Southeastern Bank Financial CORP - FORM 10-Q

Attached files

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EX-31.1 - EXHIBIT 31.1 - Southeastern Bank Financial CORP	t83328_ex31-1.htm
EX-32.1 - EXHIBIT 32.1 - Southeastern Bank Financial CORP	t83328_ex32-1.htm
EX-31.2 - EXHIBIT 31.2 - Southeastern Bank Financial CORP	t83328_ex31-2.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

Quarterly Report under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2015.

Transition Report under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from _______________ to ________________.

Commission File No. 0-24172

Southeastern Bank Financial Corporation

(Exact name of registrant as specified in its charter)

Georgia	58-2005097
(State of Incorporation)	(I.R.S. Employer Identification No.)

3530 Wheeler Road, Augusta, Georgia 30909

(Address of principal executive offices)

(706) 738-6990

(Issuer's telephone number, including area code)

Not Applicable

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

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

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

	Large accelerated filer ¨	Non-accelerated filer ¨
		(do not check if a smaller reporting company)

	Accelerated filer ¨	Smaller reporting company x

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

APPLICABLE ONLY TO CORPORATE ISSUERS

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

6,745,818 shares of common stock, $3.00 par value per share, outstanding as of October 20, 2015.

SOUTHEASTERN BANK FINANCIAL CORPORATION

FORM 10-Q

INDEX

			Page
Part I
	Item 1.	Financial Statements (Unaudited)

		Consolidated Balance Sheets as of September 30, 2015 and December 31, 2014	3

		Consolidated Statements of Comprehensive Income for the Three and Nine Months ended September 30, 2015 and 2014	4

		Consolidated Statements of Cash Flows for the Nine Months ended September 30, 2015 and 2014	6

		Notes to Consolidated Financial Statements	8

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	43

	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	67

	Item 4.	Controls and Procedures	67

Part II Other Information

	Item 1.	Legal Proceedings	68

	Item 1A.	Risk Factors	68

	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	68

	Item 3.	Defaults Upon Senior Securities	69

	Item 4.	Mine Safety Disclosures	69

	Item 5.	Other Information	69

	Item 6.	Exhibits	69

Signature			70

PART I

FINANCIAL INFORMATION

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Balance Sheets

(Dollars in thousands, except share data)

	September 30,
	2015		December 31,
	(Unaudited)		2014
Assets
Cash and due from banks	$	42,870	$	33,286
Interest-bearing deposits in other banks		7,691		2,709
Cash and cash equivalents		50,561		35,995
Available-for-sale securities		696,994		644,465
Loans held for sale, at fair value		32,339		18,365
Loans		962,414		966,356
Less allowance for loan losses		22,180		25,506
Loans, net		940,234		940,850

Premises and equipment, net		27,660		27,842
Accrued interest receivable		6,283		5,898
Bank-owned life insurance		42,832		36,908
Restricted equity securities		4,361		4,398
Other real estate owned		360		1,107
Deferred tax asset		12,316		15,263
Other assets		3,028		1,690
	$	1,816,968	$	1,732,781
Liabilities and Stockholders' Equity
Deposits
Noninterest-bearing	$	235,777	$	196,624
Interest-bearing:
NOW accounts		385,455		354,038
Savings		551,703		521,570
Money management accounts		15,662		15,824
Time deposits		352,383		375,808
		1,540,980		1,463,864

Securities sold under repurchase agreements		633		10,678
Advances from Federal Home Loan Bank		66,000		64,000
Accrued interest payable and other liabilities		20,232		18,953
Subordinated debentures		20,000		20,000
Total liabilities		1,647,845		1,577,495

Stockholders' equity:
Preferred stock, no par value; 10,000,000 shares authorized; 0 shares outstanding in 2015 and 2014, respectively		-		-
Common stock, $3.00 par value; 10,000,000 shares authorized; 6,745,371 and 6,744,891 shares issued in 2015 and 2014, respectively; 6,745,371 and 6,744,160 shares outstanding in 2015 and 2014, respectively		20,236		20,235
Additional paid-in capital		63,507		63,096
Retained earnings		83,628		71,902
Treasury stock, at cost; 0 and 731 shares in 2015 and 2014, respectively		-		(18	)
Accumulated other comprehensive income, net		1,752		71
Total stockholders' equity		169,123		155,286
	$	1,816,968	$	1,732,781

See accompanying notes to unaudited consolidated financial statements.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Comprehensive Income

(Dollars in thousands, except share and per share data)

(Unaudited)

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2015			2014			2015			2014
Interest income:
Loans, including fees	$	11,584		$	11,711		$	35,296		$	34,632
Investment securities		3,945			3,518			11,390			10,670
Interest-bearing deposits in other banks		20			14			54			47
Total interest income		15,549			15,243			46,740			45,349
Interest expense:
Deposits		1,443			1,535			4,354			4,709
Securities sold under repurchase agreements		6			1			11			4
Other borrowings		562			651			1,826			1,978
Total interest expense		2,011			2,187			6,191			6,691

Net interest income		13,538			13,056			40,549			38,658
Provision (Credit) for loan losses		132			876			(2,011	)		2,944
Net interest income after provision for loan losses		13,406			12,180			42,560			35,714

Noninterest income:
Service charges and fees on deposits		1,831			1,903			5,418			5,324
Gain on sales of loans		2,007			1,718			5,319			3,910
Gain (loss) on sale of fixed assets, net		58			15			(3	)		27
Investment securities (losses) gains, net (includes ($165) and $215 for the three months ended and ($1,005) and $492 for the nine months ended September 30, 2015 and 2014 accumulated other comprehensive income reclassifications for unrealized gains (losses) on available-for-sale securities)		(165	)		215			(1,005	)		492
Retail investment income		589			520			1,635			1,608
Trust service fees		357			328			1,048			970
Earnings from cash surrender value of bank-owned life insurance		365			317			924			876
Miscellaneous income		265			200			709			623
Total noninterest income		5,307			5,216			14,045			13,830
Noninterest expense:
Salaries and other personnel expense		6,719			6,291			19,968			18,205
Occupancy expenses		1,040			1,027			3,088			2,958
Other real estate losses (gains), net		10			239			(102	)		226
Prepayment fees		-			-			955			-
Other operating expenses		3,802			3,498			10,938			10,420
Total noninterest expense		11,571			11,055			34,847			31,809

Income before income taxes		7,142			6,341			21,758			17,735
Income tax expense		2,277			1,959			6,997			5,503
Net income	$	4,865		$	4,382		$	14,761		$	12,232

Other comprehensive income (loss):
Unrealized loss on derivatives	$	(502	)	$	(27	)		(260	)		(670	)
Unrealized gain (loss) on securities available-for-sale		5,472			(849	)		2,006			14,449
Reclassification adjustment for realized loss (gain) on securities, net of OTTI		165			(215	)		1,005			(492	)
Tax effect		(1,997	)		424			(1,070	)		(5,169	)
Total other comprehensive income (loss)		3,138			(667	)		1,681			8,118
Comprehensive income	$	8,003		$	3,715		$	16,442		$	20,350

(continued)

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Comprehensive Income

(Dollars in thousands, except share and per share data)

(Unaudited)

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2015		2014		2015		2014

Basic net income per share	$	0.73	$	0.66	$	2.20	$	1.83

Diluted net income per share		0.72		0.65		2.20		1.83

Weighted average common shares outstanding		6,703,371		6,681,743		6,700,439		6,681,214

Weighted average number of common and common equivalent shares outstanding		6,719,396		6,694,528		6,713,344		6,687,056

See accompanying notes to unaudited consolidated financial statements.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Cash Flows

(Dollars in thousands)

(Unaudited)

	Nine Months Ended
	September 30,
	2015			2014
Cash flows from operating activities:
Net income	$	14,761		$	12,232
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation		1,678			1,539
Deferred income tax expense (benefit)		1,877			(642	)
Provision (Credit) for loan losses		(2,011	)		2,944
Net investment securities losses (gains)		1,005			(492	)
Net amortization of premiums on investment securities		3,059			3,561
Earnings from CSV of bank-owned life insurance		(924	)		(876	)
Stock-based compensation expense		350			272
Prepayment fees on Federal Home Loan Bank advances		955			-
Loss (gain) on disposal of premises and equipment		3			(27	)
Gain on the sale of other real estate		(116	)		(41	)
Provision for other real estate valuation allowance		14			267
Gain on sales of loans		(5,319	)		(3,910	)
Real estate loans originated for sale		(181,560	)		(133,887	)
Proceeds from sales of real estate loans		172,906			125,419
(Increase) decrease in accrued interest receivable		(385	)		56
(Increase) decrease in other assets		(1,338	)		3,593
Increase (decrease) in accrued interest payable and other liabilities		1,019			(115	)
Net cash provided by operating activities		5,974			9,893

Cash flows from investing activities:
Proceeds from sales of available-for-sale securities		110,635			139,935
Proceeds from maturities and calls of available-for-sale securities		74,508			58,515
Purchase of available-for-sale securities		(238,725	)		(197,038	)
Proceeds from redemption of FHLB stock		500			472
Purchase of FHLB stock		(463	)		-
Net decrease (increase) in loans		2,407			(53,520	)
Purchase of bank-owned life insurance		(5,000	)		-
Additions to premises and equipment		(1,636	)		(1,828	)
Proceeds from sale of other real estate		1,068			396
Proceeds from sale of premises and equipment		137			86
Net cash used in investing activities		(56,569	)		(52,982	)

(continued)

SOUTHEASTERN BANK FINANCIAL CORPORATION

Consolidated Statements of Cash Flows

(Dollars in thousands)

(Unaudited)

	Nine Months Ended
	September 30,
	2015			2014

Cash flows from financing activities:
Net increase in deposits		77,116			45,128
Net decrease in securities sold under repurchase agreements		(10,045	)		(243	)
Payments of Federal Home Loan Bank advances		(8,955	)		-
Advances from Federal Home Loan Bank		10,000			-
Purchase of treasury stock		(11	)		(28	)
Payments on subordinated debentures		-			(1,547	)
Payment of cash dividends		(3,035	)		(2,622	)
Tax benefit from stock-based compensation		46			-
Proceeds from Directors' stock purchase plan		45			41
Net cash provided by financing activities		65,161			40,729

Net increase (decrease) in cash and cash equivalents		14,566			(2,360	)
Cash and cash equivalents at beginning of period		35,995			47,336
Cash and cash equivalents at end of period	$	50,561		$	44,976

Supplemental disclosures of cash paid during the period for:
Interest	$	6,443		$	6,806
Income taxes		5,181			6,136

Supplemental information on noncash investing activities:
Loans transferred to other real estate owned	$	611		$	1,205
Loans provided for sales of other real estate owned		392			213
Due to broker		-			1,527

See accompanying notes to unaudited consolidated financial statements.

SOUTHEASTERN BANK FINANCIAL CORPORATION

Notes to Unaudited Consolidated Financial Statements

(Dollar amounts are expressed in thousands unless otherwise noted)

September 30, 2015

Note 1 – Summary of Significant Accounting Policies

(a) Nature of Operations and Principles of Consolidation

The accompanying consolidated financial statements include the accounts of Southeastern Bank Financial Corporation and its wholly-owned subsidiary, Georgia Bank & Trust Company of Augusta, Georgia, together referred to as “the Company.” Significant intercompany transactions and accounts are eliminated in consolidation. Dollar amounts are rounded to thousands except share and per share data.

The Company provides financial services through its offices in Richmond and Columbia Counties, Georgia, and Aiken County, South Carolina. Its primary deposit products are checking, savings, and term certificate accounts, and its primary lending products are residential mortgage, commercial, and installment loans. Substantially all loans are secured by specific items of collateral including business assets, consumer assets, and commercial and residential real estate. Commercial loans are expected to be repaid from cash flow from operations of businesses. The Company has a significant concentration of loans with real estate developers. The ability of these customers to repay their loans is dependent on the real estate and general economic conditions in the area.

The financial statements for the three and nine months ended September 30, 2015 and 2014 are unaudited and have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and footnotes included in the Company's annual report on Form 10-K for the year ended December 31, 2014.

In the opinion of management, all adjustments necessary to present fairly the financial position and the results of operations and cash flows for the interim periods have been made. All such adjustments are of a normal recurring nature. The results of operations for the three and nine months ended September 30, 2015 are not necessarily indicative of the results of operations which the Company may achieve for the entire year.

Some items in the prior period financial statements were reclassified to conform to the current presentation.

(b) Recent Accounting Pronouncements

In May 2014, the FASB issued an update (ASU No. 2014-09, Revenue from Contracts with Customers) creating FASB Topic 606, Revenue from Contracts with Customers. The guidance in this update affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (for example, insurance contracts or lease contracts). The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance provides steps to follow to achieve the core principle. An entity should disclose sufficient information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. Qualitative and quantitative information is required about contracts with customers, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. The amendments in this update are effective for interim and annual reporting periods beginning after December 15, 2017. We are currently evaluating the impact of adopting the new guidance on the consolidated financial statements.

Note 2 – Investment Securities

All investment securities held at September 30, 2015 and December 31, 2014 are classified as available-for-sale.

The following tables summarize the amortized cost and fair value of the available-for-sale investment securities portfolio at September 30, 2015 and December 31, 2014 and the corresponding amounts of unrealized gains and losses therein.

	September 30, 2015
			Gross		Gross
	Amortized		unrealized		unrealized			Estimated
	cost		gains		losses			fair value
Available-for-sale	(Dollars in thousands)
Obligations of U.S.
Government agencies	$	164,365		401		(772	)		163,994
Obligations of states and political subdivisions		131,471		3,535		(444	)		134,562
Mortgage backed securities
U.S. GSE's* MBS - residential		135,081		1,614		(456	)		136,239
U.S. GSE's CMO		146,382		1,572		(266	)		147,688
Corporate bonds		114,608		857		(954	)		114,511
	$	691,907		7,979		(2,892	)		696,994

* Government sponsored entities

	December 31, 2014
			Gross		Gross
	Amortized		unrealized		unrealized			Estimated
	cost		gains		losses			fair value
Available-for-sale	(Dollars in thousands)
Obligations of U.S.
Government agencies	$	181,104		307		(2,667	)		178,744
Obligations of states and political subdivisions		98,538		3,400		(183	)		101,755
Mortgage backed securities
U.S. GSE's MBS - residential		128,891		1,672		(527	)		130,036
U.S. GSE's CMO		123,921		983		(443	)		124,461
Corporate bonds		109,936		990		(1,457	)		109,469
	$	642,390		7,352		(5,277	)		644,465

As of September 30, 2015, except for the U.S. Government agencies and government sponsored entities, there was no issuer who represented 10% or more of stockholders’ equity within the investment portfolio.

