OLD POINT FINANCIAL CORP - FORM 10-K - March 11, 2016

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EX-23 - EXHIBIT 23 - OLD POINT FINANCIAL CORPex-23.htm
EX-24 - EXHIBIT 24 - OLD POINT FINANCIAL CORPex-24.htm
EX-10.5 - EXHIBIT 10.5 - OLD POINT FINANCIAL CORPex-10-5.htm
EX-31 - EXHIBIT 31.1 - OLD POINT FINANCIAL CORPex-31-1.htm
EX-32 - EXHIBIT 32.1 - OLD POINT FINANCIAL CORPex-32-1.htm
EX-10.6 - EXHIBIT 10.6 - OLD POINT FINANCIAL CORPex-10-6.htm
EX-31 - EXHIBIT 31.2 - OLD POINT FINANCIAL CORPex-31-2.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

_______________

FORM 10-K
_______________
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2015
or

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________

Commission file number 000-12896
_______________

OLD POINT FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
_______________

Virginia
 
54-1265373
(State or other jurisdiction of incorporation or organization)
 
(IRS Employer Identification No.)

1 West Mellen Street, Hampton, Virginia 23663
(Address of principal executive offices) (Zip Code)

(757) 728-1200
(Registrant's telephone number, including area code)

_______________
Securities registered pursuant to Section 12(b) of the Act:

Common Stock, $5 par value
 
The NASDAQ Stock Market LLC
(Title of each class)
 
(Name of each exchange on which registered)

Securities registered pursuant to Section 12(g) of the Act:
None
_______________

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Act.
Yes [ ]                                No [X]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes [ ]                                No [X]

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes [X]                                No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.
[ ]

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

Large accelerated filer [ ]
  
Accelerated filer [ ]
 
  
 
Non-accelerated filer [ ] (Do not check if a smaller reporting company)
  
Smaller reporting company [X]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes [ ]                                No [X]

The aggregate market value of voting and non-voting stock held by non-affiliates of the registrant as of June 30, 2015 was $52,177,061 based on the closing sales price on the NASDAQ Capital Market of $15.63.

There were 4,959,009 shares of common stock outstanding as of March 8, 2016.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement for the Company's Annual Meeting of Stockholders to be held on May 24, 2016, are incorporated by reference in Part III of this report.

OLD POINT FINANCIAL CORPORATION

FORM 10-K

INDEX

PART I
 
Page
 
 
 
Item 1.
1
Item 1A.
8
Item 1B.
16
Item 2.
16
Item 3.
16
Item 4.
17
 
 
 
PART II
 
 
 
 
 
Item 5.
17
Item 6.
18
Item 7.
19
Item 7A.
43
Item 8.
43
Item 9.
92
Item 9A.
92
Item 9B.
93
 
 
 
PART III
 
 
 
 
 
Item 10.
93
Item 11.
93
Item 12.
94
Item 13.
94
Item 14.
94
 
 
  
PART IV
 
  
 
 
  
Item 15.
94
 
94
 
94
 
96


Part I
Item 1. Business

GENERAL

Old Point Financial Corporation (the Company) was incorporated under the laws of Virginia on February 16, 1984, for the purpose of acquiring all the outstanding common stock of The Old Point National Bank of Phoebus (the Bank), in connection with the reorganization of the Bank into a one-bank holding company structure. At the annual meeting of the stockholders on March 27, 1984, the proposed reorganization was approved by the requisite stockholder vote. At the effective date of the reorganization on October 1, 1984, the Bank merged into a newly formed national bank as a wholly-owned subsidiary of the Company, with each outstanding share of common stock of the Bank being converted into five shares of common stock of the Company.

The Company completed a spin-off of its trust department as of April 1, 1999. The organization is chartered as Old Point Trust & Financial Services, N.A. (Trust). Trust is a nationally chartered trust company. The purpose of the spin-off was to have a corporate structure more ready to compete in the field of wealth management. Trust is a wholly-owned subsidiary of the Company.

The Bank is a national banking association that was founded in 1922. As of the end of 2015, the Bank had 18 branch offices serving the Hampton Roads localities of Hampton, Newport News, Norfolk, Virginia Beach, Chesapeake, Williamsburg/James City County, York County and Isle of Wight County. The Bank offers a complete line of consumer, mortgage and business banking services, including loan, deposit, and cash management services to individual and commercial customers.

The Company's primary activity is as a holding company for the common stock of the Bank and Trust. The principal business of the Company is conducted through its subsidiaries, which continue to conduct business in substantially the same manner as before the reorganization and spin-off.

As of December 31, 2015, the Company had assets of $896.8 million, loans of $568.5 million, deposits of $746.5 million, and stockholders' equity of $93.2 million. At year-end, the Company and its subsidiaries had a total of 296 employees, 21 of whom were part-time.

MARKET AREA AND COMPETITION

The Company's market area is located in Hampton Roads, situated in the southeastern corner of Virginia and boasting the world's largest natural deep-water harbor. The Hampton Roads Metropolitan Statistical Area (MSA) is the 37th most populous MSA in the United States according to the U.S. Census Bureau's 2010 census and the third largest deposit market in Virginia, after Richmond and the Washington Metropolitan area, according to the Federal Deposit Insurance Corporation (FDIC). Hampton Roads includes the cities of Chesapeake, Hampton, Newport News, Norfolk, Poquoson, Portsmouth, Suffolk, Virginia Beach and Williamsburg, and the counties of Isle of Wight, Gloucester, James City, Mathews, York and Surry. The market area is serviced by 67 banks, savings institutions and credit unions and, in addition, branches of virtually every major brokerage house serve the Company's market area.

The banking business in Virginia, and in the Company's primary service areas in the Hampton Roads MSA, is highly competitive and dominated by a relatively small number of large banks with many offices operating over a wide geographic area. Among the advantages such large banks have over the Company is their ability to finance wide-ranging advertising campaigns, and by virtue of their greater total capitalization, to have substantially higher lending limits than the Company. Factors such as interest rates offered, the number and location of branches and the types of products offered, as well as the reputation of the institution affect competition for deposits and loans. The Company competes by emphasizing customer service and technology, establishing long-term customer relationships and building customer loyalty, and providing products and services to address the specific needs of the Company's customers. The Company targets individual and small-to-medium size business customers.

Concurrently, the Company continues to build a stronger presence in the business banking market, where greater opportunities for fee-based revenues and cross-selling exist. In 2009, the Company expanded its treasury services offerings by adding a Corporate Banking group and expanding its product offerings to match those offered by larger institutions. This expansion has continued throughout 2015 with an aim towards growth and relationship development. Through these business banking capabilities, the Company is able to service a highly lucrative market that offers the opportunities to identify new revenue streams and cross-sell additional products.
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Personal assets held by non-banks are difficult to track at a local level, so research relies on deposits reported by governmental agencies to measure market share. In 2015, the Company held tenth place with 2.49% market share of all Hampton Roads deposits, as compared to 2.60% market share in 2014. On the Peninsula, the Company retains first place in Hampton with 31.69% market share and deposit growth from 2014 of over $17.0 million. While deposits dropped in James City County from 2014 by $732 thousand, deposits grew from 2014 in Newport News by over $2.0 million and in York County by $736 thousand.

In Southside Hampton Roads, the Company increased deposit share in Virginia Beach by $249 thousand over 2014 and moved up in rank from thirteenth to eleventh. However, in the Chesapeake, Isle of Wight County and Norfolk markets deposits decreased from 2014 by $435 thousand, $247 thousand and $4 million, respectively. Combined with heightened marketing efforts, the staff in the Company's newer locations continues to work diligently to increase the Company's name recognition in their respective regions of the Hampton Roads MSA.

The Company also faces competitive pressure from credit unions. The three largest credit unions headquartered in the Hampton Roads MSA are Chartway Federal Credit Union, Langley Federal Credit Union, and Newport News Shipbuilding Employees' Credit Union with deposits totaling approximately $1.8 billion, $1.6 billion and $1.1 billion, respectively. Both Chartway Federal Credit Union and Langley Federal Credit Union posted a positive growth rate for 2015.

AVAILABLE INFORMATION

The Company maintains a website on the Internet at www.oldpoint.com. The Company makes available free of charge, on or through its website, its proxy statements, annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to those reports as soon as reasonably practicable after such material is electronically filed with the Securities and Exchange Commission (SEC). This reference to the Company's Internet address shall not, under any circumstances, be deemed to incorporate the information available at such Internet address into this Form 10-K or other SEC filings. The information available at the Company's Internet address is not part of this Form 10-K or any other report filed by the Company with the SEC. The public may read and copy any documents the Company files at the SEC's Public Reference Room at 100 F Street, N.E. Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Company's SEC filings can also be obtained on the SEC's website on the Internet at www.sec.gov.

REGULATION AND SUPERVISION

Set forth below is a brief description of some of the material laws and regulations that affect the Company. The description of these statutes and regulations is only a summary and is not a complete discussion or analysis. This discussion is qualified in its entirety by reference to the statutes and regulations summarized below. No assurance can be given that these statutes or regulations will not change in the future.

General. The Company continues to experience a period of rapidly changing regulations and an environment of constant regulatory reform. These regulatory changes have had and will continue to have a significant impact on how the Company conducts its business. The most significant of these laws is the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act), adopted on July 21, 2010, to implement significant structural reforms to the financial services industry. The full extent of the Dodd-Frank Act and other potential regulatory reforms cannot yet be fully determined and will depend to a large extent on regulations that will be adopted in the future.

As a public company, the Company is subject to the periodic reporting requirements of the Securities Exchange Act of 1934, as amended (the Exchange Act), which include, but are not limited to, the filing of annual, quarterly and other reports with the SEC. The Company is also required to comply with other laws and regulations of the SEC applicable to public companies.

The Company is also a bank holding company within the meaning of the Bank Holding Company Act of 1956 (the BHCA) and is registered as such with, and subject to the supervision of, the Board of Governors of the Federal Reserve System (the FRB). Generally, a bank holding company is required to obtain the approval of the FRB before acquiring direct or indirect ownership or control of more than five percent of the voting shares of a bank or engaging in an activity considered to be a non-banking activity, either directly or through a subsidiary. Bank holding companies and their subsidiaries are also subject to restrictions on transactions with insiders and affiliates.
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As a national bank, the Bank is subject to regulation, supervision and regular examination by the Office of the Comptroller of the Currency (the Comptroller). The prior approval of the Comptroller or other appropriate bank regulatory authority is required for a national bank to merge with another bank or purchase the assets or assume the deposits of another bank. In reviewing applications seeking approval of merger and acquisition transactions, the bank regulatory authorities will consider, among other things, the competitive effect and public benefits of the transactions, the capital position of the constituent organizations and the combined organization, the risks to the stability of the U.S. banking or financial system, the applicant's performance record under the Community Reinvestment Act (the CRA) and fair housing initiatives, the data security and cybersecurity infrastructure of the constituent organizations and the combined organization, and the effectiveness of the subject organizations in combating money laundering activities. Each depositor's account with the Bank is insured by the FDIC to the maximum amount permitted by law. The Bank is also subject to certain regulations promulgated by the FRB and applicable provisions of Virginia law, insofar as they do not conflict with or are not preempted by federal banking law.

As a non-depository national banking association, Trust is subject to regulation, supervision and regular examination by the Comptroller. Trust's exercise of fiduciary powers must comply with Regulation 9 promulgated by the Comptroller and with Virginia law.

The regulations of the FRB, the Comptroller and the FDIC govern most aspects of the Company's business, including deposit reserve requirements, investments, loans, certain check clearing activities, issuance of securities, payment of dividends, branching, and numerous other matters.  Further, the federal bank regulatory agencies have adopted guidelines and released interpretive materials that establish operational and managerial standards to promote the safe and sound operation of banks and bank holding companies.  These standards relate to the institution's key operating functions, including but not limited to internal controls, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, asset quality, earnings, compensation of management, information systems, data security and cybersecurity, and risk management.  As a consequence of the extensive regulation of commercial banking activities in the United States, the Company's business is particularly susceptible to changes in state and federal legislation and regulations, which may have the effect of increasing the cost of doing business, limiting permissible activities or increasing competition.

The Bank Holding Company Act. As a bank holding company, the Company is subject to the BHCA and regulation and supervision by the FRB. A bank holding company is required to obtain the approval of the FRB before making certain acquisitions or engaging in certain activities. Bank holding companies and their subsidiaries are also subject to restrictions on transactions with insiders and affiliates.

A bank holding company is required to obtain the approval of the FRB before it may acquire all or substantially all of the assets of any bank, and before it may acquire ownership or control of the voting shares of any bank if, after giving effect to the acquisition, the bank holding company would own or control more than 5 percent of the voting shares of such bank. The approval of the FRB is also required for the merger or consolidation of bank holding companies.

Pursuant to the BHCA, the FRB has the power to order any bank holding company or its subsidiaries to terminate any activity or to terminate its ownership or control of any subsidiary when the FRB has reasonable grounds to believe that continuation of such activity or ownership constitutes a serious risk to the financial soundness, safety or stability of any bank subsidiary of the bank holding company.

The Company is required to file periodic reports with the FRB and provide any additional information the FRB may require. The FRB also has the authority to examine the Company and its subsidiaries, as well as any arrangements between the Company and its subsidiaries, with the cost of any such examinations to be borne by the Company.  Banking subsidiaries of bank holding companies are also subject to certain restrictions imposed by federal law in dealings with their holding companies and other affiliates.

The Dodd-Frank Act. The Dodd-Frank Act implements far-reaching changes across the financial regulatory landscape, including changes that will affect all bank holding companies and banks, including the Company and the Bank. Among other provisions, the Dodd-Frank Act:

·
changed the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible capital. The Dodd-Frank Act also made permanent the $250,000 limit for federal deposit insurance and increased the cash limit of Securities Investor Protection Corporation protection from $100,000 to $250,000;

·
repealed the federal prohibitions on the payment of interest on demand deposits, thereby permitting depository institutions to pay interest on business transaction and other accounts;
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·
created and centralized significant aspects of consumer financial protection by creating a new agency, the Consumer Financial Protection Bureau (CFPB), which is discussed in more detail below;

·
imposed limits for debit card interchange fees for issuers that have assets greater than $10 billion, which also could affect the amount of interchange fees collected by financial institutions with less than $10 billion in assets;

·
restricted the preemption of state law by federal law and disallowed subsidiaries and affiliates of national banks from availing themselves of such preemption;

·
imposed comprehensive regulation of the over-the-counter derivatives market subject to significant rulemaking processes, to include certain provisions that would effectively prohibit insured depository institutions from conducting certain derivatives businesses in the institution itself;

·
required loan originators to retain 5 percent of any loan sold or securitized, unless it is a "qualified residential mortgage", subject to certain restrictions;

·
prohibited banks and their affiliates from engaging in proprietary trading and investing in and sponsoring certain unregistered investment companies (the Volcker Rule); and

·
implemented corporate governance revisions that apply to all public companies, not just financial institutions.

Dodd-Frank Act provisions that require revisions to the capital requirements of the Company, the Bank and Trust could impact their ability to raise capital in the future. Although the Company has not issued trust preferred securities, Dodd-Frank Act provisions that revoke the Tier 1 capital treatment of trust preferred securities could cause the Company, the Bank and Trust to seek other sources of capital in the future.  Some of the rules that have been adopted or proposed to comply with Dodd-Frank Act mandates are discussed in more detail below.

Capital Requirements and Prompt Corrective Action. The FRB, the Comptroller and the FDIC have adopted risk-based capital adequacy guidelines for bank holding companies and banks pursuant to the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) and the Basel III Capital Accords. See "Management's Discussion and Analysis of Financial Condition and Results of Operations – Capital Resources" in Item 7 of this report on Form 10-K.

The federal banking agencies have broad powers to take prompt corrective action to resolve problems of insured depository institutions.  Under the FDICIA, there are five capital categories applicable to bank holding companies and insured institutions, each with specific regulatory consequences. The extent of the agencies' powers depends on whether the institution in question is "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" or "critically undercapitalized."  These terms are defined under uniform regulations issued by each of the federal banking agencies.  If the appropriate federal banking agency determines that an insured institution is in an unsafe or unsound condition, it may reclassify the institution to a lower capital category (other than critically undercapitalized) and require the submission of a plan to correct the unsafe or unsound condition.

Failure to meet statutorily mandated capital guidelines or more restrictive ratios separately established for a financial institution could subject the Company and its subsidiaries to a variety of enforcement remedies, including issuance of a capital directive, the termination of deposit insurance by the FDIC, a prohibition on accepting or renewing brokered deposits, limitations on the rates of interest that the institution may pay on its deposits, and other restrictions on its business.  In addition, an institution may not make a capital distribution, such as a dividend or other distribution that is in substance a distribution of capital to the owners of the institution if following such a distribution the institution would be undercapitalized. Thus, if the making of such dividend would cause the Bank to become undercapitalized, it could not pay a dividend to the Company.

Basel III Capital Framework. The federal bank regulatory agencies have adopted rules to implement the Basel III capital framework as outlined by the Basel Committee on Banking Supervision and standards for calculating risk-weighted assets and risk-based capital measurements (collectively, the Basel III Final Rules).  For purposes of these capital rules, (i) common equity Tier 1 capital (CET1) consists principally of common stock (including surplus) and retained earnings; (ii) Tier 1 capital consists principally of CET1 plus non-cumulative preferred stock and related surplus, and certain grandfathered cumulative preferred stock and trust preferred securities; and (iii) Tier 2 capital consists principally of Tier 1 capital plus qualifying subordinated debt and preferred stock, and limited amounts of an institution's allowance for loan losses.  Each regulatory capital classification is subject to certain adjustments and limitations, as implemented by the Basel III Final Rules.  The Basel III Final Rules also establish risk weightings that are applied to many classes of assets held by community banks, including, importantly, applying higher risk weightings to certain commercial real estate loans.
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The Basel III Final Rules were effective on January 1, 2015, and the Basel III Final Rules' capital conservation buffer (as described below) will be phased in through 2019.  When fully phased in, the Basel III Final Rules require banks to maintain (i) a minimum ratio of CET1 to risk-weighted assets of at least 4.5%, plus a 2.5% "capital conservation buffer" (which is added to the 4.5% CET1 ratio as that buffer is phased in, effectively resulting in a minimum ratio of CET1 to risk-weighted assets of at least 7%), (ii) a minimum ratio of Tier 1 capital to risk-weighted assets of at least 6.0%, plus the capital conservation buffer (which is added to the 6.0% Tier 1 capital ratio as that buffer is phased in, effectively resulting in a minimum Tier 1 capital ratio of 8.5% upon full implementation), (iii) a minimum ratio of total (that is, Tier 1 plus Tier 2) capital to risk-weighted assets of at least 8.0%, plus the capital conservation buffer (which is added to the 8.0% total capital ratio as that buffer is phased in, effectively resulting in a minimum total capital ratio of 10.5% upon full implementation) and (iv) a minimum leverage ratio of 4%, calculated as the ratio of Tier 1 capital to balance sheet exposures plus certain off-balance sheet exposures (computed as the average for each quarter of the month-end ratios for the quarter).

The Basel III Final Rules provide deductions from and adjustments to regulatory capital measures, and primarily to CET1, including deductions and adjustments that were not applied to reduce CET1 under historical regulatory capital rules.  For example, mortgage servicing rights, deferred tax assets dependent upon future taxable income and significant investments in non-consolidated financial entities must be deducted from CET1 to the extent that any one such category exceeds 10% of CET1 or all such categories in the aggregate exceed 15% of CET1.  These deductions from and adjustments to regulatory capital are generally subject to a phase in period, which began in 2015 and will continue through 2018.

The Basel III Final Rules also implement a "countercyclical capital buffer," generally designed to absorb losses during periods of economic stress and to be imposed when national regulators determine that excess aggregate credit growth becomes associated with a buildup of systemic risk. This buffer is a CET1 add-on to the capital conservation buffer in the range of 0% to 2.5% when fully implemented (potentially resulting in total buffers of between 2.5% and 5%).

Insurance of Accounts, Assessments and Regulation by the FDIC. The Bank's deposits are insured up to applicable limits by the Deposit Insurance Fund (DIF) of the FDIC. The basic limit on FDIC deposit insurance coverage is $250,000 per depositor.

Under the Federal Deposit Insurance Act (FDIA), the FDIC may terminate deposit insurance upon a finding that the institution has engaged in unsafe and unsound practices, is in an unsafe or unsound condition to continue operations as an insured institution, or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC, subject to administrative and potential judicial hearing and review processes.

The DIF is funded by assessments on banks and other depository institutions calculated based on average consolidated total assets minus average tangible equity (defined as Tier 1 capital). As required by the Dodd-Frank Act, the FDIC has adopted a large-bank pricing assessment scheme, set a target "designated reserve ratio" (described in more detail below) of 2 percent for the DIF, and established a lower assessment rate schedule when the reserve ratio reaches 1.15 percent and, in lieu of dividends, provides for a lower assessment rate schedule, when the reserve ratio reaches 2 percent and 2.5 percent.

An institution's assessment rate depends upon the institution's assigned risk category, which is based on supervisory evaluations, regulatory capital levels and certain other factors. Initial base assessment rates range from 2.5 to 45 basis points. The FDIC may make the following further adjustments to an institution's initial base assessment rates: decreases for long-term unsecured debt including most senior unsecured debt and subordinated debt; increases for holding long-term unsecured debt or subordinated debt issued by other insured depository institutions; and increases for brokered deposits in excess of 10 percent of domestic deposits for institutions not well rated and well capitalized.

The Dodd-Frank Act transferred to the FDIC increased discretion with regard to managing the required amount of reserves for the DIF, or the "designated reserve ratio." Among other changes, the Dodd-Frank Act (i) raised the minimum designated reserve ratio to 1.35 percent and removed the upper limit on the designated reserve ratio, (ii) requires that the designated reserve ratio reach 1.35 percent by September 2020, and (iii) requires the FDIC to offset the effect on institutions with total consolidated assets of less than $10 billion of raising the designated reserve ratio from 1.15 percent to 1.35 percent – which requirement will be met through rules proposed by the FDIC during 2015. The FDIA requires that the FDIC consider the appropriate level for the designated reserve ratio on at least an annual basis. The FDIC has adopted a DIF restoration plan to ensure that the fund reserve ratio reaches 1.35 percent by September 30, 2020, as required by the Dodd-Frank Act.
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The Sarbanes-Oxley Act. The Sarbanes-Oxley Act (SOX) enacted major reforms of the federal securities laws intended to protect investors by improving the accuracy and reliability of corporate disclosures. It impacts all companies with securities registered under the Exchange Act, including the Company. SOX creates increased responsibility for chief executive officers and chief financial officers with respect to the content of filings with the SEC. Section 404 of SOX and related SEC rules focused increased scrutiny by internal and external auditors on the Company's systems of internal controls over financial reporting, to insure that those internal controls are effective in both design and operation. SOX sets out enhanced requirements for audit committees, including independence and expertise, and it includes stronger requirements for auditor independence and limits the types of non-audit services that auditors can provide. Finally, SOX contains additional and increased civil and criminal penalties for violations of securities laws.

Incentive Compensation Guidance. The FRB, the Comptroller and the FDIC have issued regulatory guidance (the Incentive Compensation Guidance) intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The FRB will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking organizations, such as the Company, that are not "large, complex banking organizations." The findings will be included in reports of examination, and deficiencies will be incorporated into the organization's supervisory ratings. Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance processes, pose a risk to the organization's safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies.

As required by the Dodd-Frank Act, in March 2011 the SEC and the federal bank regulatory agencies proposed regulations that would require financial institutions with assets of at least $1 billion to disclose the structure of their incentive compensation practices and prohibit such institutions from maintaining executive compensation arrangements that encourage inappropriate risk taking by providing excessive compensation or that could lead to material financial loss.  If the regulations are adopted in the form initially proposed, they will impose limitations on the manner in which a company whose total consolidated assets reach or exceed $1 billion may structure compensation for its executives and will require such company to submit annual reports to the Federal Reserve regarding the company's incentive compensation. These proposed regulations incorporate the principles discussed in the Incentive Compensation Guidance.  A final rule has not yet been published.  Although the final rule is not expected to apply to institutions with less than $1 billion in total consolidated assets, the federal banking agencies, including the Comptroller, emphasize that all banking organizations, regardless of size, must carefully design and oversee incentive compensation policies to ensure such policies do not undermine the safety and soundness of such organizations.

Community Reinvestment Act. The Company is subject to the requirements of the CRA, which imposes on financial institutions an affirmative and ongoing obligation to meet the credit needs of their local communities, including low and moderate-income neighborhoods, consistent with the safe and sound operation of those institutions. A financial institution's efforts in meeting community credit needs are currently assessed based on specified factors.  These factors also are considered in evaluating mergers, acquisitions and applications to open a branch or facility.

Confidentiality and Required Disclosures of Consumer Information. The Company is subject to various laws and regulations that address the privacy of nonpublic personal financial information of consumers. The Gramm-Leach-Bliley Act and certain regulations issued thereunder protect against the transfer and use by financial institutions of consumer nonpublic personal information. A financial institution must provide to its customers, at the beginning of the customer relationship and annually thereafter, the institution's policies and procedures regarding the handling of customers' nonpublic personal financial information. These privacy provisions generally prohibit a financial institution from providing a customer's personal financial information to unaffiliated third parties unless the institution discloses to the customer that the information may be so provided and the customer is given the opportunity to opt out of such disclosure.
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The Company is also subject to various laws and regulations that attempt to combat money laundering and terrorist financing. The Bank Secrecy Act requires all financial institutions to, among other things, create a system of controls designed to prevent money laundering and the financing of terrorism, and imposes recordkeeping and reporting requirements. The USA Patriot Act facilitates information sharing among governmental entities and financial institutions for the purpose of combating terrorism and money laundering, and requires financial institutions to establish anti-money laundering programs. The Federal Bureau of Investigation (FBI) sends banking regulatory agencies lists of the names of persons suspected of involvement in terrorist activities, and requests banks to search their records for any relationships or transactions with persons on those lists. If the Bank finds any relationships or transactions, it must file a suspicious activity report with the U.S. Department of the Treasury (the Treasury) and contact the FBI. The Office of Foreign Assets Control (OFAC), which is a division of the Treasury, is responsible for helping to ensure that United States entities do not engage in transactions with "enemies" of the United States, as defined by various Executive Orders and Acts of Congress. If the Bank finds a name of an "enemy" of the United States on any transaction, account or wire transfer that is on an OFAC list, it must freeze such account or place transferred funds into a blocked account, file a suspicious activity report with the Treasury and notify the FBI.

Consumer Laws and Regulations. The Company is also subject to certain consumer laws and regulations that are designed to protect consumers in transactions with banks. While the list set forth herein is not exhaustive, these laws and regulations include the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Credit Reporting Act and the Fair Housing Act, among others. These laws and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions transact business with customers. The Company must comply with the applicable provisions of these consumer protection laws and regulations as part of its ongoing customer relations.

The CFPB is the federal regulatory agency responsible for implementing, examining and enforcing compliance with federal consumer financial laws for institutions with more than $10 billion of assets and, to a lesser extent, smaller institutions. The CFPB supervises and regulates providers of consumer financial products and services and has rulemaking authority in connection with numerous federal consumer financial protection laws (for example, but not limited to, the Truth in Lending Act and the Real Estate Settlement Procedures Act).  As a smaller institution (i.e., with assets of $10 billion or less), most consumer protection aspects of the Dodd-Frank Act will continue to be applied to the Company by the FRB and to the Bank by the Comptroller. However, the CFPB may include its own examiners in regulatory examinations by a smaller institution's prudential regulators and may require smaller institutions to comply with certain CFPB reporting requirements. In addition, regulatory positions taken by the CFPB and administrative and legal precedents established by CFPB enforcement activities, including in connection with supervision of larger bank holding companies and banks, could influence how the FRB and Comptroller apply consumer protection laws and regulations to financial institutions that are not directly supervised by the CFPB. The precise effect of the CFPB's consumer protection activities on the Company cannot be forecast.

Mortgage Banking Regulation.  In connection with making mortgage loans, the Bank is subject to rules and regulations that, among other things, establish standards for loan origination, prohibit discrimination, provide for inspections and appraisals of property, require credit reports on prospective borrowers, in some cases, restrict certain loan features and fix maximum interest rates and fees, require the disclosure of certain basic information to mortgagors concerning credit and settlement costs, limit payment for settlement services to the reasonable value of the services rendered and require the maintenance and disclosure of information regarding the disposition of mortgage applications based on race, gender, geographical distribution and income level.  The Bank's mortgage origination activities are subject to the Equal Credit Opportunity Act, Truth in Lending Act, Home Mortgage Disclosure Act, Real Estate Settlement Procedures Act, and Home Ownership Equity Protection Act, and the regulations promulgated under these acts, among other additional state and federal laws, regulations and rules.

The Bank's mortgage origination activities are also subject to Regulation Z, which implements the Truth in Lending Act.  Certain provisions of Regulation Z require mortgage lenders to make a reasonable and good faith determination, based on verified and documented information, that a consumer applying for a mortgage loan has a reasonable ability to repay the loan according to its terms.  Alternatively, a  mortgage  lender  can  originate  "qualified mortgages", which are generally defined as mortgage loans without negative amortization, interest-only payments, balloon payments, terms exceeding 30 years, and points and fees paid by a consumer equal to or less than 3% of the total loan amount. Higher-priced qualified mortgages (e.g., subprime loans) receive a rebuttable presumption of compliance with ability-to-repay rules, and other qualified mortgages (e.g., prime loans) are deemed to comply with the ability-to-repay rules. The Bank does not originate first mortgage loans at this time, and the first mortgages it purchases comply with Regulation Z's "qualified mortgage" rules. The Bank does originate second mortgages, or equity loans, and these loans do not conform to the qualified mortgage criteria but comply with applicable ability-to-repay rules.
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Volcker Rule. The Dodd-Frank Act prohibits bank holding companies and their subsidiary banks from engaging in proprietary trading except in limited circumstances, and places limits on ownership of equity investments in private equity and hedge funds (the Volcker Rule). On December 10, 2013, the U.S. financial regulatory agencies (including the FRB, the FDIC, the Comptroller and the SEC) adopted final rules to implement the Volcker Rule.  In relevant part, these final rules would have prohibited banking entities from owning collateralized debt obligations (CDOs) backed by trust preferred securities (TruPS), effective July 21, 2015. However, subsequent to these final rules the U.S. financial regulatory agencies issued an interim rule effective April 1, 2014 to exempt CDOs backed by TruPS from the final rule implementing the Volcker Rule, provided that (a) the CDO was established prior to May 19, 2010, (b) the banking entity reasonably believes that the CDO's offering proceeds were used to invest primarily in TruPS issued by banks with less than $15 billion in assets, and (c) the banking entity acquired the CDO investment on or before December 10, 2013. The Company currently does not have any CDO investments, and the Company believes that its financial condition will not be significantly impacted by the Volcker Rule, the final rules or the interim rule.  Smaller banks, with total consolidated assets of $10 billion or less, engaged in modest proprietary trading activities for their own accounts are subject to a simplified compliance program under the final rules.  Several portions of the Volcker Rule remain subject to regulatory rulemaking and legislative activity, including to further delay effectiveness of some provisions of the Volcker Rule.  The Company does not expect that any delays in the effectiveness of a portion of the Volcker Rule will significantly impact its financial condition.

Item 1A. Risk Factors

U.S. and international economic conditions and credit markets pose challenges for the Company and could adversely affect the results of operations, liquidity and financial condition. The Company is currently operating in a challenging and uncertain economic environment, both in the local markets it serves and in the broader national and international economies. In addition, uncertainty regarding oil prices, ongoing federal budget negotiations, the implementation of the employer mandate under the Patient Protection and Affordable Care Act, and the level of U.S. debt may present challenges to businesses and have a destabilizing effect on financial markets. If the economic recovery continues to be relatively weak or there is further deterioration of national or international economic conditions, the financial condition and operating performance of financial institutions, including the Company, could be adversely affected. Such adverse effects could include a decline in the value of the Company's securities portfolio, and could increase the regulatory scrutiny of financial institutions. Another deterioration of local economic conditions could again lead to declines in real estate values and home sales and increases in the financial stress on borrowers and unemployment rates, all of which could lead to increases in loan delinquencies, problem assets and foreclosures and reductions in loan collateral value. Such a deterioration of local economic conditions could cause the level of loan losses to exceed the level the Company has provided in its allowance for loan losses which, in turn, would reduce the Company's earnings.

Global credit market conditions could return to being disrupted and volatile. Although the Company remains well capitalized and has not suffered any liquidity issues, the cost and availability of funds may be adversely affected by illiquid credit markets. Any future turbulence in the U.S. and international markets and economy may adversely affect the Company's liquidity, financial condition and profitability.

The Company is subject to interest rate risk and variations in interest rates may negatively affect its financial performance. The Company's profitability depends in substantial part on its net interest margin, which is the difference between the rates received on loans and investments and the rates paid for deposits and other sources of funds. The net interest margin depends on many factors that are partly or completely outside of the Company's control, including competition; federal economic, monetary and fiscal policies; and economic conditions. Changes in interest rates affect operating performance and financial condition. Because of the differences in the maturities and repricing characteristics of interest-earning assets and interest-bearing liabilities, changes in interest rates do not produce equivalent changes in interest income earned on interest-earning assets and interest paid on interest-bearing liabilities. Accordingly, fluctuations in interest rates could adversely affect the Company's net interest margin and, in turn, its profitability. In December 2015, the FRB's Federal Open Market Committee raised the target range for the federal funds rate, which is the interest rate at which depository institutions lend reserve balances to other depository institutions overnight, to 0.25%-0.50%, which was the first change since the target range was lowered to 0%-0.25% in 2008. The FOMC's monetary policy remains accommodative after this increase, and the overall low interest rate environment is expected to continue in 2016. Continued low interest rates could put further pressure on the yields generated by the Company's loan portfolio and on the Company's net interest margin. At December 31, 2015, based on scheduled maturities only, the Company's balance sheet was liability sensitive at the one-year time frame and, as a result, its net interest margin will tend to decrease in a rising interest rate environment and increase in a declining interest rate environment. However, when using decay rates to simulate maturities for non-maturing deposits, the Company's balance sheet as of December 31, 2015 is asset sensitive at the one-year time frame. When the Company is asset sensitive, the net interest margin should rise if rates rise and should fall if rates fall. For additional details, See "Management's Discussion and Analysis of Financial Condition and Results of Operations – Interest Sensitivity" in Item 7 of this report on Form 10-K.
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In addition, any substantial and prolonged increase in market interest rates could reduce the Company's customers' desire to borrow money or adversely affect their ability to repay their outstanding loans by increasing their credit costs. Interest rate changes could also affect the fair value of the Company's financial assets and liabilities. Accordingly, changes in levels of market interest rates could materially and adversely affect the Company's net interest margin, asset quality, loan origination volume, business, financial condition, results of operations and cash flows.

System failures, interruptions, breaches of security, or the failure of a third-party provider to perform its obligations could adversely impact the Company's business operations and financial condition. Communications and information systems are essential to the conduct of the Company's businesses, as such systems are used to manage customer relationships, general ledger, deposits and loans. While the Company has established policies and procedures to prevent or limit the impact of systems failures, interruptions and security breaches, the Company's information, security, and other systems may stop operating properly or become disabled or damaged as a result of a number of factors, including events beyond the Company's control, such as sudden increases in customer transaction volume, electrical or telecommunications outages, natural disasters, and cyber-attacks. Information security risks have increased in recent years in part because of the proliferation of new technologies to conduct financial transactions and the increased sophistication and activities of hackers, activists and other external parties. The Company may not have the resources or technical sophistication to anticipate or prevent rapidly evolving types of cyber-attacks. In addition, any compromise of the security systems could deter customers from using the Bank's website and online banking service, both of which involve the transmission of confidential information. The security and authentication precautions imposed by the Company and the Bank may not protect the systems from compromises or breaches of security, which would adversely affect the Company's results of operations and financial condition.

In addition, the Company outsources certain data processing to certain third-party providers. Accordingly, the Company's operations are exposed to risk that these third-party providers will not perform in accordance with the contracted arrangements under service agreements. If the third-party providers encounter difficulties, or if the Company has difficulty in communicating with them, the Company's ability to adequately process and account for customer transactions could be affected, and the Company's business operations could be adversely impacted. Further, a breach of a third-party provider's technology may cause loss to the Company's customers. Replacing these third-party providers could also create significant delay and expense. Threats to information security also exist in the processing of customer information through various other vendors and their personnel.

The occurrence of any systems failure, interruption or breach of security, or the failure of a third-party provider to perform its obligations, could expose the Company to risks of data loss or data misuse, could damage the Company's reputation and result in a loss of customers and business, could subject it to additional regulatory scrutiny or could expose it to civil litigation, possible financial liability and costly response measures. Any of these occurrences could have a material adverse effect on the Company's financial condition and results of operations.

