIF from becoming unnecessarily large and adopts, in place of the dividends, progressively lower assessment rate schedules when the reserve ratio exceeds certain levels. Additionally, the final rule changes the method of calculating assessment rates for large institutions and highly complex institutions. If our bank subsidiary exceeds $10 billion in total assets, we will become subject to these changes to the method of calculating assessment rates.
We are generally unable to control the amount and timetable for payment of premiums that we are required to pay for FDIC insurance. There is no guarantee that our assessment rate will not increase in the future. Additionally, if there continue to be bank or financial institution failures or the recently adopted changes do not have their desired effect of strengthening the DIF reserve ratio, the FDIC may further revise the assessment rates or the risk-based assessment system. Such changes may require us to pay higher FDIC premiums than our current levels, which would increase our noninterest expense.
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Our profitability is vulnerable to interest rate fluctuations and monetary policy.
Most of our assets and liabilities are monetary in nature, and thus subject us to significant risks from changes in interest rates. Consequently, our results of operations can be significantly affected by changes in interest rates and our ability to manage interest rate risk. Changes in market interest rates, or changes in the relationships between short-term and long-term market interest rates, or changes in the relationship between different interest rate indices can affect the interest rates charged on interest-earning assets differently than the interest paid on interest-bearing liabilities. This difference could result in an increase in interest expense relative to interest income or a decrease in interest rate spread. In addition to affecting our profitability, changes in interest rates can impact the valuation of our assets and liabilities.
As of December 31, 2015, our one-year ratio of interest-rate-sensitive assets to interest-rate-sensitive liabilities was 102.3% and our cumulative repricing gap position was 1.1% of total earning assets, resulting in a limited impact on earnings for various interest rate change scenarios. Floating rate loans made up 31.2% of our $6.64 billion total loan portfolio. A loan is considered fixed rate if the loan is currently at its adjustable floor or ceiling. In addition, 53.5% of our loans receivable and 71.2% of our time deposits at December 31, 2015, were scheduled to reprice within 12 months and our other rate sensitive asset and rate sensitive liabilities composition is subject to change. Significant composition changes in our rate sensitive assets or liabilities could result in a more unbalanced position and interest rate changes would have more of an impact on our earnings.
Our results of operations are also affected by the monetary policies of the Federal Reserve Board. Actions by the Federal Reserve Board involving monetary policies could have an adverse effect on our deposit levels, loan demand or business and earnings.
Risks Related to Our Business
Our decisions regarding credit risk could be inaccurate and our allowance for loan losses may be inadequate, which would materially and adversely affect us.
Management makes various assumptions and judgments about the collectability of our loan portfolio, including the creditworthiness of our borrowers and the value of the real estate and other assets serving as collateral for the repayment of our secured loans. We endeavor to maintain an allowance for loan losses that we consider adequate to absorb future losses that may occur in our loan portfolio. As of December 31, 2015, our allowance for loan losses for non-covered loans was approximately $66.6 million, or 1.01% of our total loans receivable not covered by loss share, a decrease of 0.08% from December 31, 2014. In determining the size of the allowance, we analyze our loan portfolio based on our historical loss experience, volume and classification of loans, volume and trends in delinquencies and non-accruals, national and local economic conditions, and other pertinent information.
If our assumptions are incorrect, our current allowance may be insufficient to absorb future loan losses, and increased loan loss reserves may be needed to respond to different economic conditions or adverse developments in our loan portfolio. When there is an economic downturn it is more difficult for us to estimate the losses that we will experience in our loan portfolio. In addition, federal and state regulators periodically review our allowance for loan losses and may require us to increase our allowance for loan losses or recognize further loan charge-offs based on judgments different than those of our management. Any increase in our allowance for loan losses or loan charge-offs could have a negative effect on our operating results.
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Our high concentration of real estate loans exposes us to increased lending risk.
As of December 31, 2015, the primary composition of our total loan portfolio was as follows:
Commercial real estate, construction/land development and commercial and industrial loans, which comprised 72.9% of our total loan portfolio as of December 31, 2015, expose us to a greater risk of loss than our residential real estate and consumer loans, which comprised 25.2% of our total loan portfolio as of December 31, 2015. Commercial real estate and land development loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to residential loans. Consequently, an adverse development with respect to one commercial loan or one credit relationship exposes us to a significantly greater risk of loss compared to an adverse development with respect to one residential mortgage loan.
Approximately 87.0% of our loans as of December 31, 2015, are to borrowers in Alabama, Arkansas and Florida, the three states in which we have our primary market areas. An adverse development with respect to the market conditions of these specific market areas could expose us to a greater risk of loss than a portfolio that is spread among a larger geographic base.
Our concentration in commercial real estate loans exposes us to greater risk associated with those types of loans. The repayment of loans secured by commercial real estate is typically dependent upon the successful operation of the related real estate or commercial project. If the cash flows from the project are reduced, a borrower’s ability to repay the loan may be impaired. This cash flow shortage may result in the failure to make loan payments. In such cases, we may be compelled to modify the terms of the loan, or in the most extreme cases, we may have to foreclose. In addition, the nature of these loans is such that they are generally less predictable and more difficult to evaluate and monitor. As a result, repayment of these loans may, to a greater extent than residential loans, be subject to adverse conditions in the real estate market or economy.
We have 84.4% of our loans as real estate loans primarily in Arkansas, Florida and South Alabama, and this poses a concentration risk, especially if the Florida area does not continue to improve or once again deteriorates resulting in depressed sales prices and low sales, combined with increased delinquencies and foreclosures on residential and commercial real estate loans.
Depressed local economic and housing markets have led to loan losses and reduced earnings in the past and could lead to additional loan losses and reduced earnings.
During the latter years of the last decade, our Florida markets experienced a dramatic reduction in housing and real estate values, coupled with significantly higher unemployment. These conditions contributed to increased non-performing loans and reduced asset quality during this time period. While market conditions in our Florida markets have improved in recent years leading to resulting improvements in our non-performing loans and asset quality, any similar future economic downturn or deterioration in real estate value could cause us to incur additional losses relating to increased non-performing loans. We do not record interest income on non-accrual loans or other real estate owned, thereby adversely affecting our income, and our loan administration costs. When we take collateral in foreclosures and similar proceedings, we are required to mark the related loan to the then-fair market value of the collateral, which may result in a loss. These loans and other real estate owned also increase our risk profile and the capital our regulators believe is appropriate in light of such risks. In addition, the resolution of non-performing assets requires significant commitments of time from management and our directors, which can be detrimental to the performance of their other responsibilities. These effects, individually or in the aggregate, could have an adverse effect on our financial condition and results of operations.
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Additionally, our success significantly depends upon the growth in population, income levels, deposits and housing starts in our markets. If the communities in which we operate do not grow or if prevailing economic conditions deteriorate locally or nationally, our business may be adversely affected. We are less able than a larger institution to spread the risks of unfavorable local economic conditions across a large number of diversified economies. Moreover, we cannot give any assurance we will benefit from any market growth or favorable economic conditions in our primary market areas if they do occur.
If the value of real estate in our Florida markets were to once again deteriorate, a significant portion of our loans in our Florida market that were not acquired from the FDIC could become under-collateralized, which could have a material adverse effect on us.
As of December 31, 2015, non-covered loans in the Florida market totaled $2.21 billion, or 33.6% of our non-covered loans receivable. Of the Florida loans for which we do not have loss-sharing, approximately 87.5% were secured by real estate. In prior years, the difficult local economic conditions have adversely affected the values of our real estate collateral in Florida, and they could do so again if the markets were to once again deteriorate in the future. The real estate collateral in each case provides an alternate source of repayment on our loans in the event of default by the borrower but may deteriorate in value during the time credit is extended. If we are required to liquidate the collateral securing a loan to satisfy the debt during a period of reduced real estate values, our earnings and capital could be adversely affected.
Because we have a concentration of exposure to a number of individual borrowers, a significant loss on any of those loans could materially and adversely affect us.
We have a concentration of exposure to a number of individual borrowers. Under applicable law, our bank subsidiary is generally permitted to make loans to one borrowing relationship up to 20% of its Tier 1 capital plus the allowance for loan losses. As of December 31, 2015, the legal lending limit of our bank subsidiary for secured loans was approximately $170.3 million. Currently, our board of directors has established an in-house lending limit of $20.0 million to any one borrowing relationship without obtaining the approval of both our Chairman, John W. Allison, and our director Richard H. Ashley. Currently, we have a total of $1.18 billion committed to the aggregate group of borrowers whose total debt exceeds the established in-house lending limit of $20.0 million.
Our cost of funds may increase as a result of general economic conditions, interest rates and competitive pressures.
Our cost of funds may increase as a result of general economic conditions, interest rates and competitive pressures. We have traditionally obtained funds principally through local deposits, and we have a base of lower cost transaction deposits. Generally, we believe local deposits are a more stable source of funds than other borrowings because interest rates paid for local deposits are typically lower than interest rates charged for borrowings from other institutional lenders. In addition, local deposits reflect a mix of transaction and time deposits, whereas brokered deposits typically are less stable time deposits, which may need to be replaced with higher cost funds. Our costs of funds and our profitability and liquidity are likely to be adversely affected if and to the extent we have to rely upon higher cost borrowings from other institutional lenders or brokers to fund loan demand or liquidity needs, and changes in our deposit mix and growth could adversely affect our profitability and the ability to expand our loan portfolio.
The loss of key officers may materially and adversely affect us.
Our success depends significantly on our Chairman, John W. Allison, and our executive officers, especially C. Randall Sims, Brian S. Davis, J. Stephen Tipton and Kevin D. Hester plus Centennial Bank Chief Executive Officer and President, Tracy M. French, and our regional Centennial Bank presidents Robert F. Birch, Russell D. Carter, III and Jim F. Haynes, Jr. Centennial Bank, in particular, relies heavily on its management team’s relationships in its local communities to generate business. Because we do not have employment agreements or non-compete agreements with our executive officers and regional bank presidents, these employees are free to resign at any time and accept an employment offer from another company, including a competitor. The loss of services from a member of our current management team may materially and adversely affect our business, financial condition, results of operations and future prospects.
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Our growth and expansion strategy may not be successful and our market value and profitability may suffer.
Growth through the acquisition of banks, including FDIC-assisted transactions, and de novo branching represent important components of our business strategy. Any future acquisitions we might make will be accompanied by the risks commonly encountered in acquisitions. These risks include, among other things:
We expect that competition for suitable acquisition candidates may be significant. We may compete with other banks or financial service companies with similar acquisition strategies, many of which are larger and have greater financial and other resources. We cannot assure you that we will be able to successfully identify and acquire suitable acquisition targets on acceptable terms and conditions.
In the current economic environment, we may continue to have opportunities to acquire the assets and liabilities of failed banks in FDIC-assisted transactions. These acquisitions involve risks similar to acquiring existing banks even though the FDIC might provide assistance to mitigate certain risks such as sharing in exposure to loan losses and providing indemnification against certain liabilities of the failed institution. However, because these acquisitions are structured in a manner that would not allow us the time normally associated with preparing for integration of an acquired institution, we may face additional risks in FDIC-assisted transactions. These risks include, among other things, the loss of customers, strain on management resources related to collection and management of problem loans and problems related to integration of personnel and operating systems.
In addition to the acquisition of existing financial institutions, as opportunities arise, we plan to have some de novo branching. De novo branching and any acquisition carry with them numerous risks, including the following:
We cannot assure that we will be successful in overcoming these risks or any other problems encountered in connection with acquisitions (including FDIC-assisted transactions) and de novo branching. Our inability to overcome these risks could have an adverse effect on our ability to achieve our business strategy and maintain our market value and profitability.
Our loss-sharing agreements with the FDIC limit our ability to enter into certain change of control transactions, including the sale of significant amounts of our common stock by us or our shareholders, without the consent of the FDIC.
The loss-sharing agreements we entered into with the FDIC in connection with our FDIC-assisted acquisitions require the consent of the FDIC in connection with certain change of control transactions, including the sale by the Company or by any individual shareholder, or group of shareholders acting in concert, of shares of our common stock totaling more than 9% of our outstanding common stock. This requirement could restrict or delay our ability to raise additional capital to fund acquisition or growth opportunities or for other purposes, or to pursue a merger or consolidation transaction that management may believe is in the best interest of our shareholders. This could also restrict or delay the ability of our shareholders to sell a substantial amount of our shares. In addition, if such a transaction were to occur without the FDIC’s consent, we could lose the benefit of the loss-share coverage provided by these agreements for certain covered assets.
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There may be undiscovered risks or losses associated with our bank acquisitions which would have a negative impact upon our future income.
Our growth strategy includes strategic acquisitions of banks. We have acquired 19 banks since we started our first subsidiary bank in 1999, including a total of 12 banks from 2010 through 2014 and two additional banks in 2015, and we will continue to consider strategic acquisitions, with a primary focus on Arkansas, Florida, South Alabama and other nearby markets. In most cases, our acquisition of a bank includes the acquisition of all or a substantial portion of the target bank’s assets and liabilities, including all or a substantial portion of its loan portfolio. There may be instances when we, under our normal operating procedures, may find after the acquisition that there may be additional losses or undisclosed liabilities with respect to the assets and liabilities of the target bank, and, with respect to its loan portfolio, that the ability of a borrower to repay a loan may have become impaired, the quality of the value of the collateral securing a loan may fall below our standards, or the allowance for loan losses may not be adequate. One or more of these factors might cause us to have additional losses or liabilities, additional loan charge-offs, or increases in allowances for loan losses, which would have a negative impact upon our financial condition and results of operations.
Changes in national and local economic conditions could lead to higher loan charge-offs in connection with our acquisitions.
In connection with our acquisitions since 2010, we have acquired a significant portfolio of loans. Although we marked down the loan portfolios we have acquired, there is no assurance that the non-impaired loans we acquired will not become impaired or that the impaired loans will not suffer further deterioration in value resulting in additional charge-offs to the acquired loan portfolio. Fluctuations in national, regional and local economic conditions, including those related to local residential and commercial real estate and construction markets, may increase the level of charge-offs we make to our loan portfolio, and, may consequently, reduce our net income. Such fluctuations may also increase the level of charge-offs on the loan portfolios we have acquired in the acquisitions and correspondingly reduce our net income. These fluctuations are not predictable, cannot be controlled and may have a material adverse impact on our operations and financial condition even if other favorable events occur.
Although in connection with our 2010 FDIC-assisted acquisitions we entered into loss-sharing agreements with the FDIC, which provide that a significant portion of losses related to specified loan portfolios we acquired will be indemnified by the FDIC, we are not protected from all losses resulting from charge-offs with respect to those specified loan portfolios. Additionally, the loss-sharing agreements have limited terms, which began to expire in 2015; therefore, any charge-off of related losses that we experience after the term of the loss-sharing agreements will not be reimbursed by the FDIC and will negatively impact our net income.
The expiration of our loss-sharing agreements in connection with our 2010 FDIC-assisted acquisitions may result in write-downs to our FDIC indemnification asset to the extent expected loan losses do not occur within the loss share coverage window, which could have a material adverse effect on our financial condition.
In conjunction with our FDIC-assisted transactions, we entered into loss-sharing agreements with the FDIC which cover realized losses on loans, foreclosed real estate and certain other assets. These agreements are recorded as assets on our consolidated balance sheet to the extent of the expected loss share indemnification. These loss share assets are measured separately from the loan portfolios because they are not contractually embedded in the loans and are not transferable with the loans should we choose to dispose of them. Fair values at the acquisition dates were estimated based on projected cash flows available for loss share based on the credit adjustments estimated for each loan pool and the loss share percentages.
Subsequent to the acquisition date, reimbursements received from the FDIC for actual incurred losses will reduce the loss share assets. Reductions to expected credit losses, to the extent such reductions to expected credit losses are the result of an improvement to the actual or expected cash flows from the covered assets, will also reduce the loss share assets. Increases in expected credit losses will require an increase to the allowance for loan losses and a corresponding increase to the loss share assets. As the loss share agreements approach the various expiration dates, there could be unexpected volatility in the indemnification asset as future expected loan losses might become projected to occur outside of the loss share coverage reimbursement window. If the loan losses projected to occur outside the loss share coverage reimbursement period are substantial, the resulting reductions in our FDIC indemnification asset could have a material adverse effect on our financial condition.
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Our acquisitions have caused us to modify our disclosure controls and procedures, which may not result in the material information that we are required to disclose in our SEC reports being recorded, processed, summarized, and reported timely.
Our management is responsible for establishing and maintaining effective disclosure controls and procedures that are designed to cause the material information that we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 to be recorded, processed, summarized, and reported to the extent applicable within the time periods required by the SEC’s rules and forms. As a result of our acquisitions, we may implement changes to processes, information technology systems and other components of internal control over financial reporting as part of our integration activities. Notwithstanding any changes to our disclosure controls and procedures resulting from our evaluation of the same after the acquisition, our control systems, no matter how well designed and operated, may not result in the material information that we are required to disclose in our SEC reports being recorded, processed, summarized, and reported within required time periods. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected.
Our failure to fully comply with the loss-sharing provisions relating to our FDIC acquisitions could jeopardize the loss-share coverage afforded to certain individual or pools of assets, rendering us financially responsible for the full amount of any losses related to such assets.
In connection with our FDIC acquisitions in 2010, we entered into loss-sharing agreements with the FDIC whereby the FDIC agreed to cover 70% or 80% of the losses on certain single family residential mortgage loans and certain commercial loans (together, “covered assets”), and 30%, 80% or 95% of the losses on such covered assets in excess of thresholds stated in the loss-sharing agreements. Our management of and application of the terms and conditions of the loss-sharing provisions of the Purchase and Assumption Agreements related to the covered assets is monitored by the FDIC through periodic reports that we must submit to the FDIC and on-site compliance visitations by the FDIC. If we fail to fully comply with its obligations under the loss-sharing provisions of the Purchase and Assumption Agreements relating to the acquisitions, we could lose the benefit of the loss-share coverage as it applies to certain individual or pools of covered assets. Without such loss-share coverage, we would be solely financially responsible for the losses sustained by such individual or pools of assets.
Competition from other financial institutions may adversely affect our profitability.
We face substantial competition in all phases of our operations from a variety of different competitors. We experience strong competition, not only from commercial banks, savings and loan associations and credit unions, but also from mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market funds and other financial services providers operating in or near our market areas. We compete with these institutions both in attracting deposits and in making loans.
Many of our competitors are much larger national and regional financial institutions. We may face a competitive disadvantage against them as a result of our smaller size and resources and our lack of geographic diversification. Due to their size, larger competitors can achieve economies of scale and may offer a broader range of products and services or more attractive pricing than us. If we are unable to offer competitive products and services, our business may be negatively affected. Many of our competitors are not subject to the same degree of regulation that we are as an FDIC-insured institution, which gives them greater operating flexibility and reduces their expenses relative to ours. As a result, these non-bank competitors have certain advantages over us in accessing funding and in providing various services.
We also compete against community banks that have strong local ties. These smaller institutions are likely to cater to the same small and mid-sized businesses that we target and to use a relationship-based approach similar to ours. In addition, our competitors may seek to gain market share by pricing below the current market rates for loans and paying higher rates for deposits. The banking business in our primary market areas is very competitive, and the level of competition facing us may increase further, which may limit our asset growth and financial results.
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We may incur environmental liabilities with respect to properties to which we take title.
A significant portion of our loan portfolio is secured by real property. In the course of our business, we may own or foreclose and take title to real estate and could become subject to environmental liabilities with respect to these properties. We may become responsible to a governmental agency or third parties for property damage, personal injury, investigation and clean-up costs incurred by those parties in connection with environmental contamination, or may be required to investigate or clean-up hazardous or toxic substances, or chemical releases at a property. The costs associated with environmental investigation or remediation activities could be substantial. If we were to become subject to significant environmental liabilities, it could have a material adverse effect on our results of operations and financial condition.
We continually encounter technological change, and we may have fewer resources than many of our competitors to continue to invest in technological improvements.
The financial services industry is undergoing rapid technological changes, with frequent introductions of new technology-driven products and services. In addition to better serving customers, effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success will depend, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for convenience, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our clients, which may adversely affect our results of operations and future prospects.
A failure in or breach of our operational or security systems, or those of our third party service providers, including as a result of cyber-attacks, could disrupt our business, result in unintentional disclosure or misuse of confidential or proprietary information, damage our reputation, increase our costs and cause losses.
As a financial institution, our operations rely heavily on the secure processing, storage and transmission of confidential and other information on our computer systems and networks. Any failure, interruption or breach in security or operational integrity of these systems could result in failures or disruptions in our online banking system, customer relationship management, general ledger, deposit and loan servicing and other systems. The security and integrity of our systems could be threatened by a variety of interruptions or information security breaches, including those caused by computer hacking, cyber-attacks, electronic fraudulent activity or attempted theft of financial assets. We cannot assure you that any such failures, interruption or security breaches will not occur, or if they do occur that they will be adequately addressed. While we have certain protective policies and procedures in place, the nature and sophistication of the threats continue to evolve. We may be required to expend significant additional resources in the future to modify and enhance our protective measures.
Additionally, we face the risk of operational disruption, failure, termination or capacity constraints of any of the third parties that facilitate our business activities, including exchanges, clearing agents, clearing houses or other financial intermediaries. Such parties could also be the source of an attack on, or breach of, our operational systems. Any failures, interruptions or security breaches in our information systems could damage our reputation, result in a loss of customer business, result in a violation of privacy or other laws, or expose us to civil litigation, regulatory fines or losses not covered by insurance.
Our recent results do not indicate our future results and may not provide guidance to assess the risk of an investment in our common stock.
We are unlikely to sustain our historical rate of growth, and may not even be able to expand our business at all. Further, our recent growth may distort some of our historical financial ratios and statistics. Various factors, such as economic conditions, regulatory and legislative considerations and competition, may also impede or prohibit our ability to expand our market presence. If we are not able to successfully grow our business, our financial condition and results of operations could be adversely affected.
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We may not be able to raise the additional capital we need to grow and, as a result, our ability to expand our operations could be materially impaired.
Federal and state regulatory authorities require us and our bank subsidiary to maintain adequate levels of capital to support our operations. While we believe that our existing capital (which well exceeds the federal and state capital requirements) will be sufficient to support our current operations, anticipated expansion and potential acquisitions, factors such as faster than anticipated growth, reduced earnings levels, operating losses, changes in economic conditions, revisions in regulatory requirements, or additional acquisition opportunities may lead us to seek additional capital.
Our ability to raise additional capital, if needed, will depend on our financial performance and on conditions in the capital markets at that time, which are outside our control. If we need additional capital but cannot raise it on terms acceptable to us, our ability to expand our operations could be materially impaired.
Our directors and executive officers own a significant portion of our common stock and can exert significant influence over our business and corporate affairs.
Our directors and executive officers, as a group, beneficially owned 14.9% of our common stock as of December 31, 2015. Consequently, if they vote their shares in concert, they can significantly influence the outcome of all matters submitted to our shareholders for approval, including the election of directors. The interests of our officers and directors may conflict with the interests of other holders of our common stock, and they may take actions affecting the Company with which you disagree.
Hurricanes or other adverse weather events could negatively affect our local economies or disrupt our operations, which would have an adverse effect on us.
Like other coastal areas, our markets in Alabama and Florida are susceptible to hurricanes and tropical storms. Such weather events can disrupt our operations, result in damage to our properties and negatively affect the local economies in which we operate. We cannot predict whether or to what extent damage that may be caused by future hurricanes or other weather events will affect our operations or the economies in our market areas, but such weather events could result in a decline in loan originations, a decline in the value or destruction of properties securing our loans and an increase in the delinquencies, foreclosures and loan losses. Our business or results of operations may be adversely affected by these and other negative effects of hurricanes or other significant weather events.
Risks Related to Owning Our Stock
The holders of our subordinated debentures have rights that are senior to those of our shareholders. If we defer payments of interest on our outstanding subordinated debentures or if certain defaults relating to those debentures occur, we will be prohibited from declaring or paying dividends or distributions on, and from making liquidation payments with respect to, our common stock.
As of December 31, 2015, we have $60.8 million of subordinated debentures issued in connection with trust preferred securities. Payments of the principal and interest on the trust preferred securities are unconditionally guaranteed by us. The subordinated debentures are senior to our shares of common stock. As a result, we must make payments on the subordinated debentures (and the related trust preferred securities) before any dividends can be paid on our common stock and, in the event of our bankruptcy, dissolution or liquidation, the holders of the debentures must be satisfied before any distributions can be made to the holders of our common stock. We have the right to defer distributions on the subordinated debentures (and the related trust preferred securities) for up to five years, during which time no dividends may be paid to holders of our capital stock. If we elect to defer or if we default with respect to our obligations to make payments on these subordinated debentures, this would likely have a material adverse effect on the market value of our common stock. Moreover, without notice to or consent from the holders of our common stock, we may enter into other financing agreements that limit our ability to purchase or to pay dividends or distributions on our capital stock, including our common stock.
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We may be unable to, or choose not to, pay dividends on our common stock.
Although we have paid a quarterly dividend on our common stock since the second quarter of 2003 and expect to continue this practice, we cannot assure you of our ability to continue. Our ability to pay dividends depends on the following factors, among others:
If we fail to pay dividends, capital appreciation, if any, of our common stock may be the sole opportunity for gains on an investment in our common stock. In addition, in the event our bank subsidiary becomes unable, due to regulatory restrictions, capital planning needs or otherwise, to pay dividends to us, we may not be able to service our debt, pay our other obligations or pay dividends on our common stock. Accordingly, our inability to receive dividends from our bank subsidiary could also have a material adverse effect on our business, financial condition and results of operations and the value of your investment in our common stock.
Our stock trading volume may not provide adequate liquidity for investors.
Although shares of our common stock are listed for trading on The NASDAQ Global Select Market, the average daily trading volume in the common stock is less than that of other larger financial services companies. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of a sufficient number of willing buyers and sellers of the common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control. Given the daily average trading volume of our common stock, significant sales of the common stock in a brief period of time, or the expectation of these sales, could cause a decline in the price of our common stock.
There are currently no unresolved Commission staff comments received by the Company more than 180 days prior to the end of the fiscal year covered by this annual report.
The Company’s main office is located in a Company-owned 33,000 square foot building located at 719 Harkrider Street in downtown Conway, Arkansas. As of December 31, 2015, our bank subsidiary owned or leased a total of 79 branches located in Arkansas, 61 branches Florida and six branches in South Alabama. The Company also owns or leases other buildings that provide space for operations, mortgage lending and other general purposes. We believe that our banking and other offices are in good condition and are suitable to our needs.
While we and our bank subsidiary and other affiliates are from time to time parties to various legal proceedings arising in the ordinary course of their business, management believes, after consultation with legal counsel, that there are no proceedings threatened or pending against us or our bank subsidiary or other affiliates that will, individually or in the aggregate, have a material adverse effect on our business or consolidated financial condition.
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Not applicable.
PART II
Our common stock trades on the NASDAQ Global Select Market under the symbol “HOMB”. The following table sets forth, for all the periods indicated, cash dividends declared, and the high and low closing sale prices for our common stock.
2015
1st Quarter
2nd Quarter
3rd Quarter
4th Quarter
2014
As of February 19, 2016, there were approximately 1,097 stockholders of record of the Company’s common stock.
Our policy is to declare regular quarterly dividends based upon our earnings, financial position, capital improvements and such other factors deemed relevant by the Board of Directors. The dividend policy is subject to change, however, and the payment of dividends is not necessarily dependent upon the availability of earnings and future financial condition.
There were no sales of our unregistered securities during the period covered by this report.
We currently maintain a compensation plan, the Home BancShares, Inc. Amended and Restated 2006 Stock Option and Performance Incentive Plan, which provides for the issuance of stock-based compensation to directors, officers and other employees. This plan has been approved by the stockholders. The following table sets forth information regarding outstanding options and shares reserved for future issuance under the foregoing plan as of December 31, 2015:
Plan Category
Equity compensation plans approved by the stockholders
Equity compensation plans not approved by the stockholders
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Performance Graph
Below is a graph which summarizes the cumulative return earned by the Company’s stockholders since December 31, 2010, compared with the cumulative total return on the Russell 2000 Index and SNL Bank and Thrift Index. This presentation assumes that the value of the investment in the Company’s common stock and each index was $100.00 on December 31, 2010 and that subsequent cash dividends were reinvested.
Index
Russell 2000
SNL Bank and Thrift
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Item 6. SELECTED FINANCIAL DATA.
Summary Consolidated Financial Data
Income statement data:
Total interest income
Total interest expense
Net interest income
Provision for loan losses
Net interest income after provision for loan losses
Non-interest income
Non-interest expense
Income before income taxes
Provision for income taxes
Preferred stock dividends and accretion of discount on preferred stock
Net income available to common stockholders
Per share data:
Basic earnings per common share
Diluted earnings per common share
Diluted earnings per common share excluding intangible amortization(1)
Book value per common share
Tangible book value per common share(2)(5)
Dividends - common
Average common shares outstanding
Average diluted shares outstanding
Performance ratios:
Return on average assets
Return on average assets excluding intangible amortization(6)
Return on average common equity.
Return on average tangible common equity excluding intangible amortization(2)(7)
Net interest margin(10)
Efficiency ratio(3)
Asset quality:
Non-performing non-covered assets to total non-covered assets
Non-performing non-covered loans to total non-covered loans
Allowance for loan losses for non-covered loans to non-performing non-covered loans
Allowance for loans losses for non-covered loans to total non-covered loans(9)
Net charge-offs on loans not covered by loss share to average non-covered loans
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Summary Consolidated Financial Data – Continued
Balance sheet data (period end):
Investment securities – available-for-sale
Investment securities – held-to-maturity
Loans receivable not covered by loss share
Loans receivable covered by FDIC loss share
Allowance for loan losses
Intangible assets
Non-interest-bearing deposits
Subordinated debentures (trust preferred securities)
Stockholders’ equity
Capital ratios:
Common equity to assets
Tangible common equity to tangible assets(2)(8)
Common equity Tier 1 capital
Tier 1 leverage ratio(4)
Tier 1 risk-based capital ratio
Total risk-based capital ratio
Dividend payout - common
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The following discussion and analysis presents our consolidated financial condition and results of operations for the years ended December 31, 2015, 2014 and 2013. This discussion should be read together with the “Summary Consolidated Financial Data,” our consolidated financial statements and the notes thereto, and other financial data included in this document. In addition to the historical information provided below, we have made certain estimates and forward-looking statements that involve risks and uncertainties. Our actual results could differ significantly from those anticipated in these estimates and in the forward-looking statements as a result of certain factors, including those discussed in the section of this document captioned “Risk Factors,” and elsewhere in this document. Unless the context requires otherwise, the terms “Company”, “us”, “we”, and “our” refer to Home BancShares, Inc. on a consolidated basis.