As of December 31, 2014, except for the U.S. Government agencies and government sponsored entities, there was no issuer who represented 10% or more of stockholders’ equity within the investment portfolio.

Proceeds from sales of securities available-for-sale and the associated gains (losses), excluding gains (losses) on called securities, for the three and nine months ended September 30, 2015 and 2014 were as follows:

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2015			2014			2015			2014
	(Dollars in thousands)						(Dollars in thousands)
Proceeds from Sales	$	33,487		$	61,967		$	110,635		$	139,935
Gross Gains		110			624			329			1,534
Gross Losses		(276	)		(409	)		(1,335	)		(1,042	)

The amortized cost and fair value of the investment securities portfolio, excluding equity securities, are shown below by contractual maturity. Expected maturities may differ from contractual maturities if borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

	September 30, 2015
	Amortized		Estimated
	cost		fair value
	(Dollars in thousands)
Available-for-sale:
One year or less	$	8,056		8,138
After one year through five years		107,372		108,602
After five years through ten years		173,385		173,545
After ten years		403,094		406,709
	$	691,907		696,994

The following tables summarize the investment securities with unrealized losses at September 30, 2015 and December 31, 2014, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position.

	September 30, 2015
	Less than 12 months				12 months or longer				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
	fair value		loss		fair value		loss		fair value		loss
Temporarily impaired	(Dollars in thousands)
Obligations of U.S.
Government agencies	$	22,675		75		67,278		697		89,953		772
Obligations of states and political subdivisions		27,077		389		4,052		55		31,129		444
Mortgage backed securities
U.S. GSE's MBS - residential		26,894		282		11,673		174		38,567		456
U.S. GSE's CMO		28,113		175		6,986		91		35,099		266
Corporate bonds		36,080		329		17,518		625		53,598		954
	$	140,839		1,250		107,507		1,642		248,346		2,892

	December 31, 2014
	Less than 12 months				12 months or longer				Total
	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
	fair value		loss		fair value		loss		fair value		loss
Temporarily impaired	(Dollars in thousands)
Obligations of U.S.
Government agencies	$	19,108		98		112,541		2,569		131,649		2,667
Obligations of states and political subdivisions		11,285		49		6,048		134		17,333		183
Mortgage backed securities
U.S. GSE's MBS - residential		9,041		44		35,529		483		44,570		527
U.S. GSE's CMO		36,594		216		18,205		227		54,799		443
Corporate bonds		29,769		204		29,421		1,253		59,190		1,457
	$	105,797		611		201,744		4,666		307,541		5,277

Other-Than-Temporary Impairment – September 30, 2015

Management evaluates securities for other-than-temporary impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. Investment securities classified as available-for-sale or held-to-maturity are generally evaluated for OTTI under the provisions of ASC 320-10, Investments – Debt and Equity Securities. In determining OTTI, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the entity has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.

When OTTI occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis. If an entity intends to sell or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost basis, the OTTI shall be separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the total OTTI related to other factors is recognized in other comprehensive income or loss, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

As of September 30, 2015, the Company’s security portfolio consisted of 443 securities, 143 of which were in an unrealized loss position. Of these securities with unrealized losses, 57.95% were related to the Company’s mortgage-backed and corporate securities as discussed below.

Mortgage-backed Securities

At September 30, 2015, all of the Company’s mortgage-backed securities were issued by U.S. government-sponsored entities and agencies, primarily the Federal National Mortgage Association (“Fannie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and the Government National Mortgage Association (“Ginnie Mae”), institutions which the government has affirmed its commitment to support. Because the decline in fair value is attributable to changes in interest rates and illiquidity, and not credit quality, and because the Company does not have the intent to sell these mortgage-backed securities and it is not more likely than not that it will be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at September 30, 2015.

Corporate Securities

The Company holds forty-nine corporate securities totaling $114,511, of which twenty-six had an unrealized loss of $954 at September 30, 2015. Twenty-five of the securities with an unrealized loss of $843 were issued by entities rated lower medium investment grade or higher. Because the decline in fair value is attributable primarily to changes in interest rates and not credit quality and because the Company does not have the intent to sell the securities and it is not more likely than not that it will be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at September 30, 2015.

Included in the Company’s corporate bonds is one trust preferred security with an amortized cost of $250, which had an unrealized loss of $111, resulting in a fair value of $139 at September 30, 2015. This security is not rated. Although the issuer is not in default, in January of 2011 the Company was notified that the issuer had elected to defer interest payments in accordance with the terms of the instrument. As of July of 2015, the issuer is no longer deferring interest and is current on all payments. Because the Company does not have the intent to sell this security and it is not more likely than not that it will be required to sell the security before its anticipated recovery, the Company does not consider this security to be other-than-temporarily impaired at September 30, 2015.

There were no credit losses recognized in earnings for the three or nine month periods ended September 30, 2015 and 2014.

Other-Than-Temporary Impairment – December 31, 2014

As of December 31, 2014, the Company’s security portfolio consisted of 378 securities, 145 of which were in an unrealized loss position. Of these securities with unrealized losses, 45.99% were related to the Company’s mortgage backed and corporate securities as discussed below.

Mortgage-backed Securities

At December 31, 2014, all of the Company’s mortgage-backed securities were issued by U.S. government-sponsored entities and agencies, primarily the Federal National Mortgage Association (“Fannie Mae”), the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and the Government National Mortgage Association (“Ginnie Mae”), institutions which the government has affirmed its commitment to support. Because the decline in fair value is attributable to changes in interest rates and illiquidity, and not credit quality, and because the Company does not have the intent to sell these mortgage-backed securities and it is not more likely than not that it will be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at December 31, 2014.

Corporate Securities

The Company holds forty-five corporate securities totaling $109,469, of which twenty-five had an unrealized loss of $1,457 at December 31, 2014. Twenty-four of the securities with an unrealized loss of $1,319 were issued by entities rated lower medium investment grade or higher. Because the decline in fair value is attributable primarily to changes in interest rates and not credit quality and because the Company does not have the intent to sell the securities and it is not more likely than not that it will be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be other-than-temporarily impaired at December 31, 2014.

Included in the Company’s corporate bonds is one trust preferred security with an amortized cost of $250, which had an unrealized loss of $138, resulting in a fair value of $112 at December 31, 2014. This security is not rated. Although the issuer is not in default, in January of 2011 the Company was notified that the issuer had elected to defer interest payments in accordance with the terms of the instrument. As of July 2015, the issuer is no longer deferring interest and is current on all payments. Because the Company does not have the intent to sell this security and it is not more likely than not that it will be required to sell the security before its anticipated recovery, the Company does not consider this security to be other-than-temporarily impaired at December 31, 2014.

At December 31, 2014, the fair value of this same corporate security totaling $112 was measured using Level 3 inputs because the market for it has become illiquid, as indicated by few, if any, trades during the period. The discount rate used in the valuation model was based on a yield of 10% that the market would require for corporate debt obligations with maturities and risk characteristics similar to the subordinated debenture being measured.

There were no credit losses recognized in earnings for the year ended December 31, 2014.

Note 3 – Loans

The following table summarizes loans at September 30, 2015 and December 31, 2014.

	September 30, 2015			December 31, 2014
	(Dollars in thousands)

Commercial, financial, and agricultural	$	200,257			208,905
Real estate:
Commercial		359,942			371,488
Residential		216,006			204,097
Acquisition, development and construction		167,739			164,303
Consumer installment		18,305			17,248
	$	962,249			966,041
Less allowance for loan losses		22,180			25,506
Less deferred loan origination fees (costs)		(165	)		(315	)
	$	940,234			940,850

The following tables present the activity in the allowance for loan losses by portfolio segment as of and for the three and nine month periods ended September 30, 2015 and 2014.

	Three Months Ended September 30, 2015
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC		ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA		Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	4,427			5,441			3,841			6,336			1,805		921			601			23,372
Charge-offs		(32	)		—			(1,119	)		(77	)		—		—			(166	)		(1,394	)
Recoveries		6			2			—			5			—		4			53			70
Provision		27			(434	)		(93	)		597			162		(266	)		139			132
Ending balance	$	4,428			5,009			2,629			6,861			1,967		659			627			22,180

	Three Months Ended September 30, 2014
	Commercial,
	Financial, and			CRE - Owner		CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied		Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	5,574			6,133		3,477			5,648			2,511			2,952			588			26,883
Charge-offs		(242	)		—		—			(692	)		(244	)		—			(182	)		(1,360	)
Recoveries		16			2		251			6			—			—			60			335
Provision		257			187		(305	)		941			52			(398	)		142			876
Ending balance	$	5,605			6,322		3,423			5,903			2,319			2,554			608			26,734

	Nine Months Ended September 30, 2015
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	5,407			4,805			3,817			6,591			1,943			2,320			623			25,506
Charge-offs		(1,166	)		(74	)		(1,119	)		(363	)		(255	)		(20	)		(427	)		(3,424	)
Recoveries		223			4			—			17			—			1,699			166			2,109
Provision		(36	)		274			(69	)		616			279			(3,340	)		265			(2,011	)
Ending balance	$	4,428			5,009			2,629			6,861			1,967			659			627			22,180

	Nine Months Ended September 30, 2014
	Commercial,
	Financial, and			CRE - Owner			CRE - Non Owner			Residential			ADC			ADC
	Agricultural			Occupied			Occupied			Real Estate			CSRA			Other			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Beginning balance	$	5,774			5,706			3,275			5,590			3,107			2,379			578			26,409
Charge-offs		(617	)		(18	)		(718	)		(916	)		(395	)		(69	)		(468	)		(3,201	)
Recoveries		52			10			275			32			—			—			213			582
Provision		396			624			591			1,197			(393	)		244			285			2,944
Ending balance	$	5,605			6,322			3,423			5,903			2,319			2,554			608			26,734

The following tables present the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of September 30, 2015 and December 31, 2014.

	September 30, 2015
	Commercial,
	Financial, and		CRE - Owner		CRE - Non Owner		Residential		ADC		ADC
	Agricultural		Occupied		Occupied		Real Estate		CSRA		Other		Consumer		Total
	(Dollars in thousands)
Allowance for loan losses:
Ending balance attributable to loans:
Individually evaluated for impairment	$	—		—		—		—		—		—		—		—
Collectively evaluated for impairment		4,428		5,009		2,629		6,861		1,967		659		627		22,180
	$	4,428		5,009		2,629		6,861		1,967		659		627		22,180

Loans:
Individually evaluated for impairment		1,036		428		6,157		2,135		2,477		62		—		12,295
Collectively evaluated for impairment		199,221		222,288		131,069		213,871		123,151		42,049		18,305		949,954
	$	200,257		222,716		137,226		216,006		125,628		42,111		18,305		962,249

	December 31, 2014
	Commercial,
	Financial, and		CRE - Owner		CRE - Non Owner		Residential		ADC		ADC
	Agricultural		Occupied		Occupied		Real Estate		CSRA		Other		Consumer		Total
	(Dollars in thousands)
Allowance for loan losses:
Ending balance attributable to loans:
Individually evaluated for impairment	$	207		—		—		—		—		—		—		207
Collectively evaluated for impairment		5,200		4,805		3,817		6,591		1,943		2,320		623		25,299
	$	5,407		4,805		3,817		6,591		1,943		2,320		623		25,506

Loans:
Individually evaluated for impairment		2,995		1,289		7,687		2,285		2,849		3,082		2		20,189
Collectively evaluated for impairment		205,910		218,619		143,893		201,812		107,235		51,137		17,246		945,852
	$	208,905		219,908		151,580		204,097		110,084		54,219		17,248		966,041

The following tables present loans individually evaluated for impairment by class of loans as of September 30, 2015 and December 31, 2014.

	September 30, 2015
	Unpaid				Allowance for		Average
	Principal		Recorded		Loan Losses		Recorded
	Balance		Investment (2)		Allocated		Investment
	(Dollars in thousands)
With no related allowance recorded: (1)
Commercial, financial, and agricultural:
Commerical	$	1,962		846		—		1,355
Financial		—		—		—		—
Agricultural		252		190		—		194
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		3,279		2,160		—		3,267
Non Owner occupied		4,663		4,425		—		4,517
Residential real estate:
Secured by first liens		2,709		2,038		—		2,179
Secured by junior liens		148		97		—		101
Acquisition, development and construction:
Residential		—		—		—		—
Other		3,530		2,539		—		2,767
Consumer		—		—		—		—
		16,543		12,295		—		14,380

With an allowance recorded:		—		—		—		—

	$	16,543		12,295		—		14,380

(1) No specific allowance for credit losses is allocated to these loans since they are sufficiently collateralized or had charge-offs

(2) Excludes accrued interest receivable and loan origination fees, net due to immateriality

	December 31, 2014
	Unpaid				Allowance for		Average
	Principal		Recorded		Loan Losses		Recorded
	Balance		Investment (2)		Allocated		Investment
	(Dollars in thousands)
With no related allowance recorded: (1)
Commercial, financial, and agricultural:
Commerical	$	2,000		611		—		1,805
Financial		—		—		—		—
Agricultural		263		206		—		231
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		1,385		1,289		—		1,377
Non Owner occupied		7,907		7,687		—		7,792
Residential real estate:
Secured by first liens		2,711		2,181		—		2,229
Secured by junior liens		150		104		—		110
Acquisition, development and construction:
Residential		—		—		—		—
Other		8,518		5,931		—		7,326
Consumer		2		2		—		3
		22,936		18,011		—		20,873
With an allowance recorded:
Commercial, financial, and agricultural:
Commerical		2,245		2,178		207		2,203
		2,245		2,178		207		2,203

	$	25,181		20,189		207		23,076

(1) No specific allowance for credit losses is allocated to these loans since they are sufficiently collateralized or had charge-offs

(2) Excludes accrued interest receivable and loan origination fees, net due to immateriality

The following tables present interest income on impaired loans for the three and nine months ended September 30, 2015 and 2014.