The Company's accounting estimates and risk management processes rely on analytical and forecasting models. Processes that management uses to measure the fair value of financial instruments, as well as the processes used to estimate the effects of changing interest rates and other market measures on the Company's earnings performance and liquidity, depend upon the use of analytical and forecasting models. These models reflect assumptions that may not be accurate, particularly in times of market stress or other unforeseen circumstances. Even if these assumptions are accurate, the models may prove to be inadequate or inaccurate because of other flaws in their design or their implementation.

If the models that management uses for interest rate risk and asset-liability management are inadequate, the Company may incur increased or unexpected losses upon changes in market interest rates or other market measures and may be unable to maintain sufficient liquidity. If the models that management uses to measure the fair value of financial instruments are inadequate, the fair value of such financial instruments may fluctuate unexpectedly or may not accurately reflect what the Company could realize upon sale or settlement of such financial instruments. Any such failure in management's analytical or forecasting models could have a material adverse effect on the Company's business, financial condition and results of operations.
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Weaknesses in the commercial real estate markets could negatively affect the Company's financial performance due to the Company's concentration in commercial real estate loans. At December 31, 2015, the Company had $297.4 million, or 52.32%, of total loans concentrated in commercial real estate, which includes, for purposes of this concentration, all construction loans, loans secured by multifamily residential properties, loans secured by farmland and loans secured by nonfarm, nonresidential properties. Commercial real estate loans expose the Company to a greater risk of loss than residential real estate and consumer loans. Commercial real estate loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to residential real estate loans. Consequently, an adverse development with respect to one commercial real estate loan or credit relationship exposes the Company to a significantly greater risk of loss compared to an adverse development with respect to one residential real estate loan. Commercial real estate loans carry risks associated with the successful operation of a business if the properties are owner occupied. If the properties are non-owner occupied, the repayment of these loans may be dependent upon the profitability and cash flow from rent receipts. Repayment of commercial real estate loans may, to a greater extent than residential real estate loans, be subject to adverse conditions in the real estate market or economy. Weak economic or market conditions may impair a borrower's business operations, slow the execution of new leases and lead to turnover in existing leases. The combination of these factors could result in deterioration in value of some of the Company's loans. The deterioration of one or more of the Company's significant commercial real estate loans could cause a significant increase in nonaccrual loans. An increase in nonaccrual loans could result in a loss of interest income from those loans, an increase in the provision for loan losses, and an increase in loan charge-offs, all of which could have a material adverse effect on the Company's financial performance.

The Company's profitability depends significantly on local economic conditions and changes in the federal government's military or defense spending may negatively affect the local economy. The Company's success depends primarily on the general economic conditions of the markets in which the Company operates. Unlike larger financial institutions that are more geographically diversified, the Company provides banking and financial services to customers primarily in the Hampton Roads MSA. The local economic conditions in this area have a significant impact on the demand for loans, the ability of the borrowers to repay these loans and the value of the collateral securing these loans. A significant decline in general economic conditions, caused by inflation, recession, acts of terrorism, an outbreak of hostilities or other international or domestic calamities, unemployment or other factors beyond the Company's control could impact these local economic conditions.

In addition, Hampton Roads is home to one of the largest military installations in the world and one of the largest concentrations of Department of Defense personnel in the United States. Some of the Company's customers may be particularly sensitive to the level of federal government spending on the military or on defense-related products. Federal spending is affected by numerous factors, including macroeconomic conditions, presidential administration priorities, and the ability of the federal government to enact relevant appropriations bills and other legislation. Any of these factors could result in future cuts to military or defense spending or increased uncertainty about federal spending, which could have a severe negative impact on individuals and businesses in the Company's primary service area. Any related increase in unemployment rates or reduction in business development activities in the Company's primary service area could lead to increases in loan delinquencies, problem assets and foreclosures and reductions in loan collateral value, which could have a material adverse effect on the Company's operating results and financial condition.

The Company is subject to losses resulting from fraudulent and negligent acts on the part of loan applicants, correspondents or other third parties. The Company relies heavily upon information supplied by third parties, including the information contained in credit applications, employment and income documentation, property appraisals, title information, and equipment pricing and valuation, in deciding which loans to originate, as well as in establishing the terms of those loans. If any of the information upon which the Company relies during the loan approval process is misrepresented, either fraudulently or inadvertently, and the misrepresentation is not detected prior to asset funding, the value of the asset may be significantly lower than expected, the Company may fund a loan that it would not have otherwise funded or the Company may fund a loan on terms that it would not have otherwise extended. Whether a misrepresentation is made by the applicant or by another third party, the Company generally bears the risk of loss associated with the misrepresentation. In addition, a loan subject to a material misrepresentation is typically unsellable or subject to repurchase if it is sold prior to detection of the misrepresentation. The sources of the misrepresentation are often difficult to locate, and it may be difficult to recover any monetary loss the Company may suffer.
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Declines in loans outstanding could have a material adverse impact on the Company's operating results and financial condition. If quality loan demand does not continue to increase and the Company's loan portfolio begins to decline, the Company expects that excess liquidity will be invested in marketable securities. Because loans typically yield higher returns than the Company's securities portfolio, a shift towards investments in the Company's asset mix would likely result in an overall reduction in net interest income and the net interest margin. The principal source of earnings for the Company is net interest income, and as discussed above, the Company's net interest margin is a major determinant of the Company's profitability. The effects of a reduction in net interest income and the net interest margin may be exacerbated by the intense competition for quality loans in the Company's primary service area and by rate reductions on loans currently held in the portfolio. As a result, a reduction in loans could have a material adverse effect on the Company's operating results and financial condition.

The Company's substantial dependence on dividends from its subsidiaries may prevent it from paying dividends to its stockholders and adversely affect its business, results of operations or financial condition. The Company is a separate legal entity from its subsidiaries and does not have significant operations or revenues of its own. The Company substantially depends on dividends from its subsidiaries to pay dividends to stockholders and to pay its operating expenses. The availability of dividends from the subsidiaries is limited by various statutes and regulations. It is possible, depending upon the financial condition of the Company and other factors, that the Comptroller could assert that payment of dividends by the subsidiaries is an unsafe or unsound practice. In the event the subsidiaries are unable to pay dividends to the Company, the Company may not be able to pay dividends on the Company's common stock, service debt or pay operating expenses. Consequently, the inability to receive dividends from the subsidiaries could adversely affect the Company's financial condition, results of operations, cash flows and limit stockholders' return, if any, to capital appreciation.

The small-to-medium size businesses the Company targets may have fewer financial resources to weather a downturn in the economy, which could materially harm operating results. The Company targets individual and small-to-medium size business customers. Small-to-medium-size businesses frequently have smaller market shares than their competitors, may be more vulnerable to economic downturns, often need substantial additional capital to expand and compete and may experience significant volatility in operating results. Any one or more of these factors may impair a borrower's ability to repay a loan. In addition, the success of a small-to-medium size business often depends on the management talents and efforts of one or a small group of persons, and the death, disability or resignation of one or more of these persons could have a material adverse impact on the business and its ability to repay a loan. Economic downturns and other events that negatively impact businesses in the Company's primary service area could have a proportionately greater impact on small-to-medium-size businesses and accordingly could cause the Company to incur substantial credit losses that could negatively affect its results of operations and financial condition.

A decline in real estate values has caused the Company to experience losses in selling foreclosed properties, and the continuation of this decline could cause a significant portion of the Company's loan portfolio to be under-collateralized and lead to additional future losses. The market value of real estate, particularly real estate held for investment, can fluctuate significantly in a short period of time as a result of market conditions in the geographic area in which the real estate is located. The Company's business activities and credit exposures are primarily concentrated in the Hampton Roads MSA. If the value of the real estate serving as collateral for the Company's loan portfolio were to decline materially, a significant part of the loan portfolio could become under-collateralized. If the loans that are collateralized by real estate become troubled during a time when market conditions are declining or have declined, then, in the event of foreclosure, the Company may not be able to realize the dollar value from the collateral that it anticipated at the time of originating the loan. If real estate values decline, it is also more likely that the Company would be required to increase the allowance for loan losses, which could also adversely affect the Company's business, financial condition and results of operations.

In recent years, the market value of real estate declined considerably. While values have begun to recover, certain of the Company's loans remain under-collateralized. Some of these loans have become troubled and have been foreclosed upon, and the Company was unable to realize the expected value of the collateral. Due to these events, the Company has established a valuation reserve for other real estate owned (OREO), including foreclosed assets, which negatively affects the Company's earnings in periods in which a provision is added to the valuation reserve.

In addition, the decline in real estate values has caused and could continue to cause the Company to experience losses when selling OREOs. These factors have had an adverse effect on operating results.
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The ownership of foreclosed property exposes the Company to significant costs, some of which are uncertain. When the Company has to foreclose upon real property held as collateral, the Company is exposed to the risks inherent in the ownership of real estate. The amount that the Company may realize after a loan default is dependent upon factors outside of the Company's control, including environmental cleanup liability, especially with regard to non-residential real estate, neighborhood values, real estate tax rates, operating or maintenance expenses of the foreclosed properties, and supply of and demand for properties. Significant costs associated with the ownership of real estate may materially and adversely affect the Company's business, financial condition, cash flows and result of operations.

The Company and its subsidiaries are subject to extensive regulation which could adversely affect them. The Company is subject to extensive regulation by federal, state and local governmental authorities and is subject to various laws and judicial and administrative decisions imposing requirements and restrictions on part or all of operations, including those referenced above. Regulations adopted by these agencies, which are generally intended to protect depositors and customers rather than to benefit stockholders, govern a comprehensive range of matters including, without limitation, ownership and control of the Company's shares, acquisition of other companies and businesses, permissible activities that the Company and its subsidiaries may engage in, maintenance of adequate capital levels and other aspects of operations. These regulations could limit the Company's growth by restricting certain of its activities. The laws, rules and regulations applicable to the Company are subject to regular modification and change. Regulatory changes could subject the Company to more demanding regulatory compliance requirements which could affect the Company in unpredictable and adverse ways. Such changes could subject the Company to additional costs, limit the types of financial services and products it may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or damage to the Company's reputation, which could have a material adverse effect on the Company's business, financial condition and results of operations. Legislation and regulatory initiatives containing wide-ranging proposals for altering the structure, regulation and competitive relationship of financial institutions are introduced regularly. The Company cannot predict in what form or whether a proposed statute or regulation will be adopted or the extent to which such adoption may affect its business.

The Dodd-Frank Act has increased the Company's regulatory compliance burden and associated costs, placed restrictions on certain products and services and limited its future capital raising strategies. A wide range of regulatory initiatives directed at the financial services industry has been proposed and/or implemented in recent years. Since its enactment in 2010, the Dodd-Frank Act has increased the Company's regulatory compliance burden and its continuing implementation will likely continue to increase the Company's regulatory compliance burden and may have a material adverse effect on the Company, by increasing the costs associated with regulatory examinations and compliance measures.

One of the Dodd-Frank Act's significant regulatory changes is the creation of the CFPB, a financial consumer protection agency that has the authority to impose new regulations and include its examiners in routine regulatory examinations conducted by the Comptroller. The CFPB is reshaping the consumer financial laws through rulemaking and enforcement of the Dodd-Frank Act's prohibitions against unfair, deceptive and abusive business practices, directly impacting the business operations of financial institutions offering consumer financial products or services, including the Company and the Bank. This agency's broad rulemaking authority includes identifying practices or acts that are unfair, deceptive or abusive in connection with any consumer financial transaction or consumer financial product or service. Although the CFPB generally has jurisdiction over banks with $10 billion or more in assets, rules, regulations and policies issued by the CFPB may also apply to the Company, the Bank and/or Trust through the adoption of such policies and best practices by the FRB, Comptroller and FDIC.

The full costs and limitations related to this additional regulatory agency and the limitations and restrictions that may be placed upon the Company with respect to its consumer product and service offerings have yet to be determined in their entirety. However, the Company has already experienced a reduction in overdraft fee income due to regulatory changes promulgated under Dodd-Frank, with income from overdraft fees declining $860 thousand, or 22.93%, when comparing 2010 to 2015. Additional costs, limitations and restrictions may have a material impact on the Company's business, financial condition and results of operations.

The Dodd-Frank Act also increases regulatory supervision and examination of bank holding companies and their banking and non-banking subsidiaries. These and other regulations included in the Dodd-Frank Act could increase the Company's regulatory compliance burden and costs, restrict the financial products and services the Bank can offer to its customers and restrict the Company's ability to generate revenues from non-banking operations. The Dodd-Frank Act imposes more stringent capital requirements on bank holding companies, which could limit the Company's future capital strategies.
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Market risk affects the earnings of Trust. The fee structure of Trust is generally based upon the market value of accounts under administration. Most of these accounts are invested in equities of publicly traded companies and debt obligations of both government agencies and publicly traded companies. As such, fluctuations in the equity and debt markets in general have had a direct impact upon the earnings of Trust.

Compliance with the CFPB regulations aimed at the mortgage banking industry may require substantial changes to mortgage lending systems and processes that may adversely affect income from the Company's residential mortgage activities. The CFPB has finalized a number of significant rules that impact nearly every aspect of the lifecycle of a residential real estate loan. Among other things, the rules adopted by the CFPB require mortgage lenders either to make a reasonable and good faith determination, based on verified and documented information, that a consumer applying for a mortgage loan has a reasonable ability to repay the loan according to its terms, or to originate "qualified mortgages." In June 2015, the CFPB issued rules that combined disclosures previously established by the Truth in Lending Act and the Real Estate Settlement Procedures Act into a single disclosure referred to as the TILA-RESPA Integrated Disclosure, or TRID. TRID applies to most closed-end mortgage loans and overhauls the manner in which mortgage loan origination disclosures are made.

Although the Company does not originate or sell first mortgage loans at this time, it may elect to do so in the future, and TRID does apply to the mortgages it purchases. TRID also applies to second mortgages originated by the Company (but not to equity lines of credit). During 2015, the Company made significant changes to its residential real estate business, including investments in technology and employee training. These CFPB rules, in addition to other previously-issued and to-be-issued CFPB regulations, could materially affect the Company's ability to originate and sell residential real estate loans or limit the terms on which the Company may offer products, which could adversely affect the Company's financial condition and results of operations.

The Basel III Final Rules require higher levels of capital and liquidity, which could adversely affect the Company's net income and return on equity. The capital adequacy and liquidity guidelines applicable to the Company and the Bank under the Basel III Final Rules began to be phased in beginning in 2015. The Basel III Final Rules, when fully phased in, will require the Company and the Bank to maintain substantially more capital as a result of higher minimum capital levels and more demanding regulatory capital risk-weightings and calculations. The changes to the standardized calculations of risk-weighted assets are complex and may create enormous compliance burdens for the Company and the Bank. The Basel III Final Rules will require the Company and the Bank to substantially change the manner in which they collect and report information to calculate risk-weighted assets, and may increase dramatically risk-weighted assets as a result of applying higher risk weightings to many types of loans and securities. As a result, the Company and the Bank may be forced to limit originations of certain types of commercial and mortgage loans, thereby reducing the amount of credit available to borrowers and limiting opportunities to earn interest income from the loan portfolio, which may have a detrimental impact on the Company's net income.

If the Company were to require additional capital as a result of the Basel III Final Rules, it could be required to access the capital markets on short notice and in relatively weak economic conditions, which could result in raising capital that significantly dilutes existing stockholders. Additionally, the Company may be forced to limit banking operations and activities, and growth of loan portfolios and interest income, to focus on retention of earnings to improve capital levels. Higher capital levels may also lower the Company's return on equity.

The Company is dependent on key personnel and the loss of one or more of those key personnel could harm its business. The banking business in Virginia, and in the Company's primary service area in the Hampton Roads MSA, is highly competitive and dominated by a relatively small number of large banks. Competition for qualified employees and personnel in the banking industry is intense and there are a limited number of qualified persons with knowledge of and experience in the Virginia community banking industry. The Company's success depends to a significant degree upon its ability to attract and retain qualified management, loan origination, administrative, marketing and technical personnel and upon the continued contributions of and customer relationships developed by management and personnel. In particular, the Company's success is highly dependent upon the capabilities of its senior executive management. The Company believes that its management team, comprised of individuals who have worked in the banking industry for many years, is integral to implementing the Company's business plan. The Company has not entered into employment agreements with any of its executive management employees, and the loss of the services of one or more of them could harm the Company's business.
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The allowance for loan losses may not be adequate to cover actual losses. A significant source of risk arises from the possibility that losses could be sustained because borrowers, guarantors, and related parties may fail to perform in accordance with the terms of their loans and leases. There is no precise method to predict loan losses. Like all financial institutions, the Company maintains an allowance for loan losses to provide for loan defaults and non-performance. The allowance for loan losses may not be adequate to cover actual loan losses. In addition, future provisions for loan losses could materially and adversely affect, and have in recent years materially and adversely affected, the Company's operating results.

The allowance for loan losses is determined by analyzing historical loan losses, current trends in delinquencies and charge-offs, plans for problem loan resolutions, changes in the size and composition of the loan portfolio and industry information. Also included in management's estimates for loan losses are considerations with respect to the impact of economic events, the outcome of which are uncertain. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and judgment. The amount of future losses is susceptible to changes in economic and other conditions, including changes in interest rates, that may be beyond the Company's control and these future losses may exceed current estimates. If management's assumptions prove to be incorrect or if the Company experiences significant loan losses in future periods, the current level of the allowance for loan losses may not be adequate to cover actual loan losses and adjustments may be necessary to allow for different economic conditions or adverse developments in the loan portfolio. In addition, federal regulatory agencies, as an integral part of their examination process, review the Company's loans and allowance for loan losses and may require an increase in the allowance for loan losses or recognition of additional loan charge-offs, based on judgments different from those of management. While management believes that the Company's allowance is adequate to cover current losses, the Company cannot assure investors that it will not need to increase the allowance or that regulators will not require the allowance to be increased. Either of these occurrences could materially and adversely affect earnings and profitability.

The Company may be adversely affected by changes in government monetary policy. As a bank holding company, the Company's business is affected by the monetary policies established by the FRB, which regulates the national money supply in order to mitigate recessionary and inflationary pressures. In setting its policy, the FRB may utilize techniques such as the following:

·            Engaging in open market transactions in U.S. Government securities;
·            Setting the discount rate on member bank borrowings; and
·            Determining reserve requirements.

These techniques determine, to a significant extent, the Company's cost of funds for lending and investing. These techniques, all of which are outside the Company's control, may have an adverse effect on deposit levels, net interest margin, loan demand or the Company's business and operations.

Deposit insurance premiums could increase in the future, which may adversely affect future financial performance. The FDIC insures deposits at FDIC insured financial institutions, including the Bank. The FDIC charges insured financial institutions premiums to maintain the DIF at a certain level. Economic conditions from 2008 to 2011 increased the rate of bank failures and expectations for further bank failures, requiring the FDIC to make payments for insured deposits from the DIF. Although the DIF has since been replenished, a similar economic downturn in the future could require measures similar to those implemented during the last financial crisis, such as special assessments or required prepayments of insurance premiums. If the FDIC takes action to replenish the DIF, or if the Bank's asset size increases, the Bank's FDIC insurance premiums could increase, which could have an adverse effect on the Company's results of operations.

The Company's future success depends on its ability to compete effectively in the highly competitive financial services industry. The Company faces substantial competition in all phases of its operations from a variety of different competitors. Growth and success depends on the Company's ability to compete effectively in this highly competitive financial services environment. Many competitors offer products and services that are not offered by the Company, and many have substantially greater resources, name recognition and market presence that benefit them in attracting business. In addition, larger competitors may be able to price loans and deposits more aggressively and may have larger lending limits that would allow them to serve the credit needs of larger customers. Some of the financial services organizations with which the Company competes are not subject to the same degree of regulation as is imposed on bank holding companies and federally insured national banks. As a result, these non-bank competitors have certain advantages over the Company in accessing funding and in providing various services. The financial services industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Failure to compete effectively to attract new and retain current customers in the Company's markets could cause it to lose market share, slow its growth rate and may have an adverse effect on its financial condition and results of operations.
- 14 -
The Company may not be able to compete effectively without the appropriate use of current technology. The use of technology in the financial services market, including the banking industry, evolves frequently. The Company may be unable to attract and maintain banking relationships with certain customers if it does not offer appropriate technology-driven products and services. In addition to better serving customers, the effective use of technology may increase efficiency and reduce costs. The Company may not be able to effectively implement new technology-driven products or services or be successful in marketing these products and services to its customers. As a result, the Company's ability to compete effectively may be impaired, which could lead to a material adverse effect on the Company's financial condition and results of operations.

Negative public opinion could damage the Company's reputation and adversely impact the Company's business, financial condition and results of operation. Reputation risk, or the risk to the Company's business, financial condition and results of operation from negative public opinion, is inherent in the financial services industry. Negative public opinion can result from actual or alleged conduct in any number of activities, including lending practices and corporate governance, and from actions taken by government regulators and community organizations in response to those activities. Negative public opinion could adversely affect the Company's ability to keep and attract customers and employees, could expose it to litigation and regulatory action, and could adversely affect its access to the capital markets. Damage to the Company's reputation could adversely affect deposits and loans and otherwise negatively affect the Company's business, financial condition and results of operation.

The Company may need to raise additional capital in the future and such capital may not be available when needed or at all. The Company may need to raise additional capital in the future to provide it with sufficient capital resources and liquidity to meet its commitments and business needs, particularly if its asset quality or earnings were to deteriorate significantly. Economic conditions and the loss of confidence in financial institutions may increase the Company's cost of funding and limit access to certain customary sources of capital, including inter-bank borrowings, repurchase agreements and borrowings from the Federal Reserve Bank's discount window. The Company's ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital markets at that time, which are outside of the Company's control, and the Company's financial performance.

The Company cannot assure that such capital will be available on acceptable terms or at all. Any occurrence that may limit the Company's access to the capital markets, such as a decline in the confidence of debt purchasers, depositors of the Bank or counterparties participating in the capital markets, or a downgrade of the parent company or the Bank's ratings, may adversely affect the Company's capital costs and its ability to raise capital and, in turn, its liquidity. Moreover, if the Company needs to raise capital in the future, it may have to do so when many other financial institutions are also seeking to raise capital and would have to compete with those institutions for investors. An inability to raise additional capital on acceptable terms when needed could have a material adverse effect on the Company's liquidity, business, financial condition and results of operations.

The Company and its subsidiaries are subject to operational risk, which could adversely affect business, financial condition and results of operation. The Company and its subsidiaries, like all businesses, are subject to operational risk, including the risk of loss resulting from human error, fraud or unauthorized transactions due to inadequate or failed internal processes and systems, and external events that are wholly or partially beyond the Company's control (including, for example, computer viruses or electrical or telecommunications outages). Operational risk also encompasses compliance (legal) risk, which is the risk of loss from violations of, or noncompliance with, laws, rules, regulations, prescribed practices or ethical standards. The Company and its subsidiaries have established a system of internal controls to address these risks, but there are inherent limitations to such risk management strategies as there may exist, or develop in the future, risks that are not anticipated, identified or monitored. Any losses resulting from operational risk could take the form of explicit charges, increased operational costs, litigation costs, harm to reputation or forgone opportunities, loss of customer business, or the unauthorized release, misuse, loss or destruction of proprietary information, any and all of which could have a material adverse effect on the Company's business, financial condition and results of operations.

The Company's directors and executive officers own a significant portion of the Company's common stock and can exert significant influence over its business and corporate affairs. The Company's directors and executive officers, as a group, beneficially owned 32.68% of the Company's common stock as of June 30, 2015. Consequently, if they vote their shares in concert, they can significantly influence the outcome of matters submitted to the Company's stockholders for approval, including the election of directors. The interests of the Company's directors and executive officers may conflict with the interests of other holders of the Company's common stock, and the Company's directors and executive officers may take actions affecting the Company with which other holders of the Company's common stock disagree.
- 15 -
Future sales of the Company's common stock by stockholders or the perception that those sales could occur may cause the common stock price to decline. Although the Company's common stock is listed for trading on the NASDAQ Capital Market, the trading volume in the common stock may be lower than that of other larger financial institutions. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of the common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which the Company has no control. Given the potential for lower relative trading volume in the common stock, significant sales of the common stock in the public market, or the perception that those sales may occur, could cause the trading price of the Company's common stock to decline or to be lower than it otherwise might be in the absence of these sales or perceptions.

Future issuances of the Company's common stock could adversely affect the market price of the common stock and could be dilutive. The Company may issue additional shares of common stock or securities that are convertible into or exchangeable for, or that represent the right to receive, shares of the Company's common stock. Issuances of a substantial number of shares of common stock, or the expectation that such issuances might occur, could materially adversely affect the market price of the common stock and could be dilutive to stockholders. Any decision the Company makes to issue common stock in the future will depend on market conditions and other factors, and the Company cannot predict or estimate the amount, timing, or nature of possible future issuances of common stock. Accordingly, holders of the Company's common stock bear the risk that future issuances of securities will reduce the market price of the common stock and dilute their stock holdings in the Company.

Item 1B. Unresolved Staff Comments

None.

Item 2. Properties

As of December 31, 2015, the Company owned the main office, which includes a branch, located in Hampton, Virginia; the corporate headquarters, which includes a branch; six office buildings; and 12 branches. All of these are owned directly and free of any encumbrances. The land at the Fort Monroe branch is leased by the Company under an agreement that expires in June 2017. Two of the remaining three branches are leased from unrelated parties. The Crown Center branch is leased from Crown Center Associates, LLC, which is indirectly owned by Michael Glasser, a member of the Company's Board of Directors. These three branch leases have renewal options that expire anywhere within two to nine years from December 31, 2015.

For more information concerning the commitments under current leasing agreements, see Note 6 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.

Item 3. Legal Proceedings

Neither the Company nor any of its subsidiaries is a party to any material pending legal proceedings before any court, administrative agency, or other tribunal.
- 16 -

Item 4. Mine Safety Disclosures

None.

EXECUTIVE OFFICERS OF THE REGISTRANT

Name (Age) And Present Position
Served in Current Position Since
Principal Occupation During Past Five Years
Robert F. Shuford, Sr. (78)
1965
Banker
Chairman, President & Chief Executive Officer
    
Old Point Financial Corporation
    
     
Robert F. Shuford, Jr. (51)
2015
Banker
Executive Vice President/Bank
    
Old Point Financial Corporation
    
     
Laurie D. Grabow (58)
1999
Banker
Chief Financial Officer & Senior Vice President/Finance
    
Old Point Financial Corporation
    
     
Eugene M. Jordan, II (61)
2003
Banker
Secretary & Executive Vice President/Trust
    
Old Point Financial Corporation
    
     
Joseph R. Witt (55)
2008
Banker
Chief Business Development Officer & Senior Vice President
    
Old Point Financial Corporation
    


Part II

Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

The common stock of the Company is quoted on the NASDAQ Capital Market under the symbol "OPOF". The approximate number of stockholders of record as of March 8, 2016 was 1,119. On that date, the closing price of the Company's common stock on the NASDAQ Capital Market was $19.14. The range of high and low sale prices and dividends paid per share of the Company's common stock for each quarter during 2015 and 2014 is presented in Item 7 of this report on Form 10-K under "Capital Resources" and is incorporated herein by reference. Additional information related to restrictions on funds available for dividend declaration can be found in Note 17 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.

On January 12, 2010, the Company authorized a program to repurchase during any given calendar year up to an aggregate of 5 percent of the shares of the Company's common stock outstanding as of January 1 of that calendar year. The Company did not repurchase any shares of the Company's common stock under this plan during 2015. There is currently no stated expiration date for this program.

Pursuant to the Company's stock option plans, participants may exercise stock options by surrendering shares of the Company's common stock that the participants already own. Shares surrendered by participants of these plans are repurchased at current market value pursuant to the terms of the applicable stock options. No such repurchases occurred during 2015.
- 17 -

Item 6. Selected Financial Data

The following table summarizes the Company's performance for the past five years.

SELECTED FINANCIAL HIGHLIGHTS
                    
 
  
   
   
   
   
 
Years ended December 31,
  
2015
    
2014
    
2013
    
2012
    
2011
  
(dollars in thousands except per share data)
  
RESULTS OF OPERATIONS
                    
                     
Interest income
  
$
30,295
    
$
30,289
    
$
29,823
    
$
32,580
    
$
36,251
  
Interest expense
    
3,632
      
3,849
      
4,680
      
5,774
      
6,715
  
Net interest income
    
26,663
      
26,440
      
25,143
      
26,806
      
29,536
  
Provision for loan losses
    
1,025
      
600
      
1,300
      
2,400
      
3,700
  
Net interest income after provision for loan losses
    
25,638
      
25,840
      
23,843
      
24,406
      
25,836
  
Net gains (losses) on available-for-sale securities
    
76
      
2
      
(26
)
    
2,313
      
787
  
Noninterest income
    
13,060
      
12,642
      
12,799
      
12,646
      
11,409
  
Noninterest expenses
    
35,086
      
34,172
      
33,105
      
34,183
      
33,679
  
Income before income taxes
    
3,688
      
4,312
      
3,511
      
5,182
      
4,353
  
Income tax expense
    
54
      
196
      
348
      
995
      
1,063
  
Net income
  
$
3,634
    
$
4,116
    
$
3,163
    
$
4,187
    
$
3,290
  
                                         
FINANCIAL CONDITION
                                        
                                         
Total assets
  
$
896,787
    
$
876,280
    
$
864,288
    
$
907,499
    
$
849,504
  
Total deposits
  
$
746,471
    
$
716,654
    
$
725,405
    
$
753,816
    
$
690,879
  
Total loans
  
$
568,475
    
$
535,994
    
$
500,699
    
$
471,133
    
$
520,327
  
Stockholders' equity
  
$
93,176
    
$
88,497
    
$
80,761
    
$
89,300
    
$
85,865
  
Average assets
  
$
884,386
    
$
869,965
    
$
881,378
    
$
869,436
    
$
853,849
  
Average equity
  
$
90,433
    
$
85,550
    
$
84,695
    
$
87,912
    
$
83,322
  
                                         
PERTINENT RATIOS
                                        
                                         
Return on average assets
    
0.41
%
    
0.47
%
    
0.36
%
    
0.48
%
    
0.39
%
Return on average equity
    
4.02
%
    
4.81
%
    
3.73
%
    
4.76
%
    
3.95
%
Dividends paid as a percent of net income
    
46.40
%
    
31.32
%
    
34.49
%
    
23.67
%
    
30.12
%
Average equity as a percent of average assets
    
10.23
%
    
9.83
%
    
9.61
%
    
10.11
%
    
9.76
%
                                         
PER SHARE DATA
                                        
                                         
Basic earnings per share
  
$
0.73
    
$
0.83
    
$
0.64
    
$
0.84
    
$
0.66
  
Diluted earnings per share
  
$
0.73
    
$
0.83
    
$
0.64
    
$
0.84
    
$
0.66
  
Cash dividends declared
  
$
0.34
    
$
0.26
    
$
0.22
    
$
0.20
    
$
0.20
  
Book value
  
$
18.79
    
$
17.85
    
$
16.29
    
$
18.01
    
$
17.31
  
                                         
GROWTH RATES
                                        
                                         
Year-end assets
    
2.34
%
    
1.39
%
    
-4.76
%
    
6.83
%
    
-4.21
%
Year-end deposits
    
4.16
%
    
-1.21
%
    
-3.77
%
    
9.11
%
    
1.72
%
Year-end loans
    
6.06
%
    
7.05
%
    
6.28
%
    
-9.45
%
    
-11.30
%
Year-end equity
    
5.29
%
    
9.58
%
    
-9.56
%
    
4.00
%
    
6.07
%
Average assets
    
1.66
%
    
-1.29
%
    
1.37
%
    
1.83
%
    
-7.66
%
Average equity
    
5.71
%
    
1.01
%
    
-3.66
%
    
5.51
%
    
0.98
%
Net income
    
-11.71
%
    
30.13
%
    
-24.46
%
    
27.26
%
    
112.67
%
Cash dividends declared
    
30.77
%
    
18.18
%
    
10.00
%
    
0.00
%
    
-20.00
%
Book value
    
5.27
%
    
9.58
%
    
-9.55
%
    
4.04
%
    
5.55
%
- 18 -


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion is intended to assist readers in understanding and evaluating the financial condition, changes in financial condition and the results of operations of the Company, consisting of the parent company (the Parent) and its wholly-owned subsidiaries, the Bank and Trust. This discussion should be read in conjunction with the Consolidated Financial Statements and other financial information contained elsewhere in this report.

Caution About Forward-Looking Statements
In addition to historical information, this report may contain forward-looking statements. For this purpose, any statement that is not a statement of historical fact may be deemed to be a forward-looking statement. These forward-looking statements may include, but are not limited to, statements regarding profitability, including the focus on reducing time deposits; the net interest margin; strategies for managing the net interest margin and the expected impact of such efforts; liquidity; the loan portfolio and expected trends in the quality of the loan portfolio; the allowance and provision for loan losses; the effect of a sustained increase in nonperforming assets; the securities portfolio; interest rate sensitivity; asset quality; levels of net loan charge-offs and nonperforming assets; levels of interest expense; levels and components of noninterest income and noninterest expense; lease expense; income taxes; expected impact of efforts to restructure the balance sheet; expected yields on the loan and securities portfolios; expected rates on interest-bearing liabilities; market risk; business and growth strategies; investment strategy; and financial and other goals. Forward-looking statements often use words such as "believes," "expects," "plans," "may," "will," "should," "projects," "contemplates," "anticipates," "forecasts," "intends" or other words of similar meaning. These statements can also be identified by the fact that they do not relate strictly to historical or current facts. Forward-looking statements are subject to numerous assumptions, risks and uncertainties, and actual results could differ materially from historical results or those anticipated by such statements.

There are many factors that could have a material adverse effect on the operations and future prospects of the Company including, but not limited to, changes in interest rates and yields; general economic and general business conditions, including unemployment levels; uncertainty over future federal spending or the effects of federal budget cuts, particularly to the Department of Defense, on the Company's service area; changes associated with the new leadership of the Bank; effects of the transfer of the securities portfolio from held-to-maturity securities to available-for-sale securities; the quality or composition of the loan or securities portfolios; changes in the volume and mix of interest-earning assets and interest-bearing liabilities; the effects of management's investment strategy and strategy to manage the net interest margin; the adequacy of the Company's credit quality review processes; the level of nonperforming assets and related charge-offs and recoveries; turnover times experienced by the mortgage companies to which the Company has extended warehouse lines of credit; the federal government's guarantee of repayment of student loans purchased by the Company; the ability of the Company to diversify its sources of noninterest income; the effect of the Company's sales training efforts for branch staff; the local real estate market; volatility and disruption in national and international financial markets; government intervention in the U.S. financial system; application of the Basel III capital standards to the Company and its subsidiaries; FDIC premiums and/or assessments; demand for loan and other banking products and financial services in the Company's primary service area; levels of noninterest income and expense; deposit flows; competition; the use of inaccurate assumptions in management's modeling systems; technology; any interruption or breach of security in the Company's information systems or those of the Company's third party vendors or other service providers; reliance on third parties for key services; adequacy of the allowance for loan losses; and changes in accounting principles, policies and guidelines. The Company could also be adversely affected by monetary and fiscal policies of the U.S. Government, as well as any regulations or programs implemented pursuant to the Dodd-Frank Act or other legislation and policies of the Comptroller, U.S. Treasury and the Federal Reserve Board.

The Company has experienced losses due to the current economic climate. Dramatic declines in the residential and commercial real estate market during the recent economic crisis resulted in significant write-downs of asset values by the Company as well as by other financial institutions in the U.S.

In July 2010, the President signed into law the Dodd-Frank Act, which implements far-reaching changes across the financial regulatory landscape. It is not clear what other impacts the Dodd-Frank Act, regulations promulgated thereunder and other regulatory initiatives of the Treasury and other bank regulatory agencies will have on the financial markets and the financial services industry.

These risks and uncertainties should be considered in evaluating the forward-looking statements contained herein, and readers are cautioned not to place undue reliance on such statements. Any forward-looking statement speaks only as of the date on which it is made, and the Company undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which it is made. In addition, past results of operations are not necessarily indicative of future results.
- 19 -

Executive Overview
Description of Operations
Headquartered in Hampton, Virginia, the Company is the parent company of Trust and the Bank. Trust is a wealth management services provider. The Bank offers a complete line of consumer, mortgage and business banking services, including loan, deposit, and cash management services to individual and commercial customers. The Bank is an independent community bank. The Bank has 18 branches throughout the Hampton Roads localities of Chesapeake, Hampton, Isle of Wight County, Newport News, Norfolk, Virginia Beach, Williamsburg/James City County and York County.

