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EX-31.2 - SECTION 302 CFO CERTIFICATION - Xenith Bankshares, Inc.d255233dex312.htm
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EX-31.1 - SECTION 302 CEO CERTIFICATION - Xenith Bankshares, Inc.d255233dex311.htm
EX-32.2 - SECTION 906 CFO CERTIFICATION - Xenith Bankshares, Inc.d255233dex322.htm
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

(Mark One)

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2011

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission file number: 000-53380

 

 

Xenith Bankshares, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Virginia   80-0229922

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

One James Center

901 E. Cary Street, Suite 1700

Richmond, Virginia

  23219
(Address of principal executive offices)   (Zip Code)

(804) 433-2200

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report)

 

 

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 past 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  ¨    No  x

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

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller reporting company   x

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 number of shares of Common Stock, par value $1.00 per share, outstanding at November 7, 2011 was 10,446,928.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

     Page  
PART I - FINANCIAL INFORMATION   

Item 1 Financial Statements

     1   

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

     20   

Item 3 Quantitative and Qualitative Disclosures About Market Risk

     36   

Item 4 Controls and Procedures

     36   
PART II - OTHER INFORMATION   

Item 1 Legal Proceedings

     36   

Item 1A Risk Factors

     36   

Item 2 Unregistered Sales of Equity Securities and Use Proceeds

     37   

Item 3 Defaults Upon Senior Securities

     37   

Item 5 Other Information

     37   

Item 6 Exhibits

     37   

SIGNATURES

     38   


Table of Contents

PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements

XENITH BANKSHARES, INC. AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

AS OF SEPTEMBER 30, 2011 AND DECEMBER 31, 2010

 

(in thousands, except share data)    (Unaudited)
September 30, 2011
    December 31, 2010  

Assets

    

Cash and cash equivalents

    

Cash and due from banks

   $ 76,051      $ 10,745   

Federal funds sold

     7,916        1,456   
  

 

 

   

 

 

 

Total cash and cash equivalents

     83,967        12,201   

Securities available-for-sale, at fair value

     60,861        58,890   

Loans, net of allowance for loan and lease losses, 2011 - $3,421; 2010 - $1,766

     293,307        151,380   

Premises and equipment, net

     6,025        6,450   

Other real estate owned

     1,379        1,485   

Goodwill and other intangible assets, net

     16,445        14,109   

Accrued interest receivable

     1,317        821   

Other assets

     6,654        5,865   
  

 

 

   

 

 

 

Total assets

   $ 469,955      $ 251,201   
  

 

 

   

 

 

 

Liabilities and Shareholders’ equity

    

Deposits

    

Demand and money market

   $ 225,223      $ 70,030   

Savings

     3,322        3,461   

Time

     133,733        101,648   
  

 

 

   

 

 

 

Total deposits

     362,278        175,139   

Accrued interest payable

     274        454   

Federal funds purchased and borrowed funds

     20,000        25,000   

Other liabilities

     6,995        1,819   
  

 

 

   

 

 

 

Total liabilities

     389,547        202,412   
  

 

 

   

 

 

 

Shareholders’ equity

    

Preferred stock, $1.00 par value, 25,000,000 shares authorized as of September 30, 2011 and December 31, 2010; 8,381 and 0 shares outstanding as of September 30, 2011 and December 31, 2010, respectively

     8,381        —     

Common stock, $1.00 par value, 100,000,000 shares authorized as of September 30, 2011 and December 31, 2010; 10,446,928 and 5,846,928 issued and outstanding as of September 30, 2011 and December 31, 2010, respectively

     10,447        5,847   

Additional paid-in capital

     70,911        57,715   

Accumulated deficit

     (11,142     (15,374

Accumulated other comprehensive income, net of tax

     1,811        601   
  

 

 

   

 

 

 

Total shareholders’ equity

     80,408        48,789   
  

 

 

   

 

 

 

Total liabilities and shareholders’ equity

   $ 469,955      $ 251,201   
  

 

 

   

 

 

 

See notes to unaudited consolidated financial statements.

 

1


Table of Contents

XENITH BANKSHARES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2011 AND SEPTEMBER 30, 2010

(Unaudited)

 

(in thousands, except per share data)    September 30, 2011     September 30, 2010  

Interest income

    

Interest and fees on loans

   $ 5,129      $ 2,372   

Interest on securities

     515        537   
  

 

 

   

 

 

 

Total interest income

     5,644        2,909   
  

 

 

   

 

 

 

Interest expense

    

Interest on deposits

     447        221   

Interest on time deposits of $100,000 and over

     180        208   

Interest on federal funds purchased and borrowed funds

     185        154   
  

 

 

   

 

 

 

Total interest expense

     812        583   
  

 

 

   

 

 

 

Net interest income

     4,832        2,326   

Provision for loan and lease losses

     1,620        740   
  

 

 

   

 

 

 

Net interest income after provision for loan and lease losses

     3,212        1,586   
  

 

 

   

 

 

 

Noninterest income

    

Service charges on deposit accounts

     42        44   

Net loss on sales and write-down of OREO

     (166     (6

Gain on sales of investment securities

     38        7   

Bargain purchase gain

     8,658        —     

Other

     9        57   
  

 

 

   

 

 

 

Total noninterest income

     8,581        102   
  

 

 

   

 

 

 

Noninterest expense

    

Compensation and benefits

     2,593        1,852   

Occupancy

     419        350   

FDIC insurance

     87        73   

Bank franchise taxes

     90        105   

Technology

     446        264   

Communications

     88        55   

Insurance

     48        77   

Professional fees

     696        363   

Travel

     54        47   

Supplies

     56        32   

OREO expenses

     119        —     

Other expenses

     250        127   
  

 

 

   

 

 

 

Total noninterest expense

     4,946        3,345   
  

 

 

   

 

 

 

Income (loss) before income tax

     6,847        (1,657

Income tax expense

     58        294   
  

 

 

   

 

 

 

Net income (loss)

     6,789        (1,951

Other comprehensive income (loss):

    

Net unrealized gain on securities available-for-sale, net of tax

     377        145   
  

 

 

   

 

 

 

Comprehensive income (loss)

   $ 7,166      $ (1,806
  

 

 

   

 

 

 

Per share data (basic and diluted):

   $ 0.65      $ (0.33
  

 

 

   

 

 

 

See notes to unaudited consolidated financial statements.

 

2


Table of Contents

XENITH BANKSHARES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2011 AND SEPTEMBER 30, 2010

(Unaudited)

 

(in thousands, except per share data)    September 30, 2011     September 30, 2010  

Interest income

    

Interest and fees on loans

   $ 10,741      $ 5,920   

Interest on securities

     1,515        1,622   
  

 

 

   

 

 

 

Total interest income

     12,256        7,542   
  

 

 

   

 

 

 

Interest expense

    

Interest on deposits

     865        723   

Interest on time deposits of $100,000 and over

     472        424   

Interest on federal funds purchased and borrowed funds

     460        457   
  

 

 

   

 

 

 

Total interest expense

     1,797        1,604   
  

 

 

   

 

 

 

Net interest income

     10,459        5,938   

Provision for loan and lease losses

     3,100        1,250   
  

 

 

   

 

 

 

Net interest income after provision for loan and lease losses

     7,359        4,688   
  

 

 

   

 

 

 

Noninterest income

    

Service charges on deposit accounts

     139        108   

Net loss on sales and write-down of OREO

     (180     (6

Gain on sales of investment securities

     64        108   

Bargain purchase gain

     8,658        —     

Other

     94        150   
  

 

 

   

 

 

 

Total noninterest income

     8,775        360   
  

 

 

   

 

 

 

Noninterest expense

    

Compensation and benefits

     6,784        5,450   

Occupancy

     1,112        1,031   

FDIC insurance

     244        214   

Bank franchise taxes

     240        315   

Technology

     1,059        996   

Communications

     208        162   

Insurance

     124        195   

Professional fees

     1,205        962   

Travel

     131        140   

Supplies

     110        139   

OREO expenses

     213        —     

Other expenses

     414        437   
  

 

 

   

 

 

 

Total noninterest expense

     11,844        10,041   
  

 

 

   

 

 

 

Income (loss) before income tax

     4,290        (4,993

Income tax expense

     58        —     
  

 

 

   

 

 

 

Net income (loss)

     4,232        (4,993

Other comprehensive income (loss):

    

Net unrealized gain on securities available-for-sale, net of tax

     1,210        1,544   
  

 

 

   

 

 

 

Comprehensive income (loss)

   $ 5,442      $ (3,449
  

 

 

   

 

 

 

Per share data (basic and diluted):

   $ 0.48      $ (0.85
  

 

 

   

 

 

 

See notes to unaudited consolidated financial statements.

 

3


Table of Contents

XENITH BANKSHARES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2011 AND 2010

(Unaudited)

 

(in thousands)    September 30, 2011     September 30, 2010  

Cash flows from operating activities

    

Net income (loss)

   $ 4,232      $ (4,993

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

    

Depreciation and amortization

     888        804   

Net amortization of securities available-for-sale

     402        315   

Accretion of acquisition accounting adjustments

     (2,886     (1,806

Gain on sales of investment securities

     (64     (108

Share-based compensation expense

     116        180   

Gain on sales of fixed assets

     25        —     

Gain on FDIC assisted transaction

     (8,658     —     

Net loss on sales and write-down of OREO

     180        6   

Provision for loan and lease losses

     3,100        1,250   

Change in operating assets and liabilities

    

Accrued interest receivable

     (30     259   

Other assets

     494        (975

Accrued interest payable

     (265     46   

Other liabilities

     5,176        (58
  

 

 

   

 

 

 

Net cash provided by (used in) operating activities

     2,710        (5,080
  

 

 

   

 

 

 

Cash flows from investing activities

    

Cash and cash equivalents acquired in acquisitions

     54,538        —     

Proceeds from maturities, calls and sales of securities

     14,417        38,334   

Purchase of securities

     (15,518     (63,837

Net proceeds from sale of OREO

     805        226   

Purchase of FRB and FHLB stock

     (2     —     

Net increase in loans

     (29,883     (33,732

Net purchase of premises and equipment

     (351     (394
  

 

 

   

 

 

 

Net cash provided by (used in) investing activities

     24,006        (59,403
  

 

 

   

 

 

 

Cash flows from financing activities

    

Net increase in demand and savings deposits

     79,896        34,168   

Net (decrease) increase in time deposits

     (46,023     18,406   

Net decrease in federal funds purchased and borrowed funds

     (14,885     (6,260

Preferred stock dividend

     (2     —     

Proceeds from issuance of preferred stock

     8,381        —     

Proceeds from issuance of common stock

     17,683        —     
  

 

 

   

 

 

 

Net cash provided by financing activities

     45,050        46,314   
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

     71,766        (18,169

Cash and cash equivalents

    

Beginning of period

     12,201        35,203   
  

 

 

   

 

 

 

End of period

   $ 83,967      $ 17,034   
  

 

 

   

 

 

 

Supplementary Disclosure of Cash Flow Information

    

Cash Payments for:

    

Interest

   $ 2,787      $ 2,459   
  

 

 

   

 

 

 

Transfer of loans to foreclosed assets

   $ 619      $ 100   
  

 

 

   

 

 

 

See notes to unaudited consolidated financial statements.

 

4


Table of Contents

Xenith Bankshares, Inc. and Subsidiary

Notes to Unaudited Consolidated Financial Statements

September 30, 2011

 

 

Note 1. Organization

General

Xenith Bankshares, Inc. (“Xenith Bankshares” or the “company”) is a bank holding company for Xenith Bank (the “Bank”), a Virginia-based institution headquartered in Richmond, Virginia. As of September 30, 2011, the company, through the Bank, operates five full-service branches: one branch in Tysons Corner, Virginia, one branch in Richmond, Virginia and three branches in Suffolk, Virginia.

Background

First Bankshares, Inc. (“First Bankshares”) was incorporated in Virginia in 2008 and was the holding company for SuffolkFirst Bank, a community bank founded in the City of Suffolk, Virginia in 2002.

On December 22, 2009, First Bankshares and Xenith Corporation completed the merger of Xenith Corporation with and into First Bankshares (the “merger”), with First Bankshares being the surviving entity in the merger. The merger was completed in accordance with the terms of an agreement of merger and related plan of merger, dated May 12, 2009, as amended. At the effective time of the merger, First Bankshares amended its articles of incorporation to, among other things, change its name to Xenith Bankshares, Inc. In addition, following the completion of the merger, SuffolkFirst Bank, a wholly-owned subsidiary of the combined company, changed its name to Xenith Bank. From its inception on February 19, 2008 until the completion of the merger on December 22, 2009, Xenith Corporation (formerly Xenith Bank [In Organization]) had no banking charter, did not engage in any banking business, and had no substantial operations.

Although the merger was structured as a merger of Xenith Corporation with and into First Bankshares, with First Bankshares being the surviving entity for legal purposes, Xenith Corporation was treated as the acquirer for accounting purposes. Accordingly, the assets and liabilities of First Bankshares were recorded at their fair values on December 22, 2009 in the consolidated financial statements of Xenith Bankshares. The merger was accounted for applying the acquisition method of accounting.

On April 4, 2011, the company completed the issuance and sale of 4,000,000 shares of common stock at a public offering price of $4.25 per share pursuant to an effective registration statement filed with the Securities and Exchange Commission. On April 14, 2011, the company completed the issuance and sale of an additional 600,000 shares of common stock in connection with the over-allotment option granted to the underwriters of the offering. Net proceeds, after the underwriters’ discount and expenses, were $17.7 million.

Effective July 29, 2011, the Bank completed the acquisition of select loans totaling approximately $58 million and related assets associated with the Richmond, Virginia branch office (the “Paragon Branch”) of Paragon Commercial Bank, a North Carolina banking corporation (“Paragon”), and assumed select deposit accounts totaling approximately $77 million and certain related liabilities associated with the Paragon Branch (the “Paragon Transaction”). The Paragon Transaction was completed in accordance with the terms of the Amended and Restated Purchase and Assumption Agreement, dated as of July 25, 2011 (the “Paragon Agreement”), between the Bank and Paragon. Under the terms of the Paragon Agreement, Paragon retained the real and personal property associated with the Paragon Branch office, and subject to receipt of required regulatory approvals, the Paragon Branch office will be closed. Under the terms of the Paragon Agreement, at the closing of the Paragon Transaction, Paragon made a cash payment to the Bank in the amount of $17.3 million, subject to adjustment as provided in the Paragon Agreement, which represents the excess of approximately all of the liabilities assumed at a premium of 3.92%, over approximately all of the assets acquired at a discount of 3.77%. A final allocation of the consideration transferred in the Paragon Transaction is not complete.

