BAY BANKS OF VIRGINIA INC - FORM 10-Q

BAY BANKS OF VIRGINIA INC - FORM 10-Q - August 11, 2014

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EXCEL - IDEA: XBRL DOCUMENT - BAY BANKS OF VIRGINIA INC	Financial_Report.xls
EX-31.2 - EX-31.2 - BAY BANKS OF VIRGINIA INC	d732696dex312.htm
EX-32.1 - EX-32.1 - BAY BANKS OF VIRGINIA INC	d732696dex321.htm
EX-31.1 - EX-31.1 - BAY BANKS OF VIRGINIA INC	d732696dex311.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2014

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

COMMISSION FILE NUMBER: 0-22955

BAY BANKS OF VIRGINIA, INC.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

VIRGINIA

54-1838100

(STATE OR OTHER JURISDICTION OF

INCORPORATION OR ORGANIZATION)

(I.R.S. EMPLOYER

IDENTIFICATION NO.)

100 SOUTH MAIN STREET, KILMARNOCK, VA 22482

(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)

(804) 435-1171

(REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x yes ¨ 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). x yes ¨ no

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 definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ yes x no

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

4,818,733 shares of common stock on August 7, 2014

FORM 10-Q

For the interim period ending June 30, 2014.

INDEX


PART I - FINANCIAL INFORMATION

ITEM 1.	FINANCIAL STATEMENTS

CONSOLIDATED BALANCE SHEETS JUNE 30, 2014 (UNAUDITED) AND DECEMBER 31, 2013		3

CONSOLIDATED STATEMENTS OF INCOME FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2014 AND 2013 (UNAUDITED)		4

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2014 AND 2013 (UNAUDITED)		5

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY FOR THE SIX MONTHS ENDED JUNE 30, 2014 (UNAUDITED)		5

CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30, 2014 AND 2013 (UNAUDITED)		6

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)		7

ITEM 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	24

ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	30

ITEM 4.	CONTROLS AND PROCEDURES	30

PART II - OTHER INFORMATION

ITEM 1.	LEGAL PROCEEDINGS	30

ITEM 1A.	RISK FACTORS	30

ITEM 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	30

ITEM 3.	DEFAULTS UPON SENIOR SECURITIES	30

ITEM 4.	MINE SAFETY DISCLOSURES	30

ITEM 5.	OTHER INFORMATION	30

ITEM 6.	EXHIBITS	31

PART I – FINANCIAL INFORMATION

ITEM 1.

FINANCIAL STATEMENTS

BAY BANKS OF VIRGINIA, INC.

CONSOLIDATED BALANCE SHEETS


	June 30, 2014			December 31, 2013 (1)
(Dollars in thousands)	(unaudited)
ASSETS
Cash and due from banks	$	6,793		$	6,789
Interest-bearing deposits held in other banks		10,819			8,900
Federal funds sold		204			120
Securities available for sale, at fair value		36,826			38,522
Restricted securities at cost		1,980			1,638
Loans receivable, net of allowance for loan losses of $2,973 and $2,925, respectively		256,345			247,912
Loans held for sale		390			196
Premises and equipment, net		10,663			10,620
Accrued interest receivable		1,112			1,124
Other real estate owned, net		2,899			3,897
Bank owned life insurance		7,221			5,129
Goodwill		2,808			2,808
Mortgage servicing rights		582			579
Other assets		2,514			2,901

*Total assets*	$	341,156		$	331,135


LIABILITIES
Noninterest-bearing deposits	$	58,813		$	57,805
Savings and interest-bearing demand deposits		113,403			114,056
Time deposits		94,870			96,486

*Total deposits*		267,086			268,347

Securities sold under repurchase agreements		8,990			9,118
Federal Home Loan Bank advances		25,000			15,000
Other liabilities		1,648			1,534

*Total liabilities*		302,724			293,999


SHAREHOLDERS’ EQUITY
Common stock ($5 par value; authorized - 10,000,000 shares; outstanding - 4,818,733 and 4,817,856 shares, respectively)		24,094			24,089
Additional paid-in capital		2,772			2,757
Retained earnings		12,183			11,463
Accumulated other comprehensive loss, net		(617	)		(1,173	)

*Total shareholders’ equity*		38,432			37,136


*Total liabilities and shareholders’ equity*	$	341,156		$	331,135

(1)	Derived from the audited consolidated financial statements.

See Notes to Consolidated Financial Statements.

BAY BANKS OF VIRGINIA, INC.

CONSOLIDATED STATEMENTS OF INCOME

(unaudited)


	For the three months ended						For the six months ended
(Dollars in thousands except per share amounts)	June 30, 2014			June 30, 2013			June 30, 2014			June 30, 2013
INTEREST INCOME
Loans, including fees	$	3,279		$	3,135		$	6,440		$	6,289
Securities:
Taxable		85			118			179			241
Tax-exempt		96			69			194			125
Interest-bearing deposit accounts		4			17			8			36

Total interest income		3,464			3,339			6,821			6,691


INTEREST EXPENSE
Deposits		449			601			907			1,231
Federal funds purchased		1			—			1			—
Securities sold under repurchase agreements		2			6			4			10
FHLB advances		85			106			185			245

Total interest expense		537			713			1,097			1,486


Net interest income		2,927			2,626			5,724			5,205

Provision for loan losses		97			179			262			262


Net interest income after provision for loan losses		2,830			2,447			5,462			4,943


NON-INTEREST INCOME
Income from fiduciary activities		175			162			387			327
Service charges and fees on deposit accounts		244			266			487			541
VISA-related fees		61			226			150			406
Other service charges and fees		267			242			507			475
Secondary market lending fees		68			168			179			301
Increase in cash surrender value of life insurance		44			35			91			35
Net (losses) gains on sale of securities available for sale		(16	)		268			(17	)		271
Loss on securities with other-than-temporary impairment		—			(168	)		—			(168	)
Portion of loss recognized in other comprehensive income		—			48			—			48

Net impairment recognized in income		—			(120	)		—			(120	)
Losses on real estate owned		(249	)		(240	)		(219	)		(254	)
Net gains on the sale of fixed assets		—			—			138			—
Other income		30			15			34			26

Total non-interest income		624			1,022			1,737			2,008


NON-INTEREST EXPENSES
Salaries and employee benefits		1,597			1,607			3,184			3,338
Occupancy expense		354			319			712			661
Software maintenance		137			129			275			257
Bank franchise tax		47			44			94			88
VISA expense		38			191			108			345
Telephone expense		52			53			108			102
FDIC assessments		72			101			138			205
Foreclosure property expense		28			38			59			61
Consulting expense		70			21			169			44
Other expense		772			675			1,428			1,346

Total non-interest expenses		3,167			3,178			6,275			6,447


Net income before income taxes		287			291			924			504
Income tax expense		27			59			204			132


Net income	$	260		$	232		$	720		$	372


*Basic Earnings Per Share*
Average basic shares outstanding		4,818,733			4,817,856			4,818,311			4,815,845
Earnings per share, basic	$	0.05		$	0.05		$	0.15		$	0.08

*Diluted Earnings Per Share*
Average diluted shares outstanding		4,836,783			4,820,014			4,832,416			4,818,258
Earnings per share, diluted	$	0.05		$	0.05		$	0.15		$	0.08

See Notes to Consolidated Financial Statements.

BAY BANKS OF VIRGINIA, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(unaudited)


	For the three months ended						For the six months ended
(Dollars in thousands)	June 30, 2014			June 30, 2013			June 30, 2014			June 30, 2013

Net income	$	260		$	232		$	720		$	372
Other comprehensive income (loss):
Unrealized gains (losses) on securities:
Unrealized holding gains (losses) arising during the period		335			(1,243	)		825			(1,316	)
Deferred tax (expense) benefit		(112	)		423			(280	)		448
Reclassification of net securities losses (gains) and impairments recognized in net income		16			(148	)		17			(151	)
Deferred tax (expense) benefit		(6	)		50			(6	)		51

Unrealized gains (losses) adjustment, net of tax		233			(918	)		556			(968	)

Defined benefit pension plan:
Net periodic pension (benefit) cost		(5	)		22			(11	)		45
Net pension gain (loss)		5			(22	)		11			(45	)

Defined benefit pension plan adjustment, net of tax		—			—			—			—

Post retirement benefit plan:
Net periodic cost		12			1			23			2
Net loss		(12	)		(1	)		(23	)		(2	)

Post retirement benefit plan adjustment, net of tax		—			—			—			—

Total other comprehensive income (loss)		233			(918	)		556			(968	)

Comprehensive income (loss)	$	493		$	(686	)	$	1,276		$	(596	)

See Notes to Consolidated Financial Statements.

BAY BANKS OF VIRGINIA, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(unaudited)


(Dollars in thousands, except share data or amounts)	Shares of Common Stock		Common Stock		Additional Paid-in Capital		Retained Earnings		Accumulated Other Comprehensive Loss			Total Shareholders’ Equity
Six Months ended June 30, 2014
Balance at beginning of period		4,817,856	$	24,089	$	2,757	$	11,463	$	(1,173	)	$	37,136
Net income		—		—		—		720		—			720
Other comprehensive income		—		—		—		—		556			556
Stock-based compensation expense		877		5		15		—		—			20


Balance at end of period		4,818,733	$	24,094	$	2,772	$	12,183	$	(617	)	$	38,432

See Notes to Consolidated Financial Statements.

BAY BANKS OF VIRGINIA, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)


	For the Six Months Ended June 30,
(Dollars in thousands)	2014			2013
*Cash Flows From Operating Activities*
Net income	$	720		$	372
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		377			380
Net amortization and accretion of securities		200			197
Provision for loan losses		262			262
Stock compensation expense		20			126
Deferred income tax benefit		—			(7	)
Loss (gain) on sale of securities available-for-sale		17			(271	)
Other-than-temporary impairment on securities available-for-sale		—			120
Increase in other real estate owned valuation allowance		127			16
Loss on sale of other real estate owned		92			238
Gain on disposal of former branch		(138	)		—
Change in fair value of mortgage servicing rights		(3	)		—
Loan originations for sale to FNMA		(4,361	)		(14,597	)
Loan sales to FNMA		4,263			14,545
Gain on loans sold to FNMA		(96	)		(240	)
Increase in cash surrender value of bank owned life insurance		(91	)		—
Decrease (increase) in accrued income and other assets		185			(398	)
(Decrease) increase in other liabilities		(176	)		552

Net cash provided by operating activities	$	1,398		$	1,295


*Cash Flows From Investing Activities*
Proceeds from maturities and principal paydowns of available-for-sale securities	$	1,741		$	1,971
Proceeds from sales and calls of available-for-sale securities		3,331			8,260
Purchase of bank owned life insurance		(2,001	)		(5,000	)
Purchases of available-for-sale securities		(2,751	)		(15,094	)
Purchases of restricted securities		(342	)		(39	)
Increase in federal funds sold		(84	)		(256	)
Loan (originations) and principal collections, net		(8,287	)		2,981
Proceeds from sale of other real estate		371			887
Purchases of premises and equipment		(375	)		(258	)
Proceeds from the sale of premises and equipment		311			—

Net cash used in investing activities	$	(8,086	)	$	(6,548	)


*Cash Flows From Financing Activities*
Increase in demand, savings, and other interest-bearing deposits	$	355		$	688
Net decrease in time deposits		(1,616	)		(4,688	)
Net (decrease) increase in securities sold under repurchase agreements		(128	)		4,896
Increase in Federal Home Loan Bank advances		10,000			—


Net cash provided by financing activities	$	8,611		$	896


Net increase (decrease) in cash and due from banks		1,923			(4,357	)

Cash and due from banks at beginning of period		15,689			39,924

Cash and due from banks at end of period	$	17,612		$	35,567


*Supplemental Schedule of Cash Flow Information*
Cash paid for:
Interest	$	1,109		$	1,466

Income taxes		341			211

Non-cash investing and financing:
Unrealized gain (loss) on investment securities		825			(1,467	)

Change in fair value of pension and post-retirement obligation		—			—

Loans transferred to other real estate owned		197			1,326

Loans originated to facilitate sale of OREO		605			204

Changes in deferred taxes resulting from other comprehensive income transactions		286			498

See Notes to Consolidated Financial Statements.