We are a bank holding company headquartered in Conway, Arkansas, offering a broad array of financial services through our wholly owned bank subsidiary, Centennial Bank. As of December 31, 2015, we had, on a consolidated basis, total assets of $9.29 billion, loans receivable, net of $6.57 billion, total deposits of $6.44 billion, and stockholders’ equity of $1.20 billion.
We generate most of our revenue from interest on loans and investments, service charges, and mortgage banking income. Deposits and FHLB borrowed funds are our primary source of funding. Our largest expenses are interest on our funding sources, salaries and related employee benefits and occupancy and equipment. We measure our performance by calculating our return on average common equity, return on average assets, and net interest margin. We also measure our performance by our efficiency ratio, which is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income.
Table 1: Key Financial Measures
FDIC claims receivable
Total stockholders’ equity
Basic earnings per share
Diluted earnings per share
Diluted earnings per share excluding intangible amortization (1)
Net interest margin – FTE
Efficiency ratio
Return on average common equity
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Credit Improvement in Purchased Credit Impaired Loan Pools
Impairment testing on the estimated cash flows of the purchased credit impaired loan pools is performed each quarter. Because the economy has improved since the impaired loans were acquired, quite often the impairment test revealed there was a projected credit improvement in certain loan pools. As a result of these improvements, we are recognizing additional adjustments to yield over the weighted average life of the loans. When there are improvements in credit quality for covered loans, it decreases the basis in the related indemnification asset and increases our FDIC true-up liability. These positive events are reducing the indemnification asset and increasing our FDIC true-up liability. The indemnification asset reduction is being amortized over the shorter of the weighted average life of the loans or shared-loss agreements. This amortization is being shown as a reduction to FDIC indemnification non-interest income. The true-up liability is being expensed as other non-interest expense.
Tables 2 and 3 summarize the recognition of these positive events and the financial impact to the years ended December 31, 2015, 2014 and 2013:
Table 2: Overall Estimated Impact to Financial Statements Initially Reported
Periods Tested:
Prior to 2014
March 31, 2014
June 30, 2014
September 30, 2014(1)
December 31, 2014
March 31, 2015
June 30, 2015
September 30, 2015
Table 3: Financial Impact for the Years Ended December 31, 2015, 2014 and 2013
Years Ended:
Additional income/expense
December 31, 2013
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2015 Overview
Our net income increased 22.2% to $138.2 million for the year ended December 31, 2015, from $113.1 million for the same period in 2014. On a diluted earnings per share basis, our earnings increased 18.8% to $2.02 for the year ended December 31, 2015, as compared to $1.70 for the same period in 2014. Excluding the $1.6 million of one-time gain on acquisition offset by $4.8 million of merger expenses associated with the acquisitions of Doral Bank’s Florida Panhandle operations (“Doral Florida”) and FBBI, net income was $140.1 million and diluted earnings per share for the year ended 2015 was $2.04 per share. Excluding the $4.8 million of merger expenses associated with the acquisitions of Doral Florida and FBBI, net income was $141.1 million and diluted earnings per share for the year ended 2015 was $2.06 per share. Excluding the $6.4 million of 2014 merger expenses associated with the acquisitions of Florida Traditions Bank (“Traditions”) and Broward Financial Holdings, Inc. (“Broward”), diluted earnings per share for the year ended 2014 was $1.76 per share. Excluding merger expenses and gain on acquisition, this represents an increase of $0.28 per share or 15.9% for the year ended 2015 when compared to the previous year. Excluding merger expenses and gain on acquisition, net income for the years ended 2015 and 2014 would have been $140.1 million and $117.0 million, respectively, for an increase of $23.1 million or 19.8%. The $23.1 million increase in net income excluding merger expenses and gain on acquisition is primarily associated with additional net interest income largely resulting from our acquisitions and organic loan growth combined with reduced amortization of the indemnification asset when compared to the same period in 2014. These improvements were partially offset by an increase in the costs associated with the asset growth and the increase in provision for loan losses due to organic loan growth during 2015 when compared to the same period in 2014.
Each quarter we perform credit impairment tests on the loans acquired in our FDIC loss-sharing and non-loss-sharing acquisitions. During 2015, the quarterly impairment testing on the estimated cash flows of our FDIC loss-share loans noted a slight decline in asset quality in several of our covered loan pools, which resulted in a net covered provision for loan loss of $998,000. Conversely, during the 2015 impairment tests on the estimated cash flows of non-loss-share loans, we established that several non-covered loan pools were determined to have a materially projected credit improvement. As a result of this improvement, we will recognize approximately $28.5 million as an additional adjustment to yield over the weighted average life of the loans. For the years ended December 31, 2015 and 2014, we recognized $47.6 million and $60.2 million, respectively in total net accretion for loans and deposits. For additional information on non-GAAP tabular disclosure, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Table 31”. Consequently, with a growth of average loan balance of $1.12 billion, yields on total loans and net interest margin for the year ended December 31, 2015 is reduced when compared to the year ended December 31, 2014.
Our net interest margin, on a fully taxable equivalent basis, was 4.98% for the year ended December 31, 2015, compared to 5.37% for the same period in 2014. The non-GAAP margin excluding accretion income was, however, relatively flat at 4.23% and 4.20% for the years ended December 31, 2015 and 2014, respectively. For the years ended December 31, 2015 and 2014, the effective yield on non-covered loans was 5.67% and 6.01% and covered loans was 18.83% and 17.29%, respectively.
Our return on average assets was 1.68% for the year ended December 31, 2015, compared to 1.63% for the same period in 2014. Our return on average common equity was 12.77% for the year ended December 31, 2015, compared to 12.34% for the same period in 2014. Excluding merger expenses and gain on acquisition, our return on average assets was 1.71% for the year ended December 31, 2015, compared to 1.68% for the same period in 2014. Excluding merger expenses and gain on acquisition, our return on average common equity was 12.94% for the year ended December 31, 2015, compared to 12.77% for the same period in 2014. We have been making notable progress in improving the performance of our legacy and acquired franchises. As a result, excluding merger expenses and acquisition gain, there was a slight improvement in our return on average assets and return on average common equity from 2014 to 2015.
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Our efficiency ratio was 40.44% for the year ended December 31, 2015, compared to 42.67% for the same period in 2014. Our core efficiency ratio for the year ended December 31, 2015 was 39.48%, which is improved from the 41.23% for the year ended December 31, 2014. The improvement in the core efficiency ratio is primarily associated with additional net interest income resulting from our organic loan growth and acquisitions plus the realized cost savings from these acquisitions combined with the reduced costs from our recent branch closures. Core efficiency ratio is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income excluding non-fundamental items such as merger expenses and/or gains and losses.
Our total assets increased $1.89 billion, an increase of 25.5%, to $9.29 billion as of December 31, 2015, from the $7.40 billion reported as of December 31, 2014. Our loan portfolio not covered by loss share increased $1.76 billion, an increase of 36.6%, to $6.58 billion as of December 31, 2015, from $4.82 billion as of December 31, 2014. This increase is primarily associated with the first quarter of 2015 acquisition of $37.9 million of Doral Florida non-covered loans, net of the $4.3 million discount, the 2015 migration of $145.2 million net covered loans to non-covered status, the second quarter of 2015 acquisition of $289.1 million in national commercial real estate loans, the fourth quarter of 2015 acquisition of $422.4 million of FBBI non-covered loans, net of the $14.1 million discount, plus $881.6 million of organic loan growth since December 31, 2014. Our loan portfolio covered by loss share decreased by $178.0 million, a reduction of 74.1%, to $62.2 million as of December 31, 2015, from $240.2 million as of December 31, 2014. This decrease is primarily associated with the migration of a total of $145.2 million net covered loans to non-covered status during 2015 as a result of the expiration of our five-year loss-share agreements plus normal pay-downs and payoffs. Stockholders’ equity increased $184.5 million, an increase of 18.2%, to $1.20 billion as of December 31, 2015, compared to $1.02 billion as of December 31, 2014. The increase in stockholders’ equity is primarily associated with the $100.6 million increase in retained earnings plus $83.8 million of common stock issued to the FBBI shareholders offset by the $2.8 million of comprehensive losses.
As of December 31, 2015, our non-performing non-covered loans increased to $60.2 million, or 0.92%, of total non-covered loans from $39.6 million, or 0.82%, of total non-covered loans as of December 31, 2014. Our acquisition of FBBI during the fourth quarter of 2015 added $13.6 million to non-performing loans as of December 31, 2015. The allowance for loan losses for non-covered loans as a percent of non-performing non-covered loans decreased to 110.66% as of December 31, 2015, compared to 132.63% as of December 31, 2014. Non-performing non-covered loans in Arkansas were $28.3 million at December 31, 2015 compared to $24.5 million as of December 31, 2014. Non-performing non-covered loans in Florida were $31.8 million at December 31, 2015 compared to $14.8 million as of December 31, 2014. Non-performing non-covered loans in Alabama were $132,000 at December 31, 2015 compared to $302,000 as of December 31, 2014.
As of December 31, 2015, our non-performing non-covered assets increased to $78.8 million, or 0.85%, of total non-covered assets from $56.5 million, or 0.79%, of total non-covered assets as of December 31, 2014. Our acquisition of FBBI during the fourth quarter of 2015 added $13.6 million to non-performing assets as of December 31, 2015. Non-performing non-covered assets in Arkansas were $40.3 million at December 31, 2015 compared to $39.2 million as of December 31, 2014. Non-performing non-covered assets in Florida were $37.5 million at December 31, 2015 compared to $17.0 million as of December 31, 2014. Non-performing non-covered assets in Alabama were $892,000 at December 31, 2015 compared to $317,000 as of December 31, 2014.
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2014 Overview
Our net income increased 70.0% to $113.1 million for the year ended December 31, 2014, from $66.5 million for the same period in 2013. On a diluted earnings per share basis, our earnings increased 49.1% to $1.70 for the year ended December 31, 2014, as compared to $1.14 for the same period in 2013. Excluding the $6.4 million of 2014 merger expenses associated with the acquisitions of Traditions and Broward, diluted earnings per share for the year ended 2014 was $1.76 per share. Excluding the $18.4 million of 2013 merger expenses associated with the acquisition of Liberty Bancshares, Inc. (“Liberty”), diluted earnings per share for the year ended 2013 was $1.33 per share. Excluding merger expenses, this represents an increase of $0.43 per share or 32.3% for the year ended 2014 when compared to the previous year. Excluding merger expenses, net income for the years ended 2014 and 2013 would have been $117.0 million and $77.7 million, respectively, for an increase of $39.3 million or 50.6%. The $39.3 million increase in net income excluding the non-fundamental items is primarily associated with a full year of additional net income from our 2013 acquisition of Liberty plus 167 days of net income from our 2014 acquisition of Traditions and 69 days from our 2014 acquisition of Broward.
Our return on average assets was 1.63% for the year ended December 31, 2014, compared to 1.43% for the same period in 2013. Our return on average common equity was 12.34% for the year ended December 31, 2014, compared to 11.27% for the same period in 2013. Excluding merger expenses, our return on average assets was 1.68% for the year ended December 31, 2014, compared to 1.67% for the same period in 2013. Excluding merger expenses, our return on average common equity was 12.77% for the year ended December 31, 2014, compared to 13.17% for the same period in 2013. Liberty, Traditions and Broward historically performed below our profitability ratios. We have been making notable progress in improving the performance of these franchises. As a result, there were relatively small changes in our profitably ratios from 2013 to 2014.
Our net interest margin, on a fully taxable equivalent basis, was 5.37% for the year ended December 31, 2014, compared to 5.19% for the same period in 2013. The numerous purchased credit impaired loan pools which have been determined to have material projected credit improvement as a result of the quarterly impairment testing and the acquisitions of Liberty, Traditions and Broward have significantly changed the mix and metrics on the net interest margin since December 31, 2012. Although there have been many changes since 2012, we continue to remain focused on expanding its net interest margin through opportunities such as improved pricing on interest-bearing deposits. For the years ended December 31, 2014 and 2013, the effective yield on non-covered loans was 6.01% and 6.01% and covered loans was 17.29% and 11.61%, respectively.
Our efficiency ratio was 42.67% for the year ended December 31, 2014, compared to 52.44% for the same period in 2013. Our core efficiency ratio at 41.23% and 45.49% for the years ended December 31, 2014 and 2013, respectively, demonstrates our consistently tight expense controls. The improvement in the core efficiency ratio is primarily associated with additional net interest income and other non-interest income resulting from our 2013 acquisition of Liberty and to a lesser extent the 2014 acquisitions, offset by a modest increase in costs associated with the asset growth from our acquisitions. Core efficiency ratio is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income excluding non-fundamental items such as merger expenses and/or gains and losses.
Our total assets increased $591.4 million, an increase of 8.7%, to $7.40 billion as of December 31, 2014, from the $6.81 billion reported as of December 31, 2013. Our loan portfolio not covered by loss share increased $622.9 million, an increase of 14.9%, to $4.82 billion as of December 31, 2014, from $4.19 billion as of December 31, 2013. This increase is primarily associated with the acquisitions of $241.6 million from Traditions non-covered loans and $121.1 million from Broward non-covered loans plus $260.1 million of loan growth since December 31, 2013. Our loan portfolio covered by loss share decreased by $42.3 million, a reduction of 15.0%, to $240.2 million as of December 31, 2014, from $282.5 million as of December 31, 2013. The decrease in the covered loan portfolio is the result of pay downs and payoffs since no covered loans were acquired during 2014. Stockholders’ equity increased $174.3 million, an increase of 20.7%, to $1.02 billion as of December 31, 2014, compared to $841.0 million as of December 31, 2013. The increase in stockholders’ equity is primarily associated with the $39.5 million of common stock issued to the Traditions shareholders and $30.2 million of common stock issued to the Broward shareholders combined with the $124.2 million of comprehensive income less the $23.2 million of dividends paid for 2014.
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As of December 31, 2014, our non-performing non-covered loans increased to $39.6 million, or 0.82%, of total non-covered loans from $38.3 million, or 0.91%, of total non-covered loans as of December 31, 2013. The allowance for loan losses for non-covered loans as a percent of non-performing non-covered loans increased to 132.63% as of December 31, 2014, compared to 101.95% as of December 31, 2013. Non-performing non-covered loans in Arkansas were $24.5 million at December 31, 2014 compared to $17.9 million as of December 31, 2013. Non-performing non-covered loans in Florida were $14.8 million at December 31, 2014 compared to $20.3 million as of December 31, 2013. Non-performing non-covered loans in Alabama were $302,000 at December 31, 2014 compared to $7,000 as of December 31, 2013.
As of December 31, 2014, our non-performing non-covered assets improved to $56.5 million, or 0.79%, of total non-covered assets from $68.4 million, or 1.07%, of total non-covered assets as of December 31, 2013. Non-performing non-covered assets in Arkansas were $39.2 million at December 31, 2014 compared to $43.5 million as of December 31, 2013. Non-performing non-covered assets in Florida were $17.0 million at December 31, 2014 compared to $24.9 million as of December 31, 2013. Non-performing non-covered assets in Alabama were $317,000 at December 31, 2014 compared to $7,000 as of December 31, 2013.
Critical Accounting Policies
Overview. We prepare our consolidated financial statements based on the selection of certain accounting policies, generally accepted accounting principles and customary practices in the banking industry. These policies, in certain areas, require us to make significant estimates and assumptions. Our accounting policies are described in detail in the notes to our consolidated financial statements included as part of this document.
We consider a policy critical if (i) the accounting estimate requires assumptions about matters that are highly uncertain at the time of the accounting estimate; and (ii) different estimates that could reasonably have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on our financial statements. Using these criteria, we believe that the accounting policies most critical to us are those associated with our lending practices, including the accounting for the allowance for loan losses, foreclosed assets, investments, intangible assets, income taxes and stock options.
Investments – Available-for-sale. Securities available-for-sale are reported at fair value with unrealized holding gains and losses reported as a separate component of stockholders’ equity and other comprehensive income (loss), net of taxes. Securities that are held as available-for-sale are used as a part of our asset/liability management strategy. Securities that may be sold in response to interest rate changes, changes in prepayment risk, the need to increase regulatory capital, and other similar factors are classified as available-for-sale.
Investments – Held-to-Maturity. Securities held-to-maturity, which include any security for which we have the positive intent and ability to hold until maturity, are reported at historical cost adjusted for amortization of premiums and accretion of discounts. Premiums and discounts are amortized and accreted, respectively, to interest income using the constant yield method over the period to maturity.
Loans Receivable Not Covered by Loss Share and Allowance for Loan Losses. Except for loans acquired during our acquisitions, substantially all of our loans receivable not covered by loss share are reported at their outstanding principal balance adjusted for any charge-offs, as it is management’s intent to hold them for the foreseeable future or until maturity or payoff, except for mortgage loans held for sale. Interest income on loans is accrued over the term of the loans based on the principal balance outstanding.
The allowance for loan losses is established through a provision for loan losses charged against income. The allowance represents an amount that, in management’s judgment, will be adequate to absorb probable credit losses on identifiable loans that may become uncollectible and probable credit losses inherent in the remainder of the loan portfolio. The amounts of provisions for loan losses are based on management’s analysis and evaluation of the loan portfolio for identification of problem credits, internal and external factors that may affect collectability, relevant credit exposure, particular risks inherent in different kinds of lending, current collateral values and other relevant factors.
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The allowance consists of allocated and general components. The allocated component relates to loans that are classified as impaired. For those loans that are classified as impaired, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical charge-off experience and expected loss given default derived from the Bank’s internal risk rating process. Other adjustments may be made to the allowance for pools of loans after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risk rating data.
Loans considered impaired, under FASB ASC 310-10-35, are loans for which, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. We apply this policy even if delays or shortfalls in payment are expected to be insignificant. The aggregate amount of impairment of loans is utilized in evaluating the adequacy of the allowance for loan losses and amount of provisions thereto. Losses on impaired loans are charged against the allowance for loan losses when in the process of collection it appears likely that such losses will be realized. The accrual of interest on impaired loans is discontinued when, in management’s opinion the collection of interest is doubtful, or generally when loans are 90 days or more past due. When accrual of interest is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
Groups of loans with similar risk characteristics are collectively evaluated for impairment based on the group’s historical loss experience adjusted for changes in trends, conditions and other relevant factors that affect repayment of the loans.
Loans are placed on non-accrual status when management believes that the borrower’s financial condition, after giving consideration to economic and business conditions and collection efforts, is such that collection of interest is doubtful, or generally when loans are 90 days or more past due. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Accrued interest related to non-accrual loans is generally charged against the allowance for loan losses when accrued in prior years and reversed from interest income if accrued in the current year. Interest income on non-accrual loans may be recognized to the extent cash payments are received, although the majority of payments received are usually applied to principal. Non-accrual loans are generally returned to accrual status when principal and interest payments are less than 90 days past due, the customer has made required payments for at least six months, and we reasonably expect to collect all principal and interest.
Acquisition Accounting, Acquired Loans and Related Indemnification Asset. We account for its acquisitions under FASB ASC Topic 805,Business Combinations, which requires the use of the acquisition method of accounting. All identifiable assets acquired, including loans, are recorded at fair value. No allowance for loan losses related to the acquired loans is recorded on the acquisition date as the fair value of the loans acquired incorporates assumptions regarding credit risk. All loans acquired are recorded at fair value in accordance with the fair value methodology prescribed in FASB ASC Topic 820, Fair Value Measurements. For covered acquired loans fair value is exclusive of the shared-loss agreements with the Federal Deposit Insurance Corporation (“FDIC”). The fair value estimates associated with the loans include estimates related to expected prepayments and the amount and timing of undiscounted expected principal, interest and other cash flows.
Over the life of the purchased credit impaired loans acquired, we continue to estimate cash flows expected to be collected on pools of loans sharing common risk characteristics, which are treated in the aggregate when applying various valuation techniques. We evaluate at each balance sheet date whether the present value of its pools of loans determined using the effective interest rates has decreased and if so, recognizes a provision for loan loss in its consolidated statement of income. For any increases in cash flows expected to be collected, we adjust the amount of accretable yield recognized on a prospective basis over the pool’s remaining life.
Because the FDIC will reimburse us for certain acquired loans should we experience a loss, an indemnification asset is recorded at fair value at the acquisition date. The indemnification asset is recognized at the same time as the indemnified loans, and measured on the same basis, subject to collectability or contractual limitations. The shared-loss agreements on the acquisition date reflect the reimbursements expected to be received from the FDIC, using an appropriate discount rate, which reflects counterparty credit risk and other uncertainties.
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For our FDIC-assisted transactions, shared-loss agreements continue to be measured on the same basis as the related indemnified loans. Because the acquired loans are subject to the accounting prescribed by FASB ASC Topic 310, Receivables, subsequent changes to the basis of the shared-loss agreements also follow that model. Deterioration in the credit quality of the loans (immediately recorded as an adjustment to the allowance for loan losses) would immediately increase the basis of the shared-loss agreements, with the offset recorded through the consolidated statement of income as a reduction of the provision for loan losses. Increases in the credit quality or cash flows of loans (reflected as an adjustment to yield and accreted into income over the weighted-average remaining life of the loans) decrease the basis of the shared-loss agreements, with such decrease being amortized into income over 1) the same period or 2) the life of the shared-loss agreements, whichever is shorter. Loss assumptions used in the basis of the indemnified loans are consistent with the loss assumptions used to measure the indemnification asset. Fair value accounting incorporates into the fair value of the indemnification asset an element of the time value of money, which is accreted back into income over the life of the shared-loss agreements.
Upon the determination of an incurred loss, the indemnification asset will be reduced by the amount owed by the FDIC. A corresponding claim receivable is recorded until cash is received from the FDIC.
Foreclosed Assets Held for Sale. Real estate and personal properties acquired through or in lieu of loan foreclosure are to be sold and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Valuations are periodically performed by management, and the real estate and personal properties are carried at fair value less costs to sell. Gains and losses from the sale of other real estate and personal properties are recorded in non-interest income, and expenses used to maintain the properties are included in non-interest expenses.
Intangible Assets. Intangible assets consist of goodwill and core deposit intangibles. Goodwill represents the excess purchase price over the fair value of net assets acquired in business acquisitions. The core deposit intangible represents the excess intangible value of acquired deposit customer relationships as determined by valuation specialists. The core deposit intangibles are being amortized over 48 to 121 months on a straight-line basis. Goodwill is not amortized but rather is evaluated for impairment on at least an annual basis. We perform an annual impairment test of goodwill and core deposit intangibles as required by FASB ASC 350, Intangibles - Goodwill and Other, in the fourth quarter.
Income Taxes. We account for income taxes in accordance with income tax accounting guidance (ASC 740, Income Taxes). The income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. We determine deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur.
Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term “more likely than not” means a likelihood of more than 50 percent; the terms “examined” and “upon examination” also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-notrecognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances and information available at the reporting date and is subject to the management’s judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized.
Both we and our subsidiary file consolidated tax returns. Our subsidiary provides for income taxes on a separate return basis, and remits to us amounts determined to be currently payable.
Stock Options. In accordance with FASB ASC 718, Compensation - Stock Compensation, and FASB ASC 505-50, Equity-Based Payments to Non-Employees, the fair value of each option award is estimated on the date of grant. We recognize compensation expense for the grant-date fair value of the option award over the vesting period of the award.
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Acquisitions
Acquisition of Florida Business BancGroup, Inc.
On October 1, 2015, we completed our acquisition of Florida Business BancGroup, Inc. (“FBBI”), parent company of Bay Cities Bank (“Bay Cities”). We paid a purchase price to the FBBI shareholders of $104.1 million for the FBBI acquisition. Under the terms of the agreement, shareholders of FBBI received 2,079,854 shares of our common stock valued at approximately $83.8 million as of October 1, 2015, plus approximately $20.3 million in cash in exchange for all outstanding shares of FBBI common stock. A portion of the cash consideration, $2.0 million, has been placed into escrow, and FBBI shareholders will have a contingent right to receive their pro-rata portions of such amount. The amount, if any, of such escrowed funds to be released to FBBI shareholders will depend upon the amount of losses that HBI incurs in the two years following the completion of the merger related to two class action lawsuits that are pending against Bay Cities.
Acquisition of Pool of National Commercial Real Estate Loans
On April 1, 2015, our wholly-owned bank subsidiary, Centennial acquired a pool of national commercial real estate loans from AM PR LLC, an affiliate of J.C. Flowers & Co., totaling approximately $289.1 million for a purchase price of 99% of the total principal value of the acquired loans. The acquired loans were originated by the former Doral Bank within its Doral Property Finance portfolio (“DPF Portfolio”) and were transferred to the Seller by Banco Popular of Puerto Rico (“Popular”) upon its acquisition of the assets and liabilities of Doral Bank from the FDIC, as receiver for the failed Doral Bank. This pool of loans is now housed in a division of Centennial known as the Centennial Commercial Finance Group (“Centennial CFG”). The Centennial CFG is responsible for servicing the acquired loan pool and originating new loan production.
In connection with this acquisition of loans, we opened a loan production office on April 23, 2015 in New York City. Through the loan production office, Centennial CFG is building out a national lending platform focusing on commercial real estate plus commercial and industrial loans. As of December 31, 2015, Centennial CFG had $715.7 million in total loans net of discount. Centennial CFG currently has plans to build this loan portfolio to $1.2 billion to $1.3 billion by the end of 2016. During 2016, we have plans to open a deposit-only branch location in New York City.
Acquisition of Doral Bank’s Florida Panhandle operations
On February 27, 2015, our bank subsidiary, Centennial, acquired all the deposits and substantially all the assets of Doral Florida through an alliance agreement with Popular who was the successful lead bidder with the FDIC on the failed Doral Bank of San Juan, Puerto Rico. Including the effects of the purchase accounting adjustments, the acquisition provided us with loans of approximately $37.9 million net of loan discounts, deposits of approximately $467.6 million, plus a $428.2 million cash settlement to balance the transaction. There is no loss-share with the FDIC in the acquired assets. We recorded a bargain purchase gain of $1.6 million, in connection with the Doral Florida acquisition.
Prior to the acquisition, Doral Florida operated five branch locations in Panama City, Panama City Beach and Pensacola, Florida plus a loan production office in Tallahassee, Florida. At the time of acquisition, Centennial operated 29 branch locations in the Florida Panhandle. As a result, we closed all five branch locations during the July 2015 systems conversion and returned the facilities back to the FDIC.
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Acquisition of Broward Financial Holdings, Inc.
On October 23, 2014, we completed our acquisition of all of the issued and outstanding shares of common stock of Broward Financial Holdings, Inc., parent company of Broward Bank, and merged Broward Bank into Centennial Bank. Under the terms of the Broward Agreement, the shareholders of Broward received approximately $30.2 million of our common stock valued as of the closing date, plus $3.3 million in cash, in exchange for all outstanding shares of Broward common stock. We have also agreed to pay the Broward shareholders at an undetermined date up to approximately $751,000 in additional consideration. The amount and timing of the additional payment, if any, will depend on future payments received or losses incurred by Centennial Bank from certain current Broward Bank loans. At December 31, 2015, we have recorded a fair value of zero for the potential additional consideration.
Prior to the acquisition, Broward Bank of Commerce operated two banking locations in Fort Lauderdale, Florida. Including the effects of the purchase accounting adjustments, Broward had approximately $184.4 million in total assets, $121.1 million in total loans after $3.0 million of loan discounts, and $134.2 million in deposits.
As of the acquisition date, Broward’s common equity totaled $20.4 million and we paid a purchase price to the Broward shareholders of approximately $33.6 million for the Broward acquisition. As a result, we paid a multiple of 1.62 of Broward’s book value per share and tangible book value per share.
Acquisition of Florida Traditions Bank
On July 17, 2014, we completed the acquisition of all of the issued and outstanding shares of common stock of Traditions and merged Traditions into Centennial Bank. Under the terms of the Traditions Agreement, the shareholders of Traditions received approximately $39.5 million of our common stock valued at the time of closing, in exchange for all outstanding shares of Traditions common stock.
The transaction was accretive to our book value per common share and tangible book value per common share.
Acquisition of Liberty Bancshares, Inc.
On October 24, 2013, we completed the acquisition of all of the issued and outstanding shares of common stock of Liberty, parent company of Liberty Bank, and merged Liberty Bank into Centennial Bank. Under the terms of Liberty Agreement, the shareholders of Liberty received approximately $290.1 million of our common stock valued at the time of the closing, plus approximately $30.0 million in cash, in exchange for all outstanding shares of Liberty common stock. We also repurchased all of Liberty’s SBLF preferred stock held by the U.S. Treasury shortly after the closing. The merger significantly increased our deposit market share in Arkansas making us the second largest bank holding company headquartered in Arkansas.
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FDIC Indemnification Asset
In conjunction with certain FDIC-assisted transactions, we entered into loss share agreements with the FDIC. These agreements cover realized losses on loans, foreclosed real estate and certain other assets. These loss share assets are measured separately from the loan portfolios because they are not contractually embedded in the loans and are not transferable with the loans should we choose to dispose of them. Fair values at the acquisition dates were estimated based on projected cash flows available for loss-share based on the credit adjustments estimated for each loan pool and the loss share percentages. The loss share assets are also separately measured from the related loans and foreclosed real estate and recorded as FDIC indemnification assets on the Consolidated Balance Sheets. Subsequent to the acquisition date, reimbursements received from the FDIC for actual incurred losses will reduce the loss share assets. Reductions to expected credit losses, to the extent such reductions to expected credit losses are the result of an improvement to the actual or expected cash flows from the covered assets, will also reduce the loss share assets. Increases in expected credit losses will require an increase to the allowance for loan losses and a corresponding increase to the loss share assets. As the ten-year loss-share agreements approach their expiration dates, there could be unexpected volatility as future expected loan losses might become projected to occur outside of the loss-share coverage reimbursement window.