Management Initiatives in 2015
Similarly to 2014, management's 2015 initiatives were to improve asset quality, grow the loan portfolio, expand the Company's noninterest income, and concentrate on improving the Company's efficiency. Management believes substantial progress was made with respect to all four initiatives.

Management was able to improve asset quality as is evident by the $1.1 million reduction in nonperforming assets and the $1.4 million reduction in impaired loans when comparing December 31, 2014 and 2015. Details of the improvement of asset quality can be found in the Nonperforming Assets section of the Management's Discussion and Analysis of this report on Form 10-K. In addition, noninterest income was $492 thousand higher for the year ended December 31, 2015 as compared to 2014. The loan portfolio grew by $31.8 million when comparing net loans on December 31, 2015 to December 31, 2014. Finally, the Company continued to focus on efficiency, with a net decrease of four employees during 2015, to 296 employees.

In the third quarter of 2015, the Bank experienced a change in leadership with the appointment of a new president following the retirement of its former president. This change in leadership provided the Company with the opportunity to re-evaluate its credit culture, sales management process, and investment strategy. In combination with the progress made on the 2015 initiatives, management believes these changes leave the Company well positioned for improved income in future years, which will provide value to stockholders and the community.

Primary Financial Data for 2015
The Company earned $3.6 million in 2015, as compared to net income of $4.1 million in 2014, a decrease of $482 thousand or 11.71%. The decrease in net income was due to a higher provision for loan losses and higher noninterest expense. The provision for loan losses increased $425 thousand mainly due to growth in the loan portfolio, while noninterest expense increased due to increases in salaries and employee benefits and occupancy and equipment expenses.

Assets as of December 31, 2015 were $896.8 million, an increase of $20.5 million or 2.34% compared to assets as of December 31, 2014. During 2015, the Company continued the loan growth seen in 2013 and 2014, funding this growth mainly from increases in low-cost deposits and cash flows from the securities portfolio. Net loans grew $31.8 million, or 6.02%, over the year, while low-cost deposits increased $43.1 million, or 8.74%, and securities declined $15.2 million, or 6.64%. In years prior to 2013, the Company experienced a lack of quality loan demand in its market area and invested excess funds in securities that could be readily liquidated as the Company waited for loan demand to recover. This recovery began in the second half of 2013 and continued through 2015.

Critical Accounting Estimates
The accounting and reporting policies of the Company are in accordance with U.S. generally accepted accounting principles (GAAP) and conform to general practices within the banking industry. The Company's financial position and results of operations are affected by management's application of accounting policies, including estimates, assumptions and judgments made to arrive at the carrying value of assets and liabilities and amounts reported for revenues, expenses and related disclosures. Different assumptions in the application of these policies could result in material changes in the Company's consolidated financial position and/or results of operations. The accounting policy that required management's most difficult, subjective or complex judgments is the Company's allowance for loan losses, which is described below.

Allowance for Loan Losses
The allowance for loan losses is an estimate of the losses that may be sustained in the loan portfolio. The allowance is based on three basic principles of accounting which require: (i) that losses be accrued when they are probable of occurring and estimable, (ii) that losses be accrued based on the differences between the loan balances and the value of collateral, present value of expected future cash flows or values that are observable in the secondary market and (iii) that adequate documentation exist to support the allowance for loan losses estimate.
- 20 -
The Company's allowance for loan losses is the accumulation of various components that are calculated based on independent methodologies. Management's estimate is based on certain observable, historical data that management believes are most reflective of the underlying credit losses being estimated. This evaluation includes credit quality trends; collateral values; discounted cash flow analysis; loan volumes; geographic, borrower and industry concentrations; the findings of internal credit quality assessments; and results from external bank regulatory examinations. These factors, as well as identified impaired loans, historical losses and current economic and business conditions, are used in developing estimated loss factors used in the calculations.

Authoritative accounting literature requires that the impairment of loans that have been separately identified for evaluation be measured based on the present value of expected future cash flows or, alternatively, the observable market price of the loans or the fair value of the collateral. However, for those loans that are collateral dependent (that is, if repayment of those loans is expected to be provided solely by the underlying collateral) and for which management has determined foreclosure is probable, the measure of impairment is to be based on the net realizable value of the collateral. Authoritative accounting literature, as amended, also requires certain disclosures about investments in impaired loans and the allowance for loan losses and interest income recognized on loans.

The loan portfolio is segmented into pools, based on the loan classifications as defined by Schedule RC-C of the Federal Financial Institutions Examination Council Consolidated Reports of Condition and Income Form 041 (Call Report) and collectively evaluated for impairment. Consumer loans not secured by real estate and made to individuals for household, family and other personal expenditures are segmented into pools based on whether the loan's payments are current (including loans 1-29 days past due), or are 30 – 59 days past due, 60 – 89 days past due, or 90 days or more past due. All other loans, including loans to consumers that are secured by real estate, are segmented by the Company's internally assigned risk grades: substandard, other assets especially mentioned (rated just above substandard), and pass (all other loans). The Company may also assign loans to the risk grades of doubtful or loss, but as of December 31, 2015 and December 31, 2014, the Company had no loans in these categories.

Specific reserves are determined on a loan-by-loan basis based on management's evaluation of the Company's exposure for each credit, given the current payment status of the loan and the net market value of any underlying collateral.

While management uses the best information available to establish the allowance for loan losses, future adjustment to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the valuations or if required by regulators, based upon information available to them at the time of their examinations. Such adjustments to original estimates, as necessary, are made in the period in which these factors and other relevant considerations indicate that loss levels may vary from previous estimates.

Income Taxes
The Company recognizes expense for federal income and state bank franchise taxes payable as well as deferred federal income taxes for estimated future tax effects of temporary differences between the tax basis of assets and liabilities and amounts reported in the Consolidated Financial Statements. Income and franchise tax returns are subject to audit by the Internal Revenue Service (IRS) and state taxing authorities. Income and franchise tax expense for current and prior periods is subject to adjustment based on the outcome of such audits. The Company believes it has adequately provided for all taxes payable.

Earnings Summary
Net income was $3.6 million, or $0.73 per diluted share, in 2015 compared to $4.1 million, or $0.83 per diluted share, in 2014. This decrease was due to a higher provision for loan losses and higher noninterest expense, partially offset by increases in net interest income and noninterest income. Growth in the loan portfolio required the Company to set aside additional funds through the provision for loan losses. Noninterest expense increased due to additional expenses for salaries and employee benefits and occupancy and equipment. The increase in net interest income before the provision was mainly due to decreases in interest expense as a result of lower time account balances, while noninterest income increased primarily due to additional income from Old Point Mortgage LLC, a joint venture between the Bank and Tidewater Mortgage Services (Old Point Mortgage).
- 21 -

Net Interest Income
The principal source of earnings for the Company is net interest income. Net interest income is the difference between interest and fees generated by earning assets and interest expense paid to fund them. Changes in the volume and mix of interest-earning assets and interest-bearing liabilities, as well as their respective yields and rates, have a significant impact on the level of net interest income. The net interest margin is calculated by dividing tax-equivalent net interest income by average earning assets. Net interest income, on a fully tax-equivalent basis, was $27.7 million in 2015, an increase of $259 thousand from 2014 and an increase of $1.8 million from 2013. The net interest margin was 3.56% in 2015 as compared to 3.57% in 2014 and 3.23% in 2013.

When comparing 2015 to 2014, the following changes were noted. Tax equivalent interest income increased $42 thousand, or 0.13%. Average earning assets increased $8.1 million, or 1.06%. Total average loans increased $46.4 million, or 8.96%, and average investment securities decreased $36.5 million, or 15.28%, as continued loan demand allowed the Company to shift its assets from securities to loans.

The Company's portfolio of mortgage-backed securities generates cash flows on a monthly basis, which are typically re-invested into loans. In the fourth quarter of 2015, management began a re-examination of its strategy for the securities portfolio given the current and anticipated future interest rate environments. While this analysis was in progress, excess cash flows generated by the Company's portfolio of mortgage-backed securities were allowed to remain in cash and due from banks. On a combined basis, average cash and due from banks and interest-bearing due from banks increased $6.7 million, or 21.41%, during 2015. Although this reduced interest income in 2015, management believes that its new investment strategy will provide the Company with additional liquidity and flexibility in future years.

Interest income was also impacted by continued declines in average loan yields, from 4.83% in 2014 to 4.63% in 2015. Management expects that the Company's loan yields will continue to decline, due to intense competition for quality loans and rate reductions on loans currently held in the portfolio. The reduction in loan yields will likely continue in 2016 at approximately the same pace seen in 2015, depending on monetary policy actions taken by the Federal Open Market Committee (FOMC). Although the FOMC did raise the target range for the federal funds rate in December of 2015, predictions for future rate increases are varied. Barring additional rate increases by the FOMC in 2016, management expects continued declines in loan yields. To partially offset this anticipated decline, management has placed an increased focus on managing the mix of the liabilities in order to increase low cost funds and reduce high cost funds when possible. If the FOMC does increase the target rate in 2016, management expects that the decline in loan yields will slow or stop. Based on current predictions of the FOMC's likely actions with regards to the target range, management does not expect loan yields to increase in 2016.

Interest expense decreased $217 thousand, or 5.64% in 2015 as compared to 2014, while average interest-bearing liabilities decreased $3.8 million, or 0.63%. The cost of interest-bearing liabilities decreased 3 basis points due to the low interest rate environment. As discussed above, management has focused on adjusting the composition of its interest-bearing liabilities, specifically by allowing high-cost time deposits to reduce. Management expects that the reduction of the Company's interest expense will continue to slow in the future, because the majority of the higher cost time deposits have repriced to current, lower market rates. However, management will continue to focus on the mix of deposits as stated above, by actively targeting new noninterest bearing deposits.
- 22 -
The following table shows an analysis of average earning assets, interest-bearing liabilities and rates and yields. Nonaccrual loans are included in loans outstanding.

TABLE I
  
AVERAGE BALANCE SHEETS, NET INTEREST INCOME* AND RATES*
  
                                   
Years ended December 31,
2015
    
2014
    
2013
  
     
Interest
            
Interest
            
Interest
      
 
Average
    
Income/
    
Yield/
    
Average
    
Income/
    
Yield/
    
Average
    
Income/
    
Yield/
  
 
Balance
    
Expense
    
Rate
    
Balance
    
Expense
    
Rate
    
Balance
    
Expense
    
Rate
  
 
(dollars in thousands)
  
ASSETS
                                  
                                   
Loans
 
  
$
563,534
    
$
26,106
      
4.63
%
  
$
517,183
    
$
24,959
      
4.83
%
  
$
471,203
    
$
23,769
      
5.04
%
Investment securities:
                                                                          
Taxable
      
130,541
      
2,510
      
1.92
%
    
164,755
      
3,562
      
2.16
%
    
229,914
      
4,547
      
1.98
%
Tax-exempt
      
71,831
      
2,520
      
3.51
%
    
74,112
      
2,580
      
3.48
%
    
55,745
      
2,042
      
3.66
%
Total investment securities
      
202,372
      
5,030
      
2.49
%
    
238,867
      
6,142
      
2.57
%
    
285,659
      
6,589
      
2.31
%
Interest-bearing due from banks
      
5,848
      
15
      
0.26
%
    
5,356
      
13
      
0.24
%
    
37,581
      
96
      
0.26
%
Federal funds sold
      
1,860
      
2
      
0.11
%
    
3,515
      
5
      
0.14
%
    
1,906
      
1
      
0.05
%
Other investments
      
2,373
      
133
      
5.60
%
    
2,944
      
125
      
4.25
%
    
3,374
      
96
      
2.85
%
Total earning assets
      
775,987
      
31,286
      
4.03
%
    
767,865
      
31,244
      
4.07
%
    
799,723
      
30,551
      
3.82
%
Allowance for loan losses
      
(7,404
)
                    
(7,062
)
                    
(7,239
)
                
       
768,583
                      
760,803
                      
792,484
                  
                                                                           
Cash and due from banks
      
31,858
                      
25,700
                      
13,446
                  
Bank premises and equipment, net
      
41,988
                      
42,277
                      
36,188
                  
Other assets
      
41,957
                      
41,185
                      
39,260
                  
                                                                           
Total assets
 
  
$
884,386
                    
$
869,965
                    
$
881,378
                  
                                                                         
                                                                         
LIABILITIES AND STOCKHOLDERS' EQUITY
                                      
                                                                         
Time and savings deposits:
                                                                          
Interest-bearing transaction accounts
 
  
$
11,219
    
$
4
      
0.04
%
  
$
11,537
    
$
5
      
0.04
%
  
$
11,129
    
$
6
      
0.05
%
Money market deposit accounts
      
228,627
      
186
      
0.08
%
    
213,918
      
179
      
0.08
%
    
199,848
      
234
      
0.12
%
Savings accounts
      
74,436
      
37
      
0.05
%
    
73,576
      
46
      
0.06
%
    
62,562
      
62
      
0.10
%
Time deposits, $100,000 or more
      
113,945
      
1,111
      
0.98
%
    
108,630
      
1,038
      
0.96
%
    
126,127
      
1,436
      
1.14
%
Other time deposits
      
107,142
      
1,033
      
0.96
%
    
128,383
      
1,316
      
1.03
%
    
157,154
      
1,683
      
1.07
%
                                                                           
Total time and savings deposits
      
535,369
      
2,371
      
0.44
%
    
536,044
      
2,584
      
0.48
%
    
556,820
      
3,421
      
0.61
%
Federal funds purchased, repurchase agreements and other borrowings
      
30,777
      
30
      
0.10
%
    
32,848
      
32
      
0.10
%
    
31,182
      
35
      
0.11
%
Federal Home Loan Bank advances
      
27,466
      
1,231
      
4.48
%
    
28,507
      
1,233
      
4.33
%
    
25,000
      
1,224
      
4.90
%
                                                                           
Total interest-bearing liabilities
      
593,612
      
3,632
      
0.61
%
    
597,399
      
3,849
      
0.64
%
    
613,002
      
4,680
      
0.76
%
Demand deposits
      
194,677
                      
184,555
                      
180,538
                  
Other liabilities
      
5,664
                      
2,461
                      
3,143
                  
                                                                           
Total liabilities
      
793,953
                      
784,415
                      
796,683
                  
Stockholders' equity
      
90,433
                      
85,550
                      
84,695
                  
                                                                           
Total liabilities and stockholders' equity
 
  
$
884,386
                    
$
869,965
                    
$
881,378
                  
                                                                           
Net interest margin
            
$
27,654
      
3.56
%
          
$
27,395
      
3.57
%
          
$
25,871
      
3.23
%
                                                                         
* Computed on a fully taxable equivalent basis using a 34% rate.
                                                  
- 23 -
The following table summarizes changes in net interest income attributable to changes in the volume of interest-bearing assets and liabilities and changes in interest rates.

   
Table II
  
   
VOLUME AND RATE ANALYSIS*
  
   
(in thousands)
  
     
   
2015 vs. 2014
    
2014 vs. 2013
    
2013 vs. 2012
  
   
Increase (Decrease)
    
Increase (Decrease)
    
Increase (Decrease)
  
   
Due to Changes in:
    
Due to Changes in:
    
Due to Changes in:
  
     
   
Volume
    
Rate
    
Total
    
Volume
    
Rate
    
Total
    
Volume
    
Rate
    
Total
  
EARNING ASSETS
                              
Loans
  
$
2,237
    
$
(1,090
)
  
$
1,147
    
$
2,319
    
$
(1,129
)
  
$
1,190
    
$
(390
)
  
$
(2,406
)
  
$
(2,796
)
Investment securities
                                                                        
Taxable
    
(740
)
    
(312
)
    
(1,052
)
    
(1,289
)
    
304
      
(985
)
    
(668
)
    
(23
)
    
(691
)
Tax-exempt
    
(79
)
    
19
      
(60
)
    
673
      
(135
)
    
538
      
1,264
      
(254
)
    
1,010
  
Total investment securities
    
(819
)
    
(293
)
    
(1,112
)
    
(616
)
    
169
      
(447
)
    
596
      
(277
)
    
319
  
                                                                         
Federal funds sold
    
(2
)
    
(1
)
    
(3
)
    
1
      
3
      
4
      
0
      
(1
)
    
(1
)
Other investments **
    
(1
)
    
11
      
10
      
(153
)
    
99
      
(54
)
    
41
      
(5
)
    
36
  
Total earning assets
    
1,415
      
(1,373
)
    
42
      
1,551
      
(858
)
    
693
      
247
      
(2,689
)
    
(2,442
)
                                                                         
INTEREST-BEARING LIABILITIES
                                                  
Interest-bearing transaction accounts
    
0
      
(1
)
    
(1
)
    
0
      
(1
)
    
(1
)
    
0
      
(1
)
    
(1
)
Money market deposit accounts
    
12
      
(5
)
    
7
      
16
      
(71
)
    
(55
)
    
35
      
(123
)
    
(88
)
Savings accounts
    
1
      
(10
)
    
(9
)
    
11
      
(27
)
    
(16
)
    
9
      
0
      
9
  
Time deposits, $100,000 or more
    
51
      
22
      
73
      
(199
)
    
(199
)
    
(398
)
    
(60
)
    
(117
)
    
(177
)
Other time deposits
    
(218
)
    
(65
)
    
(283
)
    
(308
)
    
(59
)
    
(367
)
    
(195
)
    
(350
)
    
(545
)
Total time and savings deposits
    
(154
)
    
(59
)
    
(213
)
    
(480
)
    
(357
)
    
(837
)
    
(211
)
    
(591
)
    
(802
)
Federal funds purchased, repurchase
                                                                        
agreements and other borrowings
    
(2
)
    
0
      
(2
)
    
2
      
(5
)
    
(3
)
    
2
      
(22
)
    
(20
)
Federal Home Loan Bank advances
    
(45
)
    
43
      
(2
)
    
172
      
(163
)
    
9
      
(273
)
    
1
      
(272
)
Total interest-bearing liabilities
    
(201
)
    
(16
)
    
(217
)
    
(306
)
    
(525
)
    
(831
)
    
(482
)
    
(612
)
    
(1,094
)
                                                                         
Change in net interest income
  
$
1,616
    
$
(1,357
)
  
$
259
    
$
1,857
    
$
(333
)
  
$
1,524
    
$
729
    
$
(2,077
)
  
$
(1,348
)
                                                                         
* Computed on a fully tax-equivalent basis using a 34% rate.
  
** Other investments include interest-bearing balances due from banks.
  

Interest Sensitivity
An important element of earnings performance and the maintenance of sufficient liquidity is proper management of the interest sensitivity gap. The interest sensitivity gap is the difference between interest sensitive assets and interest sensitive liabilities in a specific time interval. This gap can be managed by repricing assets or liabilities, which are variable rate instruments, by replacing an asset or liability at maturity or by adjusting the interest rate during the life of the asset or liability. Matching the amounts of assets and liabilities maturing in the same time interval helps to hedge interest rate risk and to minimize the impact of rising or falling interest rates on net interest income.

The Company determines the overall magnitude of interest sensitivity risk and then formulates policies governing asset generation and pricing, funding sources and pricing, and off-balance sheet commitments. These decisions are based on management's expectations regarding future interest rate movements, the state of the national and regional economy, and other financial and business risk factors. The Company uses computer simulations to measure the effect of various interest rate scenarios on net interest income. This modeling reflects interest rate changes and the related impact on net interest income and net income over specified time horizons.
- 24 -
Based on scheduled maturities only, the Company was liability sensitive at the one-year timeframe as of December 31, 2015. It should be noted, however, that non-maturing, interest-bearing deposit liabilities, which consist of interest checking, money market and savings accounts, are less interest sensitive than other market driven deposits. On December 31, 2015 non-maturing, interest-bearing deposit liabilities totaled $321.4 million, or 60.48%, of total interest-bearing deposits. In a rising rate environment these deposit rates have historically lagged behind the changes in earning asset rates, thus mitigating the impact from the liability-sensitive position. The asset/liability model allows the Company to reflect the fact that non-maturing deposits are less rate sensitive than other deposits by using a decay rate. The decay rate is a type of artificial maturity that simulates maturities for non-maturing deposits over the number of months that more closely reflects historic data. Using the decay rate, the model reveals that the Company is asset sensitive at the one-year timeframe as of December 31, 2015.

When the Company is liability sensitive, net interest income should decrease if interest rates rise since liabilities will reprice faster than assets. Conversely, if interest rates fall, net interest income should increase, depending on the optionality (prepayment speeds) of the assets. When the Company is asset sensitive, net interest income should rise if rates rise and should fall if rates fall.

The Company's interest rate sensitivity position is illustrated in the following table. The carrying amounts of assets and liabilities are presented in the periods they are expected to reprice or mature.

TABLE III
  
INTEREST SENSITIVITY ANALYSIS
  
 
As of December 31, 2015
  
Within
      
4-12
      
1-5
    
Over 5
    
Total
  
(in thousands)
  
3 Months
    
Months
    
Years
    
Years
  
                             
Uses of Funds
                            
Interest-bearing due from banks
  
$
1,064
    
$
0
    
$
0
    
$
0
    
$
1,064
  
Federal funds sold
    
2,412
      
0
      
0
      
0
      
2,412
  
Taxable investments
    
20,831
      
301
      
3,291
      
117,441
      
141,864
  
Tax-exempt investments
    
0
      
0
      
14,783
      
57,545
      
72,328
  
Total federal funds sold and investment securities
    
24,307
      
301
      
18,074
      
174,986
      
217,668
  
                                         
Loans
                                        
Commercial
  
$
15,569
    
$
3,664
    
$
12,266
    
$
11,698
    
$
43,197
  
Consumer
    
22,581
      
784
      
7,710
      
19,352
      
50,427
  
Real estate
    
55,433
      
26,156
      
256,944
      
118,311
      
456,844
  
Other
    
7,665
      
141
      
3,391
      
6,810
      
18,007
  
Total loans
    
101,248
      
30,745
      
280,311
      
156,171
      
568,475
  
Total earning assets
  
$
125,555
    
$
31,046
    
$
298,385
    
$
331,157
    
$
786,143
  
                                         
Sources of funds
                                        
Interest-bearing transaction accounts
  
$
16,789
    
$
0
    
$
0
    
$
0
    
$
16,789
  
Money market deposit accounts
    
227,824
      
0
      
0
      
0
      
227,824
  
Savings accounts
    
76,757
      
0
      
0
      
0
      
76,757
  
Time deposits $100,000 or more
    
24,205
      
19,811
      
65,081
      
0
      
109,097
  
Other time deposits
    
13,527
      
29,142
      
58,245
      
0
      
100,914
  
Federal funds purchased and other borrowings
    
0
      
0
      
0
      
0
      
0
  
Overnight repurchase agreements
    
25,950
      
0
      
0
      
0
      
25,950
  
Term repurchase agreements
    
0
      
0
      
0
      
0
      
0
  
FHLB advances
    
25,000
      
0
      
0
      
0
      
25,000
  
Total interest bearing liabilities
  
$
410,052
    
$
48,953
    
$
123,326
    
$
0
    
$
582,331
  
                                         
Rate sensitivity GAP
  
$
(284,497
)
  
$
(17,907
)
  
$
175,059
    
$
331,157
    
$
203,812
  
                                         
Cumulative GAP
  
$
(284,497
)
  
$
(302,404
)
  
$
(127,345
)
  
$
203,812
          

The most likely scenario represents the rate environment as management forecasts it to occur. Management uses a "static" test to measure the effects of changes in interest rates on net interest income. This test assumes that management takes no steps to adjust the balance sheet to respond to the shock by repricing assets/liabilities, as discussed in the first paragraph of this section.
- 25 -
Under the rate environment forecasted by management, rate shocks in 50 to 100 basis point increments are applied to estimate the impact on the Company's net interest income. The table below shows the estimated impact of changes in interest rates on net interest income as of December 31, 2015, assuming gradual and parallel changes in interest rates, and consistent levels of assets and liabilities. Net interest income for the following twelve months is projected to increase when interest rates are higher than current rates. Due to the current low interest rate environment, no measurement was considered necessary for a further decline in interest rates.

Estimated Changes in Net Interest Income
  
(dollars in thousands)
  
As of December 31, 2015
  
Changes in Net Interest Income
  
Changes in Interest Rates
Amount
    
Percent
  
Up 4.00%
  
$
535
      
1.95
%
Up 3.00%
  
$
388
      
1.42
%
Up 2.00%
  
$
208
      
0.76
%
Up 1.00%
  
$
75
      
0.27
%
No change
  
$
0
      
0.00
%

Management cannot predict future interest rates or their exact effect on net interest income. Computations of future effects of hypothetical interest rate changes are based on numerous assumptions and should not be relied upon as indicative of actual results. Certain limitations are inherent in such computations. Assets and liabilities may react differently than projected to changes in market interest rates. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while rates on other types of assets and liabilities may lag changes in market interest rates. Interest rate shifts may not be parallel.

Changes in interest rates can cause substantial changes in the amount of prepayments of loans and mortgage-backed securities, which may in turn affect the Company's interest rate sensitivity position. Additionally, credit risk may rise if an interest rate increase adversely affects the ability of borrowers to service their debt.

Provision for Loan Losses
The provision for loan losses is a charge against earnings necessary to maintain the allowance for loan losses at a level consistent with management's evaluation of the loan portfolio. The provision for loan losses is an expense that is based on management's estimate of credit losses that are probable of being sustained in the loan portfolio.

The provision for loan losses was $1.0 million for the year ended December 31, 2015 as compared to $600 thousand for 2014. Loans that were charged off during 2015 totaled $897 thousand compared to $1.2 million in 2014. Recoveries amounted to $535 thousand in 2015 and $882 thousand in 2014. The Company's net loans charged off to year-end loans were 0.06% in 2015 as compared to 0.07% in 2014. The allowance for loan losses, as a percentage of year-end loans, was 1.36% in 2015 and 1.32% in 2014. Net loan charge-offs for 2015 were lower than in 2014 due to continued improvements in asset quality and the concomitant reduction in charge-offs. Although net charge-offs in 2015 were marginally higher than in 2014, net charge-offs in 2014 were substantially lower than those experienced in prior years due to the receipt of unanticipated large recoveries. While the Company did obtain some significant recoveries in 2015, the unusually high level of recoveries seen in 2014 did not re-occur.

Management believes that net loan charge-offs in subsequent years will be higher than what was experienced in 2014 and 2015, as no similarly large recoveries are anticipated in the future. The state of the local economy also significantly impacts the level of loan charge-offs. If the economy begins to contract, nonperforming assets could increase as a result of declines in real estate values and home sales or increases in unemployment rates and financial stress on borrowers. Increased nonperforming assets would cause increased charge-offs and lower earnings due to larger contributions to the loan loss provision.

In 2015, management contributed $1.0 million to the allowance for loan losses through the provision, or $425 thousand more than the provision for the year ended December 31, 2014. This decision was based on management's evaluation of loan losses in the loan portfolio. Management's evaluation included credit quality trends, collateral values, discounted cash flow analysis, loan volumes, geographic, borrower and industry concentrations, the findings of internal credit quality assessments and results from external regulatory examinations. These factors, as well as identified impaired loans, historical losses and current economic and business conditions, were used in developing estimated loss factors for determining the loan loss provision.
- 26 -
The additional provision was mainly due to the growth in the loan portfolio. It was also impacted by impaired loans for which there was a specific allocation. While total impaired loans decreased by $1.4 million, the deteriorating condition of certain of these loans required management to set aside additional funds to cover anticipated future losses. Management believes that, if loan growth continues and current economic conditions remain stable, the loan loss provision will continue at the level seen in 2015.

Noninterest Income
Noninterest income increased $492 thousand or 3.89% for the year ended December 31, 2015 as compared to the year ended December 31, 2014. This increase was driven by an additional $213 thousand in income from Old Point Mortgage. During the latter part of 2014 and continuing in 2015, Old Point Mortgage worked to improve its efficiencies and re-define its incentive structure for its sales staff. The success of these efforts is evident in the increased income seen in 2015, compared to 2014.

In addition to the improved income from Old Point Mortgage, most other categories of noninterest income also increased. Service charges on deposit accounts was the only category to decrease when comparing the years ended December 31, 2015 and 2014, a $98 thousand decline that was mainly driven by a decrease in overdraft fee income. Regulatory changes in recent years have curtailed this income source for most banks, including the Company. Service charges on deposit accounts not related to overdraft fees increased by $39 thousand for the year ended December 31, 2015, but that increase was offset by the $137 thousand decrease in overdraft fee income for the same period.

Income from fiduciary activities increased $111 thousand when comparing 2015 to 2014, in part because income in 2014 was artificially depressed by Trust's determination in the second quarter of that year that certain customer fees had been inadvertently charged in prior years. While the majority of the increase in income from fiduciary activities was due to the correction in 2014, estate administration income also increased and was not affected by the correction in 2014. Income from fiduciary activities is difficult to project, due to the unpredictable nature of its primary source, the market value of assets under management by Trust. However, management does expect that, over all, income from fiduciary activities will continue to trend upward in future years as a result of business development efforts.

Other service charges, commissions and fees increased $144 thousand when comparing 2015 to 2014. Additional income from merchant processing fees and brokerage sales contributed significantly to this increase, as did income from Penact. In the fourth quarter of 2013, Trust acquired Penact, a company that provides consultation, administration and valuation services for retirement plans. Revenue from Penact was $408 thousand for the year ended December 31, 2015, $71 thousand higher than in 2014.

In addition to the previously-discussed increase in income from Old Point Mortgage, other income was also increased by foreclosed property income and income from early withdrawal penalties on time deposits. Foreclosed property income increased due to foreclosures on tenant-occupied real estate. Several of these tenant-occupied properties were sold in 2015, and as a result, management expects foreclosed property income to be lower in 2016 than in 2015. Income from early withdrawal penalties increased due to a change in the Bank's fee structure for early withdrawals. With this change, management hopes to better control its interest expense when rates rise.

The Company also saw smaller increases in income from bank-owned life insurance and gain on sale of available-for-sale securities between 2014 and 2015. During the last several years, the Company has focused on restructuring its securities portfolio to improve the portfolio's cash flow, increase its yields, and reduce its susceptibility to interest rate risk.  As a result of this restructuring, the Company recorded a net gain on sales of $76 thousand in 2015, compared to $2 thousand in 2014.

The Company continues to focus on diversifying noninterest income through efforts to expand Trust relationships and a continued focus on business checking and other corporate services.  The portions of the Dodd-Frank Act that have been fully implemented have increased, and the Company expects the Dodd-Frank Act when fully implemented to further increase, government regulation of consumer financial products and services, including fees generated on consumer financial transactions. Although the impact of the Dodd-Frank Act and regulations promulgated thereunder is not yet fully known, the Company expects that this additional regulation of consumer financial products, services and transactions may materially impact the Company's ability to generate future noninterest income.

Noninterest Expense
The Company's noninterest expense increased $914 thousand or 2.67% for the year ended December 31, 2015 as compared to the year ended December 31, 2014.  The largest increases were in salaries and employee benefits and occupancy and equipment expenses. Occupancy and equipment expenses increased $444 thousand, or 9.09% when comparing 2015 and 2014, due to the completion of the Company's new corporate headquarters. The building was completed and occupied in the second quarter of 2014, making 2015 its first full year of operations.
- 27 -
When comparing 2015 to 2014, salaries and employee benefits increased $863 thousand, or 4.34%, due to three main factors. The most significant of these was the retirement package provided by the Company to the retiring president of the Bank. Although the retirement package will be paid in 2016, accounting rules required that the entire amount of $353 thousand be expensed in 2015. Salaries and employee benefits was also impacted by an increase in the cost of employer-provided medical insurance of $258 thousand. In addition, the Company's expense for its pension plan, which was frozen in 2006, increased by $108 thousand due to changes in actuarial estimates.

The following categories of noninterest expense also increased in 2015 when compared to 2014: legal and audit expenses ($114 thousand), other outside service fees ($109 thousand), ATM and check losses ($42 thousand) and loss on write-down/sale of other real estate owned ($85 thousand). Legal and audit expenses increased due to legal fees paid for the negotiation and preparation of contracts with certain employees. Other outside services increased mainly as a result of outsourcing of certain information technology, loan review and audit functions requiring extremely specialized skills and expertise. Check cashing and wire frauds committed in 2015 increased ATM and check losses, while loss on write-down/sale of other real estate owned was affected by the Company's ongoing efforts to sell these properties, which are considered nonperforming assets.

These increases in noninterest expense were partially offset by decreases in other areas, the largest of which were FDIC insurance, customer development and employee professional development. FDIC insurance decreased $118 thousand due to reductions in nonperforming assets, which reduces the Company's FDIC insurance assessment rate. Reductions in charitable contributions and public relations expenses resulted in a decrease to customer development of $238 thousand. Employee professional development decreased $130 thousand due to reduced spending on external training for employees. Management is aware of the need to control noninterest expense and is working to reduce it wherever feasible.

Income tax expense was also lower in 2015 than in 2014 due to lower income. While income before income taxes declined from 2014 to 2015, tax-exempt income remained essentially flat. As a result, tax-exempt income made up a greater portion of the Company's income, reducing its effective tax rate to 1.46%. The Company also took advantage of several tax credits during 2015. Together, all of these factors reduced 2015 income tax expense by 72.45% compared to 2014.

Balance Sheet Review
At December 31, 2015, the Company had total assets of $896.8 million, an increase of $20.5 million or 2.34% compared to assets as of December 31, 2014. Net loans increased $31.8 million or 6.02%, from $528.9 million at December 31, 2014 to $560.7 million at December 31, 2015. Loan demand began to increase in 2013 and continued throughout 2014 and 2015, but until loan demand recovers significantly, the Company will likely continue to manage the interest margin by allowing higher cost funds, such as time deposits, to decrease. High-cost time deposits decreased $13.3 million or 5.95% between December 31, 2014 and December 31, 2015, while low-cost funds in the form of noninterest-bearing and savings deposits increased $43.1 million or 8.74% in the same time period.

The Company's holdings of Alternative A-paper, or "Alt-A", type mortgage loans such as adjustable rate and nontraditional type loans were inconsequential, amounting to less than 1.00% of the Company's loan portfolio as of December 31, 2015.

The Company does not have a formal program for subprime lending. The Company is, however, required by law to comply with the CRA, which imposes on financial institutions an affirmative and ongoing obligation to meet the credit needs of their local communities, including low- and moderate-income borrowers. In order to comply with the CRA and meet the credit needs of its local communities, the Company finds it necessary to make certain loans with subprime characteristics.

For the purposes of this discussion, a "subprime loan" is defined as a loan to a borrower having a credit score of 660 or below. The majority of the Company's subprime loans are to customers in the Company's primary service area.
- 28 -
The following table details, as of December 31, 2015, the Company's loans with subprime characteristics that were secured by 1-4 family first mortgages, 1-4 family open-end (i.e., equity lines of credit) and 1-4 family junior lien loans (i.e., second mortgages) for which the Company has recorded a credit score in its system.

Loans Secured by 1 - 4 Family First Mortgages,
 
1 - 4 Family Open-end and 1 - 4 Family Junior Liens
  
As of December 31, 2015
  
(dollars in thousands)
  
         
   
Amount
    
Percent
  
Subprime
  
$
20,856
      
13.9
%
Non-subprime
    
129,310
      
86.1
%
   
$
150,166
      
100.0
%
                 
Total loans
  
$
568,475
          
                 
Percentage of Real Estate-Secured Subprime Loans to Total Loans
      
3.67
%

In addition to the subprime loans secured by real estate discussed above, as of December 31, 2015, the Company had an additional $1.1 million in subprime consumer loans that were either unsecured or secured by collateral other than real estate. Together with the subprime loans secured by real estate, the Company's total subprime loans as of December 31, 2015 were $22.0 million, amounting to 3.86% of the Company's total loans at December 31, 2015.

The Company has no investments secured by "Alt-A" type mortgage loans such as adjustable rate and nontraditional type mortgages or subprime loans.

Securities Portfolio
In February of 2016, management decided to transfer the Company's held-to-maturity securities to available-for-sale to increase the portfolio's liquidity and flexibility. Although management made this decision in the first quarter of 2016, it reflected a change in intent regarding the securities portfolio as of December 31, 2015. As the primary distinction between available-for-sale and held-to-maturity is management's intent, this transfer was effective-dated back to December 31, 2015. Due to this transfer, securities available-for-sale increased $74.8 million and securities held-to-maturity decreased $90.1 million when comparing December 31, 2015 to December 31, 2014. Classifying the securities as available-for-sale gives management the flexibility to sell the securities as needed to fund loan growth or manage the interest-rate risk in the portfolio.  As detailed in Note 3 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K, the net effect of this transfer was to increase the carrying value of the securities portfolio by $3.7 million, reduce other assets by $1.2 million, and increase other comprehensive income by $2.3 million.

