West End Indiana Bancshares, Inc. - FORM 10-Q

Attached files

file	filename
EX-32 - EXHIBIT 32 - West End Indiana Bancshares, Inc.	tv500673_ex32.htm
EX-31.2 - EXHIBIT 31.2 - West End Indiana Bancshares, Inc.	tv500673_ex31-2.htm
EX-31.1 - EXHIBIT 31.1 - West End Indiana Bancshares, Inc.	tv500673_ex31-1.htm

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended June 30, 2018

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

For the transition period from _______________ to _______________

Commission File No. 000-54578

West End Indiana Bancshares, Inc.

(Exact name of registrant as specified in its charter)

Maryland		36-4713616
(State or other jurisdiction of in Company or organization)		(I.R.S. Employer Identification Number)

34 South 7^th Street, Richmond, Indiana		47374
(Address of Principal Executive Offices)		Zip Code

(765) 962-9587

(Registrant’s telephone number)

N/A

(Former name or former address, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such requirements for the past 90 days.

YES x NO ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

YES x NO ¨

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

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

YES ¨ NO x

As of August 14, 2018, there were 1,065,497 issued and outstanding shares of the Registrant’s Common Stock.

West End Indiana Bancshares, Inc.

Form 10-Q

Index

		Page
Part I. Financial Information

Item 1.	Condensed Consolidated Financial Statements

	Condensed Consolidated Balance Sheets	1

	Condensed Consolidated Statements of Operations	2

	Condensed Consolidated Statements of Comprehensive Income (Loss)	3

	Condensed Consolidated Statements of Cash Flows	4

	Condensed Statement of Stockholders’ Equity	5

	Notes to Condensed Consolidated Financial Statements (unaudited)	6

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	31

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	39

Item 4.	Controls and Procedures	39

Part II. Other Information

Item 1.	Legal Proceedings	39

Item 1A.	Risk Factors	39

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	39

Item 3.	Defaults upon Senior Securities	39

Item 4.	Mine Safety Disclosures	39

Item 5.	Other Information	39

Item 6.	Exhibits	40

	Signature Page	40

Part I. – Financial Information

Item 1.

Financial Statements

West End Indiana Bancshares, Inc.

Condensed Consolidated Balance Sheets

	June 30,			December 31,
	2018			2017
	(Unaudited)
Assets
Cash and due from banks	$	1,644,332		$	1,588,203
Interest-bearing demand deposits		12,057,462			8,757,619
Cash and cash equivalents		13,701,794			10,345,822
Investment securities available for sale		21,693,795			20,296,672
Loans held for sale		519,869			2,877,012
Loans, net of allowance for loan losses of $3,074,250 and $2,744,684		250,774,906			240,858,812
Premises and equipment		8,998,703			9,127,886
Federal Home Loan Bank stock		2,435,700			2,435,700
Interest receivable		1,044,131			1,103,553
Bank-owned life insurance		7,046,811			6,959,909
Foreclosed real estate held for sale		39,375			39,375
Other assets		5,472,443			5,369,094

Total assets		311,727,527		$	299,413,835

Liabilities and Equity

Liabilities
Deposits	$	230,153,185		$	226,980,788
Federal Home Loan Bank advances		50,500,000			41,500,000
Interest payable		126,827			105,709
Other liabilities		1,480,379			1,797,971
Total liabilities		282,260,391			270,384,468

Commitments and Contingencies

Redeemable common stock held by Employee Stock Ownership Plan (ESOP)		885,045			854,526

Stockholders’ Equity
Common stock, $.01 par value per share: Issued and outstanding – 1,065,251 and 1,066,858		10,653			10,668
Additional paid in capital		6,201,190			6,062,163
Retained earnings		24,667,269			24,029,397
Unearned employee stock ownership plan (ESOP)		(756,540	)		(784,560	)
Accumulated other comprehensive loss		(655,436	)		(288,301	)

Total stockholders’ equity		29,467,136			29,029,367

Less maximum cash obligation related to ESOP shares		(885,045	)		(854,526	)

Total stockholders’ equity less maximum cash obligation related to ESOP shares		28,582,091			28,174,841

Total liabilities and stockholders’ equity	$	311,727,527		$	299,413,835

The accompanying notes are an integral part of these financial statements.

West End Indiana Bancshares, Inc.

Condensed Consolidated Statements of Operations

	Three Months Ended					Six Months Ended
	June 30,					June 30,
	2018		2017			2018		2017
	(Unaudited)
Interest and Dividend Income
Loans receivable, including fees	$	3,573,124	$	3,391,173		$	7,027,780	$	6,662,270
Investment securities		111,289		103,231			213,960		207,602
Other		66,386		33,813			134,507		58,341
Total interest income		3,750,799		3,528,217			7,376,247		6,928,213

Interest Expense
Deposits		533,063		407,564			1,032,544		792,078
Federal Home Loan Bank advances		232,424		107,372			433,574		210,927
Total interest expense		765,487		514,936			1,466,118		1,003,005

Net Interest Income		2,985,312		3,013,281			5,910,129		5,925,208
Provision for loan losses		478,853		406,000			1,033,898		764,000
Net Interest After Provision for Loan Losses		2,506,459		2,607,281			4,876,231		5,161,208

Other Income
Service charges on deposit accounts		180,397		180,746			353,132		336,361
Loan servicing income, net		46,784		8,557			127,465		40,105
Debit card income		103,566		94,989			197,628		188,700
Gain on sale of loans		33,765		144,748			145,543		253,951
Increase in cash surrender value of life insurance		43,500		43,589			86,902		88,052
Gain (loss) on other assets		27,454		(481,532	)		19,798		(502,940	)
Other income (loss)		12,022		(209	)		23,366		201
Total other income (loss)		447,488		(9,112	)		953,834		404,430

Other Expense
Salaries and employee benefits		1,394,755		1,309,234			2,781,373		2,625,153
Net occupancy		208,662		142,111			417,121		280,280
Data processing fees		120,338		117,508			244,353		220,696
Professional fees		111,352		239,196			211,080		318,378
Director expenses		24,372		31,527			48,672		64,478
Advertising		67,768		80,207			123,546		151,531
ATM charges		46,242		91,433			87,850		169,241
Postage and courier		59,646		63,866			122,302		125,175
FDIC insurance premiums		41,000		32,000			80,000		84,000
Foreclosed real estate and repossession expense		66,258		355,677			112,575		390,205
Other expenses		339,412		312,132			659,996		645,858
Total other expenses		2,479,805		2,774,891			4,888,868		5,074,995

Income (Loss) Before Income Tax		474,142		(176,722	)		941,197		490,643
Income tax expense (benefit)		119,871		(77,498	)		239,397		152,177

Net Income (Loss)	$	354,271	$	(99,224	)	$	701,800	$	338,466

Earnings (Loss) Per Share
Basic	$	0.36	$	(0.10	)	$	0.71	$	0.34
Diluted		0.34		(0.10	)		0.68		0.33
Dividends Per Share		0.07		0.06			0.13		0.12

The accompanying notes are an integral part of these financial statements.

West End Indiana Bancshares, Inc.

Condensed Consolidated Statements of Comprehensive Income (Loss)

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2018			2017			2018			2017
	(Unaudited)
Net income (loss)	$	354,271		$	(99,224	)	$	701,800		$	338,466
Other comprehensive income (loss), net of tax

Unrealized holding gains arising during the period, net of tax expense (benefit) of $(25,552) and $29,836, $(106,778) and $41,728		(72,217	)		48,269			(301,786	)		66,484
		(72,217	)		48,269			(301,786	)		66,484
Comprehensive income (loss)	$	282,054		$	(50,955	)	$	400,014		$	404,950

The accompanying notes are an integral part of these financial statements.

West End Indiana Bancshares, Inc.

Condensed Consolidated Statements of Cash Flows

	Six Months Ended
	June 30,
	2018			2017
	(Unaudited)
Operating Activities
Net income	$	701,800		$	338,466
Items not requiring (providing) cash
Provision for loan losses		1,033,898			764,000
Depreciation and amortization		255,371			133,895
Investment securities amortization, net		148,676			163,833
Loan originated for sale		(4,204,100	)		(8,164,749	)
Proceeds on loan sold		6,656,241			8,279,942
Loss (gain) on other assets		(19,798	)		502,940
ESOP shares earned		80,403			85,522
Stock based compensation		132,750			143,685
Gain on loans sold		(145,543	)		(253,951	)
Increase in surrender value of life insurance		(86,902	)		(88,052	)
Net change in
Interest receivable		59,422			119,074
Interest payable		21,118			(1,355	)
Other adjustments		(158,345	)		(74,716	)
Net cash provided by operating activities		4,474,991			1,948,534

Investing Activities
Purchases of securities available for sale		(4,126,227	)		(1,016,563	)
Proceeds from maturities of securities available for sale		2,171,864			2,059,922
Purchase of FHLB stock		-			(297,100	)
Net change in loans		(11,181,565	)		(3,987,296	)
Purchase of premises and equipment		(126,189	)		(2,404,716	)
Proceeds from sale of foreclosed real estate		146,099			71,412
Net cash used in investing activities		(13,116,018	)		(5,574,341	)

Financing Activities
Net change in demand deposits, money market, NOW, and savings accounts		516,746			8,277,268
Net change in certificates of deposit		2,655,651			(8,558,393	)
Repurchased shares		(46,121	)		(28,295	)
Repayment of FHLB advances		(13,000,000	)		(18,500,000	)
Proceeds from FHLB advances		22,000,000			25,000,000
Cash dividends		(129,277	)		(117,972	)
Net cash provided by financing activities		11,996,999			6,072,608
Net Change in Cash and Cash Equivalents		3,355,972			2,446,801
Cash and Cash Equivalents, Beginning of Period		10,345,822			7,649,356
Cash and Cash Equivalents, End of Period	$	13,701,794		$	10,096,157
Additional Cash Flows Information
Interest paid	$	1,445,000		$	1,006,615
Income tax paid		10			362,440
Real estate and repossessions acquired in settlement of loans		451,980			259,440
Sale and financing of foreclosed real estate and repossessions		232,837			117,293

The accompanying notes are an integral part of these financial statements.