Table 4 summarizes the activity in our FDIC indemnification asset during the years ended December 31, 2015 and 2014:
Table 4: Changes in FDIC Indemnification Asset
Beginning balance
Incurred claims for FDIC covered credit losses
FDIC indemnification accretion/(amortization)
Reduction in provision for loan losses:
Change attributable to FDIC loss share agreements
Ending balance
FDIC-Assisted Acquisitions – True-Up
Our purchase and assumption agreements in connection with certain of our FDIC-assisted acquisitions allow the FDIC to recover a portion of the loss share funds previously paid out under the indemnification agreements in the event losses fail to reach the expected loss under a claw back provision. Should the markets associated with any of the banks we acquired through FDIC-assisted transactions perform better than initially projected, the Bank is required to pay this clawback (or “true-up”) payment to the FDIC on a specified date following the tenth anniversary of such acquisition (the “True-Up Measurement Date”).
Specifically, in connection with the Old Southern and Key West acquisitions, such “true-up” payments would be equal to 50% of the excess, if any, of (i) 20% of a stated threshold of $110.0 million in the case of Old Southern and $23.0 million in the case of Key West, less (ii) the sum of (A) 25% of the asset premium (discount) plus (B) 25% of the Cumulative Shared Loss Payments (defined as the aggregate of all of the payments made or payable to Centennial Bank minus the aggregate of all of the payments made or payable to the FDIC) plus (C) the Period Servicing Amounts for any twelve-month period prior to and ending on the True-Up Measurement Date (defined as the product of the simple average of the principal amount of shared loss loans and shared loss assets (other than shared loss securities) at the beginning and end of such period times 1%).
In connection with the Coastal-Bayside, Wakulla and Gulf State acquisitions, the “true-up” payments would be equal to 50% of the excess, if any, of (i) 20% of an intrinsic loss estimate of $121.0 million in the case of Coastal, $24.0 million in the case of Bayside, $73.0 million in the case of Wakulla and $35.0 million in the case of Gulf State, less (ii) the sum of (A) 20% of the net loss amount (the sum of all losses less the sum of all recoveries on covered assets) plus (B) 25% of the asset premium (discount) plus (C) 3.5% of the total loans subject to loss-sharing under the loss-sharing agreements as specified in the schedules to the agreements.
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The amount of FDIC-assisted acquisitions true-up accrued at December 31, 2015 and 2014 was $11.4 million and $9.4 million, respectively.
We are currently in the beginning stages of exploring the possibility of terminating the remaining loss-share agreements with the FDIC. At this point, we have not reached an agreement with the FDIC to buy out the loss share.
As of December 31, 2015, we have an indemnification asset of $9.3 million remaining for the acquired loss-share loans. If this transaction with the FDIC were to occur, it would create a one-time acceleration of the indemnification asset plus the negotiated settlement for the true-up liability. While there is no guarantee we can reach an agreement with the FDIC, if we were to reach an agreement with the FDIC during 2016 to buy out the loss share agreements, it is anticipated this transaction will create a negative financial impact to 2016 earnings in the range of approximately $7.5 million to $12.5 million on a pre-tax basis.
If we are able to reach an agreement with the FDIC during 2016, it will create a positive financial impact to earnings of approximately $1.5 million annually on a pre-tax basis through the year 2020 as a result of the one-time acceleration of the indemnification asset amortization.
Future Acquisitions
In our continuing evaluation of our growth plans, we believe properly priced bank acquisitions can complement our organic growth and de novo branching growth strategies. In the near term, our principal acquisition focus will be to continue to expand our presence in Arkansas, Florida and Alabama and into other contiguous markets through pursuing both non-FDIC-assisted and FDIC-assisted bank acquisitions. However, as financial opportunities in other market areas arise, we may expand into those areas.
We will continue evaluating all types of potential bank acquisitions to determine what is in the best interest of our Company. Our goal in making these decisions is to maximize the return to our investors.
Branches
As opportunities arise, we will continue to open new (commonly referred to as de novo) branches in our current markets and in other attractive market areas. During 2016, we have plans to open a deposit-only branch location in New York City.
During 2014, we initiated a branch efficiency study. Since that time, we have gathered data and evaluated over 40 branch locations across our footprint. The branch efficiency study considers many variables, such as proximity to other branches, deposits, transactions, market share and profitability. As a result of the study, we closed four Arkansas, one Alabama and six Florida locations during 2015. During 2016, it is expected we will announce additional strategic consolidations where it improves efficiency in certain markets.
We currently have 77 branches in Arkansas, 59 branches in Florida, 6 branches in Alabama and a loan production office in New York City.
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Results of Operations for the Years Ended December 31, 2015, 2014 and 2013
Our net income increased 22.2% to $138.2 million for the year ended December 31, 2015, from $113.1 million for the same period in 2014. On a diluted earnings per share basis, our earnings increased 18.8% to $2.02 for the year ended December 31, 2015, as compared to $1.70 for the same period in 2014. Excluding the $1.6 million of one-time gain on acquisition offset by $4.8 million of merger expenses associated with the acquisitions of Doral Florida and FBBI, net income was $140.1 million and diluted earnings per share for the year ended 2015 was $2.04 per share. Excluding the $4.8 million of merger expenses associated with the acquisitions of Doral Florida and FBBI, net income was $141.1 million and diluted earnings per share for the year ended 2015 was $2.06 per share. Excluding the $6.4 million of 2014 merger expenses associated with the acquisitions of Traditions and Broward, diluted earnings per share for the year ended 2014 was $1.76 per share. Excluding merger expenses and gain on acquisition, this represents an increase of $0.28 per share or 15.9% for the year ended 2015 when compared to the previous year. Excluding merger expenses and gain on acquisition, net income for the years ended 2015 and 2014 would have been $140.1 million and $117.0 million, respectively, for an increase of $23.1 million or 19.8%. The $23.1 million increase in net income excluding merger expenses and gain on acquisition is primarily associated with additional net interest income largely resulting from our acquisitions and organic loan growth combined with reduced amortization of the indemnification asset when compared to the same period in 2014. These improvements were partially offset by an increase in the costs associated with the asset growth and the increase in provision for loan losses during 2015 when compared to the same period in 2014.
Our net income increased 70.0% to $113.1 million for the year ended December 31, 2014, from $66.5 million for the same period in 2013. On a diluted earnings per share basis, our earnings increased 49.1% to $1.70 for the year ended December 31, 2014, as compared to $1.14 for the same period in 2013. Excluding the $6.4 million of 2014 merger expenses associated with the acquisitions of Traditions and Broward, diluted earnings per share for the year ended 2014 was $1.76 per share. Excluding the $18.4 million of 2013 merger expenses associated with the acquisition of Liberty, diluted earnings per share for the year ended 2013 was $1.33 per share. Excluding merger expenses, this represents an increase of $0.43 per share or 32.3% for the year ended 2014 when compared to the previous year. Excluding merger expenses, net income for the years ended 2014 and 2013 would have been $117.0 million and $77.7 million, respectively, for an increase of $39.3 million or 50.6%. The $39.3 million increase in net income excluding the non-fundamental items is primarily associated with a full year of additional net income from our 2013 acquisition of Liberty plus 167 days of net income from our 2014 acquisition of Traditions and 69 days from our 2014 acquisition of Broward.
Net Interest Income
Net interest income, our principal source of earnings, is the difference between the interest income generated by earning assets and the total interest cost of the deposits and borrowings obtained to fund those assets. Factors affecting the level of net interest income include the volume of earning assets and interest-bearing liabilities, yields earned on loans and investments and rates paid on deposits and other borrowings, the level of non-performing loans and the amount of non-interest-bearing liabilities supporting earning assets. Net interest income is analyzed in the discussion and tables below on a fully taxable equivalent basis. The adjustment to convert certain income to a fully taxable equivalent basis consists of dividing tax-exempt income by one minus the combined federal and state income tax rate (39.225% for years ended December 31, 2015, 2014 and 2013).
The Federal Reserve Board sets various benchmark rates, including the Federal Funds rate, and thereby influences the general market rates of interest, including the deposit and loan rates offered by financial institutions. The Federal Funds rate, which is the cost to banks of immediately available overnight funds, was lowered on December 16, 2008 to a historic low of 0.25% to 0% where it remained until December 16, 2015 when the rate was increased slightly to 0.50% to 0.25%.
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During the 2014 quarterly impairment tests on the estimated cash flows of purchased credit impaired loans, we established that certain loan pools of this type were determined to have a materially projected credit improvement. As a result of this improvement, we will recognize approximately $48.6 million as an additional adjustment to yield over the weighted average life of the loans. Since our first covered loan acquisition in 2010, we have identified a total of $83.3 million of adjustments to yield during the quarterly impairment tests. For the years ended December 31, 2014, 2013 and 2012, we recognized $28.1 million, $13.3 million and $1.5 million, respectively, of additional accretion income related to the positive results of the impairment tests.
The effective yield on non-covered loans for the years ended December 31, 2015, 2014 and 2013 was 5.67%, 6.01% and 6.01%, respectively. The effective yield on covered loans for the years ended December 31, 2015, 2014 and 2013 was 18.83%, 17.29% and 11.61%, respectively.
Net interest income on a fully taxable equivalent basis increased $39.6 million, or 12.21%, to $363.4 million for the year ended December 31, 2015, from $323.9 million for the same period in 2014. This increase in net interest income was the result of a $42.4 million increase in interest income combined with a $2.9 million increase in interest expense. The $42.4 million increase in interest income was primarily the result of a higher level of earning assets offset by lower yields on our loans. The higher level of earning assets resulted in an increase in interest income of $72.5 million. The lower yield was primarily driven by the repricing of our loans, which resulted in a $30.1 million decrease in interest income. The $2.9 million increase in interest expense for the year ended December 31, 2015, is primarily the result of an increase in higher level of our interest bearing liabilities from our acquisitions offset by our interest bearing liabilities repricing in the lower interest rate environment. The higher level of our interest bearing liabilities resulted in an increase in interest expense of approximately $4.0 million. The repricing of our interest bearing liabilities in the lower interest rate environment resulted in a $1.1 million decrease in interest expense.
Net interest income on a fully taxable equivalent basis increased $116.9 million, or 56.5%, to $323.9 million for the year ended December 31, 2014, from $206.9 million for the same period in 2013. This increase in net interest income was the result of a $121.3 million increase in interest income offset by a $4.3 million increase in interest expense. The $121.3 million increase in interest income was primarily the result of a higher level of earning assets combined with higher yields on our loans. The $4.3 million increase in interest expense for the year ended December 31, 2014, is primarily the result of an increase in the volume of our average interest-bearing transaction and savings deposits, average time deposits and FHLB borrowings primarily associated with the acquisitions of Liberty, Traditions and Broward offset by our interest bearing liabilities repricing in the lower interest rate environment. The higher level of our interest bearing liabilities resulted in an increase in interest expense of approximately $8.2 million. The repricing of our interest bearing liabilities in the lower interest rate environment resulted in a $3.8 million decrease in interest expense.
Net interest margin, on a fully taxable equivalent basis, was 4.98% for the year ended December 31, 2015 compared to 5.37% and 5.19% for the same periods in 2014 and 2013, respectively.
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Additional information and analysis for our net interest margin can be found in Tables 29 through 31 of our Non-GAAP Financial Measurements section of the Management Discussion and Analysis.
Tables 5 and 6 reflect an analysis of net interest income on a fully taxable equivalent basis for the years ended December 31, 2015, 2014 and 2013, as well as changes in fully taxable equivalent net interest margin for the years 2015 compared to 2014 and 2014 compared to 2013.
Table 5: Analysis of Net Interest Income
Interest income
Fully taxable equivalent adjustment
Interest income – fully taxable equivalent
Interest expense
Net interest income – fully taxable equivalent
Yield on earning assets – fully taxable equivalent
Cost of interest-bearing liabilities
Net interest spread – fully taxable equivalent
Net interest margin – fully taxable equivalent
Table 6: Changes in Fully Taxable Equivalent Net Interest Margin
Increase (decrease) in interest income due to change in earning assets
Increase (decrease) in interest income due to change in earning asset yields
(Increase) decrease in interest expense due to change in interest-bearing liabilities
(Increase) decrease in interest expense due to change in interest rates paid on interest-bearing liabilities
Increase (decrease) in net interest income
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Table 7 shows, for each major category of earning assets and interest-bearing liabilities, the average amount outstanding, the interest income or expense on that amount and the average rate earned or expensed for the years ended December 31, 2015, 2014 and 2013. The table also shows the average rate earned on all earning assets, the average rate expensed on all interest-bearing liabilities, the net interest spread and the net interest margin for the same periods. The analysis is presented on a fully taxable equivalent basis. Non-accrual loans were included in average loans for the purpose of calculating the rate earned on total loans.
Table 7: Average Balance Sheets and Net Interest Income Analysis
ASSETS
Earnings assets
Interest-bearing balances due from banks
Federal funds sold
Investment securities – taxable
Investment securities – non-taxable
Loans receivable
Total interest-earning assets
Non-earning assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities
Interest-bearing liabilities
Savings and interest-bearing transaction accounts
Time deposits
Total interest-bearing deposits
Federal funds purchased
Securities sold under agreement to repurchase
FHLB borrowed funds
Subordinated debentures
Total interest-bearing liabilities
Non-interest bearing liabilities
Non-interest bearing deposits
Other liabilities
Total liabilities
Total liabilities and stockholders’ equity
Net interest spread
Net interest income and margin
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Table 8 shows changes in interest income and interest expense resulting from changes in volume and changes in interest rates for the year ended December 31, 2015 compared to 2014 and 2014 compared to 2013 on a fully taxable basis. The changes in interest rate and volume have been allocated to changes in average volume and changes in average rates, in proportion to the relationship of absolute dollar amounts of the changes in rates and volume.
Table 8: Volume/Rate Analysis
Increase (decrease) in:
Interest income:
Interest expense:
Interest-bearing transaction and savings deposits
Provision for Loan Losses
Our management assesses the adequacy of the allowance for loan losses by applying the provisions of FASB ASC 310-10-35. Specific allocations are determined for loans considered to be impaired and loss factors are assigned to the remainder of the loan portfolio to determine an appropriate level in the allowance for loan losses. The allowance is increased, as necessary, by making a provision for loan losses. The specific allocations for impaired loans are assigned based on an estimated net realizable value after a thorough review of the credit relationship. The potential loss factors associated with the remainder of the loan portfolio are based on an internal net loss experience, as well as management’s review of trends within the portfolio and related industries.
While general economic trends have improved recently, we cannot be certain that the current economic conditions will considerably improve in the near future. Recent and ongoing events at the national and international levels can create uncertainty in the financial markets. Despite these economic uncertainties, we continue to follow our historically conservative procedures for lending and evaluating the provision and allowance for loan losses. Our practice continues to be primarily traditional real estate lending with strong loan-to-value ratios.
Generally, commercial, commercial real estate, and residential real estate loans are assigned a level of risk at origination. Thereafter, these loans are reviewed on a regular basis. The periodic reviews generally include loan payment and collateral status, the borrowers’ financial data, and key ratios such as cash flows, operating income, liquidity, and leverage. A material change in the borrower’s credit analysis can result in an increase or decrease in the loan’s assigned risk grade. Aggregate dollar volume by risk grade is monitored on an on-going basis.
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Our management reviews certain key loan quality indicators on a monthly basis, including current economic conditions, delinquency trends and ratios, portfolio mix changes, and other information management deems necessary. This review process provides a degree of objective measurement that is used in conjunction with periodic internal evaluations. To the extent that this review process yields differences between estimated and actual observed losses, adjustments are made to the loss factors used to determine the appropriate level of the allowance for loan losses.
Our Company is primarily a real estate lender in the markets we serve. As such, we are subject to declines in asset quality when real estate prices fall during a recession. The recession in the latter years of the last decade harshly impacted the real estate market in Florida. The economic conditions particularly in our Florida market have improved recently, although not to pre-recession levels. Our Arkansas markets’ economies have been fairly stable over the past several years with no boom or bust. As a result, the Arkansas economy fared better with its real estate values during this time period.
The provision for loan losses represents management’s determination of the amount necessary to be charged against the current period’s earnings, to maintain the allowance for loan losses at a level that is considered adequate in relation to the estimated risk inherent in the loan portfolio.
There was $998,000, $904,000 and $991,000 provision for covered loans for years ended December 31, 2015, 2014 and 2013, respectively.
The $998,000 of provision for loan losses for the year ended December 31, 2015 is a result of the quarterly impairment testing on the estimated cash flows of our FDIC loss-share loans which noted a slight decline in asset quality in several of our covered loan pools, resulting in a net covered provision for loan loss of $998,000.
The $904,000 of provision for loan losses for the year ended December 31, 2014 is a result of the fourth quarter 2014 impairment testing on the estimated cash flows of the covered loans. This testing established that two pools outside of loss share had experienced material projected credit deterioration. While these loans are covered by loss share with the FDIC, we were not able to adjust the related indemnification asset due to the short time frame remaining on loss share coverage for these two pools. This resulted in a net provision equal to the loan losses of $904,000.
During the second quarter 2014 impairment testing on the estimated cash flows of the covered loans, we established certain pools evaluated had experienced material projected credit improvement and had covered allowance for loan losses associated with them. We recorded net provision for loan losses of zero to the allowance for loan losses related to the improvement of the purchased credit impaired loans. We recorded $280,000 of provision for loan losses forecasted outside of loss share and a negative provision for loan loss of $1.4 million before change attributable to FDIC loss share agreements. Since these loans are covered by loss share with the FDIC, we were able to decrease the related indemnification asset by $1.1 million resulting in a net provision of zero for the second quarter of 2014.
The $991,000 of provision for loan losses for the year ended December 31, 2013 is a result of the quarterly 2013 impairment testing on the estimated cash flows of the covered loans. This testing established that six pools evaluated had experienced material projected credit deterioration. As a result of this projection, we recorded a $4.4 million provision for loan losses to the allowance for loan losses related to the purchased impaired loans during the year ended December 31, 2013. Since these loans are covered by loss share with the FDIC, we were able to increase the related indemnification asset by $3.5 million resulting in a net provision for loan losses of $991,000.
There was $24.2 million, $21.8 million and $4.2 million of provision for non-covered loans for the years ended December 31, 2015, 2014, and 2013, respectively.
We experienced a $2.4 million increase in the provision for loan losses for non-covered loans during 2015 versus 2014. The expected increase from the year ended 2014 is primarily a reflection of provisioning for 2015 organic loan growth offset by a slowdown from 2014 to 2015 in the migration of the acquired Liberty loans from purchased-loan accounting treatment to originated-loan accounting treatment.
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Our provision for loan losses for non-covered loans increased $17.6 million for the year ended December 31, 2014 to $21.8 million from $4.2 million for the year ended December 31, 2013. This expected increase from 2013 was not an indication of a decline in asset quality, but primarily a reflection of the migration of the Liberty (and other acquired) loans from purchased loan accounting treatment to originated loan accounting treatment.
Based upon current accounting guidance, the allowance for loan losses is not carried over in an acquisition. As a result, none of the acquired loans had any allocation of the allowance for loan losses at merger date. This is the result of all loans acquired being recorded at fair value in accordance with the fair value methodology prescribed in ASC Topic 820. However, as the acquired loans payoff or renew and the acquired footprint originates new loan production, it is necessary to establish an allowance which represents an amount that, in management’s judgment, will be adequate to absorb credit losses. Traditionally, there is a large migration of these loans during the first year after acquisition, which can create an elevated provision for loan losses as was the case during 2014 with respect to the Liberty acquisition. The allowance for loan loss methodology for all originated loans as disclosed in Note 1 to the Notes to Consolidated Financial Statements was used for these loans. Our current or historical provision levels should not be relied upon as a predictor or indicator of future levels going forward.
Non-Interest Income
Total non-interest income was $65.5 million in 2015, compared to $44.8 million in 2014 and $40.4 million in 2013. Our recurring non-interest income includes service charges on deposit accounts, other service charges and fees, trust fees, mortgage lending, insurance, title fees, increase in cash value of life insurance, dividends and FDIC indemnification accretion/amortization.
Table 9 measures the various components of our non-interest income for the years ended December 31, 2015, 2014, and 2013, respectively, as well as changes for the years 2015 compared to 2014 and 2014 compared to 2013.
Table 9: Non-Interest Income
Service charges on deposit accounts
Other service charges and fees
Trust fees
Mortgage lending income
Insurance commissions
Income from title services
Increase in cash value of life insurance
Dividends from FHLB, FRB, Bankers’ bank & other
Gain on acquisitions
Gain on sale of SBA loans
Gain (loss) on sale of premises and equipment, net
Gain (loss) on OREO, net
Gain (loss) on securities, net
FDIC indemnification accretion/(amortization), net
Other income
Total non-interest income
Non-interest income increased $20.7 million, or 46.3%, to $65.5 million for the year ended December 31, 2015 from $44.8 million for the same period in 2014. Non-interest income excluding gain on acquisitions increased $19.1 million, or 42.7 %, to $63.9 million for the year ended December 31, 2015 from $44.8 million for the same period in 2014.
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Excluding gain on acquisitions, the primary factors that resulted in this increase were improvements related to other service charges and fees, trust fees, mortgage lending, amortization on our FDIC indemnification asset and other income offset by a decrease in service charges on deposits, insurance, net changes in sale of premises and equipment gains and losses, and net changes in OREO gains and losses.
Additional details for the year ended December 31, 2015 on some of the more significant changes are as follows:
The primary factors that resulted in the 2014 increase were improvements related to service charges on deposits, other service charges and fees, trust fees, mortgage lending, insurance, and net changes in OREO gains and losses offset by changes in gains and losses on sale of premises and equipment and an increase in amortization on our FDIC indemnification asset.
Additional details for the year ended December 31, 2014 on some of the more significant changes are as follows:
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The primary factors that resulted in the 2013 decrease was an increase in amortization on our FDIC indemnification asset offset by improvements related to service charges on deposits, other service charges and fees, mortgage lending income, insurance commissions, changes in OREO gains and other income.
Additional details on some of the more significant changes are as follows:
During the first quarter of 2016, we have plans to close our title services company. This strategic decision was made to improve overall profitability. We anticipate the financial statement impact to be immaterial.
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Non-Interest Expense
Non-interest expense consists of salaries and employee benefits, occupancy and equipment, data processing, and other expenses such as advertising, merger and acquisition expenses, amortization of intangibles, electronic banking expense, FDIC and state assessment, insurance, legal and accounting fees and other professional fees.
Table 10 below sets forth a summary of non-interest expense for the years ended December 31, 2015, 2014, and 2013, as well as changes for the years ended 2015 compared to 2014 and 2014 compared to 2013.
Table 10: Non-Interest Expense
Salaries and employee benefits
Occupancy and equipment
Data processing expense
Other operating expenses:
Advertising
Merger and acquisition expenses
Amortization of intangibles
Electronic banking expense
Directors’ fees
Due from bank service charges
FDIC and state assessment
Legal and accounting
Other professional fees
Operating supplies
Postage
Telephone
Other expense
Total non-interest expense
Non-interest expense, excluding merger expenses, increased $17.3 million, or 11.1%, to $172.8 million for the year ended December 31, 2015, from $155.5 million for the same period in 2014. This increase primarily results from additional expense associated with the creation of Centennial CFG and the acquisitions of Traditions, Broward and FBBI. These acquisitions have helped us grow from $6.81 billion in total assets as of December 31, 2013 to $9.29 billion as of December 31, 2015.
The opening of the Centennial CFG loan production office resulted in $7.4 million of non-interest expense during 2015. While the cost of doing business in New York City is significantly higher than our Arkansas, Florida and Alabama markets, we are still committed to cost-saving measures while achieving our company-wide growth goals.
Salaries and employee benefits, increased $10.5 million, or 13.6%, to $87.5 million for the year ended December 31, 2015, from $77.0 million for the same period in 2014. This increase is primarily comprised of additional salaries and employee benefits of $4.7 million for Centennial CFG and $4.6 million for our Florida acquisitions during 2014 and 2015. Excluding the additional costs from Centennial CFG and acquisitions, our salaries and employee benefits increased approximately 1.5% from 2014 to 2015.
Non-interest expense, excluding merger expenses, increased $40.6 million, or 35.3%, to $155.5 million for the year ended December 31, 2014, from $114.9 million for the same period in 2013. These increases primarily result from additional expense associated with the acquisitions of Liberty, Traditions and Broward during 2013 and 2014, respectively. These acquisitions have grown our Company from $4.24 billion in total assets as of December 31, 2012 to $7.40 billion as of December 31, 2014.
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Income Taxes
The income tax expense increased $16.2 million, or 25.2%, to $80.3 million for the year ended December 31, 2015, from $64.1 million for 2014. The income tax expense increased $26.2 million, or 68.9%, to $64.1 million for the year ended December 31, 2014, from $38.0 million for 2013. The effective tax rate for the years ended December 31, 2015, 2014 and 2013 were 36.75%, 36.18% and 36.33%, respectively. The primary cause of the increase in taxes is the result of our higher earnings at our marginal tax rate of 39.225%.
Financial Conditions as of and for the Years Ended December 31, 2015 and 2014
Loan Portfolio
Loans Receivable Not Covered by Loss Share
Our non-covered loan portfolio averaged $5.58 billion during 2015, $4.35 billion during 2014 and $2.67 billion during 2013. Non-covered loans were $6.58 billion, $4.82 billion and $4.19 billion as of December 31, 2015, 2014 and 2013, respectively. Excluding the acquisitions of Doral Florida and FBBI, the migration of Old Southern, Key West, Coastal, Bayside, Gulf and Wakulla loans from loans covered by FDIC loss share to loans not covered by loss share status, and the acquisition of national commercial real estate loans, our non-covered loan portfolio increased $881.6 million, or 18.3%, from 2014 to 2015. Excluding the $362.7 million of loans acquired from Traditions and Broward our non-covered loan portfolio increased $260.1 million, or 6.2%, from 2013 to 2014.
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Excluding the $1.73 billion of loans acquired from Liberty our non-covered loan portfolio increased $131.6 million, or 5.6%, from 2012 to 2013.
On February 27, 2015, we acquired $37.9 million of loans after $4.3 million of loan discounts from Doral Florida, which are being accounted for in accordance with the provisions of ASC Topic 310-20 and ASC Topic 310-30.
On April 1, 2015, we acquired a pool of national commercial real estate loans from J.C. Flowers & Co. LLC totaling approximately $289.1 million. We produced approximately $881.6 million of organic non-covered loan growth since December 31, 2014, of which $426.7 million is associated with Centennial CFG with the remaining $454.9 million being associated with loan originations in the legacy footprint.
On October 1, 2015, we acquired $408.3 million of loans after $14.1 million of loan discounts from FBBI, which are being accounted for in accordance with the provisions of ASC Topic 310-20 and ASC Topic 310-30.
During 2015, the five-year loss share agreements on the commercial real estate and commercial and industrial loans acquired through the FDIC-assisted acquisitions of Old Southern, Key West, Coastal, Bayside, Wakulla and Gulf State concluded. As a result, $145.2 million of these loans including their associated discounts previously classified as covered loans have migrated to non-covered loans status.
The most significant components of the non-covered loan portfolio were commercial real estate, residential real estate, consumer, and commercial and industrial loans. These non-covered loans are primarily originated within our market areas of Arkansas, Florida and South Alabama, and are generally secured by residential or commercial real estate or business or personal property within our market areas. Non-covered loans were $3.40 billion, $2.21 billion and $248.6 million as of December 31, 2015 in Arkansas, Florida and Alabama, respectively.
As of December 31, 2015, we had $415.8 million of construction/land development loans which were collateralized by land. This consisted of $225.4 million for raw land and $190.4 million for land with commercial and/or residential lots.
Table 11 presents our period end loan balances not covered by loss share by category as of December 31, 2015, 2014, 2013, 2012, and 2011.
Table 11: Non-Covered Loan Portfolio
Commercial real estate loans:
Residential real estate loans:
As of acquisition date, we evaluated $1.61 billion of net loans ($1.67 billion gross loans less $62.1 million discount) purchased in conjunction with the acquisition of Liberty in accordance with the provisions of FASB ASC Topic 310-20, Nonrefundable Fees and Other Costs. As of December 31, 2015, the net loan balance of the Liberty ASC Topic 310-20 purchased loans is $794.9 million ($813.0 million gross loans less $18.1 million discount). The fair value discount is being accreted into interest income over the weighted average life of the loans using a constant yield method.
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As of acquisition date, we evaluated $120.5 million of net loans ($162.4 million gross loans less $41.9 million discount) purchased in conjunction with the acquisition of Liberty in accordance with the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. As of December 31, 2015, the net loan balance of the Liberty ASC Topic 310-30 purchased loans is $74.6 million ($107.1 million gross loans less $32.5 million discount). These purchased non-covered loans are considered impaired if there is evidence of credit deterioration since origination and if it is probable that not all contractually required payments will be collected.
Non-Covered Commercial Real Estate Loans. We originate non-farm and non-residential loans (primarily secured by commercial real estate), construction/land development loans, and agricultural loans, which are generally secured by real estate located in our market areas. Our commercial mortgage loans are generally collateralized by first liens on real estate and amortized over a 15 to 25 year period with balloon payments due at the end of one to five years. These loans are generally underwritten by assessing cash flow (debt service coverage), primary and secondary source of repayment, the financial strength of any guarantor, the strength of the tenant (if any), the borrower’s liquidity and leverage, management experience, ownership structure, economic conditions and industry specific trends and collateral. Generally, we will loan up to 85% of the value of improved property, 65% of the value of raw land and 75% of the value of land to be acquired and developed. A first lien on the property and assignment of lease is required if the collateral is rental property, with second lien positions considered on a case-by-case basis.
As of December 31, 2015, non-covered commercial real estate loans totaled $3.99 billion, or 60.6%, of our non-covered loan portfolio, as compared to $2.76 billion, or 57.3% of our non-covered loan portfolio, as of December 31, 2014. Our Arkansas, Florida, Alabama and Centennial CFG non-covered commercial real estate loans were $1.83 billion, $1.42 billion, $152.2 million and $585.5 million at December 31, 2015, respectively.
Non-Covered Residential Real Estate Loans. We originate one to four family, residential mortgage loans generally secured by property located in our primary market areas. Approximately 36.9% and 43.3% of our non-covered residential mortgage loans consist of owner occupied 1-4 family properties and non-owner occupied 1-4 family properties (rental), respectively, as of December 31, 2015. Non-covered residential real estate loans generally have a loan-to-value ratio of up to 90%. These loans are underwritten by giving consideration to the borrower’s ability to pay, stability of employment or source of income, debt-to-income ratio, credit history and loan-to-value ratio.