Beginning in 2014 and continuing in 2015, the Company began purchasing short-term U.S. Treasury and government agency securities as part of a strategy to reduce its capital stock tax expense.  While both of these types of securities have very low yields, the anticipated future reduction in capital stock tax, included in noninterest expense, should more than offset the reduction in interest income.

During 2015, the total securities portfolio declined $15.2 million, mainly due to cash flows received from mortgage-backed securities. To reduce the portfolio's susceptibility to interest rate risk, the Company sold certain securities and purchased others during the year, with no net effect on the total of the portfolio. The Company's goal is to provide maximum return on the securities portfolio within the framework of its asset/liability objectives and consistent with its need to manage tax exposure when necessary. The asset/liability objectives include managing interest sensitivity, liquidity and pledging requirements.
- 29 -
The following table sets forth a summary of the securities portfolio:

TABLE IV
  
SECURITIES PORTFOLIO
  
             
As of December 31, 
  
2015
    
2014
    
2013
  
   
(in thousands)
  
Available-for-sale securities, at fair value:
            
U.S. Treasury securities
  
$
0
    
$
20,000
    
$
0
  
Obligations of U.S. Government agencies
    
24,240
      
4,618
      
15,024
  
Obligations of state and political subdivisions
    
78,433
      
50,246
      
47,100
  
Mortgage-backed securities
    
107,396
      
60,888
      
90,750
  
Money market investments
    
631
      
719
      
691
  
Corporate bonds
    
3,393
      
2,790
      
2,074
  
Other marketable equity securities
    
99
      
85
      
0
  
   
$
214,192
    
$
139,346
    
$
155,639
  
Held-to-maturity securities, at cost:
                        
Obligations of U.S. Government agencies
  
$
0
    
$
100
    
$
400
  
Obligations of state and political subdivisions
    
0
      
29,529
      
30,120
  
Mortgage-backed securities
    
0
      
60,460
      
66,327
  
   
$
0
    
$
90,089
    
$
96,847
  
Restricted securities:
                        
Federal Home Loan Bank stock
  
$
1,847
    
$
2,124
    
$
2,209
  
Federal Reserve Bank stock
    
169
      
169
      
169
  
   
$
2,016
    
$
2,293
    
$
2,378
  
                         
Total
  
$
216,208
    
$
231,728
    
$
254,864
  
- 30 -
The following table summarizes the contractual maturity of the securities portfolio and their weighted average yields as of December 31, 2015:

   
1 year
      
1-5
      
5-10
    
Over 10
      
   
or less
    
years
    
years
    
years
    
Total
  
   
(dollars in thousands)
  
Obligations of U.S. Government Agencies
  
$
20,300
    
$
99
    
$
0
    
$
3,841
    
$
24,240
  
Weighted average yield
    
0.21
%
    
1.12
%
    
0.00
%
    
1.83
%
    
0.47
%
                                         
Obligations of state and political subdivisions
  
$
0
    
$
14,783
    
$
23,935
    
$
39,715
    
$
78,433
  
Weighted average yield
    
0.00
%
    
1.81
%
    
2.37
%
    
2.54
%
    
2.35
%
                                         
Mortgage-backed securities
  
$
0
    
$
0
    
$
0
    
$
107,396
    
$
107,396
  
Weighted average yield
    
0.00
%
    
0.00
%
    
0.00
%
    
2.09
%
    
2.09
%
                                         
Money market investments
  
$
631
    
$
0
    
$
0
    
$
0
    
$
631
  
Weighted average yield
    
0.05
%
    
0.00
%
    
0.00
%
    
0.00
%
    
0.05
%
                                         
Corporate bonds
  
$
200
    
$
3,193
    
$
0
    
$
0
    
$
3,393
  
Weighted average yield
    
1.25
%
    
1.40
%
    
0.00
%
    
0.00
%
    
1.39
%
                                         
Federal Home Loan Bank stock - restricted
  
$
0
    
$
0
    
$
0
    
$
1,847
    
$
1,847
  
Weighted average yield
    
0.00
%
    
0.00
%
    
0.00
%
    
4.56
%
    
4.56
%
                                         
Federal Reserve Bank stock - restricted
  
$
0
    
$
0
    
$
0
    
$
169
    
$
169
  
Weighted average yield
    
0.00
%
    
0.00
%
    
0.00
%
    
6.00
%
    
6.00
%
                                         
Other marketable equity securities
  
$
0
    
$
0
    
$
0
    
$
99
    
$
99
  
Weighted average yield
    
0.00
%
    
0.00
%
    
0.00
%
    
0.00
%
    
0.00
%
                                         
Total securities
  
$
21,131
    
$
18,075
    
$
23,935
    
$
153,067
    
$
216,208
  
Weighted average yield
    
0.22
%
    
1.73
%
    
2.37
%
    
2.23
%
    
2.39
%

In the table above, obligations of U.S. government agencies show a yield of 0.21%, due to the fact that the Company purchased these securities, which matured in early January 2016, in late December 2015. See above for a discussion of the Company's purchase of these securities.

The table above is based on maturity. Therefore, it does not reflect cash flow from principal payments or prepayments prior to maturity. The weighted average life of the $107.4 million in mortgage-backed securities as of December 31, 2015 was 5.75 years. Yields are calculated on a fully tax-equivalent basis using a 34% rate.
- 31 -

Loan Portfolio
The following table shows a breakdown of total loans by segment at December 31 for years 2011 through 2015:

TABLE V
  
LOAN PORTFOLIO
  
                   
As of December 31, 
2015
    
2014
    
2013
    
2012
    
2011
  
 
(in thousands)
  
Commercial
  
$
43,197
    
$
37,698
    
$
30,702
    
$
25,341
    
$
35,015
  
Real estate-construction
    
19,685
      
9,082
      
14,505
      
12,005
      
19,981
  
Real estate-mortgage (1)
    
437,159
      
435,914
      
416,966
      
398,522
      
415,960
  
Consumer
    
50,427
      
30,493
      
19,791
      
13,146
      
17,041
  
Other
    
18,007
      
22,807
      
18,735
      
22,119
      
32,330
  
                                         
Total
  
$
568,475
    
$
535,994
    
$
500,699
    
$
471,133
    
$
520,327
  
                                         
(1) The real estate-mortgage segment includes residential 1 – 4 family, commercial real estate, second mortgages and equity lines of credit.
  

Based on the North American Industry Classification System code, there are no categories of loans that exceed 10% of total loans other than the categories disclosed in the preceding table.

As of December 31, 2015, the total loan portfolio increased by $32.5 million or 6.06% as compared to December 31, 2014. Quality loan demand began to increase in the second half of 2013, a trend which continued in 2014 and 2015. To assist with the loan growth generated by relationship building, the Company worked with Old Point Mortgage to generate 1 to 4 family mortgage loans and continued to market the fixed-rate equity line product developed in 2013.

In addition to mortgage loans purchased from Old Point Mortgage, the Company purchased loans from three other sources in 2015. Over the year, $5.5 million in commercial loans were purchased; the entire principal balance of the Company's commercial loan purchases is guaranteed by either the Small Business Administration (SBA) or the United States Department of Agriculture. In April of 2015, the Company also purchased an additional $14.0 million portfolio of student loans, bringing its total student loan portfolio to $21.5 million at December 31, 2015. The principal balance on these loans, which is included in the consumer category above, is 97 - 98% guaranteed by the government. The Company also purchased $7.3 million of consumer installment loans for which the Company maintains a dedicated reserve account. Any loan losses in this portfolio are covered first by the reserve account, and then by the allowance for loan losses only if the funds available in the reserve account are not sufficient.

The maturity distribution and rate sensitivity of certain categories of the Company's loan portfolio at December 31, 2015 is presented below:

TABLE VI
  
MATURITY SCHEDULE OF SELECTED LOANS
  
 
   
   
   
 
December 31, 2015
Within 1 year
    
1 to 5 years
    
After 5 years
    
Total
  
 
(in thousands)
  
Commercial
  
$
14,979
    
$
11,994
    
$
16,224
    
$
43,197
  
Real estate - construction
    
13,730
      
3,216
      
2,739
      
19,685
  
Total
  
$
28,709
    
$
15,210
    
$
18,963
    
$
62,882
  
                                 
Loans due after 1 year with:
                                
Fixed interest rate
          
$
13,109
    
$
13,069
    
$
26,178
  
Variable interest rate
            
2,101
      
5,894
      
7,995
  
Total
          
$
15,210
    
$
18,963
    
$
34,173
  

Nonperforming Assets
Nonperforming assets consist of nonaccrual loans, loans past due 90 days or more and accruing interest, nonperforming restructured loans, and other real estate owned (OREO). Restructured loans are loans with terms that were modified in a troubled debt restructuring (TDR) for borrowers experiencing financial difficulties. During the year ended December 31, 2015, the Company restructured seven loans.
- 32 -
As of December 31, 2015, nonperforming assets totaled $10.7 million, down from $11.8 million at December 31, 2014. The 2015 total consisted of $2.7 million of OREO, $3.4 million in loans still accruing interest but past due 90 days or more and $4.6 million in nonaccrual loans. Of the $4.6 million in nonaccrual loans, $4.3 million were secured by real estate; the remaining $276 thousand is guaranteed by the SBA and the Company is in the process of filing the necessary paperwork to collect on this guarantee. All of the nonaccrual loans are classified as substandard. Substandard loans are a component of the allowance for loan losses. When a loan changes from "90 days past due but still accruing interest" to "nonaccrual" status, the loan is normally reviewed for impairment. If the loan is considered impaired, then the Company records a charge-off based on the value of the collateral or the present value of the loan's expected future cash flows. If the Company is waiting on an appraisal to determine the collateral's value, management allocates funds to cover the deficiency to the allowance for loan losses based on information available to management at the time.

The recorded investment in impaired loans decreased to $13.1 million as of December 31, 2015 from $14.4 million as of December 31, 2014 as detailed in Note 4 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K. The majority of these loans were collateralized.
- 33 -
The following table presents information concerning the aggregate amount of nonperforming assets, which includes nonaccrual loans, past due loans, TDRs and OREO:

TABLE VII
  
NONPERFORMING ASSETS
  
As of December 31,
  
2015
    
2014
    
2013
    
2012
    
2011
  
   
(in thousands)
  
Nonaccrual loans
                    
Commercial
  
$
276
    
$
0
    
$
149
    
$
97
    
$
129
  
Real estate-construction
    
0
      
499
      
2,545
      
3,065
      
0
  
Real estate-mortgage (1)
    
4,306
      
5,071
      
8,630
      
7,470
      
8,334
  
Consumer
    
0
      
0
      
0
      
0
      
12
  
Total nonaccrual loans
  
$
4,582
    
$
5,570
    
$
11,324
    
$
10,632
    
$
8,475
  
                                         
Loans past due 90 days or more and accruing interest 
                                        
Commercial
  
$
164
    
$
10
    
$
0
    
$
25
    
$
0
  
Real estate-construction
    
0
      
0
      
0
      
0
      
0
  
Real estate-mortgage (1)
    
23
      
107
      
527
      
408
      
510
  
Consumer (2)
    
3,163
      
1,019
      
5
      
11
      
2
  
Other
    
6
      
5
      
14
      
3
      
5
  
Total loans past due 90 days or more and accruing interest
  
$
3,356
    
$
1,141
    
$
546
    
$
447
    
$
517
  
                                         
Restructured loans
                                        
Real estate-construction
  
$
99
    
$
102
    
$
0
    
$
0
    
$
0
  
Real estate-mortgage (1)
    
11,077
      
12,203
      
12,076
      
8,810
      
4,326
  
Consumer
    
12
      
13
      
15
      
16
      
18
  
Total restructured loans
  
$
11,188
    
$
12,318
    
$
12,091
    
$
8,826
    
$
4,344
  
Less nonaccrual restructured loans (included above)
    
2,497
      
4,240
      
3,630
      
1,908
      
2,756
  
Less restructured loans in compliance (3) 
    
8,691
      
8,078
      
8,461
      
6,918
      
1,588
  
Net nonperforming restructured loans
  
$
0
    
$
0
    
$
0
    
$
0
    
$
0
  
                                         
Other real estate owned
                                        
Construction, land development, and other land
  
$
1,090
    
$
2,138
    
$
2,783
    
$
3,804
    
$
3,969
  
1-4 family residential properties
    
724
      
884
      
457
      
676
      
3,650
  
Multifamily (5 or more) residential properties
    
0
      
0
      
0
      
0
      
0
  
Former branch sites
    
0
      
886
      
886
      
0
      
0
  
Nonfarm nonresidential properties
    
927
      
1,198
      
2,289
      
2,094
      
1,771
  
   
$
2,741
    
$
5,106
    
$
6,415
    
$
6,574
    
$
9,390
  
                                         
Total nonperforming assets
  
$
10,679
    
$
11,817
    
$
18,285
    
$
17,653
    
$
18,382
  
                                         
Interest income that would have been recorded under
                                        
original loan terms on nonaccrual loans included above
  
$
196
    
$
301
    
$
762
    
$
673
    
$
1,353
  
                                         
Interest income recorded for the period on nonaccrual
                                        
 loans included above
  
$
141
    
$
265
    
$
251
    
$
121
    
$
506
  
                                         
(1) The real estate-mortgage segment includes residential 1 – 4 family, commercial real estate, second mortgages and equity lines of credit.
  
(2) Amounts listed include student loans with principal amounts that are 97 - 98% guaranteed by the government. The past due portion of these guaranteed loans totaled $5.7 million at December 31, 2015 and $2.4 million at December 31, 2014. For additional information, refer to Note 4 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.
  
(3) Amounts listed represent restructured loans that are in compliance with their modified terms as of the date presented.
  
- 34 -
As shown in the table above, as of December 31, 2015 compared to December 31, 2014, the nonaccrual loan category decreased by $988 thousand or 17.74% and the 90-days past due and still accruing interest category increased by $2.2 million or 194.13%. The decline in nonaccrual loans was due primarily to the resolution of a large loan relationship.  Loans past due 90 days or more and still accruing interest increased due to the purchase of an additional student loan portfolio by the Company in April of 2015; the principal amount of these loans is 97-98% guaranteed by the government. OREO decreased by $2.4 million or 46.32% when comparing December 31, 2015 to December 31, 2014, as the Company worked to sell these properties, including the former branch sites.

Management believes the Company has an excellent credit quality review process in place to identify problem loans quickly. As seen by the reduction in nonperforming assets, the Company's asset quality has improved. For a detailed discussion of the Company's nonperforming assets, refer to Note 4 and Note 5 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.

Management remains cautious about the future and is well aware that if the economy begins to decline, nonperforming assets could increase in future periods. As the Company experienced in 2009, 2010 and 2011, the effect of a sustained increase in nonperforming assets would be lower earnings caused by larger contributions to the loan loss provision, which in turn would be driven by larger impairments in the loan portfolio and higher levels of loan charge-offs.

The Allowance for Loan Losses
The allowance for loan losses is based on several components. In evaluating the adequacy of the allowance, each segment of the loan portfolio is divided into several pools of loans:

1.
Specific identification (regardless of risk rating)
2.
Pool–substandard
3.
Pool–other assets especially mentioned (OAEM) (rated just above substandard)
4.
Pool–pass loans (all other rated loans)

The first component of the allowance for loan losses is determined based on specifically identified loans that are impaired. These loans are individually analyzed for impairment and include nonperforming loans and both performing and nonperforming TDRs. This component may also include loans considered impaired for other reasons, such as outdated financial information on the borrower or guarantors or financial problems of the borrower, including operating losses, marginal working capital, inadequate cash flow, or business interruptions. Changes in TDRs and nonperforming loans affect the dollar amount of the allowance. Increases in the impairment allowance for TDRs and nonperforming loans are reflected as an increase in the allowance for loan losses except in situations where the TDR or nonperforming loan does not require a specific allocation (i.e., the present value of expected future cash flows or the collateral value is considered sufficient).

The majority of the Company's TDRs and nonperforming loans are collateralized by real estate. When reviewing loans for impairment, the Company obtains current appraisals when applicable. If the Company has not yet received a current appraisal on loans being reviewed for impairment, any loan balance that is in excess of the estimated appraised value is allocated in the allowance. As of December 31, 2015 and December 31, 2014, the impaired loan component of the allowance for loan losses amounted to $798 thousand and $702 thousand, respectively. The increase in this component was due to the deteriorating condition of two borrowing relationships, which required the Company to set aside additional funds to cover anticipated future losses. The impaired loan component of the allowance for loan losses is reflected as a valuation allowance related to impaired loans in Note 4 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.

Historical loss is the second component of the allowance for loan losses. The calculation of the historical loss component is conducted on loans evaluated collectively for impairment and uses migration analysis on pooled segments. These segments are based on the loan classifications set by the Federal Financial Institutions Examination Council in the instructions for the Call Report applicable to the Bank.

Consumer loans not secured by real estate and made to individuals for household, family and other personal expenditures are segmented into pools based on whether the loan's payments are current (including loans 1 – 29 days past due), or are 30 – 59 days past due, 60 – 89 days past due, or 90 days or more past due. All other loans, including loans to consumers that are secured by real estate, are segmented by the Company's internally assigned risk grades: substandard, other assets especially mentioned (rated just above substandard), and pass (all other loans). The Company may also assign loans to the risk grades of doubtful or loss, but as of December 31, 2015 and December 31, 2014, the Company had no loans in these categories.
- 35 -
For the December 31, 2015 and December 31, 2014 calculations, the migration analysis was based on twelve quarters of loss history.  For a detailed discussion of migration analysis, refer to Note 4 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.  Each quarter, management reviews the migration period to determine the most applicable period to use, which may be longer or shorter than the migration period used in prior quarters.  Adding additional quarters to the migration analysis extends the period over which the loan could cease to perform; therefore, migration analysis of a longer period generally reflects a greater number of loans that default, and accordingly an increased historical loss rate, than migration analysis of a shorter period.

The final component of the allowance consists of qualitative factors such as economic conditions, trends in growth, loan concentrations, changes in certain loans, changes in underwriting, changes in management and changes in the legal and regulatory environment. On a combined basis, the historical loss and qualitative factor component of the allowance amounted to $6.9 million and $6.4 million as of December 31, 2015 and 2014, respectively.  This increase is mainly due to growth in the loan portfolio.

As a result of continuing loan growth and the additional specific allocation for impaired loans, the Company added, through the provision, $1.0 million to the allowance for loan losses in 2015. Management believes that the allowance has been appropriately funded for additional losses on existing loans, based on currently available information. The Company will continue to monitor the loan portfolio and levels of nonperforming assets closely and make changes to the allowance for loan losses when necessary.
- 36 -
The following table shows an analysis of the allowance for loan losses:

TABLE VIII
  
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES
  
                     
As of December 31, 
  
2015
    
2014
    
2013
    
2012
    
2011
  
   
(dollars in thousands)
  
                     
Balance at the beginning of period
  
$
7,075
    
$
6,831
    
$
7,324
    
$
8,498
    
$
13,228
  
                                         
Charge-offs:
                                        
Commercial
    
293
      
286
      
200
      
138
      
942
  
Real estate-construction
    
0
      
51
      
501
      
831
      
0
  
Real estate-mortgage (1)
    
321
      
563
      
1,548
      
2,554
      
7,822
  
Consumer
    
92
      
163
      
141
      
259
      
333
  
Other 
    
191
      
175
      
316
      
187
      
210
  
Total charge-offs
    
897
      
1,238
      
2,706
      
3,969
      
9,307
  
                                         
Recoveries:
                                        
Commercial
    
50
      
55
      
76
      
67
      
141
  
Real estate-construction
    
1
      
173
      
6
      
30
      
0
  
Real estate-mortgage (1)
    
393
      
524
      
513
      
162
      
575
  
Consumer
    
39
      
64
      
111
      
70
      
102
  
Other 
    
52
      
66
      
207
      
66
      
59
  
Total recoveries
    
535
      
882
      
913
      
395
      
877
  
                                         
Net charge-offs
    
362
      
356
      
1,793
      
3,574
      
8,430
  
                                         
Provision for loan losses
    
1,025
      
600
      
1,300
      
2,400
      
3,700
  
Balance at end of period
  
$
7,738
    
$
7,075
    
$
6,831
    
$
7,324
    
$
8,498
  
                                         
Selected loan loss statistics
                                        
Loans (net of unearned income):
                                        
End of period balance
  
$
568,475
    
$
535,994
    
$
500,699
    
$
471,133
    
$
520,327
  
Average balance
  
$
563,534
    
$
517,183
    
$
471,203
    
$
478,220
    
$
544,523
  
                                         
Net charge-offs to average total loans
    
0.06
%
    
0.07
%
    
0.38
%
    
0.75
%
    
1.55
%
Provision for loan losses to average total loans
    
0.18
%
    
0.12
%
    
0.28
%
    
0.50
%
    
0.68
%
Provision for loan losses to net charge-offs
    
283.15
%
    
168.54
%
    
72.50
%
    
67.15
%
    
43.89
%
Allowance for loan losses to period end loans
    
1.36
%
    
1.32
%
    
1.36
%
    
1.55
%
    
1.63
%
Earnings to loan loss coverage (2)
    
13.02
      
13.80
      
2.68
      
2.12
      
0.96
  
Allowance for loan losses to nonperforming loans
    
97.48
%
    
105.42
%
    
57.55
%
    
66.11
%
    
94.51
%
                                         
(1) The real estate-mortgage segment includes residential 1 – 4 family, commercial real estate, second mortgages and equity lines of credit.
  
(2) Income before taxes plus provision for loan losses, divided by net charge-offs.
                  
- 37 -
The following table shows the amount of the allowance for loan losses allocated to each category at December 31 of the years presented.

TABLE IX
  
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
  
 
   
 
   
 
   
 
   
 
   
 
As of December 31,
2015
  
2014
  
2013
  
2012
  
2011
  
     
Percent
      
Percent
      
Percent
      
Percent
      
Percent
  
     
of Loans to
      
of Loans to
      
of Loans to
      
of Loans to
      
of Loans to
  
 
Amount
    
Total Loans
  
Amount
    
Total Loans
  
Amount
    
Total Loans
  
Amount
    
Total Loans
  
Amount
    
Total Loans
  
 
(dollars in thousands)
  
                               
Commercial 
  
$
633
      
7.60
%
  
$
595
      
7.03
%
  
$
350
      
6.13
%
  
$
677
      
5.38
%
  
$
1,011
      
6.73
%
Real estate-construction
    
985
      
3.46
%
    
703
      
1.69
%
    
662
      
2.90
%
    
187
      
2.55
%
    
323
      
3.84
%
Real estate-mortgage (1)
    
5,628
      
76.90
%
    
5,347
      
81.33
%
    
5,357
      
83.28
%
    
6,179
      
84.59
%
    
6,735
      
79.94
%
Consumer
    
279
      
8.87
%
    
219
      
5.69
%
    
294
      
3.95
%
    
204
      
2.79
%
    
300
      
3.28
%
Other
    
213
      
3.17
%
    
211
      
4.26
%
    
168
      
3.74
%
    
77
      
4.70
%
    
129
      
6.21
%
Total
  
$
7,738
      
100.00
%
  
$
7,075
      
100.00
%
  
$
6,831
      
100.00
%
  
$
7,324
      
100.00
%
  
$
8,498
      
100.00
%
                                                                                 
(1) The real estate-mortgage segment includes residential 1 – 4 family, commercial real estate, second mortgages and equity lines of credit.
  

For the year ended December 31, 2015 as compared to the year ended December 31, 2014, there was an increase in the allowance for loan losses due to growth in the loan portfolio and the additional specific allocation for impaired loans.  The increase in the allowance was distributed among the loan segments based on the composition of loans in each segment. See Note 4 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K for further information related to the effect of the change in the calculation method.

Although the allowance for loan losses is allocated into these categories, the entire allowance for loan losses is available to cover loan losses in any category. For example, if real estate-construction loans experienced losses of $1.0 million, the allowance for loan losses could absorb these losses even though only $985 thousand is allocated to that category.

Deposits
The following table shows the average balances and average rates paid on deposits for the periods presented.

TABLE X
  
DEPOSITS
  
       
 
Years ended December 31, 
2015
  
2014
  
2013
  
 
Average
    
Average
  
Average
    
Average
  
Average
    
Average
  
 
Balance
    
Rate
  
Balance
    
Rate
  
Balance
    
Rate
  
 
(dollars in thousands)
  
                         
Interest-bearing transaction accounts
  
$
11,219
      
0.04
%
  
$
11,537
      
0.04
%
  
$
11,129
      
0.05
%
Money market deposit accounts
    
228,627
      
0.08
%
    
213,918
      
0.08
%
    
199,848
      
0.12
%
Savings accounts
    
74,436
      
0.05
%
    
73,576
      
0.06
%
    
62,562
      
0.10
%
Time deposits, $100,000 or more
    
113,945
      
0.98
%
    
108,630
      
0.96
%
    
126,127
      
1.14
%
Other time deposits
    
107,142
      
0.96
%
    
128,383
      
1.03
%
    
157,154
      
1.07
%
Total interest-bearing deposits
    
535,369
      
0.44
%
    
536,044
      
0.48
%
    
556,820
      
0.61
%
Demand deposits
    
194,677
              
184,555
              
180,538
          
Total deposits
  
$
730,046
            
$
720,599
            
$
737,358
          
- 38 -
The Company's average total deposits were $730.0 million for the year ended December 31, 2015, an increase of $9.4 million or 1.31% from average total deposits for the year ended December 31, 2014. The money market deposit accounts category had the largest increase, totaling $14.7 million. In addition, average time deposits, which are currently the Company's most expensive deposit categories, decreased by a total of $15.9 million, as seen in the table above. The rates paid on interest-bearing deposits by the Company decreased to 0.44% for the year ended December 31, 2015 from 0.48% for the year ended December 31, 2014.

To manage its net interest margin, in 2014 and 2015 the Company focused on reducing higher-cost time deposits by lowering deposit rates and allowing time deposits to shrink through attrition.

The following table shows time deposits in amounts of $100 thousand or more by time remaining until maturity at the dates presented.

TABLE XI
  
TIME DEPOSITS OF $100,000 OR MORE
  
       
As of December 31, 
2015
  
2014
  
2013
  
 
(in thousands)
  
Maturing in:
            
Within 3 months
  
$
23,844
    
$
32,995
    
$
25,272
  
3 through 6 months
    
11,474
      
12,212
      
12,591
  
6 through 12 months
    
8,572
      
12,628
      
33,992
  
Greater than 12 months
    
65,207
      
47,197
      
42,920
  
   
$
109,097
    
$
105,032
    
$
114,775
  

Return on Equity and Assets
The return on average stockholders' equity and assets, the dividend pay-out ratio, and the average equity to average assets ratio for the past three years are presented below.

As of December 31, 
2015
2014
2013
Return on average assets
0.41%
0.47%
0.36%
Return on average equity
4.02%
4.81%
3.73%
Dividend pay-out ratio
46.40%
31.32%
34.49%
Average equity to average assets
10.23%
9.83%
9.61%

Capital Resources
Total stockholders' equity as of December 31, 2015 was $93.2 million, up 5.29% from $88.5 million on December 31, 2014. The main cause of this increase was the mark-to-market adjustment on securities transferred from held-to-maturity to available-for-sale. Held-to-maturity securities are carried at book value, while available-for-sale securities are carried at market value. When the securities were transferred to available-for-sale, the Company recognized an unrealized gain to record these securities at their fair market value as a result of the elimination of the unrealized loss and corresponding fair value discount established in 2013 when available-for-sale securities were transferred to held-to-maturity.

The Company's capital position remains strong as evidenced by the regulatory capital measurements. Under the banking regulations, Total Capital is composed of core capital (Tier 1) and supplemental capital (Tier 2). Tier 1 capital consists of common stockholders' equity less goodwill. Tier 2 capital consists of certain qualifying debt and a qualifying portion of the allowance for loan losses. The following is a summary of the Company's capital ratios for the past three years. As shown below, these ratios were all well above the regulatory minimum levels.

 
2015 Regulatory Minimums
2015
2014
2013
Common Equity Tier 1 Capital
4.50 %
13.78 %
N/A
N/A
Tier 1 Capital
6.00 %
13.78 %
14.36 %
14.50 %
Total Capital
8.00 %
14.89 %
15.44 %
15.58 %
Tier 1 Leverage
4.00 %
10.93 %
10.75 %
10.37 %
- 39 -
Year-end book value per share was $18.79 in 2015, $17.85 in 2014, and $16.29 in 2013. Cash dividends were $1.7 million or $0.34 per share in 2015, $1.3 million or $0.26 per share in 2014, and $1.1 million or $0.22 per share in 2013. The common stock of the Company has not been extensively traded. The table below shows the high and low sales prices and dividends paid for each quarter of 2015 and 2014. The stock is quoted on the NASDAQ Capital Market under the symbol "OPOF" and the prices below are based on trade information as reported by The NASDAQ Stock Market, LLC. There were 1,119 stockholders of record of the Company as of March 8, 2016. This stockholder count does not include stockholders who hold their stock in a nominee registration.

The following is a summary of the quarterly dividends paid and high and low sales prices of Old Point Financial Corporation common stock for the previous two years.

2015
  
2014
  
Dividend
  
Sales Price
  
Dividend
  
Sales Price
  
 
High
  
Low
  
High
  
Low
  
1st Quarter
  
$
0.08
    
$
15.44
    
$
14.85
    
$
0.06
    
$
18.00
    
$
12.81
  
2nd Quarter
  
$
0.08
    
$
15.75
    
$
14.83
    
$
0.06
    
$
17.93
    
$
14.86
  
3rd Quarter
  
$
0.09
    
$
16.00
    
$
14.71
    
$
0.07
    
$
16.89
    
$
14.36
  
4th Quarter
  
$
0.09
    
$
19.00
    
$
15.40
    
$
0.07
    
$
15.50
    
$
14.76
  

Liquidity
Liquidity is the ability of the Company to meet present and future financial obligations through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. Liquid assets include cash, interest-bearing deposits with banks, federal funds sold, investments in securities and loans maturing within one year.

In addition, secondary sources are available through the use of borrowed funds if the need should arise. The Company's sources of funds include a large stable deposit base and secured advances from the Federal Home Loan Bank of Atlanta (FHLB). As of December 31, 2015, the Company had $237.2 million in FHLB borrowing availability. The Company has available short-term unsecured borrowed funds in the form of federal funds with correspondent banks. As of year-end 2015 and 2014, the Company had $50.0 million available in federal funds lines of credit to address any short-term borrowing needs.

As a result of the Company's management of liquid assets, availability of borrowed funds and the ability to generate liquidity through liability funding, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors' requirements and to meet its customers' future borrowing needs.

Notwithstanding the foregoing, the Company's ability to maintain sufficient liquidity may be affected by numerous factors, including economic conditions nationally and in the Company's markets. Depending on its liquidity levels, its capital position, conditions in the capital markets and other factors, the Company may from time to time consider the issuance of debt, equity, other securities or other possible capital markets transactions, the proceeds of which could provide additional liquidity for the Company's operations.

The fair value of unpledged securities available for sale increased from December 31, 2014 to December 31, 2015 primarily because the Company transferred its portfolio of held-to-maturity securities to available-for-sale. Management believes that this transfer will provide the Company with additional liquidity and improved flexibility in managing it balance sheet in the future, at an acceptable level of risk to capital. The increase in availability for FHLB advances is mainly due to the payoff of a $5.0 million advance.
- 40 -
The following table sets forth information relating to the Company's sources of liquidity and the outstanding commitments for use of liquidity at December 31, 2015 and December 31, 2014. Dividing the total short-term sources of liquidity by the outstanding commitments for use of liquidity derives the liquidity coverage ratio.

LIQUIDITY SOURCES AND USES
  
(dollars in thousands)
  
 
December 31, 2015
  
December 31, 2014
  
 
Total
  
In Use
    
Available
  
Total
  
In Use
    
Available
  
Sources:
 
   
         
Federal funds lines of credit
 
  
$
50,000
      
$
0
    
$
50,000
  
 
  
$
50,000
  
 
  
$
0
    
$
50,000
  
Federal Home Loan Bank advances
      
262,196
        
25,000
      
237,196
        
261,507
        
30,000
      
231,507
  
Federal funds sold  & balances at the Federal Reserve
                    
3,195
                      
2,028
  
Securities, available for sale and unpledged at fair value
                    
93,672
                      
98,409
  
Total short-term funding sources
                  
$
384,063
                    
$
381,944
  
                                                 
Uses:
                                                
Unfunded loan commitments and lending lines of credit
                    
63,039
                      
63,422
  
Letters of credit
                    
1,042
                      
1,076
  
Commitments to purchase assets
                    
165
                      
826
  
Total potential short-term funding uses
                  
$
64,246
                    
$
65,324
  
                                                 
Liquidity coverage ratio
                    
597.8
%
                    
584.7
%

Management is not aware of any market or institutional trends, events or uncertainties that are expected to have a material effect on the liquidity, capital resources or operations of the Company. Nor is management aware of any current recommendations by regulatory authorities that would have a material effect on liquidity or operations. The Company's internal sources of liquidity are deposits, loan and investment repayments and securities available-for-sale. The Company's primary external source of liquidity is advances from the FHLB.

In June 2013, the federal bank regulatory agencies adopted the Basel III Final Rules (i) to implement the Basel III capital framework and (ii) for calculating risk-weighted assets. These rules became effective January 1, 2015, subject to limited phase-in periods. For an overview of the Basel III Final Rules, refer to "Regulation and Supervision" included in Item 1, "Business" of this report on Form 10-K.

The Company's operating activities provided $7.8 million of cash during the year ended December 31, 2015, compared to $10.0 million provided during 2014, primarily due to increases in other assets, partially offset by increases in other liabilities; pension plan contributions in 2015 also contributed to the lower operating cash flows in 2015. The Company's investing activities used $15.4 million of cash during 2015, compared to $9.2 million used during 2014, principally due to a reduction in the volume of sales of securities when comparing 2015 to 2014. Company's financing activities provided $11.3 million of cash during 2015 compared to $1.2 million provided of cash during 2014. This change is principally due to increases in deposits in 2015, compared to a net decrease in deposits in 2014. Cash flows from financing activities were also impacted by a net decrease of $5.0 million in FHLB advances in 2015.

In February of 2016, the Company elected to prepay its remaining FHLB advance of $25.0 million. This $25.0 million advance, which would have matured in June of 2016, bore an interest rate of 4.83%, significantly higher than other borrowing sources in the current rate environment. Although prepayment of the advance subjected the Company to a prepayment penalty equal to the cost to the FHLB to unwind its underlying hedge plus an administrative fee, the Company determined that the interest expense saved was more than the cost to prepay the advance.

Effects of Inflation
Management believes changes in interest rates affect the financial condition of the Company, and other financial institutions, to a far greater degree than changes in the inflation rate. While interest rates are greatly influenced by changes in the inflation rate, they do not necessarily change at the same rate or in the same magnitude as the inflation rate. Interest rates are highly sensitive to many factors that are beyond the control of the Company, including changes in the expected rate of inflation, the influence of general and local economic conditions and the monetary and fiscal policies of the U.S. government, its agencies and various other governmental regulatory authorities.
- 41 -
Management believes that the key to achieving satisfactory performance in an inflationary environment is the Company's ability to maintain or improve its net interest margin and to generate additional fee income. The Company's policy of investing in and funding with interest-sensitive assets and liabilities is intended to reduce the risks inherent in a volatile inflationary economy.

Off-Balance Sheet Lending Related Commitments
The Company had $133.3 million in consumer and commercial commitments at December 31, 2015. As of the same date, the Company also had $3.5 million in letters of credit that the Company will fund if certain future events occur. It is expected that only a portion of these commitments will ever actually be funded.

Management believes that the Company has the liquidity and capital resources to handle these commitments in the normal course of business. See Note 15 of the Notes to Consolidated Financial Statements included in Item 8, "Financial Statements and Supplementary Data" of this report on Form 10-K.

Contractual Obligations
In the normal course of business, there are various outstanding contractual obligations of the Company that will require future cash outflows. In addition, there are commitments and contingent liabilities, such as commitments to extend credit, that may or may not require future cash outflows. The following table provides the Company's contractual obligations as of December 31, 2015:

Payments due by period
  
(in thousands)
      
Less
            
More
  
       
Than 1
     1-3      3-5    
Than 5
 
Contractual Obligations
  
Total
    
Year
    
Years
    
Years
    
Years
  
Short-Term Debt Obligations
  
$
25,950
    
$
25,950
    
$
0
    
$
0
    
$
0
  
Long-Term Debt Obligations
    
25,000
      
25,000
      
0
      
0
      
0
  
Operating Lease Obligations
    
871
      
236
      
551
      
84
      
0
  
Commitment to purchase assets
    
165
      
165
      
0
      
0
      
0
  
Total contractual cash obligations excluding deposits
    
51,986
      
51,351
      
551
      
84
      
0
  
Deposits
    
746,471
      
622,370
      
87,009
      
37,092
      
0
  
Total
  
$
798,457
    
$
673,721
    
$
87,560
    
$
37,176
    
$
0
  

Short-term debt obligations include federal funds purchased, overnight repurchase agreements and term repurchase agreements.