West End Indiana Bancshares, Inc.

Condensed Statement of Changes in Stockholders’ Equity

For the Six Months Ended June 30, 2018

																			Maximum
																			Cash
																Accumulated			Obligation
	Common Stock						Additional						Unearned			Other			Related to			Total
	Shares						Paid-In			Retained			ESOP			Comprehensive			ESOP			Stockholders’
	Outstanding			Amount			Capital			Earnings			Shares			Loss			Shares			Equity
	(Unaudited)
Balances at January 1, 2018		1,066,858		$	10,668		$	6,062,163		$	24,029,397		$	(784,560	)	$	(288,301	)	$	(854,526	)	$	28,174,841
Net income		-			-			-			701,800			-			-			-			701,800
Other comprehensive loss		-			-			-			-			-			(301,786	)		-			(301,786	)
Reclassification in connection with ASU 2018-02		-			-			-			65,349			-			(65,349	)		-			-
ESOP shares earned		-			-			52,383			-			28,020			-			-			80,403
Stock based compensation expense		-			-			132,750			-			-			-			-			132,750
Change in obligation related to ESOP shares		-			-			-			-			-			-			(30,519	)		(30,519	)
Shares Repurchased		(1,607	)		(15	)		(46,106	)														(46,121	)
Cash dividends ($0.13) per share		-			-			-			(129,277	)		-			-			-			(129,277	)
Balances at June 30, 2018		1,065,251		$	10,653		$	6,201,190		$	24,667,269		$	(756,540	)	$	(655,436	)	$	(885,045	)	$	28,582,091

The accompanying notes are an integral part of these financial statements.

West End Indiana Bancshares, Inc.

Form 10-Q

Notes to Condensed Consolidated Financial Statements

NOTE 1: Nature of Operations and Conversion

West End Bank, S.B. (the “Bank”), a wholly owned subsidiary of West End Indiana Bancshares, Inc. (the “Company”), is an Indiana-chartered savings bank that was organized in 1894 and is headquartered in Richmond, Indiana.

The Bank provides financial services to individuals, families and businesses through its four banking offices located in the Indiana counties of Union and Wayne and limited service branches located in the elementary schools and high school in Richmond, Indiana at which the Bank offers more limited banking services and at which it provides banking seminars to students who assist in the branch operations. Our principal business consists of attracting retail deposits from the general public in our market area and investing those deposits, together with funds generated from operations, and to a lesser extent, borrowings, in one- to four- family residential real estate loans, indirect automobile loans, commercial and multi-family real estate loans, and to a lesser extent, second mortgages and equity lines of credit, construction loans and commercial business loans. We also purchase investment securities consisting of municipal bonds, and mortgage-backed securities.

Basis of Presentation

The accompanying unaudited consolidated condensed financial statements were prepared in accordance with instructions for Form 10-Q and, therefore, do not include information or footnotes necessary for a complete presentation of financial position, results of operations, and cash flows in conformity with generally accepted accounting principles. Accordingly, these financial statements should be read in conjunction with the consolidated financial statements and notes thereto of the Company included in the Annual Report on Form 10-K for the year ended December 31, 2017. However, in the opinion of management, all adjustments (consisting of only normal recurring accruals) which are necessary for a fair presentation of the financial statements have been included. The results of operations for the three and six month periods ended June 30, 2018, are not necessarily indicative of the results which may be expected for the entire year. The consolidated condensed balance sheet of the Company as of December 31, 2017 has been derived from the audited consolidated balance sheet of the Company as of that date.

Principals of Consolidation and Revenue from Contract with Customers

The consolidated financial statements include the accounts of West End Indiana Bancshares, Inc. and its wholly owned subsidiary, West End Bank, S.B. All significant intercompany accounts and transactions have been eliminated in consolidation.

Revenue from Contracts with Customers

The Company records revenue from contracts with customers in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“Topic 606”). Under Topic 606, the Company must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the Company satisfies a performance obligation. Significant revenue has not been recognized in the current reporting period that results from performance obligations satisfied in previous periods.

The Company’s primary sources of revenue are derived from interest and dividends earned on loans, investment securities, and other financial instruments that are not within the scope of Topic 606. The Company has evaluated the nature of its contracts with customers and determined that further disaggregation of revenue from contracts with customers into more granular categories beyond what is presented in the Consolidated Statements of Income was not necessary. The Company generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers.

NOTE 2: Securities

The amortized cost and approximate fair values of securities are as follows:

	June 30, 2018 (Unaudited)
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Approximate Fair Value
	(In Thousands)
Available for sale
Municipal bonds	$	2,019	$	-	$	(171	)	$	1,848
Mortgage-backed securities - GSE residential		20,562		-		(716	)		19,846

Total available for sale	$	22,581	$	-	$	(887	)	$	21,694

	December 31, 2017
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Approximate Fair Value
	(In Thousands)
Available for sale
Municipal bonds	$	2,019	$	-	$	(67	)	$	1,952
Mortgage-backed securities - GSE residential		18,757		2		(414	)		18,345

Total available for sale	$	20,776	$	2	$	(481	)	$	20,297

The amortized cost and fair value of securities available for sale at June 30, 2018 (unaudited) and December 31, 2017, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

	June 30, 2018				December 31, 2017
	(Unaudited)
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
	(In Thousands)
After ten years	$	2,019	$	1,848		2,019		1,952
Mortgage-backed securities - GSE residential		20,562		19,846		18,757		18,345

Totals	$	22,581	$	21,694	$	20,776	$	20,297

The carrying value of securities pledged as collateral, to secure public deposits and for other purposes, was $11,602,000 at June 30, 2018 (unaudited). Securities pledged at December 31, 2017 were $13,473,000.

There were no activities related to the sales of securities available for sale for the six months ended June 30, 2018 and 2017.

Certain investments in debt securities are reported in the consolidated financial statements at an amount less than their historical cost. Total fair value of these investments at June 30, 2018 (unaudited) and December 31, 2017 was $21,694,000 and $19,627,000 which is approximately 100% and 97% of the Company’s available-for-sale investment portfolio. These declines primarily resulted from changes in market interest rates.

Based on evaluation of available evidence, including recent changes in market interest rates, credit rating information and information obtained from regulatory filings, management believes the declines in fair value for these securities are temporary.

Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified.

Securities with unrealized losses at June 30, 2018 (unaudited) were as follows:

	Less Than 12 Months					12 Months or Longer					Total
	Fair Value		Unrealized Losses			Fair Value		Gross Unrealized Losses			Fair Value		Gross Unrealized Losses
	(In Thousands)
Available-for-sale securities
Municipal bonds	$	-	$	-		$	1,848	$	(171	)	$	1,848	$	(171	)
Mortgage-backed securities - GSE residential		6,246		(93	)		13,600		(623	)		19,846		(716	)

	$	6,246	$	(93	)	$	15,448	$	(794	)	$	21,694	$	(887	)

Securities with unrealized losses at December 31, 2017 were as follows:

	Less Than 12 Months					12 Months or Longer					Total
	Fair Value		Unrealized Losses			Fair Value		Gross Unrealized Losses			Fair Value		Gross Unrealized Losses
	(In Thousands)
Available-for-sale securities
Municipal bonds	$	-	$	-		$	1,952	$	(67	)	$	1,952	$	(67	)
Mortgage-backed securities - GSE residential		4,644		(40	)		13,031		(374	)		17,675		(414	)

	$	4,644	$	(40	)	$	14,983	$	(441	)	$	19,627	$	(481	)

Municipal Bonds

The unrealized losses on the Company’s investments in municipal bonds were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost bases of the investments. Because the Company does not intend to sell the investments and it is not more likely than not the Company will be required to sell the investments before recovery of their amortized cost bases, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at June 30, 2018.

Mortgage-backed Securities – GSE Residential

The unrealized losses on the Company’s investment in mortgage-backed securities were caused by interest rate increases. The Company expects to recover the amortized cost basis over the term of the securities. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the investments and it is not more likely than not the Company will be required to sell the investments before recovery of their amortized cost bases, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at June 30, 2018.

NOTE 3: Loans and Allowance

The Company’s loan and allowance policies are as follows:

Loans

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

For all loan classes, the accrual of interest is discontinued at the time the loan is 90 days past due unless the credit is well-secured and in process of collection. Past due status is based on contractual terms of the loan. For all loan classes, the entire balance of the loan is considered past due if the minimum payment contractually required to be paid is not received by the contractual due date. For all loan classes, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful.

Consistent with regulatory guidance, charge-offs on all loan segments are taken when specific loans, or portions thereof, are considered uncollectible. The Company’s policy is to promptly charge these loans off in the period the uncollectible loss is reasonably determined.