Notes to Consolidated Financial Statements (Unaudited)

Note 1:

General

Bay Banks of Virginia, Inc. (the “Company”) owns 100% of the Bank of Lancaster (the “Bank”), 100% of Bay Trust Company, Inc. (the “Trust Company”) and 100% of Steptoes Holdings, LLC (“Steptoes Holdings”). The consolidated financial statements include the accounts of the Bank, the Trust Company, Steptoes Holdings and Bay Banks of Virginia, Inc.

The accounting and reporting policies of the Company conform to accounting principles generally accepted in the United States of America (“GAAP”) and to the general practices within the banking industry. In management’s opinion, all adjustments, consisting only of normal recurring adjustments necessary for a fair presentation of the consolidated financial statements, have been included. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year or for any other interim periods. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes to the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

Certain amounts presented in the consolidated financial statements of prior periods have been reclassified to conform to current year presentations. The reclassifications had no effect on net income, net income per share or shareholders’ equity as previously reported.

Note 2:

Significant Accounting Policies

Loans

The Company grants mortgage loans on real estate; commercial and industrial loans; and consumer and other loans to customers. A substantial portion of the loan portfolio is represented by mortgage loans on real estate. The ability of the Company’s debtors to honor their contracts is dependent upon the real estate and general economic conditions in the Company’s market areas.

Loans are reported at their recorded investment, which is the outstanding principal balance net of any unearned income, such as deferred fees and costs, and charge-offs. Interest on loans is recognized over the term of the loan and is calculated using the interest method on principal amounts outstanding. Loan origination fees and certain direct origination costs are deferred and recognized as an adjustment of the related loan yield over the contractual term of the loan, adjusted for early pay-offs, where applicable.

The accrual of interest is generally discontinued at the time a loan is 90 days or more past due, or earlier, if collection is uncertain based on an evaluation of the net realizable value of the collateral and the financial strength of the borrower. Payments received for loans no longer accruing interest are applied to the unpaid principal balance. Loans greater than 90 days past due may remain on accrual status if the credit is well-secured and in process of collection. Credit card loans and other personal loans are typically charged off no later than 180 days past due. Past due status is based on the contractual terms of the loan. In all cases, loans are charged off at an earlier date if collection of principal or interest is considered doubtful. Nonaccrual and past due policies are materially the same for all types of loans.

All interest accrued but not collected for loans that are placed on non-accrual or charged off is reversed against interest income. Any interest received on these loans is accounted for on the cash basis or cost recovery method until qualifying for return to accrual. Generally, a loan is returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured, or it becomes well secured and in the process of collection.

Allowance for loan losses (“ALL”)

The ALL reflects management’s judgment of probable loan losses inherent in the portfolio at the balance sheet date. Management uses a disciplined process and methodology to establish the ALL each quarter. To determine the total ALL, the Company estimates the reserves needed for each segment of the portfolio, including loans analyzed individually and homogenous pools of loans analyzed on a segmented basis. Considerations include historical experience, the nature and volume of the loan portfolio, adverse situations that may affect a borrower’s ability to repay, estimated value of any underlying collateral, prevailing local and national economic conditions, and internal policies and procedures including credit risk management and underwriting. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as additional information becomes available.

During the third quarter of 2012, management enhanced the ALL calculation methodology by changing the historical loss factor period from six quarters to the length of a business cycle. This increased the historical loss period to 16 quarters, and assumed the business cycle to have begun in the fourth quarter of 2008. As the length of that business cycle extended, so did the length of the historical loss factor period. During the third quarter of 2013, management determined that the business cycle had ended given noticeable national economic improvement and local real estate market stabilization and ceased this approach. The then current 19 quarters of historical losses will be used henceforth. This change in methodology produced an immaterial change in the ALL calculation.

Management employs a risk rating system to evaluate and consistently categorize loan portfolio credit risk. Loans assigned risk rating grades include all commercial loans not secured by real estate, commercial mortgages, residential mortgages greater than $1 million, smaller residential mortgages which are impaired, loans to real estate developers and contractors, consumer loans greater than $250 thousand with chronic delinquency, and troubled debt restructures. The grading analysis estimates the capability of the borrower to repay the contractual obligations of the loan agreements as scheduled. Risk grades are evaluated as new information becomes available for each borrowing relationship or at least quarterly. All other loans not specifically assigned a risk rating grade are monitored as a discrete pool of loans generally based on delinquency status. Risk rating categories are as follows:

Pass – Borrower is strong or sound and collateral securing the loan, if any, is adequate.

Watch – Borrower exhibits some signs of financial stress but is generally believed to be a satisfactory customer and collateral, if any, may be in excess of 90% of the loan balance.

Special Mention – Adverse trends in the borrower’s financial position are evident and warrant management’s close attention and any collateral may not be fully adequate to secure loan balance.

Substandard – A loan in this category has a well-defined weakness in the primary repayment source that jeopardizes the timely collection of the debt. There is a distinct possibility that a loss may result if the weakness is not corrected.

Doubtful – Default has already occurred and it is likely that foreclosure or repossession procedures have begun or will begin in the near future. Weaknesses make collection or liquidation in full, based on currently existing information, highly questionable and improbable.

Loss – Uncollectible and of such little value that continuance as a bankable asset is not warranted.

The ALL consists of specific, general, and unallocated components. The specific component is determined by identifying impaired loans (as described below) then evaluating each one to calculate the amount of impairment. Impaired loans measured for impairment generally include: (1) non-accruing Special mention, Substandard and Doubtful loans in excess of $250,000; (2) Substandard and Doubtful loans in excess of $500,000; (3) Special Mention loans in excess of $500,000 if any of the loans in the relationship are more than 30 days past due or if the borrower has filed for bankruptcy; and (4) all troubled debt restructurings (“TDRs”). A specific allowance arises when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component collectively evaluates smaller commercial loans, residential mortgages and consumer loans, grouped into segments and classes. Historical loss experience is calculated and applied to each segment or class, then adjusted for qualitative factors. Qualitative factors include changes in the local and national economic outlook, including unemployment, interest rates, inflation rates and real estate trends; the level and trend of past due and nonaccrual loans; strength of policies and procedures; and oversight of credit risk and quality of underwriting. These qualitative adjustments reflect management’s judgment of risks inherent in the segments. An unallocated component is maintained if needed to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. Changes in the allowance for loan losses and the related provision expense can materially affect net income.

The specific component of the ALL calculation accounts for the loan loss reserve necessary on impaired loans. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not considered impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Accrual of interest may or may not be discontinued for any given impaired loan. Impairment is measured by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent. Because large groups of smaller balance homogeneous loans are collectively evaluated for impairment, the Company does not generally separately identify smaller balance individual consumer and residential loans for impairment disclosures, unless such loans are the subject of a troubled debt restructuring agreement.

The general component of the ALL calculation collectively evaluates groups of loans in segments or classes, as noted above. The segments are: (1) Mortgage loans on real estate; (2) Commercial and industrial loans; and (3) Consumer and other loans. The segment for Mortgage loans on real estate is disaggregated into the following classes: (1) Construction, land and land development; (2) Farmland; (3) Residential first mortgages; (4) Residential revolving and junior mortgages; (5) Commercial mortgages (non-owner-occupied); and (6) Commercial mortgages (owner-occupied). Every loan is assigned to a segment or a class. Loans in segment 1 are secured by real estate. Loans in segments 2 and 3 are secured by other types of collateral or are unsecured. A given segment or class may not reflect the purpose of a loan. For example, a business owner may provide his residence as collateral for a loan to his company, in which case the loan would be grouped in a residential mortgage class. Historical loss factors are calculated for the prior 19 quarters by segment and class, and then applied to the current balances in each segment and class. Finally, qualitative factors are applied to each segment and class.

Construction and development loans carry risks that the project will not be finished according to schedule or according to budget and the value of the collateral, at any point in time, may be less than the principal amount of the loan. These loans also bear the risk that the general contractor may face financial pressure unrelated to the project. Loans secured by land, farmland and residential mortgages carry the risk of continued credit-worthiness of the borrower and changes in value of the underlying real estate collateral. Commercial mortgages and commercial and industrial loans carry risks associated with the profitable operation of a business and its related cash flows. Additionally, commercial and industrial loans carry risks associated with the value of collateral other than real estate which may depreciate over time. Consumer loans carry risks associated with the continuing credit-worthiness of the borrower and are more likely than real estate loans to be adversely affected by divorce, unemployment, personal illness or bankruptcy of an individual. Consumer loans secured by automobiles carry risks associated with rapidly depreciating collateral. Consumer loans include credit cards.

The summation of the specific, general and unallocated components results in the total estimated ALL. Management may also include an unallocated component to cover uncertainties in the level of probable losses. This estimate is inherently subjective and actual losses could be greater or less than the estimates.

Additions to the ALL are made by charges to earnings through the provision for loan losses. Charge-offs result from credit exposures deemed to be uncollectible and the ALL is reduced by these. Recoveries of previously charged off amounts are credited back to the ALL. Charge-off policies are materially the same for all types of loans.

Mortgage servicing rights (“MSRs”)

MSRs are included on the consolidated balance sheet and recorded at fair value on an ongoing basis. Changes in the fair value of the MSRs are recorded in the results of operations. A fair value analysis of MSRs is performed on a quarterly basis.

Note 3:

Amendments to the Accounting Standards Codification

In January 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-04, “Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-4): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure.” The amendment clarifies that an in-substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, either upon (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. The amendment also requires interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. Companies should apply this amendment for fiscal years and interim periods beginning after December 15, 2014. The Company adopted the new guidance during the first quarter of 2014. The adoption did not have a material impact on the Company’s consolidated financial statements. Disclosures are included in Note 6.

Note 4:

Securities

The aggregate amortized costs and fair values of the available-for-sale securities portfolio are as follows:


(Dollars in thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Fair Value
Available-for-sale securities
June 30, 2014
U.S. Government agencies	$	10,057	$	11	$	(61	)	$	10,007
State and municipal obligations		25,143		171		(489	)		24,825
Certificates of deposits		1,984		10		—			1,994

	$	37,184	$	192	$	(550	)	$	36,826


	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Fair Value
Available-for-sale securities
December 31, 2013
U.S. Government agencies	$	9,383	$	11	$	(86	)	$	9,308
State and municipal obligations		27,690		109		(1,242	)		26,557
Certificates of deposits		1,736		9		—			1,745
Auction rate security		912		—		—			912

	$	39,721	$	129	$	(1,328	)	$	38,522

Gross realized gains and gross realized losses on sales and calls of securities were as follows:


	For the three months ended June 30,					For the six months ended June 30,
(Dollars in thousands)	2014			2013		2014			2013

Gross realized gains	$	5		$	268	$	5		$	272
Gross realized losses		(21	)		—		(22	)		(1	)

Net realized gains (losses)	$	(16	)	$	268	$	(17	)	$	271


Aggregate proceeds	$	2,039		$	7,165	$	3,331		$	8,260

Average yields on securities were 2.36% and 2.27% for the three months ended June 30, 2014 and 2013, respectively, and 2.37% and 2.22% for the six months ended June 30, 2014 and 2013, respectively.