After December 31, 2015 but prior to the filing of this annual report on Form 10-K, the Company signed additional contracts for fixed asset purchases and professional services. These contracts will require payments of approximately $165 thousand in 2016.

Short-Term Borrowings
Certain short-term borrowings at December 31, 2015, 2014 and 2013 are presented below. Information is presented only on those categories whose average balance at December 31 exceeded 30 percent of total stockholders' equity at the same date.

TABLE XII
  
SHORT-TERM BORROWINGS
  
                   
 
2015
  
2014
  
2013
  
 
Balance
    
Rate
  
Balance
    
Rate
  
Balance
    
Rate
  
 
(dollars in thousands)
  
Balance at December 31, 
                  
Repurchase agreements
  
$
25,950
      
0.09
%
  
$
37,816
      
0.10
%
  
$
31,586
      
0.10
%
                                                 
Average daily balance for the year ended December 31,
Repurchase agreements
  
$
30,654
      
0.10
%
  
$
32,780
      
0.10
%
  
$
32,219
      
0.11
%
                                                 
Maximum month-end outstanding balance:
Repurchase agreements
  
$
44,614
            
$
42,429
            
$
41,604
          
- 42 -

Quarterly Data
The table below contains a comparison of the Company's quarterly income and expenses for the periods indicated:

   
Years Ended December 31,
  
   
2015
    
2014
  
   
(in thousands, except per share data)
  
   
Fourth
    
Third
    
Second
    
First
    
Fourth
    
Third
    
Second
    
First
  
   
Quarter
    
Quarter
    
Quarter
    
Quarter
    
Quarter
    
Quarter
    
Quarter
    
Quarter
  
Interest and dividend income
  
$
7,632
    
$
7,609
    
$
7,550
    
$
7,504
    
$
7,760
    
$
7,527
    
$
7,536
    
$
7,466
  
Interest expense
    
(906
)
    
(915
)
    
(918
)
    
(893
)
    
(905
)
    
(951
)
    
(962
)
    
(1,031
)
                                                                 
Net interest income
    
6,726
      
6,694
      
6,632
      
6,611
      
6,855
      
6,576
      
6,574
      
6,435
  
Provision for loan losses
    
(775
)
    
50
      
(25
)
    
(275
)
    
200
      
(450
)
    
(100
)
    
(250
)
Net interest income, after provision for loan losses
    
5,951
      
6,744
      
6,607
      
6,336
      
7,055
      
6,126
      
6,474
      
6,185
  
                                                                 
Noninterest income
    
3,276
      
3,223
      
3,359
      
3,277
      
3,134
      
3,195
      
3,153
      
3,162
  
Noninterest expenses
    
(9,154
)
    
(9,151
)
    
(8,494
)
    
(8,287
)
    
(8,724
)
    
(8,718
)
    
(8,467
)
    
(8,263
)
                                                                 
Income before income taxes
    
73
      
816
      
1,472
      
1,326
      
1,465
      
603
      
1,160
      
1,084
  
Provision for income taxes
    
237
      
24
      
(193
)
    
(121
)
    
(119
)
    
89
      
(59
)
    
(107
)
Net income
  
$
310
    
$
840
    
$
1,279
    
$
1,205
    
$
1,346
    
$
692
    
$
1,101
    
$
977
  
                                                                 
Earnings per common share:
                                                                
Basic
  
$
0.06
    
$
0.17
    
$
0.26
    
$
0.24
    
$
0.27
    
$
0.14
    
$
0.22
    
$
0.20
  
Diluted
  
$
0.06
    
$
0.17
    
$
0.26
    
$
0.24
    
$
0.27
    
$
0.14
    
$
0.22
    
$
0.20
  

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

This information is incorporated herein by reference from Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations", on pages 19 through 43 of this report on Form 10-K.

Item 8. Financial Statements and Supplementary Data

The Consolidated Financial Statements and related footnotes of the Company are presented below followed by the financial statements of the Parent.
- 43 -
 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


To the Board of Directors and Shareholders
Old Point Financial Corporation
Hampton, Virginia

We have audited the accompanying consolidated balance sheets of Old Point Financial Corporation and Subsidiaries (the "Company") as of December 31, 2015 and 2014, and the related consolidated statements of income, comprehensive income, changes in stockholders' equity, and cash flows for the years then ended.  These financial statements are the responsibility of the Corporation's management.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Old Point Financial Corporation and Subsidiaries as of December 31, 2015 and 2014, and the results of their operations and their cash flows for the years then ended, in conformity with U.S. generally accepted accounting principles.

/s/ Yount, Hyde & Barbour, P.C.

Winchester, Virginia
March 11, 2016
- 44 -

Old Point Financial Corporation and Subsidiaries
Consolidated Balance Sheets
 
  
   
 
 
  
December 31, 2015
    
December 31, 2014
  
 
  
(dollars in thousands, except share data)
  
Assets
  
   
 
 
  
   
 
Cash and due from banks
  
$
33,514
    
$
31,081
  
Interest-bearing due from banks
    
1,064
      
833
  
Federal funds sold
    
2,412
      
1,391
  
Cash and cash equivalents
    
36,990
      
33,305
  
Securities available-for-sale, at fair value
    
214,192
      
139,346
  
Securities held-to-maturity (fair value approximates $94,406)
    
0
      
90,089
  
Restricted securities
    
2,016
      
2,293
  
Loans, net of allowance for loan losses of $7,738 and $7,075
    
560,737
      
528,919
  
Premises and equipment, net
    
41,282
      
42,075
  
Bank-owned life insurance
    
24,411
      
23,525
  
Other real estate owned, net of valuation allowance of $2,549 and $2,908
    
2,741
      
5,106
  
Other assets
    
14,418
      
11,622
  
 
  
$
896,787
    
$
876,280
  
 
                
Liabilities & Stockholders' Equity
                
 
                
Deposits:
                
Noninterest-bearing deposits
  
$
215,090
    
$
186,280
  
Savings deposits
    
321,370
      
307,078
  
Time deposits
    
210,011
      
223,296
  
Total deposits
    
746,471
      
716,654
  
Overnight repurchase agreements
    
25,950
      
37,404
  
Term repurchase agreements
    
0
      
412
  
Federal Home Loan Bank advances
    
25,000
      
30,000
  
Accrued expenses and other liabilities
    
6,190
      
3,313
  
Total liabilities
    
803,611
      
787,783
  
 
                
Commitments and contingencies
                
 
                
Stockholders' equity:
                
Common stock, $5 par value, 10,000,000 shares authorized; 4,959,009 shares issued and outstanding
    
24,795
      
24,795
  
Additional paid-in capital
    
16,392
      
16,392
  
Retained earnings
    
55,151
      
53,203
  
Accumulated other comprehensive loss, net
    
(3,162
)
    
(5,893
)
Total stockholders' equity
    
93,176
      
88,497
  
Total liabilities and stockholders' equity
  
$
896,787
    
$
876,280
  
 
See Notes to Consolidated Financial Statements.
  
- 45 -

Old Point Financial Corporation and Subsidiaries
Consolidated Statements of Income
 
  
   
 
 
  
Years Ended
December 31,
  
 
  
2015
    
2014
  
 
  
(dollars in thousands, except per share data)
  
Interest and Dividend Income:
  
   
 
Interest and fees on loans
  
$
25,972
    
$
24,881
  
Interest on due from banks
    
15
      
13
  
Interest on federal funds sold
    
2
      
5
  
Interest on securities:
                
Taxable
    
2,510
      
3,562
  
Tax-exempt
    
1,663
      
1,703
  
Dividends and interest on all other securities
    
133
      
125
  
Total interest and dividend income
    
30,295
      
30,289
  
 
                
Interest Expense:
                
Interest on savings deposits
    
227
      
230
  
Interest on time deposits
    
2,144
      
2,354
  
Interest on federal funds purchased, securities sold under agreements to repurchase and other borrowings
    
30
      
32
  
Interest on Federal Home Loan Bank advances
    
1,231
      
1,233
  
Total interest expense
    
3,632
      
3,849
  
Net interest income
    
26,663
      
26,440
  
Provision for loan losses
    
1,025
      
600
  
Net interest income, after provision for loan losses
    
25,638
      
25,840
  
 
                
Noninterest Income:
                
Income from fiduciary activities
    
3,617
      
3,506
  
Service charges on deposit accounts
    
4,021
      
4,119
  
Other service charges, commissions and fees
    
4,084
      
3,940
  
Income from bank-owned life insurance
    
885
      
851
  
Gain on sale of available-for-sale securities, net
    
76
      
2
  
Other operating income
    
453
      
226
  
Total noninterest income
    
13,136
      
12,644
  
 
                
Noninterest Expense:
                
Salaries and employee benefits
    
20,747
      
19,884
  
Occupancy and equipment
    
5,330
      
4,886
  
Data processing
    
1,625
      
1,663
  
FDIC insurance
    
586
      
704
  
Customer development
    
584
      
822
  
Legal and audit expenses
    
720
      
606
  
Other outside service fees
    
693
      
584
  
Employee professional development
    
591
      
721
  
Postage and courier
    
373
      
445
  
Stationery and supplies
    
374
      
446
  
Capital stock tax
    
439
      
499
  
ATM and check losses
    
452
      
410
  
Loss on write-down/sale of other real estate owned
    
957
      
872
  
Other operating expenses
    
1,615
      
1,630
  
Total noninterest expense
    
35,086
      
34,172
  
Income before income taxes
    
3,688
      
4,312
  
Income tax expense
    
54
      
196
  
Net income
  
$
3,634
    
$
4,116
  
 
                
Basic earnings per share
                
Average shares outstanding
    
4,959,009
      
4,959,009
  
Net income per share of common stock
  
$
0.73
    
$
0.83
  
 
                
Diluted earnings per share
                
Average shares outstanding
    
4,959,009
      
4,959,009
  
Net income per share of common stock
  
$
0.73
    
$
0.83
  
                 
See Notes to Consolidated Financial Statements.
                
- 46 -

Old Point Financial Corporation and Subsidiaries
  
Consolidated Statements of Comprehensive Income
  
 
Years Ended
December 31,
  
 
2015
  
2014
  
 
(dollars in thousands)
  
 
 
 
Net income
  
$
3,634
    
$
4,116
  
Other comprehensive income, net of tax
                
Net unrealized gains (losses) on available-for-sale securities
    
(498
)
    
5,239
  
Net change in unrealized losses on securities transferred from available-for-sale to held-to-maturity
    
3,386
      
551
  
Net change in defined benefit plan assets and benefit obligations
    
(157
)
    
(881
)
Other comprehensive income
    
2,731
      
4,909
  
Comprehensive income
  
$
6,365
    
$
9,025
  
 
See Notes to Consolidated Financial Statements.
  
- 47 -

Old Point Financial Corporation and Subsidiaries
Consolidated Statements of Changes in Stockholders' Equity
 
  
Shares of
Common
Stock
    
Common
Stock
    
Additional
Paid-in
Capital
    
Retained
Earnings
    
Accumulated
Other
Comprehensive
Loss
    
Total
  
 
  
(dollars in thousands, except per share data)
  
 
  
   
   
   
   
   
 
Balance at  December 31, 2013
    
4,959,009
    
$
24,795
    
$
16,392
    
$
50,376
    
$
(10,802
)
  
$
80,761
  
 
                                                
Net income
    
0
      
0
      
0
      
4,116
      
0
      
4,116
  
Other comprehensive income, net of tax
    
0
      
0
      
0
      
0
      
4,909
      
4,909
  
Cash dividends ($0.26 per share)
    
0
      
0
      
0
      
(1,289
)
    
0
      
(1,289
)
Balance at  December 31, 2014
    
4,959,009
    
$
24,795
    
$
16,392
    
$
53,203
    
$
(5,893
)
  
$
88,497
  
 
                                                
Net income
    
0
      
0
      
0
      
3,634
      
0
      
3,634
  
Other comprehensive income, net of tax
    
0
      
0
      
0
      
0
      
2,731
      
2,731
  
Cash dividends ($0.34 per share)
    
0
      
0
      
0
      
(1,686
)
    
0
      
(1,686
)
 
                                                
Balance at  December 31, 2015
    
4,959,009
    
$
24,795
    
$
16,392
    
$
55,151
    
$
(3,162
)
  
$
93,176
  
 
See Notes to Consolidated Financial Statements.
  
- 48 -

Old Point Financial Corporation and Subsidiaries
Consolidated Statements of Cash Flows

Years Ended December 31,
  
2015
    
2014
  
   
(dollars in thousands)
  
CASH FLOWS FROM OPERATING ACTIVITIES
        
Net income
  
$
3,634
    
$
4,116
  
Adjustments to reconcile net income to net cash provided by operating activities:
                
Depreciation and amortization
    
2,543
      
2,277
  
Provision for loan losses
    
1,025
      
600
  
Net gain on sale of available-for-sale securities
    
(76
)
    
(2
)
Net amortization of securities
    
2,188
      
2,241
  
Net loss on disposal of premises and equipment
    
6
      
1
  
Net loss on write-down/sale of other real estate owned
    
957
      
872
  
Income from bank owned life insurance
    
(885
)
    
(851
)
Deferred tax benefit
    
(227
)
    
(101
)
(Increase) decrease in other assets
    
(3,969
)
    
440
  
Increase in other liabilities
    
3,637
      
442
  
Pension plan contribution
    
(1,000
)
    
0
  
Net cash provided by operating activities
    
7,833
      
10,035
  
                 
CASH FLOWS FROM INVESTING ACTIVITIES
                
Purchases of available-for-sale securities
    
(104,103
)
    
(25,471
)
Proceeds from redemption of restricted securities
    
277
      
85
  
Proceeds from maturities and calls of available-for-sale securities
    
80,790
      
725
  
Proceeds from maturities and calls of held-to-maturity securities
    
300
      
300
  
Proceeds from sales of available-for-sale securities
    
23,005
      
38,653
  
Paydowns on available-for-sale securities
    
9,353
      
9,318
  
Paydowns on held-to-maturity securities
    
8,161
      
6,160
  
Purchases of government-guaranteed student loans
    
(14,315
)
    
0
  
Net increase in all other loans (including repayments on student loans)
    
(19,081
)
    
(36,985
)
Proceeds from sales of other real estate owned
    
1,956
      
1,799
  
Payments for improvements to other real estate owned
    
0
      
(23
)
Purchases of premises and equipment
    
(1,756
)
    
(3,806
)
Net cash used in investing activities
    
(15,413
)
    
(9,245
)
                 
CASH FLOWS FROM FINANCING ACTIVITIES
                
Increase in noninterest-bearing deposits
    
28,810
      
3,767
  
Increase in savings deposits
    
14,292
      
20,993
  
Decrease in time deposits
    
(13,285
)
    
(33,511
)
Increase (decrease) in federal funds purchased, repurchase agreements and other borrowings, net
    
(11,866
)
    
6,230
  
Increase in Federal Home Loan Bank advances
    
20,000
      
10,000
  
Repayment of Federal Home Loan Bank advances
    
(25,000
)
    
(5,000
)
Cash dividends paid on common stock
    
(1,686
)
    
(1,289
)
Net cash provided by financing activities
    
11,265
      
1,190
  
                 
Net increase in cash and cash equivalents
    
3,685
      
1,980
  
Cash and cash equivalents at beginning of period
    
33,305
      
31,325
  
Cash and cash equivalents at end of period
  
$
36,990
    
$
33,305
  
                 
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
                
Cash payments for:
                
Interest
  
$
3,646
    
$
3,920
  
Income tax
  
$
200
    
$
535
  
                 
SUPPLEMENTAL SCHEDULE OF NONCASH TRANSACTIONS
                
Unrealized gain (loss) on securities available-for-sale
  
$ 
(755
)
  
$
7,938
  
Loans transferred to other real estate owned
  
$
553
    
$
1,815
  
Loans made to finance the sale of other real estate owned
  
$
0
    
$
481
  
Increase in pension liability
  
$ 
(237
)
  
$ 
(1,336
)
Book value of equity securities transferred from other assets to available-for-sale
  
$
0
    
$
100
  
Securities transferred from held-to-maturity to available-for-sale
  
$
85,555
    
$
0
  
Unamortized losses on transfer date on securities transferred from available-for-sale to held-to-maturity, eliminated upon transfer back to available-for-sale
  
$
4,197
    
$
0
  
Amortization of unrealized loss on securities transferred to held-to-maturity
  
$
934
    
$
835
  
                 
See Notes to Consolidated Financial Statements.
                
- 49 -


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1, Significant Accounting Policies

PRINCIPLES OF CONSOLIDATION
The Consolidated Financial Statements include the accounts of Old Point Financial Corporation (the Company) and its wholly-owned subsidiaries, The Old Point National Bank of Phoebus (the Bank) and Old Point Trust & Financial Services N.A. (Trust). All significant intercompany balances and transactions have been eliminated in consolidation. The Company consolidates subsidiaries in which it holds, directly or indirectly, more than 50 percent of the voting rights or where it exercises control. Entities where the Company holds 20 to 50 percent of the voting rights, or has the ability to exercise significant influence, or both, are accounted for under the equity method. As discussed below, the Company consolidates entities deemed to be variable interest entities (VIEs) when it is determined to be the primary beneficiary.

NATURE OF OPERATIONS
Old Point Financial Corporation is a holding company that conducts substantially all of its operations through two subsidiaries, The Old Point National Bank of Phoebus and Old Point Trust & Financial Services, N.A. The Bank serves individual and commercial customers, the majority of which are in Hampton Roads, Virginia. As of December 31, 2015, the Bank had 18 branch offices. The Bank offers a full range of deposit and loan products to its retail and commercial customers. Trust offers a full range of services for individuals and businesses. Products and services include retirement planning, estate planning, financial planning, estate and trust administration, retirement plan administration, tax services and investment management services.

VARIABLE INTEREST ENTITIES
A legal entity is referred to as a VIE if any of the following conditions exist, which are outlined in the Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) variable interest accounting guidance (FASB ASC 810-10-15-14): (1) the total equity investment at risk is insufficient to permit the legal entity to finance its activities without additional subordinated financial support from other parties, or (2) the entity has equity investors that cannot make significant decisions about the entity's operations or that do not absorb their proportionate share of the expected losses or receive the expected returns of the entity.

In addition, as specified in VIE accounting guidance (FASB ASC 810-10-25-38), a VIE must be consolidated by the Company if it is deemed to be the primary beneficiary of the VIE, which is the party involved with the VIE that will absorb a majority of the expected losses, receive a majority of the expected residual returns, or both. At this time, the Company has no VIEs that are consolidated. The Company does have an interest in one VIE, Old Point Mortgage, LLC, which is not consolidated because the Company has determined that it is not the primary beneficiary.

USE OF ESTIMATES
In preparing Consolidated Financial Statements in conformity with U.S. GAAP, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated balance sheet and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, other-than-temporary impairment of securities, the valuation allowance on other real estate owned and the determination of defined benefit obligations.

SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK
Most of the Company's activities are with customers located within the Hampton Roads region. The types of securities that the Company invests in are included in Note 3. The types of lending that the Company engages in are included in Note 4. The Company has significant concentrations in the following industries: construction, lessors of real estate, activities related to real estate, ambulatory health care and religious organizations. The Company does not have any significant concentrations to any one customer.

 At December 31, 2015 and 2014, there were $297.4 million and $296.6 million, or 52.32% and 55.34%, respectively, of total loans concentrated in commercial real estate. Commercial real estate for purposes of this note includes all construction loans, loans secured by multifamily residential properties, loans secured by farmland and loans secured by nonfarm, nonresidential properties.

CASH AND CASH EQUIVALENTS
For purposes of the consolidated statements of cash flows, cash and cash equivalents includes cash and balances due from banks and federal funds sold, all of which mature within 90 days.
- 50 -

INTEREST-BEARING DEPOSITS IN BANKS
Interest-bearing deposits in banks mature within one year and are carried at cost.

SECURITIES
Certain debt securities that management has the positive intent and ability to hold until maturity are classified as "held-to-maturity" and recorded at amortized cost. Securities not classified as held-to-maturity, including equity securities with readily determinable fair values, are classified as "available-for-sale" and recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income. Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

The Company evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. The Company employs a systematic methodology that considers available evidence in evaluating potential impairment of its investments. In the event that the cost of an investment exceeds its fair value, the Company evaluates, among other factors, the magnitude and duration of the decline in fair value; the expected cash flows of the securities; the financial health of and business outlook for the issuer; the performance of the underlying assets for interests in securitized assets; and the Company's intent and ability to hold the investment. Once a decline in fair value is determined to be other-than-temporary, an impairment charge is recorded in investment income and a new cost basis in the investment is established.

FEDERAL HOME LOAN BANK STOCK
The Company, as a member of the Federal Home Loan Bank of Atlanta (FHLB), is required to maintain an investment in the capital stock of the FHLB. Based on the redemption provisions of the FHLB, the stock has no quoted market value, is carried at cost and is listed as a restricted security. The Company reviews its holdings for impairment based on the ultimate recoverability of the cost basis in the FHLB stock.

LOANS
The Company extends loans to individual consumers and commercial customers for various purposes. Most of the Company's loans are secured by real estate, including real estate construction loans and real estate mortgage loans (i.e., residential 1-4 family mortgages, commercial real estate loans, second mortgages and equity lines of credit).  Other loans are secured by collateral that is not real estate, which may include inventory, accounts receivable, equipment or other personal property. A substantial portion of the loan portfolio is represented by real estate mortgage loans throughout Hampton Roads. The ability of the Company's debtors to honor their contracts is dependent in part upon the real estate and general economic conditions in this area.

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off generally are reported at their outstanding unpaid principal balances adjusted for unearned income, the allowance for loan losses and any unamortized deferred fees or costs on originated loans.

For loans amortized at cost, interest income is accrued based on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, as well as premiums and discounts, are deferred and amortized as a level yield adjustment over the respective term of the loan.

The accrual of interest on commercial loans (including construction loans and commercial loans secured and not secured by real estate) is generally discontinued at the time the loan is 90 days past due unless the credit is well-secured and in the process of collection. Consumer loans not secured by real estate and consumer real estate secured loans (i.e., residential 1-4 family mortgages, second mortgages and equity lines of credit) are generally placed on nonaccrual status when payments are 120 days past due. Past due status is based on the contractual terms of the loan, and loans are considered past due when a payment of principal and/or interest is due but not paid. Regular payments not received within the payment cycle are considered to be 30, 60, or 90 or more days past due accordingly. In all cases, loans are placed on nonaccrual status or charged off at an earlier date if collection of principal or interest is considered doubtful.

All interest accrued but not collected for loans that are placed on nonaccrual status or charged off is reversed against interest income. The interest on these loans is accounted for on the cash basis or cost recovery method, until qualifying for return to accrual. Loans are generally returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured, or when the borrower has resumed paying the full amount of the scheduled contractual interest and principal payments for at least six months.
- 51 -

ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.

The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

The allowance consists of allocated and general components. The allocated component relates to loans that are classified as impaired, such as a loan that is considered a TDR (discussed in detail below). These loans are excluded from pooled loss forecasts and a separate reserve is provided under the accounting guidance for loan impairment. All loans, including consumer loans, whose terms have been modified in a TDR are also individually analyzed for estimated impairment. Impairment is measured on a loan-by-loan basis for construction loans and commercial loans (i.e., commercial mortgage loans on real estate and commercial loans not secured by real estate) by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, or the fair value of the collateral if the loan is collateral dependent. For those loans that are classified as impaired, an allowance is established when the discounted value of expected future cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan.

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired.

The general component covers loans that are not classified as impaired. Loans collectively evaluated for impairment are pooled, with a historical loss rate, based on migration analysis, applied to each pool, segmented by risk grade or days past due, depending on the type of loan.  Based on credit risk assessments and management's analysis of qualitative factors, additional loss factors are applied to loan balances. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and consumer loans secured by real estate (i.e., residential 1-4 family mortgages, second mortgages and equity lines of credit) for impairment disclosures, unless such loans are the subject of a restructuring agreement due to financial difficulties of the borrower.

LOAN CHARGE-OFF POLICIES
Loans are generally fully charged off or partially charged down to the fair value of collateral securing the asset when:
·
Management determines the asset to be uncollectible;
·
Repayment is deemed to be protracted beyond reasonable time frames;
·
The asset has been classified as a loss by either the internal loan review process or external examiners;
·
The borrower has filed for bankruptcy protection and the loss becomes evident due to a lack of borrower assets; or
·
The loan is 120 days or more past due unless the loan is both well secured and in the process of collection.

TROUBLED DEBT RESTRUCTURINGS
In situations where, for economic or legal reasons related to a borrower's financial difficulties, management grants a concession for other than an insignificant period of time to the borrower that would not otherwise be considered, the related loan is classified as a TDR. Management strives to identify borrowers in financial difficulty before their loans reach nonaccrual status and works with them to grant appropriate concessions, if necessary, and modify their loans to more affordable terms. These modified terms could include reduction in the interest rate below current market rates for borrowers with similar risk profiles, payment extensions, forgiveness of principal, forbearance or other actions intended to maximize collection. In cases where borrowers are granted new terms that provide for a reduction of either interest or principal, management measures any impairment on the restructuring as noted above for impaired loans. The Company had $11.2 million and $12.3 million in loans classified as TDRs as of December 31, 2015 and 2014, respectively.
- 52 -

TRANSFERS OF FINANCIAL ASSETS
Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company (i.e., put presumptively beyond the reach of the transferor and its creditors, even in bankruptcy or other receivership); (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity or the ability to unilaterally cause the holder to return specific assets.

OTHER REAL ESTATE OWNED (OREO)
Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less cost to sell at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses from operations and changes in the valuation allowance (direct write-downs) are included in net expenses from foreclosed assets.

BANK-OWNED LIFE INSURANCE
The Company owns insurance on the lives of a certain group of key employees. The policies were purchased to help offset the increase in the costs of various benefit plans. The cash surrender value of these policies is included as an asset on the consolidated balance sheets, and the increase in cash surrender value is recorded as noninterest income on the consolidated statements of income. In the event of the death of an insured individual under these policies, the Company would receive a death benefit payment.  Any excess in the amount received over the recorded cash surrender value would be recorded as other income on the consolidated statements of income.

PREMISES AND EQUIPMENT
Land is carried at cost. Buildings and equipment are stated at cost, less accumulated depreciation and amortization computed on the straight-line method over the estimated useful lives of the assets. Buildings and equipment are depreciated over their estimated useful lives ranging from 3 to 39 years; leasehold improvements are amortized over the lives of the respective leases or the estimated useful life of the leasehold improvement, whichever is less. Software is amortized over its estimated useful life ranging from 3 to 5 years.

OFF-BALANCE SHEET CREDIT RELATED FINANCIAL INSTRUMENTS
In the ordinary course of business, the Company has entered into commitments to extend credit, including commitments under commercial letters of credit and lines of credit. Such financial instruments are recorded when they are funded.

PENSION PLAN
The Company has a non-contributory defined benefit pension plan, which was frozen by the Company in 2006. Benefits for participants will remain frozen in the plan until such time as further action occurs. No additional participants will be added to the plan.

The compensation cost of the pension plan is recognized on the projected unit credit method. The aggregate cost method is utilized for funding purposes.

STOCK COMPENSATION PLANS
Stock compensation accounting guidance (FASB ASC 718, "Compensation -- Stock Compensation") requires that the compensation cost related to share-based payment transactions be recognized in financial statements. That cost will be measured based on the grant date fair value of the equity or liability instruments issued. The stock compensation accounting guidance covers a wide range of share-based compensation arrangements including stock options, restricted share plans, performance-based awards, share appreciation rights and employee share purchase plans.

The stock compensation accounting guidance requires that compensation cost for all stock awards be calculated and recognized over the employees' service period, generally defined as the vesting period. For awards with graded-vesting, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award. A Black Scholes model is used to estimate the fair value of the stock options, while the market price of the Company's common stock at the date of grant is used for restricted stock awards.

INCOME TAXES
The Company accounts for income taxes in accordance with income tax accounting guidance (FASB ASC 740, "Income Taxes"). The Company adopted the accounting guidance related to accounting for uncertainty in income taxes, which sets out a consistent framework to determine the appropriate level of tax reserves to maintain for uncertain tax positions.
- 53 -
Income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. The Company determines deferred income taxes using the liability or balance sheet method. Under this method, the net deferred tax asset or liability is based on the tax effects of the difference between the book and tax basis of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur.

Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more-likely-than-not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term more-likely-than-not means a likelihood of more than 50 percent; the terms examined and upon examination also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances, and information available at the reporting date and is subject to management's judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more-likely-than-not that some portion or all of a deferred tax asset will not be realized.

The Company recognizes interest and penalties on income taxes as a component of income tax expense.

No uncertain tax positions were recorded in 2015 or 2014.

EARNINGS PER COMMON SHARE
Basic earnings per share represents income available to common stockholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflects additional potential common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Company relate solely to outstanding stock options and are determined using the treasury stock method.

TRUST ASSETS AND INCOME
Securities and other property held by Trust in a fiduciary or agency capacity are not assets of the Company and are not included in the accompanying Consolidated Financial Statements.

ADVERTISING EXPENSES
Advertising expenses are expensed as incurred. Advertising expense for the years ended 2015 and 2014 was $217 thousand and $265 thousand, respectively.

COMPREHENSIVE INCOME
Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes unrealized gains and losses on securities available-for-sale, unrealized losses on securities transferred from available-for-sale to held-to-maturity, and unrealized losses related to changes in the funded status of the pension plan which are also recognized as separate components of equity.

FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in Note 16. Fair value estimates involve uncertainties and matters of significant judgment. Changes in assumptions or in market conditions could significantly affect the estimates.

RECENT ACCOUNTING PRONOUNCEMENTS
In June 2014, the FASB issued ASU No. 2014-12, "Compensation – Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period". The new guidance applies to reporting entities that grant employees share-based payments in which the terms of the award allow a performance target to be achieved after the requisite service period. The amendments in the ASU require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition.  Existing guidance in "Compensation – Stock Compensation (Topic 718)", should be applied to account for these types of awards. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. Early adoption is permitted and reporting entities may choose to apply the amendments in the ASU either on a prospective or retrospective basis.  The Company does not expect the adoption of ASU 2014-12 to have a material impact on its consolidated financial statements.
- 54 -
In August 2014, the FASB issued ASU No. 2014-15, "Presentation of Financial Statements – Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity's Ability to Continue as a Going Concern".  This update is intended to provide guidance about management's responsibility to evaluate whether there is substantial doubt about an entity's ability to continue as a going concern and to provide related footnote disclosures.  Management is required under the new guidance to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity's ability to continue as a going concern within one year after the date the financial statements are issued when preparing financial statements for each interim and annual reporting period.  If conditions or events are identified, the ASU specifies the process that must be followed by management and also clarifies the timing and content of going concern footnote disclosures in order to reduce diversity in practice.  The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2016. Early adoption is permitted.  The Company does not expect the adoption of ASU 2014-15 to have a material impact on its consolidated financial statements.

In November 2014, the FASB issued ASU No. 2014-16, "Derivatives and Hedging (Topic 815): Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity". The amendments in this ASU do not change the current criteria in U.S. GAAP for determining when separation of certain embedded derivative features in a hybrid financial instrument is required. The amendments clarify how current U.S. GAAP should be interpreted in evaluating the economic characteristics and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. Specifically, the amendments clarify that an entity should consider all relevant terms and features, including the embedded derivative feature being evaluated for bifurcation, in evaluating the nature of the host contract. Furthermore, the amendments clarify that no single term or feature would necessarily determine the economic characteristics and risks of the host contract. Rather, the nature of the host contract depends upon the economic characteristics and risks of the entire hybrid financial instrument. The amendments in this ASU also clarify that, in evaluating the nature of a host contract, an entity should assess the substance of the relevant terms and features (i.e., the relative strength of the debt-like or equity-like terms and features given the facts and circumstances) when considering how to weight those terms and features. The amendments in this ASU are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption, including adoption in an interim period, is permitted. The Company does not expect the adoption of ASU 2014-16 to have a material impact on its consolidated financial statements.

In January 2015, the FASB issued ASU No. 2015-01, "Income Statement—Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items". The amendments in this ASU eliminate from U.S. GAAP the concept of extraordinary items. Subtopic 225-20, Income Statement - Extraordinary and Unusual Items, required that an entity separately classify, present, and disclose extraordinary events and transactions. Presently, an event or transaction is presumed to be an ordinary and usual activity of the reporting entity unless evidence clearly supports its classification as an extraordinary item. If an event or transaction meets the criteria for extraordinary classification, an entity is required to segregate the extraordinary item from the results of ordinary operations and show the item separately in the income statement, net of tax, after income from continuing operations. The entity also is required to disclose applicable income taxes and either present or disclose earnings-per-share data applicable to the extraordinary item. The amendments in this ASU are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted provided that the guidance is applied from the beginning of the fiscal year of adoption. The Company does not expect the adoption of ASU 2015-01 to have a material impact on its consolidated financial statements.

In February 2015, the FASB issued ASU No. 2015-02, "Consolidation (Topic 810): Amendments to the Consolidation Analysis".  The amendments in this ASU are intended to improve targeted areas of consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (collateralized debt obligations, collateralized loan obligations, and mortgage-backed security transactions).  In addition to reducing the number of consolidation models from four to two, the new standard simplifies the FASB ASC and improves current GAAP by placing more emphasis on risk of loss when determining a controlling financial interest, reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (VIE), and changing consolidation conclusions for public and private companies in several industries that typically make use of limited partnerships or VIEs.  The amendments in this ASU are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015.  Early adoption is permitted, including adoption in an interim period. ASU 2015-02 may be applied retrospectively in previously issued financial statements for one or more years with a cumulative-effect adjustment to retained earnings as of the beginning of the first year restated.  The Company does not expect the adoption of ASU 2015-02 to have a material impact on its consolidated financial statements.
- 55 -
In April 2015, the FASB issued ASU No. 2015-03, "Interest – Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs".  The amendments in this ASU are intended to simplify the presentation of debt issuance costs.  These amendments require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this ASU.  The amendments in this ASU are effective for public business entities for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Early adoption is permitted for financial statements that have not been previously issued.  The Company does not expect the adoption of ASU 2015-03 to have a material impact on its consolidated financial statements.

In April 2015, the FASB issued ASU No. 2015-05, "Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer's Accounting for Fees Paid in a Cloud Computing Arrangement".  The amendments in this ASU provide guidance to customers about whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The amendments do not change the accounting for a customer's accounting for service contracts. As a result of the amendments, all software licenses within the scope of Subtopic 350-40 will be accounted for consistent with other licenses of intangible assets.  The amendments in this ASU are effective for public business entities for annual periods, including interim periods within those annual periods, beginning after December 15, 2015.  Early adoption is permitted. An entity can elect to adopt the amendments either: (1) prospectively to all arrangements entered into or materially modified after the effective date; or (2) retrospectively.  The Company does not expect the adoption of ASU 2015-03 to have a material impact on its consolidated financial statements.

In May 2015, the FASB issued ASU No. 2015-08, "Business Combinations (Topic 805): Pushdown Accounting – Amendments to SEC Paragraphs Pursuant to Staff Accounting Bulletin No. 115".  The amendments in ASU 2015-08 amend various SEC paragraphs pursuant to the issuance of Staff Accounting Bulletin No. 115, Topic 5: Miscellaneous Accounting, regarding various pushdown accounting issues, and did not have a material impact on our consolidated financial statements.

In July 2015, the FASB issued ASU No. 2015-12, "Plan Accounting: Defined Benefit Pension Plans (Topic 960), Defined Contribution Pension Plans (Topic 962), and Health and Welfare Benefit Plans (Topic 965) – 1. Fully Benefit-Responsive Investment Contracts, 2. Plan Investment Disclosures, and 3. Measurement Date Practical Expedient". The amendments within this ASU are in 3 parts. Among other things, Part 1 amendments designate contract value as the only required measure for fully benefit-responsive investment contracts; Part II amendments eliminate the requirement that plans disclose: (a) individual investments that represent 5 percent or more of net assets available for benefits; and (b) the net appreciation or depreciation for investments by general type requirements for both participant-directed investments and nonparticipant-directed investments. Part III amendments provide a practical expedient to permit plans to measure investments and investment-related accounts (e.g., a liability for a pending trade with a broker) as of a month-end date that is closest to the plan's fiscal year-end, when the fiscal period does not coincide with month-end. The amendments in Parts I and II of this ASU are effective on a retrospective basis and Part III is effective on a prospective basis, for fiscal years beginning after December 15, 2015. Early adoption is permitted. The Company does not expect the adoption of ASU 2015-12 to have a material impact on its consolidated financial statements.