	Three Months Ended Sept. 30, 2015				Nine Months Ended Sept. 30, 2015
	Interest		Cash Basis		Interest		Cash Basis
	Income		Interest Income		Income		Interest Income
	Recognized		Recognized		Recognized		Recognized
	(Dollars in thousands)				(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	—		—		—		—
Financial		—		—		—		—
Agricultural		—		—		—		—
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		43		43		118		118
Non Owner occupied		52		52		161		161
Residential real estate:
Secured by first liens		7		7		37		37
Secured by junior liens		—		—		3		3
Acquisition, development and construction:
Residential		—		—		—		—
Other		6		6		19		19
Consumer		—		—		—		—
	$	108		108		338		338

	Three Months Ended Sept. 30, 2014				Nine Months Ended Sept. 30, 2014
	Interest		Cash Basis		Interest		Cash Basis
	Income		Interest Income		Income		Interest Income
	Recognized		Recognized		Recognized		Recognized
	(Dollars in thousands)				(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	—		—		—		—
Financial		—		—		—		—
Agricultural		—		—		—		—
Equity lines		—		—		—		—
Other		—		—		—		—
Commercial real estate:
Owner occupied		7		7		14		14
Non Owner occupied		88		88		251		251
Residential real estate:
Secured by first liens		6		6		18		18
Secured by junior liens		—		—		—		—
Acquisition, development and construction:
Residential		—		—		—		—
Other		11		11		32		32
Consumer		—		—		—		—
	$	112		112		315		315

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

The following tables present the aging of the recorded investment in past due loans as of September 30, 2015 and December 31, 2014 by class of loans.

	September 30, 2015
	30 - 89 Days		90 Days or		Nonaccrual		Total		Loans Not
	Past Due		More Past Due		Loans		Past Due		Past Due		Total
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	90		—		867		957		114,766		115,723
Financial		—		—		—		—		7,123		7,123
Agricultural		258		—		190		448		10,494		10,942
Equity lines		4		—		78		82		39,619		39,701
Other		—		—		69		69		26,699		26,768
Commercial real estate:
Owner occupied		446		—		2,229		2,675		220,041		222,716
Non Owner occupied		384		—		811		1,195		136,031		137,226
Residential real estate:
Secured by first liens		647		—		2,882		3,529		206,614		210,143
Secured by junior liens		2		—		442		444		5,419		5,863
Acquisition, development and construction:
Residential		—		—		—		—		41,469		41,469
Other		—		—		2,622		2,622		123,648		126,270
Consumer		37		—		34		71		18,234		18,305
	$	1,868		—		10,224		12,092		950,157		962,249

	December 31, 2014
	30 - 89 Days		90 Days or		Nonaccrual		Total		Loans Not
	Past Due		More Past Due		Loans		Past Due		Past Due		Total
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	—		—		2,865		2,865		119,815		122,680
Financial		—		—		—		—		9,355		9,355
Agricultural		276		—		206		482		9,315		9,797
Equity lines		33		—		318		351		33,298		33,649
Other		—		—		69		69		33,355		33,424
Commercial real estate:
Owner occupied		1,638		—		620		2,258		217,650		219,908
Non Owner occupied		—		—		877		877		150,703		151,580
Residential real estate:
Secured by first liens		2,919		—		3,451		6,370		190,970		197,340
Secured by junior liens		347		—		188		535		6,222		6,757
Acquisition, development and construction:
Residential		—		—		—		—		45,264		45,264
Other		258		—		5,874		6,132		112,907		119,039
Consumer		44		—		136		180		17,068		17,248
	$	5,515		—		14,604		20,119		945,922		966,041

Troubled Debt Restructurings:

The Company has troubled debt restructurings (TDRs) with a balance of $8,851 and $9,669 included in impaired loans at September 30, 2015 and December 31, 2014, respectively. No specific reserves were allocated to customers whose loan terms had been modified in TDRs as of September 30, 2015 and December 31, 2014. The Company is not committed to lend additional amounts as of September 30, 2015 and December 31, 2014 to customers with outstanding loans that are classified as TDRs.

The following tables present TDRs as of September 30, 2015 and December 31, 2014.

	September 30, 2015
	Number of		Recorded
	Loans		Investment
	(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		1	$	846
Financial		-		-
Agricultural		-		-
Equity lines		-		-
Other		-		-
Commercial real estate:
Owner occupied		2		2,006
Non Owner occupied		3		2,846
Residential real estate:
Secured by first liens		10		1,160
Secured by junior liens		1		97
Acquisition, development and construction:
Residential		-		-
Other		3		1,896
Consumer		-		-
		20	$	8,851

	December 31, 2014
	Number of		Recorded
	Loans		Investment
	(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		-	$	-
Financial		-		-
Agricultural		-		-
Equity lines		-		-
Other		-		-
Commercial real estate:
Owner occupied		2		354
Non Owner occupied		4		5,878
Residential real estate:
Secured by first liens		9		1,112
Secured by junior liens		1		104
Acquisition, development and construction:
Residential		-		-
Other		3		2,221
Consumer		-		-
		19	$	9,669

During the three and nine months ended September 30, 2015, two loans were modified as TDRs. One modification involved a 2.50% reduction of the stated interest rate of the loan and an extension of the maturity date for 38 months while the other modification involved a 3.00% rate reduction and an extension of the maturity date for 42 months.

During the three months ended September 30, 2014, one loan was modified as a TDR. This modification involved a 1.00% reduction of the stated interest rate of the loan and an extension of the maturity date for 25 months. Two loans were modified as TDRs during the nine months ended September 30, 2014. One modification involved a 1.00% reduction of the stated interest rate of the loan and an extension of the maturity date for 25 months while the other modification involved a 2.13% rate reduction and an extension of the maturity date for 192 months.

The following tables present loans by class modified as TDRs that occurred during the three and nine months ended September 30, 2015 and 2014.

	Three Months Ended September 30, 2015						Three Months Ended September 30, 2014
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number of		Outstanding		Outstanding		Number of		Outstanding		Outstanding
	Loans		Recorded Investment		Recorded Investment		Loans		Recorded Investment		Recorded Investment
	(Dollars in thousands)						(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		1	$	2,046	$	846		-	$	-	$	-
Financial		-		-		-		-		-		-
Agricultural		-		-		-		-		-		-
Equity lines		-		-		-		-		-		-
Other		-		-		-		-		-		-
Commercial real estate:
Owner occupied		-		-		-		-		-		-
Non Owner occupied		-		-		-		-		-		-
Residential real estate:
Secured by first liens		1		86		82		-		-		-
Secured by junior liens		-		-		-		-		-		-
Acquisition, development and construction:
Residential		-		-		-		-		-		-
Other		-		-		-		1		1,906		1,693
Consumer		-		-		-		-		-		-
		2	$	2,132	$	928		1	$	1,906	$	1,693

	Nine Months Ended September 30, 2015						Nine Months Ended September 30, 2014
			Pre-Modification		Post-Modification				Pre-Modification		Post-Modification
	Number of		Outstanding		Outstanding		Number of		Outstanding		Outstanding
	Loans		Recorded Investment		Recorded Investment		Loans		Recorded Investment		Recorded Investment
	(Dollars in thousands)						(Dollars in thousands)
Troubled Debt Restructurings:
Commercial, financial, and agricultural:
Commerical		1	$	2,046	$	846		-	$	-	$	-
Financial		-		-		-		-		-		-
Agricultural		-		-		-		-		-		-
Equity lines		-		-		-		-		-		-
Other		-		-		-		-		-		-
Commercial real estate:
Owner occupied		-		-		-		-		-		-
Non Owner occupied		-		-		-		-		-		-
Residential real estate:
Secured by first liens		1		86		82		1		287		216
Secured by junior liens		-		-		-		-		-		-
Acquisition, development and construction:
Residential		-		-		-		-		-		-
Other		-		-		-		1		1,906		1,693
Consumer		-		-		-		-		-		-
		2	$	2,132	$	928		2	$	2,193	$	1,909

A loan is considered to be in payment default once it is 90 days contractually past due under the modified terms. During the three and nine months ended September 30, 2015, one ADC loan with a recorded investment of $1,372 defaulted during the third quarter of 2015 and the default occurred within the twelve month period following the loan modification.

During the three and nine months ended September 30, 2014, one commercial real estate loan with a recorded investment of $330 defaulted during the third quarter of 2014 and the default occurred after the twelve month period following the loan modification.

During the three and nine months ended September 30, 2015, there was no increase to the allowance for loan losses or resultant charge-offs on the TDRs described in the previous two tables.

During the three months ended September 30, 2014, there was no increase to the allowance for loan losses or resultant charge-offs on the one loan modified as a TDR. During the nine months ended September 30, 2014, the TDRs described in the previous table increased the allowance for loan losses by $53 and resulted in charge-offs of $53.

Charge-offs on such loans are factored into the rolling historical loss rate, which is used in the calculation of the allowance for loan losses.

The terms of certain other loans were modified during the three and nine month periods ended September 30, 2015 and 2014 that did not meet the definition of a TDR. Loans modified during the three month periods have a total recorded investment as of September 30, 2015 and 2014 of $2,791 and $1,885, respectively, and had delays in payment ranging from 30 days to 2 months in 2015 and 2014. Loans modified during the nine month periods have a total recorded investment as of September 30, 2015 and 2014 of $6,810 and $3,338, respectively, and had delays in payment ranging from 30 days to 3 months in 2015 and 2014. The modification of these loans involved either a modification of the terms of a loan to borrowers who were not experiencing financial difficulties or a delay in a payment that was considered to be insignificant.

In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the Company’s internal underwriting policy.

Credit Quality Indicators:

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Company, through its originating account officer, places an initial credit risk rating on every loan. An annual review and analysis of loan relationships (irrespective of loan types included in the overall relationship) with total related exposure of $500 or greater is performed by the Credit Administration department in order to update risk ratings given current available information.

Through the review of delinquency reports, updated financial statements or other relevant information in the normal course of business, the lending officer and/or Credit Administration review personnel may determine that a loan relationship has weakened to the point that a criticized (Watch grade) or classified (Substandard & Doubtful grades) status is warranted. When a loan relationship with total related exposure of $200 or greater is adversely graded (Watch or above), the lending officer is then charged with preparing a Classified/Watch report which outlines the background of the credit problem, current repayment status of the loans, current collateral evaluation and a workout plan of action. This plan may include goals to improve the credit rating, assisting the borrower in moving the loans to another institution and/or collateral liquidation. All such Classified/Watch reports are reviewed on a quarterly basis by members of Executive Management at a regularly scheduled meeting in which each lending officer presents the workout plans for their criticized credit relationships.

The Company uses the following definitions for risk ratings.

Watch: Loans classified as watch have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.

Substandard: Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful: Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans. As of September 30, 2015 and December 31, 2014, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows.

	September 30, 2015
	Pass		Watch		Substandard		Doubtful
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	110,524		2,461		2,738		—
Financial		7,123		—		—		—
Agricultural		7,621		2,698		623		—
Equity lines		38,704		652		345		—
Other		26,366		333		69		—
Commercial real estate:
Owner occupied		199,973		15,280		7,463		—
Non Owner occupied		123,515		6,888		6,823		—
Residential real estate:
Secured by first liens		198,905		6,551		4,687		—
Secured by junior liens		4,941		187		735		—
Acquisition, development and construction:
Residential		41,368		101		—		—
Other		115,405		7,440		3,425		—
Consumer		17,847		381		77		—
	$	892,292		42,972		26,985		—

	December 31, 2014
	Pass		Watch		Substandard		Doubtful
	(Dollars in thousands)
Commercial, financial, and agricultural:
Commerical	$	109,908		7,782		4,990		—
Financial		9,355		—		—		—
Agricultural		6,636		1,960		1,201		—
Equity lines		32,773		287		589		—
Other		33,012		343		69		—
Commercial real estate:
Owner occupied		201,840		14,593		3,475		—
Non Owner occupied		137,973		5,066		8,541		—
Residential real estate:
Secured by first liens		183,898		8,115		5,327		—
Secured by junior liens		6,125		149		483		—
Acquisition, development and construction:
Residential		45,264		—		—		—
Other		101,047		11,597		6,395		—
Consumer		16,919		154		175		—
	$	884,750		50,046		31,245		—

Note 4 – Fair Value Measurements

Fair value is the exchange price that would be received to sell an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. The fair value hierarchy requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair values:

Level 1:

Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2:

Significant other observable inputs other than Level 1 prices, such as quoted market prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data.

Level 3:

Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

In determining the appropriate levels, the Company used the following methods and significant assumptions to estimate the fair value of each type of financial instrument:

Investment Securities: The fair values for investment securities are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on matrix pricing which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities relationship to other benchmark quoted securities (Level 2). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other non-observable market indicators (Level 3). The fair values of Level 3 investment securities are determined by an independent third party. These valuations are then reviewed by the Company’s Controller and CFO. Discounted cash flows are calculated using spread to swap and LIBOR curves that are updated to incorporate loss severities, volatility, credit spread and optionality. During times when trading is more liquid, broker quotes are used (if available) to validate the model. Rating agency and industry research reports as well as defaults and deferrals on individual securities are reviewed and incorporated into the calculations.

Interest Rate Swap Derivatives: The fair value of interest rate swap derivatives is determined based on discounted cash flow valuation models using observable market data as of the measurement date (Level 2 inputs). The fair value adjustment is included in other liabilities.

Mortgage Banking Derivatives: The fair value of mortgage banking derivatives is determined by individual third party sales contract prices for the specific loans held at each reporting period end (Level 2 inputs). The fair value adjustment is included in other assets.

Loans Held for Sale: Loans held for sale are carried at fair value, as determined by outstanding commitments, from third party investors (Level 2). None of the Company’s loans held for sale are past due 90 days or more or on nonaccrual as of September 30, 2015 and December 31, 2014.

Impaired Loans: The fair value of collateral dependent impaired loans is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in Level 3 fair value classification. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Other Real Estate Owned: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. The fair value of other real estate owned is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value. Real estate owned properties are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Appraisals for both collateral dependent impaired loans and other real estate owned are performed by certified general appraisers, certified residential appraisers or state licensed appraisers whose qualifications and licenses are annually reviewed and verified by the Company. Once received, a member of the Real Estate Valuation Department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value and determines if reasonable. Appraisals for collateral dependent impaired loans and other real estate owned are updated annually. On an annual basis the Company compares the actual selling costs of collateral that has been liquidated to the selling price to determine what additional adjustment should be made to the appraisal value. The most recent analysis performed indicated that an additional discount of 8% should be applied to properties with appraisals performed within 12 months.

Assets and Liabilities Measured on a Recurring Basis

The following tables present the balances of assets and liabilities measured at fair value on a recurring basis by level within the hierarchy as of September 30, 2015 and December 31, 2014.