For all loan portfolio segments except residential and consumer loans, the Company promptly charges-off loans, or portions thereof, when available information confirms that specific loans are uncollectible based on information that includes, but is not limited to, (1) the deteriorating financial condition of the borrower, (2) declining collateral values, and/or (3) legal action, including bankruptcy, that impairs the borrower’s ability to adequately meet its obligations. For impaired loans that are considered to be solely collateral dependent, a partial charge-off is recorded when a loss has been confirmed by an updated appraisal or other appropriate valuation of the collateral.

The Company charges off residential and consumer loans, or portions thereof, when the Company reasonably determines the amount of the loss. The Company adheres to timeframes established by applicable regulatory guidance which provides for the charge-down of 1-4 family first and junior lien mortgages to the net realizable value less costs to sell when the loan is 180 days past due, charge-off of unsecured open-end loans when the loan is 180 days past due, and charge down to the net realizable value when other secured loans are 120 days past due. Loans at these respective delinquency thresholds for which the Company can clearly document that the loan is both well-secured and in the process of collection, such that collection will occur regardless of delinquency status, need not be charged off.

For all for classes, all interest accrued but not collected for loans that are placed on nonaccrual or charged off are 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 returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured. Nonaccrual loans are returned to accrual status when, in the opinion of management, the financial position of the borrower indicates there is no longer any reasonable doubt as to the timely collection of interest or principal. The Company requires a period of satisfactory performance of not less than six months before returning a nonaccrual loan to accrual status.

When cash payments are received on impaired loans in each loan class, the Company records the payment as interest income unless collection of the remaining recorded principal amount is doubtful, at which time payments are used to reduce the principal balance of the loan. Troubled debt restructured loans recognize interest income on an accrual basis at the renegotiated rate if the loan is in compliance with the modified terms.

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 income. Loan losses are charged against the allowance when management believes the uncollectability 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 collectability 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. For those loans that are classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers non-impaired loans and is based on historical charge-off experience by segment. The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Company over the prior three years. Management believes the three year historical loss experience methodology is appropriate in the current economic environment. Other adjustments (qualitative/environmental considerations) for each segment may be added to the allowance for each loan segment after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risk rating data.

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 based on the loan’s current payment status and the borrower’s financial condition including available sources of cash flows. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for non-homogenous type loans such as commercial, non-owner residential and construction loans 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 impaired loans where the Company utilizes the discounted cash flows to determine the level of impairment, the Company includes the entire change in the present value of cash flows as bad debt expense.

The fair values of collateral dependent impaired loans are based on independent appraisals of the collateral. In general, the Company acquires an updated appraisal upon identification of impairment and annually thereafter for commercial, commercial real estate and multi-family loans. If the most recent appraisal is over a year old, and a new appraisal is not performed, due to lack of comparable values or other reasons, the existing appraisal is utilized and discounted 25% - 35% based on the age of the appraisal, condition of the subject property, and overall economic conditions. After determining the collateral value as described, the fair value is calculated based on the determined collateral value less selling expenses. The potential for outdated appraisal values is considered in our determination of the allowance for loan losses through our analysis of various trends and conditions including the local economy, trends in charge-offs and delinquencies, etc. and the related qualitative adjustments assigned by the Company.

Segments of loans with similar risk characteristics are collectively evaluated for impairment based on the segment’s historical loss experience adjusted for changes in trends, conditions and other relevant factors that affect repayment of the loans. Accordingly, the Company does not separately identify individual consumer and residential loans for impairment measurements, unless such loans are the subject of a restructuring agreement due to financial difficulties of the borrower.

Categories of loans include:

	(Unaudited)
	June 30,		December 31,
	2018		2017
	(In Thousands)
Commercial	$	12,878	$	11,572
Real estate loans
Residential		63,091		61,885
Commercial and multi-family		61,364		57,485
Construction		3,850		2,093
Second mortgages and equity lines of credit		6,366		6,594
Consumer loans
Indirect		87,740		86,109
Other		18,661		17,978
		253,950		243,176
Less
Net deferred loan fees, premiums and discounts		101		112
Allowance for loan losses		3,074		2,745
Total loans	$	250,775	$	240,859

The risk characteristics of each loan portfolio segment are as follows:

Commercial

Commercial loans are primarily based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. The cash flows of borrowers, however, may not be as expected and the collateral securing these loans may fluctuate in value. Most commercial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and may incorporate a personal guarantee; however, some short-term loans may be made on an unsecured basis. In the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers.

Commercial and multi-family real estate

These loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Commercial and multi-family real estate lending typically involves higher loan principal amounts and the repayment of these loans is generally dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan.

Commercial and multi-family real estate loans may be more adversely affected by conditions in the real estate markets or in the general economy. The properties securing the Company’s commercial and multi-family real estate portfolio are diverse in terms of type and geographic location. Management monitors and evaluates commercial real estate loans based on collateral, geography and risk grade criteria. In addition, management tracks the level of owner-occupied commercial real estate loans versus non-owner occupied loans.

Construction

Construction loans are underwritten utilizing feasibility studies, independent appraisal reviews and financial analysis of the developers and property owners. Construction loans are generally based on estimates of costs and value associated with the complete project. These estimates may be inaccurate. Construction loans often involve the disbursement of substantial funds with repayment substantially dependent on the success of the ultimate project. Sources of repayment for these types of loans may be pre-committed permanent loans from approved long-term lenders, sales of developed property or an interim loan commitment from the Company until permanent financing is obtained. These loans are closely monitored by on-site inspections and are considered to have higher risks than other real estate loans due to their ultimate repayment being sensitive to interest rate changes, governmental regulation of real property, general economic conditions and the availability of long-term financing.

Residential, Second mortgages and equity lines of credit and Consumer

With respect to residential loans that are secured by 1-4 family residences, the Company generally establishes a maximum loan-to-value ratio and requires private mortgage insurance if that ratio is exceeded. Second mortgages and equity lines of credit loans are typically secured by a subordinate interest in 1-4 family residences, and consumer loans are secured by consumer assets such as automobiles or recreational vehicles. Some consumer loans are unsecured such as small installment loans. Repayment of these loans is primarily dependent on the personal income of the borrowers, which can be impacted by economic conditions in their market areas such as unemployment levels. Risk is mitigated by the fact that the loans are of smaller individual amounts and spread over a large number of borrowers.

The following table presents by portfolio segment the activity in the allowance for loan losses for the three and six months ended June 30, 2018 (unaudited) and 2017 (unaudited):

	(Unaudited)
				Real Estate
	Commercial			Residential			Commercial and Multi-Family			Construction		Seconds and Equity Line		Consumer			Total
	(In Thousands)
Three Months Ended June 30, 2018:
Balance, beginning of period	$	556		$	198		$	875		$	3	$	9	$	1,331		$	2,972
Provision for losses		2			24			11			1		1		440			479
Recoveries on loans		2			1			—			—		—		38			41
Loans charged off		(3	)		(15	)		—			—		—		(400	)		(418	)

Balance, end of period	$	557		$	208		$	886		$	4	$	10	$	1,409		$	3,074

Six Months Ended June 30, 2018
Balance, beginning of year	$	303		$	191		$	886		$	2	$	10	$	1,353		$	2,745
Provision for losses		255			43			1			2		—		733			1,034
Recoveries on loans		2			16			—			—		—		70			88
Loans charged off		(3	)		(42	)		(1	)		—		—		(747	)		(793	)

Balance, end of period	$	557		$	208		$	886		$	4	$	10	$	1,409		$	3,074

	(Unaudited)
				Real Estate
	Commercial			Residential			Commercial and Multi-Family			Construction		Seconds and Equity Line		Consumer			Total
	(In Thousands)
Three Months Ended June 30, 2017:
Balance, beginning of period	$	251		$	298		$	685		$	1	$	2	$	1,085		$	2,322
Provision for losses		174			4			(60	)		1		3		284			406
Recoveries on loans		—			1			—			—		—		59			60
Loans charged off		(121	)		(34	)		—			—		—		(263	)		(418	)

Balance, end of period	$	304		$	269		$	625		$	2	$	5	$	1,165		$	2,370

Six Months Ended June 30, 2017
Balance, beginning of period	$	247		$	329		$	670		$	—	$	—	$	1,031		$	2,277
Provision for losses		178			14			(13	)		2		5		578			764
Recoveries on loans		—			2			—			—		—		120			122
Loans charged off		(121	)		(76	)		(32	)		—		—		(563	)		(792	)

Balance, end of period	$	304		$	269		$	625		$	2	$	5	$	1,165		$	2,370

The following table presents the balance in the allowance for loan losses and the recorded investment in loans based on portfolio segment and impairment method as of June 30, 2018 (unaudited) and December 31, 2017:

			June 30, 2018
			Real Estate
					Commercial				Seconds
					and				and
	Commercial		Residential		Multi-Family		Construction		Equity Line		Consumer		Total
	(In Thousands)
Allowance:
Balance, end of period	$	557	$	208	$	886	$	4	$	10	$	1,409	$	3,074
Individually evaluated for impairment		461		-		556		-		-		-		1,017
Collectivity evaluated for impairment		96		208		330		4		10		1,409		2,057
Loans:
Ending balance	$	12,878	$	63,091	$	61,364	$	3,850	$	6,366	$	106,401	$	253,950
Individually evaluated for impairment		803		-		1,589		-		-		-		2,392
Collectivity evaluated for impairment		12,075		63,091		59,775		3,850		6,366		106,401		251,558