Securities with a market value of $13.3 million and $12.9 million were pledged as collateral for repurchase agreements and for other purposes as required by law as of June 30, 2014 and December 31, 2013, respectively.

Securities in an unrealized loss position at June 30, 2014 and December 31, 2013, by duration of the unrealized loss, are shown below. The unrealized loss positions were directly related to interest rate movements as there is minimal credit risk exposure in these investments. All agency securities, states and municipal securities and certificates of deposit are investment grade or better and their losses are considered temporary. Management does not intend to sell the securities and does not expect to be required to sell the securities. Furthermore, all amortized cost bases are expected to be recovered. Bonds with unrealized loss positions at June 30, 2014 included 15 federal agencies and 41 municipals. Bonds with unrealized loss positions at December 31, 2013 included 50 municipals and 15 federal agencies. The tables are shown below.


	Less than 12 months				12 months or more				Total
(Dollars in thousands) June 30, 2014	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
U.S. Government agencies	$	1,903	$	8	$	4,235	$	53	$	6,138	$	61
States and municipal obligations		1,592		15		11,112		474		12,704		489

Total temporarily impaired securities	$	3,495	$	23	$	15,347	$	527	$	18,842	$	550


	Less than 12 months				12 months or more				Total
December 31, 2013	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
U.S. Government agencies	$	4,808	$	66	$	1,462	$	20	$	6,270	$	86
States and municipal obligations		14,255		1,120		2,306		122		16,561		1,242

Total temporarily impaired securities	$	19,063	$	1,186	$	3,768	$	142	$	22,831	$	1,328

The Company’s investment in Federal Home Loan Bank of Atlanta (“FHLB”) stock totaled $1,421,400 and $1,079,800 at June 30, 2014 and December 31, 2013, respectively. The Company also had an investment in Federal Reserve Bank of Richmond (“FRB”) stock which totaled $382 thousand at June 30, 2014 and $382 thousand at December 31, 2013. The investments in both FHLB and FRB stock are required investments related to the Bank’s membership with the FHLB and FRB. These securities do not have a readily determinable fair value as their ownership is restricted, and they lack an active market for trading. Additionally, per charter, all transactions pursuant to repurchases of such stock must occur at par. Accordingly, these securities are carried at cost, and are periodically evaluated for impairment. The Company’s determination as to whether its investment in FHLB and FRB stock is impaired is based on management’s assessment of the ultimate recoverability of its par value rather than recognizing temporary declines in its value. The determination of whether the decline affects the ultimate recoverability of the investments is influenced by available information regarding various factors. These factors include, among others, the significance of the decline in net assets of the issuing banks as compared to the capital stock amount reported by these banks, and the length of time a decline has persisted; commitments by such banks to make payments required by law or regulation and the level of such payments in relation to the operating performance of the issuing bank; and the overall liquidity position of the issuing bank. Based on its most recent analysis of publicly available information regarding the financial condition of the issuing banks, management concluded that no impairment existed in the carrying value of this stock.

Note 5:

Loans

The following is a summary of the balances of loans:


(Dollars in thousands)	June 30, 2014			December 31, 2013
Mortgage loans on real estate:
Construction, Land and Land Development	$	33,805		$	31,839
Farmland		1,174			1,262
Commercial Mortgages (Non-Owner Occupied)		15,717			14,626
Commercial Mortgages (Owner Occupied)		32,234			34,177
Residential First Mortgages		121,641			114,458
Residential Revolving and Junior Mortgages		25,816			24,045
Commercial and Industrial loans		22,678			23,938
Consumer Loans		5,799			5,986

Total loans	$	258,864		$	250,331
Net unamortized deferred loans costs		454			506
Allowance for loan losses		(2,973	)		(2,925	)


Loans, net	$	256,345		$	247,912

The recorded investment in past due and non-accruing loans is shown in the following table. A loan past due by more than 90 days is generally placed on nonaccrual unless it is both well secured and in the process of collection.


(Dollars in thousands)	30-89 Days Past Due		90 Days or More Past Due and Still Accruing		Nonaccruals		Total Past Due and Nonaccruals		Current		Total Loans
Loans Past Due and Nonaccruals
June 30, 2014
Construction, Land and Land Development	$	64	$	—	$	847	$	911	$	32,894	$	33,805
Farmland		—		—		—		—		1,174		1,174
Commercial Mortgages (Non-Owner Occupied)		—		—		413		413		15,304		15,717
Commercial Mortgages (Owner Occupied)		—		—		—		—		32,234		32,234
Residential First Mortgages		954		—		236		1,190		120,451		121,641
Residential Revolving and Junior Mortgages		109		—		16		125		25,691		25,816
Commercial and Industrial		21		—		228		249		22,429		22,678
Consumer Loans		23		43		2		68		5,731		5,799

Total	$	1,171	$	43	$	1,742	$	2,956	$	255,908	$	258,864


Loans Past Due and Nonaccruals	30-89 Days Past Due		90 Days or More Past Due and Still Accruing		Nonaccruals		Total Past Due and Nonaccruals		Current		Total Loans
December 31, 2013	30-89 Days Past Due		90 Days or More Past Due and Still Accruing		Nonaccruals		Total Past Due and Nonaccruals		Current		Total Loans
Construction, Land and Land Development	$	65	$	—	$	854	$	919	$	30,920	$	31,839
Farmland		—		—		—		—		1,262		1,262
Commercial Mortgages (Non-Owner Occupied)		—		—		—		—		14,626		14,626
Commercial Mortgages (Owner Occupied)		—		—		427		427		33,750		34,177
Residential First Mortgages		668		—		1,083		1,751		112,707		114,458
Residential Revolving and Junior Mortgages		108		—		76		184		23,861		24,045
Commercial and Industrial		16		—		311		327		23,611		23,938
Consumer Loans		60		19		3		82		5,904		5,986

Total	$	917	$	19	$	2,754	$	3,690	$	246,641	$	250,331

Note 6:

Allowance for Loan Losses

Allowance for Loan Losses

A disaggregation of and an analysis of the change in the allowance for loan losses by segment is shown below.


(Dollars in thousands)	Mortgage Loans on Real Estate			Commercial and Industrial			Consumer Loans			Total
For the Three Months Ended
June 30, 2014
ALLOWANCE FOR LOAN LOSSES:
Beginning Balance	$	2,497		$	248		$	205		$	2,950
(Charge-offs)		(75	)		—			(12	)		(87	)
Recoveries		8			—			5			13
Provision		159			(37	)		(25	)		97

Ending Balance	$	2,589		$	211		$	173		$	2,973


Individually evaluated for impairment	$	724		$	—		$	32		$	756
Collectively evaluated for impairment		1,865			211			141			2,217


	Mortgage Loans on Real Estate			Commercial and Industrial			Consumer Loans			Total
For the Three Months Ended
June 30, 2013
ALLOWANCE FOR LOAN LOSSES:
Beginning Balance	$	2,497		$	306		$	231		$	3,034
(Charge-offs)		(197	)		(17	)		(27	)		(241	)
Recoveries		9			—			2			11
Provision		153			(39	)		65			179

Ending Balance	$	2,462		$	250		$	271		$	2,983


Individually evaluated for impairment	$	760		$	—		$	72		$	832
Collectively evaluated for impairment		1,702			250			199			2,151


(Dollars in thousands)	Mortgage Loans on Real Estate			Commercial and Industrial			Consumer Loans			Total
For the Six Months Ended
June 30, 2014
ALLOWANCE FOR LOAN LOSSES:
Beginning Balance	$	2,465		$	256		$	204		$	2,925
(Charge-offs)		(214	)		—			(21	)		(235	)
Recoveries		14			—			7			21
Provision		324			(45	)		(17	)		262

Ending Balance	$	2,589		$	211		$	173		$	2,973


	Mortgage Loans on Real Estate			Commercial and Industrial			Consumer Loans			Total
For the Six Months Ended
June 30, 2013
ALLOWANCE FOR LOAN LOSSES:
Beginning Balance	$	2,572		$	262		$	260		$	3,094
(Charge-offs)		(365	)		(17	)		(55	)		(437	)
Recoveries		60			—			4			64
Provision		195			5			62			262

Ending Balance	$	2,462		$	250		$	271		$	2,983

Loan receivables evaluated for impairment individually and collectively by segment as of June 30, 2014 and December 31, 2013 are as follows:


(Dollars in thousands) As of June 30, 2014	Mortgage Loans on Real Estate		Commercial and Industrial		Consumer Loans		Total
Ending Balance:
Individually evaluated for impairment	$	6,451	$	—	$	38	$	6,489
Collectively evaluated for impairment		223,936		22,678		5,761		252,375

Total Gross Loans	$	230,387	$	22,678	$	5,799	$	258,864


As of December 31, 2013
Ending Balance:
Individually evaluated for impairment	$	6,306	$	311	$	39	$	6,656
Collectively evaluated for impairment		214,101		23,627		5,947		243,675

Total Gross Loans	$	220,407	$	23,938	$	5,986	$	250,331

Internal Risk Rating Grades

Internal risk rating grades are generally assigned to commercial loans not secured by real estate, commercial mortgages, residential mortgages greater than $1 million, smaller residential mortgages which are impaired, loans to real estate developers and contractors, consumer loans greater than $250,000 with chronic delinquency, and TDRs, as shown in the following table. The grading analysis estimates the capability of the borrower to repay the contractual obligations of the loan agreements as scheduled. Risk grades (refer to Note 2) are evaluated as new information becomes available for each borrowing relationship or at least quarterly.


(Dollars in thousands) As of June 30, 2014 INTERNAL RISK RATING GRADES	Construction, Land and Land Development		Farmland		Commercial Mortgages (Non-Owner Occupied)		Commercial Mortgages (Owner Occupied)		Commercial and Industrial		Total
Grade:
Pass	$	27,624	$	1,174	$	10,509	$	22,580	$	19,217	$	81,104
Watch		3,465		—		4,869		4,534		2,433		15,301
Special mention		1,410		—		—		3,379		713		5,502
Substandard		1,306		—		339		1,741		315		3,701
Doubtful		—		—		—		—		—		—

Total	$	33,805	$	1,174	$	15,717	$	32,234	$	22,678	$	105,608


	Construction, Land and Land Development		Farmland		Commercial Mortgages (Non-Owner Occupied)		Commercial Mortgages (Owner Occupied)		Commercial and Industrial		Total

As of December 31, 2013 INTERNAL RISK RATING GRADES
As of December 31, 2013 INTERNAL RISK RATING GRADES
Grade:
Pass	$	25,616	$	1,262	$	9,083	$	23,984	$	20,309	$	80,254
Watch		3,493		—		5,204		7,429		2,743		18,869
Special mention		1,416		—		—		1,001		487		2,904
Substandard		1,314		—		339		1,763		399		3,815
Doubtful		—		—		—		—		—		—

Total	$	31,839	$	1,262	$	14,626	$	34,177	$	23,938	$	105,842

Loans not assigned internal risk rating grades are comprised of smaller residential mortgages and smaller consumer loans. Payment activity of these loans is reviewed monthly by management. However, some of these loans are graded when the borrower’s total exposure to the Bank exceeds the limits noted above. Loans are considered to be nonperforming when they are delinquent by 90 days or more or non-accruing and credit risk is primarily evaluated by delinquency status, as shown in the table below.