Also effective July 29, 2011, the Bank acquired substantially all of the assets and assumed certain liabilities, including all deposits, of Virginia Business Bank (“VBB”), a Virginia banking corporation located in Richmond, Virginia, which was closed on July 29, 2011 by the Virginia State Corporation Commission (the “VBB Acquisition”). The Federal Deposit Insurance Corporation (the “FDIC”) is acting as court-appointed receiver of VBB. The VBB Acquisition was completed in accordance with the terms of the Purchase and Assumption Agreement, dated as of July 29, 2011 (the “VBB Agreement”), among the FDIC, receiver for VBB, the FDIC and the Bank. Based upon a preliminary closing with the FDIC as of July 29, 2011, the Bank acquired total assets of approximately $93 million, including approximately $70 million in loans. The Bank also agreed to assume liabilities of approximately $87 million, including approximately $77 million in deposits. These amounts are estimates and, accordingly, are subject to adjustments based upon final settlement with the FDIC. The VBB Acquisition was completed without any shared-loss agreement.

Under the terms of the VBB Agreement, the Bank received a discount of approximately $23.8 million on the net assets and did not pay a deposit premium. The Bank also received an initial cash payment from the FDIC in the amount of $17.8 million based on the difference between the discount received ($23.8 million) and the net assets of VBB ($5.9 million) (subject to adjustment as provided in the VBB Agreement). A final allocation of the consideration transferred in the VBB Acquisition is not complete.

 

5


Table of Contents

The Paragon Transaction and the VBB Acquisition were accounted for as acquisitions of businesses, and accordingly, the assets acquired and liabilities assumed have been reported at their estimated fair values as of the acquisition date in the consolidated financial statements of the company.

Note 2. Basis of Presentation

The consolidated financial statements include the accounts of Xenith Bankshares and its wholly-owned subsidiary, Xenith Bank. All significant intercompany accounts have been eliminated.

In management’s opinion, the accompanying unaudited consolidated financial statements, which have been prepared in conformity with Generally Accepted Accounting Principles in the United States of America (“GAAP”) for interim period reporting, and reflect all adjustments, consisting solely of normal recurring accruals, necessary for a fair presentation of the financial positions at September 30, 2011 and December 31, 2010, the results of operations for the three and nine months ended September 30, 2011 and 2010, and the statements of cash flows for the three and nine months ended September 30, 2011 and 2010. The results for the three and nine months ended September 30, 2011 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2011. The unaudited consolidated financial statements and accompanying notes should be read in conjunction with the company’s consolidated financial statements and the accompanying notes to consolidated financial statements included in the company’s Annual Report on Form 10-K for the year ended December 31, 2010.

In certain instances, amounts reported in prior periods’ consolidated financial statements have been reclassified to conform to the current presentation. Such reclassifications have no effect on previously reported total assets, liabilities, shareholders’ equity or net loss.

All dollar amounts included in the tables in these notes are in thousands.

Note 3. Business Combinations

The company has accounted for the Paragon Transaction and the VBB Acquisition under the acquisition method of accounting, in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 805, “Business Combinations”, whereby the acquired assets and assumed liabilities were recorded by the company at their estimated fair values as of the acquisition date, which was July 29, 2011. Fair value estimates were based on management’s assessment of the best information available as of the acquisition date. The final determination of estimated fair values of loans and intangibles will be made when all necessary information becomes available and management has completed its analysis.

In accordance with the framework established by FASB ASC Topic 820 “Fair Value Measurements and Disclosure” (“Topic 820”), the company used a fair value hierarchy to prioritize the information used to develop assumptions to develop estimates in determining fair values. These fair value hierarchies are further discussed in note 14.

The Paragon Transaction and VBB Acquisition provide strategic and financial growth while leveraging the Bank’s existing infrastructure costs.

 

6


Table of Contents

Paragon Transaction

The following table presents the preliminary allocation of the consideration received to the acquired assets and assumed liabilities in the Paragon Transaction as of the acquisition date. The preliminary allocation results in core deposit intangibles of $2.5 million.

 

Assets acquired:

     

Cash

   $ 146      

Loans

     58,291      

Transportation equipment

     5      

Accrued interest receivable

     212      
  

 

 

    

Total assets acquired

     58,654      
  

 

 

    

Liabilities assumed:

     

Deposits

     76,550      

Accrued interest payable

     39      
  

 

 

    

Total liabilities assumed

     76,589      
  

 

 

    

Net liabilities assumed

      $ 17,935   

Adjustments to reflect assets at fair value:

     

Loans

        1,823   

Core deposit intangible

        (2,470
     

 

 

 

Transaction consideration received

      $ 17,288   
     

 

 

 

All of the loans acquired in the Paragon Transaction were performing loans as of the acquisition date.

 

7


Table of Contents

VBB Acquisition

The following table presents the preliminary allocation of the consideration received to the acquired assets and assumed liabilities in the VBB Acquisition as of the acquisition date. The preliminary allocation results in an after tax bargain purchase gain of $5.7 million.

 

Assets acquired:

     

Cash

   $ 19,192      

Loans

     70,893      

Other real estate owned

     1,500      

Accrued interest receivable

     254      

Other assets

     1,039      
  

 

 

    

Total assets acquired

     92,878      
  

 

 

    

Liabilities assumed:

     

Deposits

     77,525      

FHLB borrowings

     9,371      

Accrued interest payable

     46      

Other liabilities

     1      
  

 

 

    

Total liabilities assumed

     86,943      
  

 

 

    

Net assets acquired

      $ 5,935   

Adjustments to reflect assets and liabilities at fair value:

     

Loans

        (13,964

Other real estate owned

        (620

FHLB borrowing

        (514

Deferred tax liability

        (2,944
     

 

 

 

Transaction consideration received

        17,822   
     

 

 

 

Bargain purchase gain, net of tax

      $ 5,715   
     

 

 

 

The following table presents the purchased performing and nonperforming loans receivable and the estimated fair value adjustment recorded as of the date of acquisition for the VBB Acquisition. Those loans that have been identified as purchased nonperforming loans receivable at acquisition are based on management’s best estimate and are subject to change.

 

     Purchased
Performing
    Purchased
Nonperforming
    Total  

Contractual principal payments receivable

   $ 61,604      $ 9,289      $ 70,893   

Fair value adjustment

     (9,358     (4,606     (13,964
  

 

 

   

 

 

   

 

 

 

Fair value of acquired loans

   $ 52,246      $ 4,683      $ 56,929   
  

 

 

   

 

 

   

 

 

 

As of September 30, 2011, the contractual principal payments receivable and carrying value of the loans identified as nonperforming at acquisition was $7.1 million and $2.9 million, respectively.

The following table presents the purchased loans receivable at the date of the First Bankshares merger and the fair value adjustment recorded immediately following the merger:

 

     Purchased
Performing
Loans
    Purchased
Impaired
Loans
    Total Loans  

Contractual principal payments receivable

   $ 101,979      $ 7,711      $ 109,690   

Fair value adjustment for credit and interest rates

     (4,071     (3,569     (7,640
  

 

 

   

 

 

   

 

 

 

Fair value of purchased loans

   $ 97,908      $ 4,142      $ 102,050   
  

 

 

   

 

 

   

 

 

 

The fair value adjustment for loans acquired in the merger was comprised of a credit and interest rate adjustment of $7.6 million. The remaining fair value adjustment as of September 30, 2011 and December 31, 2010 was $1.6 million and $3.8 million, respectively. As of September 30, 2011, the outstanding carrying value of loans identified as impaired at the date of the merger that remains outstanding was $588 thousand.

 

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Note 4. Restrictions of Cash

To comply with Federal Reserve regulations, the Bank is required to maintain certain average cash reserve balances. The daily average cash reserve requirements for the weeks closest to September 30, 2011 and December 31, 2010 were $1.2 million and $460 thousand, respectively.

Note 5. Securities

The following tables present the book value and fair value of available-for-sale securities as of the dates stated:

 

     September 30, 2011  
            Gross Unrealized        
     Book Value      Gains      (Losses)     Fair Value  

Mortgage-backed securities

          

- Fixed rate

   $ 47,236       $ 1,558       $ —        $ 48,794   

- Variable rate

     2,536         124         —          2,660   

Collateralized mortgage obligations

     6,158         186         —          6,344   

Agency notes/bonds - fixed rate

     1,999         3         —          2,002   

Trust preferred securities

     1,123         —           (62     1,061   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total securities available-for-sale

   $ 59,052       $ 1,871       $ (62   $ 60,861   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

     December 31, 2010  
            Gross Unrealized        
     Book Value      Gains      (Losses)     Fair Value  

Mortgage-backed securities

          

- Fixed rate

   $ 43,446       $ 298       $ —        $ 43,744   

- Variable rate

     5,035         469         (232     5,272   

Collateralized mortgage obligations

     7,555         131         (45     7,641   

Trust preferred securities

     2,253         —           (20     2,233   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total securities available-for-sale

   $ 58,289       $ 898       $ (297   $ 58,890   
  

 

 

    

 

 

    

 

 

   

 

 

 

At September 30, 2011 and December 31, 2010, the company had securities with a fair value of $22.5 million and $26.8 million, respectively, pledged as collateral against borrowings and public deposits.

The following table presents the book value and fair value of securities for which the book value exceeded 10% of shareholders’ equity as of the date stated:

 

     September 30, 2011  
     Book Value      Fair Value      Book Value as a
Percentage of
Shareholders’
Equity
 

Mortgage-backed securities

        

- Federal National Mortgage Association

   $ 31,367       $ 32,108         39.0

- Federal Home Loan Mortgage Corporation

     14,596         15,078         18.2

 

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Table of Contents

The following tables present fair values and the related unrealized losses in the company’s securities portfolio, with the information aggregated by investment category, and by the length of time that individual securities have been in continuous unrealized loss positions, as of the dates stated. The number of loss securities in each category is also noted.

 

     September 30, 2011  
            Less than 12 months     More than 12 months      Total  
     Number      Fair Value      Unrealized
Losses
    Fair Value      Unrealized
Losses
     Fair Value      Unrealized
Losses
 

Trust preferred securities

     1         1,062         (62     —           —           1,062         (62
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Total securities

     1       $ 1,062       $ (62   $ —         $ —         $ 1,062       $ (62
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

 

     December 31, 2010  
            Less than 12 months     More than 12 months      Total  
     Number      Fair Value      Unrealized
Losses
    Fair Value      Unrealized
Losses
     Fair Value      Unrealized
Losses
 

Mortgage-backed securities

                   

- Fixed rate

     4       $ 10,301       $ (232   $ —         $ —         $ 10,301       $ (232

Collateralized mortgage obligations

     1         2,708         (45     —           —           2,708         (45

Trust preferred securities

     2         2,233         (20     —           —           2,233         (20
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Total securities

     7       $ 15,242       $ (297   $ —         $ —         $ 15,242       $ (297
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

At September 30, 2011, the company held an interest in one trust preferred security with a book value and fair value of $1.1 million. The trust preferred security had a rating of Ba1 by Moody’s Investors Service, Inc. and BB+ by Standard and Poor’s Rating Services. All other securities are investment grade. The unrealized loss positions at September 30, 2011 were directly related to interest rate movements and management believes there is minimal credit risk exposure in these investments. There is no intent to sell investments that are in an unrealized loss position at September 30, 2011, and it is more likely than not that the company will not be required to sell these investments before a recovery of unrealized losses. These investments are not considered to be other-than-temporarily impaired at September 30, 2011; therefore, no impairment has been recognized.

Note 6. Loans

The following table presents the company’s composition of loans, net of capitalized origination costs and unearned income, in dollar amounts and as a percentage of total loans as of the dates stated:

 

     September 30, 2011     December 31, 2010  
     Amount     Percent of
Total
    Amount     Percent of
Total
 

Commercial and industrial

   $ 137,326        46.28   $ 68,045        44.44

Commercial real estate

     124,519        41.96     57,035        37.24

Residential real estate

     29,067        9.80     23,337        15.24

Consumer

     5,816        1.96     4,728        3.08
  

 

 

   

 

 

   

 

 

   

 

 

 

Total loans

     296,728        100.00     153,145        100.00

Allowance for loan and lease losses

     (3,421       (1,766  
  

 

 

     

 

 

   

Total loans, net of allowance

   $ 293,307        $ 151,379     
  

 

 

     

 

 

   

 

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Table of Contents

The following table presents the company’s loans by regulatory risk ratings classification and by loan type as of the the dates stated. As defined by the Federal Reserve, “special mention” loans are defined as having potential weaknesses that deserve management’s close attention; “substandard” loans are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any; and “doubtful” loans have all the weaknesses inherent in substandard loans, with the added characteristic that the weaknesses make collection in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. Loans not categorized as special mention, substandard or doubtful are classified as “pass”.

 

     September 30, 2011  
     Pass      Special
Mention
     Substandard      Doubtful      Total Loans  

Commercial and industrial

   $ 128,241       $ 4,519       $ 4,167       $ 399       $ 137,326   

Commercial real estate

     100,564         8,014         14,822         1,118         124,519   

Residential real estate

     27,418         714         935         —           29,067   

Consumer

     5,456         317         14         29         5,816   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans

   $ 261,680       $ 13,565       $ 19,938       $ 1,545       $ 296,728   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     December 31, 2010  
     Pass      Special
Mention
     Substandard      Doubtful      Total Loans  

Commercial and industrial

   $ 63,743       $ 2,029       $ 1,901       $ 372       $ 68,045   

Commercial real estate

     45,466         6,290         4,739         540         57,035   

Residential real estate

     22,687         506         144         —           23,337   

Consumer

     4,648         81         —           —           4,729   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans

   $ 136,545       $ 8,906       $ 6,784       $ 912       $ 153,146   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

The following table presents the allowance for loan and lease loss activity, by loan category, as of the dates stated:

 

     September 30, 2011      December 31, 2010  

Balance at beginning of period

   $ 1,766       $ —     

Charge-offs:

     

Commercial and industrial

     312         —     

Commercial real estate

     973         200   

Residential real estate

     71         52   

Consumer

     3         1   

Overdrafts

     11         15   
  

 

 

    

 

 

 

Total charge-offs

     1,370         268   
  

 

 

    

 

 

 

Recoveries:

     

Commercial and industrial

     67         —     

Commercial real estate

     8         43   

Residential real estate

     —           —     

Consumer

     —           —     

Overdrafts

     1         1   
  

 

 

    

 

 

 

Total recoveries

     76         44   
  

 

 

    

 

 

 

Net charge-offs

     1,294         224   
  

 

 

    

 

 

 

Allowance, net of charge-offs and recoveries

     472         (224

Additions to the allowance for loan and lease losses

     2,949         1,990   
  

 

 

    

 

 

 

Allowance after additions

     3,421         1,766   

Balance at end of period

   $ 3,421       $ 1,766   
  

 

 

    

 

 

 

The allowance for loan and lease losses at December 22, 2009, the merger date, was $6.7 million. Immediately following the merger, the allowance was reduced to $0 due to adjustments attributable to the acquisition method of accounting. There were no adjustments to the allowance for the period December 23, 2009 through December 31, 2009.