As of December 31, 2015, non-covered residential real estate loans totaled $1.56 billion, or 23.7%, of our non-covered loan portfolio, compared to $1.21 billion, or 25.2% of our non-covered loan portfolio, as of December 31, 2014. Our Arkansas, Florida, Alabama and Centennial CFG non-covered residential real estate loans were $916.2 million, $512.1 million, $69.4 million and $62.9 million at December 31, 2015, respectively.
Non-Covered Consumer Loans. Our non-covered consumer loan portfolio is composed of secured and unsecured loans originated by our bank. The performance of consumer loans will be affected by the local and regional economies as well as the rates of personal bankruptcies, job loss, divorce and other individual-specific characteristics.
As of December 31, 2015, our non-covered consumer loan portfolio totaled $52.3 million, or 0.8%, of our total non-covered loan portfolio, compared to the $56.7 million, or 1.2% of our non-covered loan portfolio as of December 31, 2014. Our Arkansas, Florida, Alabama and Centennial CFG non-covered consumer loans were $30.0 million, $21.1 million, $1.2 million and zero at December 31, 2015, respectively.
Non-Covered Commercial and Industrial Loans. Commercial and industrial loans are made for a variety of business purposes, including working capital, inventory, equipment and capital expansion. The terms for commercial loans are generally one to seven years. Commercial loan applications must be supported by current financial information on the borrower and, where appropriate, by adequate collateral. Commercial loans are generally underwritten by addressing cash flow (debt service coverage), primary and secondary sources of repayment, the financial strength of any guarantor, the borrower’s liquidity and leverage, management experience, ownership structure, economic conditions and industry specific trends and collateral. The loan to value ratio depends on the type of collateral. Generally speaking, accounts receivable are financed at between 50% and 80% of accounts receivable less than 60 days past due. Inventory financing will range between 50% and 60% (with no work in process) depending on the borrower and nature of inventory. We require a first lien position for those loans.
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As of December 31, 2015, non-covered commercial and industrial loans outstanding totaled $850.4 million, or 12.9% of our non-covered loan portfolio, which is comparable to $670.1 million, or 13.9% of our non-covered loan portfolio, as of December 31, 2014. Our Arkansas, Florida, Alabama and Centennial CFG non-covered commercial and industrial loans were $530.6 million, $228.8 million, $23.7 million and $67.3 million at December 31, 2015, respectively.
Non-Covered Agricultural Loans. Our portfolio of agricultural loans includes loans for financing agricultural production, including loans to businesses or individuals engaged in the production of timber, poultry, livestock or crops and are not categorized as part of non-covered real estate loans. Our agricultural loans are generally secured by farm machinery, livestock, crops, vehicles or other agricultural-related collateral. A portion of our portfolio of agricultural loans is comprised of loans to individuals which would normally be characterized as consumer loans except for the fact that the individual borrowers are primarily engaged in the production of timber, poultry, livestock or crops.
As of December 31, 2015, our non-covered agricultural loan portfolio totaled $67.1 million, or 1.0%, of our total non-covered loan portfolio, compared to the $48.8 million, or 1.0% of our non-covered loan portfolio as of December 31, 2014. Our Arkansas, Florida, Alabama and Centennial CFG non-covered agricultural loans were $49.1 million, $18.0 million, zero and zero at December 31, 2015, respectively.
Total Loans Receivable
Table 12 presents total loans receivable by category.
Table 12: Total Loans Receivable
As of December 31, 2015
Table 13 presents the distribution of the maturity of our total loans as of December 31, 2015. The table also presents the portion of our loans that have fixed interest rates and interest rates that fluctuate over the life of the loans based on changes in the interest rate environment.
The loans acquired during our acquisitions accrete interest income through accretion of the difference between the carrying amount of the loans and the expected cash flows. Increases in the credit quality or cash flows of loans (reflected as an adjustment to yield and accreted into income over the weighted average life of the loans) decrease the basis of the shared-loss agreements, with such decrease being accreted into income over 1) the same period or 2) the life of the shared-loss agreements, whichever is shorter.
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Table 13: Maturity of Loans
Total loans receivable
Non-covered with fixed interest rates
Non-covered with floating interest rates
Purchased credit impaired loans acquired
Non-Performing Assets Not Covered by Loss Share
We classify our non-covered problem loans into three categories: past due loans, special mention loans and classified loans (accruing and non-accruing).
When management determines that a loan is no longer performing, and that collection of interest appears doubtful, the loan is placed on non-accrual status. Loans that are 90 days past due are placed on non-accrual status unless they are adequately secured and there is reasonable assurance of full collection of both principal and interest. Our management closely monitors all loans that are contractually 90 days past due, treated as “special mention” or otherwise classified or on non-accrual status.
We have non-covered loans acquired with deteriorated credit quality in our December 31, 2015 financial statements as a result of our historical acquisitions plus the migration of loans covered by FDIC loss share to loans not covered by loss share status. The credit metrics most heavily impacted by our acquisitions of acquired non-covered loans with deteriorated credit quality were the following credit quality indicators listed in Table 14 below:
On the date of acquisition, acquired credit-impaired loans are initially recognized at fair value, which incorporates the present value of amounts estimated to be collectible. As a result of the application of this accounting methodology, certain credit-related ratios, including those referenced above, may not necessarily be directly comparable with periods prior to the acquisition of the credit-impaired non-covered loans and non-covered non-performing assets, or comparable with other institutions.
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Table 14 sets forth information with respect to our non-performing non-covered assets as of December 31, 2015, 2014, 2013, 2012, and 2011. As of these dates, all non-performing non-covered restructured loans are included in non-accrual non-covered loans.
Table 14: Non-performing Assets Not Covered by Loss Share
Non-accrual non-covered loans
Non-covered loans past due 90 days or more (principal or interest payments)
Total non-performing non-covered loans
Other non-performing non-covered assets
Non-covered foreclosed assets held for sale, net
Total other non-performing non-covered assets
Total non-performing non-covered assets
Our non-performing non-covered loans are comprised of non-accrual non-covered loans and accruing non-covered loans that are contractually past due 90 days. Our bank subsidiary recognizes income principally on the accrual basis of accounting. When loans are classified as non-accrual, the accrued interest is charged off and no further interest is accrued, unless the credit characteristics of the loan improve. If a loan is determined by management to be uncollectible, the portion of the loan determined to be uncollectible is then charged to the allowance for loan losses.
Total non-performing non-covered loans were $60.2 million as of December 31, 2015, compared to $39.6 million as of December 31, 2014 for an increase of $20.7 million. Of the $20.7 million increase in non-performing loans, $3.8 million is from an increase in non-performing loans in our Arkansas market, $17.0 million from an increase in non-performing loans in our Florida market and $170,000 from a decrease in non-performing loans in our Alabama market. Our acquisition of FBBI during the fourth quarter of 2015 added $13.6 million to non-performing loans. Non-performing loans at December 31, 2015 are $28.3 million, $31.8 million, $132,000 and zero in the Arkansas, Florida, Alabama and Centennial CFG markets, respectively.
Although the current state of the real estate market has improved, uncertainties still present in the economy may continue to increase our level of non-performing non-covered loans. While we believe our allowance for loan losses is adequate and our purchased loans are adequately discounted at December 31, 2015, as additional facts become known about relevant internal and external factors that affect loan collectability and our assumptions, it may result in us making additions to the provision for loan losses during 2016. Our current or historical provision levels should not be relied upon as a predictor or indicator of future levels going forward.
Troubled debt restructurings (“TDRs”) generally occur when a borrower is experiencing, or is expected to experience, financial difficulties in the near term. As a result, the Bank will work with the borrower to prevent further difficulties, and ultimately to improve the likelihood of recovery on the loan. In those circumstances it may be beneficial to restructure the terms of a loan and work with the borrower for the benefit of both parties, versus forcing the property into foreclosure and having to dispose of it in an unfavorable and depressed real estate market. When we have modified the terms of a loan, we usually either reduce the monthly payment and/or interest rate for generally about three to twelve months. For our troubled debt restructurings that accrue interest at the time the loan is restructured, it would be a rare exception to have charged-off any portion of the loan. Only non-performing restructured loans are included in our non-performing non-covered loans. As of December 31, 2015, we had $14.8 million of non-covered restructured loans that are in compliance with the modified terms and are not reported as past due or non-accrual in Table 14. Our Florida market contains $11.2 million of these non-covered restructured loans.
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A loan modification that might not otherwise be considered may be granted resulting in classification as a troubled debt restructuring. These loans can involve loans remaining on non-accrual, moving to non-accrual, or continuing on an accrual status, depending on the individual facts and circumstances of the borrower. Generally, a non-accrual loan that is restructured remains on non-accrual for a period of six months to demonstrate that the borrower can meet the restructured terms. However, performance prior to the restructuring, or significant events that coincide with the restructuring, are considered in assessing whether the borrower can pay the new terms and may result in the loan being returned to an accrual status after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is not reasonably assured, the loan will remain in a non-accrual status.
The majority of the Bank’s loan modifications relate to commercial lending and involve reducing the interest rate, changing from a principal and interest payment to interest-only, a lengthening of the amortization period, or a combination of some or all of the three. In addition, it is common for the Bank to seek additional collateral or guarantor support when modifying a loan. At December 31, 2015, the amount of troubled debt restructurings was $18.2 million, a decrease of 32.3% from $26.9 million at December 31, 2014. As of December 31, 2015 and 2014, 81.2% and 100.0%, respectively, of all restructured loans were performing to the terms of the restructure.
Total foreclosed assets held for sale not covered by loss share were $18.5 million as of December 31, 2015, compared to $17.0 million as of December 31, 2014 for an increase of $1.6 million. The foreclosed assets held for sale not covered by loss share as of December 31, 2015 are comprised of $12.1 million of assets located in Arkansas, $5.7 million of assets located in Florida, $760,000 located in Alabama and zero from Centennial CFG.
During 2015, we had three non-covered foreclosed properties with a carrying value greater than $1.0 million. One of these three properties is a non-farm/non-residential property in the Florida Panhandle and holds a carrying value of $1.0 million at December 31, 2015. Another non-farm/non-residential property was acquired in the Liberty acquisition and holds an aggregate carrying value of $3.2 million at December 31, 2015. The remaining property is a development loan in Northwest Arkansas which has been foreclosed since 2011. The carrying value was $2.0 million at December 31, 2015. We do not currently anticipate any additional losses on these properties. As of December 31, 2015, no other foreclosed assets held for sale not covered by loss share have a carrying value greater than $1.0 million.
Total foreclosed assets held for sale not covered by loss share were $17.0 million as of December 31, 2014, compared to $29.9 million as of December 31, 2013 for a decrease of $12.9 million. The foreclosed assets held for sale not covered by loss share as of December 31, 2014 are comprised of $14.8 million of assets located in Arkansas, $2.2 million of assets located in Florida and the remaining $15,000 located in Alabama.
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Table 15 shows the summary of foreclosed assets held for sale as of December 31, 2015, 2014, 2013, 2012 and 2011.
Table 15: Total Foreclosed Assets Held For Sale
Total foreclosed assets held for sale
A loan is considered impaired when it is probable that we will not receive all amounts due according to the contracted terms of the loans. Impaired loans include non-performing loans (loans past due 90 days or more and non-accrual loans), criticized and/or classified loans with a specific allocation, loans categorized as TDRs and certain other loans identified by management that are still performing (loans included in multiple categories are only included once). As of December 31, 2015, average non-covered impaired loans were $88.1 million compared to $91.8 million as of December 31, 2014. As of December 31, 2015, non-covered impaired loans were $91.6 million compared to $85.4 million as of December 31, 2014, for an increase of $6.1 million. This increase is primarily associated with the increase in loan balances with a specific allocation offset by a decrease in the level of loans categorized as TDRs. As of December 31, 2015, our Arkansas, Florida, Alabama and Centennial CFG markets accounted for approximately $41.1 million, $50.4 million, $132,000 and zero of the non-covered impaired loans, respectively.
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We evaluated loans purchased in conjunction with our historical acquisitions for impairment in accordance with the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. Purchased loans are considered impaired if there is evidence of credit deterioration since origination and if it is probable that not all contractually required payments will be collected. Purchased impaired non-covered loans are not classified as non-performing non-covered assets for the recognition of interest income as the pools are considered to be performing. However, for the purpose of calculating the non-performing credit metrics, we have included all of the non-covered loans which are contractually 90 days past due and still accruing, including those in performing pools. Therefore, interest income, through accretion of the difference between the carrying amount of the loans and the expected cash flows, is being recognized on all purchased impaired loans.
All non-covered loans acquired with deteriorated credit quality are considered impaired loans at the date of acquisition. Since the loans are accounted for on a pooled basis under ASC 310-30, individual loans are not classified as impaired. Since the loans are accounted for on a pooled basis under ASC 310-30, individual loans subsequently restructured within the pools are not classified as TDRs in accordance with ASC 310-30-40. For non-covered loans acquired with deteriorated credit quality that were deemed TDRs prior to our acquisition of them, these loans are also not considered TDRs as they are accounted for under ASC 310-30.
Past Due and Non-Accrual Loans
As of December 31, 2015 and 2014, there was not a material amount of non-covered loans acquired with deteriorated credit quality on non-accrual status as a result of most of the loans being accounted for on the pool basis and the pools are considered to be performing for the accruing of interest income. Also, acquired loans contractually past due 90 days or more are accruing interest because the pools are considered to be performing for the purpose of accruing interest income.
Table 16 shows the summary non-accrual loans as of December 31, 2015, 2014, 2013, 2012 and 2011:
Table 16: Total Non-Accrual Loans
Total non-accrual loans
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If the non-accrual non-covered loans had been accruing interest in accordance with the original terms of their respective agreements, interest income of approximately $1.8 million for the year ended December 31, 2015, $1.3 million in 2014, and $1.2 million in 2013 would have been recorded. Interest income recognized on the non-accrual non-covered loans for the years ended December 31, 2015, 2014 and 2013 was considered immaterial.
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Table 17 shows the summary of accruing past due loans 90 days or more as of December 31, 2015, 2014, 2013, 2012 and 2011:
Table 17: Total Loans Accruing Past Due 90 Days or More
Total loans accruing past due 90 days or more
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Our total covered loans accruing past due 90 days or more and non-accrual covered loans to total covered loans was 5.3% and 9.4% as of December 31, 2015 and 2014, respectively.
Allowance for Loan Losses
Overview. The allowance for loan losses for non-covered loans is maintained at a level which our management believes is adequate to absorb all probable losses on loans in the loan portfolio. The amount of the allowance is affected by: (i) loan charge-offs, which decrease the allowance; (ii) recoveries on loans previously charged off, which increase the allowance; and (iii) the provision of possible loan losses charged to income, which increases the allowance. In determining the provision for possible loan losses, it is necessary for our management to monitor fluctuations in the allowance resulting from actual charge-offs and recoveries and to periodically review the size and composition of the loan portfolio in light of current and anticipated economic conditions. If actual losses exceed the amount of allowance for loan losses for non-covered loans, our earnings could be adversely affected.
As we evaluate the allowance for loan losses for non-covered loans, we categorize it as follows: (i) specific allocations; (ii) allocations for criticized and classified assets not individually evaluated for impairment; (iii) general allocations; and (iv) miscellaneous allocations.
Specific Allocations. As a general rule, if a specific allocation is warranted, it is the result of an analysis of a previously classified credit or relationship. Typically, when it becomes evident through the payment history or a financial statement review that a loan or relationship is no longer supported by the cash flows of the asset and/or borrower and has become collateral dependent, we will use appraisals or other collateral analysis to determine if collateral impairment has occurred. The amount or likelihood of loss on this credit may not yet be evident, so a charge-off would not be prudent. However, if the analysis indicates that an impairment has occurred, then a specific allocation will be determined for this loan. If our existing appraisal is outdated or the collateral has been subject to significant market changes, we will obtain a new appraisal for this impairment analysis. The majority of our impaired loans are collateral dependent at the present time, so third-party appraisals were used to determine the necessary impairment for these loans. Cash flow available to service debt was used for the other impaired loans. This analysis is performed each quarter in connection with the preparation of the analysis of the adequacy of the allowance for loan losses for non-covered loans, and if necessary, adjustments are made to the specific allocation provided for a particular loan.
For collateral dependent loans, we do not consider an appraisal outdated simply due to the passage of time. However, if an appraisal is older than 13 months and if market or other conditions have deteriorated and we believe that the current market value of the property is not within approximately 20% of the appraised value, we will consider the appraisal outdated and order a new appraisal for the impairment analysis. The recognition of any provision or related charge-off on a collateral dependent loan is either through annual credit analysis or, many times, when the relationship becomes delinquent. If the borrower is not current, we will update our credit and cash flow analysis to determine the borrower’s repayment ability. If we determine this ability does not exist and it appears that the collection of the entire principal and interest is not likely, then the loan could be placed on non-accrual status. In any case, loans are classified as non-accrual no later than 105 days past due. If the loan requires a quarterly impairment analysis, this analysis is completed in conjunction with the completion of the analysis of the adequacy of the allowance for loan losses for non-covered loans. Any exposure identified through the impairment analysis is shown as a specific reserve on the individual impairment. If it is determined that a new appraisal is required, it is ordered and will be taken into consideration during completion of the next impairment analysis.
In estimating the net realizable value of the collateral, management may deem it appropriate to discount the appraisal based on the applicable circumstances. In such case, the amount charged off may result in loan principal outstanding being below fair value as presented in the appraisal.
Between the receipt of the original appraisal and the updated appraisal, we monitor the loan’s repayment history. If the loan is over $1.0 million or greater or the total loan relationship is $2.0 million or greater, our policy requires an annual credit review. Our policy requires financial statements from the borrowers and guarantors at least annually. In addition, we calculate the global repayment ability of the borrower/guarantors at least annually.
As a general rule, when it becomes evident that the full principal and accrued interest of a loan may not be collected, or by law at 105 days past due, we will reflect that loan as non-performing. It will remain non-performing until it performs in a manner that it is reasonable to expect that we will collect the full principal and accrued interest.
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When the amount or likelihood of a loss on a loan has been determined, a charge-off should be taken in the period it is determined. If a partial charge-off occurs, the quarterly impairment analysis will determine if the loan is still impaired, and thus continues to require a specific allocation.
Allocations for Criticized and Classified Assets not Individually Evaluated for Impairment. We establish allocations for loans rated “special mention” through “loss” in accordance with the guidelines established by the regulatory agencies. A percentage rate is applied to each loan category to determine the level of dollar allocation.
General Allocations. We establish general allocations for each major loan category. This section also includes allocations to loans, which are collectively evaluated for loss such as residential real estate, commercial real estate, consumer loans and commercial and industrial loans that fall below $2.0 million. The allocations in this section are based on a historical review of loan loss experience and past due accounts. We give consideration to trends, changes in loan mix, delinquencies, prior losses, and other related information.
Miscellaneous Allocations. Allowance allocations other than specific, classified, and general are included in our miscellaneous section.
Loans Collectively Evaluated for Impairment. Non-covered loans collectively evaluated for impairment increased by approximately $1.77 billion from $4.51 billion at December 31, 2014 to $6.28 billion at December 31, 2015. The percentage of the allowance for loan losses for non-covered loans allocated to non-covered loans collectively evaluated for impairment to the total non-covered loans collectively evaluated for impairment increased from 0.96% at December 31, 2014 to 0.99% at December 31, 2015. This increase is the result of the normal changes associated with the calculation of the allocation of the allowance for loan losses and includes routine changes from the previous year end reporting period such as organic loan growth, unallocated allowance, asset quality and net charge-offs.
Charge-offs and Recoveries. Total non-covered charge-offs increased to $14.8 million for the year ended December 31, 2015, compared to $11.3 million for the same period in 2014. Total non-covered recoveries increased to $3.4 million for the year ended December 31, 2015, compared to $3.0 million for the same period in 2014. For the year ended December 31, 2015, the net charge-offs were $9.3 million for Arkansas, $1.6 million for Florida, and $367,000 for Alabama, respectively, equaling a net charge-off position of $11.3 million.
The net loans charged off for non-covered loans for the years ended December 31, 2015, 2014 and 2013 were $11.3 million, $8.3 million and $10.3 million. For the years ended December 31, 2015, 2014 and 2013, approximately $9.3 million, $5.1 million and $8.5 million, respectively, of the net charge-offs are from our Arkansas market. For the years ended December 31, 2015, 2014 and 2013, approximately $1.6 million, $2.9 million and $1.8 million, respectively, of the net charge-offs are from our Florida market. The remaining $367,000, $347,000 and $22,000 relates to net charge-offs on loans in our Alabama market for the years ended December 31, 2015, 2014 and 2013, respectively.
During 2015, there were $14.8 million in non-covered charge-offs and $3.4 million in non-covered recoveries. While these charge-offs and recoveries consisted of many relationships, there were no individual relationships consisting of charge-offs greater than $1.0 million.
During 2014, there were $11.3 million in charge-offs and $3.0 million in recoveries. While the charge-offs and recoveries consisted of many relationships, there was one individual relationship consisting of a charge-off greater than $1.0 million. The relationship is a Florida relationship consisting of one non-farm/non-residential real estate loan for approximately $1.0 million of debt. The total amount of the charge-off related to this relationship was $1.0 million during 2014.
We have not charged off an amount less than what was determined to be the fair value of the collateral as presented in the appraisal, less estimated costs to sell (for collateral dependent loans), for any period presented. Loans partially charged-off are placed on non-accrual status until it is proven that the borrower’s repayment ability with respect to the remaining principal balance can be reasonably assured. This is usually established over a period of 6-12 months of timely payment performance.
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Table 18 shows the allowance for loan losses, charge-offs and recoveries for non-covered loans as of and for the years ended December 31, 2015, 2014, 2013, 2012 and 2011.
Table 18: Analysis of Allowance for Loan Losses for Non-Covered Loans
Balance, beginning of year
Loans charged off
Total loans charged off
Recoveries of loans previously charged off
Total recoveries
Net loans charged off (recovered)
Provision for loan losses for non-covered loans
Reclass of provision for loan losses attributable to FDIC loss share agreements
Balance, end of year
Net charge-offs (recoveries) on loans not covered by loss share to average non-covered loans
Allowance for loan losses for non-covered loans to total non-covered loans(1)
Allowance for loan losses for non-covered loans to net charge-offs (recoveries)
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Allocated Allowance for Loan Losses for Non-Covered Loans. We use a risk rating and specific reserve methodology in the calculation and allocation of our allowance for loan losses for non-covered loans. While the allowance is allocated to various loan categories in assessing and evaluating the level of the allowance, the allowance is available to cover charge-offs incurred in all loan categories. Because a portion of our portfolio has not matured to the degree necessary to obtain reliable loss data from which to calculate estimated future losses, the unallocated portion of the allowance is an integral component of the total allowance. Although unassigned to a particular credit relationship or product segment, this portion of the allowance is vital to safeguard against the imprecision inherent in estimating credit losses.
The changes for the years ended December 31, 2015 and 2014 in the allocation of the allowance for loan losses for non-covered loans for the individual types of loans are primarily associated with changes in the ASC 310 calculations, both individual and aggregate, and changes in the ASC 450 calculations. These calculations are affected by changes in individual loan impairments, changes in asset quality, net charge-offs during the period and normal changes in the outstanding loan portfolio, as well any changes to the general allocation factors due to changes within the actual characteristics of the loan portfolio.
Table 19 presents the allocation of allowance for loan losses for non-covered loans as of December 31, 2015, 2014, 2013, 2012 and 2011.
Table 19: Allocation of Allowance for Loan Losses for Non-Covered Loans
Non-farm/non- residential
Unallocated
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Allowance for Loan Losses for Covered Loans
Allowance for loan losses for covered loans were $2.6 million, $2.5 million and $4.8 million at December 31, 2015, 2014 and 2013, respectively.
Total charge-offs for covered loans decreased to $1.2 million for the year ended December 31, 2015, compared to $2.8 million for the same period in 2014. Total recoveries for covered loans decreased to $94,000 for the year ended December 31, 2015, compared to $734,000 for the same period in 2014.
Total charge-offs for covered loans decreased to $2.8 million for the year ended December 31, 2014, compared to $5.3 million for the same period in 2013. Total recoveries for covered loans increased to $734,000 for the year ended December 31, 2014, compared to $200,000 for the same period in 2013.
There were $998,000, $904,000 and $991,000 of provision for loan losses taken on covered loans during the year ended December 31, 2015, 2014 and 2013, respectively.
Table 20 shows the allowance for loan losses, charge-offs and recoveries for covered loans as of and for the years ended December 31, 2015, 2014, 2013, 2012 and 2011.
Table 20: Analysis of Allowance for Loan Losses for Covered Loans
Provision for loan losses forecasted outside of loss share
Provision for loan losses before benefit attributable to FDIC loss share agreements
Benefit attributable to FDIC loss share agreements
Net provision for loan losses for covered loans
Increase (decrease) in FDIC indemnification asset
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Investment Securities
Our securities portfolio is the second largest component of earning assets and provides a significant source of revenue. Securities within the portfolio are classified as held-to-maturity, available-for-sale, or trading based on the intent and objective of the investment and the ability to hold to maturity. Fair values of securities are based on quoted market prices where available. If quoted market prices are not available, estimated fair values are based on quoted market prices of comparable securities. The estimated effective duration of our securities portfolio was 2.6 years as of December 31, 2015.
As of December 31, 2015 and 2014 we had $309.0 million and $356.8 million of held-to-maturity securities, respectively. Of the $309.0 million of held-to-maturity securities, $7.4 million were invested in U.S. Government- sponsored enterprises, $134.2 million were invested in mortgage-backed securities and $167.5 million were invested in state and political subdivisions as of December 31, 2015. Of the $356.8 million of held-to-maturity securities, $4.7 million were invested in U.S. Government- sponsored enterprises, $161.1 million were invested in mortgage-backed securities and $191.0 million were invested in state and political subdivisions as of December 31, 2014.
Securities available-for-sale are reported at fair value with unrealized holding gains and losses reported as a separate component of stockholders’ equity as other comprehensive income. Securities that are held as available-for-sale are used as a part of our asset/liability management strategy. Securities that may be sold in response to interest rate changes, changes in prepayment risk, the need to increase regulatory capital, and other similar factors are classified as available-for-sale. Available-for-sale securities were $1.21 billion and $1.07 billion as of December 31, 2015 and 2014, respectively.
As of December 31, 2015, $565.3 million, or 46.9%, of our available-for-sale securities were invested in mortgage-backed securities, compared to $503.1 million, or 47.1%, of our available-for-sale securities as of December 31, 2014. To reduce our income tax burden, $219.1 million, or 18.2%, of our available-for-sale securities portfolio as of December 31, 2015, was primarily invested in tax-exempt obligations of state and political subdivisions, compared to $176.6 million, or 16.6%, of our available-for-sale securities as of December 31, 2014. Also, we had approximately $368.5 million, or 30.5%, invested in obligations of U.S. Government-sponsored enterprises as of December 31, 2015, compared to $336.1 million, or 31.5%, of our available-for-sale securities as of December 31, 2014.
Certain investment securities are valued at less than their historical cost. These declines are primarily the result of the rate for these investments yielding less than current market rates. Based on evaluation of available evidence, we believe the declines in fair value for these securities are temporary. It is our intent to hold these securities to recovery. Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other than temporary impairment is identified.
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Table 21 presents the carrying value and fair value of investment securities as of December 31, 2015, 2014, 2013, 2012 and 2011.
Table 21: Investment Securities
Available-for-sale
U.S. government- sponsored enterprises
Residential mortgage-backed securities
Commercial mortgage-backed securities
State and political subdivisions
Other securities
Held-to-maturity
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Table 22 reflects the amortized cost and estimated fair value of debt securities as of December 31, 2015, by contractual maturity and the weighted average yields (for tax-exempt obligations on a fully taxable equivalent basis) of those securities. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations, with or without call or prepayment penalties.
Table 22: Maturity Distribution of Investment Securities
U.S. Government-sponsored enterprises
Percentage of total amortized cost
Weighted average yield
Deposits
Our deposits averaged $5.96 billion for the year ended December 31, 2015, and $5.31 billion for 2014. Total deposits increased $1.02 billion, or 18.7%, to $6.44 billion as of December 31, 2015, from $5.42 billion as of December 31, 2014. Deposits are our primary source of funds. We offer a variety of products designed to attract and retain deposit customers. Those products consist of checking accounts, regular savings deposits, NOW accounts, money market accounts and certificates of deposit. Deposits are gathered from individuals, partnerships and corporations in our market areas. In addition, we obtain deposits from state and local entities and, to a lesser extent, U.S. Government and other depository institutions.
Our policy also permits the acceptance of brokered deposits. From time to time, when appropriate in order to fund strong loan demand, we accept brokered time deposits, generally in denominations of less than $250,000, from a regional brokerage firm, and other national brokerage networks. Additionally, we participate in the Certificates of Deposit Account Registry Service (“CDARS”), which provides for reciprocal (“two-way”) transactions among banks for the purpose of giving our customers the potential for FDIC insurance of up to $50.0 million. Although classified as brokered deposits for regulatory purposes, funds placed through the CDARS program are our customer relationships that management views as core funding. We also participate in the One-Way Buy Insured Cash Sweep (“ICS”) service, which provides for one-way buy transactions among banks for the purpose of purchasing cost-effective floating-rate funding without collateralization or stock purchase requirements. Management believes these sources represent a reliable and cost efficient alternative funding source. However, to the extent that our condition or reputation deteriorates, or to the extent that there are significant changes in market interest rates which we do not elect to match, we may experience an outflow of brokered deposits. In that event we would be required to obtain alternate sources for funding.
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Table 23 reflects the classification of the brokered deposits as of December 31, 2015 and 2014.
Table 23: Brokered Deposits
Time Deposits
CDARS
Insured Cash Sweep Transaction Accounts
Total Brokered Deposits
The interest rates paid are competitively priced for each particular deposit product and structured to meet our funding requirements. We will continue to manage interest expense through deposit pricing. We may allow higher rate deposits to run off during periods of limited loan demand. We believe that additional funds can be attracted and deposit growth can be realized through deposit pricing if we experience increased loan demand or other liquidity needs.
Table 24 reflects the classification of the average deposits and the average rate paid on each deposit category which is in excess of 10 percent of average total deposits, for the years ended December 31, 2015, 2014, and 2013.