	September 30,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2015		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Available-for-sale securities
Obligations of U.S. Government agencies	$	163,994		-		163,994		-
Obligations of states and political subdivisions		134,562		-		134,562		-
Mortgage-backed securities
U.S. GSE's MBS - residential		136,239		-		136,239		-
U.S. GSE's CMO		147,688		-		147,688		-
Corporate bonds		114,511		-		114,511		-
Total available-for-sale securities	$	696,994		-		696,994		-

Loans held for sale		32,339		-		32,339		-

Mortgage banking derivatives		96		-		96		-

	$	729,429		-		729,429		-

Liabilities:
Interest rate swap derivatives		2,219		-		2,219		-

	$	2,219		-		2,219		-

	December 31,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2014		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Available-for-sale securities
Obligations of U.S. Government agencies	$	178,744		-		178,744		-
Obligations of states and political subdivisions		101,755		-		101,755		-
Mortgage-backed securities
U.S. GSE's MBS - residential		130,036		-		130,036		-
U.S. GSE's CMO		124,461		-		124,461		-
Corporate bonds		109,469		-		109,357		112
Total available-for-sale securities	$	644,465		-		644,353		112

Loans held for sale		18,365		-		18,365		-

Mortgage banking derivatives		6		-		6		-

	$	662,836		-		662,724		112

Liabilities:
Interest rate swap derivatives		1,959		-		1,959		-

	$	1,959		-		1,959		-

The Company’s policy is to recognize transfers into or out of a level as of the end of the reporting period.

Transfers between Level 1 and Level 2:

No securities were transferred between Level 1 and Level 2 during the three and nine months ended September 30, 2015 and 2014.

Transfers between Level 2 and Level 3:

No securities were transferred between Level 2 and Level 3 during the three months ended September 30, 2015. During the nine months ended September 30, 2015, one corporate security was transferred out of Level 3 and into Level 2 based on observable market data for this security due to increased market activity for this security. This security with a market value of $138 as of March 31, 2015 was transferred on March 31, 2015. No securities were transferred between Level 2 and Level 3 during the three and nine months ended September 30, 2014.

The following tables present a reconciliation and income statement classification of gains and losses for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the nine months ended September 30, 2015 and 2014.

Fair Value Measurements Using Significant Unobservable

Inputs (Level 3)

	Total			Corporate bonds
	(Dollars in thousands)

Beginning balance, January 1, 2015	$	112		$	112
Total gains or losses (realized/unrealized)
Included in earnings
Gain (loss) on sales		-			-
Other-than-temporary impairment		-			-
Included in other comprehensive income		26			26
Purchases, sales, issuances and settlements
Purchases		-			-
Sales, Calls		-			-
Issuances		-			-
Settlements		-			-
Principal repayments		-			-
Transfers into Level 3		-			-
Transfers out of Level 3		(138	)		(138	)

Ending balance, September 30, 2015	$	-		$	-

Fair Value Measurements Using Significant Unobservable

Inputs (Level 3)

	Total		Corporate bonds
	(Dollars in thousands)

Beginning balance, January 1, 2014	$	110	$	110
Total gains or losses (realized/unrealized)
Included in earnings
Gain (loss) on sales		-		-
Other-than-temporary impairment		-		-
Included in other comprehensive income		2		2
Purchases, sales, issuances and settlements
Purchases		-		-
Sales, Calls		-		-
Issuances		-		-
Settlements		-		-
Principal repayments		-		-
Transfers into Level 3		-		-
Transfers out of Level 3		-		-

Ending balance, September 30, 2014	$	112	$	112

The Company uses an independent third party to value its U.S. government agencies, mortgage-backed securities, and corporate bonds. Their approach uses relevant information generated by transactions that have occurred in the market place that involve similar assets, as well as using cash flow information when necessary. These inputs are observable, either directly or indirectly in the market place for similar assets. The Company considers these valuations to be Level 2 pricing.

The fair value of the Company’s municipal securities is determined by another independent third party. Their approach uses relevant information generated by transactions that have occurred in the market place that involve similar assets. These inputs are observable, either directly or indirectly in the market place for similar assets. The Company considers these valuations to be Level 2 pricing.

For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows (Level 3 pricing) as determined by an independent third party. The significant unobservable inputs used in the valuation model include prepayment rates, constant default rates, loss severity and yields.

On a quarterly basis, the Company selects a random sample of investment security valuations, as determined by the independent third party, to validate pricing and level assignments.

At September 30, 2015, there were no financial instruments measured at fair value on a recurring basis using level 3 inputs.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a recurring basis at December 31, 2014.

	Dec. 31,	Valuation	Unobservable	Range
	2014	Technique	Inputs	(Weighted Avg)
	(Dollars in thousands)
Available-for-sale securities Corporate bonds	112	discounted cash flow	yield	10.00%

The significant unobservable inputs used in the fair value measurement of the Company’s corporate bonds are yields that the market would require for corporate debt obligations with similar maturities and risk characteristics.

Assets and Liabilities Measured on a Non-Recurring Basis

Assets and liabilities measured at fair value on a non-recurring basis as of September 30, 2015 and December 31, 2014 are summarized below.

	September 30,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2015		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Impaired loans (1)
Commercial, financial, and agricultural	$	846		-		-		846
Real estate:
Commercial		2,817		-		-		2,817
Residential		1,289		-		-		1,289
Acquisition, development and construction		1,968		-		-		1,968
Consumer installment		-		-		-		-
	$	6,920		-		-		6,920

Other real estate owned
Real estate:
Acquisition, development and construction	$	360		-		-		360
	$	360		-		-		360
	$	7,280		-		-		7,280

(1) Includes loans directly charged down to fair value.

	December 31,		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	2014		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Impaired loans
Commercial, financial, and agricultural	$	2,582		-		-		2,582
Real estate:
Commercial		2,166		-		-		2,166
Residential		1,421		-		-		1,421
Acquisition, development and construction		5,352		-		-		5,352
Consumer installment		2		-		-		2
	$	11,523		-		-		11,523

Other real estate owned
Real estate:
Commercial	$	144		-		-		144
Acquisition, development and construction		435		-		-		435
	$	579		-		-		579
	$	12,102		-		-		12,102

The following represents impairment charges recognized during the period:

Impaired loans, which are measured for impairment using the fair value of collateral for collateral dependent loans, had a recorded investment of $6,920, resulting in an additional provision for loan losses of $1,191 and $2,340 for the three and nine months ended September 30, 2015.

As of December 31, 2014, impaired loans had a recorded investment of $11,730, with a valuation allowance of $207, resulting in an additional provision for loan losses of $2,038 for the year ending 2014.

Other real estate owned was $360 which consisted of the outstanding balance of $608, less a valuation allowance of $248. There were no write downs on this property for the three and nine months ended September 30, 2015.

As of December 31, 2014, other real estate owned was $579 which consisted of the outstanding balance of $896, less a valuation allowance of $317, resulting in a write down of $266 for the year ending 2014.

The following tables present quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at September 30, 2015 and December 31, 2014.

	Sept. 30,	Valuation	Unobservable	Range
	2015	Techniques	Inputs	(Weighted Avg)
	(Dollars in thousands)
Impaired loans
Commercial, financial and agricultural	846	sales comparison	adjustment for	0.00% - 30.00% (15.00%)
			differences between
			the comparable sales

		income approach	capitalization rate	10.82%

Real estate:
Commercial	2,817	sales comparison	adjustment for	0.00% - 70.99% (17.69%)
			differences between
			the comparable sales

		income approach	capitalization rate	8.25% - 9.50% (9.31%)

Residential	1,289	sales comparison	adjustment for	0.00% - 37.00% (10.10%)
			differences between
			the comparable sales

		liquidation value

Acquisition, development and construction	1,968	sales comparison	adjustment for	0.00% - 161.40% (34.95%)
			differences between
			the comparable sales


Other real estate owned
Real estate:
Acquisition, development and construction	360	sales comparison	adjustment for	11.00% - 25.00% (18.00%)
			differences between
			the comparable sales

	Dec. 31,	Valuation	Unobservable	Range
	2014	Techniques	Inputs	(Weighted Avg)
	(Dollars in thousands)
Impaired loans
Commercial, financial and agricultural	2,582	sales comparison	adjustment for differences between the comparable sales	7.00% - 50.00% (28.50%)

		income approach	capitalization rate	9.39%

		liquidation value

Real estate:
Commercial	2,166	sales comparison	adjustment for differences between the comparable sales	0.00% - 70.99% (19.92%)

		income approach	capitalization rate	8.25% - 10.00% (8.97%)

		liquidation value

Residential	1,421	sales comparison	adjustment for differences between the comparable sales	1.30% - 24.46% (7.24%)

Acquisition, development and construction	5,352	sales comparison	adjustment for differences between the comparable sales	0.00% - 161.40% (28.55%)

		income approach	discount rate	9.50% - 10.00% (9.69%)

Consumer installment	2	liquidation value

Other real estate owned
Real estate:
Commercial	144	sales comparison	adjustment for differences between the comparable sales	0.00% - 25.00% (12.50%)

Acquisition, development and construction	435	sales comparison	adjustment for differences between the comparable sales	5.00% - 60.00% (27.12%)

Disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value is required. Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument.

Because no market exists for a portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

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

The assumptions used in the estimation of the fair value of the Company’s financial instruments are explained below. Where quoted market prices are not available, fair values are based on estimates using discounted cash flow and other valuation techniques. Discounted cash flows can be significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The following fair value estimates cannot be substantiated by comparison to independent markets and should not be considered representative of the liquidation value of the Company’s financial instruments, but rather a good-faith estimate of the fair value of financial instruments held by the Company. Certain financial instruments and all nonfinancial instruments are excluded from disclosure requirements.

The following methods and assumptions, not previously presented, were used by the Company in estimating the fair value of its financial instruments:

(a)

Cash and Cash Equivalents

Fair value equals the carrying value of such assets due to their nature and is classified as Level 1.

(b)

Loans, net

The fair value of loans is calculated using discounted cash flows by loan type resulting in a Level 3 classification. The discount rate used to determine the present value of the loan portfolio is an estimated market rate that reflects the credit and interest rate risk inherent in the loan portfolio without considering widening credit spreads due to market illiquidity. The estimated maturity is based on the Company’s historical experience with repayments adjusted to estimate the effect of current market conditions. The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2 classification. The allowance for loan losses is considered a reasonable discount for credit risk. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

(c)

Restricted Equity Securities

The fair value of Federal Home Loan Bank (“FHLB”) stock was not practicable to determine due to restrictions placed on its transferability.

(d)

Accrued Interest Receivable

The carrying amount of accrued interest approximates its fair value. Interest related to loans is classified as Level 3 while interest related to securities and loans held for sale is classified as Level 2.

(e)

Deposits

Fair values for certificates of deposit have been determined using discounted cash flows. The discount rate used is based on estimated market rates for deposits of similar remaining maturities and are classified as Level 2. The carrying amounts of all other deposits, due to their short-term nature, approximate their fair values and are classified as Level 1. The carrying amount of related accrued interest payable, due to its short-term nature, approximates its fair value, is not significant and is not disclosed.

(f)

Securities Sold Under Repurchase Agreements

Fair value approximates the carrying value of such liabilities due to their short-term nature and is classified as Level 1.

(g)

Advances from FHLB

The fair value of the FHLB advances is obtained from the FHLB and is calculated by discounting contractual cash flows using an estimated interest rate based on the current rates available to the Company for debt of similar remaining maturities and collateral terms resulting in a Level 2 classification.

(h)

Subordinated debentures

The fair value for subordinated debentures is calculated using discounted cash flows based upon current market spreads to LIBOR for debt of similar remaining maturities and collateral terms resulting in a Level 3 classification.

(i)

Commitments

The difference between the carrying values and fair values of commitments to extend credit are not significant and are not disclosed.

The carrying amounts and estimated fair values of the Company’s financial instruments at September 30, 2015 and December 31, 2014, not previously presented, are as follows:

	September 30, 2015

	Carrying		Fair Value Measurements
	amount		Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Financial assets:
Cash and cash equivalents	$	50,561		50,561		50,561		-		-
Loans, net		933,314		932,254		-		-		932,254
Restricted equity securities		4,361		N/A
Accrued interest receivable		6,283		6,283		-		3,770		2,513
Financial liabilities:
Deposits with stated maturities		352,383		354,214		-		354,214		-
Deposits without stated maturities		1,188,597		1,188,597		1,188,597		-		-
Securities sold under repurchase agreements		633		633		633		-		-
Advances from FHLB		66,000		68,431		-		68,431		-
Subordinated debentures		20,000		15,020		-		-		15,020

	December 31, 2014

	Carrying		Fair Value Measurements
	amount		Total		Level 1		Level 2		Level 3
	(Dollars in thousands)
Financial assets:
Cash and cash equivalents	$	35,995		35,995		35,995		-		-
Loans, net		929,327		925,997		-		-		925,997
Restricted equity securities		4,398		N/A
Accrued interest receivable		5,898		5,898		-		3,140		2,758
Financial liabilities:
Deposits with stated maturities		375,808		376,607		-		376,607		-
Deposits without stated maturities		1,088,056		1,088,056		1,088,056		-		-
Securities sold under repurchase agreements		10,678		10,678		10,678		-		-
Advances from FHLB		64,000		67,551		-		67,551		-
Subordinated debentures		20,000		14,886		-		-		14,886

Note 5 – Stock-Based Compensation

The Company’s 2006 Long Term Incentive Plan provides for the issuance of restricted stock awards to officers and directors. Compensation expense is recognized over the vesting period of the awards based on the fair value of the stock at issue date.

On March 19, 2014, the Compensation Committee of the Company approved grants of 63,000 shares to certain of its directors and executive officers. The fair value of the stock was determined using the closing price on date of grant. The shares vest in equal one-third increments on each of February 1, 2015; February 1, 2016; and February 1, 2017.

A summary of changes in the Company’s nonvested shares for the nine month period ended September 30, 2015 is as follows:

				Weighted Avg
	Number of			Grant-Date
	Shares			Fair Value

Nonvested at January 1, 2015		63,000		$	21.60
Granted		-			-
Vested		(21,000	)		21.60
Forfeited		-			-
Nonvested at September 30, 2015		42,000		$	21.60

As of September 30, 2015, there was $622 of total unrecognized compensation cost related to nonvested shares granted under the Plan. This cost is being recognized over a period of sixteen months.

The total fair value of shares vested during the nine month period ended September 30, 2015 was $567 based on the market price as of the vesting date.

Note 6 – Interest Rate Swap Derivatives

The Company utilizes interest rate swap agreements as part of its asset liability management strategy to help manage its interest rate risk position. The notional amount of the interest rate swaps does not represent amounts exchanged by the parties. The amount exchanged is determined by reference to the notional amount and the other terms of the individual interest rate swap agreements.