			December 31, 2017
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Allowance:
Balance, end of year	$	303	$	191	$	886	$	2	$	10	$	1,353	$	2,745
Individually evaluated for impairment		214		-		556		-		-		-		770
Collectivity evaluated for impairment		89		191		330		2		10		1,353		1,975
Loans:
Ending balance	$	11,572	$	61,885	$	57,485	$	2,093	$	6,594	$	104,087	$	243,716
Individually evaluated for impairment		814		-		1,605		-		-		-		2,419
Collectivity evaluated for impairment		10,758		61,885		55,880		2,093		6,594		104,087		241,297

The following table presents the credit risk profile of the Bank’s loan portfolio based on rating category and payment activity as of June 30, 2018 (unaudited) and December 31, 2017:

			(Unaudited) June 30, 2018
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)

Pass	$	11,935	$	62,770	$	56,799	$	3,850	$	6,366	$	106,401	$	248,121
Watch		140		—		981		—		—		—		1,121
Special Mention		—		321		1,995		—		—		—		2,316
Substandard		803		––		1,589		—		—		—		2,392
Doubtful		—		—		—		—		—		—		—
Loss		—		—		—		—		—		—		—

Total	$	12,878	$	63,091	$	61,364	$	3,850	$	6,366	$	106,401	$	253,950

			December 31, 2017
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)

Pass	$	10,601	$	61,561	$	52,873	$	2,093	$	6,594	$	104,087	$	237,809
Watch		157		––		992		—		—		—		1,149
Special Mention		––		324		2,015		—		––		—		2,339
Substandard		814		––		1,605		—		—		––		2,419
Doubtful		––		—		—		—		—		—		––
Loss		—		—		—		—		––		—		––

Total	$	11,572	$	61,885	$	57,485	$	2,093	$	6,594	$	104,087	$	243,716

The Company generally categorizes all classes of loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. Generally, smaller dollar consumer loans are excluded from this grading process and are reflected in the Pass category. The delinquency trends of these consumer loans are monitored on homogeneous basis and the related delinquent amounts are reflected in the aging analysis table below. The Company uses the following definitions for risk ratings:

The Pass asset quality rating encompasses assets that have generally performed as expected. With the exception of some smaller consumer and residential loans, these assets generally do not have delinquency. Loans assigned this rating include loans to borrowers possessing solid credit quality with acceptable risk. Borrowers in these grades are differentiated from higher grades on the basis of size (capital and/or revenue), leverage, asset quality, stability of the industry or specific market area and quality/coverage of collateral. These borrowers generally have a history of consistent earnings and reasonable leverage.

The Watch asset quality rating encompasses assets that have been brought to the attention of management and may, if not corrected, warrant a more serious quality rating by management. These assets are usually in the first phase of a deficiency situation and may possess similar criteria as Special Mention assets. This grade includes “pass grade” loans to borrowers which require special monitoring because of deteriorating financial results, declining credit ratings, decreasing cash flow, increasing leverage, marginal collateral coverage or industry stress that has resulted or may result in a changing overall risk profile.

The Special Mention asset quality rating encompasses assets that have potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the institution’s credit position at some future date. Special mention assets are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification. This grade is intended to include loans to borrowers whose credit quality has clearly deteriorated and where risk of further decline is possible unless active measures are taken to correct the situation. Weaknesses are considered potential at this state and are not yet fully defined.

The Substandard asset quality rating encompasses assets that are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any; assets having a well-defined weakness(es) based upon objective evidence; assets characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected; or the possibility that liquidation will not be timely. Loans categorized in this grade possess a well-defined credit weakness and the likelihood of repayment from the primary source is uncertain. Significant financial deterioration has occurred and very close attention is warranted to ensure the full repayment without loss. Collateral coverage may be marginal and the accrual of interest has been suspended.

The Doubtful asset quality rating encompasses assets that have all of the weaknesses of those classified as Substandard. In addition, these weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

The Loss asset quality rating encompasses assets that are considered uncollectible and of such little value that their continuance as assets of the bank is not warranted. A loss classification does not mean that an asset has no recovery or salvage value; instead, it means that it is not practical or desirable to defer writing off or reserving all or a portion of a basically worthless asset, even though partial recovery may be realized in the future.

The Company evaluates the loan grading system definitions and allowance for loan loss methodology on an ongoing basis. No significant changes were made to either during 2018.

The following table presents the Bank’s loan portfolio aging analysis as of June 30, 2018 (unaudited) and December 31, 2017:

			June 30, 2018
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
30-59 days past due	$	11	$	547	$	-	$	-	$	-	$	1,645	$	2,203
60-89 days past due		-		210		154		-		6		725		1,095
Greater than 90 days past due		43		195		-		-		18		811		1,067
Total past due		54		952		154		-		24		3,181		4,365
Current		12,824		62,139		61,210		3,850		6,342		103,220		249,585
Total loans	$	12,878	$	63,091	$	61,364	$	3,850	$	6,366	$	106,401	$	253,950

Nonaccrual loans	$	-	$	113	$	-	$	-	$	-	$	17	$	130
Past due 90 days and accruing		43		82		-		-		18		794		937
Total	$	43	$	195	$	-	$	-	$	18	$	811	$	1,067

			December 31, 2017
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
30-59 days past due	$	10	$	378	$	-	$	-	$	57	$	1,536	$	1,981
60-89 days past due		-		18		39		-		-		472		529
Greater than 90 days and accruing		-		149		8		-		-		666		823
Total past due		10		545		47		-		57		2,674		3,333
Current		11,562		61,340		57,438		2,093		6,537		101,413		240,383
Total loans	$	11,572	$	61,885	$	57,485	$	2,093	$	6,594	$	104,087	$	243,716

Nonaccrual loans	$	-	$	115	$	8	$	-	$	-	$	-	$	123
Past due 90 days and accruing		-		34		-		-		-		666		700
Total	$	-	$	149	$	8	$	-	$	-	$	666	$	823

A loan is considered impaired, in accordance with the impairment accounting guidance (ASC 310-10-35-16), when based on current information and events, it is probable the Company will be unable to collect all amounts due from the borrower in accordance with the contractual terms of the loan. Impaired loans include nonperforming commercial loans but also include loans modified in troubled debt restructurings where concessions have been granted to borrowers experiencing financial difficulties. These concessions could include a reduction in the interest rate on the loan, payment extensions, forgiveness of principal, forbearance or other actions intended to maximize collection.

The following table presents impaired loans and specific valuation allowance based on class level at June 30, 2018 (unaudited) and for the year ended December 31, 2017:

			June 30, 2018
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Impaired loans without a specific allowance:
Recorded investment	$	65	$	-	$	806	$	-	$	-	$	-	$	871
Unpaid principal balance		65		-		806		-		-		-		871
Impaired loans with a specific allowance:
Recorded investment		738		-		783		-		-		-		1,521
Unpaid principal balance		738		-		783		-		-		-		1,521
Specific allowance		461		-		556		-		-		-		1,017
Total impaired loans:
Recorded investment		803		-		1,589		-		-		-		2,392
Unpaid principal balance		803		-		1,589		-		-		-		2,392

Specific allowance		461		-		556		-		-		-		1,017

			December 31, 2017
			Real Estate
	Commercial		Residential		Commercial and Multi-Family		Construction		Seconds and Equity Line		Consumer		Total
	(In Thousands)
Impaired loans without a specific allowance:
Recorded investment	$	76	$	-	$	812	$	-	$	-	$	-	$	888
Unpaid principal balance		76		-		812		-		-		-		888
Impaired loans with a specific allowance:
Recorded investment		738		-		793		-		-		-		1,531
Unpaid principal balance		738		-		793		-		-		-		1,531
Specific allowance		214		-		556		-		-		-		770
Total impaired loans:
Recorded investment		814		-		1,605		-		-		-		2,419
Unpaid principal balance		814		-		1,605		-		-		-		2,419
Specific allowance		214		-		556		-		-		-		770

The following table present by portfolio classes information related to the average recorded investment and interest income recognized on impaired loans for the three and six months ended June 30, 2018 (unaudited) and 2017 (unaudited):

(Unaudited)

Real Estate

Commercial

Residential

Commercial
and
Multi-Family

Construction

Seconds
and
Equity Line

Consumer

Total

(In Thousands)

Three Months Ended June 30, 2018:

Total impaired loan:

Average recorded investment

807

––

1,593

––

2,400

Interest income recognized

—

––

Interest income recognized on a cash basis

—

––

(Unaudited)

Real Estate

Commercial

Residential

Commercial
and
Multi-Family

Construction

Seconds
and
Equity Line

Consumer

Total

(In Thousands)

Six Months Ended June 30, 2018:

Total impaired loan:

Average recorded investment

809

––

1,597

––

2,406

Interest income recognized

—

––

Interest income recognized on a cash basis

—

––

(Unaudited)

Real Estate

Commercial

Residential

Commercial
and
Multi-Family

Construction

Seconds
and
Equity Line

Consumer

Total

(In Thousands)

Three Months Ended June 30, 2017:

Total impaired loan:

Average recorded investment

889

––

1,909

––

2,798

Interest income recognized

—

––

Interest income recognized on a cash basis

—

––

(Unaudited)

Real Estate

Commercial

Residential

Commercial
and
Multi-Family

Construction

Seconds
and
Equity Line

Consumer

Total

(In Thousands)

Six Months Ended June 30, 2017:

Total impaired loan:

Average recorded investment

1,801

––

1,824

––

3,625

Interest income recognized

—

––

108

Interest income recognized on a cash basis

—

––

Troubled Debt Restructurings

In the course of working with borrowers, the Company may choose to restructure the contractual terms of certain loans. In restructuring the loan, the Company attempts to work out an alternative payment schedule with the borrower in order to optimize collectability of the loan. Any loans that are modified, whether through a new agreement replacing the old or via changes to an existing loan agreement, are reviewed by the Company to identify if a troubled debt restructuring (“TDR”) has occurred. A troubled debt restructuring occurs when, for economic or legal reasons related to a borrower’s financial difficulties, the Company grants a concession to the borrower that it would not otherwise consider. Terms may be modified to fit the ability of the borrower to repay in line with its current financial status, and the restructuring of the loan may include the transfer of assets from the borrower to satisfy the debt, a modification of loan terms, or a combination of the two. If such efforts by the Company do not result in a satisfactory arrangement, the loan is referred to legal counsel, at which time foreclosure proceedings are initiated. At any time prior to a sale of the property at foreclosure, the Company may terminate foreclosure proceedings if the borrower is able to work out a satisfactory payment plan.