(Dollars in thousands) As of June 30, 2014 PAYMENT ACTIVITY STATUS	Residential First Mortgages (1)		Residential Revolvling and Junior Mortgages (2)		Consumer Loans (3)		Total
	Residential First Mortgages (1)		Residential Revolvling and Junior Mortgages (2)		Consumer Loans (3)		Total
Performing	$	121,405	$	25,800	$	5,754	$	152,959
Nonperforming		236		16		45		297

Total	$	121,641	$	25,816	$	5,799	$	153,256


	Residential First Mortgages (4)		Residential Revolvling and Junior Mortgages (5)		Consumer Loans (6)		Total
As of December 31, 2013 PAYMENT ACTIVITY STATUS
As of December 31, 2013 PAYMENT ACTIVITY STATUS
Performing	$	113,375	$	23,969	$	5,964	$	143,308
Nonperforming		1,083		76		22		1,181

Total	$	114,458	$	24,045	$	5,986	$	144,489

(1)	Residential First Mortgages which have been assigned a risk rating grade of Substandard totaled $2.3 million as of June 30, 2014.

(2)	Residential Revolving and Junior Mortgages which have been assigned a risk rating grade of Substandard totaled $155 thousand as of June 30, 2014.

(3)	Consumer Loans which have been assigned a risk rating grade of Substandard totaled $7 thousand as of June 30, 2014.

(4)	Residential First Mortgages which have been assigned a risk rating grade of Substandard totaled $2.6 million as of December 31, 2013.

(5)	Residential Revolving and Junior Mortgages which have been assigned a risk rating grade of Substandard totaled $216 thousand as of December 31, 2013.

(6)	Consumer Loans which have been assigned a risk rating grade of Substandard totaled $9 thousand as of December 31, 2013.

Impaired Loans

The following tables show the Company’s recorded investment and the customers’ unpaid principal balances for impaired loans, with the associated allowance amount, if applicable, as of June 30, 2014 and December 31, 2013, along with the average recorded investment and interest income recognized for the three and six months ended June 30, 2014 and 2013.


(Dollars in thousands)	As of June 30, 2014						As of December 31, 2013
IMPAIRED LOANS
With no related allowance:	Recorded Investment		Customers’ Unpaid Principal Balance		Related Allowance		Recorded Investment		Customers’ Unpaid Principal Balance		Related Allowance
With no related allowance:	Recorded Investment		Customers’ Unpaid Principal Balance		Related Allowance		Recorded Investment		Customers’ Unpaid Principal Balance		Related Allowance
Construction, land & land development	$	451	$	453	$	—	$	453	$	453	$	—
Residential First Mortgages		1,039		1,049		—		1,053		1,057		—
Residential Revolving and Junior Mortgages (1)		—		—		—		—		—		—
Commercial Mortgages (Non-owner occupied)		264		264		—		264		264		—
Commercial Mortgages (Owner occupied)		1,910		1,931		—		1,831		1,840		—
Commercial & industrial		—		—		—		311		311		—
Consumer (2)		—		—		—		—		—		—

		3,664		3,697		—		3,912		3,925		—


With an allowance recorded:
Construction, land & land development		428		447		211		151		156		51
Residential First Mortgages		2,185		2,185		436		2,198		2,198		409
Residential Revolving and Junior Mortgages (1)		174		174		77		251		879		173
Commercial Mortgages (Non-owner occupied)		—		—		—		—		—		—
Commercial Mortgages (Owner occupied)		—		—		—		105		105		1
Commercial & industrial		—		—		—		—		—		—
Consumer (2)		38		38		32		39		39		33

		2,825		2,844		756		2,744		3,377		667


Total Impaired Loans:
Construction, land & land development		879		900		211		604		609		51
Residential First Mortgages		3,224		3,234		436		3,251		3,255		409
Residential Revolving and Junior Mortgages (1)		174		174		77		251		879		173
Commercial Mortgages (Non-owner occupied)		264		264		—		264		264		—
Commercial Mortgages (Owner occupied)		1,910		1,931		—		1,936		1,945		1
Commercial & industrial		—		—		—		311		311		—
Consumer (2)		38		38		32		39		39		33

	$	6,489	$	6,541	$	756	$	6,656	$	7,302	$	667

(1)	Junior mortgages include equity lines.

(2)	Includes credit cards.


	For the Three Months Ended June 30, 2014				For the Three Months Ended June 30, 2013
(Dollars in thousands)	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
(Dollars in thousands)	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
With no related allowance:
Construction, land & land development	$	451	$	1	$	13	$	—
Residential First Mortgages		1,042		10		1,668		24
Residential Revolving and Junior Mortgages (1)		—		—		97		—
Commercial Mortgages (Non-owner occupied)		264		4		—		—
Commercial Mortgages (Owner occupied)		1,917		20		752		8
Consumer (2)		—		—		—		—

		3,674		35		2,530		32


With an allowance recorded:
Construction, land & land development		288		1		200		—
Residential First Mortgages		2,186		26		1,845		24
Residential Revolving and Junior Mortgages (1)		174		2		1,124		2
Commercial Mortgages (Non-owner occupied)		—		—		—		—
Commercial Mortgages (Owner occupied)		—		—		533		3
Consumer (2)		38		1		73		1

		2,686		30		3,775		30


Total
Construction, land & land development		739		2		213		—
Residential First Mortgages		3,228		36		3,513		48
Residential Revolving and Junior Mortgages (1)		174		2		1,221		2
Commercial Mortgages (Non-owner occupied)		264		4		—		—
Commercial Mortgages (Owner occupied)		1,917		20		1,285		11
Consumer (2)		38		1		73		1

	$	6,360	$	65	$	6,305	$	62

(1)	Junior mortgages include equity lines.

(2)	Includes credit cards.


	For the Six Months Ended June 30, 2014				For the Six Months Ended June 30, 2013
(Dollars in thousands)	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
With no related allowance:
Construction, land & land development	$	452	$	2	$	13	$	—
Residential First Mortgages		1,046		21		1,570		42
Residential Revolving and Junior Mortgages (1)		—		—		98		—
Commercial Mortgages (Non-owner occupied)		264		8		—		—
Commercial Mortgages (Owner occupied)		1,924		42		754		15
Consumer (2)		—		—		—		—

		3,686		73		2,435		57


With an allowance recorded:
Construction, land & land development		242		1		200		—
Residential First Mortgages		2,190		47		1,778		50
Residential Revolving and Junior Mortgages (1)		174		4		1,068		4
Commercial Mortgages (Non-owner occupied)		—		—		—		—
Commercial Mortgages (Owner occupied)		—		—		536		3
Consumer (2)		38		2		73		3

		2,644		54		3,655		60


Total
Construction, land & land development		694		3		213		—
Residential First Mortgages		3,236		68		3,348		92
Residential Revolving and Junior Mortgages (1)		174		4		1,166		4
Commercial Mortgages (Non-owner occupied)		264		8		—		—
Commercial Mortgages (Owner occupied)		1,924		42		1,290		18
Consumer (2)		38		2		73		3

	$	6,330	$	127	$	6,090	$	117

(1)	Junior mortgages include equity lines.

(2)	Includes credit cards.

Smaller non-accruing loans and non-accruing loans that are not graded because they are included in homogenous pools generally do not meet the criteria for impairment testing, and are therefore excluded from impaired loan disclosures. At June 30, 2014 and December 31, 2013, non-accruing loans excluded from impaired loan disclosure totaled $325 thousand and $724 thousand, respectively. If interest on these non-accruing loans had been accrued, such income would have approximated $6 thousand and $9 thousand during the three months ended June 30, 2014 and 2013, respectively, and $13 thousand and $20 thousand during the six months ended June 30, 2014 and 2013, respectively.

Loan Modifications

Loans modified as TDRs are considered impaired and are individually evaluated for the amount of impairment in the ALL. The following table presents, by segments of loans, information related to loans modified as TDRs during the three and six months ended June 30, 2014 and 2013.


	For the three months ended June 30, 2014						For the three months ended June 30, 2013
(Dollars in thousands) TROUBLED DEBT RESTRUCTURINGS	Number of Loans (1)		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Number of Loans		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Construction, land & land development		2	$	282		282		—	$	—	$	—

(1)	Modifications were an extension of the loan terms.


	For the six months ended June 30, 2014						For the six months ended June 30, 2013
TROUBLED DEBT RESTRUCTURINGS	Number of Loans (1)		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Number of Loans (2)		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment
Construction, land & land development		2	$	282	$	282		—	$	—	$	—
Residenital first mortages		—		—		—		2		315		315

(1)	Modifications were an extension of the loan terms.

(2)	Modifications were capitalization of the interest.

For the three months ended
June 30, 2014

For the three months ended
June 30, 2013

TROUBLED DEBT RESTRUCTURINGS

Number of
Loans

Recorded
Investment

Number of
Loans

Recorded
Investment

THAT SUBSEQUENTLY DEFAULTED

Residential revolving and junior mortgages

—

For the six months ended
June 30, 2014

For the six months ended
June 30, 2013

TROUBLED DEBT RESTRUCTURINGS

THAT SUBSEQUENTLY DEFAULTED

Number of
Loans

Recorded
Investment

Number of
Loans

Recorded
Investment

Residential revolving and junior mortgages

—

Foreclosures

The table below details the properties included in other real estate owned (“OREO”) as of June 30, 2014 and December 31, 2013. There were no collateralized consumer residential mortgage loans in the process of foreclosure as of June 30, 2014.


	As of June 30, 2014				As of December 31, 2013
(Dollars in thousands)	No. of Properties		Carrying Value		No. of Properties		Carrying Value
Residential		10	$	1,653		11	$	2,442
Land lots		13		601		14		684
Convenience store		2		234		2		239
Restaurant		1		107		1		107
Commerical properties		1		304		2		425

Total		27	$	2,899		30	$	3,897

Note 7:

Earnings per share

The following table shows the weighted average number of shares used in computing earnings per share and the effect on the weighted average number of shares of dilutive potential common stock.


	For the Three Months Ended								For the Six Months Ended
	June 30, 2014				June 30, 2013				June 30, 2014				June 30, 2013
	Average Shares		Per share Amount		Average Shares		Per share Amount		Average Shares		Per share Amount		Average Shares		Per share Amount
Basic earnings per share		4,818,733	$	0.05		4,817,856	$	0.05		4,818,311	$	0.15		4,815,845	$	0.08
Effect of dilutive securities:
Stock options		18,050				2,158				14,105				2,413

Diluted earnings per share		4,836,783	$	0.05		4,820,014	$	0.05		4,832,416	$	0.15		4,818,258	$	0.08

For the three months ended June 30, 2014 and 2013, options on 62,588 and 177,871 shares, respectively, were not included in computing diluted earnings per share because their effects were anti-dilutive. For the six months ended June 30, 2014 and 2013, options on 68,828 and 177,871 shares, respectively, were not included in computing diluted earnings per share because their effects were anti-dilutive.

Note 8:

Stock-Based Compensation

On June 28, 2013, the Company registered a new stock-based compensation plan, which superseded all other plans. There are 377,123 shares available for grant under this plan at June 30, 2014.