 

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Table of Contents

The following table presents the allowance for loan and lease losses and the amount independently and collectively evaluated for impairment by loan type and loans in each category to total loans as of the dates stated:

 

     September 30, 2011  
     Total      Individually
Evaluated
for Impairment
     Collectively
Evaluated
for Impairment
 

Balance at end of period applicable to:

        

Commercial and industrial

   $ 698       $ 50       $ 648   

Commercial real estate

     2,342         648         1,694   

Residential real estate

     343         —           343   

Consumer

     38         —           38   
  

 

 

    

 

 

    

 

 

 

Total allowance for loan and lease losses

   $ 3,421       $ 698       $ 2,723   
  

 

 

    

 

 

    

 

 

 

 

     December 31, 2010  
     Total      Individually
Evaluated
for Impairment
     Collectively
Evaluated
for Impairment
 

Balance at end of period applicable to:

        

Commercial and industrial

   $ 470       $ 110       $ 360   

Commercial real estate

     1,106         250         856   

Residential real estate

     164         —           164   

Consumer

     26         —           26   
  

 

 

    

 

 

    

 

 

 

Total allowance for loan and lease losses

   $ 1,766       $ 360       $ 1,406   
  

 

 

    

 

 

    

 

 

 

As of September 30, 2011, there was one commercial and industrial loan in the amount of $135 thousand and four commercial real estate loans totaling $2.4 million classified as impaired. At December 31, 2010, there was one commercial and industrial loan in the amount of $890 thousand classified as impaired and one commercial real estate loan in the amount of $1.3 million classified as impaired.

FASB ASC Topic 310, “Accounting by Creditors for Impairment of a Loan” (“Topic 310”) prohibits the “carrying over” or the creation of valuation allowances in the initial accounting for purchased loan receivables. Pursuant to the merger with First Bankshares, the purchased loans were adjusted to estimated fair value with a discount of $7.6 million. As of July 29, 2011, the loans acquired in the Paragon Transaction and the VBB Acquisition were adjusted to estimated fair value by recording a discount of $1.8 million and $14.0 million, respectively. Acquisition date fair value adjustments for purchased performing loans are recognized (accreted) into income on a level yield basis based on the underlying cash flows of the loan receivable. Acquired loans deemed impaired at acquisition are accounted for on cost recovery whereby the fair value adjustment is not recognized into income until which time the company has recovered its full carrying value of the loan receivable.

The following table presents the accretion activity as of the dates stated:

 

     Total  

Balance as of January 1, 2011

   $ 3,833   

Additions

     15,786   

Accretion

     (2,076

Disposals

     (1,166
  

 

 

 

Balance as of September 30 ,2011

   $ 16,377   
  

 

 

 

 

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Table of Contents

The following table presents the age analysis of loans past due as of the dates stated:

 

     September 30, 2011  
     31-90 days
Past Due
     Greater than
90 days
     Total
Past Due
 

Commercial and industrial

   $ 1,946       $ 699       $ 2,645   

Commercial real estate

     2,619         4,810         7,429   

Residential real estate

     402         87         488   

Consumer

     26         —           26   
  

 

 

    

 

 

    

 

 

 

Total

   $ 4,993       $ 5,596       $ 10,588   
  

 

 

    

 

 

    

 

 

 

 

     December 31, 2010  
     31-90 days
Past Due
     Greater than
90 days
     Total
Past Due
 

Commercial and industrial

   $ 1,063       $ 389       $ 1,453   

Commercial real estate

     311         2,449         2,760   

Residential real estate

     248         —           248   

Consumer

     1         3         5   
  

 

 

    

 

 

    

 

 

 

Total

   $ 1,623       $ 2,842       $ 4,465   
  

 

 

    

 

 

    

 

 

 

The following table presents nonaccrual loans and other real estate owned (“OREO”) as of the dates stated. As of September 30, 2011, there were no loans past due greater than 90 days for which interest is accruing.

 

     September 30, 2011      December 31, 2010  

Nonaccrual loans

   $ 5,596       $ 2,841   

Other real estate owned

     1,379         1,485   
  

 

 

    

 

 

 

Total nonperforming assets

   $ 6,975       $ 4,326   
  

 

 

    

 

 

 

As a result of adopting the amendments in Accounting Standards Update (“ASU”) No. 2011-02, “Receivables (Topic 310): A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring”, the company reassessed all restructurings that occurred on or after the beginning of the current fiscal year for potential identification as troubled debt restructurings, or TDRs. A modification of a loan’s terms constitutes a TDR if the creditor grants a concession to the borrower for economic or legal reasons related to the borrower’s financial difficulties that it would not otherwise consider. Modifications of terms for loans that are included as TDRs may involve reduction of the interest rate, extension of the term of the loan, or deferral of principal payments, regardless of the period of the modification. As of September 30, 2011, the company had identified one loan as a TDR, the balance of which was $124 thousand. This loan was performing at the time of restructure and as of September 30, 2011.

 

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Note 7. Goodwill and Other Intangible Assets

As part of the purchase price allocation for the acquisition of First Bankshares on December 22, 2009, the company recorded $13.0 million in goodwill and $1.2 million of core deposit intangibles. As part of the allocation of consideration received in the Paragon Transaction, the company recorded $2.4 million of core deposit intangibles. Core deposit intangible assets are being amortized over a 10-year period on a straight-line basis.

The following table presents goodwill and other intangible assets as of the dates stated:

 

     September 30, 2011     December 31, 2010  

Amortizable core deposit intangibles:

    

Gross carrying value

   $ 3,710      $ 1,240   

Accumulated amortization

     (254     (120
  

 

 

   

 

 

 

Net carrying value

   $ 3,456      $ 1,120   
  

 

 

   

 

 

 

Unamortizable goodwill:

    

Carrying value

   $ 12,989      $ 12,989   
  

 

 

   

 

 

 

Total goodwill and other intangible assets, net

   $ 16,445      $ 14,109   
  

 

 

   

 

 

 

Note 8. Deposits

The following table presents a summary of deposit accounts as of the dates stated:

 

     September 30, 2011      December 31, 2010  

Noninterest-bearing demand deposits

   $ 47,127       $ 22,800   

Interest-bearing:

     

Demand and money market

     178,096         47,230   

Savings deposits

     3,322         3,461   

Time deposits of $100,000 or more

     42,010         47,516   

Other time deposits

     91,723         54,132   
  

 

 

    

 

 

 

Total deposits

   $ 362,278       $ 175,139   
  

 

 

    

 

 

 

Note 9. Derivatives

The company’s objective in using interest rate derivatives is to manage its exposure to interest rate movements. To accomplish this objective, the company is a party to an interest rate swap whereby the company pays fixed amounts to a counterparty in exchange for receiving variable payments over the life of the agreements without exchange of the underlying notional amount. As of September 30, 2011, the company had one interest rate swap with a notional amount of $20 million that is designated as a cash flow hedge, in accordance with FASB ASC Topic 815, “Derivatives and Hedging”.

The effective portion of changes in the fair value of derivatives designated as cash flow hedges is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. The ineffective portion of the change in fair value of the derivative is recognized directly in earnings. During the three months ended September 30, 2011, the interest rate swap was used to hedge the variable cash outflows associated with a LIBOR-based borrowing. There was no ineffective portion of the derivative during this period. The amount reported in accumulated other comprehensive income as of September 30, 2011 is insignificant. The company had no derivatives prior to the third quarter of 2011.

The company has an agreement with the counterparty to its derivative which contains a provision whereby if the company fails to maintain its status as a well/an adequate capitalized institution, the company could be required to terminate or fully collateralize the derivative contract. Additionally, if the company defaults on any of its indebtedness, including default where repayment has not been accelerated by the lender, the company could also be in default on its derivative obligations. The company has minimum collateral requirements with its counterparty and, as of September 30, 2011, $0 has been pledged as collateral under the agreement, because the valuation of the derivative has not surpassed contractually specified minimum transfer amounts. If the company is not in compliance with the terms of the derivative agreement, it could be required to settle its obligations under the agreement at termination value.

Note 10. Income Taxes

The provision for income taxes is based upon the results of operations, adjusted for the effect of certain tax-exempt income and non-deductible expenses. Certain items of income and expense are reported in different periods for financial reporting and tax return purposes resulting in temporary differences. The tax effects of these temporary differences are recognized currently in the deferred income tax provision or benefit.

 

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Table of Contents

Deferred tax assets or liabilities are computed based on the difference between the financial statement and income tax bases of assets and liabilities. These differences will result in deductible or taxable amounts in a future year(s) when the reported amounts of assets or liabilities are recovered or settled. Deferred tax assets and liabilities are stated at tax rates expected to be in effect in the
year(s) the differences reverse.

In the three months ended September 30, 2011, the company recorded $58 thousand in current income tax expense to adjust tax accounts for recently filed tax returns. In addition, in the three months ended September 30, 2011, the company recorded net tax expense of $1.5 million and released $1.5 million of valuation allowance to fully offset the expense. As of September 30, 2011, net deferred tax assets were $5.1 million, for which a full valuation allowance is recorded, based primarily on the fact that the company experienced cumulative losses over the past three years. Future realization of the tax benefit of existing deductible temporary differences and net operating loss carryforwards is dependent on the company generating sufficient future taxable income within the carryforward period, which under current law is 20 years.

Note 11. Earnings (Loss) per Common Share

The following table summarizes basic and diluted earnings (loss) per share calculations for the periods stated. The earnings (loss) per common share calculations for the three and nine months ended September 30, 2011 do not include shares of common stock issuable upon the exercise of 430,307 of outstanding stock options or upon the exercise of 563,760 outstanding warrants to purchase shares of common stock, because the exercise of the stock options and warrants would not be dilutive.

 

     For the Three Months Ended September 30,  
     2011     2010  

Net income (loss)

   $ 6,789      $ (1,951

Preferred stock dividend

     (2     —     
  

 

 

   

 

 

 

Net income (loss) available to common shareholders

     6,787        (1,951

Weighted average number of shares outstanding

     10,447        5,847   

Earnings (loss) per common share, basic

   $ 0.65      $ (0.33
  

 

 

   

 

 

 

Earnings (loss) per common share, diluted

   $ 0.65      $ (0.33
  

 

 

   

 

 

 

 

     For the Nine Months Ended September 30,  
     2011     2010  

Net income (loss)

   $ 4,232      $ (4,993

Preferred stock dividend

     (2     —     
  

 

 

   

 

 

 

Net income (loss) available to common shareholders

     4,230        (4,993

Weighted average number of shares outstanding

     8,858        5,847   

Earnings (loss) per common share, basic

   $ 0.48      $ (0.85
  

 

 

   

 

 

 

Earnings (loss) per common share, diluted

   $ 0.48      $ (0.85
  

 

 

   

 

 

 

Note 12. Senior Non-Cumulative Perpetual Preferred Stock

On September 21, 2011, as part of the Small Business Lending Fund (the “SBLF”) of the United States Department of the Treasury (“Treasury”), the company entered into a Small Business Lending Fund—Securities Purchase Agreement (the “Purchase Agreement”) with the Secretary of the Treasury, pursuant to which the company sold 8,381 shares of the company’s Senior Non-Cumulative Perpetual Preferred Stock, Series A (the “SBLF Preferred Stock”) to the Secretary of the Treasury for a purchase price of $8,381,000. The SBLF Preferred Stock was issued pursuant to the SBLF program, a $30 billion voluntary program established under the Small Business Jobs Act of 2010 created to encourage lending to small businesses by providing capital to qualified banks at favorable dividend rates. The terms of the SBLF Preferred Stock were established pursuant to an amendment to the company’s Amended and Restated Articles of Incorporation filed on September 20, 2011.

 

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Table of Contents

The SBLF Preferred Stock investment qualifies as Tier 1 capital. The SBLF Preferred Stock is entitled to receive non-cumulative dividends, payable quarterly, on each January 1, April 1, July 1 and October 1, beginning October 1, 2011. The dividend rate, as a percentage of the liquidation amount, can fluctuate on a quarterly basis during the first 10 quarters during which the SBLF Preferred Stock is outstanding, based upon changes in the level of “Qualified Small Business Lending” (as defined in the Purchase Agreement) (“QSBL”) by the Bank. The initial dividend rate through September 30, 2011 is 1% per annum. For the second through ninth calendar quarters after issuance, the dividend rate may be adjusted to between 1% per annum and 5% per annum to reflect changes to the Bank’s QSBL. If the level of the Bank’s qualified small business loans declines so that the percentage increase in QSBL as compared to the baseline level of QSBL is less than 10%, then the dividend rate payable on the SBLF Preferred Stock will increase. For the tenth calendar quarter through four and one half years after issuance, the dividend rate will be fixed at between 1% and 7% based upon the increase in QSBL as of the ninth calendar quarter as compared to the baseline. After four and one half years from issuance, the dividend rate will increase to 9% per annum until the SBLF funding is repaid in full.

The SBLF Preferred Stock is non-voting, except in limited circumstances. In the event that the company misses five dividend payments, whether or not consecutive, the holder of the SBLF Preferred Stock will have the right, but not the obligation, to appoint a representative as an observer on the company’s board of directors. In the event that the company misses six dividend payments, whether or not consecutive, and if the then outstanding aggregate liquidation amount of the SBLF Preferred Stock is at least $25,000,000, then the holder of the SBLF Preferred Stock will have the right to designate two directors to the company’s board of directors.

The SBLF Preferred Stock may be redeemed at any time at the company’s option, in whole or in part (provided that any partial redemption is at least 25% of the original funding amount), at a redemption price of 100% of the liquidation amount plus accrued but unpaid dividends to the date of redemption for the current period, subject to the approval of its federal banking regulator.

The terms of the SBLF Preferred Stock impose limits on the ability of the company to pay dividends and repurchase shares of its common stock. Under the terms of the SBLF Preferred Stock, no repurchases may be effected, and no dividends may be declared or paid on preferred shares ranking pari passu with the SBLF Preferred Stock, junior preferred shares, or other junior securities (including the company’s common stock) during the current quarter and for the next three quarters following the failure to declare and pay dividends on the SBLF Preferred Stock, except that, in any such quarter in which the dividend is paid, dividend payments on shares ranking pari passu may be paid to the extent necessary to avoid any resulting material covenant breach.

Under the terms of the SBLF Preferred Stock, the company may only declare and pay a dividend on its common stock or other stock junior to the SBLF Preferred Stock, or repurchase shares of any such class or series of stock, if, after payment of such dividend, the dollar amount of the company’s Tier 1 Capital would be at least 90% of the Signing Date Tier 1 Capital, as set forth in the Articles of Amendment relating to the SBLF Preferred Stock, excluding any subsequent net charge-offs and any redemption of the SBLF Preferred Stock (the “Tier 1 Dividend Threshold”). The Tier 1 Dividend Threshold is subject to reduction, beginning on the second anniversary of issuance and ending on the tenth anniversary, by 10% for each 1% increase in QSBL over the baseline level.

Note 13. Commitment and Contingencies

In the normal course of business, the Bank has commitments under credit agreements to lend to customers as long as there is no material violation of any condition established in the loan agreements. These commitments have fixed expiration dates or other termination clauses and may require payments of fees. Because many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Additionally, the Bank issues letters of credit, which are conditional commitments to guarantee the performance of customers to third parties. Management believes the credit risk involved in issuing letters of credit is the same as that involved in extending loans to customers.