Nonaccrual loans, including TDRs that have not met the six month minimum performance criterion, are reported in this report as non-performing loans. For all loan classes, it is the Company’s policy to have any restructured loans which are on nonaccrual status prior to being restructured remain on nonaccrual status until six months of satisfactory borrower performance, at which time management would consider its return to accrual status. A loan is generally classified as nonaccrual when the Company believes that receipt of principal and interest is questionable under the terms of the loan agreement. Most generally, this is at 90 or more days past due. If the restructured loan is on accrual status prior to being restructured, it is reviewed to determine if the restructured loan should remain on accrual status. Loans that are considered TDR are classified as performing, unless they are on nonaccrual status or greater than 90 days past due, as of the end of the most recent quarter.

With regard to determination of the amount of the allowance for credit losses, all accruing restructured loans are considered to be impaired. As a result, the determination of the amount of impaired loans for each portfolio segment within troubled debt restructurings is the same as detailed previously above.

During the three and six months ended June 30, 2018 (unaudited) and 2017 (unaudited), there were no new restructurings classified as TDRs. No loans restructured during the last twelve months defaulted during the three and six months ended June 30, 2018 (unaudited) and 2017.

At June 30, 2018 and December 31, 2017, there were $173,000 and $126,000 respectively of residential real estate loans in process of foreclosure.

NOTE 4: Disclosures About Fair Value of Assets and Liabilities

ASC Topic 820, Fair Value Measurements, defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Topic 820 also specifies a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes six levels of inputs that may be used to measure fair value:

The standard describes six levels of inputs that may be used to measure fair value:

Level 1

Quoted prices in active markets for identical assets or liabilities

Level 2

Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3

Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

Recurring Measurements

The following is a description of the valuation methodologies and inputs used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Available-for-Sale Securities

Where quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the security’s terms and conditions. Additionally, matrix pricing is used for certain investment securities and is a mathematical technique widely used in the banking industry to value investment securities without relying exclusively on quoted prices for specific investment securities but rather relying on the investment securities’ relationship to other benchmark quoted investment securities. Level 2 securities include municipal bonds and mortgage-backed securities. At June 30, 2018 (unaudited) and December 31, 2017, all mortgage-backed securities are residential government sponsored enterprises. In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy.

Mortgage-Servicing Rights

Mortgage-servicing rights do not trade in an active, open market with readily observable prices. Accordingly, fair value is estimated using discounted cash flow models having significant inputs of actual and expected mortgage loan prepayment rates, discount rates, servicing costs and other economic factors, which are determined based on current market conditions. Due to the nature of the valuation inputs, mortgage-servicing rights are classified within Level 3 of the hierarchy. Significant changes in any of the inputs could significantly impact the fair value measurement.

Fair value determinations for Level 3 measurements are the responsibility of the Finance Department. The Finance Department contracts with a pricing specialist to generate fair value estimates on a quarterly basis. The Finance Department challenges the reasonableness of the assumptions used and reviews the methodology to ensure the estimated fair value complies with accounting standards generally accepted in the United States. Using the data from the quarterly valuation, the Finance Department adjusts to fair value on a monthly basis

The following tables present the fair value measurements of assets measured at fair value on a recurring basis and the level within the fair value hierarchy in which the fair value measurements fall at June 30, 2018 (unaudited) and December 31, 2017:

			(Unaudited) June 30, 2018
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)

Available-for-sale securities:
Municipal bonds	$	1,848	$	—	$	1,848	$	—
Mortgage-backed securities - GSE residential		19,846		—		19,846		—
Mortgage-servicing rights		832		—		—		832

			December 31, 2017
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)

Available-for-sale securities:
Municipal bonds	$	1,952	$	—	$	1,952	$	—
Mortgage-backed securities - GSE residential		18,345		—		18,345		—
Mortgage-servicing rights		731		—		—		731

The following is a reconciliation of the beginning and ending balances of recurring fair value measurements recognized in the accompanying consolidated balance sheets using significant unobservable (Level 3) inputs:

	(Unaudited)
	Mortgage-Servicing Rights
	Three Months Ended June 30						Six Months Ended June 30
	2018			2017			2018			2017
	(In Thousands)

Balances, beginning of period	$	805		$	726		$	731		$	719
Total unrealized gains (losses) included in net income		29			(14	)		87			(7	)
Additions (rights recorded on sale of loans)		23			38			63			56
Settlements (payments)		(25	)		(21	)		(49	)		(39	)

Balances, end of period	$	832		$	729		$	832		$	729

Total unrealized gains and losses included in net income reflected in the table above are included in other income.

Nonrecurring Measurements

The following is a description of the valuation methodologies used for instruments measured at fair value on a nonrecurring basis, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Impaired Loans (Collateral Dependent)

Loans for which it is probable that the Company will not collect all principal and interest due according to contractual terms, are measured for impairment. Allowable methods for determining the amount of impairment include estimating fair value using the fair value of the collateral for collateral-dependent loans.

Impaired loans that are collateral dependent are classified within Level 3 of the fair value hierarchy when impairment is determined using the fair value method.

The following table presents the fair value measurements of assets and liabilities measured at fair value on a nonrecurring basis and the level within the fair value hierarchy in which the fair value measurements fall:

			June 30, 2018
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)

Impaired loans	$	277	$	—	$	—	$	277

			December 31, 2017
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)

Impaired loans	$	761	$	—	$	—	$	761

Unobservable (Level 3) Inputs

The following table presents quantitative information about unobservable inputs used in recurring and nonrecurring Level 3 fair value measurements.

Fair Value at
June 30, 2018

Valuation
Technique

Unobservable
Inputs

Range (Weighted Average)

(In Thousands)
(unaudited)

Imapired loans

277

Based on independent appraisals

Marketability Discount

50.0%

Mortgage-servicing rights

832

Discounted Cash Flow

Discount rate

6.0% -6.5% (6.4%)

Conditional prepayment rate

8.0% - 11.6% (8.7%)

Expected loan servicing years

1.7-5.1 (4.6)

Fair Value at
December 31, 2017

Valuation
Technique

Unobservable
Inputs

Range (Weighted Average)

(In Thousands)

Impaired loans

761

Comparative sales based on independent appraisals

Marketability Discount

12.0% - 50.0%

Mortgage-servicing rights

731

Discounted Cash Flow

Discount rate

5.3% -6.0% (5.8%)

Conditional prepayment rate

10.7% - 12.3% (10.8%)

Expected loan servicing years

1.9 – 4.5 (4.1)

Sensitivity of Significant Unobservable Inputs

The following is a discussion of the sensitivity of significant unobservable inputs, the interrelationships between those inputs and other unobservable inputs used in recurring fair value measurement and of how those inputs might magnify or mitigate the effect of changes in unobservable inputs on the fair value measurement.

Mortgage –Servicing Rights

The significant unobservable inputs used in the fair value measurement of the Company’s mortgage-servicing rights are discount rates, conditional prepayment rates and expected loan servicing years. Significant increases or decreases in any of those inputs in isolation would result in a significant change in the fair value measurement.