In August 2015, the FASB issued ASU No. 2015-14, "Revenue from Contracts with Customers (Topic 606): Deferral of Effective Date". The amendments in ASU 2015-14 defer the effective date of ASU 2014-09 for all entities by one year. Public business entities, certain not-for-profit entities, and certain employee benefit plans should apply the guidance in ASU 2014-09 to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. All other entities should apply the guidance in ASU 2014-09 to annual reporting periods beginning after December 15, 2018, and interim reporting periods within annual reporting periods beginning after December 15, 2019. All other entities may apply the guidance in ASU 2014-09 earlier as of an annual reporting period beginning after December 15, 2016, including interim reporting periods within that reporting period. All other entities also may apply the guidance in ASU 2014-09 earlier as of an annual reporting period beginning after December 15, 2016, and interim reporting periods within annual reporting periods beginning one year after the annual reporting period in which the entity first applies the guidance in ASU 2014-09. The Company does not expect the adoption of ASU 2015-14 (or ASU 2014-09) to have a material impact on its consolidated financial statements.
- 56 -
In August 2015, the FASB issued ASU 2015-15, "Interest – Imputation of Interest (Subtopic 835-30) – Presentation and Subsequent Measurement of Debt Issuance Costs Associated with Line-of-Credit Arrangements (Amendments to SEC Paragraphs Pursuant to Staff Announcement at June 18, 2015 EITF Meeting)". On April 7, 2015, the FASB issued ASU 2015-03, "Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs", which requires entities to present debt issuance costs related to a recognized debt liability as a direct deduction from the carrying amount of that debt liability. The guidance in ASU 2015-03 (see paragraph 835-30-45-1A) does not address presentation or subsequent measurement of debt issuance costs related to line-of-credit arrangements. Given the absence of authoritative guidance within ASU 2015-03 for debt issuance costs related to line-of-credit arrangements, the SEC staff stated that they would not object to an entity deferring and presenting debt issuance costs as an asset and subsequently amortizing the deferred debt issuance costs ratably over the term of the line-of-credit arrangement, regardless of whether there are any outstanding borrowings on the line-of-credit arrangement. ASU 2015-15 adds these SEC comments to the "S" section of the Codification. The adoption of ASU 2015-15 did not have a material impact on our consolidated financial statements.

In September 2015, the FASB issued ASU 2015-16, "Business Combinations (Topic 805): Simplifying the Accounting for Measurement-Period Adjustments". The amendments in ASU 2015-16 require that an acquirer recognize adjustments to estimated amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. The amendments require that the acquirer record, in the same period's financial statements, the effect on earnings of changes in depreciation, amortization, or other income effects, if any, as a result of the change to the estimated amounts, calculated as if the accounting had been completed at the acquisition date. The amendments also require an entity to present separately on the face of the income statement or disclose in the notes the portion of the amount recorded in current-period earnings by line item that would have been recorded in previous reporting periods if the adjustment to the estimated amounts had been recognized as of the acquisition date. The amendments in this ASU are effective for public business entities for fiscal years beginning after December 15, 2015, including interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2016, and interim periods within fiscal years beginning after December 15, 2017. The amendments should be applied prospectively to adjustments to provisional amounts that occur after the effective date with earlier application permitted for financial statements that have not been issued. The Company does not expect the adoption of ASU 2015-16 to have a material impact on its consolidated financial statements.

In January 2016, the FASB issued ASU 2016-01, "Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities".  The amendments in ASU 2016-01, among other things: 1) Requires equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. 2) Requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes. 3) Requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables). 4) Eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost. The amendments in this ASU are effective for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company is currently assessing the impact that ASU 2016-01 will have on its consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)." Among other things, in the amendments in ASU 2016-02, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date: (1) A lease liability, which is a lessee's obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) A right-of-use asset, which is an asset that represents the lessee's right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. Certain targeted improvements were made to align, where necessary, lessor accounting with the lessee accounting model and Topic 606, Revenue from Contracts with Customers. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted upon issuance. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. The Company is currently assessing the impact that ASU 2016-02 will have on its consolidated financial statements.
- 57 -

NOTE 2, Restrictions on Cash and Amounts Due from Banks

The Company is required to maintain average balances on hand or with the Federal Reserve Bank. At December 31, 2015 and 2014, the Company had no balance requirements on any of its accounts. The Company had approximately $25.2 million and $17.2 million in deposits in financial institutions in excess of amounts insured by the FDIC at December 31, 2015 and December 31, 2014, respectively.

NOTE 3, Securities Portfolio

The amortized cost and fair value, with gross unrealized gains and losses, of securities held-to-maturity were:

December 31, 2014
  
Carrying Value
    
Unamortized Unrealized Transfer Losses
    
Amortized Cost
    
Gross Unrealized Gains
    
Gross Unrealized Losses
    
Fair Value
  
 
  
(in thousands)
  
 
                        
Obligations of  U.S. Government agencies
  
$
100
    
$
0
    
$
100
    
$
0
    
$ 
(3
)
  
$
97
  
Obligations of state and political subdivisions
    
29,529
      
0
      
29,529
      
449
      
(18
)
    
29,960
  
Mortgage-backed securities
    
60,460
      
5,131
      
65,591
      
0
      
(1,242
)
    
64,349
  
Total
  
$
90,089
    
$
5,131
    
$
95,220
    
$
449
    
$ 
(1,263
)
  
$
94,406
  

The Company had no held-to-maturity-securities at December 31, 2015 due to a decision in February of 2016 to transfer the portfolio to available-for-sale to allow for greater liquidity and flexibility in the future. Although the decision was made after December 31, 2015, the transfer was effective dated back to year-end as the primary difference between held-to-maturity and available-for-sale is management's intent to hold the securities to maturity. The transfer in 2016 demonstrated a change in management's intent as of year-end.

The mortgage-backed securities classified as held-to-maturity at December 31, 2014 were originally classified as available-for-sale when the Company purchased them. In 2013, due to fluctuations in interest rates following statements from the Federal Reserve that it was likely to begin slowing the pace of bond purchases under its quantitative easing program, the market value of the Company's available-for-sale securities portfolio declined. As part of a plan to minimize the risk to capital caused by these changes in market value, the Company transferred a portion of its mortgage-backed securities portfolio from available-for-sale to held-to-maturity. These mortgage-backed securities had an unrealized loss of $6.2 million at the date of transfer, which the Company has been amortizing since the transfer. At December 31, 2014, the unamortized balance remaining was $5.1 million, as seen in the table above. When these mortgage-backed securities were transferred back to available-for-sale, this unamortized loss was eliminated and the securities marked to their current fair market value, as required by accounting rules for available-for-sale securities.

Although the book value of the mortgage-backed securities transferred back to available-for-sale remains below their market value, resulting in an unrealized loss, this unrealized loss is smaller than the unrealized loss at the date they were originally transferred from available-for-sale to held-to-maturity in 2013. In addition, classifying the securities as available-for-sale gives management the flexibility to sell the securities as needed to fund loan growth or manage the interest-rate risk in the portfolio.

The Company's entire portfolio of held-to-maturity securities was transferred to available-for-sale. At December 31, 2015 when the securities were transferred, their carrying value was $81.4 million and the remaining unamortized loss on the mortgage-backed securities was $4.2 million. This unamortized loss was eliminated with the transfer. Its associated deferred tax asset and other comprehensive income accounts, which were $1.4 million and $2.8 million respectively, were also eliminated. As a result, equity and total assets increased by $2.8 million, while the carrying value of the securities portfolio increased $4.2 million. When the securities previously classified as held-to-maturity were marked to market, the Company recorded an unrealized loss of $781 thousand, which reduced other comprehensive income by $516 thousand.

The net effect of this transfer was to increase the carrying value of the securities portfolio by $3.4 million, reduce other assets by $1.2 million, and increase other comprehensive income by $2.3 million.

As a result of the decision to transfer securities from held-to-maturity to available-for-sale, management will not be able to classify any securities as held-to-maturity until 2018.
- 58 -

The amortized cost and fair value, with gross unrealized gains and losses, of securities available-for-sale were:

 
  
Amortized
Cost
    
Gross
Unrealized
Gains
    
Gross
Unrealized
Losses
    
Fair
Value
  
 
  
(in thousands)
  
December 31, 2015
  
   
   
   
 
U.S. Treasury securities
  
$
0
    
$
0
    
$
0
    
$
0
  
Obligations of U.S. Government agencies
    
24,353
      
1
      
(114
)
    
24,240
  
Obligations of state and political subdivisions
    
77,223
      
1,323
      
(113
)
    
78,433
  
Mortgage-backed securities
    
109,360
      
0
      
(1,964
)
    
107,396
  
Money market investments
    
631
      
0
      
0
      
631
  
Corporate bonds and other securities
    
3,397
      
4
      
(8
)
    
3,393
  
Other marketable equity securities
    
100
      
0
      
(1
)
    
99
  
Total
  
$
215,064
    
$
1,328
    
$
(2,200
)
  
$
214,192
  
 
                                
December 31, 2014
                                
U.S. Treasury securities
  
$
20,000
    
$
0
    
$
0
    
$
20,000
  
Obligations of  U.S. Government agencies
    
4,768
      
2
      
(152
)
    
4,618
  
Obligations of state and political subdivisions
    
49,783
      
698
      
(235
)
    
50,246
  
Mortgage-backed securities
    
61,296
      
34
      
(442
)
    
60,888
  
Money market investments
    
719
      
0
      
0
      
719
  
Corporate bonds and other securities
    
2,798
      
3
      
(11
)
    
2,790
  
Other marketable equity securities
    
100
      
0
      
(15
)
    
85
  
Total
  
$
139,464
    
$
737
    
$
(855
)
  
$
139,346
  

Securities with a fair value of $119.8 million and $134.5 million at December 31, 2015 and 2014, respectively, were pledged to secure public deposits, securities sold under agreements to repurchase, FHLB advances and for other purposes required or permitted by law.

At December 31, 2015, the Company held no securities of any single issuer (excluding U.S. Government agencies) with a book value that exceeded 10 percent of stockholders' equity.

The amortized cost and fair value of securities by contractual maturity are shown below.

 
December 31, 2015
  
 
Available-for-Sale
  
 
Amortized
Cost
  
Fair
Value
  
 
(in thousands)
  
 
 
 
Due in one year or less
  
$
20,500
    
$
20,501
  
Due after one year through five years
    
17,853
      
18,074
  
Due after five years through ten years
    
23,505
      
23,936
  
Due after ten years
    
152,475
      
150,951
  
Total debt securities
    
214,333
      
213,462
  
Other securities without stated maturities
    
731
      
730
  
 
                
Total securities
  
$
215,064
    
$
214,192
  
- 59 -

The following table provides information about securities sold in the years ended December 31:

 
2015
  
2014
  
 
(in thousands)
  
 
 
 
Proceeds from sales
  
$
23,005
    
$
38,653
  
 
                
Gross realized gains
  
$
76
    
$
276
  
 
                
Gross realized losses
  
$
0
    
$
274
  

OTHER-THAN-TEMPORARILY IMPAIRED SECURITIES
Management assesses whether the Company intends to sell or it is more-likely-than-not that the Company will be required to sell a security before recovery of its amortized cost basis less any current-period credit losses. For debt securities that are considered other-than-temporarily impaired and that the Company does not intend to sell and will not be required to sell prior to recovery of the amortized cost basis, the Company separates the amount of the impairment into the amount that is credit related (credit loss component) and the amount due to all other factors. The credit loss component is recognized in earnings and is the difference between the security's amortized cost basis and the present value of its expected future cash flows. The remaining difference between the security's fair value and the present value of expected future cash flows is due to factors that are not credit related and is recognized in other comprehensive income.

The present value of expected future cash flows is determined using the best-estimate cash flows discounted at the effective interest rate implicit to the security at the date of purchase or the current yield to accrete an asset-backed or floating rate security. The methodology and assumptions for establishing the best-estimate cash flows vary depending on the type of security. The asset-backed securities cash flow estimates are based on bond specific facts and circumstances that may include collateral characteristics, expectations of delinquency and default rates, loss severity and prepayment speeds, and structural support, including subordination and guarantees.

The Company has a process in place to identify debt securities that could potentially have a credit or interest-rate related impairment that is other than temporary. This process involves monitoring late payments, pricing levels, downgrades by rating agencies, key financial ratios, financial statements, revenue forecasts, and cash flow projections as indicators of credit issues. On a quarterly basis, management reviews all securities to determine whether an other-than-temporary decline in value exists and whether losses should be recognized. Management considers relevant facts and circumstances in evaluating whether a credit or interest rate-related impairment of a security is other-than-temporary. Relevant facts and circumstances considered include: (a) the extent and length of time the fair value has been below cost; (b) the reasons for the decline in value; (c) the financial position and access to capital of the issuer, including the current and future impact of any specific events and (d) for fixed maturity securities, the Company's intent to sell a security or whether it is more-likely-than-not the Company will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity and for equity securities, the Company's ability and intent to hold the security for a period of time that allows for the recovery in value.

The Company has not recorded impairment charges on securities for the years ended December 31, 2015 and 2014.
- 60 -

The following table shows the number of securities with unrealized losses, the gross unrealized losses and fair value of the Company's investments with unrealized losses that are deemed to be temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, as of the dates indicated:

 
December 31, 2015
  
 
Less Than Twelve Months
  
More Than Twelve Months
  
Total
  
 
 
Gross
Unrealized
Losses
  
Fair
Value
  
Gross
Unrealized
Losses
  
Fair
Value
  
Gross
Unrealized
Losses
  
Fair
Value
  
Number
of
Securities
  
 
(dollars in thousands)
  
Securities Available-for-Sale
 
 
 
 
 
 
 
Obligations of U.S. Government agencies
  
$
0
    
$
0
    
$
114
    
$
3,940
    
$
114
    
$
3,940
      
2
  
Obligations of state and political subdivisions
    
42
      
4,177
      
71
      
3,545
      
113
      
7,722
      
13
  
Mortgage-backed securities
    
848
      
62,698
      
1,116
      
44,698
      
1,964
      
107,396
      
13
  
Corporate bonds and other securities
    
6
      
2,091
      
2
      
198
      
8
      
2,289
      
16
  
Other marketable equity securities
    
1
      
99
      
0
      
0
      
1
      
99
      
1
  
Total securities available-for-sale
  
$
897
    
$
69,065
    
$
1,303
    
$
52,381
    
$
2,200
    
$
121,446
      
45
  

   
December 31, 2014
  
   
Less Than Twelve Months
    
More Than Twelve Months
    
Total
    
 
   
Gross
Unrealized
Losses
    
Fair
Value
    
Gross
Unrealized
Losses
    
Fair
Value
    
Gross
Unrealized
Losses
    
Fair
Value
    
Number
of
Securities
  
   
(dollars in thousands)
  
Securities Available-for-Sale
  
   
   
   
   
   
   
 
Obligations of U. S. Government agencies
  
$
0
    
$
0
    
$
152
    
$
4,316
    
$
152
    
$
4,316
      
1
  
Obligations of state and political subdivisions
    
2
      
604
      
233
      
11,951
      
235
      
12,555
      
24
  
Mortgage-backed securities
    
62
      
16,589
      
380
      
32,104
      
442
      
48,693
      
6
  
Corporate bonds and other securities
    
3
      
1,096
      
8
      
792
      
11
      
1,888
      
14
  
Other marketable equity securities
    
15
      
85
      
0
      
0
      
15
      
85
      
1
  
Total securities available-for-sale
  
$
82
    
$
18,374
    
$
773
    
$
49,163
    
$
855
    
$
67,537
      
46
  
                                                         
Securities Held-to-Maturity
                                                        
Obligations of U. S. Government agencies
  
$
0
    
$
0
    
$
3
    
$
97
    
$
3
    
$
97
      
1
  
Obligations of state and political subdivisions
    
2
      
1,261
      
16
      
1,203
      
18
      
2,464
      
6
  
Mortgage-backed securities
    
0
      
0
      
1,242
      
64,349
      
1,242
      
64,349
      
6
  
Total securities held-to-maturity
  
$
2
    
$
1,261
    
$
1,261
    
$
65,649
    
$
1,263
    
$
66,910
      
13
  
                                                         
Total
  
$
84
    
$
19,635
    
$
2,034
    
$
114,812
    
$
2,118
    
$
134,447
      
59
  

Certain investments within the Company's portfolio had unrealized losses at December 31, 2015 and December 31, 2014, as shown in the tables above. The unrealized losses were caused by increases in market interest rates. The Company purchases only highly-rated securities, including U.S. government agencies and mortgage-backed securities guaranteed by government-sponsored entities. The municipal securities portfolio is reviewed regularly to ensure that ratings of individual securities have not deteriorated below the threshold established by the Company's policy.

Because the Company does not intend to sell the investments and management believes it is unlikely that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider the investments to be other-than-temporarily impaired at December 31, 2015 or December 31, 2014.
- 61 -
Restricted Securities
The restricted security category is comprised of FHLB and Federal Reserve Bank stock. These stocks are classified as restricted securities because their ownership is restricted to certain types of entities and the securities lack a market. Therefore, FHLB and Federal Reserve Bank stock is carried at cost and evaluated for impairment. When evaluating these stocks for impairment, their value is determined based on the ultimate recoverability of the par value rather than by recognizing temporary declines in value. Restricted stock is viewed as a long-term investment and management believes that the Company has the ability and the intent to hold this stock until its value is recovered.

NOTE 4, Loans and the Allowance for Loan Losses

The following is a summary of the balances in each class of the Company's loan portfolio as of the dates indicated:

 
  
December 31,
2015
    
December 31,
2014
  
 
  
(in thousands)
  
Mortgage loans on real estate:
  
   
 
Residential 1-4 family
  
$
96,997
    
$
91,318
  
Commercial
    
277,758
      
287,531
  
Construction
    
19,685
      
9,082
  
Second mortgages
    
15,148
      
13,403
  
Equity lines of credit
    
47,256
      
43,662
  
Total mortgage loans on real estate
    
456,844
      
444,996
  
Commercial loans
    
43,197
      
37,698
  
Consumer loans
    
50,427
      
30,493
  
Other
    
18,007
      
22,807
  
Total loans
    
568,475
      
535,994
  
Less: Allowance for loan losses
    
(7,738
)
    
(7,075
)
Loans, net of allowance and deferred fees (1)
  
$
560,737
    
$
528,919
  
                 
(1) Deferred loan fees totaled $407 thousand and $473 thousand at December 31, 2015 and December 31, 2014, respectively.
  

Overdrawn deposit accounts are reclassified as loans and included in the Other category in the table above. Overdrawn deposit accounts totaled $648 thousand and $541 thousand at December 31, 2015 and December 31, 2014, respectively.

CREDIT QUALITY INFORMATION
The Company uses internally-assigned risk grades to estimate the capability of borrowers to repay the contractual obligations of their loan agreements as scheduled or at all. The Company's internal risk grade system is based on experiences with similarly graded loans. Credit risk grades are updated at least quarterly as additional information becomes available, at which time management analyzes the resulting scores to track loan performance.

The Company's internally assigned risk grades are as follows:
·
Pass: Loans are of acceptable risk.
·
Other Assets Especially Mentioned (OAEM): Loans have potential weaknesses that deserve management's close attention.
·
Substandard: Loans reflect significant deficiencies due to several adverse trends of a financial, economic or managerial nature.
·
Doubtful: Loans have all the weaknesses inherent in a substandard loan with added characteristics that make collection or liquidation in full based on currently existing facts, conditions and values highly questionable or improbable.
·
Loss: Loans have been charged off because they are considered uncollectible and of such little value that their continuance as bankable assets is not warranted.
- 62 -

The following table presents credit quality exposures by internally assigned risk ratings as of the dates indicated:

Credit Quality Information
 As of December 31, 2015
(in thousands)
   
Pass
    
OAEM
    
Substandard
    
Total
  
Mortgage loans on real estate:
                
Residential 1-4 family
  
$
94,576
    
$
0
    
$
2,421
    
$
96,997
  
Commercial
    
261,749
      
7,394
      
8,615
      
277,758
  
Construction
    
18,931
      
0
      
754
      
19,685
  
Second mortgages
    
14,835
      
0
      
313
      
15,148
  
Equity lines of credit
    
47,161
      
0
      
95
      
47,256
  
Total mortgage loans on real estate
    
437,252
      
7,394
      
12,198
      
456,844
  
Commercial loans
    
40,268
      
467
      
2,462
      
43,197
  
Consumer loans
    
50,327
      
0
      
100
      
50,427
  
Other
    
18,007
      
0
      
0
      
18,007
  
Total
  
$
545,854
    
$
7,861
    
$
14,760
    
$
568,475
  

Credit Quality Information
 As of December 31, 2014
(in thousands)
   
Pass
    
OAEM
    
Substandard
    
Total
  
Mortgage loans on real estate:
                
Residential 1-4 family
  
$
89,480
    
$
0
    
$
1,838
    
$
91,318
  
Commercial
    
272,654
      
10,602
      
4,275
      
287,531
  
Construction
    
8,026
      
0
      
1,056
      
9,082
  
Second mortgages
    
13,306
      
0
      
97
      
13,403
  
Equity lines of credit
    
42,976
      
0
      
686
      
43,662
  
Total mortgage loans on real estate
    
426,442
      
10,602
      
7,952
      
444,996
  
Commercial loans
    
36,007
      
1,669
      
22
      
37,698
  
Consumer loans
    
30,463
      
0
      
30
      
30,493
  
Other
    
22,807
      
0
      
0
      
22,807
  
Total
  
$
515,719
    
$
12,271
    
$
8,004
    
$
535,994
  
- 63 -

As of December 31, 2015 and 2014 the Company did not have any loans internally classified as Loss or Doubtful.

AGE ANALYSIS OF PAST DUE LOANS BY CLASS
All classes of loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Interest and fees continue to accrue on past due loans until the date the loan is placed in nonaccrual status, if applicable. The following table includes an aging analysis of the recorded investment in past due loans as of the dates indicated. Also included in the table below are loans that are 90 days or more past due as to interest and principal and still accruing interest, because they are well-secured and in the process of collection. Loans in nonaccrual status that are also past due are included in the aging categories in the table below.
 
Age Analysis of Past Due Loans as of December 31, 2015
 
  
30 - 59
Days Past
Due
    
60 - 89
Days Past
Due
    
90 or More
Days Past
Due
    
Total Past
Due
    
Total
Current
Loans (1)
    
Total
Loans
    
Recorded
Investment
> 90 Days
Past Due
and
Accruing
  
 
  
(in thousands)
  
Mortgage loans on real estate:
  
   
   
   
   
   
   
 
Residential 1-4 family
  
$
309
    
$
1,042
    
$
275
    
$
1,626
    
$
95,371
    
$
96,997
    
$
0
  
Commercial
    
1,266
      
31
      
23
      
1,320
      
276,438
      
277,758
      
23
  
Construction
    
161
      
0
      
0
      
161
      
19,524
      
19,685
      
0
  
Second mortgages
    
21
      
39
      
165
      
225
      
14,923
      
15,148
      
0
  
Equity lines of credit
    
170
      
0
      
0
      
170
      
47,086
      
47,256
      
0
  
Total mortgage loans on real estate
    
1,927
      
1,112
      
463
      
3,502
      
453,342
      
456,844
      
23
  
Commercial loans
    
500
      
88
      
232
      
820
      
42,377
      
43,197
      
164
  
Consumer loans
    
1,673
      
1,350
      
3,163
      
6,186
      
44,241
      
50,427
      
3,163
  
Other
    
64
      
3
      
6
      
73
      
17,934
      
18,007
      
6
  
Total
  
$
4,164
    
$
2,553
    
$
3,864
    
$
10,581
    
$
557,894
    
$
568,475
    
$
3,356
  
 
(1) For purposes of this table, Total Current Loans includes loans that are 1 - 29 days past due.
  

In the table above, the consumer category includes student loans with principal amounts that are 97 - 98% guaranteed by the government.  The past due portion of these guaranteed loans totaled $5.7 million at December 31, 2015.

Age Analysis of Past Due Loans as of December 31, 2014
 
  
30 - 59
Days Past
Due
    
60 - 89
Days Past
Due
    
90 or More
Days Past
Due
    
Total Past
Due
    
Total
Current
Loans (1)
    
Total
Loans
    
Recorded
Investment
> 90 Days
Past Due
and
Accruing
  
 
  
(in thousands)
  
Mortgage loans on real estate:
  
   
   
   
   
   
   
 
Residential 1-4 family
  
$
1,043
    
$
55
    
$
792
    
$
1,890
    
$
89,428
    
$
91,318
    
$
0
  
Commercial
    
31
      
0
      
432
      
463
      
287,068
      
287,531
      
0
  
Construction
    
0
      
0
      
499
      
499
      
8,583
      
9,082
      
0
  
Second mortgages
    
81
      
32
      
168
      
281
      
13,122
      
13,403
      
107
  
Equity lines of credit
    
49
      
0
      
0
      
49
      
43,613
      
43,662
      
0
  
Total mortgage loans on real estate
    
1,204
      
87
      
1,891
      
3,182
      
441,814
      
444,996
      
107
  
Commercial loans
    
195
      
0
      
10
      
205
      
37,493
      
37,698
      
10
  
Consumer loans
    
1,099
      
323
      
1,019
      
2,441
      
28,052
      
30,493
      
1,019
  
Other
    
51
      
3
      
5
      
59
      
22,748
      
22,807
      
5
  
Total
  
$
2,549
    
$
413
    
$
2,925
    
$
5,887
    
$
530,107
    
$
535,994
    
$
1,141
  
 
(1) For purposes of this table, Total Current Loans includes loans that are 1 - 29 days past due.
  

In the table above, the consumer category includes student loans with principal amounts that are 97 - 98% guaranteed by the government.  The past due portion of these guaranteed loans totaled $2.4 million at December 31, 2014.
- 64 -

NONACCRUAL LOANS
The Company generally places commercial loans (including construction loans and commercial loans secured and not secured by real estate) in nonaccrual status when the full and timely collection of interest or principal becomes uncertain, part of the principal balance has been charged off and no restructuring has occurred or the loan reaches 90 days past due, unless the credit is well-secured and in the process of collection.

Under regulatory rules, consumer loans, which are loans to individuals for household, family and other personal expenditures, and consumer loans secured by real estate (including residential 1 - 4 family mortgages, second mortgages, and equity lines of credit) are not required to be placed in nonaccrual status. Although consumer loans and consumer loans secured by real estate are not required to be placed in nonaccrual status, the Company may elect to place these loans in nonaccrual status, if necessary to avoid a material overstatement of interest income. Generally, consumer loans secured by real estate are placed in nonaccrual status only when payments are 120 days past due.

Generally, consumer loans not secured by real estate are placed in nonaccrual status only when part of the principal has been charged off. If a charge-off has not occurred sooner for other reasons, a consumer loan not secured by real estate will generally be placed in nonaccrual status when payments are 120 days past due. These loans are charged off or written down to the net realizable value of the collateral when deemed uncollectible, due to bankruptcy or other factors as discussed in the Loan Charge-Off Policies section of  Note 1, or when they are past due based on loan product, industry practice, terms and other factors.

When management places a loan in nonaccrual status, the accrued unpaid interest receivable is reversed against interest income and the loan is accounted for by the cash basis or cost recovery method, until it qualifies for return to accrual status or is charged off. Generally, loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured, or when the borrower has resumed paying the full amount of the scheduled contractual interest and principal payments for at least six months.

The following table presents loans in nonaccrual status by class of loan as of the dates indicated:
 
Nonaccrual Loans by Class
 
  
December 31, 2015
    
December 31, 2014
  
 
  
(in thousands)
  
Mortgage loans on real estate:
  
   
 
Residential 1-4 family
  
$
1,457
    
$
924
  
Commercial
    
2,623
      
4,086
  
Construction
    
0
      
499
  
Second mortgages
    
226
      
61
  
Total mortgage loans on real estate
    
4,306
      
5,570
  
Commercial loans
    
276
      
0
  
Total
  
$
4,582
    
$
5,570
  


The following table presents the interest income that the Company would have earned under the original terms of its nonaccrual loans and the actual interest recorded by the Company on nonaccrual loans for the periods presented:

 
Years Ended December 31,
  
 
2015
    
2014
  
 
(in thousands)
  
Interest income that would have been recorded under original loan terms
  
$
196
    
$
301
  
Actual interest income recorded for the period
    
141
      
265
  
Reduction in interest income on nonaccrual loans
  
$
55
    
$
36
  

TROUBLED DEBT RESTRUCTURINGS
The Company's loan portfolio includes certain loans classified as TDRs, where economic concessions have been granted to borrowers who are experiencing financial difficulties. These concessions typically result from the Company's loss mitigation activities and could include reduction in the interest rate below current market rates for borrowers with similar risk profiles, payment extensions, forgiveness of principal, forbearance or other actions intended to maximize collection. The Company defines a TDR as nonperforming if the TDR is in nonaccrual status or is 90 days or more past due and still accruing interest at the report date.
- 65 -
When the Company modifies a loan, management evaluates any possible impairment as discussed further under Impaired Loans below.

The following table presents TDRs during the period indicated, by class of loan:

Troubled Debt Restructurings by Class
For the Year Ended December 31, 2015
(dollars in thousands)
   
Number of Modifications
    
Recorded Investment Prior to Modification
    
Recorded Investment After Modification
    
Current Investment on
December 31, 2015
  
Mortgage loans on real estate:
                
Residential 1-4 family
    
0
    
$
0
    
$
0
    
$
0
  
Commercial
    
5
      
2,094
      
2,594
      
2,400
  
Construction
    
1
      
435
      
435
      
0
  
Second mortgages
    
1
      
61
      
61
      
61
  
Total
    
7
    
$
2,590
    
$
3,090
    
$
2,461
  

Troubled Debt Restructurings by Class
For the Year Ended December 31, 2014
 (dollars in thousands)
   
Number of Modifications
    
Recorded Investment Prior to Modification
    
Recorded Investment After Modification
    
Current Investment on
December 31, 2014
  
Mortgage loans on real estate:
                
Residential 1-4 family
    
2
    
$
375
    
$
375
    
$
366
  
Commercial
    
0
      
0
      
0
      
0
  
Construction
    
1
      
103
      
103
      
102
  
Second mortgages
    
1
      
89
      
89
      
86
  
Total
    
4
    
$
567
    
$
567
    
$
554
  

All of the loans restructured in 2014 and five of the loans restructured in 2015 were given below-market rates for debt with similar risk characteristics. Two of the loans restructured in 2015 were given terms not otherwise available to borrowers with similar risk characteristics.

At December 31, 2015 and 2014, the Company had no outstanding commitments to disburse additional funds on any TDR. Also at December 31, 2015 and 2014, the Company had $53 thousand and $446 thousand, respectively, in loans secured by residential 1 - 4 family real estate that were in the process of foreclosure.

The following table presents TDRs for the periods indicated for which there was a payment default where the default occurred within twelve months of restructuring. The Company considers a TDR in default when any of the following occurs: the loan, as restructured, becomes 90 days or more past due; the loan is moved to nonaccrual status following the restructure; the loan is restructured again under terms that would qualify it as a TDR if it were not already so classified; or any portion of the loan is charged off.

Restructurings that Subsequently Defaulted
 
For the Years Ended
December 31,
 
 2015
2014
 
(in thousands)
Mortgage loans on real estate:
     
Residential 1-4 family
 
 $  0
 
 $  389

The TDRs in the tables above are factored into the determination of the allowance for loan losses as of the periods indicated. These loans are included in the impaired loan analysis, as discussed below.
- 66 -

IMPAIRED LOANS
A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Impaired loans include nonperforming loans and loans modified in a TDR. When management identifies a loan as impaired, the impairment is measured based on the present value of expected future cash flows, discounted at the loan's effective interest rate, except when the sole or remaining source of repayment for the loan is the operation or liquidation of the collateral. In these cases, management uses the current fair value of the collateral, less selling costs, when foreclosure is probable, instead of the discounted cash flows. If management determines that the value of the impaired loan is less than the recorded investment in the loan (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), impairment is recognized through an allowance estimate or a charge-off to the allowance.

When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is in nonaccrual status, all payments are applied to principal under the cost recovery method. For financial statement purposes, the recorded investment in the loan is the actual principal balance reduced by payments that would otherwise have been applied to interest. When reporting information on these loans to the applicable customers, the unpaid principal balance is reported as if payments were applied to principal and interest under the original terms of the loan agreements. Therefore, the unpaid principal balance reported to the customer would be higher than the recorded investment in the loan for financial statement purposes. When the ultimate collectability of the total principal of the impaired loan is not in doubt and the loan is in nonaccrual status, contractual interest is credited to interest income when received under the cash basis method.
- 67 -

The following table includes the recorded investment and unpaid principal balances (a portion of which may have been charged off) for impaired loans with the associated allowance amount, if applicable, as of the dates presented. Also presented are the average recorded investments in the impaired loans and the related amount of interest recognized for the periods presented. The average balances are calculated based on daily average balances.
 
Impaired Loans by Class
(in thousands)
   
As of December 31, 2015
    
For the year ended December 31, 2015
  
   
   
Recorded Investment
    
   
   
 
   
Unpaid
Principal
Balance
    
Without
Valuation
Allowance
    
With
Valuation
Allowance
    
Associated
Allowance
    
Average
Recorded
Investment
    
Interest
Income
Recognized
  
Mortgage loans on real estate:
  
   
   
   
   
   
 
Residential 1-4 family
  
$
2,994
    
$
1,530
    
$
1,261
    
$
146
    
$
2,267
    
$
132
  
Commercial
    
10,203
      
6,166
      
3,208
      
608
      
9,305
      
473
  
Construction
    
99
      
0
      
99
      
36
      
465
      
5
  
Second mortgages
    
535
      
499
      
0
      
0
      
571
      
21
  
Total mortgage loans on real estate
  
$
13,831
    
$
8,195
    
$
4,568
    
$
790
    
$
12,608
    
$
631
  
Commercial loans
    
330
      
207
      
68
      
8
      
952
      
28
  
Consumer loans
    
12
      
12
      
0
      
0
      
13
      
1
  
Total
  
$
14,173
    
$
8,414
    
$
4,636
    
$
798
    
$
13,573
    
$
660
  
 
Impaired Loans by Class
(in thousands)
   
As of December 31, 2014
    
For the year ended December 31, 2014
  
   
   
Recorded Investment
    
   
   
 
   
Unpaid
Principal
Balance
    
Without
Valuation
Allowance
    
With
Valuation
Allowance
    
Associated
Allowance
    
Average
Recorded Investment
    
Interest
Income
Recognized
  
Mortgage loans on real estate:
  
   
   
   
   
   
 
Residential 1-4 family
  
$
2,898
    
$
2,083
    
$
646
    
$
91
    
$
4,099
    
$
126
  
Commercial
    
11,766
      
4,729
      
5,322
      
163
      
10,669
      
449
  
Construction
    
1,157
      
623
      
534
      
270
      
2,431
      
55
  
Second mortgages
    
506
      
195
      
282
      
178
      
470
      
25
  
Total mortgage loans on real estate
  
$
16,327
    
$
7,630
    
$
6,784
    
$
702
    
$
17,669
    
$
655
  
Commercial loans
    
0
      
0
      
0
      
0
      
37
      
0
  
Consumer loans
    
14
      
14
      
0
      
0
      
26
      
1
  
Total
  
$
16,341
    
$
7,644
    
$
6,784
    
$
702
    
$
$ 17,732
    
$
656
  

MONITORING OF LOANS AND EFFECT OF MONITORING FOR THE ALLOWANCE FOR LOAN LOSSES
Loan officers are responsible for continual portfolio analysis and prompt identification and reporting of problem loans, which includes assigning a risk grade to each applicable loan at its origination and revising such grade as the situation dictates. Loan officers maintain frequent contact with borrowers, which should enable the loan officer to identify potential problems before other personnel. In addition, meetings with loan officers and upper management are held to discuss problem loans and review risk grades. Nonetheless, in order to avoid over-reliance upon loan officers for problem loan identification, the Company's loan review system provides for review of loans and risk grades by individuals who are independent of the loan approval process. Risk grades and migration analysis by risk grades are used as a component of the calculation of the allowance for loan losses.
- 68 -
ALLOWANCE FOR LOAN LOSSES
Management has an established methodology to determine the adequacy of the allowance for loan losses that assesses the risks and losses inherent in the loan portfolio. The Company segments the loans in the portfolio by the categories defined by Schedule RC-C of the Federal Financial Institutions Examination Council Consolidated Reports of Condition and Income Form 041 (Call Report). Loans are segmented into the following pools: commercial, real estate-construction, real estate-mortgage, consumer and other loans. The Company also sub-segments the real estate-mortgage segment into four classes: residential 1-4 family, commercial real estate, second mortgages and equity lines of credit.