Table 24: Average Deposit Balances and Rates
Non-interest-bearing transaction accounts
Interest-bearing transaction accounts
Savings deposits
Time deposits:
$100,000 or more
Other time deposits
Table 25 presents our maturities of large denomination time deposits as of December 31, 2015 and 2014.
Table 25: Maturities of Large Denomination Time Deposits ($100,000 or more)
Maturing
Three months or less
Over three months to six months
Over six months to 12 months
Over 12 months
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Securities Sold Under Agreements to Repurchase
We enter into short-term purchases of securities under agreements to resell (resale agreements) and sales of securities under agreements to repurchase (repurchase agreements) of substantially identical securities. The amounts advanced under resale agreements and the amounts borrowed under repurchase agreements are carried on the balance sheet at the amount advanced. Interest incurred on repurchase agreements is reported as interest expense. Securities sold under agreements to repurchase decreased $48.1 million, or 27.2%, from $176.5 million as of December 31, 2014 to $128.4 million as of December 31, 2015.
FHLB Borrowings
Our FHLB borrowed funds, which are secured by our loan portfolio, were $1.41 billion and $698.0 million at December 31, 2015 and 2014, respectively. At December 31, 2015, all $1.41 billion of the outstanding balance were issued as long-term advances. At December 31, 2014, $515.0 million and $183.0 million of the outstanding balance were issued as short-term and long-term advances, respectively. Our remaining FHLB borrowing capacity was $581.9 million and $905.6 million as of December 31, 2015 and 2014, respectively. Because our year end borrowing capacity was calculated based upon September 30, 2015 loan balances, we anticipate receiving additional borrowing capacity during the first quarter of 2016 of approximately $222.6 million as a result of our fourth quarter of 2015 organic loan growth and acquisition of FBBI. Maturities of borrowings as of December 31, 2015 include: 2016 – $16.0 million; 2017 – $960.5 million; 2018 – $169.3 million; 2019 – $128.2 million; 2020 – $131.4 million; after 2020 – $493,000. Expected maturities will differ from contractual maturities because FHLB may have the right to call or we may have the right to prepay certain obligations.
Subordinated Debentures
Subordinated debentures, which consist of guaranteed payments on trust preferred securities, were $60.8 million as of both December 31, 2015 and 2014.
The trust preferred securities are tax-advantaged issues that qualify for Tier 1 capital treatment subject to certain limitations. Distributions on these securities are included in interest expense. Each of the trusts is a statutory business trust organized for the sole purpose of issuing trust securities and investing the proceeds in our subordinated debentures, the sole asset of each trust. The trust preferred securities of each trust represent preferred beneficial interests in the assets of the respective trusts and are subject to mandatory redemption upon payment of the subordinated debentures held by the trust. We wholly own the common securities of each trust. Each trust’s ability to pay amounts due on the trust preferred securities is solely dependent upon our making payment on the related subordinated debentures. Our obligations under the subordinated securities and other relevant trust agreements, in aggregate, constitute a full and unconditional guarantee by us of each respective trust’s obligations under the trust securities issued by each respective trust.
Stockholders’ Equity
Stockholders’ equity was $1.20 billion at December 31, 2015 compared to $1.02 billion at December 31, 2014, an increase of 18.2%. The increase in stockholders’ equity is primarily associated with the $100.6 million increase in retained earnings plus $83.8 million of common stock issued to the FBBI shareholders offset by the $2.8 million of comprehensive losses. As of December 31, 2015 and 2014, our equity to asset ratio was 12.9% and 13.7% respectively. Book value per share was $17.11 at December 31, 2015 compared to $15.03 at December 31, 2014, a 13.8% increase.
Common Stock Cash Dividends. We declared cash dividends on our common stock of $0.55, $0.35 and $0.29 per share for the years ended December 31, 2015, 2014 and 2013, respectively. The common stock dividend payout ratio for the year ended December 31, 2015, 2014 and 2013 was 27.19%, 20.49% and 25.51%, respectively.
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Stock Repurchase Program. During 2015, we utilized a portion of our previously approved stock repurchase program. This program authorized the repurchase of 2,376,000 shares of our common stock. During the first quarter of 2015, we repurchased a total of 67,332 shares with a weighted-average stock price of $29.89 per share. No shares were repurchased after the first quarter of 2015. The 2015 earnings were used to fund these repurchases. Shares repurchased to date under the program total 1,578,228 shares. The remaining balance available for repurchase is 797,772 shares at December 31, 2015. We did not utilize a portion of our previously approved stock repurchase program during 2014 or 2013. During the first part of 2016, we have again utilized a portion of this stock repurchase program.
Liquidity and Capital Adequacy Requirements
Parent Company Liquidity. The primary sources for payment of our operating expenses, and dividends are current cash on hand ($68.7 million as of December 31, 2015), dividends received from our bank subsidiary and a $20.0 million unfunded line of credit with another financial institution.
Risk-Based Capital. We, as well as our bank subsidiary, are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and other discretionary actions by regulators that, if enforced, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. Our capital amounts and classifications are also subject to qualitative judgments by the regulators as to components, risk weightings and other factors.
In July 2013, the Federal Reserve Board and the other federal bank regulatory agencies issued a final rule to revise their risk-based and leverage capital requirements and their method for calculating risk-weighted assets (“Basel III”). Basel III became effective for us and our bank subsidiary on January 1, 2015.
Basel III applies to all depository institutions, bank holding companies with total consolidated assets of $500 million or more, and savings and loan holding companies. Among other things, Basel III establishes a new minimum and well-capitalized “common equity Tier 1 capital” requirement of 4.5% and 6.5% of risk-weighted assets, respectively. It also raises the minimum and well-capitalized “Tier 1 risk-based capital” requirement to 6% and 8% of risk-weighted assets, respectively. Basel III changes assigned higher risk weightings (150%) to exposures that are more than 90 days past due or are on non-accrual status and certain high-volatility commercial real estate (“HVCRE”) facilities that finance the acquisition, development or construction of real property.
Basel III permanently grandfathers trust preferred securities and other non-qualifying capital instruments that were issued and outstanding as of May 19, 2010 in the Tier 1 capital of bank holding companies with total consolidated assets of less than $15.00 billion as of December 31, 2009.
Quantitative measures established by regulation to ensure capital adequacy require us to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital to risk-weighted assets, and of Tier 1 capital to average assets. Management believes that, as of December 31, 2015 and 2014, we met all regulatory capital adequacy requirements to which we were subject.
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Table 26 presents our risk-based capital ratios as of December 31, 2015 and 2014.
Table 26: Risk-Based Capital
Tier 1 capital
Goodwill and core deposit intangibles, net
Unrealized (gain) loss on available-for-sale securities
Deferred tax assets
Total common equity Tier 1 capital
Qualifying trust preferred securities
Total Tier 1 capital
Tier 2 capital
Qualifying allowance for loan losses
Total Tier 2 capital
Total risk-based capital
Average total assets for leverage ratio
Risk weighted assets
Ratios at end of period
Leverage ratio
Tier 1 risk-based capital
Minimum guidelines
Well-capitalized guidelines
As of the most recent notification from regulatory agencies, our bank subsidiary was “well-capitalized” under the regulatory framework for prompt corrective action. To be categorized as “well-capitalized”, we, as well as our banking subsidiary, must maintain minimum common equity Tier 1 capital, leverage, Tier 1 risk-based capital, and total risk-based capital ratios as set forth in the table. There are no conditions or events since that notification that we believe have changed the bank subsidiary’s category.
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Table 27 presents actual capital amounts and ratios as of December 31, 2015 and 2014, for our bank subsidiary and us.
Table 27: Capital and Ratios
Common equity Tier 1 capital ratios:
Leverage ratios:
Tier 1 capital ratios:
Total risk-based capital ratios:
As of December 31, 2014
Off-Balance Sheet Arrangements and Contractual Obligations
In the normal course of business, we enter into a number of financial commitments. Examples of these commitments include but are not limited to operating lease obligations, FHLB advances, lines of credit, subordinated debentures, unfunded loan commitments and letters of credit.
Commitments to extend credit and letters of credit are legally binding, conditional agreements generally having certain expiration or termination dates. These commitments generally require customers to maintain certain credit standards and are established based on management’s credit assessment of the customer. The commitments may expire without being drawn upon. Therefore, the total commitment does not necessarily represent future requirements.
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing and similar transactions. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. The Company had total outstanding letters of credit amounting to $24.3 million and $23.2 million at December 31, 2015 and 2014, respectively, with maturities ranging from currently due to four years.
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Table 28 presents the funding requirements of our most significant financial commitments, excluding interest, as of December 31, 2015.
Table 28: Funding Requirements of Financial Commitments
Operating lease obligations
FHLB advances by contractual maturity
Loan commitments
Letters of credit
Non-GAAP Financial Measurements
Our accounting and reporting policies conform to generally accepted accounting principles in the United States (“GAAP”) and the prevailing practices in the banking industry. However, due to the application of purchase accounting from our significant number of historical acquisitions (especially Liberty), we believe certain non-GAAP measures and ratios that exclude the impact of these items are useful to the investors and users of our financial statements to evaluate our performance, including net interest margin and the allowance for loan losses for non-covered loans to total non-covered loans.
Because of our significant number of historical acquisitions, our net interest margin and the allowance for loan losses for non-covered loans to total non-covered loans were impacted by accretion and amortization of the fair value adjustments recorded in purchase accounting. The accretion and amortization affect certain operating ratios as we accrete loan discounts to interest income and amortize premiums and discounts on time deposits to interest expense.
We had $1.69 billion of purchased non-covered loans, which includes $139.5 million of discount for credit losses on non-covered loans acquired, at December 31, 2015. We have $59.6 million and $79.9 million remaining of non-accretable discount for credit losses on non-covered loans acquired and accretable discount for credit losses on non-covered loans acquired, respectively, as of December 31, 2015. We had $1.77 billion of purchased non-covered loans, which includes $139.7 million of discount for credit losses on non-covered loans acquired, at December 31, 2014. For purchased credit-impaired financial assets, GAAP requires a discount embedded in the purchase price that is attributable to the expected credit losses at the date of acquisition, which is a different approach from non-purchased-credit-impaired assets. While the discount for credit losses on purchased non-covered loans is not available for credit losses on non-purchased non-covered loans, management believes it is useful information to show the same accounting as if applied to all loans, including those acquired in a business combination.
We believe these non-GAAP measures and ratios, when taken together with the corresponding GAAP measures and ratios, provide meaningful supplemental information regarding our performance. We believe investors benefit from referring to these non-GAAP measures and ratios in assessing our operating results and related trends, and when planning and forecasting future periods. However, these non-GAAP measures and ratios should be considered in addition to, and not as a substitute for or preferable to, ratios prepared in accordance with GAAP. In Tables 29 through 32 below, we have provided a reconciliation of, where applicable, the most comparable GAAP financial measures and ratios to the non-GAAP financial measures and ratios, or a reconciliation of the non-GAAP calculation of the financial measure for the periods indicated:
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Table 29: Average Yield on Loans
Interest income on loans receivable – FTE
Purchase accounting accretion
Non-GAAP interest income on loans receivable – FTE
Average loans
Average purchase accounting loan discounts (1)
Average loans (non-GAAP)
Average yield on loans (reported)
Average contractual yield on loans (non-GAAP)
Table 30: Average Cost of Deposits
Interest expense on deposits
Amortization of time deposit (premiums)/discounts, net
Non-GAAP interest expense on deposits
Average interest-bearing deposits
Average unamortized CD (premium)/discount, net
Average interest-bearing deposits (non-GAAP)
Average cost of deposits (reported)
Average contractual cost of deposits (non-GAAP)
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Table 31: Net Interest Margin
Net interest income – FTE
Total purchase accounting accretion
Non-GAAP net interest income – FTE
Average interest-earning assets
Average purchase accounting loan discounts(1)
Average interest-earning assets (non-GAAP)
Net interest margin (reported)
Net interest margin (non-GAAP)
Table 32: Allowance for Loan Losses for Non-Covered Loans to Total Non-Covered Loans
Loan balance reported (A)
Loan balance reported plus discount (B)
Allowance for loan losses for non-covered loans (C)
Discount for credit losses on non-covered loans acquired (D)
Total allowance for loan losses for non-covered loans plus discount for credit losses on non-covered loans acquired (E)
Allowance for loan losses for non-covered loans to total non-covered loans (C/A)
Discount for credit losses on non-covered loans acquired to non-covered loans acquired plus discount for credit losses on non-covered loans acquired (D/B)
Allowance for loan losses for non-covered loans plus discount for credit losses on non-covered loans acquired to total non-covered loans plus discount for credit losses on non-covered loans acquired (E/B)
Note: Discount for credit losses on purchased credit impaired loans acquired are accounted for on a pool by pool basis and are not available to cover credit losses on non-acquired loans or other pools.
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We had $399.4 million, $346.3 million, and $324.0 million total goodwill, core deposit intangibles and other intangible assets as of December 31, 2015, 2014 and 2013, respectively. Because of our level of intangible assets and related amortization expenses, management believes diluted earnings per common share excluding intangible amortization, tangible book value per common share, return on average assets excluding intangible amortization, return on average tangible common equity excluding intangible amortization and tangible common equity to tangible assets are useful in evaluating our company. These calculations, which are similar to the GAAP calculation of diluted earnings per common share, book value, return on average assets, return on average common equity, and common equity to assets, are presented in Tables 33 through 37, respectively.
Table 33: Diluted Earnings Per Common Share Excluding Intangible Amortization
GAAP net income available to common stockholders
Intangible amortization after-tax
Earnings available to common stockholders excluding intangible amortization
GAAP diluted earnings per common share
Diluted earnings per common share excluding intangible amortization
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Table 34: Tangible Book Value Per Common Share
Book value per common share: A/B
Tangible book value per common share: (A-C-D)/B
(A) Total common equity
(B) Common shares outstanding
(C) Goodwill
(D) Core deposit and other intangibles
Table 35: Return on Average Assets Excluding Intangible Amortization
Return on average assets: A/C
Return on average assets excluding intangible amortization: B/(C-D)
(A) Net income
(B) Earnings excluding intangible amortization
(C) Average assets
(D) Average goodwill, core deposits and other intangible assets
Table 36: Return on Average Tangible Common Equity Excluding Intangible Amortization
Return on average common equity: A/C
Return on average tangible common equity: B/(C-D)
(A) Net income available to common stockholders
(B) Earnings available to common stockholders excluding intangible amortization
(C) Average common equity
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Table 37: Tangible Common Equity to Tangible Assets
Equity to assets: B/A
Tangible equity to tangible assets: (B-C-D)/(A-C-D)
(A) Total assets
(B) Total equity
Table 38 presents selected unaudited quarterly financial information for 2015 and 2014.
Table 38: Quarterly Results
Income tax expense
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Recent Accounting Pronouncements
See Note 27 to the Notes to Consolidated Financial Statements for a discussion of certain recent accounting pronouncements.
Liquidity and Market Risk Management
Liquidity Management. Liquidity refers to the ability or the financial flexibility to manage future cash flows to meet the needs of depositors and borrowers and fund operations. Maintaining appropriate levels of liquidity allows us to have sufficient funds available for reserve requirements, customer demand for loans, withdrawal of deposit balances and maturities of deposits and other liabilities. Our primary source of liquidity at our holding company is dividends paid by our bank subsidiary. Applicable statutes and regulations impose restrictions on the amount of dividends that may be declared by our bank subsidiary. Further, any dividend payments are subject to the continuing ability of the bank subsidiary to maintain compliance with minimum federal regulatory capital requirements and to retain its characterization under federal regulations as a “well-capitalized” institution.
Our bank subsidiary has potential obligations resulting from the issuance of standby letters of credit and commitments to fund future borrowings to our loan customers. Many of these obligations and commitments to fund future borrowings to our loan customers are expected to expire without being drawn upon; therefore, the total commitment amounts do not necessarily represent future cash requirements affecting our liquidity position.
Liquidity needs can be met from either assets or liabilities. On the asset side, our primary sources of liquidity include cash and due from banks, federal funds sold, available-for-sale investment securities and scheduled repayments and maturities of loans. We maintain adequate levels of cash and cash equivalents to meet our day-to-day needs. As of December 31, 2015, our cash and cash equivalents were $255.8 million, or 2.8% of total assets, compared to $112.5 million, or 1.5% of total assets, as of December 31, 2014. Our available-for-sale investment securities and federal funds sold were $1.21 billion as of December 31, 2015 and $1.07 billion as of December 31, 2014.
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Our investment portfolio is comprised of approximately 77.6% or $1.18 billion of securities which mature in less than five years. As of December 31, 2015 and 2014, $1.25 billion and $1.23 billion, respectively, of securities were pledged as collateral for various public fund deposits and securities sold under agreements to repurchase.
Our commercial and real estate lending activities are concentrated in loans with maturities of less than five years. As of December 31, 2015, approximately $3.04 billion, or 45.7% of our total loans matured within one year and/or had adjustable interest rates. A loan is considered fixed rate if the loan is currently at its adjustable floor or ceiling. Additionally, we maintain loan participation agreements with other financial institutions in which we could participate out loans for additional liquidity should the need arise.
On the liability side, our principal sources of liquidity are deposits, borrowed funds, and access to capital markets. Customer deposits are our largest sources of funds. As of December 31, 2015, our total deposits were $6.44 billion, or 69.3% of total assets, compared to $5.42 billion, or 73.3% of total assets, as of December 31, 2014. We attract our deposits primarily from individuals, business, and municipalities located in our market areas.
We may occasionally use our Fed funds lines of credit in order to temporarily satisfy short-term liquidity needs. We have Fed funds lines with three other financial institutions pursuant to which we could have borrowed up to $60.0 million on an unsecured basis as of December 31, 2015. We had Fed funds lines with two other financial institutions pursuant to which we could have borrowed up to $35.0 million on an unsecured basis as of December 31, 2014. These lines may be terminated by the respective lending institutions at any time.
We also maintain lines of credit with the Federal Home Loan Bank. Our FHLB borrowed funds were, which are secured by our loan portfolio, $1.41 billion and $698.0 million at December 31, 2015 and 2014, respectively. At December 31, 2015, all $1.41 billion of the outstanding balance were issued as long-term advances. At December 31, 2014, $515.0 million and $183.0 million of the outstanding balance were short-term and long-term advances, respectively. Our FHLB borrowing capacity was $581.9 million and $905.6 million as of December 31, 2015 and 2014, respectively.
We believe that we have sufficient liquidity to satisfy our current operations.
Market Risk Management. Our primary component of market risk is interest rate volatility. Fluctuations in interest rates will ultimately impact both the level of income and expense recorded on a large portion of our assets and liabilities, and the market value of all interest-earning assets and interest-bearing liabilities, other than those which possess a short term to maturity. We do not hold market risk sensitive instruments for trading purposes.
Asset/Liability Management. Our management actively measures and manages interest rate risk. The asset/liability committees of the boards of directors of our holding company and bank subsidiary are also responsible for approving our asset/liability management policies, overseeing the formulation and implementation of strategies to improve balance sheet positioning and earnings, and reviewing our interest rate sensitivity position.
One of the tools that our management uses to measure short-term interest rate risk is a net interest income simulation model. This analysis calculates the difference between net interest income forecasted using base market rates and using a rising and a falling interest rate scenario. The income simulation model includes various assumptions regarding the re-pricing relationships for each of our products. Many of our assets are floating rate loans, which are assumed to re-price immediately, and proportional to the change in market rates, depending on their contracted index. Some loans and investments include the opportunity of prepayment (embedded options), and accordingly the simulation model uses indexes to estimate these prepayments and reinvest their proceeds at current yields. Our non-term deposit products re-price more slowly, usually changing less than the change in market rates and at our discretion.
This analysis indicates the impact of changes in net interest income for the given set of rate changes and assumptions. It assumes the balance sheet remains static and that its structure does not change over the course of the year. It does not account for all factors that impact this analysis, including changes by management to mitigate the impact of interest rate changes or secondary impacts such as changes to our credit risk profile as interest rates change.
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Furthermore, loan prepayment rate estimates and spread relationships change regularly. Interest rate changes create changes in actual loan prepayment rates that will differ from the market estimates incorporated in this analysis. Changes that vary significantly from the assumptions may have significant effects on our net interest income.
For the rising and falling interest rate scenarios, the base market interest rate forecast was increased and decreased over twelve months by 200 and 100 basis points, respectively. At December 31, 2015, our net interest margin exposure related to these hypothetical changes in market interest rates was within the current guidelines established by us.
Table 39 presents our sensitivity to net interest income as of December 31, 2015.
Table 39: Sensitivity of Net Interest Income
Interest Rate Scenario
Up 200 basis points
Up 100 basis points
Down 100 basis points
Down 200 basis points
Interest Rate Sensitivity. Our primary business is banking and the resulting earnings, primarily net interest income, are susceptible to changes in market interest rates. It is management’s goal to maximize net interest income within acceptable levels of interest rate and liquidity risks.
A key element in the financial performance of financial institutions is the level and type of interest rate risk assumed. The single most significant measure of interest rate risk is the relationship of the repricing periods of earning assets and interest-bearing liabilities. The more closely the repricing periods are correlated, the less interest rate risk we assume. We use repricing gap and simulation modeling as the primary methods in analyzing and managing interest rate risk.
Gap analysis attempts to capture the amounts and timing of balances exposed to changes in interest rates at a given point in time. As of December 31, 2015, our gap position was asset sensitive with a one-year cumulative repricing gap as a percentage of total earning assets of 1.1%. During this period, the amount of change our asset base realizes in relation to the total change in market interest rates is higher than that of the liability base. As a result, our net interest income will have a positive effect in an environment of modestly rising rates.
We have a portion of our securities portfolio invested in mortgage-backed securities. Mortgage-backed securities are included based on their final maturity date. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
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Table 40 presents a summary of the repricing schedule of our interest-earning assets and interest-bearing liabilities (gap) as of December 31, 2015.
Table 40: Interest Rate Sensitivity
Earning assets
Interest-bearing deposits due from banks
Investment securities
Total earning assets
Securities sold under repurchase agreements
Interest rate sensitivity gap
Cumulative interest rate sensitivity gap
Cumulative rate sensitive assets to rate sensitive liabilities
Cumulative gap as a % of total earning assets
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Management’s Report on Internal Control Over Financial Reporting
The management of Home BancShares, Inc. (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation and fair presentation of the Company’s financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America.
Because of inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Accordingly, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2015. In making this assessment, management used the criteria set forth in Internal Control – Integrated Framework (2013 edition) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this assessment, management has determined that the Company’s internal control over financial reporting as of December 31, 2015 is effective based on the specified criteria.
BKD, LLP, the independent registered public accounting firm that audited the consolidated financial statements of the Company included in this Annual Report on Form 10-K, has issued an attestation report on the effectiveness of the Company’s internal control over financial reporting as of December 31, 2015. The report, which expresses an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting as of December 31, 2015, is included herein.
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Report of Independent Registered Public Accounting Firm
Audit Committee, Board of Directors and Stockholders
Conway, Arkansas
We have audited the accompanying consolidated balance sheets of Home BancShares, Inc. (the Company) as of December 31, 2015 and 2014, and the related consolidated statements of income, comprehensive income, stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2015. The Company’s management is responsible for these financial statements. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. Our audits included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Home BancShares, Inc. as of December 31, 2015 and 2014, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2015, in conformity with accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Home BancShares, Inc.’s internal control over financial reporting as of December 31, 2015, based on criteria established in Internal Control – Integrated Framework (2013 edition) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated February 26, 2016, expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
/s/ BKD, LLP
Little Rock, Arkansas
February 26, 2016
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We have audited Home BancShares, Inc.’s (the Company) internal control over financial reporting as of December 31, 2015, based on criteria established in Internal Control – Integrated Framework (2013 edition) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles in the United States of America. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that the receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Home BancShares, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2015, based on criteria established in Internal Control – Integrated Framework (2013 edition) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements of Home BancShares, Inc. and our report dated February 26, 2016, expressed an unqualified opinion thereon.
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Consolidated Balance Sheets
(In thousands, except share data)
Cash and due from banks
Interest-bearing deposits with other banks
Cash and cash equivalents
Loans receivable, net
Bank premises and equipment, net
Foreclosed assets held for sale not covered by loss share
Foreclosed assets held for sale covered by FDIC loss share
FDIC indemnification asset
Cash value of life insurance
Accrued interest receivable
Deferred tax asset, net
Goodwill
Core deposit and other intangibles
Other assets
Liabilities:
Deposits:
Demand and non-interest-bearing
Securities sold under agreements to repurchase
Accrued interest payable and other liabilities
Stockholders’ equity:
Common stock, par value $0.01; shares authorized 100,000,000 shares in 2015 and 2014; shares issued and outstanding 70,120,502 in 2015 and 67,570,610 in 2014
Capital surplus
Retained earnings
Accumulated other comprehensive income (loss)
See accompanying notes.
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Consolidated Statements of Income
(In thousands, except per share data)
Loans
Taxable
Tax-exempt
Deposits – other banks
Interest on deposits
Non-interest income:
Non-interest expense:
Other operating expenses
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Consolidated Statements of Comprehensive Income
(In thousands)
Net income available to all stockholders
Net unrealized gain (loss) on available-for-sale securities
Less: reclassification adjustment for realized (gains) losses included in income
Other comprehensive income (loss), before tax effect
Tax effect
Other comprehensive income (loss)
Comprehensive income
Consolidated Statements of Stockholders’ Equity
Years Ended December 31, 2015, 2014 and 2013
Balances at January 1, 2013
Comprehensive income:
Net issuance of 86,201 shares of common stock from exercise of stock options
Two for one stock split during June 2013
Issuance of 8,763,930 shares of common stock from acquisition of Liberty, net of issuance costs of approximately $577
Tax benefit from stock options exercised
Share-based compensation
Cash dividends - Common Stock, $0.29 per share
Balances at December 31, 2013
Net issuance of 120,361 shares of common stock from exercise of stock options
Issuance of 1,316,072 shares of common stock from acquisition of Traditions, net of issuance costs of approximately $215
Issuance of 1,020,824 shares of common stock from acquisition of Broward, net of issuance costs of approximately $116
Disgorgement of profits
Cash dividends - Common Stock, $0.35 per share
Balances at December 31, 2014
Net issuance of 204,536 shares of common stock from exercise of stock options
Issuance of 2,079,854 shares of common stock from acquisition of FBBI, net of issuance costs of approximately $60
Repurchase of 67,332 shares of common stock
Cash dividends - Common Stock, $0.55 per share
Balances at December 31, 2015
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Consolidated Statements of Cash Flows
Operating Activities
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation
Amortization/(accretion)
Tax benefits from stock options exercised
(Gain) loss on assets
Deferred income tax effect
Originations of mortgage loans held for sale
Proceeds from sales of mortgage loans held for sale
Changes in assets and liabilities:
Indemnification and other assets
Net cash provided by (used in) operating activities
Investing Activities
Net (increase) decrease in federal funds sold
Net (increase) decrease in loans, excluding loans acquired
Purchases of investment securities – available-for-sale
Proceeds from maturities of investment securities – available-for-sale
Proceeds from sale of investment securities – available-for-sale
Purchases of investment securities – held-to-maturity
Proceeds from maturities of investment securities – held-to-maturity
Proceeds from foreclosed assets held for sale
Proceeds from sale of SBA loans
Proceeds from sale of insurance book of business
Purchases of premises and equipment, net
Death benefits received
Return of investment on cash value of life insurance
Net cash proceeds (paid) received – market acquisitions
Net cash provided by (used in) investing activities
Financing Activities
Net increase (decrease) in deposits, excluding deposits acquired
Net increase (decrease) in securities sold under agreements to repurchase
Net increase (decrease) in FHLB borrowed funds
Retirement of subordinated debentures
Proceeds from exercise of stock options
Repurchase of common stock
Common stock issuance costs – market acquisitions
Dividends paid on common stock
Net cash provided by (used in) financing activities
Net change in cash and cash equivalents
Cash and cash equivalents – beginning of year
Cash and cash equivalents – end of year
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Notes to Consolidated Financial Statements
1. Nature of Operations and Summary of Significant Accounting Policies
Nature of Operations
Home BancShares, Inc. (the “Company” or “HBI”) is a bank holding company headquartered in Conway, Arkansas. The Company is primarily engaged in providing a full range of banking services to individual and corporate customers through its wholly-owned community bank subsidiary – Centennial Bank (sometimes referred to as “Centennial” or the “Bank”). The Bank has branch locations in Arkansas, Florida and South Alabama and a loan production office in New York City. The Company is subject to competition from other financial institutions. The Company also is subject to the regulation of certain federal and state agencies and undergoes periodic examinations by those regulatory authorities.
A summary of the significant accounting policies of the Company follows:
Operating Segments
Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The Bank is the only significant subsidiary upon which management makes decisions regarding how to allocate resources and assess performance. Each of the branches of the Bank provide a group of similar community banking services, including such products and services as commercial, real estate and consumer loans, time deposits, checking and savings accounts. The individual bank branches have similar operating and economic characteristics. While the chief decision maker monitors the revenue streams of the various products, services and branch locations, operations are managed and financial performance is evaluated on a Company-wide basis. Accordingly, all of the community banking services and branch locations are considered by management to be aggregated into one reportable operating segment, community banking.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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 relate to the determination of the allowance for loan losses, the valuation of investment securities, the valuation of foreclosed assets, the valuations of assets acquired and liabilities assumed in business combinations, covered loans and the related indemnification asset. In connection with the determination of the allowance for loan losses and the valuation of foreclosed assets, management obtains independent appraisals for significant properties.
Principles of Consolidation
The consolidated financial statements include the accounts of HBI and its subsidiaries. Significant intercompany accounts and transactions have been eliminated in consolidation.
Reclassifications
Various items within the accompanying consolidated financial statements for previous years have been reclassified to provide more comparative information. These reclassifications had no effect on net earnings or stockholders’ equity.
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Cash and Cash Equivalents
Cash and cash equivalents consist of cash on hand, demand deposits with banks and interest-bearing deposits with other banks.
Interest on investment securities is recorded as income as earned. Amortization of premiums and accretion of discounts are recorded as interest income from securities. Realized gains and losses are recorded as net security gains (losses). Gains or losses on the sale of securities are determined using the specific identification method.