During May 2011, the Company entered into two interest rate swaps with notional amounts totaling $10,000 which were designated as cash flow hedges of certain subordinated debentures and were determined to be fully effective during all periods presented. As such, no amount of ineffectiveness has been included in net income. Therefore, the aggregate fair value of the swaps is recorded in other liabilities with changes in fair value recorded in other comprehensive income. The amount included in accumulated other comprehensive income would be reclassified to current earnings should the hedges no longer be considered effective. The Company expects the hedges to remain highly effective during the remaining terms of the swaps.

Summary information about the interest rate swaps designated as cash flow hedges as of September 30, 2015 and December 31, 2014 is as follows:

	September 30, 2015			December 31, 2014
	(Dollars in thousands)

Notional Amounts	$	10,000		$	10,000
Weighted average pay rates		5.35	%		5.35	%
Weighted average receive rates		1.74	%		1.64	%
Weigted average maturity		13.33 years			14.08 years
Unrealized losses	$	2,219		$	1,959

The swaps were forward starting and had effective dates of March 15, 2012 and June 15, 2012. Interest expense recorded on these swap transactions totaled $93 and $95 for the three months ended September 30, 2015 and 2014 and $279 and $281 for the nine months ended September 30, 2015 and 2014, respectively, and is reported as a component of interest expense in other borrowings.

If the fair value falls below specified levels, the Company is required to pledge collateral against these derivative contract liabilities. As of September 30, 2015, the Company had pledged $2,236 with the counterparty. Under certain circumstances, including a downgrade of its credit rating below specified levels, the counterparty is required to pledge collateral against these derivative contract liabilities. As of September 30, 2015, no collateral had been pledged by the counterparty.

Note 7 – Other Comprehensive Income (Loss)

Other comprehensive income (loss) for the Company consists of changes in net unrealized gains and losses on investment securities available-for-sale and interest rate swap derivatives. The following tables present a summary of the accumulated other comprehensive income balances, net of tax, as of September 30, 2015 and 2014.

	Unrealized Gain (Loss) on Derivatives			Unrealized Gain (Loss) on Securities			Accumulated Other Comprehensive Income (Loss)
	(Dollars in thousands)

Balance, June 30, 2015	$	(1,049	)	$	(337	)	$	(1,386	)

Current Quarter change		(307	)		3,445			3,138
Balance, September 30, 2015	$	(1,356	)	$	3,108		$	1,752

	Unrealized Gain (Loss) on Derivatives			Unrealized Gain (Loss) on Securities			Accumulated Other Comprehensive Income (Loss)
	(Dollars in thousands)

Balance, June 30, 2014	$	(862	)	$	(454	)	$	(1,316	)

Current Quarter change		(17	)		(650	)		(667	)
Balance, September 30, 2014	$	(879	)	$	(1,104	)	$	(1,983	)

	Unrealized Gain (Loss) on Derivatives			Unrealized Gain (Loss) on Securities		Accumulated Other Comprehensive Income (Loss)
	(Dollars in thousands)

Balance, December 31, 2014	$	(1,197	)	$	1,268	$	71

Current Year change		(159	)		1,840		1,681
Balance, September 30, 2015	$	(1,356	)	$	3,108	$	1,752

	Unrealized Gain (Loss) on Derivatives			Unrealized Gain (Loss) on Securities			Accumulated Other Comprehensive Income (Loss)
	(Dollars in thousands)

Balance, December 31, 2013	$	(469	)	$	(9,632	)	$	(10,101	)

Current Year change		(410	)		8,528			8,118
Balance, September 30, 2014	$	(879	)	$	(1,104	)	$	(1,983	)

The following tables present reclassifications out of accumulated other comprehensive income (loss).

	Three Months Ended September 30,
	2015			2014
Details about Accumulated Other Comprehensive Income Components	Amount reclassified from Accumulated Other Comprehensive Income			Amount reclassified from Accumulated Other Comprehensive Income			Affected line item in the Statement where Net Income is presented
(Dollars in thousands)
Unrealized gains and losses on available-for-sale securities
	$	(165	)	$	215		Investment securities (losses) gains, net
		53			(66	)	Tax benefit (expense)
	$	(112	)	$	149		Net of tax

	Nine Months Ended September 30,
	2015			2014
Details about Accumulated Other Comprehensive Income Components	Amount reclassified from Accumulated Other Comprehensive Income			Amount reclassified from Accumulated Other Comprehensive Income			Affected line item in the Statement where Net Income is presented
(Dollars in thousands)
Unrealized gains and losses on available-for-sale securities
	$	(1,005	)	$	492		Investment securities (losses) gains, net
		323			(153	)	Tax benefit (expense)
	$	(682	)	$	339		Net of tax

Note 8 – Dividends

On January 14, 2015, the Company declared a quarterly cash dividend of $0.15 per share on outstanding shares. The dividend was paid on February 13, 2015 to shareholders of record as of January 30, 2015.

On April 22, 2015, the Company declared a quarterly cash dividend of $0.15 per share on outstanding shares. The dividend was paid on May 22, 2015 to shareholders of record as of May 8, 2015.

On July 22, 2015, the Company declared a quarterly cash dividend of $0.15 per share on outstanding shares. The dividend was paid on August 21, 2015 to shareholders of record as of August 7, 2015.

On October 21, 2015, the Company declared a quarterly cash dividend of $0.15 per share on outstanding shares. The dividend is payable on November 20, 2015 to shareholders of record as of November 6, 2015.

Item 2.

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

(Dollar amounts, except per share amounts, are expressed in thousands unless otherwise noted)

Overview

Southeastern Bank Financial Corporation (the “Company”) is a Georgia corporation that is a bank holding company registered with the Board of Governors of the Federal Reserve System (the “Federal Reserve”) under the Bank Holding Company Act of 1956, as amended (the “BHCA”). Southeastern Bank Financial Corporation (OTCQB: SBFC) trades on OTCQB, the marketplace for companies that are current in their reporting with a U.S. regulator. Investors can find Real-Time quotes and market information for the Company on www.otcmarkets.com.

The Company’s wholly-owned subsidiary, Georgia Bank & Trust Company of Augusta (“GB&T”), primarily does business in the Augusta-Richmond County, GA-SC metropolitan area. GB&T was organized by a group of local citizens and commenced business on August 28, 1989, with one branch location. Today, it is Augusta’s largest community banking company, operating nine full service branches in Augusta, Martinez, and Evans, Georgia. GB&T also operates three full service branches in North Augusta and Aiken, South Carolina under the name “Southern Bank & Trust, a division of Georgia Bank & Trust Company of Augusta.” Mortgage origination offices are located in Augusta and Savannah, Georgia and in Aiken, South Carolina. The Company’s Operations Center is located in Martinez, Georgia.

The Company’s primary market includes Richmond and Columbia Counties in Georgia and Aiken County in South Carolina, all part of the Augusta-Richmond County, GA-SC metropolitan statistical area (MSA). The Augusta market area has a diversified economy based principally on government, public utilities, health care, manufacturing, construction, and wholesale and retail trade. Augusta is one of the leading medical centers in the Southeast.

The Company’s services include the origination of residential and commercial real estate loans, construction and development loans, and commercial and consumer loans. The Company also offers a variety of deposit programs, including noninterest-bearing demand, interest checking, money management, savings, and time deposits. In its primary market area, the Augusta-Richmond County, GA-SC metropolitan area, the Company had 19.45% of all deposits and was the 2nd largest depository institution and the largest locally based institution at June 30, 2015, as cited from the Federal Deposit Insurance Corporation’s (“FDIC”) website. Securities sold under repurchase agreements are also offered. Additional services include wealth management, trust, retail investment, and mortgage. As a matter of practice, most mortgage loans are sold in the secondary market; however, some mortgage loans are placed in the portfolio based on asset/liability management strategies. The Company continues to concentrate on increasing its market share through various new deposit and loan products and other financial services and by focusing on its customer relationship management philosophy. The Company is committed to building life-long relationships with its customers, employees, shareholders, and the communities it serves.

The Company’s primary source of income is from its lending activities, followed by interest income from its investment activities, service charges and fees on deposits and gain on sales of mortgage loans in the secondary market. Interest income on loans including loans held for sale increased $664 or 1.92% for the first nine months of 2015 as compared to the first nine months of 2014 and was due to higher average balances of loans offset somewhat by lower yields. In addition, the 2015 period includes collection of interest on a large nonaccrual loan repaid during the second quarter. Interest income on investment securities increased $720 or 6.75% due primarily to both increased volume and rate. Gain on sales of loans increased $1,409 or 36.04% due primarily to increased mortgage originations and refinancing activity during the first nine months of the year.

Table 1 - Selected Financial Data

	September 30,			December 31,			September 30,
	2015			2014			2014
	(Dollars in thousands)

Assets		1,816,968		$	1,732,781		$	1,752,760
Investment securities		696,994			644,465			660,983
Loans		962,414			966,356			957,317
Deposits		1,540,980			1,463,864			1,499,931

Annualized return on average total assets		1.10	%		0.96	%		0.95	%
Annualized return on average equity		12.23	%		11.49	%		11.50	%

Annualized return on average total assets was 1.10% for the nine months ended September 30, 2015, an increase from 0.95% for the same period last year and annualized return on average equity was 12.23% for the nine months ended September 30, 2015, an increase from 11.50% for the same period last year. Net income for the nine months ended September 30, 2015 was $14,761 compared to $12,232 for the same period in 2014.

Table 2 highlights significant changes in the balance sheet at September 30, 2015 as compared to December 31, 2014. Total assets increased $84,187 and reflect increases in cash and equivalents of $14,566, investment securities of $52,529 and loans held for sale of $13,974. Partially offsetting these increases were loans which decreased $3,942. Total liabilities increased $70,350 and reflect an increase in deposits of $77,116 offset by a $10,045 decrease in securities sold under repurchase agreements. Stockholders’ equity increased $13,837 and was due primarily to an increase in retained earnings of $11,726 and a $1,681 increase in accumulated other comprehensive income, net.

Table 2 - Selected Balance Sheet Data

	September 30,		December 31,		Variance
	2015		2014		Amount			%
	(Dollars in thousands)
Cash, due from banks and interest-bearing deposits	$	50,561	$	35,995	$	14,566			40.47	%
Investment securities		696,994		644,465		52,529			8.15	%
Loans		962,414		966,356		(3,942	)		(0.41	%)
Other real estate owned		360		1,107		(747	)		(67.48	%)
Deferred tax asset		12,316		15,263		(2,947	)		(19.31	%)
Assets		1,816,968		1,732,781		84,187			4.86	%
Deposits		1,540,980		1,463,864		77,116			5.27	%
Securities sold under repurchase agreements		633		10,678		(10,045	)		(94.07	%)
Advances from Federal Home Loan Bank		66,000		64,000		2,000			3.13	%
Liabilities		1,647,845		1,577,495		70,350			4.46	%
Stockholders' equity		169,123		155,286		13,837			8.91	%

The Company meets its liquidity needs by managing cash and due from banks, federal funds purchased and sold, maturity of investment securities, principal repayments from mortgage-backed securities, and draws on lines of credit. Additionally, liquidity can be managed through structuring deposit and loan maturities. The Company funds loan and investment growth with core deposits, securities sold under repurchase agreements, Federal Home Loan Bank advances and other wholesale funding including brokered certificates of deposit. During inflationary periods, interest rates generally increase and operating expenses generally rise. When interest rates rise, variable rate loans and investments produce higher earnings; however, deposit and other borrowings interest expense also rise. The Company monitors its interest rate risk as it applies to net interest income in a ramp up and down annually 400 basis points (4.00%) scenario and as it applies to economic value of equity in a shock up and down 400 basis points (4.00%) scenario. The Company monitors operating expenses through responsibility center budgeting.

Forward-Looking Statements

Southeastern Bank Financial Corporation may, from time to time, make written or oral forward-looking statements, including statements contained in the Company’s filings with the Securities and Exchange Commission (the “Commission”) and its reports to shareholders. Statements made in such documents, other than those concerning historical information, should be considered forward-looking and subject to various risks and uncertainties. Such forward-looking statements are made based upon management’s belief as well as assumptions made by, and information currently available to, management pursuant to “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. The Company’s actual results may differ materially from the results anticipated in forward-looking statements due to a variety of factors, including unanticipated changes in the Company’s local economies, the national economy, governmental monetary and fiscal policies, deposit levels, loan demand, loan collateral values and securities portfolio values; difficulties in interest rate risk management; the effects of competition in the banking business; difficulties in expanding the Company’s business into new markets; changes in governmental regulation relating to the banking industry, including but not limited to the Dodd-Frank Wall Street Reform and Consumer Protection Act and the Basel III international capital accord; failure of assumptions underlying the establishment of reserves for loan losses, including the value of collateral underlying delinquent loans; and other factors. The Company cautions that such factors are not exclusive. The Company does not undertake to update any forward-looking statement that may be made from time to time by, or on behalf of, the Company.

Critical Accounting Estimates

The accounting and financial reporting policies of the Company and its subsidiary conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. Of these policies, management has identified the allowance for loan losses, determining the fair values of financial instruments including other real estate owned, interest rate swap derivatives, investment securities, and other-than-temporary impairment as critical accounting estimates that requires difficult, subjective judgment and are important to the presentation of the financial condition and results of operations of the Company.

Allowance for Loan Losses

The allowance for loan losses is established through a provision for loan losses charged to expense, which affects the Company’s earnings directly. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Subsequent recoveries are added to the allowance. The allowance is an amount that reflects management’s estimate of the level of probable incurred losses in the portfolio. Factors considered by management in determining the adequacy of the allowance include, but are not limited to: (1) detailed reviews of individual loans; (2) historical and current trends in loan charge-offs for the various portfolio segments evaluated; (3) the level of the allowance in relation to total loans and to historical loss levels; (4) levels and trends in non-performing and past due loans; (5) collateral values of properties securing loans; and (6) management’s assessment of economic conditions. The Company’s Board of Directors reviews the recommendations of management regarding the appropriate level for the allowance for loan losses based upon these factors.

The provision for loan losses is the charge to operating earnings necessary to maintain an adequate allowance for loan losses. The Company has developed policies and procedures for evaluating the overall quality of its loan portfolio and the timely identification of problem credits. Management continues to review these policies and procedures and makes further improvements as needed. The adequacy of the Company’s allowance for loan losses and the effectiveness of the Company’s internal policies and procedures are also reviewed periodically by the Company’s regulators and the Company’s internal loan review personnel. The Company’s regulators may advise the Company to recognize additions to the allowance based upon their judgments about information available to them at the time of their examination. Such regulatory guidance is considered, and the Company may recognize additions to the allowance as a result.