The Company uses an internally developed risk evaluation model in the estimation of the credit risk process. The model and assumptions used to determine the allowance are independently validated and reviewed to ensure that the theoretical foundation, assumptions, data integrity, computational processes and reporting practices are appropriate and properly documented.

Each portfolio segment has risk characteristics as follows:
·
Commercial: Commercial loans carry risks associated with the successful operation of a business or project, in addition to other risks associated with the ownership of a business. The repayment of these loans may be dependent upon the profitability and cash flows of the business. In addition, there is risk associated with the value of collateral other than real estate which may depreciate over time and cannot be appraised with as much precision.
·
Real estate-construction: Construction loans carry risks that the project will not be finished according to schedule, the project will not be finished according to budget and the value of the collateral may at any point in time be less than the principal amount of the loan. Construction loans also bear the risk that the general contractor, who may or may not be the loan customer, may be unable to finish the construction project as planned because of financial pressure unrelated to the project.
·
Real estate-mortgage: Residential mortgage loans and equity lines of credit carry risks associated with the continued credit-worthiness of the borrower and changes in the value of the collateral. Commercial real estate loans carry risks associated with the successful operation of a business if owner occupied. If non-owner occupied, the repayment of these loans may be dependent upon the profitability and cash flow from rent receipts.
·
Consumer loans: Consumer loans carry risks associated with the continued credit-worthiness of the borrowers and the value of the collateral. Consumer loans are more likely than real estate loans to be immediately adversely affected by job loss, divorce, illness or personal bankruptcy.
·
Other loans: Other loans are loans to mortgage companies, loans for purchasing or carrying securities, and loans to insurance, investment and finance companies. These loans carry risks associated with the successful operation of a business. In addition, there is risk associated with the value of collateral other than real estate which may depreciate over time, depend on interest rates or fluctuate in active trading markets.

Each segment of the portfolio is pooled by risk grade or by days past due.  Loans not secured by real estate and made to individuals for household, family and other personal expenditures are segmented into pools based on days past due, while all other loans, including loans to consumers that are secured by real estate, are segmented by risk grades.  A historical loss percentage is then calculated by migration analysis and applied to each pool.  The migration analysis applied to all pools is able to track the risk grading and historical performance of individual loans throughout a number of periods set by management, which provides management with information regarding trends (or migrations) in a particular loan segment.  At December 31, 2015 and December 31, 2014, management used twelve-quarter migration periods.

THE COMPANY'S ESTIMATION PROCESS
Loans are either individually evaluated for impairment or pooled with like loans and collectively evaluated for impairment. Also, various qualitative factors are applied to each segment of the loan portfolio. The allowance for loan losses is the accumulation of these components. Management's estimate is based on certain observable, historical data that management believes are most reflective of the underlying credit losses being estimated.

Management provides an allocated component of the allowance for loans that are individually evaluated for impairment. An allocated allowance is established when the discounted value of expected future cash flows from the impaired loan (or the collateral value or observable market price of the impaired loan) is lower than the carrying value of that loan. This allocation represents the sum of management's estimated losses on each loan.

Loans collectively evaluated for impairment are pooled, with a historical loss rate, based on migration analysis, applied to each pool, segmented by risk grade or days past due, depending on the type of loan. Based on credit risk assessments and management's analysis of qualitative factors, additional loss factors are applied to loan balances. These additional qualitative factors include: economic conditions, trends in growth, loan concentrations, changes in certain loans, changes in underwriting, changes in management and changes in the legal and regulatory environment.
- 69 -

ALLOWANCE FOR LOAN LOSSES BY SEGMENT
The total allowance reflects management's estimate of loan losses inherent in the loan portfolio at the balance sheet date. The Company considers the allowance for loan losses of $7.7 million adequate to cover loan losses inherent in the loan portfolio at December 31, 2015.

The following table presents, by portfolio segment, the changes in the allowance for loan losses and the recorded investment in loans for the periods presented. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.

ALLOWANCE FOR LOAN LOSSES AND RECORDED INVESTMENT IN LOANS
(in thousands)
For the year ended December 31, 2015
Commercial
  
Real Estate -
Construction
  
Real Estate -
Mortgage
  
Consumer
  
Other
  
Total
  
Allowance for Loan Losses:
 
 
 
 
 
 
Balance at the beginning of period
 
  
$
595
  
 
  
$
703
  
 
  
$
5,347
  
 
  
$
219
  
 
  
$
211
  
 
  
$
7,075
  
Charge-offs
 
    
(293
)
 
    
0
  
 
    
(321
)
 
    
(92
)
 
    
(191
)
 
    
(897
)
Recoveries
 
    
50
  
 
    
1
  
 
    
393
  
 
    
39
  
 
    
52
  
 
    
535
  
Provision for loan losses
 
    
281
  
 
    
281
  
 
    
209
  
 
    
113
  
 
    
141
  
 
    
1,025
  
Ending balance
 
  
$
633
  
 
  
$
985
  
 
  
$
5,628
  
 
  
$
279
  
 
  
$
213
  
 
  
$
7,738
  
Ending balance individually evaluated for impairment
 
  
$
8
  
 
  
$
36
  
 
  
$
754
  
 
  
$
0
  
 
  
$
0
  
 
  
$
798
  
Ending balance collectively evaluated for impairment
 
    
625
  
 
    
949
  
 
    
4,874
  
 
    
279
  
 
    
213
  
 
    
6,940
  
Ending balance
 
  
$
633
  
 
  
$
985
  
 
  
$
5,628
  
 
  
$
279
  
 
  
$
213
  
 
  
$
7,738
  
Loan Balances:
 
        
 
        
 
        
 
        
 
        
 
        
Ending balance individually evaluated for impairment
 
  
$
275
  
 
  
$
99
  
 
  
$
12,664
  
 
  
$
12
  
 
  
$
0
  
 
  
$
13,050
  
Ending balance collectively evaluated for impairment
 
    
42,922
  
 
    
19,586
  
 
    
424,495
  
 
    
50,415
  
 
    
18,007
  
 
    
555,425
  
Ending balance
 
  
$
43,197
  
 
  
$
19,685
  
 
  
$
437,159
  
 
  
$
50,427
  
 
  
$
18,007
  
 
  
$
568,475
  
                                                             
For the year ended December 31, 2014
Commercial
  
Real Estate -
Construction
  
Real Estate -
Mortgage
  
Consumer
  
Other
  
Total
  
Allowance for Loan Losses:
                                                
Balance at the beginning of period
 
  
$
350
  
 
  
$
662
  
 
  
$
5,357
  
 
  
$
294
  
 
  
$
168
  
 
  
$
6,831
  
Charge-offs
 
    
(286
)
 
    
(51
)
 
    
(563
)
 
    
(163
)
 
    
(175
)
 
    
(1,238
)
Recoveries
 
    
55
  
 
    
173
  
 
    
524
  
 
    
64
  
 
    
66
  
 
    
882
  
Provision for loan losses
 
    
476
  
 
    
(81
)
 
    
29
  
 
    
24
  
 
    
152
  
 
    
600
  
Ending balance
 
  
$
595
  
 
  
$
703
  
 
  
$
5,347
  
 
  
$
219
  
 
  
$
211
  
 
  
$
7,075
  
Ending balance individually evaluated for impairment
 
  
$
0
  
 
  
$
270
  
 
  
$
432
  
 
  
$
0
  
 
  
$
0
  
 
  
$
702
  
Ending balance collectively evaluated for impairment
 
    
595
  
 
    
433
  
 
    
4,915
  
 
    
219
  
 
    
211
  
 
    
6,373
  
Ending balance
 
  
$
595
  
 
  
$
703
  
 
  
$
5,347
  
 
  
$
219
  
 
  
$
211
  
 
  
$
7,075
  
Loan Balances:
 
        
 
        
 
        
 
        
 
        
 
        
Ending balance individually evaluated for impairment
 
  
$
0
  
 
  
$
1,157
  
 
  
$
13,257
  
 
  
$
14
  
 
  
$
0
  
 
  
$
14,428
  
Ending balance collectively evaluated for impairment
 
    
37,698
  
 
    
7,925
  
 
    
422,657
  
 
    
30,479
  
 
    
22,807
  
 
    
521,566
  
Ending balance
 
  
$
37,698
  
 
  
$
9,082
  
 
  
$
435,914
  
 
  
$
30,493
  
 
  
$
22,807
  
 
  
$
535,994
  

CHANGES IN ACCOUNTING METHODOLOGY
There were no changes in accounting methodology for the allowance for loan losses for the year ended December 31, 2015.
- 70 -

NOTE 5, Other Real Estate Owned (OREO)

The Company holds certain parcels of real estate due to completed foreclosure proceedings on defaulted loans or the closing of former branches. An analysis of the balance in OREO is as follows:

 
Years Ended December 31,
  
 
2015
    
2014
  
 
(in thousands)
  
Balance at beginning of year
  
$
8,014
    
$
9,190
  
Transfers to OREO due to foreclosure
    
553
      
1,815
  
Other additions to foreclosed properties
    
0
      
23
  
Properties sold
    
(3,277
)
    
(3,014
)
Balance at end of year
  
$
5,290
    
$
8,014
  

Other additions to foreclosed properties in the table above are for capital improvements on existing properties.

OREOs are presented net of a valuation allowance for losses. As the fair values of OREOs change, adjustments are made to the recorded investment in the properties through the valuation allowance to ensure that all properties are recorded at the lower of cost or fair value.  Properties written down in previous periods can be written back up if a current property valuation warrants the change, though never above the original cost of the property. An analysis of the valuation allowance on OREOs is as follows:

 
Years Ended December 31,
  
 
2015
    
2014
  
 
(in thousands)
  
Balance at beginning of year
  
$
2,908
    
$
2,775
  
Additions and write-downs
    
1,011
      
1,056
  
Reductions due to sales or increases in value
    
(1,370
)
    
(923
)
Balance at end of year
  
$
2,549
    
$
2,908
  

Expenses applicable to OREOs include the following:

 
  
Years Ended December 31,
  
 
  
2015
    
2014
  
 
  
(in thousands)
  
Net loss (gain) on sales of real estate
  
$
(54
)
  
$
(184
)
Provision for losses (net write-downs)
    
1,011
      
1,056
  
Operating expenses, net of income (1)
    
219
      
285
  
Total Expenses
  
$
1,176
    
$
1,157
  
                 
(1) Included in other operating income and other operating expense on the Consolidated Statements of Income.
  

NOTE 6, Premises and Equipment

Premises and equipment consisted of the following at December 31:

 
  
2015
    
2014
  
 
  
(in thousands)
  
Land
  
$
7,688
    
$
7,261
  
Buildings
    
37,848
      
38,301
  
Construction in process
    
555
      
291
  
Leasehold improvements
    
852
      
906
  
Furniture, fixtures and equipment
    
18,303
      
19,391
  
 
    
65,246
      
66,150
  
Less accumulated depreciation and amortization
    
23,964
      
24,075
  
 
  
$
41,282
    
$
42,075
  

Depreciation expense for the years ended December 31, 2015 and 2014 amounted to $2.5 and $2.3 million, respectively.
- 71 -
The Company has noncancellable leases on premises and equipment expiring at various dates, not including extensions, to the year 2020. Certain leases provide for increased annual payments based on increases in real estate taxes and the Consumer Price Index.

The total approximate minimum rental commitment at December 31, 2015 under noncancellable leases is $871 thousand which is due as follows (in thousands):

2016
  
$
236
  
2017
    
235
  
2018
    
167
  
2019
    
149
  
2020
    
84
  
Total
  
$
871
  

The aggregate rental expense of premises and equipment was $270 thousand and $281 thousand for December 31, 2015 and 2014, respectively.

NOTE 7, Low-Income Housing Tax Credits

The Company was invested in four separate housing equity funds at December 31, 2015 and three separate funds at December 31, 2014. The general purpose of these funds is to encourage and assist participants in investing in low-income residential rental properties located in the Commonwealth of Virginia, develop and implement strategies to maintain projects as low-income housing, deliver Federal Low Income Housing Credits to investors, allocate tax losses and other possible tax benefits to investors, and preserve and protect project assets.

The investments in these funds were recorded as other assets on the consolidated balance sheets and were $4.2 million and $722 thousand at December 31, 2015 and December 31, 2014, respectively. The expected terms of these investments and the related tax benefits run through 2032. During the years ended December 31, 2015 and 2014, the Company recognized tax credits and other tax benefits related to these investments of $365 thousand and $477 thousand, respectively. Total tax credits received for 2015 were $274 thousand, which is based on the most recent quarterly estimates received from the funds.  Additional committed capital calls expected for the funds totaled $3.0 million and $2.7 million at December 31, 2015 and December 31, 2014, respectively, and are recorded in accrued expenses and other liabilities on the corresponding consolidated balance sheet.

NOTE 8, Deposits

The aggregate amount of time deposits in denominations of $250 thousand or more at December 31, 2015 and 2014 was $36.4 million and $40.2 million, respectively. As of December 31, 2015, no single customer relationship exceeded 5 percent of total deposits.

At December 31, 2015 the scheduled maturities of time deposits (in thousands) are as follows:

2016
  
$
85,910
  
2017
    
48,942
  
2018
    
18,932
  
2019
    
19,135
  
2020
    
37,092
  
Total
  
$
210,011
  

NOTE 9, Short Term and Long Term Borrowings

The Company's short-term borrowing sources include federal funds purchased and overnight repurchase agreements. The Company had no federal funds purchased on December 31, 2015 or 2014.  At December 31, 2015, the Company had $50.0 million available in federal funds lines of credit to address any short-term borrowing needs.

Overnight repurchase agreements, which totaled $26.0 million and $37.4 million as of December 31, 2015 and 2014, respectively, are classified as secured borrowings that generally mature within one to four days from the transaction date. Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. The Company may be required to provide additional collateral based on the fair value of the underlying securities.
- 72 -
As of December 31, 2015, three customer relationships exceeded 5 percent of total repurchase agreements, with a combined outstanding balance of $20.0 million, or 77.23% of total repurchase agreements.

The Company's long-term debt at December 31, 2015 and 2014 consisted of fixed-rate FHLB advances. The FHLB advances are secured by a blanket lien on qualified 1 – 4 family residential real estate loans. These pledged loans totaled $75.8 million at December 31, 2015. In February of 2016, the Company elected to prepay its remaining FHLB advance of $25.0 million. Although prepayment of the advance subjected the Company to a prepayment penalty equal to the cost to the FHLB to unwind its underlying hedge plus an administrative fee, the Company determined that the interest expense saved was more than the cost to prepay the advance.

At December 31, 2015, the Company had $237.2 million in FHLB borrowing availability, in addition to the $25.0 million already outstanding on that date.

The contractual maturities of long-term debt are as follows:

   
December 31,
  
   
2015
    
2014
  
   
Fixed
    
Weighted
   
Fixed
    
Weighted
 
   
Rate
    
Avg Rate
    
Rate
    
Avg Rate
  
   
(in thousands)
        
(in thousands)
      
Due in 2015
  
$
0
      
0.00
%
  
$
5,000
      
0.26
%
Due in 2016
    
25,000
      
4.83
%
    
25,000
      
4.83
%
Total long-term debt
  
$
25,000
      
4.83
%
  
$
30,000
      
4.07
%

NOTE 10, Stock Option Plan

The Company's 1998 Stock Option Plan, pursuant to which stock options could be granted to key employees and non-employee directors, expired on March 9, 2008.  Stock options that were outstanding on March 9, 2008 remained outstanding in accordance with their terms, but no new awards can be granted under the plan after March 9, 2008. At December 31, 2015, options to purchase 74,960 shares of common stock granted under the stock option plan were outstanding. The exercise price of each option equals the market price of the Company's common stock on the date of the grant, and each option's maximum term is ten years.

Stock option plan activity for the year ended December 31, 2015 is summarized below:

 
  
Shares
    
Weighted
Average
Exercise
Price
  
Weighted
Average
Remaining
Contractual
Life
(in years)
  
Aggregate
Intrinsic
Value
(in thousands)
  
Options outstanding, January 1, 2015
    
81,210
    
$
20.05
  
 
 
Granted
    
0
      
0
  
 
 
Exercised
    
0
      
0
  
 
 
Canceled or expired
    
(6,250
)
    
20.05
  
 
 
Options outstanding, December 31, 2015
    
74,960
    
$
20.05
      
1.79
    
$
0
  
Options exercisable, December 31, 2015
    
74,960
    
$
20.05
      
1.79
    
$
0
  

The aggregate intrinsic value of a stock option in the table above represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holders had all option holders exercised their options on December 31, 2015.This amount changes based on changes in the market value of the Company's common stock.

As of December 31, 2015, the outstanding options had no intrinsic value because the exercise prices of all outstanding options were above the market value of a share of the Company's common stock.

No options were granted or exercised during the years ended December 31, 2015 or December 31, 2014.
- 73 -
As of December 31, 2015 and December 31, 2014, all outstanding stock options were fully vested and there was no unrecognized stock-based compensation expense.

Information pertaining to options outstanding at December 31, 2015 is as follows:

 
 
Options Outstanding
  
Options Exercisable
  
Range of
Exercise
Prices
  
Number
Outstanding
  
Weighted
Average
Remaining
Contractual
Life
  
Weighted
Average
Exercise
Price
  
Number
Exercisable
  
Weighted
Average
Exercise
Price
  
 
$
20.05
      
74,960
      
1.79
    
$
20.05
      
74,960
    
$
20.05
  

NOTE 11, Stockholders' Equity and Earnings per Common Share

STOCKHOLDERS' EQUITY -- OTHER COMPREHENSIVE INCOME (LOSS)
The following table presents information on amounts reclassified out of accumulated other comprehensive loss, by category, during the periods indicated:

   
Years Ended
    
   
December 31,
  
Affected Line Item on
 Consolidated Statement of Income
   
2015
    
2014
  
   
(in thousands)
    
Available-for-sale securities
              
Realized gains (losses) on sales of securities
  
$
76
    
$
2
  
  Gain (loss) on sale of available-for-sale securities, net
Tax effect
    
26
      
1
  
  Income tax (benefit) expense
   
$
50
    
$
1
    
Defined-benefit pension plan
                      
Amortization of actuarial loss (1)
  
$
(390
)
  
$
(251
)
  Salaries and employee benefits
Tax effect
    
(133
)
    
(85
)
  Income tax benefit
   
$
(257
)
  
$
(166
)
  
                        
Total reclassifications for the period
  
$
(207
)
  
$
(165
)
  
(1) This accumulated other comprehensive loss component is included in the computation of net periodic pension cost (see Note 14. Pension Plan for additional details).

The following table presents the changes in accumulated other comprehensive loss, by category, net of tax, for the periods indicated:

 
  
Unrealized Gains (Losses) on Available-for-Sale Securities
    
Unrealized Losses on Securities Transferred from Available-for-Sale to Held-to-Maturity (1)
    
Defined Benefit Pension Plans
    
Accumulated Other Comprehensive Loss
  
   
(in thousands)
  
                 
Balance at December 31, 2013
  
$
(5,317
)
  
$
(3,937
)
  
$
(1,548
)
  
$
(10,802
)
Net change for the year ended December 31, 2014
    
5,239
      
551
      
(881
)
    
4,909
  
Balance at December 31, 2014
    
(78
)
    
(3,386
)
    
(2,429
)
    
(5,893
)
                                 
Net change for the year ended December 31, 2015
    
(498
)
    
3,386
      
(157
)
    
2,731
  
Balance at December 31, 2015
  
$
(576
)
  
$
0
    
$
(2,586
)
  
$
(3,162
)
 
(1) Net change for the year ended December 31, 2015 represents reclassification due to the transfer of securities held-to-maturity to available-for-sale. See Note 3. Securities.
  
- 74 -

The following table presents the change in each component of other comprehensive income on a pre-tax and after-tax basis for the periods indicated.

   
Year Ended December 31, 2015
  
 
  
Pretax
    
Tax Effect
    
Net-of-Tax
  
   
(in thousands)
  
Unrealized losses on available-for-sale securities:
            
Unrealized holding losses arising during the period
  
$
(679
)
  
$
(231
)
  
$
(448
)
Reclassification adjustment for gains recognized in income
    
(76
)
    
(26
)
    
(50
)
Net unrealized losses on securities
    
(755
)
    
(257
)
    
(498
)
                         
Unrealized losses on securities transferred from available-for-sale to held-to-maturity:
                        
Elimination upon transfer back to available-for-sale
    
4,197
      
1,427
      
2,770
  
Amortization
    
934
      
318
      
616
  
Net change
    
5,131
      
1,745
      
3,386
  
                         
Defined benefit pension plans:
                        
Net actuarial loss for the period
    
(627
)
    
(213
)
    
(414
)
Amortization of actuarial loss from prior period
    
390
      
133
      
257
  
Net change
    
(237
)
    
(80
)
    
(157
)
                         
Total change in accumulated other comprehensive loss
  
$
4,139
    
$
1,408
    
$
2,731
  

   
Year Ended December 31, 2014
  
 
  
Pretax
    
Tax Effect
    
Net-of-Tax
  
   
(in thousands)
  
Unrealized gains on available-for-sale securities:
            
Unrealized holding gains arising during the period
  
$
7,940
    
$
2,700
    
$
5,240
  
Reclassification adjustment for gains recognized in income
    
(2
)
    
(1
)
    
(1
)
Net change
    
7,938
      
2,699
      
5,239
  
                         
Unrealized losses on securities transferred from available-for-sale to held-to-maturity:
                        
Amortization
    
835
      
284
      
551
  
Net change
    
835
      
284
      
551
  
                         
Defined benefit pension plans:
                        
Net actuarial loss for the period
    
(1,587
)
    
(540
)
    
(1,047
)
Amortization of actuarial loss from prior period
    
251
      
85
      
166
  
Net change
    
(1,336
)
    
(455
)
    
(881
)
                         
Total change in accumulated other comprehensive loss
  
$
7,437
    
$
2,528
    
$
4,909
  

EARNINGS PER COMMON SHARE
Earnings per common share has been computed based on the following:

 
Years Ended December 31,
  
 
2015
    
2014
  
 
(dollars in thousands)
  
Net income (in thousands)
  
$
3,634
    
$
4,116
  
 
                
Average number of common shares outstanding
    
4,959,009
      
4,959,009
  
Effect of dilutive options
    
0
      
0
  
Average number of common shares outstanding used to calculate diluted earnings per common share
    
4,959,009
      
4,959,009
  

The Company did not include an average of 76 thousand and 117 thousand potential common shares attributable to outstanding stock options in the diluted earnings per share calculation for 2015 and 2014, respectively, because they were antidilutive.
- 75 -

NOTE 12, Related Party Transactions

In the ordinary course of business, the Company has granted loans to principal stockholders, executive officers and directors and their affiliates. These loans were made on substantially the same terms and conditions, including interest rates, collateral and repayment terms, as those prevailing at the same time for comparable transactions with unrelated persons, and, in the opinion of management and the Company's board of directors, do not involve more than normal risk or present other unfavorable features. None of the principal stockholders, executive officers or directors had direct or indirect loans exceeding 10 percent of stockholders' equity at December 31, 2015.

Annual activity consisted of the following:

 
  
2015
    
2014
  
 
  
(in thousands)
  
Balance, beginning of year
  
$
5,787
    
$
2,589
  
Additions
    
4
      
3,596
  
Reductions
    
(1,362
)
    
(398
)
Balance, end of year
  
$
4,429
    
$
5,787
  

Deposits from related parties held by the Company at December 31, 2015 and 2014 amounted to $14.4 million and $13.2 million, respectively.

NOTE 13, Income Taxes

The components of income tax expense for the current and prior year-ends are as follows:

 
2015
    
2014
  
 
(in thousands)
  
Current income tax expense
  
$
281
    
$
297
  
Deferred income tax benefit
    
(227
)
    
(101
)
Reported income tax expense
  
$
54
    
$
196
  

A reconciliation of the expected federal income tax expense on income before income taxes with the reported income tax expense for the same periods follows:

 
  
Years Ended December 31,
  
 
  
2015
    
2014
  
 
  
(in thousands)
  
Expected tax expense (34%)
  
$
1,254
    
$
1,466
  
Interest expense on tax-exempt assets
    
22
      
24
  
Low-income housing tax credits
    
(274
)
    
(324
)
Tax-exempt interest
    
(654
)
    
(631
)
Bank-owned life insurance
    
(301
)
    
(289
)
Other, net
    
7
      
(50
)
Reported tax expense
  
$
54
    
$
196
  

The effective tax rates for 2015 and 2014 were 1.5% and 4.6%, respectively.
- 76 -

The components of the net deferred tax asset, included in other assets, are as follows:

 
  
December 31,
  
 
  
2015
    
2014
  
 
  
(in thousands)
  
Deferred tax assets:
  
   
 
Allowance for loan losses
  
$
2,631
    
$
2,397
  
Interest on nonaccrual loans
    
67
      
100
  
Other real estate owned
    
867
      
989
  
Pension - other comprehensive income
    
1,332
      
1,252
  
Bank owned life insurance benefit
    
88
      
83
  
Charitable contributions carried forward
    
109
      
92
  
Net unrealized loss on securities available-for-sale
    
297
      
40
  
Net unrealized loss on securities transferred from available-for-sale to held-to-maturity
    
0
      
1,744
  
Unexercised nonqualified options
    
36
      
36
  
Alternative minimum tax
    
610
      
269
  
Deferred benefits and compensation
    
347
      
166
  
Other
    
78
      
70
  
 
  
$
6,462
    
$
7,238
  
 
                
Deferred tax liabilities:
                
Depreciation
  
$
(854
)
  
$
(696
)
Accretion of discounts on securities
    
(1
)
    
0
  
Deferred loan fees and costs
    
(293
)
    
(295
)
Pension
    
(874
)
    
(627
)
 
    
(2,022
)
    
(1,618
)
Net deferred tax assets
  
$
4,440
    
$
5,620
  

The Company files income tax returns in the U.S. federal jurisdiction and the Commonwealth of Virginia. With few exceptions, the Company is no longer subject to U.S. federal, state and local income tax examinations by tax authorities for years prior to 2012.

NOTE 14, Pension Plan and 401(k) Plan

PENSION PLAN
The Company provides pension benefits for eligible participants through a non-contributory defined-benefit pension plan. The plan was frozen effective September 30, 2006; therefore no additional participants have been or will be added to the plan since such date.
- 77 -

Information pertaining to the activity in the plan, using a measurement date of December 31, is as follows:

 
  
Years ended December 31,
  
 
  
2015
    
2014
  
 
  
(in thousands)
  
Change in benefit obligation
  
   
 
Benefit obligation at beginning of year
  
$
7,104
    
$
5,656
  
Service cost
    
0
      
0
  
Interest cost
    
260
      
278
  
Benefits paid
    
(294
)
    
(298
)
Actuarial (gain) loss
    
(31
)
    
1,468
  
Benefit obligation at end of year
  
$
7,039
    
$
7,104
  
 
                
Change in plan assets
                
Fair value of plan assets at beginning of year
  
$
5,268
    
$
5,322
  
Actual return on plan assets
    
(283
)
    
244
  
Employer contribution
    
1,000
      
0
  
Benefits paid
    
(294
)
    
(298
)
Fair value of plan assets at end of year
  
$
5,691
    
$
5,268
  
 
                
Funded Status at end of year
  
$
(1,348
)
  
$
(1,836
)

Amounts recognized in the consolidated balance sheets at December 31,
  
2015
    
2014
  
Accrued pension liability
  
$
(1,348
)
  
$
(1,836
)
                 
Amounts recognized in other comprehensive income (loss)
Loss
  
$
3,918
    
$
3,681
  
Deferred taxes
    
(1,332
)
    
(1,252
)
Net loss
  
$
2,586
    
$
2,429
  
Accumulated benefit obligation
  
$
7,039
    
$
7,104
  

Assumptions used to determine the benefit obligations at December 31,
2015
 
2014
Discount rate
 
4.03%
  
 
3.73%

 
During the years ending December 31,
Weighted-average assumptions used to determine net periodic pension cost
2015
 
2014
Discount rate
 
3.73%
 
 
4.90%
Expected long-term rate of return on plan assets
 
7.00%
 
 
7.00%
- 78 -

 
Years ended December 31,
  
Components of net periodic pension cost
2015
    
2014
  
 
(in thousands)
  
Interest cost
  
$
260
    
$
278
  
Expected return on plan assets
    
(376
)
    
(362
)
Amortization of unrecognized loss
    
390
      
251
  
Net periodic pension cost
  
$
274
    
$
167
  

Components of other amounts recognized in other comprehensive income (loss)
    
 
Net actuarial (gain) loss
  
$
627
    
$
1,587
  
Settlement loss
    
0
      
0
  
Amortization of actuarial loss
    
(390
)
    
(251
)
Total recognized in other comprehensive income (loss)
  
$
237
    
$
1,336
  
 
                
Total recognized in net periodic benefit cost and other comprehensive income (loss)
 
  
$
511
    
$
1,503
  

The estimated net loss for the pension plan that will be amortized from accumulated other comprehensive loss into net periodic benefit cost over the next year is $560 thousand.

The overall expected long-term rate of return on plan assets was determined based on the current asset allocation and the related volatility of those investments.

The Company's overall investment strategy is growth with income. The emphasis of the objective is on both capital appreciation and income. The portfolio contains a blend of securities expected to grow in value over the long term and those expected to produce income. Moderate market value volatility is expected.

The pension plan invests primarily in large and mid-cap equities and government and corporate bonds, with the following target allocations: equities 55 percent, fixed income 40 percent and cash 5 percent. The pension plan has small investments in precious metals and emerging markets equity mutual funds, each of which represents less than 1 percent of the total account value.

Fair value is discussed in detail in Note 16. The fair value of the Company's pension plan assets by asset category are as follows:

 
  
Assets at Fair Value as of December 31, 2015
  
 
  
(in thousands)
  
Asset Category
  
Level 1
    
Level 2
    
Level 3
    
Total
  
Money market funds
  
$
654
    
$
0
    
$
0
    
$
654
  
Mutual funds
    
74
      
0
      
0
      
74
  
Common stock
    
2,766
      
0
      
0
      
2,766
  
Corporate bonds
    
0
      
2,133
      
0
      
2,133
  
Partnerships
    
0
      
64
      
0
      
64
  
Total assets at fair value
  
$
3,494
    
$
2,197
    
$
0
    
$
5,691
  

 
Assets at Fair Value as of December 31, 2014
  
 
(in thousands)
  
Asset Category
Level 1
  
Level 2
  
Level 3
  
Total
  
Money market funds
  
$
310
    
$
0
    
$
0
    
$
310
  
Mutual funds
    
73
      
0
      
0
      
73
  
Common stock
    
2,847
      
0
      
0
      
2,847
  
Corporate bonds
    
0
      
2,038
      
0
      
2,038
  
Total assets at fair value
  
$
3,230
    
$
2,038
    
$
0
    
$
5,268
  

The Company contributed $1.0 million to the pension plan in 2015, and made no contributions in 2014. Management has not determined at this time the amount, if any, it will contribute to the plan for the year ending December 31, 2016.
- 79 -

Estimated future benefit payments, which reflect expected future service, as appropriate, are as follows (in thousands):

2016
  
$
219
  
2017
    
259
  
2018
    
281
  
2019
    
294
  
2020
    
352
  
Thereafter
    
2,051
  
Total
  
$
3,456
  

401(K) PLAN
The Company has a 401(k) Plan in which substantially all employees are eligible to participate. Employees may contribute to the plan subject to certain limits based on federal tax laws. The Company makes matching contributions equal to 100 percent of the first 4 percent of an employee's compensation contributed to the plan. Matching contributions vest to the employee immediately. The Company may make profit sharing contributions to the plan as determined by the Board of Directors. Profit sharing contributions vest to the employee over a six-year period. For the years ended December 31, 2015 and 2014, expense attributable to the plan amounted to $519 thousand and $527 thousand, respectively.

NOTE 15, Commitments and Contingencies

CREDIT-RELATED FINANCIAL INSTRUMENTS
The Company is a party to credit-related financial instruments with off-balance-sheet risk in the normal course of business in order to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and commercial letters of credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.

The Company's exposure to credit loss is represented by the contractual amount of these commitments. The Company follows the same credit policies in making such commitments as it does for on-balance-sheet instruments.

The following financial instruments whose contract amounts represent credit risk were outstanding at December 31:

 
  
2015
    
2014
  
 
  
(in thousands)
  
Commitments to extend credit:
  
   
 
Home equity lines of credit
  
$
41,995
    
$
43,372
  
Commercial real estate, construction and development loans committed but not funded
    
18,113
      
21,839
  
Other lines of credit (principally commercial)
    
73,213
      
70,368
  
Total
  
$
133,321
    
$
135,579
  
 
                
Letters of credit
  
$
3,473
    
$
3,586
  

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's credit-worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company, upon extensions of credit is based on management's credit evaluation of the customer. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment and income-producing commercial properties.

Unfunded commitments under commercial lines of credit, revolving credit lines, and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines of credit are not collateralized and usually do not contain a specified maturity date, and ultimately may or may not be drawn upon to the total extent to which the Company is committed.
- 80 -
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. Essentially all letters of credit issued have expiration dates within one year, with the exception of one letter of credit which expires in 2020. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Company holds various collateral supporting those commitments for which collateral is deemed necessary.

LEGAL CONTINGENCIES
Various legal claims arise from time to time in the normal course of business, which, in the opinion of management, will not have a material effect on the Company's Consolidated Financial Statements.

NOTE 16, Fair Value Measurements

DETERMINATION OF FAIR VALUE
The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with the "Fair Value Measurements and Disclosures" topics of FASB ASU 2010-06 and FASB ASU 2011-04, the fair value of a financial instrument is the price that would be received in the sale of an asset or transfer of a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company's various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimate of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

The fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value can be a reasonable point within a range that is most representative of fair value under current market conditions.

In estimating the fair value of assets and liabilities, the Company relies mainly on two models. The first model, used by the Company's bond accounting service provider, determines the fair value of securities. Securities are priced based on an evaluation of observable market data, including benchmark yield curves, reported trades, broker/dealer quotes, and issuer spreads. Pricing is also impacted by credit information about the issuer, perceived market movements, and current news events impacting the individual sectors. For assets other than securities and for all liabilities, fair value is determined using the Company's asset/liability modeling software. The software uses current yields, anticipated yield changes, and estimated duration of assets and liabilities to calculate fair value.

In accordance with ASC 820, "Fair Value Measurements and Disclosures," the Company groups its financial assets and financial liabilities generally measured at fair value into three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.

Level 1 – Valuation is based on quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 1 assets and liabilities generally include debt and equity securities that are traded in an active exchange market. Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities.

Level 2 – Valuation is based on inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. The valuation may be based on quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the asset or liability.

Level 3 – Valuation is based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which determination of fair value requires significant management judgment or estimation.
- 81 -
An instrument's categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

ASSETS MEASURED AT FAIR VALUE ON A RECURRING BASIS
Debt and equity securities with readily determinable fair values that are classified as "available-for-sale" are recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income. Securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2). In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. Currently, all of the Company's available-for-sale securities are considered to be Level 2 securities.

The following table presents the balances of certain assets measured at fair value on a recurring basis as of the dates indicated:

       
Fair Value Measurements at December 31, 2015 Using
  
       
(in thousands)
 
       
Quoted Prices in Active Markets for Identical Assets
 (Level 1)
    
Significant Other Observable Inputs
 (Level 2)
    
Significant Unobservable Inputs
 (Level 3)
  
     
Description
  
Balance
 
Available-for-sale securities
                
U.S. Treasury securities
  
$
0
    
$
0
    
$
0
    
$
0
  
Obligations of  U.S. Government agencies
    
24,240
      
0
      
24,240
      
0
  
Obligations of state and political subdivisions
    
78,433
      
0
      
78,433
      
0
  
Mortgage-backed securities
    
107,396
      
0
      
107,396
      
0
  
Money market investments
    
631
      
0
      
631
      
0
  
Corporate bonds
    
3,393
      
0
      
3,393
      
0
  
Other marketable equity securities
    
99
      
0
      
99
      
0
  
Total available-for-sale securities
  
$
214,192
    
$
0
    
$
214,192
    
$
0
  

       
Fair Value Measurements at December 31, 2014 Using
  
       
(in thousands)
 
       
Quoted Prices in Active Markets for Identical Assets
 (Level 1)
    
Significant Other Observable Inputs
 (Level 2)
    
Significant Unobservable Inputs
 (Level 3)
  
     
Description
  
Balance
 
Available-for-sale securities
                
U.S. Treasury securities
  
$
20,000
    
$
0
    
$
20,000
    
$
0
  
Obligations of  U.S. Government agencies
    
4,618
      
0
      
4,618
      
0
  
Obligations of state and political subdivisions
    
50,246
      
0
      
50,246
      
0
  
Mortgage-backed securities
    
60,888
      
0
      
60,888
      
0
  
Money market investments
    
719
      
0
      
719
      
0
  
Corporate bonds
    
2,790
      
0
      
2,790
      
0
  
Other marketable equity securities
    
85
      
0
      
85
      
0
  
Total available-for-sale securities
  
$
139,346
    
$
0
    
$
139,346
    
$
0
  

ASSETS MEASURED AT FAIR VALUE ON A NONRECURRING BASIS
Under certain circumstances, adjustments are made to the fair value for assets and liabilities although they are not measured at fair value on an ongoing basis.
- 82 -
Impaired loans
A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. The measurement of fair value and loss associated with impaired loans can be based on the observable market price of the loan, the fair value of the collateral securing the loan, or the present value of the loan's expected future cash flows. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable, with the vast majority of the collateral in real estate.