The following table presents estimated fair values of the Company’s financial instruments at June 30, 2018 (unaudited) and December 31, 2017:

	(Unaudited) June 30,
	2018
			Fair Value
	Carrying Amount		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)
Financial assets
Cash and cash equivalents	$	13,702	$	13,702	$	––	$	––
Loan held for sale		520		––		520		––
Loans, net		250,775		––		––		247,511
Federal Home Loan Bank stock		2,436		––		2,436		––
Interest receivable		1,044		––		1,044		––

Financial liabilities
Deposits		230,153		120,578		110,120		––
Federal Home Loan Bank advances		50,500		—		50,324		––
Interest payable		127		––		127		––

	December 31,
	2017
			Fair Value
	Carrying Amount		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(In Thousands)
Financial assets
Cash and cash equivalents	$	10,346	$	10,346	$	––	$	—
Loan held for sale		2,877		––		2,877		—
Loans, net		240,859		—		––		242,133
Federal Home Loan Bank stock		2,436		—		2,436		—
Interest receivable		1,103		—		1,103		—

Financial liabilities
Deposits		226,981		120,061		106,999		—
Federal Home Loan Bank advances		41,500		—		41,553		—
Interest payable		106		—		106		—

NOTE 5: Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU 2014-09, “Revenue from Contracts with Customers,” which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU replaced most existing revenue recognition guidance in U.S. GAAP when it became effective. In March 2016, the FASB issued ASU 2016-08, “Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” which clarifies the guidance in determining revenue recognition as principal versus agent. In April 2016, the FASB issued ASU 2016-10, “Identifying Performance Obligations and Licensing,” which provides guidance in accounting for immaterial performance obligations and shipping and handling. In May 2016, the FASB issued ASU 2016-12, “Narrow-Scope Improvements and Practical Expedients,” which provides clarification on assessing the collectability criterion, presentation of sales taxes, measurement date for noncash consideration and completed contracts at transition. This ASU also provides a practical expedient for contract modifications.

These amendments were effective for annual reporting periods beginning after December 15, 2017, including interim reporting periods with that reporting period, as deferred by ASU 2015-14. Early application was permitted as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within the reporting period. The Company utilized a 5 step model to analyze and review the appropriate actions within this ASU and it was determined the ASU did not have a significant effect on the Company’s consolidated financial statements.

In January 2016, FASB issued Accounting Standards Update (“ASU”) 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. ASU 2016-01, among other things, (i) requires equity investments, with certain exceptions, to be measured at fair value with changes in fair value recognized in net income, (ii) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment, (iii) eliminates the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet, (iv) requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes, (v) requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments, (vi) requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or the accompanying notes to the financial statements and (vii) clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. The amendments in this update were effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. Adoption of the ASU did not a have a significant effect on the Company’s consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). Under the new guidance, a lessee will be required to recognize assets and liabilities for leases with lease terms of more than 12 months. Consistent with current GAAP, the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease. However, unlike current GAAP, which requires only capital leases to be recognized on the balance sheet, the new ASU will require both types of leases to be recognized on the balance sheet. This ASU is effective for fiscal years beginning after December 15, 2018, including interim periods therein. Early adoption is permitted. We are currently evaluating the impact of adopting the new guidance on the Company’s consolidated financial statements.

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326). The ASU is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The ASU requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. The ASU requires enhanced disclosures to help investors and other financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. These disclosures include qualitative and quantitative requirements that provide additional information about the amounts recorded in the financial statements. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The ASU is effective for SEC filers for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early application will be permitted for all organizations for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. While the Company expects that the implementation of this ASU will increase the balance of the allowance for loan losses, it is continuing to evaluate the potential impact on the Company’s results of operations and financial position. The Company has established a workgroup to review and produce different methodologies to best estimate future loan losses.

In August 2016, FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (a consensus of the Emerging Issues Task Force). The amendments in this Update provide guidance on eight cash flow issues where current Generally Accepted Accounting Principles is either unclear or does not include specific guidance. The eight cash flow issues are as follows:

Debt prepayment or debt extinguishment costs

Settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing

Contingent consideration payments made after a business combination

Proceeds from the settlement of insurance claims

Proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies

Distribution received from equity method investees

Beneficial interest in securitization transactions

Separately identifiable cash flows and application of the predominance principle

The amendments were effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The adoption of this ASU did not have a significant effect on the Company’s consolidated financial statements.

In March 2017, the FASB has issued ASU No. 2017-08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities which shortens the amortization period for certain callable debt securities held at a premium. Specifically, the amendments in this ASU require the premium to be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. The amendments are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted, including adoption in an interim period. If an entity early adopts the amendments in an interim period, any adjustment should be reflected, as of the beginning of the fiscal year that includes that interim period. An entity should apply the amendments in this Update on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. Additionally, in the period of adoption, an entity should provide disclosures about a change in accounting principle. The adoption of this guidance is not expected to have a material impact on the Company’s consolidated financial statements.

In February of 2018, the FASB issued ASU No. 2018-02, Income Statement – Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. This guidance allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act of 2017. In addition, under the ASU, an entity will be required to provide certain disclosures regarding stranded tax effects. Entities electing the reclassification are required to apply the guidance either at the beginning of the period of adoption or retrospectively for all periods impacted. This guidance is effective for annual and interim periods beginning after December 15, 2018. Early adoption is permitted. The Company had approximately $65,000 stranded tax effects included in accumulated other comprehensive income. The Company adopted this ASU in the first quarter of 2018.

NOTE 6: Earnings (Loss) per Share

The Company has granted stock compensation awards with non-forfeitable dividend rights, which are considered participating securities. Accordingly, earnings per share (EPS) is computed using the two-class method as required by ASC 260-10-45. Basic EPS is computed by dividing net income allocated to common stock by the weighted average number of common shares outstanding during the period which excludes the participating securities. Diluted EPS includes the dilutive effect of additional potential common shares from stock compensation awards, but excludes awards considered participating securities. ESOP shares are not considered outstanding for EPS until they are earned. The following table presents the computation of basic and diluted EPS for the periods indicated (in thousands, except for share and per share data):

	(Unaudited)
	Three Months Ended June 30						Six Months Ended June 30
	2018			2017			2018			2017

Net Income (Loss)	$	354		$	(99	)	$	702		$	338
Allocated to participating securities		(3	)		-			(8	)		(7	)
Net income allocated to common stockholders	$	351		$	(99	)	$	694		$	331

Weighted average common shares outstanding, gross		1,066,646			1,067,050			1,066,751			1,066,493
Less: Average unearned ESOP shares and participating securities		(86,303	)		(103,582	)		(87,742	)		(104,788	)
Weighted average common shares outstanding, net		980,343			963,468			979,009			961,705
Effect of diluted based awards		43,207			-			42,410			45,732
Weighted average shares and common stock equivalents		1,023,550			963,468			1,021,419			1,007,437

Income (Loss) per common share:
Basic	$	0.36		$	(0.10	)	$	0.71		$	0.34
Diluted	$	0.34		$	(0.10	)	$	0.68		$	0.33

Options excluded from the calculation due to their anti-dilutive effect on earnings per share		-			128,450			-			-

NOTE 7: Share Based Compensation (Unaudited)

In May 2013, the Company’s stockholders approved the West End Indiana Bancshares, Inc. 2013 Equity Incentive Plan (“Plan”) which provides for awards of stock options and restricted stock to key officers and outside directors. The cost of the awards granted under the Plan is based on the fair value of the awards on the grant date. The fair value of restricted stock awards is based on the closing price of the Company’s stock on the grant date. The fair value of stock options is estimated using a Black-Scholes option pricing model using assumptions for dividend yield, stock price volatility, risk-free interest rate, and option term. These assumptions are based on management’s judgments regarding future events, are subjective in nature, and contain uncertainties inherent in an estimate. The cost of the awards are being recognized on a straight-line basis over the five-year vesting period during which participants are required to provide services in exchange for the awards.

Until such time as awards of stock are granted or options are exercised, shares of the Company’s common stock under the Plan shall be authorized but unissued shares. The maximum number of shares authorized under the Plan is 196,140. Total share-based compensation expense for the three and six months ended June 30, 2018 (unaudited), and 2017 was $62,000 and $133,000 and $72,000 and $144,000, respectively.

Stock Options

The table below represents the stock option activity for the period shown (unaudited):

	Options		Weighted average exercise price		Remaining contractual life (years)
Options outstanding at January 1, 2018		128,150	$	19.00		5.75
Granted		-		-		-
Exercised		-		-		-
Forfeited		-		-		-
Expired		-		-		-
Options outstanding at June 30 2018		128,150	$	19.00		5.25
Exercisable options outstanding at June 30, 2018		120,550	$	18.85		5.00

	Options			Weighted average exercise price		Remaining contractual life (years)
Options outstanding at January 1, 2017		136,550		$	18.99		6.75
Granted		-			-		-
Exercised		(8,100	)		18.95		-
Forfeited		-			-		-
Expired		-			-		-
Options outstanding at June 30 2017		128,450		$	19.00		6.25
Exercisable options outstanding at June 30, 2017		93,090		$	18.81		6.00

As of June 30, 2018 (unaudited) and December 31, 2017, the Company had $19,000 and $56,000 of unrecognized compensation expense related to stock options. The cost of stock options will be amortized in monthly installments over the five-year vesting period. Exercisable options vested in the six months ended June 30, 2018 and 2017 (unaudited) were 27,760 and 27,760, respectively. Stock option expense for the three and six months ended June 30, 2018 and 2017 (unaudited) was $17,000, $36,000, $20,000 and $40,000, respectively. The total intrinsic value of options as of June 30, 2018 and June 30, 2017 (unaudited) was $1,282,000 and $1,291,000, respectively. There were no options exercised during the period ended June 30, 2018 (unaudited). The total intrinsic value of exercisable options as of June 30, 2018 and June 30, 2017 (unaudited) was $1,223,000 and $953,000, respectively.

The fair value of the Company’s stock options granted in 2016 was determined using the Black-Scholes option pricing formula. The following assumptions were used in the formula:

Expected volatility		12.34	%
Risk-free interest rate		1.56	%
Expected dividend yield		1.12	%
Expected life (in years)		7.5
Exercise price for the stock options	$	21.50

Expected volatility - Based on the historical volatility of share price for similar companies.