The Company continues to refine the methodology on which the level of the allowance for loan losses is based by comparing historical loss ratios utilized to actual experience and by classifying loans for analysis based on similar risk characteristics. Cash receipts for accruing loans are applied to principal and interest under the contractual terms of the loan agreement; however, cash receipts on impaired and nonaccrual loans for which the accrual of interest has been discontinued are applied to principal and interest income depending upon the overall risk of principal loss to the Company.

Fair Value of Financial Instruments

A significant portion of the Company’s assets are financial instruments carried at fair value. This includes securities available-for-sale, loans held for sale, certain impaired loans, mortgage banking derivatives and other real estate owned. At September 30, 2015 and December 31, 2014 the percentage of total assets measured at fair value was 40.55% and 38.95%, respectively. The majority of assets carried at fair value are based on either quoted market prices or market prices for similar instruments. At September 30, 2015, 0.99% of assets measured at fair value were based on significant unobservable inputs. This consisted primarily of impaired loans and other real estate owned and represents approximately 0.40% of the Company’s total assets. See Note 4 “Fair Value Measurements” in the “Notes to Consolidated Financial Statements” herein for additional disclosures regarding the fair value of financial instruments.

Other Real Estate Owned

Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through expense. Operating costs after acquisition are expensed. Costs related to the development and improvement of real estate owned are capitalized.

Interest Rate Swap Derivatives

The fair value of interest rate swap derivatives is determined based on discounted cash flow valuation models using observable market data as of the measurement date. The fair value adjustment is included in other liabilities. See Note 1 “Summary of Significant Accounting Policies” in the “Notes to Consolidated Financial Statements” herein for additional disclosures regarding the fair value of financial instruments.

Investment Securities

The fair values for available-for-sale securities are generally based upon quoted market prices or observable market prices for similar instruments. These values take into account recent market activity as well as other market observable data such as interest rate, spread and prepayment information. When market observable data is not available, which generally occurs due to the lack of liquidity for certain securities, the valuation of the security is subjective and may involve substantial judgment. The Company conducts periodic reviews to identify and evaluate each available-for-sale security that has an unrealized loss for other-than-temporary impairment. An unrealized loss exists when the fair value of an individual security is less than its amortized cost basis. The primary factors the Company considers in determining whether an impairment is other-than-temporary are the financial condition and near-term prospects of the issuer, including any specific events which may influence the operations of the issuer and whether the Company intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis. As of September 30, 2015, the Company had no securities valued using unobservable inputs (Level 3).

Results of Operations

Net income for the first nine months of 2015 was $14,761, an increase of $2,529 or 20.68% compared with net income of $12,232 for the first nine months of 2014. Increases in net interest income, gain on sales of loans and reduced provision for loan losses were partially offset by increased operating expenses and losses on sales of investment securities.

Total other comprehensive income for the first nine months of 2015 was $1,681 compared to $8,118 in the first nine months of 2014. The change was due primarily to a decrease in the unrealized gain on securities available-for-sale of $12,443 during the nine months ended September 30, 2015 as compared to the same period last year which was caused by an increase in market interest rates and therefore a decrease in the market value of the portfolio.

Noninterest income increased $215 or 1.55% for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014 and resulted primarily from increased gain on sales of loans of $1,409 which was offset by investment securities (losses) gains which decreased $1,497.

Noninterest expense totaled $34,847 for the nine months ended September 30, 2015, an increase of $3,038, or 9.55% compared to the same period ended September 30, 2014. The change was primarily due to an increase in salaries and other personnel expense of $1,763 due to a combination of new positions, salary increases, and benefit accruals. In addition the Company incurred a $955 prepayment penalty fee on an FHLB Advance.

Net Interest Income

The primary source of earnings for the Company is net interest income, which is the difference between income on interest-earning assets, such as loans and investment securities, and interest expense incurred on interest-bearing sources of funds, such as deposits and borrowings. The following table shows the average balances of interest-earning assets and interest-bearing liabilities, annualized average yields earned and rates paid on those respective balances, and the actual interest income and interest expense for the periods indicated. Average balances are calculated based on daily balances, yields on non-taxable investments are not reported on a tax equivalent basis and average balances for loans include nonaccrual loans even though interest was not earned.

Table 3 - Average Balances, Income and Expenses, Yields and Rates

	Three Months Ended Sept. 30, 2015							Three Months Ended Sept. 30, 2014
	Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned		Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned
	(Dollars in thousands)
Interest-earning assets:
Loans	$	944,967		4.70	%	$	11,302	$	954,151		4.75	%	$	11,526
Loans held for sale		34,849		3.21	%		282		21,589		3.40	%		185
Investment securities
Taxable		582,274		2.15	%		3,123		560,908		2.07	%		2,904
Tax-exempt		111,353		2.95	%		822		81,514		3.01	%		614
Interest-bearing deposits in other banks		5,204		1.52	%		20		10,154		0.55	%		14
Total interest-earning assets	$	1,678,647		3.66	%	$	15,549	$	1,628,316		3.69	%	$	15,243

Interest-bearing liabilities:
Deposits	$	1,315,421		0.44	%	$	1,443	$	1,296,613		0.47	%	$	1,535
Securities sold under repurchase agreements		3,843		0.62	%		6		630		0.63	%		1
Other borrowings		79,043		2.82	%		562		84,108		3.07	%		651
Total interest-bearing liabilities	$	1,398,307		0.57	%	$	2,011	$	1,381,351		0.63	%	$	2,187

Net interest margin/income:				3.18	%	$	13,538				3.16	%	$	13,056

Table 4 - Average Balances, Income and Expenses, Yields and Rates

	Nine Months Ended Sept. 30, 2015							Nine Months Ended Sept. 30, 2014
	Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned		Average Amount		Annualized Average Yield or Rate			Amount Paid or Earned
	(Dollars in thousands)
Interest-earning assets:
Loans		958,103		4.80	%		34,707		937,733		4.83	%		34,220
Loans held for sale		25,119		3.13	%		589		16,867		3.27	%		412
Investment securities
Taxable		564,598		2.16	%		9,128		565,300		2.06	%		8,730
Tax-exempt		102,330		2.95	%		2,262		83,765		3.09	%		1,940
Interest-bearing deposits in other banks		8,996		0.80	%		54		12,542		0.50	%		47
Total interest-earning assets	$	1,659,146		3.74	%	$	46,740	$	1,616,207		3.72	%	$	45,349

Interest-bearing liabilities:
Deposits	$	1,305,290		0.45	%	$	4,354	$	1,290,614		0.49	%	$	4,709
Securities sold under repurchase agreements		2,933		0.51	%		11		1,107		0.45	%		4
Other borrowings		81,920		2.98	%		1,826		84,762		3.12	%		1,978
Total interest-bearing liabilities	$	1,390,143		0.60	%	$	6,191	$	1,376,483		0.65	%	$	6,691

Net interest margin/income:				3.24	%	$	40,549				3.17	%	$	38,658

Third Quarter 2015 compared to Third Quarter 2014:

Net interest income increased $482 (3.69%) during the three month period ended September 30, 2015 as compared to the same period in 2014 and resulted from higher levels of interest earning assets and lower rates paid on deposits.

Loan interest income decreased $224 (1.94%) in the three month period as compared to the same period in the prior year. The change resulted primarily from a $9,184 decrease in average loans and a decrease in yields from 4.75% to 4.70%. Interest on loans held for sale increased $97 and resulted primarily from a $13,260 increase in average loans offset by a decrease in yields from 3.40% to 3.21%.

Interest income on taxable investment securities increased $219 or 7.54% and interest income on tax-exempt investment securities increased $208 or 33.88%. The changes were due primarily to volume for tax-exempt securities and to rate and volume for taxable securities. Average taxable investment balances increased $21,366 or 3.81% and average tax-exempt balances increased $29,839 or 36.61%. The average yield on the taxable investment portfolio increased from 2.07% in the third quarter of 2014 to 2.15% in the third quarter of 2015 and the average yield on the tax-exempt investment portfolio declined from 3.01% in the third quarter of 2014 to 2.95% in the third quarter of 2015.

Total interest income increased $306 (2.01%) and average yields on interest-earning assets decreased from 3.69% in 2014 to 3.66% in 2015.

Deposit interest expense decreased $92 (5.99%) in the three month period as compared to the same period in the prior year, primarily as a result of lower rates paid on deposits offset in part by an increase in average deposits of $18,808. Due to these reductions and the low interest rate environment, the annualized average rate of interest bearing liabilities decreased from 0.63% in the third quarter of 2014 to 0.57% in the third quarter of 2015.

The Company’s net interest margin for the three months ended September 30, 2015 increased 2 basis points to 3.18% compared to 3.16% for the three months ended September 30, 2014. The increase in the net interest margin was due a larger volume of average interest earning assets and reduced liability costs.

Nine Months Ended September 30, 2015 compared to Nine Months Ended September 30, 2014:

Net interest income increased $1,891 (4.89%) during the nine month period ended September 30, 2015 as compared to the same period in 2014 and resulted primarily from higher levels of interest earning assets, lower rates paid on deposits and the collection of $530 in past due interest on an impaired loan that was repaid during the second quarter of 2015.

Loan interest income increased $487 (1.42%) in the nine month period as compared to the same period in the prior year. The change resulted primarily from a $20,370 increase in average loans offset in part by lower yields, which decreased from 4.83% to 4.80%. Interest on loans held for sale increased $177 and resulted primarily from an $8,252 increase in average loans offset by a decrease in yields from 3.27% to 3.13%.

Interest income on taxable investment securities increased $398 or 4.56% and interest income on tax-exempt investment securities increased $322 or 16.60%. The increases were primarily due to rate on taxable investments and to volume on tax-exempt. Average taxable investment balances decreased $702 or 0.12% and average tax-exempt balances increased $18,565 or 22.16%. The average yield on the taxable investment portfolio increased from 2.06% in 2014 to 2.16% in 2015 and the average yield on the tax-exempt investment portfolio declined from 3.09% in 2014 to 2.95% in 2015.

Total interest income increased $1,391 (3.07%) and average yields on interest-earning assets increased from 3.72% in 2014 to 3.74% in 2015.

Deposit interest expense decreased $355 (7.54%) in the nine month period as compared to the same period in the prior year, primarily as a result of lower rates paid on deposits offset in part by an increase in average deposits of $14,676. Due to these reductions and the low interest rate environment, the annualized average rate of interest bearing liabilities decreased from 0.65% in 2014 to 0.60% in 2015.

The Company’s net interest margin for the nine months ended September 30, 2015 increased 7 basis points to 3.24% compared to 3.17% for the nine months ended September 30, 2014. The increase in the net interest margin was due to a larger volume of average interest earning assets, reduced liability costs and the collection of $530 in past due interest on an impaired loan that was repaid during the second quarter of 2015.

Changes in net interest income from period to period result from increases or decreases in the volume of interest-earning assets and interest-bearing liabilities, increases or decreases in the average rates earned and paid on such assets and liabilities, the ability to manage the earning asset portfolio, and the availability of particular sources of funds, such as noninterest-bearing deposits.

The following table presents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have impacted the Company’s interest income and interest expense during the period indicated. Information is provided in each category with respect to changes attributable to change in volume (change in volume multiplied by prior rate), changes attributable to change in rate (change in rate multiplied by prior volume), and changes in rate/volume (change in rate multiplied by change in volume).

Table 5 - Rate/Volume Analysis

	Three Months Ended Sept. 30, 2015
	compared to Three Months Ended Sept. 30, 2014
	Increase (Decrease) due to
	Volume			Rate			Combined			Total
	(Dollars in thousands)
Interest-earning assets:
Loans		(111	)		(114	)		1			(224	)
Loans held for sale		113			(10	)		(6	)		97
Investment securities
Taxable		111			104			4			219
Tax-exempt		225			(13	)		(4	)		208
Interest-bearing deposits in other banks		(6	)		25			(13	)		6
Total interest-earning assets		332			(8	)		(18	)		306

Interest-bearing liabilities:
Deposits		22			(112	)		(2	)		(92	)
Securities sold under repurchase agreements		5			-			-			5
Other borrowings		(39	)		(53	)		3			(89	)
Total interest-bearing liabilities		(12	)		(165	)		1			(176	)

Net change in net interest income										$	482

Table 6- Rate/Volume Analysis

	Nine Months Ended Sept. 30, 2015
	compared to Nine Months ended Sept. 30, 2014
	Increase (Decrease) due to
	Volume			Rate			Combined			Total
	(Dollars in thousands)
Interest-earning assets:
Loans		743			(251	)		(5	)		487
Loans held for sale		201			(16	)		(8	)		177
Investment securities
Taxable		(10	)		409			(1	)		398
Tax-exempt		430			(88	)		(20	)		322
Interest-bearing deposits in other banks		(13	)		28			(8	)		7
Total interest-earning assets		1,351			82			(42	)		1,391

Interest-bearing liabilities:
Deposits		54			(404	)		(5	)		(355	)
Securities sold under repurchase agreements		7			-			-			7
Other borrowings		(66	)		(89	)		3			(152	)
Total interest-bearing liabilities		(5	)		(493	)		(2	)		(500	)

Net change in net interest income										$	1,891

Provision for Loan Losses

The provision for loan losses is the charge to operating earnings necessary to maintain the allowance for loan losses at a level which, in management’s estimate, is adequate to cover the estimated amount of probable incurred losses in the loan portfolio. A provision for loan losses totaling $132 was recognized for the three months ended September 30, 2015 compared to provision for loan losses of $876 for the three months ended September 30, 2014 and a credit of $2,011 for the nine months ended September 30, 2015 compared to provision of $2,944 for the same period in 2014. The credit for loan loss resulted primarily from the repayment of a previously written down impaired loan during the second quarter of 2015 that resulted in a $1,666 recovery. See “Allowance for Loan Losses” for further analysis of the provision for loan losses.