The following table presents unfunded commitments outstanding as of the date stated:

 

     September 30,
2011
     December 31,
2010
 

Commercial lines of credit

   $ 39,238       $ 18,162   

Commercial real estate

     12,398         —     

Residential real estate

     5,799         5,950   

Consumer

     715         641   

Letters of credit

     2,309         328   
  

 

 

    

 

 

 

Total commitments

   $ 60,459       $ 25,081   
  

 

 

    

 

 

 

Note 14. Fair Value Measurements

The fair value of an asset or liability is the price that would be received to sell that asset or paid to transfer that liability in an orderly transaction occurring in the principal market (or most advantageous market in the absence of a principal market) for such asset or liability. In estimating fair value, the company utilizes valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. Such valuation techniques are consistently applied. Inputs to valuation techniques include the assumptions that market participants would use in pricing an asset or liability.

ASC Topic 820 establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs.

Under the guidance in ASC Topic 820, the company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

 

Level 1    Quoted prices in active markets for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2    Significant observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

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Level 3    Valuations for assets and liabilities that are derived from other valuation methodologies, including option pricing models, discounted cash flow models and similar techniques, and not based on market exchange, dealer, or broker-traded transactions. Level 3 valuations incorporate certain assumptions and projections in determining the fair value to such assets or liabilities

The following is a description of valuation methodologies used for assets and liabilities recorded at fair value. The determination of where an asset or liability falls in the hierarchy requires significant judgment. The company evaluates its hierarchy disclosures each quarter, and, based on various factors, it is possible that an asset or liability may be classified differently from quarter to quarter. An adjustment to the pricing method used within either Level 1 or Level 2 inputs could generate a fair value measurement that effectively falls in a lower level in the hierarchy. The company expects changes in classifications between levels will be rare.

Available-for-sale Securities:

Available-for-sale securities are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relaying on the securities’ relationship to other benchmark quoted securities. Level 1 securities include those traded on nationally recognized securities exchanges, U.S. Treasury securities and money market funds. Level 2 securities include U.S. Agency securities, mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.

Other Real Estate Owned:

OREO is measured at the asset’s fair value less costs for disposal. The company estimates fair value at the asset’s liquidation value less disposal costs using management’s assumptions, which are based on current market analysis or recent appraisals.

Cash, Cash Equivalents and Accrued Interest:

The carrying value for cash and cash equivalents and accrued interest approximates fair value.

Derivatives

The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. The company incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its derivative contracts for the effect of nonperformance risk, the company has considered the impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees.

Although the Company has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. However, as of September 30, 2011, the company has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives. As a result, the company has determined that its derivative valuations in their entirety are classified in Level 2 of the fair value hierarchy.

The methodology for measuring the fair value of other financial assets and financial liabilities that are not measured at fair value on a recurring or nonrecurring basis are discussed below.

Performing Loans:

For variable-rate loans that re-price frequently and with no significant changes in credit risk, fair values are based on carrying values. Fair values for all other loans are estimated using discounted cash flow analyses using interest rates currently being offered for loans with similar terms. Fair values for impaired loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable.

Impaired Loans:

Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. The fair value of impaired loans is estimated using one of several methods, including collateral value, market value of similar debt, enterprise value, liquidation value and discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investments in such loans. At September 30, 2011, substantially all of the impaired loans were evaluated based on the fair value of the collateral. Impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, the company records the impaired loan as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the company records the impaired loan as nonrecurring Level 3.

Deposit Liabilities:

The balance of demand, money market and savings deposits approximates the fair value payable on demand to the accountholder.

Borrowings:

The carrying amounts of federal funds purchased and other short-term borrowings maturing within 90 days approximate their fair values. Fair values of other short-term borrowings are estimated using discounted cash flow analyses at the company’s current incremental borrowing rates for similar types of borrowing arrangements. Fair value of long-term borrowings with fixed interest rates are estimated using discounted cash flow analysis using interest rates currently offered for borrowings with similar terms. The carrying value for borrowings with interest rates that adjust in regular intervals based on market rates approximates fair value.

 

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Other Commitments:

The fair value of commitments to extend credit 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 value of stand-by letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date or “settlement date”.

The following tables present assets measured at fair value on a recurring and nonrecurring basis as of the dates stated:

 

            Fair Value Measurements as of September 30, 2011 Using  
     September 30, 2011
Balance
     Quoted Prices in
Active Markets for

Identical Assets
(Level 1)
     Significant Other
Observable  Inputs
(Level 2)
     Significant
Unobservable
Inputs (Level 3)
 

Assets measured on a recurring basis:

           

Securities available for sale

   $ 60,861       $ 3,264       $ 57,597       $ —     

Cash flow hedge

     2            2      

Assets measured on a nonrecurring basis:

           

Impaired loans

     5,596         —           —           5,596   

Other real estate owned

     1,379         —           —           1,379   
            Fair Value Measurements as of December 31, 2010 Using  
     December 31, 2010
Balance
     Quoted Prices in
Active Markets for

Identical Assets
(Level 1)
     Significant Other
Observable  Inputs

(Level 2)
     Significant
Unobservable
Inputs (Level 3)
 

Assets measured on a recurring basis:

           

Securities available for sale

   $ 58,890       $ —         $ 58,890       $ —     

Assets measured on a nonrecurring basis:

           

Impaired loans

     2,841         —           —           2,841   

Other real estate owned

     1,485         —           —           1,485   

 

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The following table presents the carrying amounts and approximate fair values of the company’s financial assets and liabilities as of the dates stated:

 

     September 30, 2011      December 31, 2010  
     Carrying
Amount
     Estimated
Fair Value
     Carrying
Amount
     Estimated
Fair Value
 

Financial Assets

           

Cash and due from banks

   $ 76,051       $ 76,051       $ 10,745       $ 10,745   

Federal funds sold

     7,916         7,916         1,456         1,456   

Securities available-for-sale

     60,861         60,861         58,890         58,890   

Other investments

     4,350         4,350         3,141         3,141   

Loans, net

     293,307         294,490         151,380         152,020   

Accrued interest receivable

     1,317         1,317         821         821   

Cash flow hedge

     2         2         —           —     

Financial Liabilities

           

Federal funds purchased

   $ —         $ —         $ —         $ —     

Long-term borrowings

     20,000         20,000         25,000         25,693   

Deposits

     362,278         363,206         175,139         175,919   

Accrued interest payable

     274         274         454         454   

Fair value estimates are made at a specific point in time and are based on relevant market information, as well as information about the financial instruments or other assets. These estimates do not reflect any premium or discount that could result from offering for sale the company’s entire holdings of a particular financial instrument at one time. Fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Fair value estimates are based on existing on and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets that are not considered financial assets include deferred tax assets, premises and equipment, and OREO. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

Note 15. Accounting Pronouncements

In April 2011, the FASB issued Accounting Standards Update (“ASU”) No. 2011-02 “Receivables (Topic 310): A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring”. The amendments clarify guidance on whether a restructuring constitutes a troubled debt restructuring. Pursuant to this amendment, the creditor must separately conclude that both of the following exist (1) the restructuring constitutes a concession and (2) the debtor is experiencing financial difficulties. The amendments are effective for the first interim or annual period beginning on or after June 15, 2011 and should be applied retrospectively to the beginning of the annual period of adoption. For purposes of measuring impairment of those receivables, an entity should apply the amendments prospectively for the first interim or annual period beginning on or after June 15, 2011. The adoption of this standard did not have a material effect on the company’s financial statements.

In June 2011, the FASB issued ASU 2011-05, Comprehensive Income (Topic 220), Presentation of Comprehensive Income. This ASU requires companies to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. Presentation of comprehensive income in the statement of changes in stockholders’ equity will no longer be acceptable. The update does not change the items that must be reported in other comprehensive income, when an item of other comprehensive income must be reclassified to net income, the option for an entity to present components of other comprehensive income net or before related tax effects, or how earnings per share is calculated or presented. This guidance becomes effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. Early adoption is permitted. The company currently presents other comprehensive income in its consolidated statements of operations and comprehensive income and believes the adoption of this standard will not have a significant impact on its financial statements.

In September 2011, the FASB issued ASU 2011-08, Intangibles – Goodwill and Other (Topic 350), Testing Goodwill for Impairment. This standard allows companies to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. The “more likely than not” threshold is defined as having a likelihood of more than 50 percent. A company is not required to calculate the fair value of a reporting unit unless it determines that it is more likely than not that its fair value is less than its carrying amount. The objective of the update is to simplify the goodwill impairment testing process in terms of both cost and complexity. The guidance becomes effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Management is in the process of assessing the effect of this standard on the company and does not anticipate the adoption of this standard will have an effect on its financial statements.

 

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

The following is management’s discussion and analysis of the company’s consolidated financial condition, changes in financial condition, results of operations, liquidity, cash flows and capital resources. This discussion should be read in conjunction with the consolidated financial statements and accompanying notes in Part I, Item 1, “Financial Statements” in this Quarterly Report on Form 10-Q (“Form 10-Q”) and Part II, Item 8, “Financial Statements and Supplementary Data” in the company’s Annual Report on Form 10-K for the year ended December 31, 2010 (“2010 Form 10-K”). The data presented as of September 30, 2011 and for the three- and nine-month periods ended September 30, 2011 is derived from unaudited interim financial statements and include, in the opinion of management, all adjustments, consisting solely of normal recurring accruals, necessary for a fair presentation of the data for such period.

All references to “Xenith Bankshares”, “our company”, “we”, “our” or “us” are to Xenith Bankshares, Inc. and its wholly-owned subsidiary, Xentith Bank, collectively. All references to “the Bank” are to Xenith Bank.

All dollar amounts included in the tables in this discussion and analysis are in thousands.

BUSINESS OVERVIEW

Xenith Bankshares is a Virginia corporation that is the bank holding company for Xenith Bank, which is a Virginia banking corporation organized and chartered pursuant to the laws of the Commonwealth of Virginia and a member of the Federal Reserve. The Bank is a full-service, locally-managed commercial bank specifically targeting the banking needs of middle market and small businesses, local real estate developers and investors, private banking clients and select retail banking clients, which we refer to as our target customers. We are geographically focused on the Washington, D.C.-Arlington-Alexandria, Richmond and Virginia Beach-Norfolk-Newport News metropolitan statistical area, which we refer to as our target markets. As of September 30, 2011, the Bank conducted its principal banking activities through its five full-service branches, with one branch located in Tysons Corner, Virginia, one branch located in Richmond, Virginia and three branches located in Suffolk, Virginia. We acquired the three branches located in Suffolk, Virginia in the merger with First Bankshares, Inc., the parent company of its wholly-owned subsidiary SuffolkFirst Bank. SuffolkFirst Bank opened its first branch in Suffolk, Virginia in 2003 under the name of SuffolkFirst Bank. All of the former SuffolkFirst Bank branches operate under the name Xenith Bank. As of September 30, 2011, we had total assets of $470.0 million, total loans, net of the allowance for loan and lease losses, of $293.3 million, total deposits of $362.3 million and shareholders’ equity of $80.4 million.

Our services and products consist primarily of taking deposits from, and making loans to, our target customers within our target markets. We provide a broad selection of commercial and retail banking products, including commercial and industrial loans, commercial and residential real estate loans, and select consumer loans. We also offer a wide range of checking, savings and treasury products, including remote deposit capture, automated clearing house transactions, debit cards, 24-hour ATM access, and Internet banking and bill pay service. We do not engage in any activities other than banking activities.

The primary source of our revenue is net interest income, which represents the difference between interest income on interest-earning assets and interest expense on interest-bearing liabilities used to fund those assets. Interest-earning assets include loans, available-for-sale securities, and federal funds sold. Interest-bearing liabilities include deposits and borrowings. Sources of non- interest income include service charges on deposit accounts, fees from loan originations, gains on the sale of securities, and other miscellaneous income. Deposits and Federal Home Loan Bank borrowed funds are our primary sources of funding. Our largest expenses are interest on our funding sources and salaries and related employee benefits.

Merger of First Bankshares, Inc. and Xenith Corporation

First Bankshares, Inc. (“First Bankshares”) was incorporated in Virginia in 2008, and was the holding company for SuffolkFirst Bank, a community bank founded in the City of Suffolk, Virginia in 2002.

On December 22, 2009, First Bankshares and Xenith Corporation, a Virginia corporation, completed the merger of Xenith Corporation with and into First Bankshares (the “merger”), with First Bankshares being the surviving entity in the merger. The merger was completed in accordance with the terms of an agreement of merger and related plan of merger, dated as of May 12, 2009, as amended. At the effective time of the merger, First Bankshares amended its amended and restated articles of incorporation to, among other things, change its name to Xenith Bankshares, Inc. In addition, following the completion of the merger, SuffolkFirst Bank changed its name to Xenith Bank.

Acquisitions

Effective July 29, 2011, the Bank acquired select loans totaling approximately $58 million and related assets associated with the Richmond, Virginia branch office (the “Paragon Branch”) of Paragon Commercial Bank, a North Carolina banking corporation (“Paragon”), and assumed select deposit accounts totaling approximately $77 million and certain related liabilities associated with the Paragon Branch (the “Paragon Transaction”). The Paragon Transaction was completed in accordance with the terms of the Amended and Restated Purchase and Assumption Agreement, dated as of July 25, 2011 (the “Paragon Agreement”), between the Paragon Bank and Paragon. Under the terms of the Paragon Agreement, Paragon retained the real and personal property associated with the Paragon Branch office and, subject to receipt of required regulatory approvals, the Paragon Branch office will be closed.

 

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Under the terms of the Paragon Agreement, Paragon made a cash payment to the Bank in the amount of $17.3 million (subject to adjustment as provided in the Paragon Agreement), which represents the excess of approximately all of the liabilities assumed at a premium of 3.92%, over approximately all of the assets acquired at a discount of 3.77%.

Also effective July 29, 2011, the Bank acquired substantially all of the assets, including all loans, and assumed certain liabilities, including all deposits, of Virginia Business Bank (“VBB”), a Virginia banking corporation located in Richmond, Virginia, which was closed on July 29, 2011 by the Virginia State Corporation Commission (the “VBB Acquisition”). The Federal Deposit Insurance Corporation (“FDIC”) is acting as court-appointed receiver of VBB. The VBB Acquisition was completed in accordance with the terms of the Purchase and Assumption Agreement, dated as of July 29, 2011 (the “VBB Agreement”), among the FDIC, receiver for VBB, the FDIC and the Bank.

Based upon a preliminary closing with the FDIC as of July 29, 2011, the Bank acquired total assets of approximately $93 million, including approximately $70 million in loans. The Bank also assumed liabilities of approximately $87 million, including approximately $77 million in deposits. These amounts are estimates and, accordingly, are subject to adjustments based upon final settlement with the FDIC. The VBB Acquisition was completed without any shared-loss agreement.