Stock-based compensation expense related to stock awards during the three month periods ended June 30, 2014 and 2013 was zero and $4 thousand, respectively, and during the six month periods ended June 30, 2014 and 2013 was $20 thousand and $126 thousand, respectively. Compensation expense for stock options is the estimated fair value of options on the date granted using the Black-Scholes Model amortized on a straight-line basis over the vesting period of the award. There was no unrecognized compensation expense related to stock options as of June 30, 2014.

Options for a total of 7,000 shares were granted and vested during the six months ended June 30, 2014. The fair value of options granted during the six months ended June 30, 2014 was $2.75. Options for a total of 89,500 shares were granted and vested during the six months ended June 30, 2013. The fair value of options granted during the six months ended June 30, 2013 was $1.03 and $1.08.

The variables used in these calculations of the fair value of the options are as follows:


	For the six months ended June 30,
	2014			2013
Risk free interest rate (5 year Treasury)		2.70	%		0.86	%
Expected dividend yield		0	%		3.6	%
Expected term (years)		5			5
Expected volatility		51.4	%		33.8	%

Stock option activity for the six months ended June 30, 2014 (unaudited) is summarized below:


	Shares			Weighted Average Exercise Price		Weighted Average Remaining Contractual Life (in years)		Aggregate Intrinsic Value (1)
Options outstanding, January 1, 2014		191,002		$	7.35		6.8
Granted		7,000			5.99
Forfeited		—			—
Exercised		—			—
Expired		(7,239	)		14.65

Options outstanding and exercisable, June 30, 2014		190,763		$	7.02		6.7	$	84,644

(1)

The aggregate intrinsic value of a stock option in the table above represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holders had all option holders exercised their options on June 30, 2014. This amount changes based on changes in the market value of the Company’s common stock.

In the first quarter of 2014, 877 shares of restricted stock were granted to an executive officer of the Bank. Such shares will vest over 12 months, with $5 thousand to be recorded as compensation expense over this period.

Note 9:

Employee Benefit Plans

The Company has a non-contributory, defined benefit pension plan for full-time employees who were over 21 years of age and vested in the plan as of December 31, 2012, when the plan was frozen. Each participant’s account balance grows based on monthly interest credits. The Company funds pension costs in accordance with the funding provisions of the Employee Retirement Income Security Act.

The Company sponsors a postretirement benefit plan covering current and future retirees who acquire age 55 and 10 years of service or age 65 and 5 years of service. The post-retirement benefit plan provides coverage toward a retiree’s eligible medical and life insurance benefits expenses. The plan is unfunded and funded as benefits are due.

Components of Net Periodic (Benefit) Cost


(Dollars in thousands)	Pension Benefits						Post-Retirement Benefits
Six months ended June 30,	2014			2013			2014		2013
Service cost	$	—		$	—		$	8	$	11
Interest cost		71			71			15		15
Expected return on plan assets		(101	)		(107	)		—		—
Amortization of unrecognized net loss		19			45			—		2
Amortization of transition obligation		—			—			—		2

Net periodic (benefit) cost	$	(11	)	$	9		$	23	$	30

The Company expects to make no contribution to its pension plan and $5 thousand to its post-retirement benefit plan in the last half of 2014. The Company has contributed $6 thousand toward the post-retirement plan during the first six months of 2014.

Note 10:

Long Term Debt

On June 30, 2014, the Bank had FHLB debt consisting of four advances (see table below). The $10 million advance was restructured during the second quarter of 2013 to extend the maturity and reduce the interest rate from 4.23% to a three month LIBOR-based floating rate advance. A $5 million advance with an interest rate of 2.69%, matured in May 2014 and was replaced with a new $5 million three month LIBOR-based floating rate advance. Two additional $5 million advances were drawn in June. Both were three month LIBOR-based floating rate advances.

The four advances are shown in the following table.


Description	Balance		Originated		Current Interest Rate			Maturity Date

Adjustable Rate Hybrid	$	10,000,000		4/12/2013		2.60705	%		4/13/2020
Adjustable Rate Credit		5,000,000		5/20/2014		0.22810	%		5/20/2015
Fixed Rate Credit		5,000,000		6/18/2014		0.26000	%		6/18/2015
Fixed Rate Credit		5,000,000		6/26/2014		0.26000	%		6/26/2015

	$	25,000,000

Advances on the FHLB lines are secured by a blanket lien on qualified 1 to 4 family residential real estate loans. Immediate available credit, as of June 30, 2014, was $38.5 million against a total line of credit is $65.5 million.

Note 11:

Fair Value Measurements

The Company uses fair value to record certain assets and liabilities and to determine fair value disclosures. Authoritative accounting guidance clarifies that fair value of certain assets and liabilities is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants.

Authoritative accounting guidance specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. The three levels of the fair value hierarchy based on these two types of inputs are as follows:


Level 1	–	Valuation is based on quoted prices in active markets for identical assets and liabilities.

Level 2	–	Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model-based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market.

Level 3	–	Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market.

The following describes the valuation techniques used by the Company to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the financial statements:

Securities available-for-sale: Securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2). In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy.

Defined benefit plan assets: Defined benefit plan assets are recorded at fair value on an annual basis at year end.

Mortgage servicing rights: MSRs are recorded at fair value on a recurring basis, with changes in fair value recorded in the result of operations. A valuation model, which utilizes a discounted cash flow analysis using interest rates and prepayment assumptions currently quoted for comparable instruments and a discount rate, is used to determine fair value. MSRs are classified as Level 3.

The following table presents the balances of financial assets and liabilities measured at fair value on a recurring basis as of June 30, 2014 and December 31, 2013:


(Dollars in thousands)			Fair Value Measurements at June 30, 2014 Using
Description	Balance		Level 1		Level 2		Level 3
Securities available-for-sale:
U. S. Government agencies	$	10,007	$	—	$	10,007	$	—
State and municipal obligations		24,825		—		24,825		—
Certificates of deposit		1,994		—		1,994		—

Total securities available-for-sale:	$	36,826	$	—	$	36,826	$	—


Mortgage servicing rights	$	582	$	—	$	—	$	582


Defined benefit plan assets:
Cash and cash equivalents	$	3	$	3	$	—	$	—
Mutual funds - fixed income		1,070		1,070		—		—
Mutual funds - equity		1,747		1,747		—		—

Total defined benefit plan assets	$	2,820	$	2,820	$	—	$	—


			Fair Value Measurements at December 31, 2013 Using
Description	Balance		Level 1		Level 2		Level 3
Securities available-for-sale:
U. S. Government agencies	$	9,308	$	—	$	9,308	$	—
State and municipal obligations		26,557		—		26,557		—
Certificates of deposit		1,745		—		1,745		—
Auction rate securities		912		—		—		912

Total securities available-for-sale:	$	38,522	$	—	$	37,610	$	912


Mortgage servicing rights	$	579	$	—	$	—	$	579


Defined benefit plan assets:
Cash and cash equivalents	$	3	$	3	$	—	$	—
Mutual funds - fixed income		1,070		1,070		—		—
Mutual funds - equity		1,747		1,747		—		—

Total defined benefit plan assets	$	2,820	$	2,820	$	—	$	—

The reconciliation of items using Level 3 inputs is as follows:


(Dollars in thousands)	Auction Rate Security			MSRs
Balance, January 1, 2014	$	912		$	579
Impairments		—			—
Fair value adjustments		—			3
Sales		(912	)		—

Balance, June 30, 2014	$	—		$	582

Certain assets are measured at fair value on a nonrecurring basis in accordance with GAAP. Adjustments to the fair value of these assets usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets.

The following describes the valuation techniques used by the Company to measure certain assets recorded at fair value on a nonrecurring basis in the financial statements:

Impaired Loans: Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss

associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. Any given loan may have multiple types of collateral. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing a market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Company using observable market data (Level 2). However, if the collateral value is significantly adjusted due to differences in the comparable properties, or is discounted by the Company because of marketability, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Impaired loans allocated to the ALL are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income.

Other Real Estate Owned: OREO is measured at fair value less estimated costs to sell, based on an appraisal conducted by an independent, licensed appraiser outside of the Company. If the collateral value is significantly adjusted due to differences in the comparable properties, or is discounted by the Company because of marketability, then the fair value is considered Level 3. OREO is measured at fair value on a nonrecurring basis. The initial fair value of OREO is based on an appraisal done at the time of foreclosure. Subsequent fair value adjustments are recorded in the period incurred and included in other noninterest income on the Consolidated Statements of Income.

The following table summarizes the Company’s assets that were measured at fair value on a nonrecurring basis at the end of the respective period.


			Fair Value Measurements at June 30, 2014 Using
(Dollars in thousands)	Balance as of June 30, 2014		Level 1		Level 2		Level 3
Description	Balance as of June 30, 2014		Level 1		Level 2		Level 3
Impaired Loans, net	$	2,069	$	—	$	—	$	2,069
Other real estate owned, net		2,899		—		—		2,899

			Fair Value Measurements at December 31, 2013 Using
	Balance as of December 31, 2013		Level 1		Level 2		Level 3
Description	Balance as of December 31, 2013		Level 1		Level 2		Level 3
Impaired Loans, net	$	2,077	$	—	$	—	$	2,077
Other real estate owned, net		3,897		—		—		3,897

The following table displays quantitative information about Level 3 Fair Value Measurements as of June, 2014:

(Dollars in thousands)

Balance as of
June 30, 2014

Valuation Technique

Unobservable Input

Range (Weighted
Average)

Impaired Loans, net

2,069

Discounted appraised value

Selling Cost

10% - 20%(10%)

Lack of Marketability

25% - 100%(56%)

Other real estate owned, net

2,899

Discounted appraised value

Selling Cost

3% - 13%(5%)

Lack of Marketability

7% - 20%(11%)

The following table displays quantitative information about Level 3 Fair Value Measurements as of December, 2013:

(Dollars in thousands)

Balance as of
December 31, 2013

Valuation Technique

Unobservable Input

Range (Weighted
Average)

Impaired Loans, net

2,077

Discounted appraised value

Selling Cost

10% - 20%(10%)

Lack of Marketability

25% - 100%(54%)

Other real estate owned, net

3,897

Discounted appraised value

Selling Cost

3% - 13%(6%)

Lack of Marketability

7% - 30%(15%)

The estimated fair values of financial instruments are shown in the following table. The carrying amounts in the table are included in the balance sheet under the applicable captions.