Noninterest Income

Table 7 - Noninterest Income

	Three Months Ended											Nine Months Ended
	Sept 30,					Variance						Sept 30,					Variance
	2015			2014		Amount			%			2015			2014		Amount			%
	(Dollars in thousands)											(Dollars in thousands)

Service charges and fees on deposits	$	1,831		$	1,903	$	(72	)		(3.78	%)	$	5,418		$	5,324	$	94			1.77	%
Gain on sales of loans		2,007			1,718		289			16.82	%		5,319			3,910		1,409			36.04	%
Gain (loss) on sale of fixed assets, net		58			15		43			286.67	%		(3	)		27		(30	)		(111.11	%)
Investment securities (losses) gains, net		(165	)		215		(380	)		(176.74	%)		(1,005	)		492		(1,497	)		(304.27	%)
Retail investment income		589			520		69			13.27	%		1,635			1,608		27			1.68	%
Trust service fees		357			328		29			8.84	%		1,048			970		78			8.04	%
Earnings from cash surrender value of bank-owned life insurance		365			317		48			15.14	%		924			876		48			5.48	%
Miscellaneous income		265			200		65			32.50	%		709			623		86			13.80	%
Total noninterest income	$	5,307		$	5,216	$	91			1.74	%	$	14,045		$	13,830	$	215			1.55	%

Third Quarter 2015 compared to Third Quarter 2014:

Noninterest income increased $91 (1.74%) during the three month period ended September 30, 2015 as compared to the same period in 2014. The change was mostly due to a $380 decrease in investment securities (losses) gains, net, offset in part by an increase in gain on sales of loans of $289 (16.82%) and an increase in retail investment income of $69.

Nine Months Ended September 30, 2015 compared to Nine Months Ended September 30, 2014:

Noninterest income increased $215 (1.55%) during the nine month period ended September 30, 2015 as compared to the same period in 2014. The change was mostly due to an increase in gain on sales of loans of $1,409 (36.04%) and an increase in service charges and fees on deposits of $94, offset in part by reduced net (losses) gains on investment securities of $1,497.

Noninterest Expense

Table 8 - Noninterest Expense

	Three Months Ended												Nine Months Ended
	Sept 30,						Variance						Sept 30,						Variance
	2015			2014			Amount			%			2015			2014			Amount			%
	(Dollars in thousands)												(Dollars in thousands)
Salaries and other personnel expense	$	6,719		$	6,291		$	428			6.80	%	$	19,968		$	18,205		$	1,763			9.68	%
Occupancy expenses		1,040			1,027			13			1.27	%		3,088			2,958			130			4.39	%
Marketing & business development		597			504			93			18.45	%		1,590			1,499			91			6.07	%
Processing expense		872			770			102			13.25	%		2,557			2,145			412			19.21	%
Legal and professional fees		422			456			(34	)		(7.46	%)		1,234			1,382			(148	)		(10.71	%)
Data processing expense		404			352			52			14.77	%		1,181			1,067			114			10.68	%
FDIC insurance		201			252			(51	)		(20.24	%)		633			810			(177	)		(21.85	%)
Communications expense		266			225			41			18.22	%		825			682			143			20.97	%
Prepayment fees		-			-			-			N/A			955			-			955			N/A
Gain on sale of other real estate		(2	)		(9	)		7			(77.78	%)		(116	)		(41	)		(75	)		182.93	%
Provision for other real estate losses		12			248			(236	)		(95.16	%)		14			267			(253	)		(94.76	%)
Loan costs (excluding OREO)		274			218			56			25.69	%		787			844			(57	)		(6.75	%)
Other operating expenses		766			721			45			6.24	%		2,131			1,991			140			7.03	%
Total noninterest expense	$	11,571		$	11,055		$	516			4.67	%	$	34,847		$	31,809		$	3,038			9.55	%

Third Quarter 2015 compared to Third Quarter 2014:

Noninterest expense increased $516 (4.67%) during the three month period ended September 30, 2015 as compared to the same period in 2014. The increase was mainly due salaries and other personnel expense which increased $428 (6.80%) due to additional staff, salary increases, increased retirement, incentive and other benefit plan costs and higher commission expense. In addition, processing expense increased $102 (13.25%) due to migration to in part an outsourced mainframe computer system.

Nine Months Ended September 30, 2015 compared to Nine Months Ended September 30, 2014:

Noninterest expense increased $3,038 (9.55%) during the nine month period ended September 30, 2015 as compared to the same period in 2014. The most significant increase in expense for the nine month period was salaries and other personnel expense which increased $1,763 (9.68%) due to additional staff, salary increases, increased retirement, incentive and other benefit plan costs and higher commission expense. The increased noninterest expense was also due to a $955 penalty incurred on the repayment of an FHLB advance during the second quarter of 2015. In addition, processing expense increased $412 (19.21%) due in part to migration to an outsourced mainframe computer system.

Income Taxes

The Company recognized income tax expense of $2,277 and $6,997 for the three and nine months ended September 30, 2015 as compared to an income tax expense of $1,959 and $5,503 for the same periods in 2014. The effective income tax rate for the three and nine months ended September 30, 2015 was 31.88% and 32.16% compared to 30.89% and 31.03% for the three and nine months ended September 30, 2014. The primary reason for the increase in the effective tax rate this year was a smaller percentage of tax-exempt interest income on investment securities and income related to bank-owned life insurance relative to total income.

Loans

The following table presents the composition of the Company’s loan portfolio as of September 30, 2015 and December 31, 2014.

Table 9 - Loan Portfolio Composition

	September 30, 2015					December 31, 2014
	Amount		%			Amount		%
	(Dollars in thousands)
Commercial, financial and agricultural	$	200,257		20.81	%	$	208,905		21.62	%
Real estate
Commercial		359,942		37.40	%		371,488		38.44	%
Residential		216,006		22.44	%		204,097		21.12	%
Acquisition, development and construction		167,739		17.43	%		164,303		17.00	%
Total real estate		743,687		77.27	%		739,888		76.56	%
Consumer
Direct		17,580		1.83	%		16,581		1.72	%
Indirect		-		0.00	%		1		0.00	%
Revolving		725		0.07	%		666		0.07	%
Total consumer		18,305		1.90	%		17,248		1.79	%
Deferred loan origination costs (fees)		165		0.02	%		315		0.03	%
Total	$	962,414		100.00	%	$	966,356		100.00	%

At September 30, 2015, 77.27% of the loan portfolio is comprised of real estate loans. Commercial, financial and agricultural loans comprise 20.81%, and consumer loans comprise 1.90% of the portfolio.

Commercial real estate comprises 37.40% of the loan portfolio and consists of both non-owner occupied and owner occupied properties, where the operations of the commercial entity provide the necessary cash flow to service the debt. For this portion of the real estate loan portfolio, repayment is generally not dependent upon the sale of the real estate held as collateral. Acquisition, development and construction loans comprise 17.43% of the loan portfolio. The Company carefully monitors the loans in this category since the repayment of these loans is generally dependent upon the sale of the real estate in the normal course of business and can be impacted by national and local economic conditions. The residential category, 22.44% of the portfolio, represents those loans that the Company chooses to maintain in its portfolio rather than selling into the secondary market for marketing and competitive reasons and commercial loans secured by residential real estate.

The Company has no large loan concentrations to individual borrowers. Unsecured loans at September 30, 2015 totaled $37,402.

Interest reserves are established for certain acquisition, development and construction (“ADC”) loans and certain commercial real estate (“CRE”) loans with major renovations based on the feasibility of the project, the timeframe for completion, the creditworthiness of the borrower and guarantors, and collateral. An interest reserve allows the borrower’s interest cost to be capitalized and added to the loan balance. As a matter of practice GB&T does not generally establish loan funded interest reserves on ADC or CRE loans; however, the Company’s loan portfolio includes six loans with interest reserves at September 30, 2015. The following table details the loans and accompanying interest reserves as of September 30, 2015.

	September 30, 2015

			Reserves
	Balance		Original		Advanced		Remaining
	(Dollars in thousands)

Loan 1	$	6,000		62		62		-
Loan 2		3,724		100		19		81
Loan 3		445		26		1		25
Loan 4		566		23		2		21
Loan 5		111		35		1		34
Loan 6		4,637		100		-		100

These ADC and CRE loans have not been renewed or restructured and, as of September 30, 2015, are not on nonaccrual.

Underwriting for ADC and CRE loans with interest reserves follows the same process as those loans without reserves. In order for GB&T to establish a loan-funded interest reserve, the borrower must have the ability to repay without the use of a reserve and a history of developing and stabilizing similar properties. All ADC and CRE loans, including those with interest reserves, are carefully monitored through periodic construction site inspections by bank employees or third party inspectors to ensure projects are moving along as planned. Management assesses the appropriateness of the use of interest reserves during the entire term of the loan as well as the adequacy of the reserve. Collateral inspections are completed before approval of advances.

Loan Review and Classification Process

The Company maintains a loan review and classification process which involves multiple officers of the Company and is designed to assess the general quality of credit underwriting and to promote early identification of potential problem loans. All loan officers are charged with the responsibility of risk rating all loans in their portfolios and updating the ratings, positively or negatively, on an ongoing basis as conditions warrant. Risk ratings are selected from an 8-point scale with ratings as follows: ratings 1- 4 Satisfactory (pass), rating 5 Watch (potential weakness), rating 6 Substandard (well-defined weakness), rating 7 Doubtful and rating 8 Loss.

When a loan officer originates a new loan, he or she documents the credit file with an offering sheet summary, supplemental underwriting analyses, relevant financial information and if applicable, collateral evaluations. All of this information is used in the determination of the initial loan risk rating. Then, the Company’s Credit Administration department undertakes an independent credit review of that relationship in order to validate the lending officer’s rating. Lending relationships with total related exposure of $500 or greater are also placed into a tracking database and reviewed by Credit Administration personnel on an annual basis in conjunction with the receipt of updated borrower and guarantor financial information. The individual loan reviews analyze such items as: loan type; nature, type and estimated value of collateral; borrower and/or guarantor estimated financial strength; most recently available financial information; related loans and total borrower exposure; and current/anticipated performance of the loan. The results of such reviews are presented to Executive Management.

Through the review of delinquency reports, updated financial statements or other relevant information in the normal course of business, the lending officer and/or Credit Administration review personnel may determine that a loan relationship has weakened to the point that a criticized (loan grade 5) or classified (loan grade 6 through 8) status is warranted. When a loan relationship with total related exposure of $200 or greater is adversely graded (5 or above), the lending officer is then charged with preparing a Classified/Watch report which outlines the background of the credit problem, current repayment status of the loans, current collateral evaluation and a workout plan of action. This plan may include goals to improve the credit rating, assisting the borrower in moving the loans to another institution and/or collateral liquidation. All such Classified/Watch reports are reviewed on a quarterly basis by members of Executive Management at a regularly scheduled meeting in which each lending officer presents the workout plans for their criticized credit relationships.

Depending upon the individual facts, circumstances and the result of the Classified/Watch review process, Executive Management may categorize the loan relationship as impaired. Once that determination has occurred, Executive Management in conjunction with Credit Administration personnel, will complete an evaluation of the collateral (for collateral-dependent loans) based upon appraisals on file adjusting for current market conditions and other local factors that may affect collateral value. This subjective evaluation may produce an initial specific allowance for placement in the Company’s Allowance for Loan Losses calculation. As soon as practical, updated appraisals on the collateral backing that impaired loan relationship are ordered. When the updated appraisals are received, Executive Management with assistance from Credit Administration department personnel reviews the appraisal, and updates the specific allowance analysis for each loan relationship accordingly. The Director’s Loan Committee reviews on a quarterly basis the Classified/Watch reports including changes in credit grades of 5 or higher as well as all impaired loans, the related allowances and other real estate owned (“OREO”).

In general, once the specific allowance has been finalized, Executive Management will authorize a charge-off prior to the following calendar quarter-end in which that reserve calculation is finalized.

The review process also provides for the upgrade of loans that show improvement since the last review.

Nonperforming Assets

Non-performing assets include nonaccrual loans, loans past due 90 days or more, restructured loans and other real estate owned. Table 10 shows the current and prior period amounts of non-performing assets. Non-performing assets were $13,966 at September 30, 2015, compared to $21,903 at December 31, 2014 and $19,161 at September 30, 2014. The change from September 2014 to September 2015 was due primarily to a $2,849 decrease in restructured loans, a net decrease of $1,322 in nonaccrual loans and a $1,024 decrease in other real estate owned.

There were no loans past due 90 days or more and still accruing at September 30, 2015, December 31, 2014 and September 30, 2014.

Troubled debt restructurings (TDRs) are troubled loans in which the original terms have been modified in favor of the borrower or either principal or interest has been forgiven due to deterioration in the borrower’s financial condition. There was $8,851 in TDRs at September 30, 2015, of which $5,469 were on nonaccrual status. TDRs totaled $9,669 at December 31, 2014, of which $3,477 were on nonaccrual status, and $9,339 at September 30, 2014, of which $3,108 were on nonaccrual status.

Table 10 - Non-Performing Assets

	September 30, 2015			December 31, 2014			September 30, 2014
	(Dollars in thousands)
Nonaccrual loans:
Commercial, financial and agricultural	$	1,204		$	3,458		$	760
Real Estate:
Commercial		3,040			1,497			1,426
Residential		3,324			3,639			3,655
Acquisition, development and construction		2,622			5,874			5,579
Consumer		34			136			126
Total Nonaccrual loans		10,224			14,604			11,546
Restructured loans (1)		3,382			6,192			6,231
Other real estate owned		360			1,107			1,384
Total Non-performing assets	$	13,966		$	21,903		$	19,161

Loans past due 90 days or more and still accruing interest	$	-		$	-		$	-

Non-performing assets to total assets		0.77	%		1.26	%		1.09	%

Non-performing assets to period end loans and OREO		1.45	%		2.26	%		2.00	%

Allowance for loan loss to period end nonaccrual loans		216.94	%		174.65	%		231.54	%

(1) Restructured loans on nonaccrual status at period end are included under nonaccrual loans in the table.

The ratio of non-performing assets to total loans and other real estate was 1.45% at September 30, 2015 compared to 2.26% at December 31, 2014 and 2.00% at September 30, 2014. The ratio of allowance for loan losses to total nonaccrual loans was 216.94% at September 30, 2015 compared to 174.65% at December 31, 2014 and 231.54% at September 30, 2014. The resolution of non-performing assets continues to be a priority of management.

Nonaccrual loans decreased $1,322 (11.45%) from September 30, 2014 due primarily to a decline in nonaccrual acquisition, development and construction loans, which decreased $2,957. Partially offsetting this decrease was an increase in nonaccrual commercial real estate loans of $1,614.

The decrease in nonaccrual acquisition, development and construction loans since September 30, 2014 was due primarily to the repayment of a $4,544 participation loan made to finance a retail center that was sold in the second quarter of 2015. The increase in nonaccrual commercial real estate loans was due in part to a troubled hotel loan that was moved to nonaccrual status during the third quarter of 2015.

The increase from September 30, 2014 in nonaccrual commercial, financial and agricultural loans was due in part to a defaulted loan on a multifamily property totaling approximately $850 after write downs of $1,000.

The following table provides further information regarding the Company’s most significant nonaccrual loans.