Under the terms of the VBB Agreement, the Bank received a discount of approximately $23.8 million on the net assets and did not pay a deposit premium. The Bank also received an initial cash payment from the FDIC in the amount of $17.8 million based on the difference between the discount received ($23.8 million) and the net assets acquired ($5.9 million) (subject to adjustment as provided in the VBB Agreement). We believe the Paragon Transaction and the VBB Acquisition provide strategic and financial growth for the Bank, while leveraging our existing infrastructure costs.

Industry Conditions

In the third quarter of 2011, economic growth strengthened somewhat, however weakness in overall labor market conditions continued. Business investment in equipment and software has continued to expand, though investment in nonresidential structures remains weak and the housing sector remains depressed. The unemployment rate, as published by the Bureau of Labor Statistics, which climbed to 9.2% in the second quarter of 2011 dropped to just above 9.0% in the third quarter of 2011. The Bureau of Economic Analysis reported the economy grew by 2.5% in the third quarter, the highest level in a year, fueled by consumer spending.

On November 2, 2011, the Federal Open Market Committee (“FOMC”) publicly stated that it expects a moderate pace of economic growth over the coming quarters and that the unemployment rate will decline only gradually. The FOMC stated there are downside risks to the economic outlook, including strains in global financial markets. The FOMC stated that economic conditions “are likely to warrant exceptionally low levels for the federal funds rate for at least through mid-2013.” The FOMC also stated that it is maintaining its existing policy of reinvesting principal payments from its securities holdings.

Regulatory reform continued during the quarter, as regulatory agencies proposed and finalized rules mandated by the Dodd-Frank Act. The rules that became effective on April 1, 2011 require us to base our deposit insurance assessment calculation on our total average assets less average tangible equity, rather than domestic deposits. In addition, the FDIC revised the overall pricing structure for large banks, resulting in assessment rates being affected by specific risk characteristics. We are actively evaluating these and future regulatory and legislative developments so that we will be in a position to adapt our business at the appropriate time.

Outlook

We believe we are well positioned to take advantage of competitive opportunities. We believe that we will benefit from (1) our capital base, which we believe will allow us to compete effectively with both the larger, more established super-regional and national banks, as well as the smaller, locally managed community banks operating in our target markets, (2) our advantageous market locations in our target markets, (3) our variety of banking services and products, and (4) our experienced management team and board of directors.

We intend to execute our business strategy by focusing on developing long-term relationships with our target customer base through a team of bankers with significant experience in our target markets.

In our continuing evaluation of our business strategy, we believe properly priced acquisitions can complement our organic growth. We may seek to acquire other financial institutions or branches or assets of those institutions. Although our principal acquisition focus will be to expand our presence in our target markets, we may also expand into new markets or lines of business or offer new services or products. Our goal in making these decisions is to maximize shareholder value.

Critical Accounting Policies

Our accounting policies are fundamental to an understanding of our consolidated financial position and consolidated results of operations. We believe that our accounting and reporting policies are in accordance with Generally Accepted Accounting Principles in the United States of America (“GAAP”) and conform to general practices within the banking industry. Our financial position and results of operations are affected by management’s application of accounting policies, including estimates, assumptions and judgments made to arrive at the carrying value of assets and liabilities, and amounts reported for revenues, expenses and related disclosures. Different assumptions in the application of these policies could result in material changes in our consolidated financial position or results of operations or both our consolidated financial position and results of operations.

 

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We consider a policy critical if (1) the accounting estimate requires assumptions about matters that are highly uncertain at the time of the accounting estimate, and (2) 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 our most critical accounting policy relates to the allowance for loan and lease losses, which reflects the estimated losses resulting from the inability of borrowers to make required loan payments. If the financial condition of borrowers were to deteriorate, resulting in an impairment of their ability to make payments, adjustments to our estimates would be made and additional provisions for loan and lease losses could be required, which could have a material adverse impact on our results of operations and financial condition. Further discussion of the estimates used in determining the allowance for loan and lease losses is contained in the discussion under “— Allowance for Loan and Lease Losses” below.

Our critical accounting policies are discussed in detail in “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies” and “Note 2—Summary of Significant Accounting Policies” in the notes to the consolidated financial statements in our 2010 Form 10-K. Since December 31, 2010, there have been no changes in these policies that have had or could reasonably expected to have a material impact on our results of operations or financial condition.

RESULTS OF OPERATIONS

Net Income (Loss)

For the three months ended September 30, 2011, we reported net income of $6.8 million, compared to a net loss of $2.0 million for the three months ended September 30, 2010. For the nine months ended September 30, 2010, we reported net income of $4.2 million compared to a net loss of $5.0 million for the nine months ended September 30, 2010. Net income for both the three- and nine-month periods ended September 30, 2011 compared to the same periods in 2010 was driven by the bargain purchase gain of $8.7 million recognized on the VBB Acquisition, which was effective July 29, 2011.

The following table presents net income (loss) and net earnings (loss) per common share information for the periods stated. On April 4, 2011 and April 14, 2011, common shares outstanding increased 4,000,000 and 600,000, respectively, as a result of the completion of our underwritten public offering of shares of our common stock on April 4, 2011 and the related exercise of the underwriters of their over-allotment option on April 14, 2011. On September 21, 2011, we received $8,361,000 from the U.S. Department of Treasury pursuant to its Small Business Lending Fund program and issued 8,361 shares of Senior Non-Cumulative Perpetual Preferred Stock, Series A, which is further discussed below.

 

     For the Three Months Ended September 30,  
     2011      2010  

Net income (loss)

   $ 6,789       $ (1,951
  

 

 

    

 

 

 

Earnings (loss) per common share, basic and diluted

   $ 0.65       $ (0.33
  

 

 

    

 

 

 
     For the Nine Months Ended September 30,  
     2011      2010  

Net income (loss)

   $ 4,232       $ (4,993
  

 

 

    

 

 

 

Earnings (loss) per common share, basic and diluted

   $ 0.48       $ (0.85
  

 

 

    

 

 

 

Net Interest Income

For the three months ended September 30, 2011, net interest income was $4.8 million compared to $2.3 million for the three months ended September 30, 2010. Higher net interest income was primarily due to higher balances of average interest-earning assets, partially offset by both lower yields on these balances and higher balances of interest-bearing liabilities; although, the higher balances of interest-bearing liabilities were at lower interest costs. As presented in the table below, net interest margin for the three-month period ended September 30, 2011 was 5.01%, a 59 basis point increase from the same period in 2010. Net interest margin is defined as the percentage of net interest income to average interest-earning assets. Excluding the effect of acquisition accounting adjustments, net interest margin for the three months ended September 30, 2011 was 3.44%, a 45 basis points decrease from the same period in 2010. Lower net interest margin, excluding purchase accounting adjustments, is primarily due to lower yields on higher average interest-earning asset balances.

Average interest-earning assets and related interest income increased $175.2 million and $2.7 million, respectively, for the three-month period ended September 30, 2011 compared to the same period in 2010. Average interest-bearing liabilities and related interest expense increased $134.5 million and $231 thousand, respectively, for the three-month period ended September 30, 2011

 

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compared to the same period in 2010. Yields on interest-earning assets increased 33 basis points to 5.85%, while costs of interest-bearing liabilities declined 31 basis points to 1.08% when comparing the three-month period ended September 30, 2011 to the same period in 2010.

For the nine months ended September 30, 2011, net interest income was $10.5 million compared to $5.9 million for the nine months ended September 30, 2010. Higher net interest income was primarily due to higher balances of average interest-earning assets, partially offset by both lower yields on these balances and higher balances of interest-bearing liabilities, although at lower costs. As presented in the table below, net interest margin for the nine months ended September 30, 2011 was 4.76%, a 62 basis point increase from the same period in 2010. Excluding the effect of acquisition accounting adjustments, net interest margin for the nine months ended September 30, 2011 was 3.45%, a 57 basis point increase from 2.88% for the same period in 2010. Contributing to higher net interest margin, excluding purchase accounting adjustments, was higher average loan balances and lower rates paid on time deposits, partially offset by lower yields on investments and higher average balances of interest-bearing liabilities.

Average interest-earning assets and related interest income increased $102.0 million and $4.7 million, respectively, for the nine-month period ended September 30, 2011 compared to the same period in 2010. Average interest-bearing liabilities and related interest expense increased $78.4 million and $0.2 million, respectively, for the nine-month period ended September 30, 2011 compared to the same period in 2010. Yields on interest-earning assets increased 31 basis points to 5.58%, while costs of interest-bearing liabilities declined 38 basis points to 1.05% when comparing the nine-month period ended September 30, 2011 to the same period in 2010.

Our loan portfolios acquired in the merger, the Paragon Transaction and VBB Acquisition were discounted to fair value immediately following the acquisitions. The total performing loan discount of $15.3 million related to these acquired portfolios is being recognized (accreted) into interest income over the estimated remaining life of the loans. Amounts recovered in excess of carrying value for nonperforming loans on cost recovery are also accreted into interest income at the time of the recovery. The loan discount accretion was $1.2 million and $507 thousand, respectively, for the three-month periods ended September 30, 2011 and 2010. The loan discount accretion was $2.1 million and $996 thousand, respectively, for the nine-month periods ended September 30, 2011 and 2010. The effect of this accretion on net interest margin was 129 basis points and 27 basis points, respectively, for the three-month periods ended September 30, 2011 and 2010. The effect of this accretion on net interest margin was 94 basis points and 69 basis points, respectively, for the nine-month periods ended September 30, 2011 and 2010. Acquired time deposits were also adjusted to fair value at the date of the merger for interest rates. The total adjustment at the date of the merger was $2.1 million and is being amortized as a reduction of interest expense over a two-year period. The effect of this amortization is a decrease in interest expense of $270 thousand for the three-month periods ended September 30, 2011 and 2010, and $810 thousand for the nine-month periods ended September 30, 2011 and 2010. The effect of this adjustment on net interest margin was 28 basis points and 27 basis points, respectively, for the three-month periods ended September 30, 2011 and 2010 and 37 basis points and 56 basis points, respectively, for the nine-month periods ended September 30, 2011 and 2010. As of September 30, 2011, unearned loan discounts totaled $16.4 million.

 

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Table of Contents

The following tables provide a detailed analysis of the effective yields and rates on average interest-earning assets and average interest-bearing liabilities as of and for the periods stated. The average balances and other statistical data used in this table were calculated using daily average balances.

 

     Average Balances, Income and Expenses, Yields and Rates  
     As of and For the Three Months Ended September 30,  
                                           2011 vs. 2010  
     Average Balances (1)     Yield / Rate     Income / Expense (7), (8)      Increase     Change due to (2)  
     2011     2010     2011     2010     2011      2010      (Decrease)     Rate     Volume  

Assets

                    

Interest-earning assets:

                    

Federal funds sold

   $ 1,089      $ 235        0.46     0.00   $ 1       $ —         $ 1      $ 1      $ —     

Investments / Interest-earning deposits

     124,623        82,956        1.65     2.59     514         537         (23     (236     213   

Loans, gross (3)

     260,246        127,577        7.88     7.44     5,129         2,372         2,757        150        2,607   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total interest-earning assets

     385,958        210,768        5.85     5.52     5,644         2,909         2,735        (84     2,820   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Noninterest-earning assets:

                    

Cash and due from banks

     3,105        3,035                   

Premises and fixed assets

     6,167        6,808                   

Other assets

     19,965        17,682                   

Allowance for loan and lease losses

     (3,192     (687                
  

 

 

   

 

 

                 

Total noninterest-earning assets

     26,044        26,838                   
  

 

 

   

 

 

                 

Total assets

   $ 412,002      $ 237,606                   
  

 

 

   

 

 

                 

Liabilities and Shareholders’ Equity

                    

Interest-bearing liabilities:

                    

Demand deposits

   $ 12,327      $ 5,672        0.48     0.21   $ 15       $ 3       $ 12      $ 6      $ 6   

Savings and money market deposits

     131,431        33,693        1.04     0.96     340         81         259        7        252   

Time deposits

     131,714        103,009        0.83     1.34     274         344         (70     (151     80   

Federal funds purchased and borrowed funds

     26,374        25,014        2.80     2.46     185         154         31        22        9   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total interest-bearing liabilities

     301,846        167,388        1.08     1.39     813         582         231        (116     347   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Noninterest-bearing liabilities:

                    

Noninterest-bearing demand deposits

     37,249        16,524                   

Other liabilities

     1,924        1,954                   
  

 

 

   

 

 

                 

Total noninterest-bearing liabilities

     39,173        18,478                   
  

 

 

   

 

 

                 

Shareholders’ equity

     70,983        51,740                   
  

 

 

   

 

 

                 

Total liabilities and shareholders’ equity

   $ 412,002      $ 237,606                   
  

 

 

   

 

 

                 

Interest rate spread (4)

         4.77     4.13            

Net interest income (5)

           $ 4,831       $ 2,327       $ 2,504      $ 32      $ 2,472   
          

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Net interest margin (6)

         5.01     4.42            

 

(1) Average balances are computed on a daily basis.
(2) Change in interest due to both volume and rate has been allocated in proportion to the absolute dollar amounts of the change in each.
(3) Nonaccrual loans have been included in the average balances. Only the interest collected on such loans has been included as income.
(4) Interest rate spread is the average yield on interest-earning assets less the average rate on interest-bearing liabilities.
(5) Net interest income is interest income less interest expense.
(6) Net interest margin is net interest income expressed as a percentage of average interest-earning assets.
(7) Interest income on loans in 2011 and 2010 includes $1,240 thousand and $507 thousand, respectively, in accretion related to purchase accounting adjustments.
(8) Interest expense on time deposits in 2011 and 2010 is reduced by $270 thousand related to purchase accounting adjustments.