			Fair Value Measurements at June 30, 2014 Using
(Dollars in thousands)	Balance as of June 30,2014		Level 1		Level 2		Level 3
Description	Balance as of June 30,2014		Level 1		Level 2		Level 3
Financial Assets:
Cash and due from banks	$	6,793	$	6,793	$	—	$	—
Interest-bearing deposits		10,819		10,819		—		—
Federal funds sold		204		204		—		—
Securities available-for-sale		36,826		—		36,826		—
Restricted securities		1,980		—		—		1,980
Loans, net		256,345		—		—		262,561
Loans held for sale		390		—		—		390
Accrued interest receivable		1,112		—		1,112		—
Mortgage servicing rights		582		—		—		582

Financial Liabilities:
Non-interest-bearing liabilities	$	58,813	$	58,813	$	—	$	—
Savings and other interest-bearing deposits		113,403		—		113,403		—
Time deposits		94,870		—		—		96,065
Securities sold under repurchase agreements		8,990		—		8,990		—
FHLB advances		25,000		15,000		10,984		—
Accrued interest payable		134		—		134		—

			Fair Value Measurements at December 31, 2013 Using
	Balance as of December 31, 2013		Level 1		Level 2		Level 3
Description	Balance as of December 31, 2013		Level 1		Level 2		Level 3
Financial Assets:
Cash and due from banks	$	6,789	$	6,789	$	—	$	—
Interest-bearing deposits		8,900		8,900		—		—
Federal funds sold		120		120		—		—
Securities available-for-sale		38,522		—		37,610		912
Restricted securities		1,638		—		—		1,638
Loans, net		247,912		—		—		253,139
Loans held for sale		196		—		—		196
Accrued interest receivable		1,124		—		1,124		—
Mortgage servicing rights		579		—		—		579

Financial Liabilities:
Non-interest-bearing liabilities	$	57,805	$	57,805	$	—	$	—
Savings and other interest-bearing deposits		114,056		—		114,056		—
Time deposits		96,486		—		—		98,049
Securities sold under repurchase agreements		9,118		—		9,118		—
FHLB advances		15,000		—		15,923		—
Accrued interest payable		167		—		167		—

The carrying amounts of cash and due from banks, interest-bearing deposits, federal funds sold or purchased, accrued interest, loans held for sale and non-interest-bearing deposits, are payable on demand, or are of such short duration that carrying value approximates market value.

Securities available-for-sale are carried at the fair values measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Therefore carrying value equals market value. The carrying value of restricted securities approximates fair value based on the redemption provisions of the issuer.

MSRs are carried at fair value. A valuation model, which utilizes a discounted cash flow analysis using interest rates and prepayment assumptions currently quoted for comparable instruments and a discount rate, is used to determine fair value.

The fair value of performing loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar remaining maturities. This calculation ignores loan fees and certain factors affecting the interest rates charged on various loans such as the borrower’s creditworthiness and compensating balances and dissimilar types of real estate held as collateral. The fair value of impaired loans is measured as described within the Impaired Loans section of this note. The fair value of loans does not consider the lack of liquidity and uncertainty in the market that would affect the valuation.

Time deposits are presented at estimated fair value by discounting the future cash flows using interest rates offered for deposits of similar remaining maturities.

The fair value of the FHLB advances is estimated by discounting the future cash flows using the current interest rates offered for similar advances.

The fair value of commitments to extend credit is estimated using the fees currently charged to enter similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counter parties. 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 standby 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 counter parties at the reporting date. At June 30, 2014 and December 31, 2013, the fair value of loan commitments and standby letters of credit was immaterial and therefore, they are not included in the table above.

The Company assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, the fair value of the Company’s financial instruments will change when interest rate levels change and that change may be either favorable or unfavorable to the Company. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment. Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Company’s overall interest rate risk.

Note 12:

Changes in Accumulated Other Comprehensive Income (Loss)

The balances in accumulated other comprehensive income (loss) are shown in the following tables (dollars in thousands):


(Dollars in thousands)	Net Unrealized Gains (Losses) on Securities			Pension and Post-retirement Benefit Plans			Accumulated Other Comprehensive Income (Loss)
Balance April 1, 2014	$	(468	)	$	(382	)	$	(850	)
Change in net unrealized holding gains on securities, before reclassification, net of tax expense of $112		223			—			223
Reclassification for previously unrealized net losses recognized in income, net of tax benefit of $6		10			—			10

Balance June 30, 2014	$	(235	)	$	(382	)	$	(617	)


	Net Unrealized Gains (Losses) on Securities			Pension and Post-retirement Benefit Plans			Accumulated Other Comprehensive Income (Loss)
Balance April 1, 2013	$	229		$	(660	)	$	(431	)
Change in net unrealized holding losses on securities, before reclassification, net of tax benefit of $423		(820	)		—			(820	)
Reclassification for previously unrealized net gains recognized in income, net of tax benefit of $50		(98	)		—			(98	)

Balance June 30, 2013	$	(689	)	$	(660	)	$	(1,349	)


	Net Unrealized Gains (Losses) on Securities			Pension and Post-retirement Benefit Plans			Accumulated Other Comprehensive Income (Loss)
Balance January 1, 2014	$	(791	)	$	(382	)	$	(1,173	)
Change in net unrealized holding losses on securities, before reclassification, net of tax expense of $280		545			—			545
Reclassification for previously unrealized net losses recognized in income, net of tax benefit of $6		11			—			11

Balance June 30, 2014	$	(235	)	$	(382	)	$	(617	)


	Net Unrealized Gains (Losses) on Securities			Pension and Post-retirement Benefit Plans			Accumulated Other Comprehensive Income (Loss)
Balance January 1, 2013	$	279		$	(660	)	$	(381	)
Change in net unrealized holding losses on securities, before reclassification, net of tax benefit of $448		(868	)		—			(868	)
Reclassification for previously unrealized net gains recognized in income, net of tax of $51		(100	)		—			(100	)

Balance June 30, 2013	$	(689	)	$	(660	)	$	(1,349	)

Reclassification for previously unrealized (losses) gains and impairments on securities are reported in the Consolidated Statements of Income as follows. No unrealized gains (losses) on pension and post-employment related costs were reclassified to the Consolidated Statements of Income in the three and six months ended June 30, 2014 and 2013.


Accumulated Other Comprehensive Income (Loss) Reclassification for the Three Months Ended
Holding (Losses) Gains on Securities
(In thousands)	June 30, 2014			June 30, 2013
Net (losses) gains on sale of securities available-for-securities	$	(16	)	$	268
Loss on securities with other-than temporary impairment		—			(120	)
Tax benefit (expense)		6			(50	)

Impact on net income	$	(10	)	$	98


Accumulated Other Comprehensive Income (Loss) Reclassification for the Six Months Ended Holding Gains (Losses) on Securities
(In thousands)	June 30, 2014			June 30, 2013
Net (losses) gains on sale of securities available-for-securities	$	(17	)	$	271
Loss on securities with other-than-temporary impairment		—			(120	)
Tax benefit (expense)		6			(51	)

Impact on net income	$	(11	)	$	100

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion is intended to assist in understanding the results of operations and the financial condition of Bay Banks of Virginia, Inc. (the “Company”). This discussion should be read in conjunction with the above consolidated financial statements and the notes thereto.

STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This report contains statements concerning the Company’s expectations, plans, objectives, future financial performance and other statements that are not historical facts. These statements may constitute “forward-looking statements” as defined by federal securities laws. These statements may address issues that involve estimates and assumptions made by management, risks and uncertainties, and actual results could differ materially from historical results or those anticipated by such statements. Factors that could have a material adverse effect on the operations and future prospects of the Company include, but are not limited to, changes in interest rates, general economic conditions, the legislative/regulatory climate, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Board of Governors of the Federal Reserve System, the quality or composition of the loan or investment portfolios, demand for loan products, deposit flows, competition, expansion activities, demand for financial services in the Company’s market area and accounting principles, policies and guidelines. These risks and uncertainties should be considered in evaluating the forward-looking statements contained herein, and readers are cautioned not to place undue reliance on such statements, which speak only as of the date they are made.

EXECUTIVE SUMMARY

Results through June 30, 2014 are highlighted by growth in loans, plus continued improvements in margin, earnings and asset quality. The capital position remains solid. Core earnings and growth remain priorities. The Bank’s new loan production office in Richmond has been upgraded to a branch office and is generating loan growth and a substantial pipeline of loan production. Start-up expenses for this office have been absorbed by improvements in core earnings, allowing for increased year-over-year earnings of 93.5% through June 30^th. Total assets have grown by $10.0 million, or 3.0%, during the first six months of 2014. Management anticipates the announcement of a major new deposit program in the coming months, and continues to seek prudent expansion into new markets.

The in-house loan portfolio grew by $8.5 million, or 3.4%, in the first six months of 2014. It also grew by $25.2 million, or 10.7%, during the 12 months ended June 30, 2014. Loans originated and sold to Fannie Mae generated growth of $2.0 million in the portfolio of loans serviced for Fannie Mae since December 31, 2013. That portfolio now totals $60.9 million as of June 30, 2014 compared to $58.9 million as of December 31, 2013 and $53.2 million as of June 30, 2013.

The net interest margin increased to 3.92% for the second quarter of 2014 compared to 3.51% for the same period in 2013. As this historic low-rate climate continues, loan yields continue to decline, but increased loan balances have resulted in increased interest income. The refinance of our $10 million FHLB advance in April 2013, plus the maturity and replacement of a $5 million FHLB advance in May 2014, resulted in an average FHLB advance cost of 2.13% for the second quarter of 2014 compared to 2.83% for the second quarter of 2013. Two new $5 million advances acquired in June 2014, during this low-rate environment, will further reduce the average cost of FHLB advances and cost of funds going forward. Scheduled maturities of time deposits continue to reduce both costs of funds and interest expense. Maturities of time deposits are typically renewed at lower rates, leave the Bank or transfer into lower-cost checking or savings accounts.

These margin improvements were a major contributor to the 93.5% increase in earnings for the six months ended June 30, 2014 compared to the same period in 2013, and the 12.1% increase for the second quarter of 2014 compared to the second quarter of 2013. Net interest income improved by $519 thousand and $383 thousand for the year over year six-month and three-month comparisons, respectively, ended June 30, 2014 compared to June 30, 2013.

Asset quality improved, with nonperforming assets down to 1.37% of total assets as of June 30, 2014 from 2.01% as of December 31, 2013. OREO balances are down to $2.9 million as of June 30, 2014 compared to $3.9 million as of December 31, 2013. Non-accruing loan balances are down to $1.7 million as of June 30, 2014 as compared to $2.8 million at December 31, 2013.

Annualized net loan charge-offs against the ALL are down to 0.17% of total loans during the first six months of 2014 compared to 0.32% during the first six months of 2013.

During the first quarter of 2014, the Company sold a troubled investment for which an impairment loss was recognized in 2013. In addition, during the first quarter of 2014, the Company sold its former Heathsville, Virginia, branch office recognizing a gain of approximately $138 thousand.

Finally, the Company’s core capital levels and regulatory ratios remain well above what is considered “well capitalized” by the Company’s regulators. The Company took no Troubled Asset Relief Program (“TARP”) or Small Business Lending Fund investments (“SBLF”) from the U.S. Treasury.

For more information, visit the Company’s website at www.baybanks.com. Information contained on the Company’s website is not a part of this report.

EARNINGS SUMMATION

For the three months ended June 30, 2014 and 2013, net income was $260 thousand and $232 thousand, respectively, an increase of $28 thousand or 12.1% from 2013 to 2014. Diluted earnings per average share for both the three months ended June 30, 2014 and 2013 were $0.05. Return on average assets was 0.31% for the three months ended June 30, 2014 compared to 0.28% for the three months ended June 30, 2013. The annualized return on average equity was 2.72% and 2.55% for the three months ended June 30, 2014 and 2013, respectively.

For the six months ended June 30, 2014 and 2013, net income was $720 thousand and $372 thousand, respectively, an increase of $348 thousand or 93.5% from 2013 to 2014. Diluted earnings per average share for the six months ended June 30, 2014 and 2013 were $0.15 and $0.08, respectively. Annualized return on average assets was 0.44% at June 30, 2014 compared to 0.22% at June 30, 2013. The annualized return on average equity was 3.84% and 2.05% at June 30, 2014 and 2013, respectively.