Table 11 - Nonaccrual Loans

Nonaccrual

Appraisal

Appraised

Balance

Originated

Date

Trigger

Collateral

Allowance

Method

Date

Value

(Dollars in thousands)

Commercial, financial and agricultural

846

01/29/08

12/30/14

financial condition

apartments

collateral value

03/15

1,090

Commercial real estate

1,732

01/06/11

09/18/15

financial condition

motel

collateral value

09/15

2,050

ADC Loan - CSRA

1,372

12/28/11

12/28/12

financial condition

land

collateral value

03/15

1,800

3,950

Other, net

6,274

Nonaccrual loans at September 30, 2015

10,224

The following table presents a roll forward of other real estate owned for the nine month periods ended September 30, 2015 and 2014, respectively.

Table 12 - Other Real Estate Owned

	2015			2014
	(Dollars in thousands)

Beginning balance, January 1	$	1,107		$	1,014
Additions		611			1,205
Increase in valuation allowance		(14	)		(267	)
Sales		(1,460	)		(609	)
Gain on sale of OREO		116			41
Ending balance, Sept 30	$	360		$	1,384

The following table provides details of other real estate owned as of September 30, 2015, December 31, 2014 and September 30, 2014, respectively.

	September 30, 2015			December 31, 2014			September 30, 2014
	(Dollars in thousands)
Other Real Estate:
Real Estate
Commercial	$	-		$	200		$	200
Residential		-			364			536
Acquisition, development and construction		608			860			961
		608			1,424			1,697

Valuation allowance		(248	)		(317	)		(313	)
	$	360		$	1,107		$	1,384

The change in other real estate owned is due to the continuing process of resolving problem loans. In the first nine months of 2015, additions to other real estate owned totaled $611 compared to $1,205 for the same period in 2014. Sales of other real estate totaled $1,460 for the nine months ended September 30, 2015 compared to $609 for the nine months ended September 30, 2014.

Allowance for Loan Losses

The allowance for loan losses represents an allocation for the estimated amount of probable incurred losses in the loan portfolio. The adequacy of the allowance for loan losses is evaluated periodically based on a review of all significant loans, with particular emphasis on impaired, non-accruing, past due, and other loans that management believes require special attention. The determination of the allowance for loan losses is considered a critical accounting estimate of the Company. See “Critical Accounting Estimates.”

While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may advise additions to the allowance based on their judgments about information available to them at the time of their examination. Such regulatory guidance is considered, and the Company may recognize additions to the allowance as a result.

Additions to the allowance for loan losses are made periodically to maintain the allowance at an appropriate level based upon management’s analysis of risk in the loan portfolio. Loans determined to be uncollectible are charged to the allowance for loan losses and subsequent recoveries are added to the allowance. A provision for losses in the amount of $132 was charged to expense for the three months ended September 30, 2015 compared to provision of $876 for the three months ended September 30, 2014 and a $2,011 negative provision for losses was credited to expense for the nine months ended September 30, 2015 compared to provision of $2,944 for the nine months ended September 30, 2014. The negative provision resulted in part from a $1,666 recovery in the second quarter of 2015 related to the repayment of a nonaccrual acquisition, development and construction loan and to the decline in that portfolio segment’s average historical loss rate.

At September 30, 2015 the ratio of allowance for loan losses to period end loans was 2.30% compared to 2.64% at December 31, 2014 and 2.79% at September 30, 2014. The decline in overall level of allowance as a percentage of the portfolio is due in part to the decline in the average historical net loss rate and the level of recoveries during the quarter. (see Note 1 — ALLL Methodology in the Notes to Consolidated Financial Statements).

For the nine months ended September 30, 2015 charge-offs net of recoveries totaled $1,315 on all loans. This included charge-offs net of recoveries of $1,189 for commercial real estate loans, $943 for commercial, financial and agricultural loans, $346 for residential real estate loans and $261 for consumer loans. These were partially offset by recoveries net of charge-offs of $1,424 for acquisition, development and construction loans. The provisions for loan losses allocated to individual portfolio segments are affected by the calculation of average historical net loss rate factors and by the internal and external qualitative factors within each category.

Management considers the current allowance for loan losses appropriate based upon its analysis of risk in the portfolio using the methods previously discussed. Management’s judgment is based upon a number of assumptions about events which are believed to be reasonable, but which may or may not prove correct. While it is the Company’s policy to charge off in the current period the loans in which a loss is considered probable, there are additional risks of losses which cannot be quantified precisely or attributed to a particular loan or class of loans. Because management evaluates such factors as changes in the nature and volume of the loan portfolio, historical loss rates, overall portfolio quality, review of specific problem loans, and current economic conditions and trends that may affect a borrower’s ability to repay, management's judgment as to the adequacy of the allowance is necessarily approximate and imprecise. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional increases in the allowance will not be required.

Liquidity and Capital Resources

The Company has maintained adequate liquidity to meet operating and loan funding requirements. The loan to deposit ratio at September 30, 2015 was 62.45% compared to 66.01% at December 31, 2014 and 63.82% at September 30, 2014. Deposits at September 30, 2015 and December 31, 2014 include $185,396 and $188,094 of brokered certificates of deposit, respectively. GB&T has also utilized borrowings from the Federal Home Loan Bank. GB&T maintains a line of credit with the Federal Home Loan Bank approximating 10% of its total assets. Federal Home Loan Bank advances are collateralized by eligible first mortgage loans, commercial real estate loans and investment securities. Federal Home Loan Bank advances totaled $66,000 at September 30, 2015. GB&T maintains repurchase lines of credit with SunTrust Robinson Humphrey, Atlanta, Georgia, for advances up to $20,000, of which none was outstanding at September 30, 2015 and a $10,000 repurchase line of credit with CenterState Bank, Orlando, Florida, of which none was outstanding at September 30, 2015. GB&T has a federal funds purchased accommodation with SunTrust Bank, Atlanta, Georgia for advances up to $10,000, of which none was outstanding at September 30, 2015 and a federal funds purchased accommodation with CenterState Bank, Orlando, Florida, for advances up to $10,000, of which none was outstanding at September 30, 2015. The Company also maintains a borrowing facility at the Federal Reserve Bank, under the Borrower-In-Custody Program, of which none was outstanding at September 30, 2015. Additionally, liquidity needs can be supplemented by the structuring of the maturities of investment securities and the pricing and maturities on loans and deposits offered to customers. The Company also uses retail securities sold under repurchase agreements to fund operations. Retail securities sold under repurchase agreements were $633 at September 30, 2015.

Stockholders’ equity to total assets was 9.31% at September 30, 2015 compared to 8.96% at December 31, 2014 and 8.53% at September 30, 2014. The capital of the Company exceeded all required regulatory guidelines at September 30, 2015. The Company’s common equity Tier 1, Tier 1 risk-based, total risk-based and leverage capital ratios were 13.63%, 15.26%, 16.52%, and 10.33%, respectively, at September 30, 2015.

The following table reflects the current regulatory capital levels in more detail, including comparisons to the regulatory minimums.

Table 13 - Regulatory Capital Requirements
September 30, 2015

											To be well capitalized
						For capital adequacy					under prompt corrective
	Actual					purposes					action provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
	(Dollars in thousands)
Southeastern Bank Financial Corporation
Risk-based capital:
Common equity tier 1 capital	$	167,231		13.63	%	$	55,217		4.50	%		N/A		N/A
Tier 1 capital		187,231		15.26	%		73,622		6.00	%		N/A		N/A
Total capital		202,654		16.52	%		98,163		8.00	%		N/A		N/A
Tier 1 leverage ratio		187,231		10.33	%		72,467		4.00	%		N/A		N/A

Georgia Bank & Trust Company:
Risk-based capital:
Common equity tier 1 capital	$	177,184		14.47	%	$	55,113		4.50	%	$	79,607		6.50	%
Tier 1 capital		177,184		14.47	%		73,484		6.00	%		97,978		8.00	%
Total capital		192,578		15.72	%		97,978		8.00	%		122,473		10.00	%
Tier 1 leverage ratio		177,184		9.80	%		81,381		4.50	%		90,424		5.00	%

Georgia Bank & Trust Company is regulated by the Department of Banking and Finance of the State of Georgia (DBF). The DBF requires that state banks in Georgia generally maintain a minimum ratio of Tier 1 capital to total assets of four and one-half percent (4.50%).

On July 2, 2013, the Federal Reserve and the FDIC approved rules that implement the “Basel III” regulatory capital reforms, as well as certain changes required by the Dodd-Frank Act. The rules include a common equity Tier 1 capital conservation buffer of 2.5% of risk-weighted assets, which is in addition to the Tier 1 and Tier 2 risk-based capital requirements. The capital conservation buffer will be phased in over four years beginning on January 1, 2016, with a maximum buffer of 0.625% of risk-weighted assets for 2016, 1.25% for 2017, 1.875% for 2018, and 2.5% for 2019 and thereafter. Failure to maintain the required capital conservation buffer will result in limitations on capital distributions and on discretionary bonuses to executive officers. Based on the Company’s current capital composition and levels, management does not presently anticipate that the rules present a material risk to the Company’s financial condition or results of operations.

Except as set forth above, management is not aware of any other events or uncertainties that are reasonably likely to have a material effect on the Company’s liquidity, capital resources or operations.

Commitments and Contractual Obligations

The Company is party to lines of credit with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. Lines of credit are unfunded commitments to extend credit. These instruments involve, in varying degrees, exposure to credit and interest rate risk in excess of the amounts recognized in the financial statements. The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for unfunded commitments to extend credit and letters of credit is represented by the contractual amount of those instruments. The Company evaluates acquisition, development and construction loans for the percentage completed before extending additional credit. The Company follows the same credit policies in making commitments and contractual obligations as it does for on-balance sheet instruments.

Unfunded commitments to extend credit where contractual amounts represent potential credit risk totaled $204,532 at September 30, 2015. This includes standby letters of credit of $4,321 at September 30, 2015. These commitments are primarily at variable interest rates.

The Company’s commitments are funded through internal funding sources of scheduled repayments of loans and sales and maturities of investment securities available-for-sale or external funding sources through acceptance of deposits from customers or borrowings from other financial institutions.

The following table is a summary of the Company’s commitments to extend credit, commitments under contractual leases as well as the Company’s contractual obligations, consisting of deposits, FHLB advances, which are subject to early termination options, borrowed funds and benefit plans by contractual maturity date.

Table 14 - Commitments and Contractual Obligations

	Less than 1 Year		1 - 3 Years		3 - 5 Years		More than 5 Years
	(Dollars in thousands)

Lines of credit	$	200,211		-		-		-
Standby letters of credit		4,321		-		-		-
Lease agreements		284		297		21		-
Deposits		1,377,459		143,446		19,346		729
Securities sold under repurchase agreements		633		-		-		-
Salary continuation agreements		445		1,399		1,627		31,753
FHLB advances		-		55,000		11,000		-
Subordinated debentures		-		-		-		20,000
Total commitments and contractual obligations	$	1,583,353	$	200,142	$	31,994	$	52,482

Although management regularly monitors the balance of outstanding commitments to fund loans to ensure funding availability should the need arise, management believes that the risk of all customers fully drawing on all these lines of credit at the same time is remote.

Effects of Inflation and Changing Prices

Inflation generally increases the cost of funds and operating overhead, and to the extent loans and other assets bear variable rates, the yields on such assets. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on the performance of a financial institution than the effects of general levels of inflation. Although interest rates do not necessarily move in the same direction and to the same extent as the prices of goods and services, increases in inflation generally have resulted in increased interest rates. In addition, inflation can increase a financial institution's cost of goods and services purchased, the cost of salaries and benefits, occupancy expense and similar items. Inflation and related increases in interest rates generally decrease the market value of investments and loans held and may adversely affect liquidity, earnings, and stockholders' equity. Mortgage originations and refinances tend to slow as interest rates increase, and can reduce the Company's earnings from such activities and the income from the sale of residential mortgage loans in the secondary market.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

As of September 30, 2015, there were no substantial changes in the interest rate sensitivity analysis or the sensitivity of market value of portfolio equity for various changes in interest rates calculated as of December 31, 2014. A detailed discussion of market risk is provided in the Company’s 2014 Annual Report on Form 10-K.

Item 4. Controls and Procedures

As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer (principal executive officer) and its Executive Vice President and Chief Financial Officer (principal financial officer), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, such officers 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 subsidiary) that is required to be included in the Company’s periodic filings with the Securities and Exchange Commission. There have been no changes in the Company’s internal controls or, to the Company’s knowledge, in other factors during the quarter covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.

Part II

OTHER INFORMATION

Item 1.		Legal Proceedings

		There are no material pending legal proceedings to which the Company or any of its subsidiaries is a party or of which any of their property is subject.

Item 1A.		Risk Factors

		In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, which could materially affect its business, financial condition or future results. The risks described in the Annual Report on Form 10-K are not the only risks facing the Company. Additional risks and uncertainties not currently known to management or that management currently deems to be immaterial also may materially adversely affect the Company’s business, financial condition and/or operating results.

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

		Issuer Purchases of Equity Securities

		The following table sets forth information regarding the Company’s purchases of its common stock on a monthly basis during the third quarter of 2015.

Period	Total Number of Shares Purchased (1)	Average Price Paid Per Share (1)	Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1)	Maximum Number (or Appropriate Dollar Value) of Shares Yet To Be Purchased Under the Plans or Programs (1)
July 1 through July 31, 2015	-	-	-	299,454
August 1 through August 31, 2015	-	-	-	299,454
September 1 through September 30, 2015	-	-	-	299,454
Total	-	-	-	299,454

(1) On October 15, 2014, the Company’s Board of Directors announced the commencement of a stock repurchase program (the “2014 Program”), pursuant to which it will, from time to time, repurchase up to 300,000 shares of its outstanding common stock in the open market or in private transactions. The 2014 Program does not have a stated expiration date and no stock repurchase programs were terminated during the third quarter of 2015.

Item 3.		Defaults Upon Senior Securities

		Not applicable

Item 4.		Mine Safety Disclosures

		Not applicable

Item 5.		Other Information

		None

Item 6.		Exhibits

	31.1	Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	31.2	Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	32.1	Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

	101	Interactive Data Files providing financial information from the Registrant’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2015 in XBRL (eXtensible Business Reporting Language).

SOUTHEASTERN BANK FINANCIAL CORPORATION

Form 10-Q Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	SOUTHEASTERN BANK FINANCIAL CORPORATION

Date: October 23, 2015		By:	/s/ Darrell R. Rains
		Darrell R. Rains
		Executive Vice President, Chief
		Financial Officer (Duly Authorized
		Officer of Registrant and Principal
		Financial Officer)

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