 

24


Table of Contents
     Average Balances, Income and Expenses, Yields and Rates  
     As of and For the Nine Months Ended September 30,  
                                           2011 vs. 2010  
     Average Balances (1)     Yield / Rate     Income / Expense (7), (8)      Increase     Change due to (2)  
     2011     2010     2011     2010     2011      2010      (Decrease)     Rate     Volume  

Assets

                    

Interest-earning assets:

                    

Federal funds sold

   $ 732      $ 883        0.27     0.15   $ 1       $ 1       $ 0      $ —        $ —     

Investments / Interest-earning deposits

     91,413        76,472        2.21     2.83     1,513         1,621         (108     (392     284   

Loans, gross (3)

     200,795        113,627        7.13     6.95     10,741         5,920         4,821        163        4,659   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total interest-earning assets

     292,939        190,982        5.58     5.27     12,256         7,542         4,714        (229     4,943   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Noninterest-earning assets:

                    

Cash and due from banks

     2,755        2,881                   

Premises and fixed assets

     6,275        6,835                   

Other assets

     18,990        18,310                   

Allowance for loan and lease losses

     (2,832     (338                
  

 

 

   

 

 

                 

Total noninterest-earning assets

     25,187        27,688                   
  

 

 

   

 

 

                 

Total assets

   $ 318,127      $ 218,670                   
  

 

 

   

 

 

                 

Liabilities and Shareholders’ Equity

                    

Interest-bearing liabilities:

                    

Demand deposits

   $ 7,808      $ 5,941        0.36     0.20   $ 21       $ 9       $ 12      $ 8      $ 3   

Savings and money market deposits

     82,792        19,805        0.98     0.92     607         137         470        9        461   

Time deposits

     112,247        96,543        0.84     1.38     709         1,002         (293     (437     144   

Federal funds purchased and borrowed funds

     24,757        26,878        2.48     2.27     460         457         3        40        (38
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total interest-bearing liabilities

     227,602        149,167        1.05     1.43     1,797         1,605         192        (380     572   
  

 

 

   

 

 

       

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Noninterest-bearing liabilities:

                    

Noninterest-bearing demand deposits

     27,729        14,878                   

Other liabilities

     1,925        1,977                   
  

 

 

   

 

 

                 

Total noninterest-bearing liabilities

     29,654        16,855                   
  

 

 

   

 

 

                 

Shareholders’ equity

     60,871        52,648                   
  

 

 

   

 

 

                 

Total liabilities and shareholders’ equity

   $ 318,127      $ 218,670                   
  

 

 

   

 

 

                 

Interest rate spread (4)

         4.53     3.83            

Net interest income (5)

           $ 10,459       $ 5,937       $ 4,522      $ 150      $ 4,371   
          

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Net interest margin (6)

         4.76     4.14            

 

(1) Average balances are computed on a daily basis.
(2) Change in interest due to both volume and rate has been allocated in proportion to the absolute dollar amounts of the change in each.
(3) Nonaccrual loans have been included in the average balances. Only the interest collected on such loans has been included as income.
(4) Interest rate spread is the average yield on interest-earning assets less the average rate on interest-bearing liabilities.
(5) Net interest income is interest income less interest expense.
(6) Net interest margin is net interest income expressed as a percentage of average interest-earning assets.
(7) Interest income on loans in 2011 and 2010 includes $2,076 thousand and $996 thousand, respectively, in accretion related to acquisition accounting adjustments.
(8) Interest expense on time deposits in 2011 and 2010 is reduced by $810 thousand related to acquisition accounting adjustments.

 

25


Table of Contents

Noninterest Income

For the three months ended September 30, 2011, noninterest income increased $8.5 million compared to the same period of 2010. This increase was primarily due to the bargain purchase gain of $8.7 million recognized on the VBB Acquisition, which was effective July 29, 2011, partially offset by net losses on sales or adjustments to fair value of other real estate owned (“OREO”).

For the nine months ended September, 30, 2011, noninterest income increased $8.4 million compared to the same period in 2010. This increase is also primarily due to the bargain purchase gain of $8.7 million recognized on the VBB Acquisition, partially offset by net losses on OREO.

Noninterest Expense

Noninterest expense increased $1.6 million to $4.9 million for the three months ended September 30, 2011 from the same period in 2010. Higher noninterest expenses were primarily due to higher compensation and benefits as the company hired the personnel associated with the Paragon Branch, and higher technology costs, professional fees and occupancy costs of approximately $360 thousand related to the Paragon Transaction and the VBB Acquisition.

Noninterest expense increased $1.8 million to $11.8 million for the nine months ended September 30, 2011 from the same period in 2010. Higher noninterest expenses were primarily due to higher compensation and benefits as the company hired the personnel associated with the Paragon Branch and other personnel, and higher technology costs, professional fees and occupancy costs of approximately $420 thousand related to the Paragon Transaction and the VBB Acquisition. Additionally, both the three- and nine-month periods ended September 30, 2011, reflect a prepayment fee of $133 thousand we incurred in connection with the full repayment of a borrowing assumed in the VBB Acquisition.

Income Taxes

In the three months ended September 30, 2011, we recorded $58 thousand in income tax expense to adjust our tax accounts for recently filed tax returns. Additionally, for the three- and nine-month periods ended September 30, 2011, we recorded $1.5 million of net income tax expense and released $1.5 million of valuation allowance, which fully offset the tax expense. Deferred tax assets, as of September 30, 2011, were $5.1 million for which a full valuation allowance was recorded, based primarily on the fact that we experienced cumulative losses over the past three years. Future realization of the tax benefit of existing deductible temporary differences and net operating loss carryforwards is dependent on the company generating sufficient future taxable income within the carryforward period, which under current law is 20 years.

FINANCIAL CONDITION

Securities

The following tables present information about our securities portfolio as of the dates stated. Weighted average life calculations and weighted average yields are based on the current level of contractual maturities and expected prepayments as of the dates stated.

 

     September 30, 2011  
     Book Value      Fair Value      Weighted
Average Life
in Years
     Weighted
Average Yield
 

Securities available-for-sale:

           

Mortgage-backed securities

           

- Fixed rate

   $ 47,236       $ 48,794         3.75         3.11

- Variable rate

     2,536         2,660         10.81         3.08

Agency notes/bonds - fixed rate

     1,999         2,002         0.47         1.64

Collateralized mortgage obligations

     6,158         6,344         3.46         3.53

Trust preferred securities

     1,123         1,061         15.54         7.75
  

 

 

    

 

 

       

Total securities available-for-sale

   $ 59,052       $ 60,861         4.13         3.19
  

 

 

    

 

 

       

 

26


Table of Contents
     December 31, 2010  
     Book Value      Fair Value      Weighted
Average Life
in Years
     Weighted
Average Yield
 

Securities available-for-sale:

           

Mortgage-backed securities

           

- Fixed rate

   $ 43,446       $ 43,744         2.69         2.81

- Variable rate

     5,035         5,272         11.14         3.40

Collateralized mortgage obligations

     7,555         7,641         2.32         3.00

Trust preferred securities

     2,253         2,233         5.16         7.48
  

 

 

    

 

 

       

Total securities available-for-sale

   $ 58,289       $ 58,890         3.48         3.06
  

 

 

    

 

 

       

The following tables present a maturity analysis of our securities portfolio as of the dates stated. Weighted average life calculations and weighted average yields are based on the current level of contractual maturities and expected prepayments as of the dates stated.

 

     September 30, 2011  
     Within 1
Year
     Weighted
Average
Yield
     After 1 Year
Through 5
Years
     Weighted
Average
Yield
    After 5
Years
Through 10
Years
     Weighted
Average
Yield
    After 10
Years
     Weighted
Average
Yield
    Total      Weighted
Average
Yield
 

Securities available for sale:

                          

Mortgage-backed securities

                          

- Fixed rate

     —           —           —           —          7,949         2.20     40,844         3.29     48,794         3.11

- Variable rate

     —           —           —           —          —           —          2,660         3.08     2,660         3.08

Agency Notes

                          —        

- Fixed rate

           2,002         1.65               2,002         1.64

Collateralized Mortgage Obligations

     —           —           —           —          —           —          6,344         3.53     6,344         3.53

Trust preferred securities

     —           —           —           —          —           —          1,061         7.75     1,061         7.75
  

 

 

       

 

 

      

 

 

      

 

 

      

 

 

    

Total securities available-for-sale

   $ —           —         $ 2,002         1.65   $ 7,949         2.20   $ 50,910         3.55   $ 60,861         3.19
  

 

 

       

 

 

      

 

 

      

 

 

      

 

 

    
     December 31, 2010  
     Within 1
Year
     Weighted
Average
Yield
     After 1 Year
Through 5
Years
     Weighted
Average
Yield
    After 5
Years
Through 10
Years
     Weighted
Average
Yield
    After 10
Years
     Weighted
Average
Yield
    Total      Weighted
Average
Yield
 

Securities available-for-sale:

                          

Mortgage-backed securities

                          

- Fixed rate

   $ —           —         $ —           —        $ 4,695         1.92   $ 39,049         2.92   $ 43,744         2.81

- Variable rate

     —           —           —           —          —           —          5,272         3.40     5,272         3.40

Collateralized mortgage obligations

     —           —           —           —          —           —          7,641         3.00     7,641         3.00

Trust preferred securities

     —           —           —           —          —           —          2,233         7.48     2,233         7.48
  

 

 

       

 

 

      

 

 

      

 

 

      

 

 

    

Total securities available-for-sale

   $ —           —         $ —           —        $ 4,695         1.92   $ 54,195         3.17   $ 58,890         3.06
  

 

 

       

 

 

      

 

 

      

 

 

      

 

 

    

 

27


Table of Contents

Loans

The following table provides the maturity analysis of our loan portfolio as of the date stated based on whether loans are variable-rate or fixed-rate loans:

 

     September 30, 2011  
            Variable Rate      Fixed Rate         
     Within
1 year
     1 to 5
years
     After
5 years
     Total      1 to 5
years
     After
5 years
     Total      Total
Maturities
 

Commercial and industrial (1)

   $ 50,151       $ 34,826       $ 6,502       $ 41,328       $ 41,201       $ 3,947       $ 45,149       $ 136,628   

Commercial real estate (2)

     34,530         48,985         3,098         52,083         31,850         1,245         33,096         119,708   

Residential real estate (3)

     7,019         9,196         3,079         12,275         5,621         4,066         9,687         28,980   

Consumer

     1,357         3,742         4         3,746         674         39         713         5,816   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans

   $ 93,056       $ 96,749       $ 12,683       $ 109,432       $ 79,347       $ 9,298       $ 88,644       $ 291,132   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) Excludes $491 thousand in nonaccrual fixed-rate loans and $208 thousand in nonaccrual variable-rate loans.
(2) Excludes $1,316 thousand in nonaccrual fixed-rate loans and $3,495 thousand in nonaccrual variable-rate loans.
(3) Excludes $87 thousand in nonaccrual fixed-rate loans.

 

     December 31, 2010  
            Variable Rate      Fixed Rate         
     Within
1 year
     1 to 5
years
     After
5 years
     Total      1 to 5
years
     After
5 years
     Total      Total
Maturities
 

Commercial and industrial (1)

   $ 35,446       $ 13,895       $ 376       $ 14,271       $ 15,876       $ 1,078       $ 16,954       $ 66,671   

Commercial real estate (2)

     21,208         22,426         —           22,426         9,457         1,246         10,704         54,338   

Residential real estate

     6,508         4,053         582         4,635         7,953         4,241         12,194         23,337   

Consumer (3)

     725         3,055         1         3,056         912         14         926         4,707   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total loans

   $ 63,887       $ 43,430       $ 959       $ 44,389       $ 34,198       $ 6,580       $ 40,777       $ 149,053   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) Excludes $1,374 thousand in nonaccrual fixed-rate loans.
(2) Excludes $2,697 thousand in nonaccrual variable-rate loans.
(3) Excludes $20 thousand in nonaccrual fixed-rate loans.

A certain degree of risk is inherent in the extension of credit. Management has established loan and credit policies and guidelines designed to control both the types and amounts of risks we take and to minimize losses. Such policies and guidelines include loan underwriting parameters, loan-to-value parameters, credit monitoring guidelines, adherence to regulations, and other prudent credit practices.

Loans secured by real estate comprised of 73% of the loan portfolio at September 30, 2011 and at December 31, 2010. Residential real estate loans consist primarily of first and second lien loans, including home equity lines and credit loans, secured by residential real estate located primarily in our target markets. Typically, our loan-to-value benchmark for these loans is at or below 80% at inception, with satisfactory debt-to-income ratios as well. Commercial real estate, or CRE, loans are secured by business and commercial properties. Typically, our loan-to-value benchmark for these loans is at or below 80% at inception, with satisfactory debt service coverage ratios as well. The repayment of both residential and owner-occupied commercial real estate loans depends primarily on the income and cash flows of the borrowers, with the real estate serving as a secondary source of repayment.

Allowance for Loan and Lease Losses

Our allowance for loan and lease losses consists of (1) a component for individual loan impairment recognized and measured pursuant to Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 310, “Accounting by Creditors for Impairment of a Loan” (“Topic 310”), and (2) components of collective loan impairment recognized pursuant to Topic 450, “Accounting for Contingencies”. We maintain specific reserves for individually impaired loans pursuant to Topic 310. A loan is impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due (interest as well as principal) according to the contractual terms of the loan agreement.

We determine the allowance for loan and lease losses based on a periodic evaluation of the loan portfolio. This evaluation is a combination of quantitative and qualitative analysis. Quantitative factors include loss history for similar types of loans that we originate in our portfolio, as well as loss history from banks in Virginia and across the country. In evaluating our loan portfolio, we consider qualitative factors, including general economic conditions, nationally, regionally and in our target markets, and the values of collateral securing our loan portfolio. These quantitative and qualitative factors and estimates may be subject to significant change. Increases to the allowance for loan and lease losses are made by charges to the provision for loan and lease losses, which is reflected on the consolidated statements of operations and comprehensive income (loss). Loans deemed to be uncollectible are charged against the allowance for loan and lease losses at the time of determination, and recoveries of previously charged-off amounts are credited to the allowance for loan and lease losses.

In assessing the adequacy of the allowance for loan and lease losses as of the end of a reporting period, we also evaluate our loan risk ratings. Each loan is assigned two “risk ratings” at origination. One risk rating is based on our assessment of the borrower’s financial capacity, and the other is based on our assessment of the quality of our collateral. In addition to our assessment of risk ratings, we also consider changes to our policies and procedures, internal observable data related to trends within the loan portfolio, such as concentrations and aging of the portfolio, and external observable data such as industry and general economic trends.

 

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Although we use various data and information sources to establish our allowance for loan and lease losses, future adjustments to the allowance for loan and lease losses may be necessary, if conditions, circumstances or events are substantially different from the assumptions used in making the assessments.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review our allowance for loan and lease losses. Such agencies may require us to recognize additions to the allowance for loan and lease losses based on their judgments of information available to them at the time of their examination.

Topic 310 prohibits the “carrying over” or the creation of valuation allowances in the initial accounting for purchased loan receivables. At December 22, 2009, immediately following the merger with First Bankshares, our allowance for loan and lease losses of $6.7 million was reduced to $0, and the purchased loans were adjusted to estimated fair value with a discount of $7.6 million. As of July 29, 2011, the loans acquired pursuant to the Paragon Transaction and the VBB Acquisition were adjusted to estimated fair value by recording a discount of $1.8 million and $14.0 million, respectively.

For the three and nine months ended September 30, 2011, we recorded provision expense of $1.6 million and $3.1 million, respectively. For the three and nine months ended September 30, 2010, we recorded a provision of $740 thousand and $1.3 million, respectively. Our allowance for loan and lease losses as of September 30, 2011 is primarily for organic loan production since the merger and changes in credit quality related to the purchased loan portfolios.