RESULTS OF OPERATIONS

The principal source of earnings for the Company is net interest income. Net interest income is the amount by which interest income exceeds interest expense. The net interest margin is net interest income expressed as a percentage of interest-earning assets. Changes in the volume and mix of interest-earning assets and interest-bearing liabilities, the associated yields and rates, and the volume of non-performing assets have an effect on net interest income, the net interest margin, and net income.

FOR THE THREE MONTHS ENDED JUNE 30, 2014 COMPARED TO THE THREE MONTHS ENDED JUNE 30, 2013

NET INTEREST INCOME


Net Interest Income Analysis
	Average Balances, Income and Expense, Yields and Rates
(Fully taxable equivalent basis) (Dollars in Thousands)	Three months ended 6/30/2014							Three months ended 6/30/2013
	Average Balance		Income/ Expense		Yield/Cost			Average Balance		Income/ Expense		Yield/Cost
INTEREST EARNING ASSETS:
Taxable investments	$	20,042	$	85		1.70	%	$	25,015	$	118		1.89	%
Tax-exempt investments (1)		18,719		144		3.08	%		14,203		105		2.96	%

Total investments		38,761		229		2.36	%		39,218		223		2.27	%

Gross loans (2)		257,575		3,279		5.09	%		233,212		3,135		5.38	%
Interest-bearing deposits		6,676		4		0.24	%		29,305		17		0.23	%
Federal funds sold		469		—		0.06	%		1,391		—		0.09	%

Total Interest Earning Assets	$	303,481	$	3,512		4.63	%	$	303,126	$	3,375		4.45	%


INTEREST-BEARING LIABILITIES:
Savings deposits	$	43,510	$	17		0.16	%	$	46,762	$	23		0.20	%
NOW deposits		42,905		16		0.15	%		40,594		21		0.21	%
Time deposits => $100,000		44,155		193		1.75	%		45,894		255		2.23	%
Time deposits < $100,000		50,489		197		1.57	%		57,079		263		1.85	%
Money market deposit accounts		26,872		26		0.39	%		27,568		39		0.57	%

Total Deposits		207,931		449		0.87	%		217,897		601		1.11	%

Federal funds purchased		226		1		0.69	%		226		—		0.70	%
Securities sold under repurchase agreements		8,231		2		0.10	%		8,418		6		0.29	%
FHLB advances		16,000		85		2.13	%		15,000		106		2.83	%

Total Interest-Bearing Liabilities	$	232,388	$	537		0.93	%	$	241,541	$	713		1.18	%


Net interest income and net interest margin			$	2,975		3.92	%			$	2,662		3.51	%


Non-interest-bearing deposits	$	58,274		—		0.00	%	$	52,386		—		0.00	%
Total Cost of funds						0.74	%						0.97	%
Net interest rate spread						3.89	%						3.48	%

Notes:

(1)	Income and yield assumes a federal tax rate of 34%.

(2)	Includes Visa program and nonaccrual loans.

Interest income for the three months ended June 30, 2014, on a tax-equivalent basis, was $3.5 million, an increase of $137 thousand from the second quarter of 2013. Interest expense for the three months ended June 30, 2014, was $537 thousand, a decrease of $176 thousand from the second quarter of 2013, due mainly to reductions in both balances and costs of time deposits, but also from the reduced cost of the FHLB advances. Net interest income for the three months ended June 30, 2014, on a tax-equivalent basis, was $3.0 million, an increase of

$313 thousand from the second quarter of 2013. The annualized net interest margin was 3.92% and 3.51% for the three months ended June 30, 2014 and 2013, respectively. The deposit mix continues to improve as lower cost balances in checking accounts have increased while higher cost time deposit balances have declined. Further reductions in the cost of funds are anticipated as time deposits mature and are replaced at lower rates. As long as market rates remain low, this positive trend is expected to continue.

The net interest spread, which is the difference between the annualized yield on earning assets and the total cost of funds, increased to 3.89% for the three months ended June 30, 2014, compared to 3.48% for the three months ended June 30, 2013.

NON-INTEREST INCOME

Non-interest income for the three months ended June 30, 2014 decreased $398 thousand, or 38.9%, compared to the three months ended June 30, 2013. This decrease was primarily due to losses of $16 thousand compared to gains of $268 thousand on securities available-for- sale, VISA-related fees declined by $153 thousand due to assignment of merchant agreements to a third party, and the $100 thousand decrease in secondary lending fees was the result of lower mortgage origination activity for sale to Fannie Mae. These decreases were partially offset by an increase of $120 thousand due to an impairment loss recognized in 2013.

NON-INTEREST EXPENSE

For both the three months ended June 30, 2014 and 2013, non-interest expenses totaled $3.2 million. In the second quarter of 2014, Visa expense decreased $153 thousand due to assignment of merchant agreements to a third party. This decrease was partially offset by a $49 increase in consulting expense related to accounting services and lease expense for the Richmond office of $16 thousand.

FOR THE SIX MONTHS ENDED JUNE 30, 2014 COMPARED TO THE SIX MONTHS ENDED JUNE 30, 2013

NET INTEREST INCOME


Net Interest Income Analysis
(Fully taxable equivalent basis)	Average Balances, Income and Expense, Yields and Rates
(Dollars in Thousands)	Six months ended 6/30/2014							Six months ended 6/30/2013
	Average Balance		Income/ Expense		Yield/ Cost			Average Balance		Income/ Expense		Yield/ Cost
INTEREST EARNING ASSETS:
Taxable investments	$	20,918	$	179		1.71	%	$	25,875	$	242		1.87	%
Tax-exempt investments (1)		19,017		294		3.09	%		12,989		189		2.91	%

Total investments		39,935		473		2.37	%		38,864		431		2.22	%

Gross loans (2)		254,625		6,440		5.06	%		234,117		6,289		5.37	%
Interest-bearing deposits		6,303		8		0.25	%		30,982		36		0.23	%
Federal funds sold		308		—		0.06	%		797		—		0.09	%

Total Interest Earning Assets	$	301,171	$	6,921		4.60	%	$	304,760	$	6,756		4.43	%


INTEREST-BEARING LIABILITIES:
Savings deposits	$	43,948	$	34		0.16	%	$	46,397	$	52		0.23	%
NOW deposits		42,361		31		0.15	%		40,795		44		0.22	%
Time deposits => $100,000		44,103		394		1.80	%		46,567		514		2.23	%
Time deposits < $100,000		50,688		395		1.57	%		57,614		541		1.89	%
Money market deposit accounts		27,055		53		0.40	%		27,723		80		0.58	%

Total Deposits		208,155		907		0.88	%		219,096		1,231		1.13	%

Federal funds purchased		182		1		0.55	%		113		—		0.70	%
Securities sold under repurchase agreements		7,805		4		0.10	%		7,663		10		0.26	%
FHLB advances		15,500		185		2.41	%		15,000		245		3.29	%

Total Interest-Bearing Liabilities	$	231,642	$	1,097		0.96	%	$	241,872	$	1,486		1.24	%


Net interest income and net interest margin			$	5,824		3.87	%			$	5,270		3.46	%


Non-interest-bearing deposits	$	57,733		—		0.00	%	$	50,758		—		0.00	%
Total Cost of funds						0.76	%						1.02	%
Net interest rate spread						3.84	%						3.41	%

Notes:

(1)	Income and yield assumes a federal tax rate of 34%.

(2)	Includes Visa program and nonaccrual loans.

Interest income for the six months ended June 30, 2014, on a tax-equivalent basis, was $6.9 million, an increase of $165 thousand from the same period of 2013 due mainly to increased loan balances. Interest expense for the six months ended June 30, 2014 was $1.1 million, a decrease of $389 thousand from the same period of 2013, due mainly to reductions in both balances and costs of time deposits, but also from the reduced cost of the FHLB advances. Net interest income for the six months ended June 30, 2014, on a tax-equivalent basis, was $5.8 million, an increase of $554 thousand from the same period of 2013. The annualized net interest margin was 3.87% and 3.46% for

the six months ended June 30, 2014 and 2013, respectively. The deposit mix continues to improve as lower cost balances in checking accounts have increased while higher cost time deposit balances have declined. Further reductions in the cost of funds are anticipated as time deposits mature and are replaced at lower rates. As long as market rates remain low, this positive trend is expected to continue.

The net interest spread, which is the difference between the annualized yield on earning assets and the total cost of funds, increased to 3.84% for the six months ended June 30, 2014, compared to 3.41% for the six months ended June 30, 2013.

NON-INTEREST INCOME

Non-interest income for the six months ended June 30, 2014 decreased $271 thousand, or 13.5%, compared to the six months ended June 30, 2013. This decrease was primarily due to losses of $17 thousand in 2014 compared to gains of $271 thousand in 2013 on sales of securities available-for-sale for the two six month periods. VISA-related fees declined by $256 thousand due to assignment of merchant agreements to a third party, and the $165 thousand decrease in secondary lending fees was a result of lower mortgage origination activity for sale to Fannie Mae. These decreases were partially offset by an increase of $120 thousand due to an impairment loss recognized in 2013 and a $138 thousand gain recognized on the sale of a former branch office in the first quarter of 2014.

NON-INTEREST EXPENSE

For the six months ended June 30, 2014, non-interest expenses totaled $6.3 million, a decrease of $172 thousand, or 2.7%, compared to the same period in 2013. This decrease is primarily the result of a reduction in salary and benefits of $154 thousand due to lower stock compensation costs and lending commissions and VISA expense decreasing $237 thousand due to assignment of merchant agreements to a third party. These decreases were partially offset by increases in consulting expense of $125 thousand primarily related to accounting services.

AVERAGE INTEREST-EARNINGS ASSETS AND AVERAGE INTEREST-BEARING LIABILITIES

Average interest-earning assets decreased 1.2% to $301.2 million for the six months ended June 30, 2014, as compared to $304.8 million for the six months ended June 30, 2013, as interest-bearing deposits were redeployed into higher yielding loans and bank-owned life insurance. Average interest-earning assets as a percent of total average assets were 91.2% for the six months ended June 30, 2014 as compared to 92.1% for the same period in 2013. The loan portfolio, with $254.6 million in average balances as of June 30, 2014, is the largest category of interest-earning assets.

Average interest-bearing liabilities decreased 4.2% to $231.6 million for the six months ended June 30, 2014, as compared to $241.9 million for the six months ended June 30, 2013. The largest category of interest-bearing liabilities is time deposits, with combined average balances of $94.8 million for the six months ended June 30, 2014, down from $104.2 million for the similar period in 2013.

ASSET QUALITY

In the first six months of 2014, asset quality improved. Non-performing assets, which include OREO and non-performing loans, declined $2.0 million to $4.7 million, or 1.37% of assets. This level also represents 1.79% of loans plus OREO.


Non-Performing Assets
(Dollars in thousands)	June 30, 2014			December 31, 2013

Loans past due 90 days or more and still accruing	$	43		$	18
Non-accruing loans		1,742			2,754

Total non-performing loans		1,785			2,772

Other real estate owned		2,899			3,897

Total non-performing assets	$	4,684		$	6,669

Allowance for loan losses	$	2,973		$	2,925

Allowance to non-performing loans		166.6	%		105.5	%
Non-performing assets to total assets		1.37	%		2.01	%

Non-performing loans, which include loans past due 90 days or more and still accruing, plus non-accruing loans, as a percentage of total loans, decreased to 0.69% as of June 30, 2014 compared to 1.1% as of December 31, 2013. Non-accruing loans totaled $1.7 million as of June 30, 2014, down from $2.8 million at year-end 2013.