Management determines the classification of securities as available-for-sale, held-to-maturity, or trading at the time of purchase based on the intent and objective of the investment and the ability to hold to maturity. Fair values of securities are based on quoted market prices where available. If quoted market prices are not available, estimated fair values are based on quoted market prices of comparable securities. The Company has no trading securities.
Securities available-for-sale are reported at fair value with unrealized holding gains and losses reported as a separate component of stockholders’ equity and other comprehensive income, net of taxes. Securities that are held as available-for-sale are used as a part of HBI’s asset/liability management strategy. Securities that may be sold in response to interest rate changes, changes in prepayment risk, the need to increase regulatory capital, and other similar factors are classified as available-for-sale.
Securities held-to-maturity include any security for which the Company has the positive intent and ability to hold until maturity, are reported at historical cost and are adjusted for amortization of premiums and accretion of discounts. Premiums and discounts are amortized and accreted, respectively, to interest income using the constant yield method over the period to maturity.
Loans Receivable Not Covered by Loss Share and Allowance for Loan Losses
Loans receivable not covered by loss share that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at their outstanding principal balance adjusted for any charge-offs, deferred fees or costs on originated loans. Interest income on loans is accrued over the term of the loans based on the principal balance outstanding. Loan origination fees and direct origination costs are capitalized and recognized as adjustments to yield on the related loans.
The allowance for loan losses is established through a provision for loan losses charged against income. The allowance represents an amount that, in management’s judgment, will be adequate to absorb probable credit losses on existing loans that may become uncollectible and probable credit losses inherent in the remainder of the loan portfolio. The amounts of provisions to the allowance for loan losses are based on management’s analysis and evaluation of the loan portfolio for identification of problem credits, internal and external factors that may affect collectability, relevant credit exposure, particular risks inherent in different kinds of lending, current collateral values and other relevant factors.
The allowance consists of allocated and general components. The allocated component relates to loans that are classified as impaired. For those loans that are classified as impaired, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and classified loans less than $2.0 million and is based on historical charge-off experience and expected loss given default derived from the Bank’s internal risk rating process. Other adjustments may be made to the allowance for pools of loans accounted for under FASB ASC 310-30, Loans Acquired with Deteriorated Credit Quality, after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risk rating data.
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Loans considered impaired, under FASB ASC 310-10-35, are loans for which, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. The aggregate amount of impairment of loans is utilized in evaluating the adequacy of the allowance for loan losses and amount of provisions thereto. Losses on impaired loans are charged against the allowance for loan losses when in the process of collection it appears likely that such losses will be realized. The accrual of interest on impaired loans is discontinued when, in management’s opinion, the borrower may be unable to meet payments as they become due. When accrual of interest is discontinued, all unpaid accrued interest is reversed.
Loans are placed on non-accrual status when management believes that the borrower’s financial condition, after giving consideration to economic and business conditions and collection efforts, is such that collection of interest is doubtful, or generally when loans are 90 days or more past due. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Accrued interest related to non-accrual loans is generally charged against the allowance for loan losses when accrued in prior years and reversed from interest income if accrued in the current year. Interest income on non-accrual loans may be recognized to the extent cash payments are received, but payments received are usually applied to principal. Non-accrual loans are generally returned to accrual status after being current for a period of at least six months. An exception to this six-month period can be made if it can be proven that the borrower has historically demonstrated repayment performance consistent with the terms of the loan and the Company expects to collect all principal and interest.
Acquisition Accounting, Acquired Loans and Related Indemnification Asset
The Company accounts for its acquisitions under FASB ASC Topic 805, Business Combinations, which requires the use of the purchase method of accounting. All identifiable assets acquired, including loans, are recorded at fair value. No allowance for loan losses related to the acquired loans is recorded on the acquisition date as the fair value of the loans acquired incorporates assumptions regarding credit risk. Loans acquired are recorded at fair value in accordance with the fair value methodology prescribed in FASB ASC Topic 820, Fair Value Measurements, exclusive of the shared-loss agreements with the Federal Deposit Insurance Corporation (“FDIC”). The fair value estimates associated with the loans include estimates related to expected prepayments and the amount and timing of undiscounted expected principal, interest and other cash flows.
Over the life of the acquired loans, the Company continues to estimate cash flows expected to be collected on individual loans or on pools of loans sharing common risk characteristics and are treated in the aggregate when applying various valuation techniques. The Company evaluates at each balance sheet date whether the present value of its loans determined using the effective interest rates has significantly decreased and if so, recognizes a provision for loan loss in its consolidated statement of income. For any significant increases in cash flows expected to be collected, the Company adjusts the amount of accretable yield recognized on a prospective basis over the loan’s or pool’s weighted average life.
Because the FDIC will reimburse the Company for certain acquired loans should the Company experience a loss, an indemnification asset is recorded at fair value at the acquisition date. The indemnification asset is recognized at the same time as the indemnified loans, and measured on the same basis, subject to collectability or contractual limitations. The shared-loss agreements on the acquisition date reflect the reimbursements expected to be received from the FDIC, using an appropriate discount rate, which reflects counterparty credit risk and other uncertainties.
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The shared-loss agreements continue to be measured on the same basis as the related indemnified loans subject to contractual limitations of the loss share agreements. Because the acquired loans are subject to the accounting prescribed by FASB ASC Topic 310, Receivables, subsequent changes to the basis of the shared-loss agreements also follow that model. Deterioration in the credit quality of the loans (immediately recorded as an adjustment to the allowance for loan losses) would immediately increase the basis of the shared-loss agreements, with the offset recorded through the consolidated statement of income. Increases in the credit quality or cash flows of loans (reflected as an adjustment to yield and accreted into income over the weighted average life of the loans or pools) decrease the basis of the shared-loss agreements, with such decrease being amortized against non-interest income over 1) the same period or 2) the life of the shared-loss agreements, whichever is shorter. Loss assumptions used in the basis of the indemnified loans are consistent with the loss assumptions used to measure the indemnification asset. Fair value accounting incorporates into the fair value of the indemnification asset an element of the time value of money, which is accreted back into income over the life of the shared-loss agreements.
Upon the determination of an incurred loss, the indemnification asset will be reduced by the amount owed by the FDIC. A corresponding claim receivable is recorded in other assets until cash is received from the FDIC.
For further discussion of the Company’s acquisitions and loan accounting, see Note 2 and Note 5 to the Notes to Consolidated Financial Statements.
Foreclosed Assets Held for Sale
Real estate and personal properties acquired through or in lieu of loan foreclosure are to be sold and are initially recorded at fair value less cost to sell at the date of foreclosure, establishing a new cost basis.
Valuations are periodically performed by management, and the real estate and personal properties are carried at fair value less costs to sell. Gains and losses from the sale of other real estate and personal properties are recorded in non-interest income, and expenses used to maintain the properties are included in non-interest expenses.
Because the FDIC will reimburse the Company for covered foreclosed assets should the Company experience a loss, an indemnification asset is recorded at fair value at the acquisition date and as covered loans move into foreclosure status. The indemnification asset is measured on the same basis as the foreclosed assets, subject to collectability. The shared-loss agreements reflect the reimbursements expected to be received from the FDIC, using an appropriate discount rate, which reflects counterparty credit risk and other uncertainties.
Upon the determination of an incurred loss, the indemnification asset is reduced by the amount owed by the FDIC. A corresponding claim receivable is recorded in other assets until cash is received from the FDIC.
Bank Premises and Equipment
Bank premises and equipment are carried at cost or fair market value at the date of acquisition less accumulated depreciation. Depreciation expense is computed using the straight-line method over the estimated useful lives of the assets. Accelerated depreciation methods are used for tax purposes. Leasehold improvements are capitalized and amortized using the straight-line method over the terms of the respective leases or the estimated useful lives of the improvements whichever is shorter. The assets’ estimated useful lives for book purposes are as follows:
Bank premises
Furniture, fixtures, and equipment
The Company has purchased life insurance policies on certain key employees. Life insurance owned by the Company is recorded at the amount that can be realized under the insurance contract at the balance sheet date, which is the cash surrender value adjusted for other charges or other amounts due that are probable at settlement.
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Intangible Assets
Intangible assets consist of goodwill and core deposit intangibles. Goodwill represents the excess purchase price over the fair value of net assets acquired in business acquisitions. The core deposit intangible represents the excess intangible value of acquired deposit customer relationships as determined by valuation specialists. The core deposit intangibles are being amortized over 48 to 121 months on a straight-line basis. Goodwill is not amortized but rather is evaluated for impairment on at least an annual basis. The Company performed its annual impairment test of goodwill and core deposit intangibles during 2015, 2014 and 2013, as required by FASB ASC 350, Intangibles - Goodwill and Other. The 2015 and 2014 tests indicated no impairment of the Company’s goodwill or core deposit intangibles. The 2013 tests indicated no impairment of the Company’s goodwill and a $173,000 impairment of core deposit intangibles in connection with the acquisition of Heritage Bank. This amount was expensed during the fourth quarter of 2013.
Securities sold under agreements to repurchase consist of obligations of the Company to other parties. At the point funds deposited by customers become investable, those funds are used to purchase securities owned by the Company and held in its general account with the designation of Customers’ Securities. A third party maintains control over the securities underlying overnight repurchase agreements. The securities involved in these transactions are generally U.S. Treasury or Federal Agency issues. Securities sold under agreements to repurchase generally mature on the banking day following that on which the investment was initially purchased and are treated as collateralized financing transactions which are recorded at the amounts at which the securities were sold plus accrued interest. Interest rates and maturity dates of the securities involved vary and are not intended to be matched with funds from customers.
Derivative Financial Instruments
The Company may enter into derivative contracts for the purposes of managing exposure to interest rate risk. The Company records all derivatives on the consolidated balance sheet at fair value. Historically the Company’s policy has been not to invest in derivative type investments.
As of December 31, 2014, the Company had no derivative contracts outstanding except for mortgage loans held for sale which are delivered on a best effort basis. As of December 31, 2015, the Company had no derivative contracts outstanding except for mortgage loans held for sale which changed from best effort basis to mandatory commitments during the fourth quarter of 2015.
Stock Options
The Company accounts for stock options in accordance with FASB ASC 718, Compensation - Stock Compensation, which establishes standards for the accounting for transactions in which an entity (i) exchanges its equity instruments for goods and services, or (ii) incurs liabilities in exchange for goods and services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of the equity instruments. FASB ASC 718 requires that such transactions be recognized as compensation cost in the income statement based on their fair values on the measurement date, which is generally the date of the grant.
The Company accounts for income taxes in accordance with income tax accounting guidance (ASC 740, Income Taxes). The income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. The Company determines deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur.
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Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term more likely than not means a likelihood of more than 50 percent; the terms examined and upon examination also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances and information available at the reporting date and is subject to the management’s judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized.
The Company and its subsidiaries file consolidated tax returns. Its subsidiaries provide for income taxes on a separate return basis, and remits to the Company amounts determined to be currently payable.
Earnings per Share
Basic earnings per share are computed based on the weighted average number of shares outstanding during each year. Diluted earnings per share are computed using the weighted average common shares and all potential dilutive common shares outstanding during the period. The following table sets forth the computation of basic and diluted earnings per share (EPS) for the years ended December 31:
Effect of common stock options
Diluted common shares outstanding
2. Business Combinations
On October 1, 2015, the Company completed its acquisition of Florida Business BancGroup, Inc. (“FBBI”), parent company of Bay Cities Bank (“Bay Cities”). The Company paid a purchase price to the FBBI shareholders of $104.1 million for the FBBI acquisition. Under the terms of the agreement, shareholders of FBBI received 2,079,854 shares of its common stock valued at approximately $83.8 million as of October 1, 2015, plus approximately $20.3 million in cash in exchange for all outstanding shares of FBBI common stock. A portion of the cash consideration, $2.0 million, has been placed into escrow, and FBBI shareholders will have a contingent right to receive their pro-rata portions of such amount. The amount, if any, of such escrowed funds to be released to FBBI shareholders will depend upon the amount of losses that HBI incurs in the two years following the completion of the merger related to two class action lawsuits that are pending against Bay Cities.
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The Company has determined that the acquisition of the net assets of FBBI constitutes a business combination as defined by the ASC Topic 805. Accordingly, the assets acquired and liabilities assumed are presented at their fair values as required. Fair values were determined based on the requirements of ASC Topic 820. In many cases, the determination of these fair values required management to make estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature and subject to change. The following schedule is a breakdown of the assets acquired and liabilities assumed as of the acquisition date:
Loans not covered by loss share
Deferred tax asset
Core deposit intangible
Total assets acquired
Total liabilities assumed
Common stock
Total equity assumed
Total liabilities and equity assumed
The following is a description of the methods used to determine the fair values of significant assets and liabilities presented above:
Cash and due from banks – The carrying amount of these assets is a reasonable estimate of fair value based on the short-term nature of these assets. The $20.3 million adjustment primarily consists of the cash settlement paid to FBBI shareholders on the closing date and cash-in-lieu of fractional shares.
Investment securities – Investment securities were acquired from FBBI with a $611,000 adjustment to market value based upon quoted market prices.
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Loans – Fair values for loans were based on a discounted cash flow methodology that considered factors including the type of loan and related collateral, classification status, fixed or variable interest rate, term of loan and whether or not the loan was amortizing, and current discount rates. The discount rates used for loans are based on current market rates for new originations of comparable loans and include adjustments for liquidity concerns.
The Company evaluated $390.9 million of the loans purchased in conjunction with the acquisition in accordance with the provisions of FASB ASC Topic 310-20, Nonrefundable Fees and Other Costs, which were recorded with a $7.0 million discount. As a result, the fair value discount on these loans is being accreted into interest income over the weighted average life of the loans using a constant yield method. The remaining $31.5 million of loans evaluated were considered purchased credit impaired loans within the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, and were recorded with a $7.1 million discount. These purchase credit impaired loans will recognize interest income through accretion of the difference between the carrying amount of the loans and the expected cash flows.
Bank premises and equipment– Bank premises and equipment were acquired from FBBI with a $1.7 million adjustment to market value. This represents the difference between current appraisals completed in connection with the acquisition and book value acquired.
Foreclosed assets held for sale not covered by loss share – These assets are presented at the estimated fair values that management expects to receive when the properties are sold, net of related costs to sell.
Cash value of life insurance – Cash value of life insurance was acquired from FBBI at market value.
Accrued interest receivable – Accrued interest receivable was acquired from FBBI at market value.
Deferred tax asset – The current and deferred income tax assets and liabilities are recorded to reflect the differences in the carrying values of the acquired assets and assumed liabilities for financial reporting purposes and the cost basis for federal income tax purposes, at the Company’s statutory federal and state income tax rate of 39.225%.
Goodwill – The consideration paid as a result of the acquisition exceeded the fair value of the assets acquired; therefore, the Company recorded $55.3 million of goodwill.
Core deposit intangible – This intangible asset represents the value of the relationships that FBBI had with its deposit customers. The fair value of this intangible asset was estimated based on a discounted cash flow methodology that gave appropriate consideration to expected customer attrition rates, cost of the deposit base, and the net maintenance cost attributable to customer deposits. The Company recorded $3.5 million of core deposit intangible.
Deposits – The fair values used for the demand and savings deposits that comprise the transaction accounts acquired, by definition equal the amount payable on demand at the acquisition date. The $1.1 million fair value adjustment applied for time deposits was because the weighted average interest rate of FBBI’s certificates of deposits were estimated to be above the current market rates.
FHLB borrowed funds – The fair value of FHLB borrowed funds is estimated based on borrowing rates currently available to the Company for borrowings with similar terms and maturities.
Accrued interest payable and other liabilities – The fair value used represents the adjustment of certain estimated liabilities from FBBI.
The purchase price allocation and certain fair value measurements remain preliminary due to the timing of the acquisition. The Company will continue to review the estimated fair values of loans, deposits, property and equipment, intangible assets, and other assets and liabilities, and to evaluate the assumed tax positions and contingencies.
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The Company’s operating results for the period ended December 31, 2015, include the operating results of the acquired assets and assumed liabilities subsequent to the acquisition date. Due to the fair value adjustments recorded and the fact FBBI total assets acquired are less than 5% of total assets as of December 31, 2015 excluding FBBI as recorded by HBI as of acquisition date, historical results are not believed to be material to the Company’s results, and thus no pro-forma information is presented.
On April 1, 2015, the Company’s wholly-owned bank subsidiary, Centennial, entered into an agreement with AM PR LLC, an affiliate of J.C. Flowers & Co. (collectively, the “Seller”) to purchase a pool of national commercial real estate loans totaling approximately $289.1 million for a purchase price of 99% of the total principal value of the acquired loans. The purchase of the loans was completed on April 1, 2015. The acquired loans were originated by the former Doral Bank within its Doral Property Finance portfolio (“DPF Portfolio”) and were transferred to the Seller by Banco Popular of Puerto Rico (“Popular”) upon its acquisition of the assets and liabilities of Doral Bank from FDIC, as receiver for the failed Doral Bank. This pool of loans is now housed in a division of Centennial known as the Centennial Commercial Finance Group (“Centennial CFG”). The Centennial CFG is responsible for servicing the acquired loan pool and originating new loan production.
On February 27, 2015, the Company’s banking subsidiary, Centennial, acquired all the deposits and substantially all the assets of Doral Bank’s Florida Panhandle operations (“Doral Florida”) through an alliance agreement with Popular who was the successful lead bidder with the FDIC on the failed Doral Bank of San Juan, Puerto Rico. Including the effects of the purchase accounting adjustments, the acquisition provided the Company with loans of approximately $37.9 million net of loan discounts, deposits of approximately $467.6 million, plus a $428.2 million cash settlement to balance the transaction. There is no loss-share with the FDIC in the acquired assets.
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The Company has determined that the acquisition of the net assets of Doral Florida constitutes a business combination as defined by the FASB ASC Topic 805, Business Combinations. Accordingly, the assets acquired and liabilities assumed are presented at their fair values as required. Fair values were determined based on the requirements of FASB ASC Topic 820, Fair Value Measurements. In many cases, the determination of these fair values required management to make estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature and subject to change. The following schedule is a breakdown of the assets acquired and liabilities assumed as of the acquisition date:
Pre-tax gain on acquisition
Cash and due from banks – The carrying amount of these assets is a reasonable estimate of fair value based on the short-term nature of these assets. The $428.2 million adjustment is the cash settlement received from Popular for the net equity received, assets discount bid and other customary closing adjustments.
The Company evaluated $36.9 million of the loans purchased in conjunction with the acquisition in accordance with the provisions of FASB ASC Topic 310-20, Nonrefundable Fees and Other Costs, and were recorded with a $3.4 million discount. As a result, the fair value discount on these loans is being accreted into interest income over the weighted-average life of the loans using a constant yield method. The remaining approximately $5.3 million of loans evaluated were considered purchased credit impaired loans with in the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, and were recorded with a $950,000 discount. These purchased credit impaired loans will recognize interest income through accretion of the difference between the carrying amount of the loans and the expected cash flows.
Core deposit intangible – This intangible asset represents the value of the relationships that Doral Florida had with its deposit customers. The fair value of this intangible asset was estimated based on a discounted cash flow methodology that gave appropriate consideration to expected customer attrition rates, cost of the deposit base, and the net maintenance cost attributable to customer deposits. The Company recorded $1.4 million of core deposit intangible.
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Deposits – The fair values used for the demand and savings deposits that comprise the transaction accounts acquired, by definition, equal the amount payable on demand at the acquisition date. The Bank was able to reset deposit rates. However, the Bank did not lower the deposit rates as low as the market rates currently offered. As a result, a $1.3 million fair value adjustment was applied for time deposits because the estimated weighted-average interest rate of Doral Florida’s certificates of deposits were still estimated to be above the current market rates after the rate reset.
The Company’s operating results for the period ended December 31, 2015, include the operating results of the acquired assets and assumed liabilities subsequent to the acquisition date. Due to the fair value adjustments recorded and the fact Doral Florida total assets acquired excluding the cash settlement received is less than 1% of total assets as of acquisition date, historical results are not believed to be material to the Company’s results, and thus no pro-forma information is presented.
On October 23, 2014, the Company completed its acquisition of Broward Financial Holdings, Inc. (“Broward”), parent company of Broward Bank of Commerce, pursuant to a previously announced definitive agreement and plan of merger whereby a wholly-owned acquisition subsidiary (“Acquisition Sub II”) of HBI merged with and into Broward, resulting in Broward becoming a wholly-owned subsidiary of HBI. Immediately thereafter, Broward Bank of Commerce was merged into Centennial. Under the terms of the Agreement and Plan of Merger dated July 30, 2014 by and among HBI, Centennial, Broward, Broward Bank of Commerce and Acquisition Sub II, HBI issued 1,020,824 shares of its common stock valued at approximately $30.2 million as of October 23, 2014, plus $3.3 million in cash in exchange for all outstanding shares of Broward common stock. HBI has also agreed to pay the Broward shareholders at an undetermined date up to approximately $751,000 in additional consideration. The amount and timing of the additional payment, if any, will depend on future payments received or losses incurred by Centennial from certain current Broward Bank of Commerce loans. At December 31, 2015, the Company had recorded a fair value of zero for the potential additional consideration.
The Company has determined that the acquisition of the net assets of Broward constitutes a business combination as defined by the ASC Topic 805. Accordingly, the assets acquired and liabilities assumed are presented at their fair values as required. Fair values were determined based on the requirements of ASC Topic 820. In many cases, the determination of these fair values required management to make estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature and subject to change. The following schedule is a breakdown of the assets acquired and liabilities assumed as of the acquisition date:
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Accumulated other comprehensive income
Cash and due from banks, interest-bearing deposits with other banks and federal funds sold– The carrying amount of these assets is a reasonable estimate of fair value based on the short-term nature of these assets. The $3.3 million adjustment primarily consists of the cash settlement paid to Broward shareholders on the closing date and cash-in-lieu of fractional shares.
Investment securities – Investment securities were acquired from Broward with a $423,000 adjustment to market value based upon quoted market prices.
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The Company evaluated $121.3 million of the loans purchased in conjunction with the acquisition in accordance with the provisions of FASB ASC Topic 310-20, Nonrefundable Fees and Other Costs, and were recorded with a $1.7 million discount. As a result, the fair value discount on these loans is being accreted into interest income over the weighted average life of the loans using a constant yield method. The remaining $2.8 million of loans evaluated were considered purchased credit impaired loans within the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, and were recorded with a $1.3 million discount. These purchase credit impaired loans will recognize interest income through accretion of the difference between the carrying amount of the loans and the expected cash flows.
Bank premises and equipment – Bank premises and equipment were acquired from Broward at market value.
Cash value of life insurance – Cash value of life insurance was acquired from Broward at market value.
Accrued interest receivable – Accrued interest receivable was acquired from Broward at market value.
Goodwill – The consideration paid as a result of the acquisition exceeded the fair value of the assets acquired; therefore, the Company recorded $12.1 million of goodwill.
Core deposit intangible – This intangible asset represents the value of the relationships that Broward had with its deposit customers. The fair value of this intangible asset was estimated based on a discounted cash flow methodology that gave appropriate consideration to expected customer attrition rates, cost of the deposit base, and the net maintenance cost attributable to customer deposits. The Company recorded $1.1 million of core deposit intangible.
Deposits – The fair values used for the demand and savings deposits that comprise the transaction accounts acquired, by definition equal the amount payable on demand at the acquisition date. No fair value adjustment was applied for time deposits because the weighted average interest rate of Broward’s certificates of deposits were at the market rates of similar funding at the time of acquisition.
Accrued interest payable and other liabilities – The fair value used represents the adjustment of certain estimated liabilities from Broward.
The Company’s operating results for the period ended December 31, 2014, include the operating results of the acquired assets and assumed liabilities subsequent to the acquisition date. Due to the fair value adjustments recorded and the fact Broward total assets acquired are less than 5% of total assets as of December 31, 2014 excluding Broward as recorded by HBI as of acquisition date, historical results are not believed to be material to the Company’s results, and thus no pro-forma information is presented.
On July 17, 2014, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Florida Traditions Bank (“Traditions”) and merged Traditions into Centennial Bank. Under the terms of the Traditions Agreement, the shareholders of Traditions received approximately $39.5 million of the Company’s common stock valued at the time of closing, in exchange for all outstanding shares of Traditions common stock.
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The transaction was accretive to the Company’s book value per common share and tangible book value per common share by $0.31 per share and $0.21 per share, respectively.
The Company has determined that the acquisition of the net assets of Traditions constitutes a business combination as defined by the ASC Topic 805. Accordingly, the assets acquired and liabilities assumed are presented at their fair values as required. Fair values were determined based on the requirements of ASC Topic 820. In many cases, the determination of these fair values required management to make estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature and subject to change. The following schedule is a breakdown of the assets acquired and liabilities assumed as of the acquisition date:
Foreclosed assets held for sale not covered by
loss share
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Cash and due from banks, interest-bearing deposits with other banks and federal funds sold– The carrying amount of these assets is a reasonable estimate of fair value based on the short-term nature of these assets. The $5,000 adjustment is the cash settlement paid to Traditions shareholders for cash-in-lieu of fractional shares.
Investment securities – Investment securities were acquired from Traditions with an $81,000 adjustment to market value based upon quoted market prices.
The Company evaluated all of the loans purchased in conjunction with the acquisition in accordance with the provisions of FASB ASC Topic 310-20, Nonrefundable Fees and Other Costs. None of the loans evaluated were considered purchased credit impaired loans with in the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. As a result, the fair value discount is being accreted into interest income over the weighted average life of the loans using a constant yield method.
Bank premises and equipment – Bank premises and equipment were acquired from Traditions with a $2.1 million adjustment to market value. This represents the difference between current appraisal completed in connection with the acquisition and book value acquired.
Foreclosed assets held for sale not covered by loss share – These assets are presented at the estimated fair values that management expects to receive when the properties are sold, net of related costs of disposal.
Cash value of life insurance – Cash value of life insurance was acquired from Traditions at market value.
Accrued interest receivable – Accrued interest receivable was acquired from Traditions at market value.
Goodwill – The consideration paid as a result of the acquisition exceeded the fair value of the assets acquired; therefore, the Company recorded $11.6 million of goodwill.
Core deposit intangible – This intangible asset represents the value of the relationships that Traditions had with its deposit customers. The fair value of this intangible asset was estimated based on a discounted cash flow methodology that gave appropriate consideration to expected customer attrition rates, cost of the deposit base, and the net maintenance cost attributable to customer deposits. The Company recorded $2.2 million of core deposit intangible.
Deposits – The fair values used for the demand and savings deposits that comprise the transaction accounts acquired, by definition equal the amount payable on demand at the acquisition date. No fair value adjustment was applied for time deposits because the weighted average interest rate of Traditions’ certificates of deposits were at the market rates of similar funding at the time of acquisition.
Accrued interest payable and other liabilities – The fair value used represents the adjustment of certain estimated liabilities from Traditions.
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The Company’s operating results for the period ended December 31, 2014, include the operating results of the acquired assets and assumed liabilities subsequent to the acquisition date. Due to the fair value adjustments recorded and the fact Traditions total assets acquired are less than 5% of total assets as of December 31, 2014 excluding Traditions as recorded by HBI as of acquisition date, historical results are not believed to be material to the Company’s results, and thus no pro-forma information is presented.
On October 24, 2013, the Company completed the acquisition of all of the issued and outstanding shares of common stock of Liberty Bancshares, Inc. (“Liberty”), parent company of Liberty Bank of Arkansas (“Liberty Bank”), and merged Liberty Bank into Centennial Bank. Under the terms of the Liberty Agreement, the shareholders of Liberty received approximately $290.1 million of the Company’s common stock valued at the time of the closing, plus approximately $30.0 million in cash, in exchange for all outstanding shares of Liberty common stock. Home BancShares also repurchased all of Liberty’s SBLF preferred stock held by the U.S. Treasury shortly after the closing. The merger significantly increased the Company’s deposit market share in Arkansas making it the second largest bank holding company headquartered in Arkansas.
Prior to the acquisition, Liberty Bank operated 46 banking offices located in northeast Arkansas, north central Arkansas and northwest Arkansas. Including the effects of the purchase accounting adjustments, the Company acquired approximately $2.82 billion in assets, approximately $1.73 billion in loans including loan discounts and approximately $2.13 billion of deposits.
The Company has determined that the acquisition of the net assets of Liberty constitute a business combination as defined by the ASC Topic 805. Accordingly, the assets acquired and liabilities assumed are presented at their fair values as required. Fair values were determined based on the requirements of ASC Topic 820. In many cases, the determination of these fair values required management to make estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature and subject to change. The following schedule is a breakdown of the assets acquired and liabilities assumed as of the acquisition date:
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Preferred stock
Less: Treasury stock
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Cash and due from banks, interest-bearing deposits with other banks and federal funds sold– The carrying amount of these assets is a reasonable estimate of fair value based on the short-term nature of these assets. The $30.0 million adjustment is the cash settlement paid to Liberty on the closing date. The Company also paid off the Liberty $52.5 million SBLF preferred stock at the acquisition date.
Investment securities – Investment securities were acquired from Liberty with a $9.8 million adjustment to market value based upon quoted market prices. This adjustment is primarily the result of marking the held-to-maturity securities to fair market value.
The Company evaluated $1.67 billion of the loans purchased in conjunction with the acquisition in accordance with the provisions of FASB ASC Topic 310-20, Nonrefundable Fees and Other Costs, and were recorded with a $62.1 million discount. As a result, the fair value discount on these loans is being accreted into interest income over the weighted average life of the loans using a constant yield method. The remaining $162.4 million of loans evaluated were considered purchased credit impaired loans within the provisions of FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, and were recorded with a $41.9 million discount. These purchase credit impaired loans will recognize interest income through accretion of the difference between the carrying amount of the loans and the expected cash flows.
Bank premises and equipment – Bank premises and equipment were acquired from Liberty with a $5.4 million adjustment to market value. This represents the difference between current appraisal completed in connection with the acquisition and book value acquired.
Cash value of life insurance – Cash value of life insurance was acquired from Liberty at market value.
Accrued interest receivable – Accrued interest receivable was acquired from Liberty at market value.
Goodwill – The consideration paid as a result of the acquisition exceeded the fair value of the assets acquired; therefore, the Company recorded $216.1 million of goodwill.
Core deposit intangible – This intangible asset represents the value of the relationships that Liberty Bank had with its deposit customers. The fair value of this intangible asset was estimated based on a discounted cash flow methodology that gave appropriate consideration to expected customer attrition rates, cost of the deposit base, and the net maintenance cost attributable to customer deposits. The Company recorded $13.9 million of core deposit intangible.