The following table presents the allowance for loan and losses by loan type and the percent of loans in each category to total loans for the dates stated:

 

     September 30, 2011     December 31, 2010  
     Amount      Percent of
loans in each
category to
total loans
    Amount      Percent of
loans in each
category to
total loans
 

Balance at end of period applicable to:

          

Commercial and industrial

   $ 697         46.28   $ 470         44.44

Commercial real estate

     2,343         41.96     1,106         37.24

Residential real estate

     343         9.80     164         15.24

Consumer

     38         1.96     26         3.08
  

 

 

    

 

 

   

 

 

    

 

 

 

Total allowance for loan and lease losses

   $ 3,421         100.00   $ 1,766         100.00
  

 

 

    

 

 

   

 

 

    

 

 

 

Nonperforming Assets

It is our policy to discontinue the accrual of interest income on nonperforming loans. We consider a loan as nonperforming when it is greater than 90 days past due as to interest and principal or when there is serious doubt as to collectability, unless the estimated net realized value of collateral is sufficient to assure collection of principal balance and accrued interest. As of September 30, 2011 and December 31, 2010, there were no loans greater than 90 days past due with respect to principal and interest for which interest was accruing.

At September 30, 2011, we had $1.4 million in OREO consisting of hotel/mixed use and single family properties. Of this amount, $839 thousand of OREO was acquired in the VBB Acquisition. OREO asset valuations are evaluated periodically, and any necessary write down to fair value is recorded as impairment. For the three- and nine-month periods ended September 30, 2011, $166 thousand and $180 thousand, respectively, was recorded as losses on OREO due to disposition or adjustment to fair value of the properties.

All of our nonperforming assets at September 30, 2011 were acquired in the merger and the VBB Acquisition and their carrying values were adjusted to fair value immediately following the merger, in applying the acquisition method of accounting.

 

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The following table presents our nonperforming assets and various performance ratios as of the dates stated:

 

     September 30, 2011     December 31, 2010  

Nonaccrual loans

   $ 5,596      $ 2,841   

Other real estate owned

     1,379        1,485   
  

 

 

   

 

 

 

Total nonperforming assets

   $ 6,975      $ 4,326   
  

 

 

   

 

 

 

Nonperforming assets as a percentage of total loans

     2.35     2.82

Nonperforming assets as a percentage of total assets

     1.48     1.72

Net charge-offs as a percentage of average loans

     0.64     0.18

Allowance for loan and lease losses as a percentage of total loans

     1.15     1.15

Allowance for loan and lease losses to nonaccrual loans

     61.14     43.15

Deposits

Deposits represent our primary source of funds and are comprised of demand deposits, savings deposits and time deposits. Deposits as of September 30, 2011 totaled $362.3 million, compared to deposits of $175.1 million at December 31, 2010, an increase of $187.1 million, or 107%. Demand deposits, including money market accounts, increased $155.2 million, or approximately 222% over balances at December 31, 2010, while time deposits increased $32.1 million, or approximately 32% from balances at December 31, 2010. We assumed deposits of $154.1 million in the Paragon Transaction and VBB Acquisition, of which approximately $70 million were internet time deposits, which we believe may be liquidated at or before maturity. As of September 30, 2011, approximately 48% of these internet time deposits had been liquidated.

The following table presents the average balances and rates paid, by deposit category, as of the dates stated:

 

     September 30, 2011     December 31, 2010  
     Amount      Rate     Amount      Rate  

Noninterest-bearing demand deposits

   $ 27,729         —        $ 16,564         —     

Interest-bearing deposits:

          

Demand and money market

     86,834         0.34     26,425         0.84

Savings accounts

     3,582         0.74     3,537         0.50

Time deposits $100,000 or greater (1)

     58,314         1.69     38,326         1.63

Time deposits less than $100,000

     53,989         0.81     60,333         1.15
  

 

 

      

 

 

    

Total interest-bearing deposits

     202,721         2.64     128,621         1.21
  

 

 

      

 

 

    

Total average deposits

   $ 230,449         2.32   $ 145,185         1.07
  

 

 

      

 

 

    

 

(1) Includes brokered deposits of $5.1 million at September 30, 2011 and $10.2 million at December 31, 2010.

The following table presents maturities of large denomination time deposits (equal to or greater than $100,000) as of September 30, 2011:

 

     Within 3
Months
     3-6 Months (1)      6-12 Months      Over 12
Months
     Total      Percent of
Total
Deposits
 

Time deposits

   $ 4,295       $ 6,548       $ 31,635       $ 29,802       $ 72,281         19.95

 

(1) Includes brokered deposits of $5.1 million.

 

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Short-term Borrowings

The following table summarizes the period-end balance, highest month-end balance, average balance and weighted average rate of short-term borrowings for each of the periods stated:

 

     September 30, 2011     December 31, 2010  
     Period-end
Balance
     Highest
Month-end
Balance
     Average
Balance
     Weighted
Average
Rate
    Year-end
Balance
     Highest
Month-end
Balance
     Average
Balance
     Weighted
Average
Rate
 

Federal funds purchased

   $ —         $ —         $ 343         0.76   $ —           —         $ 37         0.76

Other borrowings

     —           —           33         0.01     —         $ 4,700         742         0.81
  

 

 

    

 

 

    

 

 

      

 

 

    

 

 

    

 

 

    

Total short-term borrowings

   $ —         $ —         $ 376         $ —         $ 4,700       $ 779         0.57
  

 

 

    

 

 

    

 

 

      

 

 

    

 

 

    

 

 

    

Long-term Borrowings

We have one secured borrowing with the Federal Home Loan Bank (“FHLB”) in the amount of $20 million. During the third quarter of 2011, we modified the then-existing borrowing which was a non-amortizing, fixed rate term loan maturing on January 25, 2013. The modified borrowing is also a non-amortizing term loan and bears a rate of 20 basis points over LIBOR that resets quarterly. The modified borrowing matures on September 28, 2015.

At the time we modified the FHLB borrowing, we entered into a derivative (interest rate swap) whereby we pay fixed amounts to a counterparty in exchange for receiving variable payments over the life of the agreement without the exchange of the underlying notional amount, which is $20 million. Our objective in using interest rate derivatives is to manage our exposure to interest rate movements. The derivative is designated as a cash flow hedge, whereby the effective portion of the hedge is recorded in accumulated other comprehensive income. The amount reported in accumulated other comprehensive income as of September 30, 2011 is insignificant. As of September 30, 2011, there was no ineffective portion of the derivative. We had no derivatives prior to the third quarter of 2011.

The company has an agreement with the counterparty to its derivative which contains a provision whereby if the company fails to maintain its status as a well/an adequate capitalized institution, we could be required to terminate or fully collateralize the derivative contract. Additionally, if the company defaults on any of its indebtedness, including default where repayment has not been accelerated by the lender, we could also be in default on its derivative obligations. We had minimum collateral requirements with our counterparty and, as of September 30, 2011, $0 has been pledged as collateral under the agreement, because the valuation of the derivative has not surpassed contractually specified minimum transfer amounts. If the company is not in compliance with the terms of the derivative agreement, we could be required to settle obligations under the agreement at termination value.

LIQUIDITY AND CAPITAL RESOURCES

In the nine-month period ended September 30, 2011, cash and cash equivalents increased $71.8 million compared to a decrease of $18.2 million in the same period in 2010. Net cash provided by operating activities was $2.7 million for the nine-month period ended September 30, 2011 compared to net cash used in operating activities of $5.1 million for the same period in 2010. Net cash provided by investing activities was $24.0 million for the nine-month period ended September 30, 2011 compared to net cash used in investing activities of $59.4 million for the same period in 2010. In the nine-month period ended September 30, 2011, net cash of $54.5 was provided by the Paragon Transaction and VBB Acquisition, partially offset by cash invested in loans of $29.9 million. Net cash provided by financing activities in the nine-month period ended September 30, 2011 was $45.1 million compared to $46.3 million for the same period of 2010. Cash provided by financing activities was primarily from the issuance and sale of 4,600,000 shares of our common stock in an underwritten public offering and the issuance of Senior Non-Cumulative Perpetual Preferred Stock, Series A, pursuant to the SBLF program, both of which are more fully described below.

Liquidity

Liquidity is the ability to generate or acquire sufficient amounts of cash when needed and at a reasonable cost to accommodate deposit withdrawals, payments of debt and operating expenses and increased loan demand, and to achieve stated objectives (including working capital requirements). These events may occur daily or in other short-term intervals in the normal operation of business. Historical trends may help management predict the amount of cash required. In assessing liquidity, management gives consideration to various factors, including stability of deposits, maturity of time deposits, quality, volume and maturity of assets, sources and costs of borrowings, concentrations of business and industry, competition and our overall financial condition.

Our primary sources of liquidity are cash, due from banks, federal funds sold and securities in our available-for-sale portfolio. We have access to a credit line from our primary correspondent bank in the amount of $9.0 million. This line is for short-term liquidity needs and is subject to the prevailing federal funds interest rate.

We have a secured borrowing facility with the FHLB. The total credit availability is equal to 30% of our total assets. As discussed above, under this facility, we have one non-amortizing term loan outstanding for $20 million. This borrowing bears a rate of 20 basis points over LIBOR, which resets quarterly, and matures on September 28, 2015. As of September 30, 2011, our total credit availability under this facility was $86.4 million, based on our June 30, 2011 balance sheet. As discussed above, at the time we entered into the FHLB term loan, we entered into an interest rate swap whereby we pay fixed amounts to a counterparty in exchange for receiving variable payments over the life of the agreement without the exchange of the underlying notional amount which is $20 million.

 

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We also have a secured borrowing facility with the Federal Reserve. The total credit availability as of September 30, 2011 was $47.3 million, which is based on our pledged collateral. Borrowings under this facility bear the prevailing current rate for primary credit which at September 30, 2011 was 0.75%. There were no amounts outstanding under this facility as of September 30, 2011.

In addition, we have an uncommitted line of credit by a national bank to borrow federal funds up to $5.0 million on an unsecured basis. The uncommitted line is not a confirmed line or loan and terminates on June 30, 2012, if not cancelled earlier. Borrowings under this arrangement bear interest at the prevailing federal funds rate. At September 30, 2011, there were no borrowings outstanding under this uncommitted line of credit.

On April 4, 2011, we issued and sold 4,000,000 shares of our common stock at a public offering price of $4.25 per share pursuant to an effective registration statement filed with the Securities and Exchange Commission (“SEC”). On April 14, 2011, we completed the issuance and sale of an additional 600,000 shares of our common stock in connection with the over-allotment option granted by us to the underwriters of the offering. Net proceeds, after the underwriters’ discount and expenses, were $17.7 million.

On September 21, 2011, as part of the Small Business Lending Fund (the “SBLF”) of the United States Department of the Treasury (“Treasury”), we entered into a Small Business Lending Fund—Securities Purchase Agreement (the “Purchase Agreement”) with the Secretary of the Treasury, pursuant to which we sold 8,381 shares of the company’s Senior Non-Cumulative Perpetual Preferred Stock, Series A (the “SBLF Preferred Stock”) to the Secretary of the Treasury for a purchase price of $8,381,000. The SBLF Preferred Stock was issued pursuant to the SBLF program, a $30 billion voluntary program established under the Small Business Jobs Act of 2010 created to encourage lending to small businesses by providing capital to qualified banks at favorable dividend rates. The terms of the SBLF Preferred Stock were established pursuant to an amendment to the company’s Amended and Restated Articles of Incorporation filed on September 20, 2011.

The SBLF Preferred Stock investment qualifies as Tier 1 capital. The SBLF Preferred Stock is entitled to receive non-cumulative dividends, payable quarterly, on each January 1, April 1, July 1 and October 1, beginning October 1, 2011. The dividend rate, as a percentage of the liquidation amount, can fluctuate on a quarterly basis during the first 10 quarters during which the SBLF Preferred Stock is outstanding, based upon changes in the level of “Qualified Small Business Lending” (as defined in the Purchase Agreement) (“QSBL”) by the Bank. The initial dividend rate through September 30, 2011 is 1% per annum. For the second through ninth calendar quarters after issuance, the dividend rate may be adjusted to between 1% per annum and 5% per annum to reflect changes to the Bank’s QSBL. If the level of the Bank’s qualified small business loans declines so that the percentage increase in QSBL as compared to the baseline level of QSBL is less than 10%, then the dividend rate payable on the SBLF Preferred Stock will increase. For the tenth calendar quarter through four and one half years after issuance, the dividend rate will be fixed at between 1% and 7% based upon the increase in QSBL as of the ninth calendar quarter as compared to the baseline. After four and one half years from issuance, the dividend rate will increase to 9% per annum until the SBLF funding is repaid in full.

The SBLF Preferred Stock is non-voting, except in limited circumstances. In the event that the company misses five dividend payments, whether or not consecutive, the holder of the SBLF Preferred Stock will have the right, but not the obligation, to appoint a representative as an observer on our board of directors. In the event that the company misses six dividend payments, whether or not consecutive, and if the then outstanding aggregate liquidation amount of the SBLF Preferred Stock is at least $25,000,000, then the holder of the SBLF Preferred Stock will have the right to designate two directors to our board of directors.

The SBLF Preferred Stock may be redeemed at any time at our option, in whole or in part (provided that any partial redemption is at least 25% of the original funding amount), at a redemption price of 100% of the liquidation amount plus accrued but unpaid dividends to the date of redemption for the current period, subject to the approval of its federal banking regulator.

The terms of the SBLF Preferred Stock impose limits on the ability of the company to pay dividends and repurchase shares of its common stock. Under the terms of the SBLF Preferred Stock, no repurchases may be effected, and no dividends may be declared or paid on preferred shares ranking pari passu with the SBLF Preferred Stock, junior preferred shares, or other junior securities (including the company’s common stock) during the current quarter and for the next three quarters following the failure to declare and pay dividends on the SBLF Preferred Stock, except that, in any such quarter in which the dividend is paid, dividend payments on shares ranking pari passu may be paid to the extent necessary to avoid any resulting material covenant breach.

Under the terms of the SBLF Preferred Stock, the company may only declare and pay a dividend on its common stock or other stock junior to the SBLF Preferred Stock, or repurchase shares of any such class or series of stock, if, after payment of such dividend, the dollar amount of the company’s Tier 1 Capital would be at least 90% of the Signing Date Tier 1 Capital, as set forth in the Articles of Amendment relating to the SBLF Preferred Stock, excluding any subsequent net charge-offs and any redemption of the SBLF Preferred Stock (the “Tier 1 Dividend Threshold”). The Tier 1 Dividend Threshold is subject to reduction, beginning on the second anniversary of issuance and ending on the tenth anniversary, by 10% for each 1% increase in QSBL over the baseline level.

In addition to cash provided by our sale of common stock and issuance of SBLF Preferred Stock, the Paragon Transaction and VBB Acquisition increased our cash and cash equivalents by $54.4 million as of the acquisition date. In addition, the transactions resulted in an additional $154.1 million of deposits, of which approximately $70 million, consisting of internet deposits. We believe the internet deposits may be liquidated at or before maturity. As of September 30, 2011, approximately 48% of these deposits had been liquidated. Additionally, we assumed a $9.8 million borrowing in the VBB Acquisition which was repaid in full prior to September 30, 2011.

In management’s opinion, we maintain the ability to generate sufficient amounts of cash to cover normal requirements and any additional needs that may arise, within realistic limitations, for the foreseeable future.