Risk-free interest rate - Based on the U.S. Treasury yield curve and expected life of the options at the time of grant.

Dividend yield - West End Indiana Bancshares, Inc. pays a regular quarterly dividend of $0.06 per share.

Expected life – Based on average of the five year vesting period and the ten year contractual term of the stock option plan.

Exercise price for the stock options - Based on the closing price of the Company’s stock on the date of grant.

Restricted Stock Awards

Restricted stock awards are accounted for as fixed grants using the fair value of the Company’s stock at the time of the grant. Unvested restricted stock awards may not be disposed of or transferred during the vesting period. Restricted stock awards carry with them the right to receive dividends.

The table below presents the restricted stock award activity for the period shown:

	Service-Based Restricted stock awards		Weighted average grant date fair value
Non-vested at January 1, 2018		11,208	$	18.75
Granted		—		—
Vested		11,208	$	18.75
Forfeited		—		—
Non-vested at June 30, 2018		-		-

As of June 30, 2018 (unaudited) and December 31, 2017, the Company had $0 and $97,000 of unrecognized compensation expense related to restricted stock awards. The cost of the restricted stock awards will be amortized in monthly installments over the five-year vesting period. Restricted stock expense for the three and six months ended June 30, 2018, and 2017 (unaudited) was, $45,000, $97,000, $53,000 and $105,000, respectively.

NOTE 8: Employee Stock Ownership Plan

The Company established an Employee Stock Ownership Plan (ESOP) covering substantially all employees. The ESOP acquired 112,080 shares of Company common stock at $10 per share with funds provided by a loan from the Company. Accordingly, $1,121,000 of common stock acquired by the ESOP was shown as a reduction of stockholders’ equity. Shares are released to participants proportionately as the loan is repaid. Dividends on allocated shares are recorded as dividends and charged to retained earnings. Dividends on unallocated shares are used to repay the loan and are treated as compensation expense. Compensation expense is recorded equal to the fair market value of the stock when contributions, which are determined annually by the Board of Directors, are made to the ESOP.

ESOP expense for the three and six months ended June 30, 2018 (unaudited) was $40,000 and $80,000, respectively.


	June 30,		December 31,
	2018		2017
	(Unaudited)
Allocated shares		30,326		30,326
Unreleased shares		78,456		78,456
Total ESOP shares		108,782		108,782

Fair value of unreleased shares at June 30, 2018, and December 31, 2017 (in thousands)	$	2,275	$	2,267

At June 30, 2018 (unaudited) and December 31, 2017 the fair value of the 30,326 allocated shares held by the ESOP was $879,000 and $876,000 respectively, based on the quoted per share price of $29.00 and $28.89 at June 30, 2017 (unaudited) and Decmber 31, 2017 respectively.

In the event the ESOP is unable to satisfy the obligation to repurchase the shares held by each beneficiary upon the beneficiary’s termination or retirement, the Company is obligated to purchase such shares at their fair market value based on the most recent valuation report any time within 60 days of the distribution date. If this right is not exercised, an additional 60-day exercise period is available in the year following the year in which the distribution is made and begins after a new valuation of the stock has been determined and communicated to the participant or beneficiary. The allocated shares held by the ESOP and the outstanding shares held by former employees subject to the repurchase option totaled 30,519 at both June 30, 2018 (unaudited) and December 31, 2017. At June 30, 2018 (unaudited), and December 31, 2017 the 30,519 shares had a fair value of $885,000 ($29.00 per share based on the most recent valuation report and $855,000 ($28.00 per share) respectively, and have been classified as mezzanine capital.

Item 2.

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

General

Management’s discussion and analysis of the financial condition and results of operations at and for three and six months ended June 30, 2018 and 2017 is intended to assist in understanding the financial condition and results of operations of the Company on a consolidated basis. The information contained in this section should be read in conjunction with the unaudited financial statements and the notes thereto, appearing on Part I, Item 1 of this quarterly report on Form 10-Q.

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This quarterly report contains forward-looking statements, which can be identified by the use of words such as “estimate,” “project,” “believe,” “intend,” “anticipate,” “plan,” “seek,” “expect,” “will,” “may” and words of similar meaning. These forward-looking statements include, but are not limited to:

statements of our goals, intentions and expectations;

statements regarding our business plans, prospects, growth and operating strategies;

statements regarding the asset quality of our loan and investment portfolios; and

estimates of our risks and future costs and benefits.

These forward-looking statements are based on our current beliefs and expectations and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change. We are under no duty to and do not take any obligation to update any forward-looking statements after the date of this quarterly report.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

general economic conditions, either nationally or in our market areas, that are worse than expected;

competition among depository and other financial institutions;

our success in continuing to emphasize consumer lending, including indirect automobile lending;

our ability to improve our asset quality even as we increase our non-residential lending;

our success in maintaining our commercial and multi-family real estate and our non-owner occupied one- to four-family residential real estate and commercial business lending;

changes in the interest rate environment that reduce our margins or reduce the fair value of our financial instruments;

adverse changes in the securities markets;

changes in laws or government regulations or policies affecting financial institutions, including changes in deposit insurance premiums, regulatory fees and capital requirements, which increase our compliance costs;

our ability to enter new markets successfully and capitalize on growth opportunities;

changes in consumer spending, borrowing and savings habits;

changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission and the Public Company Accounting Oversight Board;

changes in our organization, compensation and benefit plans;

loan delinquencies and changes in the underlying cash flows of our borrowers;

changes in our financial condition or results of operations that reduce capital available to pay dividends; and

changes in the financial condition or future prospects of issuers of securities that we own.

Critical Accounting Policies

There are no material changes to the critical accounting policies disclosed in West End Indiana Bancshares, Inc.’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission on March 30, 2018.

Comparison of Financial Condition at June 30, 2018 and December 31, 2017

Total assets increased $12.3 million, or 4.1%, to $311.7 million at June 30, 2018. The increase was primarily the result of an increase in net loans, cash and cash equivalents and investment securities available for sale, offset in part by a decrease in loans held for sale and premises and equipment.

Total cash and cash equivalents increased $3.4 million, or 32.4%, to $13.7 million at June 30, 2018 from $10.3 million at December 31, 2017. The increase in total cash and cash equivalents reflected fluctuations in balances for funding normal operations.

Securities classified as available for sale increased $1.4 million, or 6.9%, to $21.7 million at June 30, 2018 from $20.3 million at December 31, 2017. At June 30, 2018, securities classified as available for sale consisted of mortgage-backed securities and municipal obligations. The increase is primarily the result of $4.1 million in purchases of securities available for sale offset by $2.2 million of cash flow from maturities and pay downs on mortgage backed securities.

Net loans, including loans held for sale, increased $9.9 million, or 4.1%, to $250.8 million at June 30, 2018 from $240.9 million at December 31, 2017, due primarily to increases in commercial and multi-family loans of $3.9 million, consumer loans of $2.3 million, construction loans of $1.8 million and commercial loans of $1.3 million, offset by a decrease in second mortgages and home equity lines of credit of $228,000. Total loans held for sale decreased $2.4 million. Total non-performing loans decreased $244,000 to $1.1 million at June 30, 2018 from $823,000 at December 31, 2017.

Deposits increased $3.2 million or 1.4%, to $230.2 million at June 30, 2018 from $227.0 million at December 31, 2017. The increase was due to increases in certificates of deposit of $2.7 million, non-interest bearning accounts of $2.4 million and savings accounts of $1.1 million, offset by decreases in money market deposit accounts of $2.7 million and interesting bearing checking accounts of $309,000.

Federal Home Loan Bank advances increased $9.0 million to $50.5 million at June 30, 2018, from $41.5 million at December 31, 2017.

Total equity increased $438,000 to $29.5 million at June 30, 2018, from $29.0 million at December 31, 2017. The increase was primarily a result of year to date net income of $702,000, stock-based compensation expense of $133,000, and ESOP shares earned of $80,000, offset in part by decreases to accumulated other comprehensive income of $302,000, dividends of $129,000 and shares repurchased of $46,000.

Comparison of Operating Results for the Three Months Ended June 30, 2018 and 2017

General. We recorded net income of $354,000 for the quarter ended June 30, 2018 compared to a net loss of $99,000 for the quarter ended June 30, 2017. The increase was primarily due to increased other income of $457,000 and a decrease in other expenses of $295,000, offset by increases in the provision for loan losses of $73,000, the provision for income tax of $197,000 and a decrease in net interest income of $28,000.

Interest Income. Interest income increased $223,000, or 6.3%, to $3.8 million for the quarter ended June 30, 2018 from $3.5 million for the quarter ended June 30, 2017. The average balance of total interest-earning assets increased $15.2 million, or 5.7%, to $283.3 million for the quarter ended June 30, 2018 from $268.1 million for the quarter ended June 30, 2017 as the average weighted rate earned on these assets also increased 3 basis points to 5.31% for the 2018 period from 5.28% from the 2017 period.

Interest income on loans increased $182,000, or 5.4%, to $3.6 million for the quarter ended June 30, 2018 from $3.4 million for the quarter ended June 30, 2017, as the average balance of loans increased and the average yield on loans decreased. The average balance of net loans increased $14.6 million, or 6.3%, to $247.5 million for the quarter ended June 30, 2018 from $232.9 million for the quarter ended June 30, 2017. The average weighted yield on our loan portfolio decreased 5 basis points to 5.79% for the quarter ended June 30, 2018 from 5.84% for the quarter ended June 30, 2017, as the yield on commerical, commercial and multi-family, and residential real estate all decreased from the periods ended june 2018 and 2017.