Deposits – The fair values used for the demand and savings deposits that comprise the transaction accounts acquired, by definition equal the amount payable on demand at the acquisition date. The $913,000 fair value adjustment applied for time deposits is because the estimated weighted average interest rate of Liberty’s certificates of deposits were estimated to be slightly below the current market rates.
Securities sold under agreements to repurchase – Securities sold under agreements to repurchase were acquired from Liberty at market value.
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Accrued interest payable and other liabilities – The fair value used represents the accrual of certain costs including change in control agreements which were incurred in connection with the merger.
Subordinated debentures – Subordinated debentures were acquired from Liberty at market value.
The unaudited pro-forma combined consolidated financial information presents how the combined financial information of HBI and Liberty might have appeared had the businesses actually been combined. The following schedule represents the unaudited pro-forma combined financial information as of the years ended December 31, 2013, assuming the acquisition was completed as of January 1, 2013:
Net income available to all shareholders
The unaudited pro-forma consolidated financial information is presented for illustrative purposes only and does not indicate the financial results of the combined company had the companies actually been combined at the beginning of the period presented and had the impact of possible revenue enhancements and expense efficiencies, among other factors, been considered and, accordingly, does not attempt to predict or suggest future results. It also does not necessarily reflect what the historical results of the combined company would have been had the companies been combined during this period.
FDIC-Assisted Acquisitions - Other Matters
In an FDIC-assisted acquisition, we may acquire certain assets and assume certain liabilities of the former institution with or without a loss-share agreement with the FDIC. Any regulatory agreements or orders that existed for the former institution do not apply to the assuming institution. We, as the assuming institution, are evaluated separately by our regulators and any weaknesses of the former institution are considered in a separate evaluation. Also, the loss share agreement helps to mitigate any weaknesses that may have existed in the former institution.
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3. Investment Securities
The amortized cost and estimated fair value of investment securities that are classified as available-for-sale and held-to-maturity are as follows:
U.S. government-sponsored enterprises
124
Assets, principally investment securities, having an amortized cost of approximately $1.25 billion and $1.23 billion at December 31, 2015 and 2014, respectively, were pledged to secure public deposits and for other purposes required or permitted by law. Also, investment securities pledged as collateral for repurchase agreements totaled approximately $128.4 million and $176.5 million at December 31, 2015 and 2014, respectively.
The amortized cost and estimated fair value of securities classified as available-for-sale and held-to-maturity at December 31, 2015, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
For purposes of the maturity tables, mortgage-backed securities, which are not due at a single maturity date, have been allocated over maturity groupings based on anticipated maturities. The mortgage-backed securities may mature earlier than their weighted-average contractual maturities because of principal prepayments.
During the year ended December 31, 2015, approximately $4.0 million, in available-for-sale securities were sold. The gross realized gains on these sales totaled approximately $4,000. There were no losses on the available-for-sale securities sold. The income tax expense/benefit to net security gains and losses was 39.225% of the gross amounts.
During the year ended December 31, 2014, no available-for-sale securities were sold.
During the year ended December 31, 2013, $282.5 million of available-for-sale securities were sold. The gross realized gains on these sales totaled approximately $111,000. There were no losses on the available-for-sale securities sold. The income tax expense/benefit to net security gains and losses was 39.225% of the gross amounts.
At December 31, 2015, 2014 and 2013, there were $309.0 million, $356.8 million and $114.6 million of held-to-maturity securities, respectively.
The Company evaluates all securities quarterly to determine if any unrealized losses are deemed to be other than temporary. In completing these evaluations the Company follows the requirements of FASB ASC 320, Investments - Debt and Equity Securities. Certain investment securities are valued less than their historical cost. These declines are primarily the result of the rate for these investments yielding less than current market rates. Based on evaluation of available evidence, management believes the declines in fair value for these securities are temporary. The Company does not intend to sell or believe it will be required to sell these investments before recovery of their amortized cost bases, which may be maturity. Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified.
For the year ended December 31, 2015, the Company had approximately $1.2 million in unrealized losses, which were in continuous loss positions for more than twelve months. Excluding impairment write downs taken in prior periods, the Company’s assessments indicated that the cause of the market depreciation was primarily the change in interest rates and not the issuer’s financial condition, or downgrades by rating agencies. In addition, approximately 77.6% of the Company’s investment portfolio matures in five years or less. As a result, the Company has the ability and intent to hold such securities until maturity.
125
For the year ended December 31, 2014, the Company had approximately $1.3 million in unrealized losses, which were in continuous loss positions for more than twelve months. Excluding impairment write downs taken in prior periods, the Company’s assessments indicated that the cause of the market depreciation was primarily the change in interest rates and not the issuer’s financial condition, or downgrades by rating agencies. In addition, approximately 80.5% of the Company’s investment portfolio matures in five years or less. As a result, the Company has the ability and intent to hold such securities until maturity.
The following shows gross unrealized losses and estimated fair value of investment securities classified as available-for-sale and held-to-maturity with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual investment securities have been in a continuous loss position as of December 31, 2015 and 2014:
Income earned on securities for the years ended is as follows:
Taxable:
Tax-exempt:
126
4. Loans Receivable Not Covered by Loss Share
The various categories of loans not covered by loss share are summarized as follows:
During the year ended December 31, 2015, the Company sold $7.7 million of the guaranteed portion of certain SBA loans, which resulted in a gain of approximately $541,000. During the year ended December 31, 2014, the Company sold $1.3 million of the guaranteed portion of certain SBA loans, which resulted in a gain of approximately $183,000. During the year ended December 31, 2013, the Company sold $2.0 million of the guaranteed portion of certain SBA loans, which resulted in a gain of approximately $135,000.
Mortgage loans held for resale of approximately $38.9 million and $33.1 million at December 31, 2015 and 2014, respectively, are included in residential 1-4 family loans. Mortgage loans held for sale are carried at the lower of cost or fair value, determined using an aggregate basis. Gains and losses resulting from sales of mortgage loans are recognized when the respective loans are sold to investors. Gains and losses are determined by the difference between the selling price and the carrying amount of the loans sold, net of discounts collected or paid. The Company obtains forward commitments to sell mortgage loans to reduce market risk on mortgage loans in the process of origination and mortgage loans held for sale. The forward commitments acquired by the Company for mortgage loans in process of origination are considered mandatory forward commitments. Because these commitments are structured on a mandatory basis, the Company is required to substitute another loan or to buy back the commitment if the original loan does not fund. These commitments are derivative instruments and their fair values at December 31, 2015 and 2014 were not material.
127
5. Loans Receivable Covered by FDIC Loss Share
The Company evaluated loans purchased in conjunction with the acquisitions under purchase and assumption agreements with the FDIC for impairment in accordance with the provisions of FASB ASC Topic 310-30. Purchased covered loans are considered impaired if there is evidence of credit deterioration since origination and if it is probable that not all contractually required payments will be collected.
The following table reflects the carrying value of all purchased FDIC covered impaired loans as of December 31, 2015 and 2014 for the Company:
The acquired loans were grouped into pools based on common risk characteristics and were recorded at their estimated fair values, which incorporated estimated credit losses at the acquisition dates. These loan pools are systematically reviewed by the Company to determine material changes in cash flow estimates from those identified at the time of the acquisition. Techniques used in determining risk of loss are similar to the Centennial non-covered loan portfolio, with most focus being placed on those loan pools which include the larger loan relationships and those loan pools which exhibit higher risk characteristics. As of December 31, 2015 and 2014, $3.3 million and $22.5 million, respectively, were accruing loans past due 90 days or more.
128
6. Allowance for Loan Losses, Credit Quality and Other
The following table presents a summary of changes in the allowance for loan losses for the non-covered and covered loan portfolios for the year ended December 31, 2015:
Allowance for loan losses:
Net loans recovered (charged off)
Increase in FDIC indemnification asset
Balance, December 31, 2015
129
Allowance for Loan Losses and Credit Quality for Non-Covered Loans
The following tables present the balance in the allowance for loan losses for the non-covered loan portfolio for the year ended December 31, 2015, and the allowance for loan losses and recorded investment in loans not covered by loss share based on portfolio segment by impairment method as of December 31, 2015. Allocation of a portion of the allowance to one type of loans does not preclude its availability to absorb losses in other categories. Additionally, the Company’s discounts for credit losses on non-covered loans acquired were $139.5 million, $174.6 million and $81.7 million at December 31, 2015, 2014 and 2013, respectively.
Balance, December 31
Period end amount allocated to:
Loans individually evaluated for impairment
Loans collectively evaluated for impairment
Loans evaluated for impairment balance, December 31
Loans receivable:
130
The following tables present the balance in the allowance for loan losses for the non-covered loan portfolio for the year ended December 31, 2014, and the allowance for loan losses and recorded investment in loans not covered by loss share based on portfolio segment by impairment method as of December 31, 2014. Allocation of a portion of the allowance to one type of loans does not preclude its availability to absorb losses in other categories.
131
The following tables present the balance in the allowance for loan losses for the non-covered loan portfolio for the year ended December 31, 2013, and the allowance for loan losses and recorded investment in loans not covered by loss share based on portfolio segment by impairment method as of December 31, 2013. Allocation of a portion of the allowance to one type of loans does not preclude its availability to absorb losses in other categories.
132
The following is an aging analysis for the non-covered loan portfolio for the year ended December 31, 2015 and December 31, 2014:
Agricultural and other
Non-accruing loans not covered by loss share at December 31, 2015 and 2014 were $36.4 million and $24.7 million, respectively.
133
The following is a summary of the non-covered impaired loans as of December 31, 2015, 2014 and 2013:
Loans without a specific valuation allowance
Total loans without a specific valuation allowance
Loans with a specific valuation allowance
Total loans with a specific valuation allowance
Total impaired loans
Note:Purchased non-covered loans acquired with deteriorated credit quality are accounted for on a pooled basis under ASC 310-30. All of these pools are currently considered to be performing resulting in none of the purchased non-covered loans acquired with deteriorated credit quality being classified as non-covered impaired loans as of December 31, 2015.
134
Note: Purchased non-covered loans acquired with deteriorated credit quality are accounted for on a pooled basis under ASC 310-30. All of these pools are currently considered to be performing resulting in none of the purchased non-covered loans acquired with deteriorated credit quality being classified as non-covered impaired loans as of December 31, 2014.
135
Note: Purchased non-covered loans acquired with deteriorated credit quality are accounted for on a pooled basis under ASC 310-30. All of these pools are currently considered to be performing resulting in none of the purchased non-covered loans acquired with deteriorated credit quality being classified as non-covered impaired loans as of December 31, 2013.
136
Interest recognized on non-covered impaired loans during the years ended December 31, 2015, 2014 and 2013 was approximately $2.1 million, $2.7 million and $3.9 million, respectively. The amount of interest recognized on non-covered impaired loans on the cash basis is not materially different than the accrual basis.
Credit Quality Indicators. As part of the on-going monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators including trends related to (i) the risk rating of loans, (ii) the level of classified loans, (iii) net charge-offs, (iv) non-performing loans and (v) the general economic conditions in Arkansas, Florida and Alabama.
The Company utilizes a risk rating matrix to assign a risk rating to each of its loans. Loans are rated on a scale from 1 to 8. Descriptions of the general characteristics of the 8 risk ratings are as follows:
137
The Company’s classified loans include loans in risk ratings 6, 7 and 8. The following is a presentation of classified non-covered loans (excluding loans accounted for under ASC Topic 310-30) by class as of December 31, 2015 and 2014:
138
Loans may be classified, but not considered impaired, due to one of the following reasons: (1) The Company has established minimum dollar amount thresholds for loan impairment testing. All loans over $2.0 million that are rated 5 – 8 are individually assessed for impairment on a quarterly basis. Loans rated 5 – 8 that fall under the threshold amount are not individually tested for impairment and therefore are not included in impaired loans; (2) of the loans that are above the threshold amount and tested for impairment, after testing, some are considered to not be impaired and are not included in impaired loans.
The following is a presentation of non-covered loans by class and risk rating as of December 31, 2015 and 2014:
Total risk rated loans
Total non-covered loans
139
The following is a presentation of non-covered troubled debt restructurings (“TDR’s”) by class as of December 31, 2015 and 2014:
The following is a presentation of non-covered TDRs on non-accrual status as of December 31, 2015 and 2014 because they are not in compliance with the modified terms:
140
In addition to the TDRs that occurred during the period provided in the preceding tables, the Company had TDRs with pre-modification loan balances of $3.4 million and zero as of December 31, 2015 and 2014, respectively, for which other real estate owned (“OREO”) was received in full or partial satisfaction of the loans. The majority of such TDRs were in commercial real estate and residential real estate as of December 31, 2015 and 2014, respectively. At December 31, 2015, the Company had $3.5 million of OREO secured by residential real estate properties.
The following is a presentation of non-covered foreclosed assets as of December 31, 2015 and 2014:
Allowance for Loan Losses, Credit Quality and Other for Covered Loans
During the 2015 quarterly impairment testing on the estimated cash flows of the covered loans, the Company established that certain pools evaluated had experienced material projected credit deterioration. As a result, the Company recorded a $998,000 net provision for loan losses to the allowance for loan losses related to the purchased credit impaired loans during the year ended December 31, 2015 on a net basis. The Company also recorded a provision for loan loss of $2.5 million before benefit attributable to FDIC loss share agreements. Since these loans are covered by loss share with the FDIC, the Company was able to increase the related indemnification asset by $1.5 million.
During the 2014 quarterly impairment testing on the estimated cash flows of the covered loans, the Company established that certain pools evaluated had experienced material projected credit deterioration. As a result, the Company recorded a $904,000 net provision for loan losses to the allowance for loan losses related to the purchased credit impaired loans during the year ended December 31, 2014 on a net basis. The Company also recorded a $1.2 million of provision for loan losses forecasted outside of loss share and a negative provision for loan loss of $1.4 million before benefit attributable to FDIC loss share agreements. Since these loans are covered by loss share with the FDIC, the Company was able to decrease the related indemnification asset by $1.1 million.
During the 2014 quarterly impairment testing on the estimated cash flows of the covered loans, the Company established that certain loss-sharing pools evaluated from the 2010 Old Southern and Key West acquisitions had experienced material projected credit improvement. As a result, the Company is recognizing $9.0 million of additional yield over the weighted average life of the loans.
During the 2013 quarterly impairment testing on the estimated cash flows of the covered loans, the Company established that six pools evaluated had experienced material projected credit deterioration. As a result, the Company recorded a $4.4 million provision for loan losses to the allowance for loan losses related to the purchased impaired loans during the year ended December 31, 2013. Since these loans are covered by loss share with the FDIC, the Company was able to increase the related indemnification asset by $3.5 million resulting in a net provision for loan losses of $991,000.
141
The following tables present the balance in the allowance for loan losses for the covered loan portfolio for the year ended December 31, 2015, and the allowance for loan losses and recorded investment in loans covered by FDIC loss share based on portfolio segment by impairment method as of December 31, 2015. Allocation of a portion of the allowance to one type of loan does not preclude its availability to absorb losses in other categories.
Net provision for loan losses
142
The following tables present the balance in the allowance for loan losses for the covered loan portfolio for the year ended December 31, 2014, and the allowance for loan losses and recorded investment in loans covered by FDIC loss share based on portfolio segment by impairment method as of December 31, 2014. Allocation of a portion of the allowance to one type of loan does not preclude its availability to absorb losses in other categories.
143
The following tables present the balance in the allowance for loan losses for the covered loan portfolio for the year ended December 31, 2013, and the allowance for loan losses and recorded investment in loans covered by FDIC loss share based on portfolio segment by impairment method as of December 31, 2013. Allocation of a portion of the allowance to one type of loan does not preclude its availability to absorb losses in other categories.
The following is a summary of the non-covered purchased credit impaired loans acquired in the FBBI acquisition during 2015 as of the date of acquisition:
Contractually required principal and interest at acquisition
Non-accretable difference (expected losses and foregone interest)
Cash flows expected to be collected at acquisition
Accretable yield
Basis in purchased credit impaired loans at acquisition
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Changes in the carrying amount of the accretable yield for purchased credit impaired loans acquired were as follows for the year ended December 31, 2015 for the Company’s covered and non-covered acquisitions:
Balance at beginning of period
Reforecasted future interest payments for loan pools
Accretion recorded to interest income
Acquisition of FBBI
Reclassification out of purchased credit impaired loans (1)
Adjustment to yield
Transfers to foreclosed assets held for sale
Payments received, net
Balance at end of period
The non-covered purchased credit impaired loans acquired during the 2015 Doral Florida acquisition were deemed immaterial and as a result were not included in the table above.
The loan pools were evaluated by the Company and are currently forecasted to have a slower run-off than originally expected. As a result, the Company has reforecast the total accretable yield expectations for those loan pools by $10.1 million. This updated forecast does not change the expected weighted average yields on the loan pools.
During the 2015 impairment tests on the estimated cash flows of non-loss-share loans, we established that several non-covered loan pools were determined to have a materially projected credit improvement. As a result of this improvement, we will recognize approximately $28.5 million as an additional adjustment to yield over the weighted average life of the loans.
7. Goodwill and Core Deposits and Other Intangibles
Changes in the carrying amount and accumulated amortization of the Company’s goodwill and core deposits and other intangibles at December 31, 2015 and 2014, were as follows:
Balance, beginning of period
Sale of insurance book of business
Balance, end of period
Core Deposit and Other Intangibles
Amortization expense
145
The carrying basis and accumulated amortization of core deposits and other intangibles at December 31, 2015 and 2014 were:
Gross carrying amount
Accumulated amortization
Net carrying amount
Core deposit and other intangible amortization expense for the years ended December 31, 2015, 2014 and 2013 was approximately $4.1 million, $4.6 million and $3.6 million, respectively. Core deposit and other intangibles are tested annually for impairment during the fourth quarter. During the 2015 review, no impairment was found. Including all of the mergers completed as of December 31, 2015, HBI’s estimated amortization expense of core deposits and other intangibles for each of the years 2016 through 2020 is approximately: 2016 - $3.1 million; 2017 - $3.0 million; 2018 - $2.9 million; 2019 - $2.8 million; 2020 - $2.3 million.
The carrying amount of the Company’s goodwill was $378.0 million and $325.4 million at December 31, 2015 and 2014, respectively. Goodwill is tested annually for impairment during the fourth quarter. If the implied fair value of goodwill is lower than its carrying amount, goodwill impairment is indicated and goodwill is written down to its implied fair value. Subsequent increases in goodwill value are not recognized in the financial statements. During the 2015 review, no impairment was found.
8. Other Assets
Other assets consists primarily of FDIC claims receivable, equity securities without a readily determinable fair value and other miscellaneous assets. As of December 31, 2015 and 2014 other assets were $117.9 million and $93.7 million, respectively.
An indemnification asset was created when the Company acquired FDIC covered loans. The indemnification asset represents the carrying amount of the right to receive payments from the FDIC for losses incurred on specified assets acquired from failed insured depository institutions or otherwise purchased from the FDIC that are covered by loss-sharing agreements with the FDIC. When the Company experiences a loss on the covered loans and subsequently requests reimbursement of the loss from the FDIC, the indemnification asset is reduced by the FDIC reimbursable amount. A corresponding claim receivable is consequently recorded in other assets until the cash is received from the FDIC. The FDIC claims receivable was $3.2 million and $14.0 million at December 31, 2015 and 2014, respectively.
The Company has equity securities without readily determinable fair values. These equity securities are outside the scope of FASB ASC Topic 320, Investments-Debt and Equity Securities. They include items such as stock holding in Federal Home Loan Bank, Federal Reserve Bank, Bankers’ Bank and other miscellaneous holdings. The equity securities without a readily determinable fair value were $97.5 million and $66.7 million at December 31, 2015 and 2014, respectively and are accounted for at cost.
9. Deposits
The aggregate amount of time deposits with a minimum denomination of $250,000 was $503.3 million and $272.5 million at December 31, 2015 and 2014, respectively. The aggregate amount of time deposits with a minimum denomination of $100,000 was $885.3 million and $673.3 million at December 31, 2015 and 2014, respectively. Interest expense applicable to certificates in excess of $100,000 totaled $5.0 million, $7.5 million and $4.1 million for the years ended December 31, 2015, 2014 and 2013, respectively. As of December 31, 2015 and 2014, brokered deposits were $199.3 million and $33.6 million, respectively.
146
The following is a summary of the scheduled maturities of all time deposits at December 31, 2015 (in thousands):
One month or less
Over 1 month to 3 months
Over 3 months to 6 months
Over 6 months to 12 months
Over 12 months to 2 years
Over 2 years to 3 years
Over 3 years to 5 years
Over 5 years
Total time deposits
Deposits totaling approximately $1.25 billion and $1.02 billion at December 31, 2015 and 2014, respectively, were public funds obtained primarily from state and political subdivisions in the United States.
10. Securities Sold Under Agreements to Repurchase
At December 31, 2015 and 2014, securities sold under agreements to repurchase totaled $128.4 million and $176.5 million, respectively. For the years ended December 31, 2015 and 2014, securities sold under agreements to repurchase daily weighted-average totaled $156.5 million and $151.6 million, respectively.
The gross amount of recognized liabilities for securities sold under agreements to repurchase was $128.4 million and $176.5 million at December 31, 2015 and 2014, respectively. The remaining contractual maturity of securities sold under agreements to repurchase in the consolidated balance sheets as of December 31, 2015 and 2014 is presented in the following tables:
Securities sold under agreements to repurchase:
Mortgage-backed securities
Total borrowings
147
11. FHLB Borrowed Funds
The Company’s FHLB borrowed funds, which are secured by our loan portfolio, were $1.41 billion and $698.0 million at December 31, 2015 and 2014, respectively. At December 31, 2015, all $1.41 billion of the outstanding balance were issued as long-term advances. At December 31, 2014, $515.0 million and $183.0 million of the outstanding balances were short-term and long-term advances, respectively. The FHLB advances mature from the current year to 2025 with fixed interest rates ranging from 0.14% to 5.96% and are secured by loans and investments securities. Expected maturities will differ from contractual maturities because FHLB may have the right to call or HBI the right to prepay certain obligations.
Additionally, the Company had $261.1 million and $144.0 million at December 31, 2015 and 2014, respectively, in letters of credit under a FHLB blanket borrowing line of credit, which are used to collateralize public deposits at December 31, 2015 and 2014, respectively.
Maturities of borrowings with original maturities exceeding one year at December 31, 2015, are as follows (in thousands):
2016
2017
2018
2019
2020
Thereafter
12. Subordinated Debentures
Subordinated debentures at December 31, 2015 and 2014 consisted of guaranteed payments on trust preferred securities with the following components:
As of
December 31,
Subordinated debentures, issued in 2006, due 2036, fixed rate of 6.75% during the first five years and at a floating rate of 1.85% above the three-month LIBOR rate, reset quarterly, thereafter, currently callable without penalty
Subordinated debentures, issued in 2004, due 2034, fixed rate of 6.00% during the first five years and at a floating rate of 2.00% above the three-month LIBOR rate, reset quarterly, thereafter, currently callable without penalty
Subordinated debentures, issued in 2005, due 2035, fixed rate of 5.84% during the first five years and at a floating rate of 1.45% above the three-month LIBOR rate, reset quarterly, thereafter, currently callable without penalty
Subordinated debentures, issued in 2004, due 2034, fixed rate of 4.29% during the first five years and at a floating rate of 2.50% above the three-month LIBOR rate, reset quarterly, thereafter, currently callable without penalty
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The Company holds $60.8 million of trust preferred securities which are currently callable without penalty based on the terms of the specific agreements. The trust preferred securities are tax-advantaged issues that qualify for Tier 1 capital treatment subject to certain limitations. Distributions on these securities are included in interest expense. Each of the trusts is a statutory business trust organized for the sole purpose of issuing trust securities and investing the proceeds in the Company’s subordinated debentures, the sole asset of each trust. The trust preferred securities of each trust represent preferred beneficial interests in the assets of the respective trusts and are subject to mandatory redemption upon payment of the subordinated debentures held by the trust. The Company wholly owns the common securities of each trust. Each trust’s ability to pay amounts due on the trust preferred securities is solely dependent upon the Company making payment on the related subordinated debentures. The Company’s obligations under the subordinated securities and other relevant trust agreements, in aggregate, constitute a full and unconditional guarantee by the Company of each respective trust’s obligations under the trust securities issued by each respective trust.
13. Other Borrowings
During 2015, the parent company took out a $20.0 million line of credit for general corporate purposes. The balance on this line of credit at December 31, 2015 was zero.
14. Income Taxes
The following is a summary of the components of the provision (benefit) for income taxes for the years ended December 31, 2015, 2014 and 2013:
Current:
Federal
State
Total current
Deferred:
Total deferred
The reconciliation between the statutory federal income tax rate and effective income tax rate is as follows for the years ended December 31, 2015, 2014 and 2013:
Statutory federal income tax rate
Effect of nontaxable interest income
State income taxes, net of federal benefit
Effective income tax rate
149
The types of temporary differences between the tax basis of assets and liabilities and their financial reporting amounts that give rise to deferred income tax assets and liabilities, and their approximate tax effects, are as follows:
Deferred tax assets:
Deferred compensation
Stock options
Real estate owned
Loan discounts
Tax basis premium/discount on acquisitions
Investments
Gross deferred tax assets
Deferred tax liabilities:
Accelerated depreciation on premises and equipment
Unrealized gain on securities available-for-sale
Core deposit intangibles
Indemnification asset
FHLB dividends
Gross deferred tax liabilities
Net deferred tax assets
The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and the states of Arkansas, Alabama and Florida and will be filing with the state of New York for the 2015 tax year beginning in 2016. The Company is no longer subject to U.S. federal and state tax examinations by tax authorities for years before 2011. During 2015, the State of Florida’s examination of the Company’s Florida State income tax returns for the 2010, 2011, 2012 and 2013 tax years was completed with no change to the financial position.
The Company recognizes interest accrued related to unrecognized tax benefits and penalties in income tax expense. During the years ended December 31, 2015, 2014 and 2013, the Company did not recognize any significant interest or penalties. The Company did not have any interest or penalties accrued at December 31, 2015, 2014 and 2013.
15. Common Stock and Compensation Plans
Common Stock
On April 18, 2013 at the Annual Meeting of Shareholders of the Company, the shareholders approved, as proposed in the Proxy Statement, an amendment to the Company’s Restated Articles of Incorporation to increase the number of authorized shares of common stock from 50,000,000 to 100,000,000.
On April 18, 2013, the Company’s Board of Directors declared a 2-for-1 stock split to be paid in the form of a 100% stock dividend on June 12, 2013 (the “Payment Date”) to shareholders of record at the close of business on May 22, 2013. The additional shares were distributed by the Company’s transfer agent, Computershare, and the Company’s common stock began trading on a split-adjusted basis on the NASDAQ Global Select Market on June 13, 2013. The stock split increased the Company’s total shares of common stock outstanding as of June 12, 2013 from 28,121,596 shares to 56,243,192 shares. All previously reported share and per share data included in filings subsequent to the Payment Date are restated to reflect the retroactive effect of this 2-for-1 stock split.
150
Stock Compensation Plans
The Company has a stock option and performance incentive plan known as the Amended and Restated 2006 Stock Option and Performance Incentive Plan (“the Plan”). The purpose of the Plan is to attract and retain highly qualified officers, directors, key employees, and other persons, and to motivate those persons to improve the Company’s business results. The Plan provides for the granting of incentive and non-qualified stock options and other equity awards, including the issuance of restricted shares. The maximum total number of shares of the Company’s common stock available for grants under the Plan is 4,644,000. At December 31, 2015, the Company has approximately 511,000 shares of common stock remaining available for future grants and approximately 1,908,000 shares of common stock reserved for issuance under the Plan.
The intrinsic value of the stock options outstanding at December 31, 2015, 2014, and 2013 was $21.1 million, $18.6 million and $26.8 million, respectively. The intrinsic value of the stock options vested at December 31, 2015, 2014 and 2013 was $14.5 million, $15.9 million and $22.1 million, respectively.
The intrinsic value of the stock options exercised during 2015, 2014 and 2013 was $7.2 million, $3.2 million, and $2.2 million, respectively.
Total unrecognized compensation cost, net of income tax benefit, related to non-vested awards, which are expected to be recognized over the vesting periods, was approximately $7.4 million as of December 31, 2015.
The table below summarized the stock option transactions under the Plan at December 31, 2015, 2014 and 2013 and changes during the years then ended:
Outstanding, beginning of year
Granted
Forfeited
Exercised
Outstanding, end of year
Exercisable, end of year
Stock-based compensation expense for stock-based compensation awards granted is based on the grant-date fair value. For stock option awards, the fair value is estimated at the date of grant using the Black-Scholes option-pricing model. This model requires the input of highly subjective assumptions, changes to which can materially affect the fair value estimate. Additionally, there may be other factors that would otherwise have a significant effect on the value of employee stock options granted but are not considered by the model. Accordingly, while management believes that the Black-Scholes option-pricing model provides a reasonable estimate of fair value, the model does not necessarily provide the best single measure of fair value for the Company’s employee stock options. The weighted-average fair value of options granted during the years ended December 31, 2015 and 2014 was $8.56 per share and $10.73 per share, respectively. The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model based on the weighted-average assumptions for expected dividend yield, expected stock price volatility, risk-free interest rate, and expected life of options granted.
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The assumptions used in determining the fair value of 2015, 2014 and 2013 stock option grants were as follows:
Expected dividend yield
Expected stock price volatility
Risk-free interest rate
Expected life of options
The following is a summary of currently outstanding and exercisable options at December 31, 2015:
Options Outstanding
Exercise Prices
$3.92 to $5.33
$5.54 to $5.54
$8.54 to $9.31
$10.16 to $13.12
$17.25 to $19.08
$29.42 to $33.72
$34.25 to $34.80
$36.91 to $36.91
$40.31 to $41.15
The table below summarizes the activity for the Company’s restricted stock issued and outstanding at December 31, 2015, 2014 and 2013 and changes during the years then ended:
Beginning of year
Issued
Vested
End of year
Amount of expense for twelve months ended
On August 2, 2012, 208,000 shares of restricted common stock were issued to our named executive officers and certain other employees of the Company. These shares include 86,000 shares subject to time vesting (“Restricted Shares”) and 122,000 shares subject to performance based vesting (“Performance Shares”).