Capital Adequacy

Capital management in a regulated financial services industry must properly balance return on equity to shareholders, while maintaining sufficient capital levels and related risk-based capital ratios to satisfy regulatory requirements. Our capital management strategies have been developed to maintain our “well-capitalized” position.

We are subject to various regulatory capital requirements administered by federal and other bank regulators. Failure to meet minimum capital requirements can trigger certain mandatory and possibly additional discretionary actions by regulators that, if

 

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undertaken, could have a direct material adverse effect on us and our financial performance. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. Capital amounts and reclassifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require us to maintain minimum Tier 1 leverage, Tier 1 risk-based capital and total risk-based capital ratios. On December 7, 2009, BankCap Partners received approval from the Federal Reserve to acquire up to 65.02% of the common stock of First Bankshares (now Xenith Bankshares), and indirectly, SuffolkFirst Bank (now Xenith Bank). The approval order contained conditions related to BankCap Partners, as well as the conduct of the Bank’s business. The condition applicable to the Bank provided that, during the first three years of operation after the merger, which is the period beginning December 22, 2009 and ending December 22, 2012, the Bank must operate within the parameters of its business plan submitted in connection with BankCap Partners’ application to the Federal Reserve, and the Bank must obtain prior written regulatory consent to any material change in its business plan. The business plan sets forth minimum leverage and risk-based capital ratios of at least 10% and 12%, respectively, through 2012. As of September 30, 2011, we met all minimum capital adequacy requirements to which we are subject, including those contained in our business plan as submitted to the Federal Reserve, and are categorized as “well- capitalized”. Since September 30, 2011, there are no conditions or events that management believes have changed our status as “well-capitalized”.

The following table presents Tier 1 and total risk-based capital and risk-weighted assets for the Bank and Xenith Bankshares as of the date stated:

 

     September 30, 2011  
     Xenith Bank      Xenith Bankshares  

Tier 1 capital

   $ 60,812       $ 62,153   

Total risk-based capital

     64,233         65,574   

Risk-weighted assets

     322,728         322,548   

The following capital ratios and minimum capital ratios required by our regulators for the Bank and Xenith Bankshares as of the date stated:

 

     September 30, 2011              
     Xenith Bank     Xenith Bankshares     Regulatory
Minimum
    Well Capitalized  

Tier 1 leverage ratio

     15.43     15.77     4.00     > 5.00

Tier 1 risk-based capital ratio

     18.84     19.27     4.00     > 6.00

Total risk-based capital ratio

     19.90     20.33     8.00     > 10.00

 

  (1) As noted above, the Bank must maintain minimum leverage and risk-based capital ratios of 10% and 12%, respectively, through 2012.

Interest Rate Sensitivity

Financial institutions can be exposed to several market risks that may impact the value or future earnings capacity of an organization. Our primary market risk is interest rate risk. Interest rate risk is inherent in banking, because as a financial institution, we derive a significant amount of our operating revenue from “purchasing” funds (customer deposits and borrowings) at various terms and rates. These funds are invested into interest-earning assets (loans, investments, etc.) at various terms and rates.

Interest rate risk is the exposure to fluctuations in future earnings (earnings at risk) and value (market value at risk) resulting from changes in interest rates. This exposure results from differences between the amounts of interest-earning assets and interest-bearing liabilities that re-price within a specific time period as a result of scheduled maturities and repayment and contractual interest rate changes.

The balance sheet may be asset or liability sensitive at a given time. We intend to manage the Bank’s asset or liability sensitivity to optimize earnings, to minimize interest rate risk and to preserve capital within policy limits.

 

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Management strives to control the Bank’s exposure to interest rate volatility, and we operate under an asset and liability management policy approved by our board of directors. In addition, we emphasize the loan and deposit pricing characteristics that best meet our current view on the future direction of interest rates and use sophisticated analytical tools to support our asset and liability processes.

Gap Analysis

Gap analysis tools monitor the “gap” between interest-sensitive assets and interest-sensitive liabilities. The Bank uses a simulation model to forecast future balance sheet and income statement behavior. By studying the effects on net interest income of rising, stable and falling interest rate scenarios, we attempt to mitigate risks associated with anticipated interest rate movements by understanding the dynamic nature of our balance sheet components. We evaluate our balance sheet components (securities, loan and deposit portfolios) to manage our interest rate risk position.

A negative interest-sensitive gap results when interest-sensitive liabilities exceed interest-sensitive assets for a specific re-pricing “time horizon”. The gap is positive when interest-sensitive assets exceed interest-sensitive liabilities for a given time period. For a bank with a positive gap, rising interest rates would be expected to have a positive effect on net interest income, and falling rates would be expected to have a negative effect. The following table reflects the balances of interest-earning assets and interest-bearing liabilities at the earlier of their re-pricing or maturity dates. Variable–rate loans are reflected at the earliest re-pricing interval since they re-price according to their terms. Borrowed funds are reflected at the earlier of their maturity or contractual re-pricing interval. Interest-bearing liabilities, with no contractual maturity, such as interest-bearing transaction accounts and savings deposits, are reflected at expected rates of attrition. Time deposits and fixed-rate loans are reflected at their respective contractual maturity dates.

The following table, “Gap Report”, indicates that, on a cumulative basis through the next 12 months, our interest rate-sensitive assets exceed interest rate-sensitive liabilities, resulting in an asset-sensitive position at September 30, 2011 of $170.0 million. This net asset-sensitive position was a result of $322.6 million in interest rate-sensitive assets being available for re-pricing during the next 12 months and $152.6 million in interest rate-sensitive liabilities being available for re-pricing during the next 12 months. Our gap position at September 30, 2011 is considered by management to be favorable in a flat to increasing interest rate environment.

 

     0-180 Days      181-360 days     1-3 Years     Over 3 Years      Totals  

Assets:

            

Cash and cash due

   $ 70,404       $ —        $ —        $ —         $ 76,051   

Fed Funds Sold

     7,916         —          —          —           7,916   

Securities

     6,591         1,639        6,808        48,363         65,210   

Loans

     217,718         18,310        45,908        23,820         296,728   

Allowance for loan and lease losses

     —           —          —          —           (3,420

Premises and Equipment

     —           —          —          —           6,025   

Intangibles

     —           —          —          —           16,446   

OREO

     —           —          —          —           1,379   

Other Assets

     —           —          —          —           3,620   
  

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total Assets

   $ 302,629       $ 19,949      $ 52,716      $ 72,183       $ 469,955   
  

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Liabilities and Equity

            

Demand deposits

   $ —         $ —        $ —        $ —         $ 47,127   

Interest-bearing deposits

     69,111         83,474        141,729        20,599         315,151   

Fed Funds Purchased

     —           —          —          —           —     

Borrowed funds

     —           —          —          20,000         20,000   

Other liabilities

     —           —          —          —           7,270   

Shareholders’ equity

     —           —          —          —           80,407   
  

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total Liabilities and Equity

   $ 69,111       $ 83,474      $ 141,729      $ 40,599       $ 469,955   
  

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Discrete Gap:

   $ 233,518       $ (63,525   $ (89,013   $ 31,584      

Cumulative Gap:

   $ 233,518       $ 169,993      $ 80,980      $ 112,564      

Commitments and Contingencies

In the normal course of business, we have commitments under credit agreements to lend to customers as long as there is no material violation of any condition established in the contracts. These commitments generally have fixed expiration dates or other termination clauses and may require payments of fees. Because many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements.

Additionally, we issue letters of credit, which are conditional commitments to guarantee the performance of customers to third parties. The credit risk involved in issuing letters of credit is the same as that involved in extending loans to customers.

 

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These commitments represent outstanding off-balance sheet commitments. The following table presents unfunded loan commitments outstanding as of the date stated:

 

     September 30, 2011      December 31, 2010  

Commercial lines of credit

   $ 39,238       $ 18,162   

Commercial real estate

     12,398         —     

Residential real estate

     5,799         5,950   

Consumer

     715         641   

Letters of credit

     2,309         328   
  

 

 

    

 

 

 

Total commitments

   $ 60,459       $ 25,081   
  

 

 

    

 

 

 

CAUTIONARY NOTICE ABOUT FORWARD-LOOKING STATEMENTS

Certain statements included in this Form 10-Q are “forward-looking statements”. All statements other than statements of historical facts contained in this Form 10-Q, including statements regarding our plans, objectives and goals, future events or results, our competitive strengths and business strategies, and the trends in our industry are forward-looking statements. The words “believe,” “will,” “may,” “could,” “estimate,” “project,” “predict,” “continue,” “anticipate,” “intend,” “should,” “plan,” “expect,” “appear,” “future,” “likely,” “probably,” “suggest,” “goal,” “potential” and similar expressions, as they relate to our company, are intended to identify forward-looking statements.

Forward-looking statements made in this Form 10-Q reflect beliefs, assumptions, and expectations of future events or results, taking into account the information currently available to us. These beliefs, assumptions, and expectations may change as a result of many possible events, circumstances or factors, not all of which are currently known to us. If a change occurs, our business, financial condition, liquidity, results of operations and prospects may vary materially from those expressed, or implied by, in the forward-looking statements. You should carefully consider these matters, along with the risks discussed under “Risk Factors” in Part I, Item 1A in the 2010 Form 10-K and the following factors, which are not intended to be exhaustive, that may cause actual results to vary materially from our forward-looking statements:

 

   

general economic conditions nationally, regionally or in our target markets;

 

   

the efforts of government agencies to stabilize the equity and debt markets;

 

   

the adequacy of our allowance for loan losses and the methodology for determining such allowance;

 

   

adverse changes in our loan portfolio and credit risk-related losses and expenses;

 

   

concentrations within our loan portfolio, including exposure to commercial real estate loans, and to our target markets;

 

   

our dependence on our target markets in and around Virginia;

 

   

reduced deposit flows and loan demand as well as increasing default rates;

 

   

changes in interest rates, reducing our margins or the volumes or values of the loans we make and the deposits and investments we hold;

 

   

business conditions in the financial services industry, including competitive pressures among financial services companies, new service and product offerings by competitors, and similar factors;

 

   

the degree and nature of our competition, with the understanding that competitors may have greater financial resources and access to capital and may offer services that enable those competitors to compete more successfully than we can;

 

   

the regulatory environment, including evolving banking industry standards, changes in legislation or regulation;

 

   

our ability and willingness to pay dividends on our common stock in the future;

 

   

changes in accounting principles, policies and guidelines as well as estimates and assumptions used in the preparation of our financial statements;

 

   

volatility of the market price of our common stock and capital markets generally;

 

   

our dependence on limited markets in and around Virginia;

 

   

our limited operating history;

 

   

changes in our competitive strengths or business or strategies;

 

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the availability, terms and deployment of debt and equity capital;

 

   

our dependence upon key personnel whose continued service is not guaranteed and our ability to identify, hire and retain highly qualified personnel in the future;

 

   

our ability to implement our business strategies successfully;

 

   

the adequacy of our cash reserves and liquidity;

 

   

negative publicity and the impact on our reputation;

 

   

rapidly changing technology;

 

   

war or terrorist activities causing deterioration in the economy;

 

   

other economic, competitive, governmental, regulatory and technological factors affecting our operations, pricing, products and services; and

 

   

the risks discussed in our public filings with the SEC.

As a result of these factors, among others, the future events or results that are the subject of our beliefs, assumptions and expectations expressed in, or implied by, our forward-looking statements in this Form 10-Q may not be achieved in any specified time frame, or at all, which could be material. Accordingly and as noted above, you should not place undue reliance on these forward-looking statements. All subsequent written and oral forward-looking statements attributable to us or the persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. Except as required by applicable law or regulations, we do not undertake, and specifically disclaim any obligation, to update or revise any forward-looking statement.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Not applicable.

Item 4. Controls and Procedures

Management evaluated, with the participation of the company’s Chief Executive Officer and Chief Financial Officer, the effectiveness of the company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)), as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the company’s disclosure controls and procedures are effective as of the end of the period covered by this report to ensure that information required to be disclosed in the reports that the company files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

Management is also responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act). No changes in the company’s internal control over financial reporting occurred during the fiscal quarter ended September 30, 2011 that have materially affected, or are reasonably likely to materially affect, the company’s internal control over financial reporting.

PART II—OTHER INFORMATION

Item 1. Legal Proceedings

We are not presently involved in any litigation, nor to our knowledge is any litigation threatened against us, that in management’s opinion would result in any material adverse effect on our financial position or results of operations or that is not expected to be covered by our liability insurance.

Item 1A. Risk Factors

While we attempt to identify, manage and mitigate risks and uncertainties associated with our business to the extent practical under the circumstances, some level of risk and uncertainty will always be present. Part I, Item 1A, “Risk Factors” in the 2010 Form 10-K describes some of the risks and uncertainties associated with our business. These risks and uncertainties have the potential to materially affect our results of operations and our financial condition. We do not believe that there have been any material changes to the risk factors previously disclosed in the 2010 Form 10-K.

 

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Item 2. Unregistered Sale of Equity Securities and Use of Proceeds

None

Item 3. Defaults Upon Senior Securities

None

Item 5. Other Information

None

Item 6. Exhibits

Exhibit Index:

 

    

Description

2.1    Purchase and Assumption Agreement, dated as of July 29, 2011, among the Federal Deposit Insurance Corporation, Receiver of Virginia Business Bank, the Federal Deposit Insurance Corporation and Xenith Bank (incorporated by reference to Current Report on Form 8-K filed by Xenith Bankshares, Inc. on August 4, 2011 (File No. 000-53380))
2.2    Amended and Restated Purchase and Assumption Agreement, dated as of July 25, 2011, by and between Xenith Bank and Paragon Commercial Bank (incorporated by reference to Current Report on Form 8-K filed by Xenith Bankshares, Inc. on August 4, 2011 (File No. 000-53380))
3.1    Articles of Amendment to the Amended and Restated Articles of Incorporation of Xenith Bankshares, Inc. (incorporated by reference to Current Report on Form 8-K filed by Xenith Bankshares, Inc. on September 27, 2011 (File No. 000-53380))
10.1    Small Business Lending Fund — Securities Purchase Agreement, dated September 21, 2011, between Xenith Bankshares, Inc. and the Secretary of Treasury (incorporated by reference to Current Report on Form 8-K filed by Xenith Bankshares, Inc. on September 27, 2011 (File No. 000-53380))
31.1    Certification of CEO pursuant to Rule 13a-14(a)
31.2    Certification of CFO pursuant to Rule 13a-14(a)
32.1    CEO Certification pursuant to 18 U.S.C. § 1350
32.2    CFO Certification pursuant to 18 U.S.C. § 1350

 

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SIGNATURES

Pursuant to the requirements 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.

 

  XENITH BANKSHARES, INC.
Date: November 14, 2011  

/S/    T. GAYLON LAYFIELD, III        

 

T. Gaylon Layfield, III

President and Chief Executive Officer

(Principal Executive Officer)

Date: November 14, 2011  

/S/    THOMAS W. OSGOOD        

  Thomas W. Osgood
  Executive Vice President, Chief Financial Officer,
  Chief Administrative Officer and Treasurer
  (Principal Financial Officer)

 

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