The value of real estate collateral is determined utilizing an income, market, or cost valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Company. In the case of loans with lower balances, the Company may obtain a real estate evaluation instead of an appraisal. Evaluations utilize many of the same techniques as appraisals, and are typically performed by independent appraisers. Once received, appraisals and evaluations are reviewed by trained staff independent of the lending function to verify consistency and reasonability. Appraisals and evaluations are based on significant unobservable inputs, including but not limited to: adjustments made to comparable properties, judgments about the condition of the subject property, the availability and suitability of comparable properties, capitalization rates, projected income of the subject or comparable properties, vacancy rates, projected depreciation rates, and the state of the local and regional economy. The Company may also elect to make additional reductions in the collateral value based on management's best judgment, which represents another source of unobservable inputs. Because of the subjective nature of collateral valuation, impaired loans are considered Level 3.

Impaired loans may be secured by collateral other than real estate. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business' financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivable collateral are based on financial statement balances or aging reports (Level 3). If a loan is not collateral-dependent, its impairment may be measured based on the present value of expected future cash flows, discounted at the loan's effective interest rate. Because the loan is discounted at its effective rate of interest, rather than at a market rate, the loan is not considered to be held at fair value and is not included in the tables below. Collateral-dependent impaired loans allocated to the allowance for loan losses are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as part of the provision for loan losses on the Consolidated Statements of Income.

Other Real Estate Owned (OREO)
Loans are transferred to OREO when the collateral securing them is foreclosed on. The measurement of loss associated with OREOs is based on the fair value of the collateral compared to the unpaid loan balance and anticipated costs to sell the property. If there is a contract for the sale of a property, and management reasonably believes the transaction will be consummated in accordance with the terms of the contract, fair value is based on the sale price in that contract (Level 1). If management has recent information about the sale of identical properties, such as when selling multiple condominium units on the same property, the remaining units would be valued based on the observed market data (Level 2). Lacking either a contract or such recent data, management would obtain an appraisal or evaluation of the value of the collateral as discussed above under Impaired Loans (Level 3). After the asset has been booked, a new appraisal or evaluation is obtained when management has reason to believe the fair value of the property may have changed and no later than two years after the last appraisal or evaluation was received. Any fair value adjustments to OREOs below the original book value are recorded in the period incurred and expensed against current earnings.
- 83 -

The following table presents the assets carried on the consolidated balance sheets for which a nonrecurring change in fair value has been recorded. Assets are shown by class of loan and by level in the fair value hierarchy, as of the dates indicated. Certain impaired loans are valued by the present value of the loan's expected future cash flows, discounted at the interest rate of the loan rather than at a market rate. These loans are not carried on the consolidated balance sheets at fair value and, as such, are not included in the table below. Former branch sites are carried at the lower of cost or market. Those carried at cost are not included in the table below.

 
  
   
Carrying Value at December 31, 2015 Using
  
 
  
   
(in thousands)
  
 
  
Fair Value
    
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
    
Significant Other
Observable Inputs
(Level 2)
    
Significant
Unobservable
Inputs
(Level 3)
  
Impaired loans
  
   
   
   
 
Mortgage loans on real estate:
  
   
   
   
 
Residential 1-4 family
  
$
952
    
$
0
    
$
0
    
$
952
  
Commercial
    
267
      
0
      
0
      
267
  
Construction
    
62
      
0
      
0
      
62
  
Total
  
$
1,281
    
$
0
    
$
0
    
$
1,281
  
 
                                
Other real estate owned
                                
Residential 1-4 family
  
$
724
    
$
0
    
$
0
    
$
724
  
Commercial
    
927
      
0
      
0
      
927
  
Construction
    
1,090
      
0
      
0
      
1,090
  
Total
  
$
2,741
    
$
0
    
$
0
    
$
2,741
  

 
  
   
Carrying Value at December 31, 2014 Using
  
 
  
   
(in thousands)
  
 
  
Fair Value
    
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
    
Significant
Other
Observable
Inputs
(Level 2)
    
Significant
Unobservable
Inputs
(Level 3)
  
Impaired loans
  
   
   
   
 
Mortgage loans on real estate:
  
   
   
   
 
Residential 1-4 family
  
$
399
    
$
0
    
$
0
    
$
399
  
Commercial
    
1,973
      
0
      
0
      
1,973
  
Construction
    
264
      
0
      
0
      
264
  
Second mortgages
    
104
      
0
      
0
      
104
  
Total
  
$
2,740
    
$
0
    
$
0
    
$
2,740
  
 
                                
Other real estate owned
                                
Residential 1-4 family
  
$
884
    
$
0
    
$
0
    
$
884
  
Commercial
    
1,198
      
0
      
0
      
1,198
  
Construction
    
2,139
      
0
      
0
      
2,139
  
Total
  
$
4,221
    
$
0
    
$
0
    
$
4,221
  
- 84 -

The following table displays quantitative information about Level 3 Fair Value Measurements as of the dates indicated:

 
  
 
Quantitative Information About Level 3 Fair Value Measurements
  
Description
  
Fair Value at December 31, 2015 (dollars in thousands)
  
Valuation Techniques
Unobservable Input
  
Range (Average)
  
Impaired loans
  
 
 
 
  
 
Residential 1-4 family real estate
  
$
952
  
Market comparables
Selling costs
    
7.25
%
 
             
Liquidation discount
    
0.00% - 4.00% (3.75
%)
Commercial real estate
    
267
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00
%
Construction
    
62
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00
%
 
        
 
 
        
Other real estate owned
        
 
 
        
Residential 1-4 family
    
724
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00% - 7.17% (4.79
%)
Commercial
    
927
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00% - 24.70% (11.77
%)
Construction
    
1,090
  
Market comparables
Selling costs
    
6.72
%
              
Liquidation discount
    
33.05
%

 
  
 
Quantitative Information About Level 3 Fair Value Measurements
  
Description
  
Fair Value at December 31, 2014 (dollars in thousands)
  
Valuation Techniques
Unobservable Input
  
Range (Average)
  
Impaired loans
  
 
 
 
  
 
Residential 1-4 family real estate
  
$
399
  
Market comparables
Selling costs
    
7.25
%
 
        
    
Liquidation discount
    
4.00
%
Commercial real estate
    
1,973
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00
%
Construction
    
264
  
Market comparables
Selling costs
    
0.00% - 7.25% (1.18
%)
              
Liquidation discount
    
4.00% - 28.71% (24.70
%)
Second mortgages
    
104
  
Market comparables
Selling costs
    
7.25
%
 
        
    
Liquidation discount
    
4.00
%
 
        
 
 
        
Other real estate owned
        
 
 
        
Residential 1-4 family
    
884
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00% - 10.00% (8.09
%)
Commercial
    
1,198
  
Market comparables
Selling costs
    
7.25
%
              
Liquidation discount
    
4.00% - 10.00% (5.91
%)
Construction
    
2,139
  
Market comparables
Selling costs
    
7.25% - 11.25% (7.38
%)
              
Liquidation discount
    
0.00% - 10.00% (2.68
%)

FASB ASC 825, "Financial Instruments," requires disclosure about fair value of financial instruments and excludes certain financial instruments and all non-financial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company's assets.

The following methods and assumptions were used by the Company in estimating fair value disclosures for financial instruments not discussed above:
- 85 -
CASH AND CASH EQUIVALENTS
The carrying amounts of cash and short-term instruments, including interest-bearing due from banks, approximate fair values.

RESTRICTED SECURITIES
The restricted security category is comprised of FHLB and Federal Reserve Bank stock. These stocks are classified as restricted securities because their ownership is restricted to certain types of entities and they lack a market. When the FHLB or Federal Reserve Bank repurchases stock, they repurchase at the stock's book value. Therefore, the carrying amounts of restricted securities approximate fair value.

LOANS RECEIVABLE
The fair value of a loan is based on its interest rate in relation to its risk profile, in comparison to what an investor could earn on a different investment with a similar risk profile. Variations in risk tolerance between lenders, and thus in risk pricing, can result in the same loan being priced differently at different institutions. A bank's experience with the type of lending (such as commercial real estate) can also impact its assessment of the riskiness of a loan. A comprehensive picture of competitors' rates in relation to borrower risk profiles is not available. Since the rate and risk profile are the primary factors in determining the fair value of a loan, both of which are unobservable in the market, the Company classifies loans as Level 3 in the fair value hierarchy. The Company uses a model which estimates market value based on the loan's interest rate (regardless of its risk level) and rates for debt of similar maturities where market data is available. Fair values for non-performing loans are estimated as described above.

BANK-OWNED LIFE INSURANCE
Bank-owned life insurance represents insurance policies on certain current and former officers of the Company. The cash value of the policies is estimated using information provided by the insurance carrier. The insurance carrier uses actuarial data to estimate the value of each policy, based on the age and health of the insured relative to other individuals about whom the carrier has information. Health information can be broken down into quantitative, observable inputs, such as smoking habits, blood pressure, and weight, which, along with the insured's age, can be compared to observable data the insurance carrier has available. The carrier can then estimate the cash value of each policy. Since the cash value represents the amount of cash the Company would receive when the policies are paid, the cash value closely approximates the fair value of the policies. Accordingly, bank-owned life insurance is classified as Level 2.

DEPOSIT LIABILITIES
The fair value of demand deposits, savings and certain money market deposits is the amount payable on demand at the reporting date. The fair value of certificates of deposit is estimated by discounting the future cash flows using the rates currently offered for deposits of similar remaining maturities. Information about the rates paid by other institutions for deposits of similar terms is readily available, and rates are mainly influenced by the term of the deposit itself. As a result, fair value calculations are based on observable inputs, and are classified as Level 2.

SHORT-TERM BORROWINGS
The carrying amounts of federal funds purchased, overnight repurchase agreements, and other short-term borrowings maturing within 90 days approximate their fair values. Since the contractual terms of these borrowings provide all information necessary to calculate the amounts that will be due at maturity, these liabilities are classified as Level 2.

LONG-TERM BORROWINGS
The fair values of the Company's long-term borrowings are estimated based on the current cost to repay the debt in full, discounted to current values and including any prepayment penalties that may apply. As the contractual terms of the borrowing provide all the necessary inputs for this calculation, long-term borrowings are classified as Level 2.

ACCRUED INTEREST
The calculation of accrued interest is based on readily observable information, such as the rate and term of the underlying asset or liability. Since these amounts are expected to be realized quickly (generally within 30 to 90 days), the carrying value approximates fair value and is classified as Level 2.

COMMITMENTS TO EXTEND CREDIT AND IRREVOCABLE LETTERS OF CREDIT
The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit-worthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date. At December 31, 2015 and December 31, 2014, the fair value of fees charged for loan commitments and irrevocable letters of credit was immaterial.
- 86 -

The estimated fair values, and related carrying or notional amounts, of the Company's financial instruments as of the dates indicated are as follows:

 
  
   
Fair Value Measurements at December 31, 2015 Using
  
 
  
   
(in thousands)
  
 
  
Carrying
Value
    
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
    
Significant
Other
Observable Inputs
(Level 2)
    
Significant
Unobservable
Inputs
(Level 3)
  
Assets
  
   
   
   
 
Cash and cash equivalents
  
$
36,990
    
$
36,990
    
$
0
    
$
0
  
Securities available-for-sale
    
214,192
      
0
      
214,192
      
0
  
Securities held-to-maturity
    
0
      
0
      
0
      
0
  
Restricted securities
    
2,016
      
0
      
2,016
      
0
  
Loans, net of allowances for loan losses
    
560,737
      
0
      
0
      
559,488
  
Bank owned life insurance
    
24,411
      
0
      
24,411
      
0
  
Accrued interest receivable
    
3,059
      
0
      
3,059
      
0
  
 
                                
Liabilities
                                
Deposits
  
$
746,471
    
$
0
    
$
746,740
    
$
0
  
Overnight repurchase agreements
    
25,950
      
0
      
25,950
      
0
  
Term repurchase agreements
    
0
      
0
      
0
      
0
  
Federal Home Loan Bank advances
    
25,000
      
0
      
25,501
      
0
  
Accrued interest payable
    
241
      
0
      
241
      
0
  

 
  
   
Fair Value Measurements at December 31, 2014 Using
  
 
  
   
(in thousands)
  
 
  
Carrying
Value
    
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
    
Significant
Other
Observable
Inputs
(Level 2)
    
Significant
Unobservable
Inputs
(Level 3)
  
Assets
  
   
   
   
 
Cash and cash equivalents
  
$
33,305
    
$
33,305
    
$
0
    
$
0
  
Securities available-for-sale
    
139,346
      
0
      
139,346
      
0
  
Securities held-to-maturity
    
90,089
      
0
      
94,406
      
0
  
Restricted securities
    
2,293
      
0
      
2,293
      
0
  
Loans, net of allowances for loan losses
    
528,919
      
0
      
0
      
527,138
  
Bank owned life insurance
    
23,525
      
0
      
23,525
      
0
  
Accrued interest receivable
    
2,695
      
0
      
2,695
      
0
  
 
                                
Liabilities
                                
Deposits
  
$
716,654
    
$
0
    
$
717,260
    
$
0
  
Overnight repurchase agreements
    
37,404
      
0
      
37,404
      
0
  
Term repurchase agreements
    
412
      
0
      
410
      
0
  
Federal Home Loan Bank advances
    
30,000
      
0
      
31,536
      
0
  
Accrued interest payable
    
255
      
0
      
255
      
0
  
- 87 -

NOTE 17, Regulatory Matters

The Company (on a consolidated basis) and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can cause certain mandatory and possibly additional discretionary actions to be initiated by regulators that, if undertaken, could have a direct material effect on the Company's and the Bank's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Prompt corrective action provisions are not applicable to bank holding companies.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the following table) of total and Tier 1 capital to risk-weighted assets and of Tier 1 capital to average assets. The terms Tier 1 capital, risk-weighted assets and average assets, as used in this note, are as defined in the applicable regulations. Management believes, as of December 31, 2015 and 2014, that the Company and the Bank meet all capital adequacy requirements to which they are subject.
- 88 -

As of December 31, 2015, the most recent notification from the Comptroller categorized the Bank as well-capitalized under the regulatory framework for prompt corrective action. To be categorized as well-capitalized, an institution must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the following tables. There are no conditions or events since the notification that management believes have changed the Bank's category. The Company's and the Bank's actual capital amounts and ratios as of December 31, 2015 and 2014 are also presented in the table.

 
  
Capital
    
Minimum
Capital
Requirement
    
Minimum
To Be Well
Capitalized Under
Prompt Corrective
Action Provisions
  
 
  
Amount
    
Ratio
    
Amount
    
Ratio
    
Amount
    
Ratio
  
 
  
(dollars in thousands)
  
December 31, 2015:
  
   
   
   
   
   
 
Total Capital to Risk Weighted Assets:
    
   
   
   
   
 
Consolidated
  
$
104,076
      
14.89
%
  
$
55,910
      
8.00
%
    
N/
A
    
N/
A
Old Point National Bank
    
96,079
      
13.83
%
    
55,589
      
8.00
%
  
$
69,486
      
10.00
%
 
                                                
Tier 1 Capital to Risk Weighted Assets:
                                                
Consolidated
    
96,338
      
13.78
%
    
41,932
      
6.00
%
    
N/
A
    
N/
A
Old Point National Bank
    
88,341
      
12.71
%
    
41,692
      
6.00
%
    
55,589
      
8.00
%
                                                 
Common Equity Tier 1 Capital to Risk Weighted Assets:
                                                
Consolidated
    
96,338
      
13.78
%
    
31,449
      
4.50
%
    
N/
A
    
N/
A
Old Point National Bank
    
88,341
      
12.71
%
    
31,269
      
4.50
%
    
45,166
      
6.50
%
 
                                                
Tier 1 Capital to Average Assets:
                                                
Consolidated
    
96,338
      
10.93
%
    
35,260
      
4.00
%
    
N/
A
    
N/
A
Old Point National Bank
    
88,341
      
10.06
%
    
35,124
      
4.00
%
    
43,905
      
5.00
%
 
                                                
December 31, 2014:
                                                
Total Capital to Risk Weighted Assets:
                                                
Consolidated
  
$
101,450
      
15.44
%
  
$
52,560
      
8.00
%
    
N/
A
    
N/
A
Old Point National Bank
    
94,472
      
14.45
%
    
52,294
      
8.00
%
  
$
65,367
      
10.00
%
 
                                                
Tier 1 Capital to Risk Weighted Assets:
                                                
Consolidated
    
94,375
      
14.36
%
    
26,280
      
4.00
%
    
N/
A
    
N/
A
Old Point National Bank
    
87,397
      
13.37
%
    
26,147
      
4.00
%
    
39,220
      
6.00
%
 
                                                
Tier 1 Capital to Average Assets:
                                                
Consolidated
    
94,375
      
10.75
%
    
35,131
      
4.00
%
    
N/
A
    
N/
A
Old Point National Bank
    
87,397
      
10.01
%
    
34,940
      
4.00
%
    
43,675
      
5.00
%

The approval of the Comptroller is required if the total of all dividends declared by a national bank in any calendar year exceeds the bank's net profits for that year combined with its retained net profits for the preceding two calendar years. Under this formula, the Bank and Trust can distribute as dividends to the Company in 2016, without approval of the Comptroller, $3.0 million plus an additional amount equal to the Bank's and Trust's retained net profits for 2016 up to the date of any dividend declaration.

NOTE 18, Segment Reporting

The Company operates in a decentralized fashion in three principal business segments: the Bank, the Trust, and the Parent. Revenues from the Bank's operations consist primarily of interest earned on loans and investment securities and service charges on deposit accounts. Trust's operating revenues consist principally of income from fiduciary activities. The Parent company's revenues are mainly interest and dividends received from the Bank and Trust companies. The Company has no other segments.
- 89 -
The Company's reportable segments are strategic business units that offer different products and services. They are managed separately because each segment appeals to different markets and, accordingly, requires different technologies and marketing strategies.

Information about reportable segments, and reconciliation of such information to the Consolidated Financial Statements as of and for the years ended December 31 follows:

2015
  
Bank
    
Trust
    
Unconsolidated
Parent
    
Eliminations
    
Consolidated
  
 
  
(in thousands)
  
Revenues
  
   
   
   
   
 
Interest and dividend income
  
$
30,242
    
$
54
    
$
4,009
    
$
(4,010
)
  
$
30,295
  
Income from fiduciary activities
    
0
      
3,617
      
0
      
0
      
3,617
  
Other income
    
8,548
      
1,032
      
200
      
(261
)
    
9,519
  
Total operating income
    
38,790
      
4,703
      
4,209
      
(4,271
)
    
43,431
  
 
                                        
Expenses
                                        
Interest expense
    
3,633
      
0
      
0
      
(1
)
    
3,632
  
Provision for loan losses
    
1,025
      
0
      
0
      
0
      
1,025
  
Salaries and employee benefits
    
17,630
      
2,685
      
432
      
0
      
20,747
  
Other expenses
    
13,254
      
1,010
      
336
      
(261
)
    
14,339
  
Total operating expenses
    
35,542
      
3,695
      
768
      
(262
)
    
39,743
  
 
                                        
Income before taxes
    
3,248
      
1,008
      
3,441
      
(4,009
)
    
3,688
  
 
                                        
Income tax expense (benefit)
    
(96
)
    
343
      
(193
)
    
0
      
54
  
 
                                        
Net income
  
$
3,344
    
$
665
    
$
3,634
    
$
(4,009
)
  
$
3,634
  
 
                                        
Capital expenditures
  
$
1,682
    
$
74
    
$
0
    
$
0
    
$
1,756
  
 
                                        
Total assets
  
$
891,877
    
$
5,694
    
$
93,191
    
$
(93,975
)
  
$
896,787
  

2014
  
Bank
    
Trust
    
Unconsolidated
Parent
    
Eliminations
    
Consolidated
  
 
  
(in thousands)
  
Revenues
  
   
   
   
   
 
Interest and dividend income
  
$
30,239
    
$
50
    
$
4,349
    
$
(4,349
)
  
$
30,289
  
Income from fiduciary activities
    
0
      
3,506
      
0
      
0
      
3,506
  
Other income
    
8,283
      
916
      
200
      
(261
)
    
9,138
  
Total operating income
    
38,522
      
4,472
      
4,549
      
(4,610
)
    
42,933
  
 
                                        
Expenses
                                        
Interest expense
    
3,849
      
0
      
0
      
0
      
3,849
  
Provision for loan losses
    
600
      
0
      
0
      
0
      
600
  
Salaries and employee benefits
    
16,761
      
2,695
      
428
      
0
      
19,884
  
Other expenses
    
13,371
      
1,053
      
125
      
(261
)
    
14,288
  
Total operating expenses
    
34,581
      
3,748
      
553
      
(261
)
    
38,621
  
 
                                        
Income before taxes
    
3,941
      
724
      
3,996
      
(4,349
)
    
4,312
  
 
                                        
Income tax expense (benefit)
    
69
      
247
      
(120
)
    
0
      
196
  
 
                                        
Net income
  
$
3,872
    
$
477
    
$
4,116
    
$
(4,349
)
  
$
4,116
  
 
                                        
Capital expenditures
  
$
3,786
    
$
20
    
$
0
    
$
0
    
$
3,806
  
                                         
Total assets
  
$
871,691
    
$
5,513
    
$
88,497
    
$
(89,421
)
  
$
876,280
  
- 90 -

The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on profit or loss from operations before income taxes not including nonrecurring gains or losses.

Both the Parent and the Trust companies maintain deposit accounts with the Bank, on terms substantially similar to those available to other customers. These transactions are eliminated to reach consolidated totals.

The Company operates in one geographical area and does not have a single external customer from which it derives 10 percent or more of its revenues.

NOTE 19, Condensed Financial Statements of Parent Company

Financial information pertaining to Old Point Financial Corporation (parent company only) is as follows:

 
  
December 31,
  
Balance Sheets
  
2015
    
2014
  
 
  
(in thousands)
  
Assets
  
   
 
Cash and cash equivalents
  
$
2,198
    
$
1,349
  
Securities available-for-sale
    
99
      
85
  
Investment in common stock of subsidiaries
    
90,836
      
87,005
  
Other assets
    
58
      
58
  
Total assets
  
$
93,191
    
$
88,497
  
 
                
Liabilities and Stockholders' Equity
                
Note payable - subsidiary
  
$
15
    
$
0
  
Common stock
    
24,795
      
24,795
  
Additional paid-in capital
    
16,392
      
16,392
  
Retained earnings
    
55,151
      
53,203
  
Accumulated other comprehensive loss
    
(3,162
)
    
(5,893
)
Total liabilities and stockholders' equity
  
$
93,191
    
$
88,497
  

 
  
Years Ended December 31,
  
Statements of Income
  
2015
    
2014
  
 
  
(in thousands)
  
Income:
  
   
 
Dividends from subsidiaries
  
$
2,900
    
$
2,475
  
Other income
    
200
      
200
  
Total income
    
3,100
      
2,675
  
                 
Expenses:
                
Salaries and benefits
    
432
      
428
  
Legal expenses
    
180
      
107
  
Service fees
    
137
      
143
  
Other operating expenses
    
19
      
(125
)
Total expenses
    
768
      
553
  
Income before income taxes and equity in undistributed net income of subsidiaries
    
2,332
      
2,122
  
Income tax benefit
    
(193
)
    
(120
)
 
    
2,525
      
2,242
  
Equity in undistributed net income of subsidiaries
    
1,109
      
1,874
  
Net income
  
$
3,634
    
$
4,116
  
- 91 -

 
  
Years Ended December 31,
  
Statements of Cash Flows
  
2015
    
2014
  
 
  
(in thousands)
  
Cash flows from operating activities:
  
   
 
Net income
  
$
3,634
    
$
4,116
  
Adjustments to reconcile net income to net cash provided by operating activities:
                
Equity in undistributed net income of subsidiaries
    
(1,109
)
    
(1,874
)
(Increase) decrease in other assets
    
(5
)
    
124
  
Increase (decrease) in other liabilities
    
15
      
(1
)
Net cash provided by operating activities
    
2,535
      
2,365
  
 
                
Cash flows from investing activities:
    
0
      
0
  
 
                
Cash flows from financing activities: cash dividends paid on common stock
    
(1,686
)
    
(1,289
)
                 
Net increase in cash and cash equivalents
    
849
      
1,076
  
Cash and cash equivalents at beginning of year
    
1,349
      
273
  
Cash and cash equivalents at end of year
  
$
2,198
    
$
1,349
  
                 
Supplemental schedule of noncash transactions:
                
Unrealized loss on securities available-for-sale
  
$
(1
)
  
$
(15
)
Book value of equity securities transferred from other assets to available-for-sale
  
$
0
    
$
100
  

NOTE 20, Subsequent Events

In February of 2016, the Company elected to pay off its advance from the Federal Home Loan Bank. This $25 million advance, which would have matured in June of 2016, bore an interest rate of 4.83%, significantly higher than other borrowing sources in the current rate environment. Previously, the Company had elected not to prepay this advance due to the penalty that would be assessed in the event of prepayment. As the amount of the penalty was dependent on market rates of interest, the volatility in the financial markets during the first quarter of 2016 provided the Company with an opportunity to prepay the advance for a penalty that was less than the amount of interest it would have paid for the remaining term of the advance. The amount of the penalty was $391 thousand.

Also in February of 2016, the Company transferred its portfolio of held-to-maturity securities to available-for-sale to increase liquidity and flexibility in the future. This transfer allows the Company to sell these securities as necessary to manage interest rate risk or to fund loan growth. For a detailed discussion of this transfer and its effects on the consolidated financial statements, refer to Note 3, Securities Portfolio.

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

Item 9A. Controls and Procedures

Disclosure Controls and Procedures. Management evaluated, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, the effectiveness of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)) as of the end of the period covered by this report. Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures are effective as of the end of the period covered by this report to ensure that information required to be disclosed in the reports that the Company files or submits under the Exchange Act, is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to management, including the Company's Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
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In designing and evaluating its disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.

Management's Report on Internal Control over Financial Reporting. Management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) of the Exchange Act.

Because of its inherent limitations, a system of internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Management evaluated, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, the effectiveness of the Company's internal control over financial reporting as of December 31, 2015. In conducting this evaluation, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework in 2013. Based on this evaluation, using those criteria, management concluded that the Company's internal control over financial reporting was effective as of December 31, 2015.

Changes in Internal Control over Financial Reporting. There was no change in the Company's internal control over financial reporting that occurred during the fiscal quarter ended December 31, 2015 that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.

Item 9B. Other Information

None.

Part III

Except as otherwise indicated, information called for by the following items under Part III is contained in the Proxy Statement for the Company's 2016 Annual Meeting of Stockholders (the 2016 Proxy Statement) to be held on May 24, 2016.

Item 10. Directors, Executive Officers and Corporate Governance

The information with respect to the directors of the Company is set forth under the caption "Election of Directors" in the 2016 Proxy Statement and is incorporated herein by reference. The information regarding the Section 16(a) reporting requirements of the directors and executive officers is set forth under the caption "Section 16(a) Beneficial Ownership Reporting Compliance" in the 2016 Proxy Statement and is incorporated herein by reference. The information concerning the executive officers of the Company required by this item is included in Part I of this report on Form 10-K under the caption "Executive Officers of the Registrant." The information regarding the Company's Audit Committee and its Audit Committee Financial Expert is set forth under the caption "Board Committees and Attendance" in the 2016 Proxy Statement and is incorporated herein by reference.

The Company has a Code of Ethics which details principles and responsibilities governing ethical conduct for all Company directors, officers, employees and principal stockholders.

A copy of the Code of Ethics will be provided free of charge, upon written request made to the Company's secretary at 1 West Mellen Street, Hampton, Virginia 23663 or by calling (757) 728-1200. The Code of Ethics is also posted on the Company's website at www.oldpoint.com in the "Community" section, under "Investor Relations" and then "Governance Documents." The Company intends to satisfy the disclosure requirements of Form 8-K with respect to waivers of or amendments to the Code of Ethics with respect to certain officers of the Company by posting such disclosures on its website under "Waivers of or amendments to the Code of Ethics." The Company may, however, elect to disclose any such amendment or waiver in a report on Form 8-K filed with the SEC either in addition to or in lieu of the website disclosure.

Item 11. Executive Compensation

The information set forth under the captions "Compensation and Benefits Committee Interlocks and Insider Participation" and "Executive Compensation" in the 2016 Proxy Statement is incorporated herein by reference.
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Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information set forth under the caption "Securities Authorized for Issuance Under Equity Compensation Plans" in the 2016 Proxy Statement is incorporated herein by reference.

The information set forth under the caption "Security Ownership of Certain Beneficial Owners and Management" in the 2016 Proxy Statement is incorporated herein by reference.

Item 13. Certain Relationships and Related Transactions, and Director Independence

The information set forth under the caption "Interest of Management in Certain Transactions" in the 2016 Proxy Statement is incorporated herein by reference.

The information regarding director independence set forth under the caption "Board Committees and Attendance" in the 2016 Proxy Statement is incorporated herein by reference.

Item 14. Principal Accountant Fees and Services

The information set forth under the captions "Principal Accountant Fees" and "Audit Committee Pre-Approval Policy" in the 2016 Proxy Statement is incorporated herein by reference.

Part IV

Item 15. Exhibits, Financial Statement Schedules

(a)(1)     Consolidated Financial Statements
 
The following Consolidated Financial Statements and reports are included in Part II, Item 8, of this report on Form 10-K.
 
Report of Independent Registered Public Accounting Firm (Yount, Hyde & Barbour, P.C.)
Consolidated Balance Sheets – December 31, 2015 and 2014
Consolidated Statements of Income – Years Ended December 31, 2015 and 2014
Consolidated Statements of Comprehensive Income – Years Ended December 31, 2015 and 2014
Consolidated Statements of Changes in Stockholders' Equity – Years Ended December 31, 2015 and 2014
Consolidated Statements of Cash Flows – Years Ended December 31, 2015 and 2014
Notes to Consolidated Financial Statements
 
(a)(2)    Consolidated Financial Statement Schedules
All schedules are omitted since they are not required, are not applicable, or the required information is shown in the Consolidated Financial Statements or notes thereto.

(a)(3)    Exhibits
The following exhibits are filed as part of this Form 10-K and this list includes the Exhibit Index.

Exhibit No.
Description
 
3.1
Articles of Incorporation of Old Point Financial Corporation, as amended June 22, 2000 (incorporated by reference to Exhibit 3.1 to Form 10-K filed on March 12, 2009)
     
 
3.2
Bylaws of Old Point Financial Corporation, as amended and restated March 8, 2011 (incorporated by reference to Exhibit 3.2 to Form 8-K filed on March 10, 2011)
     
 
10.1*
Old Point Financial Corporation 1998 Stock Option Plan, as amended April 24, 2001 (incorporated by reference to Exhibit 4.4 to Form S-8 filed July 24, 2001)
     
 
10.2*
Form of Incentive Stock Option Agreement (incorporated by reference to Exhibit 10.2 to Form 10-K filed March 30, 2005)
     
 
10.3*
Form of Non-Qualified Stock Option Agreement (incorporated by reference to Exhibit 10.3 to Form 10-K filed March 30, 2005)
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10.4*
Form of Life Insurance Endorsement Method Split Dollar Plan Agreement with The Northwestern Mutual Life Insurance Company entered into with each of Robert F. Shuford, Sr., Louis G. Morris, Laurie D. Grabow and Eugene M. Jordan, II (incorporated by reference to Exhibit 10.4 to Form 10-K filed March 30, 2005)
     
 
10.5*
Directors' Compensation
     
 
10.6*
Base Salaries of Executive Officers of the Registrant
     
 
10.7*
Summary of Old Point Financial Corporation Incentive Plan (incorporated by reference to Exhibit 10.7 to Form 10-K filed March 30, 2015)
     
 
10.8*
Form of Life Insurance Endorsement Method Split Dollar Plan Agreement with Ohio National Life Assurance Corporation entered into with each of Louis G. Morris, Laurie D. Grabow and Eugene M. Jordan, II (incorporated by reference to Exhibit 10.8 to Form 10-K filed March 14, 2008)
     
 
10.9
Memorandum of Understanding between The Old Point National Bank of Phoebus and Tidewater Mortgage Services, Inc., dated September 10, 2007 (incorporated by reference to Exhibit 10.8 to Form 10-Q filed November 9, 2007)
     
 
10.10*
Form of 162 Insurance Plan (incorporated by reference to Exhibit 10.10 to Form 10-K filed March 12, 2009)
     
 
10.11*
Form of Life Insurance Endorsement Method Split Dollar Plan Agreement with Ohio National Life Assurance Corporation entered into with Joseph R. Witt (incorporated by reference to Exhibit 10.11 to Form 10-K filed March 12, 2010)
 
 
 
 
10.12*
Form of Life Insurance Endorsement Method Split Dollar Plan Agreement with New York Life Insurance and Annuity Corporation entered into with Eugene M. Jordan, II, Robert F. Shuford, Jr., and Joseph R. Witt (incorporated by reference to Exhibit 10.12 to Form 10-K filed March 30, 2012)
     
 
10.13*
Separation Agreement and General Release by and between Louis G. Morris and Old Point Financial Corporation and The Old Point National Bank of Phoebus, dated September 8, 2015 (incorporated by reference to Exhibit 10.13 to Form 10-Q filed November 9, 2015)
     
 
21
Subsidiaries of the Registrant (incorporated by reference to Exhibit 21 to Form 10-K filed March 30, 2005)
     
 
23
Consent of Yount, Hyde & Barbour, P.C.
     
 
24
Powers of Attorney
     
 
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
The following materials from Old Point Financial Corporation's annual report on Form 10-K for the year ended December 31, 2015, formatted in XBRL (Extensible Business Reporting Language), filed herewith: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Income, (iii) Consolidated Statements of Comprehensive Income (Loss), (iv) Consolidated Statements of Changes in Stockholders' Equity, (v) Consolidated Statements of Cash Flows, and (vi) Notes to Consolidated Financial Statements
     
* Denotes management contract.
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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 
OLD POINT FINANCIAL CORPORATION
 
 
 
 
 
 
 
/s/Robert F. Shuford, Sr.
 
 
 
Robert F. Shuford, Sr.,
 
 
 
Chairman, President & Chief Executive Officer 
 
 
 
 
 
 
Date: March 11, 2016
 
 
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
 
/s/Robert F. Shuford, Sr.
 
Chairman, President & Chief Executive Officer and Director
Robert F. Shuford, Sr.
 
Principal Executive Officer
 
 
 
Date: March 11, 2016
 
 
 
 
 
/s/Laurie D. Grabow
 
Chief Financial Officer & Senior Vice President/Finance
Laurie D. Grabow
 
Principal Financial & Accounting Officer
 
 
 
Date: March 11, 2016
  
 
 
 
 
/s/Stephen C. Adams*
 
Director
Stephen C. Adams
 
 
 
 
 
/s/James Reade Chisman*
 
Director
James Reade Chisman
 
 
 
 
 
/s/Russell S. Evans, Jr.*
 
Director
Russell S. Evans, Jr.
 
 
 
 
 
/s/Michael A. Glasser*
 
Director
Michael A. Glasser
 
 
 
 
 
/s/Dr. Arthur D. Greene*
 
Director
Dr. Arthur D. Greene
 
 
 
 
 
/s/John Cabot Ishon*
 
Director
John Cabot Ishon
 
 
 
 
 
/s/Tom B. Langley*
 
Director
Tom B. Langley
 
 
     
/s/Dr. H. Robert Schappert*
 
Director
Dr. H. Robert Schappert
 
 
 
 
 
/s/Robert F. Shuford, Jr.*
 
Director
Robert F. Shuford, Jr.
 
 
 
 
 
/s/Ellen Clark Thacker*
 
Director
Ellen Clark Thacker
 
 
 
 
 
/s/Joseph R. Witt*
 
Director
Joseph R. Witt
 
 

*By Robert F. Shuford, Sr., as Attorney in Fact

Date: March 11, 2016
 
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