The Restricted Shares will “cliff” vest on the third annual anniversary of the grant date. The Performance Shares are set up to “cliff” vest on the third annual anniversary of the date that the performance goal is met. As of September 30, 2013, the performance goal was met when the Company averaged $0.3125 diluted earnings per share for the past four consecutive quarters or total diluted earnings per share of $1.25 during the same period. In accordance with the vesting terms of the Performance Shares agreements, the issued shares are due to fully vest on September 30, 2016.
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On January 18, 2013, 18,000 shares of restricted common stock were issued to each non-employee member of our Board of Directors and 4,000 shares of restricted common stock to a regional president of our bank subsidiary for a total issuance of 22,000 shares of restricted common stock. The restricted stock issued will vest equally each year over three years beginning on the first anniversary of the issuance.
On June 4, 2013, 12,666 shares of restricted common stock were issued to a regional president of our bank subsidiary. Of these issued shares, 9,666 shares will vest equally each year over three years beginning on the first anniversary of the issuance. The remaining 3,000 shares are subject to the previously discussed performance-based vesting.
On January 17, 2014, the Company granted 40,000 shares of the Company’s restricted common stock to the Chairman, which will vest in three equal annual installments beginning on January 17, 2015, plus 3,000 restricted shares of HBI’s common stock to a regional president of the Company’s bank subsidiary, which will “cliff” vest on January 17, 2017.
On June 23, 2014, the Company granted 500 shares of HBI’s restricted common stock to an employee, which will vest in five equal annual installments beginning on June 23, 2015.
On January 16, 2015, the Company granted 60,000 shares of the Company’s restricted common stock to the Chairman, 9,000 shares of restricted common stock to nine non-employee members of the Board of Directors and 3,992 shares of restricted common stock to a group of employees of the Company’s bank subsidiary for a total issuance of 72,992 shares of restricted common stock. The restricted stock issued will “cliff” vest on January 16, 2018.
On May 28, 2015, the Company granted a total of 37,000 shares of the Company’s restricted common stock to a group of employees of the Company’s bank subsidiary. Of these issued shares, 18,500 shares will vest equally each year over three years beginning on the third anniversary of the grant. The remaining 18,500 shares are subject to performance based vesting (“2015 Performance Shares”). The 2015 Performance Shares are set up to vest over three years beginning on the third anniversary of the date that the performance goal is met. The performance goal will be met when the Company averages $0.625 diluted earnings per share for four consecutive quarters or total diluted earnings per share of $2.50 during the same period.
On August 6, 2015, the Company granted a total of 1,000 shares of the Company’s restricted common stock to its recently named Chief Accounting Officer. The restricted stock issued will “cliff” vest on August 6, 2018.
On August 24, 2015, the Company granted a total of 220,000 shares of the Company’s restricted common stock to a group of employees of the Company’s bank subsidiary. Of these issued shares, 110,000 shares will vest equally each year over three years beginning on the third anniversary of the grant. The remaining 110,000 shares are subject to performance based vesting (“2015 Performance Shares”). The 2015 Performance Shares are set up to vest over three years beginning on the third anniversary of the date that the performance goal is met. The performance goal will be met when the Company averages $0.625 diluted earnings per share for four consecutive quarters or total diluted earnings per share of $2.50 during the same period.
On October 1, 2015, the Company granted a total of 10,000 shares of the Company’s restricted common stock to an employee in connection with the acquisition of FBBI. The restricted stock issued will “cliff” vest on October 1, 2018. On December 31, 2015, these shares were forfeited due to the employee’s resignation from the Company.
On October 9, 2015, the Company granted a total of 20,000 shares of the Company’s restricted common stock to a group of employees of the Company’s bank subsidiary. Of these issued shares, 10,000 shares will vest equally each year over three years beginning on the third anniversary of the grant. The remaining 10,000 shares are subject to performance based vesting (“2015 Performance Shares”). The 2015 Performance Shares are set up to vest over three years beginning on the third anniversary of the date that the performance goal is met. The performance goal will be met when the Company averages $0.625 diluted earnings per share for four consecutive quarters or total diluted earnings per share of $2.50 during the same period.
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During 2015, the Company utilized a portion of its previously approved stock repurchase program. This program authorized the repurchase of 2,376,000 shares of the Company’s common stock. During the first quarter of 2015, the Company repurchased a total of 67,332 shares with a weighted-average stock price of $29.89 per share. No shares were repurchased after the first quarter of 2015. The 2015 earnings were used to fund these repurchases. Shares repurchased to date under the program total 1,578,228 shares. The remaining balance available for repurchase is 797,772 shares at December 31, 2015. The Company did not utilize a portion of its previously approved stock repurchase program during 2014 or 2013.
16. Non-Interest Expense
The table below shows the components of non-interest expense for years ended December 31:
Total other operating expenses
17. Employee Benefit Plans
401(k) Plan
The Company has a retirement savings 401(k) plan in which substantially all employees may participate. The Company matches employees’ contributions based on a percentage of salary contributed by participants. While the plan also allows for discretionary employer contributions, no discretionary contributions were made for the years ended 2015, 2014 and 2013. The Company’s expense for the plan was approximately $1.2 million, $1.0 million and $702,000 in 2015, 2014 and 2013, respectively, which is included in salaries and employee benefits expense.
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Chairman’s Retirement Plan
On April 20, 2007, the Company’s Board of Directors approved a Chairman’s Retirement Plan for John W. Allison, the Company’s Chairman. The Chairman’s Retirement Plan provides a supplemental retirement benefit of $250,000 a year for 10 consecutive years or until Mr. Allison’s death, whichever occurs later. During 2011, Mr. Allison reached the age of 65 and became 100% vested in the plan. Therefore, he began receiving the supplemental retirement benefit due to him. He received $250,000 of this benefit during 2015, 2014 and 2013, respectively. An expense of approximately $163,000, $169,000 and $176,000 was accrued for 2015, 2014 and 2013 for this plan, respectively.
18. Related Party Transactions
In the ordinary course of business, loans may be made to officers and directors and their affiliated companies at substantially the same terms as comparable transactions with other borrowers. At December 31, 2015 and 2014, related party loans were approximately $51.2 million and $28.0 million, respectively. New loans and advances on prior commitments made to the related parties were $26.9 million and $17.7 million for the years ended December 31, 2015 and 2014, respectively. Repayments of loans made by the related parties were $3.7 million and $20.3 million for the years ended December 31, 2015 and 2014, respectively.
At December 31, 2015 and 2014, directors, officers, and other related interest parties had demand, non-interest-bearing deposits of approximately $590,000 and $8.9 million, respectively, savings and interest-bearing transaction accounts of approximately $11.0 million and $9.8 million, respectively, and time certificates of deposit of approximately $6.4 million and $8.0 million, respectively.
During 2015, 2014 and 2013, rent expense totaling approximately $100,000, $104,000 and $98,000, respectively, was paid to related parties.
19. Leases
The Company leases certain premises and equipment under noncancelable operating leases with terms up to 17 years which are charged to expense over the lease term as it becomes payable. The Company’s leases do not have rent holidays. In addition, any rent escalations are tied to the consumer price index or contain nominal increases and are not included in the calculation of current lease expense due to the immaterial amount. At December 31, 2015, the minimum rental commitments under these noncancelable operating leases are as follows (in thousands):
20. Concentration of Credit Risks
The Company’s primary market areas are in Arkansas, Florida and South Alabama. The Company primarily grants loans to customers located within these geographical areas unless the borrower has an established relationship with the Company.
The diversity of the Company’s economic base tends to provide a stable lending environment. Although the Company has a loan portfolio that is diversified in both industry and geographic area, a substantial portion of its debtors’ ability to honor their contracts is dependent upon real estate values, tourism demand and the economic conditions prevailing in its market areas.
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21. Significant Estimates and Concentrations
Accounting principles generally accepted in the United States of America require disclosure of certain significant estimates and current vulnerabilities due to certain concentrations. Estimates related to the allowance for loan losses and certain concentrations of credit risk are reflected in Note 6, while deposit concentrations are reflected in Note 9.
Although the Company has a diversified loan portfolio, at December 31, 2015 and 2014, non-covered commercial real estate loans represented 60.6% and 57.3% of gross non-covered loans and 332.3% and 271.9% of total stockholders’ equity, respectively. Non-covered residential real estate loans represented 23.7% and 25.2% of gross non-covered loans and 130.1% and 119.6% of total stockholders’ equity at December 31, 2015 and 2014, respectively.
Approximately 87.0% of the Company’s loans as of December 31, 2015, are to borrowers in Alabama, Arkansas and Florida, the three states in which the Company has its branch locations. Additionally, the Company has 84.4% of its loans as real estate loans primarily in Arkansas, Florida and South Alabama.
Although general economic conditions in our market areas have improved, both nationally and locally, over the past three years and have shown signs of continued improvement, financial institutions still face circumstances and challenges which, in some cases, have resulted and could potentially result, in large declines in the fair values of investments and other assets, constraints on liquidity and significant credit quality problems, including severe volatility in the valuation of real estate and other collateral supporting loans. The financial statements have been prepared using values and information currently available to the Company.
Given the volatility of economy in the latter years of the last decade, the values of assets and liabilities recorded in the financial statements could change rapidly, resulting in material future adjustments in asset values, the allowance for loan losses and capital that could negatively impact the Company’s ability to meet regulatory capital requirements and maintain sufficient liquidity.
22. Commitments and Contingencies
In the ordinary course of business, the Company makes various commitments and incurs certain contingent liabilities to fulfill the financing needs of their customers. These commitments and contingent liabilities include lines of credit and commitments to extend credit and issue standby letters of credit. The Company applies the same credit policies and standards as they do in the lending process when making these commitments. The collateral obtained is based on the assessed creditworthiness of the borrower.
At December 31, 2015 and 2014, commitments to extend credit of $1.43 billion and $851.8 million, respectively, were outstanding. A percentage of these balances are participated out to other banks; therefore, the Company can call on the participating banks to fund future draws. Since some of these commitments are expected to expire without being drawn upon, the total commitment amount does not necessarily represent future cash requirements.
Outstanding standby letters of credit are contingent commitments issued by the Company, generally to guarantee the performance of a customer in third-party borrowing arrangements. The term of the guarantee is dependent upon the creditworthiness of the borrower, some of which are long-term. The amount of collateral obtained, if deemed necessary, is based on management’s credit evaluation of the counterparty. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, commercial real estate and residential real estate. Management uses the same credit policies in granting lines of credit as it does for on-balance-sheet instruments. The maximum amount of future payments the Company could be required to make under these guarantees at December 31, 2015 and 2014, is $24.3 million and $23.2 million, respectively.
The Company and/or its bank subsidiary have various unrelated legal proceedings, most of which involve loan foreclosure activity pending, which, in the aggregate, are not expected to have a material adverse effect on the financial position or results of operations or cash flows of the Company and its subsidiary.
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23. Financial Instruments
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value measurements must maximize the use of observable inputs and minimize the use of unobservable inputs. There is a hierarchy of three levels of inputs that may be used to measure fair value:
Available-for-sale securities are the only material instruments valued on a recurring basis which are held by the Company at fair value. The Company does not have any Level 1 securities. Primarily all of the Company’s securities are considered to be Level 2 securities. These Level 2 securities consist primarily of U.S. government-sponsored enterprises, mortgage-backed securities plus state and political subdivisions. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. As of December 31, 2015 and 2014, Level 3 securities were immaterial. In addition, there were no material transfers between hierarchy levels during 2015, 2014 and 2013.
The Corporation reviews the prices supplied by the independent pricing service, as well as their underlying pricing methodologies, for reasonableness and to ensure such prices are aligned with traditional pricing matrices. In general, the Company does not purchase investment portfolio securities with complicated structures. Pricing for the Company’s investment securities is fairly generic and is easily obtained.
Impaired loans that are collateral dependent are the only material financial assets valued on a non-recurring basis which are held by the Company at fair value. Loan impairment is reported when full payment under the loan terms is not expected. Impaired loans are carried at the net realizable value of the collateral if the loan is collateral dependent. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance. If these allocations cause the allowance for loan losses to require an increase, such increase is reported as a component of the provision for loan losses. The fair value of loans with specific allocated losses was $87.2 million and $78.7 million as of December 31, 2015 and 2014, respectively. This valuation is considered Level 3, consisting of appraisals of underlying collateral. The Company reversed approximately $684,000 and $934,000 of accrued interest receivable when non-covered impaired loans were put on non-accrual status during the years ended December 31, 2015 and 2014, respectively.
Foreclosed assets held for sale are the only material non-financial assets valued on a non-recurring basis which are held by the Company at fair value, less estimated costs to sell. At foreclosure, if the fair value, less estimated costs to sell, of the real estate acquired is less than the Company’s recorded investment in the related loan, a write-down is recognized through a charge to the allowance for loan losses. Additionally, valuations are periodically performed by management and any subsequent reduction in value is recognized by a write-down to income. The fair value of foreclosed assets held for sale is estimated using Level 3 inputs based on appraisals of underlying collateral. As of December 31, 2015 and 2014, the fair value of foreclosed assets held for sale not covered by loss share, less estimated costs to sell, was $18.5 million and $17.0 million, respectively.
Foreclosed assets held for sale with a carrying value of approximately $6.6 million were remeasured during 2015, resulting in write-downs of approximately $960,000.
Regulatory guidelines require us to reevaluate the fair value of foreclosed assets held for sale on at least an annual basis. Our policy is to comply with the regulatory guidelines.
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The significant unobservable (Level 3) inputs used in the fair value measurement of collateral for collateral-dependent impaired loans and foreclosed assets primarily relate to customized discounting criteria applied to the customer’s reported amount of collateral. The amount of the collateral discount depends upon the condition and marketability of the underlying collateral. As the Company’s primary objective in the event of default would be to monetize the collateral to settle the outstanding balance of the loan, less marketable collateral would receive a larger discount. During the reported periods, collateral discounts ranged from 20% to 50% for commercial and residential real estate collateral.
Fair Values of Financial Instruments
The following methods and assumptions were used by the Company in estimating fair values of financial instruments as disclosed in these notes:
Cash and cash equivalents and federal funds sold — For these short-term instruments, the carrying amount is a reasonable estimate of fair value.
Investment securities – held-to-maturity — These securities consist primarily of U.S. government-sponsored enterprises, mortgage-backed securities plus state and political subdivisions. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things.
Loans receivable not covered by loss share, net of non-covered impaired loans and allowance — For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are assumed to approximate the carrying amounts. The fair values for fixed-rate loans are estimated using discounted cash flow analysis, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics.
Loans receivable covered by FDIC loss share, net of allowance — Fair values for loans are based on a discounted cash flow methodology that considered factors including the type of loan and related collateral, classification status, fixed or variable interest rate, term of loan, whether or not the loan was amortizing and current discount rates. Loans were grouped together according to similar characteristics and were treated in the aggregate when applying various valuation techniques. The discount rates used for loans are based on current market rates for new originations of comparable loans and include adjustments for liquidity concerns. The discount rate does not include a factor for credit losses as that has been included in the estimated cash flows.
FDIC indemnification asset — Although this asset is a contractual receivable from the FDIC, there is no effective interest rate. The Bank will collect this asset over the next several years. The amount ultimately collected will depend on the timing and amount of collections and charge-offs on the acquired assets covered by the loss-sharing agreement. While this asset was recorded at its estimated fair value at acquisition date, it is not practicable to complete a fair value analysis on a quarterly or annual basis. This would involve preparing a fair value analysis of the entire portfolio of loans and foreclosed assets covered by the loss-sharing agreement on a quarterly or annual basis in order to estimate the fair value of the FDIC indemnification asset.
Accrued interest receivable — The carrying amount of accrued interest receivable approximates its fair value.
Deposits and securities sold under agreements to repurchase — The fair values of demand, savings deposits and securities sold under agreements to repurchase are, by definition, equal to the amount payable on demand and therefore approximate their carrying amounts. The fair values for time deposits are estimated using a discounted cash flow calculation that utilizes interest rates currently being offered on time deposits with similar contractual maturities.
FHLB borrowed funds — For short-term instruments, the carrying amount is a reasonable estimate of fair value. The fair value of long-term debt is estimated based on the current rates available to the Company for debt with similar terms and remaining maturities.
Accrued interest payable — The carrying amount of accrued interest payable approximates its fair value.
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Subordinated debentures — The fair value of subordinated debentures is estimated using the rates that would be charged for subordinated debentures of similar remaining maturities.
Commitments to extend credit, letters of credit and lines of credit — The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties. For fixed rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair values of letters of credit and lines of credit are based on fees currently charged for similar agreements or on the estimated cost to terminate or otherwise settle the obligations with the counterparties at the reporting date. The fair value of these commitments is not material.
The following table presents the estimated fair values of the Company’s financial instruments. The fair values of certain of these instruments were calculated by discounting expected cash flows, which involves significant judgments by management and uncertainties. Fair value is the estimated amount at which financial assets or liabilities could be exchanged in a current transaction between willing parties other than in a forced or liquidation sale. Because no market exists for certain of these financial instruments and because management does not intend to sell these financial instruments, the Company does not know whether the fair values shown below represent values at which the respective financial instruments could be sold individually or in the aggregate.
Financial assets:
Loans receivable not covered by loss share, net of non-covered impaired loans and allowance
Loans receivable covered by FDIC loss share, net of allowance
Financial liabilities:
Demand and non-interest bearing
Accrued interest payable
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24. Regulatory Matters
The Bank is subject to a legal limitation on dividends that can be paid to the parent company without prior approval of the applicable regulatory agencies. Arkansas bank regulators have specified that the maximum dividend limit state banks may pay to the parent company without prior approval is 75% of the current year earnings plus 75% of the retained net earnings of the preceding year. Since the Bank is also under supervision of the Federal Reserve, it is further limited if the total of all dividends declared in any calendar year by the Bank exceeds the Bank’s net profits to date for that year combined with its retained net profits for the preceding two years. During 2015, the Company requested approximately $76.2 million in regular dividends from its banking subsidiary. This dividend is equal to approximately 53.3% of the Company’s banking subsidiary’s 2015 earnings.
The Company’s banking subsidiary is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company’s assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Furthermore, the Company’s regulators could require adjustments to regulatory capital not reflected in the consolidated financial statements.
Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below) of total, common Tier 1 equity and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined) and of Tier 1 capital (as defined) to average assets (as defined). Management believes that, as of December 31, 2015, the Company meets all capital adequacy requirements to which it is subject.
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In July 2013, the Federal Reserve Board and the other federal bank regulatory agencies issued a final rule to revise their risk-based and leverage capital requirements and their method for calculating risk-weighted assets to make them consistent with the agreements that were reached by the Basel Committee on Banking Supervision in “Basel III: A Global Regulatory Framework for More Resilient Banks and Banking Systems” and certain provisions of the Dodd-Frank Act (“Basel III”). Basel III applies to all depository institutions, bank holding companies with total consolidated assets of $500 million or more, and savings and loan holding companies. Among other things, the rule establishes a new minimum “common equity Tier 1 capital” requirement of 4.5% of risk-weighted assets, raises the minimum “Tier 1 risk-based capital” requirement to 6% of risk-weighted assets and assigns higher risk weightings (150%) to exposures that are more than 90 days past due or are on non-accrual status and certain commercial real estate facilities that finance the acquisition, development or construction of real property.
Basel III permanently grandfathers trust preferred securities and other non-qualifying capital instruments that were issued and outstanding as of May 19, 2010 in the Tier 1 capital of bank holding companies with total consolidated assets of less than $15 billion as of December 31, 2009. The rule phases out of Tier 1 capital these non-qualifying capital instruments issued before May 19, 2010 by all other bank holding companies. Basel III also limits a banking organization’s capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” of 2.5% of “common equity tier 1 capital” to risk-weighted assets, which is in addition to the amount necessary to meet its minimum risk-based capital requirements. Basel III became effective for the Company and its bank subsidiary on January 1, 2015. The capital conservation buffer requirement will be phased in beginning January 1, 2016. The phase-in period ends on January 1, 2019 when the full capital conservation buffer requirement becomes effective.
Basel III amended the prompt corrective action rules to incorporate a “common equity Tier 1 capital” requirement and to raise the capital requirements for certain capital categories. In order to be adequately capitalized for purposes of the prompt corrective action rules, a banking organization will be required to have at least a 4.5% “common equity Tier 1 risk-based capital” ratio, a 4% “Tier 1 leverage capital” ratio, a 6% “Tier 1 risk-based capital” ratio and an 8% “total risk-based capital” ratio.
The Federal Reserve Board’s risk-based capital guidelines include the definitions for (1) a well-capitalized institution, (2) an adequately-capitalized institution, and (3) an undercapitalized institution. Under Basel III, the criteria for a well-capitalized institution are now: a 6.5% “common equity Tier 1 risk-based capital” ratio, a 5% “Tier 1 leverage capital” ratio, an 8% “Tier 1 risk-based capital” ratio, and a 10% “total risk-based capital” ratio. As of December 31, 2015, the Bank met the capital standards for a well-capitalized institution. The Company’s “common equity Tier 1 risk-based capital” ratio, “Tier 1 leverage capital” ratio, “Tier 1 risk-based capital” ratio, and “total risk-based capital” ratio were 10.50%, 9.91%, 11.26%, and 12.16%, respectively, as of December 31, 2015.
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The Company’s actual capital amounts and ratios along with the Company’s bank subsidiary are presented in the following table.
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25. Additional Cash Flow Information
In connection with the Doral Florida acquisition, accounted for using the purchase method, the Company acquired approximately $39.3 million in assets, assumed $467.6 million in liabilities, issued no equity and received net funds of $429.9 million during 2015. As a result, the Company recorded a bargain purchase gain of $1.6 million.
In connection with the FBBI acquisition, accounted for using the purchase method, the Company acquired approximately $564.5 million in assets, assumed $480.7 million in liabilities, issued 2,079,854 shares of its common stock valued at approximately $83.8 million as of October 1, 2015 to the shareholders of FBBI, plus approximately $20.3 million in cash in exchange for all outstanding shares of FBBI common stock.
The following is summary of the Company’s additional cash flow information during the years ended December 31:
Interest paid
Income taxes paid
Assets acquired by foreclosure
26. Condensed Financial Information (Parent Company Only)
Condensed Balance Sheets
Investments in wholly-owned subsidiaries
Investments in unconsolidated subsidiaries
Premises and equipment
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Condensed Statements of Income
Income
Dividends from banking subsidiary
Total income
Expenses
Income before income taxes and equity in undistributed net income of subsidiaries
Tax benefit for income taxes
Income before equity in undistributed net income of subsidiaries
Equity in undistributed net income of subsidiaries
Condensed Statements of Cash Flows
Cash flows from operating activities
Items not requiring (providing) cash
Equity in undistributed income of subsidiaries
Changes in other assets
Changes in other liabilities
Cash flows from investing activities
Centennial Trust merger
Purchase of Liberty Bank
Purchase of Florida Traditions Bank
Purchase of Broward Financial Holdings, Inc.
Purchase of Florida Business BancGroup, Inc.
Purchase of investment securities
Cash flows from financing activities
Dividends paid
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents, beginning of year
Cash and cash equivalents, end of year
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27. Recent Accounting Pronouncements
In January 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-04, Receivables: Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure (Topic 310-40). ASU 2014-04 clarifies that an in substance repossession or foreclosure occurs upon either the creditor obtaining legal title to the residential real estate property or 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. The amendments became effective for annual periods, and interim reporting periods within those annual periods, beginning after December 15, 2014. The amendments may be adopted using either a modified retrospective transition method or a prospective transition method. The Company has adopted the new guidance, which has made no impact to the Company’s financial statements.
In January 2014, the FASB issued ASU No. 2014-01, Accounting for Investments in Affordable Housing Projects (Topic 323). ASU 2014-01 revises the necessary criteria that need to be met in order for an entity to account for investments in affordable housing projects net of the provision for income taxes. It also changes the method of recognition from an effective amortization approach to a proportional amortization approach. Additional disclosures were also set forth in this update. The amendments became effective for annual periods, and interim reporting periods within those annual periods, beginning after December 15, 2014. The amendments are required to be applied retrospectively to all periods presented. The Company has adopted the new guidance on the consolidated financial statements, which has made no impact to the Company’s financial statements.
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). ASU 2014-09 provides guidance 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 and services. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606), which defers the effective date of this standard to annual and interim periods beginning after December 15, 2017; however, early adoption is permitted for annual and interim reporting periods beginning after December 15, 2016. The Company is currently evaluating the impact, if any, ASU 2014-09 will have on its financial position, results of operations, and its financial statement disclosures.
In June 2014, the FASB issued ASU No. 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period, impacting FASB ASC 860, Transfers and Servicing. Generally, an award with a performance target requires an employee also render service once the performance target is achieved. In some cases, however, the terms of an award may provide that the performance target could be achieved after an employee completes the requisite service period. The amendments in this update require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. An entity should apply this guidance as it relates to awards with performance conditions that affect vesting to account for such awards. As such, the performance target should not be reflected in estimating the grant-date fair value of the award. Compensation cost should be recognized in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the period for which the service has already been rendered. The amendments in this update became effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. The Company has adopted the new guidance on the consolidated financial statements, which has made no impact to the Company’s financial statements.
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In August 2014, the FASB issued ASU No. 2014-14, Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure, impacting FASB ASC 310-40, Receivables – Troubled Debt Restructuring by Creditors. This update affects creditors that hold government-guaranteed mortgage loans. The amendments in this update require that a mortgage loan be derecognized and that a separate other receivable be recognized if the following conditions are met: (1) the loan has a government guarantee that is not separable from the loan before foreclosure; (2) at the time of foreclosure, the creditor has the intent to convey the real estate property to the guarantor and make a claim on the guarantee, and the creditor has the ability to recover under the claim; (3) at the time of foreclosure, the claim that is determined on the basis of the fair value of the real estate is fixed. Upon foreclosure, the separate other receivable should be measured based on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. The amendments in this update became effective for annual periods and interim periods within those annual periods beginning after December 15, 2014. The Company has adopted the new guidance on the consolidated financial statements, which has made no impact to the Company’s financial statements.
In February 2015, the FASB issued ASU 2015-02,Consolidation (Topic 810): Amendments to the Consolidation Analysis, which amends the consolidation requirements of ASU 810 by changing the consolidation analysis required under GAAP. The revised guidance amends the consolidation analysis based on certain fee arrangements or relationships to the reporting entity and, for limited partnerships, requires entities to consider the limited partner’s rights relative to the general partner. ASU 2015-02 became effective for annual and interim periods beginning after December 15, 2015. ASU 2015-02 did not have an impact on the Company’s financial position, results of operations, or its financial statement disclosures.
In September 2015, the FASB issued ASU 2015-16, Simplifying the Accounting for Measurement-Period Adjustments. ASU 2015-16 requires entities to recognize measurement period adjustments during the reporting period in which the adjustments are determined. The income effects, if any, of a measurement period adjustment are cumulative and are to be reported in the period in which the adjustment to a provisional amount is determined. Also, ASU 2015-16 requires presentation on the face of the income statement or in the notes, the effect of the measurement period adjustment as if the adjustment had been recognized at acquisition date. ASU 2015-16 is effective for fiscal periods beginning after December 15, 2016 and should be applied prospectively to measurement period adjustments that occur after the effective date.
In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. Changes to the current GAAP model primarily affect the accounting for equity investments, financial liabilities under the fair value option, and the presentation and disclosure requirements for financial instruments. In addition, ASU 2016-01 clarifies guidance related to the valuation allowance assessment when recognizing deferred tax assets resulting from unrealized losses on available-for-sale securities. The new guidance is effective for annual reporting period and interim reporting periods within those annual periods, beginning after December 15, 2017. Management is currently evaluating the impact of the adoption of this guidance to the Company’s financial statements.
Presently, the Company is not aware of any changes from the Financial Accounting Standards Board that will have a material impact on the Company’s present or future financial statements.
No items are reportable.
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Evaluation of Disclosure Controls and Procedures.
An evaluation as of the end of the period covered by this annual report was carried out under the supervision and with the participation of our management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of our “disclosure controls and procedures,” which are defined under SEC rules as controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files under the Exchange Act is recorded, processed, summarized and reported within required time periods. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective. As a result of this evaluation, there were no significant changes in the Company’s disclosure controls or in other factors that could significantly affect those controls subsequent to the date of evaluation.
The information required by Item 308(a) and 308(b) of Regulation S-K regarding management’s annual report on internal control over financial reporting and the audit report of the independent registered public accounting firm is contained in “Item 8. Financial Statements and Supplementary Data” and is incorporated herein by this reference.
Changes in Internal Control Over Financial Reporting
The Company’s management, including the Company’s Chief Executive Officer and its Chief Financial Officer regularly review our internal controls and procedures and make changes intended to ensure the quality of our financial reporting. There were no changes in our internal control over financial reporting during the Company’s fourth quarter of 2015 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting. In February 2015, April 2015 and October 2015, we completed the acquisitions of Doral Florida, the pool of national commercial real estate loans and Florida Business BancGroup, Inc., respectively, and as a result, we extended our oversight and monitoring processes that support our internal control over financial reporting to include the operations of Doral Florida, the pool of national commercial real estate loans and FBBI. Management has concluded that the inclusion of these acquisitions has not materially affected, and is not reasonably likely to materially affect, the Company’s internal control over financial reporting.
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PART III
Incorporated herein by reference from the Company’s definitive proxy statement for the Annual Meeting of Stockholders to be held April 21, 2016, to be filed pursuant to Regulation 14A.
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PART IV
The following documents are filed as part of this report:
The financial statements and financial statement schedules listed in the accompanying index to the consolidated financial statements and financial statement schedules are filed as part of this report.
Exhibit
No.
169
170
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
/s/ C. Randall Sims
Date: February 26, 2016
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities indicated as of February 26, 2016.
/s/ John W. Allison
/s/ Brian S. Davis
Chief Financial Officer,
Treasurer and Director
(Principal Financial Officer)
/s/ Milburn Adams
/s/ Robert H. Adcock, Jr.
/s/ Richard H. Ashley
/s/ Dale A. Bruns
/s/ Richard A. Buckheim
/s/ Jack E. Engelkes
/s/ Tracy M. French
/s/ James G. Hinkle
/s/ Alex R. Lieblong
/s/ Thomas J. Longe
/s/ Jennifer C. Floyd
Chief Accounting Officer
and Investor Relations Officer
(Principal Accounting Officer)
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