Loans charged off during the first six months of 2014, net of recoveries, totaled $214 thousand compared to $372 thousand for the first six months of 2013. This represents a decline in the annualized net charge-off ratio to 0.17% for the first six months of 2014 compared to 0.32% for the first six months of 2013, reflecting an improvement in asset quality. The majority of the charge-offs were anticipated and specific reserves had been provided for them in the ALL. Management is maintaining an adequate level of the ALL at 1.15% and 1.17% of total loans for June 30, 2014 and December 31, 2013, respectively.

Classified assets, which include loans with risk rating grades of substandard, doubtful and loss, plus OREO, decreased by $2.4 million during the first six months of 2014 to $9.1 million, or 22.6% of Tier 1 capital plus the allowance for loan losses. Risk rating grades are assigned conservatively, causing some homogenous loans, such as residential mortgages, to fall into the pool of adversely risk rated loans and thereby evaluated for impairment, even though they may be performing as agreed and therefore not impaired.

As of June 30, 2014, loans valued at $6.5 million were considered impaired, whereas $6.7 million were considered impaired as of December 31, 2013. Between December 31, 2013 and June 30, 2014, two loans were identified as impaired, one was dispensed through foreclosure and charged-off and one was moved into the pool of loans for collective evaluation of impairment due to a large paydown. Management has reviewed the impaired credits and the underlying collateral and expects no additional losses above those which are specifically reserved in ALL.

FINANCIAL CONDITION

Total assets increased to $341.2 million as of June 30, 2014 compared to $331.1 million at December 31, 2013. Cash and due from banks, which produces no income, remained stable at $6.8 million on both June 30, 2014 and December 31, 2013. Interest-bearing deposits at other banks, which is mainly the Bank’s cash on deposit at the Federal Reserve Bank of Richmond, has increased by $1.9 million since year end 2013.

During the six months ended June 30, 2014, gross loans increased by $8.5 million or 3.4%, to $259.3 million from $250.8 million at year-end 2013. The largest components of this increase were $7.2 million related to residential first mortgages and $2.0 million related to construction loans.

The Bank had $2.9 million of OREO at June 30, 2014 and $3.9 million at December 31, 2013. As of June 30, 2014, OREO consists of 10 residences, 13 lots, two former convenience stores, one former restaurant and one commercial business property. During the six months of 2014, three properties with a total book value of $197 thousand from two borrowers were added through foreclosures, and six properties with a total book value of $1.1 million were sold. There were $127 thousand of write-downs of OREO properties during the first six months of 2014, compared to $16 thousand for the same period in 2013. All properties maintained as OREO are valued at the lesser of cost or fair value less estimated costs to sell and are actively marketed.

In March 2014, the Company sold a former branch in Heathsville, Virginia for $311 thousand and recognized a gain of $138 thousand on the sale. The branch was included in other assets as of December 31, 2013.

As of June 30, 2014, securities available-for-sale at fair value totaled $36.8 million as compared to $38.5 million on December 31, 2013. This represents a net decrease of $1.7 million or 4.4% for the six months. The decrease in securities available-for-sale is primarily the result of the sale of a troubled asset with a fair value of $912 thousand. An impairment loss was recognized on this asset in 2013 and therefore, no gain or loss was recognized on the sale of the asset as its carrying value equaled its fair value at the time of sale. As of June 30, 2014, available-for-sale securities represented 10.8% of total assets and 12.2% of earning assets. All securities in the Company’s investment portfolio are classified as available-for-sale and marked to market on a monthly basis. These unrealized gains or losses, net of tax, are booked as an adjustment to shareholders’ equity, and are not realized as an adjustment to earnings until the securities are actually sold or an other than temporary impairment occurs.

In the second quarter of 2013, the Company purchased $5.0 million of bank owned life insurance in order to offset the cost of employee benefits. During the second quarter of 2014, the Company purchased an additional $2.0 million of such insurance. The bank owned life insurance’s carrying value as of June 30, 2014 was $7.2 million.

As of June 30, 2014, total deposits were $267.1 million compared to $268.3 million at year-end 2013. This represents a decrease in balances of $1.3 million or 0.5% during the six months. The decline consisted of $1.6 million of reductions in time deposit balances and $653 thousand in savings and interest-bearing demand deposits. These decreases were partially offset by an increase of $1.0 million in non-interest bearing deposits.

To support loan growth, $10.0 million of new FHLB advances were drawn during the second quarter of 2014.

As of June 30, 2014, securities sold under repurchase agreements decreased $128 thousand to $9.0 million from $9.1 million at December 31, 2013. This decrease was the result of normal seasonality for these customers.

LIQUIDITY

Liquidity represents an institution’s ability to meet present and future financial obligations (such as commitments to fund loans) through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. Liquid assets include cash, interest-bearing deposits with other banks, federal funds sold and investments and loans maturing within one year. The Company’s ability to obtain deposits and purchase funds at favorable rates are major factors for liquidity. Management believes that the Company maintains overall liquidity that is sufficient to satisfy its depositors’ requirements and to meet its customers’ credit needs.

At June 30, 2014, cash totaled $6.8 million, federal funds sold totaled $204 thousand, interest-bearing deposits totaled $10.8 million, and securities and loans maturing in one year or less totaled $22.6 million. This results in a liquidity ratio as of June 30, 2014 of 11.9% as compared to 12.9% as of December 31, 2013. The Company determines this ratio by dividing the sum of cash and cash equivalents, investment securities maturing in one year or less, loans maturing in one year or less and federal funds sold, by total assets. The Bank has a formal liquidity management policy and contingency plan, which includes periodic evaluation of cash flow projections.

In addition, the Company has a line of credit with the FHLB of $65.5 million, plus federal funds lines of credit with correspondent banks totaling $20.3 million.

CAPITAL RESOURCES

Capital resources represent funds, earned or obtained, over which a financial institution can exercise greater long-term control in comparison with deposits and borrowed funds. The adequacy of the Company’s capital is reviewed by management on an ongoing basis with reference to size, composition, and quality of the Company’s resources and consistency with regulatory requirements and industry standards. Management seeks to maintain a capital structure that will assure an adequate level of capital to support anticipated asset growth and to absorb potential losses, yet allows management to effectively leverage its capital to maximize return to shareholders. The Company’s capital, also known as shareholders’ equity, is comprised mainly of outstanding common stock and retained earnings. Capital can be increased with securities offerings or through earnings.

Several factors impact shareholders’ equity, including net income and regulatory capital requirements. The Company’s capital resources are also impacted by net unrealized gains or losses on securities. The available-for-sale securities portfolio is marked to market monthly and unrealized gains or losses, net of taxes, are recognized as accumulated other comprehensive income (loss) on the balance sheets and statement of changes in shareholders’ equity. Another factor affecting accumulated other comprehensive income (loss) is changes in the market value of the Company’s pension and post-retirement benefit plans. The Company’s shareholders’ equity before accumulated other comprehensive loss was $39.0 million on June 30, 2014 compared to $38.3 million on December 31, 2013. Accumulated other comprehensive loss decreased $556 thousand between December 31, 2013 and June 30, 2014, primarily as a result of decreases in unrealized net losses in the investment portfolio.

Book value per share, before accumulated other comprehensive loss, on June 30, 2014, compared to December 31, 2013, increased to $8.10 from $7.96. Book value per share, including accumulated other comprehensive loss, increased to $7.98 on June 30, 2014 from $7.71 on December 31, 2013. No cash dividends were paid for the six-month period ended June 30, 2014, nor for the comparable period ended June 30, 2013.

The Bank is subject to minimum regulatory capital ratios as defined by Federal Financial Institutions Examination Council guidelines. These ratios continue to be well in excess of regulatory minimums. As of June 30, 2014, the Bank maintained Tier 1 capital of $31.2 million, net risk weighted assets of $242.0 million, and Tier 2 capital of $3.0 million. On June 30, 2014, the Tier 1 leverage ratio was 9.56%, the Tier 1 capital to risk weighted assets ratio was 12.88%, and the total capital ratio to risk weighted assets ratio was 14.11%. Management is evaluating Basel III capital rules which will begin a phase-in period on January 1, 2015, and expects no detrimental effects.

OFF BALANCE SHEET COMMITMENTS

In the normal course of business, the Company offers various financial products to its customers to meet their credit and liquidity needs. These instruments may involve elements of liquidity, credit and interest rate risk in excess of the amount recognized in the Consolidated Balance Sheets. The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit and standby-letters of credit is represented by the contractual amount of these instruments. Subject to its normal credit standards and risk monitoring procedures, the Company makes contractual commitments to extend credit. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Conditional commitments are issued by the Company in the form of performance stand-by letters of credit, which guarantee the performance of a customer to a third-party. The credit risk of issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.


Off Balance Sheet Arrangements
	June 30, 2014		December 31, 2013
(Dollars in thousands)
Total Loan Commitments Outstanding	$	37,796	$	37,279
Standby-by Letters of Credit		372		329

The Company maintains liquidity and credit facilities with non-affiliated banks in excess of the total loan commitments and stand-by letters of credit. As these commitments are earning assets only upon takedown of the instrument by the customer, thereby increasing loan balances, management expects the revenue of the Company to be enhanced as these credit facilities are utilized.

There have been no material changes to the off balance sheet items disclosed in “Management’s Discussion and Analysis of Financial Condition and Results of Operation” in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2013.

CONTRACTUAL OBLIGATIONS

There have been no material changes outside the ordinary course of business to the contractual obligations disclosed in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2013.

RECENT ACCOUNTING PRONOUNCEMENTS

Refer to Note 3, Amendments to the Accounting Standards Codification, for information related to the adoption of new amendments to the Accounting Standards Codification.

ITEM 3.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not required.

ITEM 4.

CONTROLS AND PROCEDURES

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

As of the end of the period to which this report relates, the Company has carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-14 of the Securities Exchange Act of 1934. In designing and evaluating its disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that objectives of the disclosure controls and procedures are met. The design of any disclosure controls and procedures is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential conditions. Based upon their evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic Securities and Exchange Commission filings as of June 30, 2014.

CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING

There was no change to the Company’s internal control over financial reporting during the six months ended June 30, 2014 that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1.

LEGAL PROCEEDINGS

In the ordinary course of its operations, the Company is a party to various legal proceedings. Based upon information currently available, management believes that such legal proceedings, in the aggregate, will not have a material adverse effect on the business, financial condition, or results of operations of the Company.

ITEM 1A.

RISK FACTORS

Not required.

ITEM 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None to report.

ITEM 3.

DEFAULT UPON SENIOR SECURITIES

None to report.

ITEM 4.

MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5.

OTHER INFORMATION

None to report.

ITEM 6.

EXHIBITS


31.1		Certification Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification Pursuant to 18 U.S.C Section 1350 as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Certification Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101		The following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014, formatted in Extensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets as of June 30, 2014 and December 31, 2013, (ii) Consolidated Statements of Income for the three and six months ended June 30, 2014 and 2013, (iii) Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2014 and 2013, (iv) Consolidated Statements of Changes in Shareholders’ Equity for the six months ended June 30, 2014, (v) Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and 2013, and (vi) Notes to Consolidated Financial Statements.

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.


	Bay Banks of Virginia, Inc.
	(Registrant)

August 11, 2014	By:	/s/ Randal R. Greene
		Randal R. Greene
		President and Chief Executive Officer
		(Principal Executive Officer)

	By:	/s/ Deborah M. Evans
		Deborah M. Evans
		Treasurer and Chief Financial Officer
		(Principal Financial and Accounting Officer)

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company