Interest income on investment securities increased $8,000 to $111,000 for the 2018 quarter from $103,000 for the 2017 quarter. The average balance of our securities available for sale decreased $458,000, or 2.0%, to $22.3 million for the quarter ended June 30, 2018 from $22.7 million for the quarter ended June 30, 2017. The average yield on our securities portfolio increased to 2.00% for the quarter ended June 30, 2018 from 1.82% for the quarter ended June 30, 2017.

Interest Expense. Interest expense increased $250,000, or 48.7%, to $765,000 for the quarter ended June 30, 2018 from $515,000 for the quarter ended June 30, 2017. The increase resulted from an increase in interest expense on deposits of approximately $125,000, and interest on advances of $125,000. The average weighted rate paid on deposits increased 25 basis points to 1.05% for the quarter ended June 30, 2018 from 0.80% for the quarter ended June 30, 2017. The average balance of interest-bearing deposits decreased $486,000 or 0.2%, to $203.3 million for the quarter ended June 30, 2018 from $203.8 million for the quarter ended June 30, 2017. The decrease in the average balance of interest bearing deposits was comprised of decreases in interest bearing checking accounts of $4.1 million, and money market deposit accounts of $2.4 million, offset by increases in certificates of deposit of $5.6 million and savings accounts of $521,000.

The average balance of our certificates of deposit increased 5.5 million, or 5.3%, to $109.8 million for the quarter ended June 30, 2018 from $104.2 million for the quarter ended June 30, 2017. The rate paid on certificates of deposit increased 40 basis points to 1.65% for the 2018 period from 1.25% for the 2017 period. This rate increase was due to the rising interest rate environment. Checking, money market and savings accounts interest expense remained steady at $82,000 for the quarters ending June 30, 2018 and 2017.

Interest expense on borrowed funds, consisting entirely of Federal Home Loan Bank advances, increased $125,000 or 116.5% to $232,000 for the quarter ended June 30, 2018 from $107,000 for the quarter ended June 30, 2017 reflecting an increase of 67 basis points in the rate to 1.93% for the quarter ended June 30, 2018 from 1.26% for the quarter ended June 30, 2017. The increase was due to the increased average balance of advances of $14.3 million from the prior quarter and the rising rate environment.

Net Interest Income. Net interest income decreased $28,000, or 0.9%, to $2.99 million for the quarter ended June 30, 2018 from $3.0 million for the quarter ended June 30, 2017. Our net interest rate spread decreased to 4.09% for the quarter ending June 30, 2018 down from 4.41% for the quarter ending June 30, 2017.

The following table summarize average balances and yields, costs of interest-earning assets and interest-bearing liabilities for the three months ended June 30, 2018 and 2017.

	Three months ended June 30,
	2018							2017
	Average Balance		Interest and Dividends		Yield/Cost			Average Balance		Interest and Dividends		Yield/Cost
Assets:
Interest-earning assets:
Loans	$	247,502	$	3,573		5.79	%	$	232,882	$	3,391		5.84	%
Investment Securities		22,283		111		2.00	%		22,741		103		1.82	%
Other interest-earning assets		13,507		66		1.96	%		12,469		34		1.09	%
		283,292		3,750		5.31	%		268,092		3,528		5.28	%
Noninterest-earning assets		24,044							25,280
Total assets	$	307,336						$	293,372

Liabilities and stockholder's equity
Interest-bearing liabilities:
Now accounts		32,007		17		0.21	%		36,142		16		0.18	%
Money market accounts		39,326		48		0.49	%		41,743		52		0.50	%
Savings accounts		22,207		17		0.31	%		21,686		14		0.26	%
Certificates of deposit		109,783		451		1.65	%		104,238		326		1.25	%
Total interest-bearing deposits		203,323		533		1.05	%		203,809		408		0.80	%
FHLB advances		48,269		232		1.93	%		33,950		107		1.26	%
Total interest-bearing liabilities		251,592		765		1.22	%		237,759		515		0.87	%
Noninterest-bearing deposits		25,136							24,504
Other noninterest-bearing liabilities		1,425							2,109
Total liabilities		278,153							264,372
Total stockholders' equity		29,183							29,000
Total liabilities and stockholders' equity	$	307,336						$	293,372
Net interest income			$	2,985						$	3,013
Interest rate spread						4.09	%						4.41	%
Net interest margin (annualized)						4.21	%						4.50	%
Average interest-earning assets to average interest-bearing liabilities						112.60	%						112.76	%

Provision for Loan Losses. Based on our analysis of the factors described in “Critical Accounting Policies — Allowance for Loan Losses,” in our annual report on Form 10-K we recorded a provision for loan losses of $479,000 for the quarter ended June 30, 2018 compared to $406,000 for the quarter ended June 30, 2017, an increase of $73,000. The increase to the provision was based on management’s quarterly analysis of the loan portfolio and credit quality indicators including charge off trends and qualitative factors. The allowance for loan losses was $3.1 million, or 1.2% of total loans, at June 30, 2018, compared to $2.4 million, or 1.0% of total loans, at June 30, 2017. This increase was due primarily to the increase in balances in our loan portfolio of $15.8 million for the period ended June 30, 2018 from June 30, 2017. Non-performing loans increased to $1.1 million at June 30, 2018 from $953,000 at June 30, 2017. The allowance for loan losses as a percentage of non-performing loans was 288.1% at June 30, 2018 compared to 248.9% at June 30, 2017. To the best of our knowledge, we have provided for all losses that are both probable and reasonable to estimate at June 30, 2018 and 2017.

Noninterest Income. Noninterest income increased $457,000, to $447,000 for the quarter ended June 30, 2018 from a loss of $9,000 for the quarter ended June 30, 2017. The increase was primarily due to an increase in gain on other assets of $509,000 to $27,000 for the quarter ended June 30, 2018 from a loss of $482,000 for the quarter ended June 30, 2017, partially offset by a decrease in the gain on sale of loans of $111,000 as premiums on loan sales declined in 2018. The change in gain on other assets was due to management’s determination that the fair market value on a single commercial property held in foreclosed real estate held for sale had decreased during the second quarter of 2017 resulting in a write down of $400,000.

Noninterest Expense. Noninterest expense decreased $295,000, or 10.6%, to $2.5 million for the quarter ended June 30, 2018 from $2.8 million for the quarter ended June 30, 2017. Changes included an increase salaries and employee benefits of $86,000, an increase in net occupancy of $67,000, a decrease in foreclosed real estate and repossession expenses of $289,000, and a decrease in professional fees of $128,00. Salaries and employee benefits increased due to normal cost of living adjustments and merit increases, and other benefit programs. Net occupancy expense increased due to the completion of the administrative and operations building late in 2017 and affixed depreciation on the building and furniture fixtures and equipment. Expenses related to foreclosed real estate increased due to additional expenses recorded in relation to maintenance of a commercial property held in foreclosed real estate held for sale that occurred in 2017 that did not recur in 2018. Professional fees decrease due to legal and information technology consulting fees of $94,000 that occurred in 2017 that did not recur in 2018.

Income Tax Expense (Benefit). We recorded income tax expense of $120,000 for the quarter ended June 30, 2018 compared to an income tax benefit of ($78,000) for the 2017 period, reflecting pre-tax income of $474,000 durring the 2018 quarter versus a loss before income tax benefit of $177,000 durring the 2017 quarter. Our effective tax rate was 25.3% for the quarter ended June 30, 2018 compared to (43.9%) for the quarter ended June 30, 2017, reflecting an increase in pretax income and a reduced corporate federal income tax rate.

Comparison of Operating Results for the Six Months Ended June 30, 2018 and 2017

General. Net income increased $363,000 to $702,000 for the six months ended June 30, 2018 compared to net income of $338,000 for the six months ended June 30, 2017. The increase in net income resulted primarily from increased noninterest income of $549,000 and a decrease in noninterest expenses of $186,000, offset by increases in the provision for loan losses of $270,000, the provision for income tax of $87,000 and a decrease in net interest income of $15,000.

Interest Income. Interest income increased $448,000, or 6.5%, to $7.4 million for the six months ended June 30, 2018 from $6.9 million for the six months ended June 30, 2017. The average balance of total interest-earning assets increased $13.6 million, or 5.1%, to $280.3 million for the six months ended June 30, 2018 from $266.8 million for the six months ended June 30, 2017. The average yield on total interest-earning assets increased seven basis points to 5.31% for the 2018 period from 5.24% for the 2017 period.

Interest income and fees on loans increased $366,000, or 5.5%, to $7.0 million for the six months ended June 30, 2018 from $6.7 million for the six months ended June 30, 2017. The average balance of loans increased $12.9 million, or 5.5%, to $245.6 million for the six months ended June 30, 2018 from $232.7 million for the six months ended June 30, 2017. The average weighted yield on the loan portfolio was unchanged at 5.77% for the six months ended June 30, 2018 and 2017, as the increase in our higher yielding consumer loans were offset by decreases in the rest of the portfolio.

Interest income on investment securities increased $7,000, or 3.4%, to $214,000 for the six months ended June 30, 2018 from $207,000 for the six months ended June 30, 2017. The increase resulted primarily from an increase in the average yield on the securities portfolio to 2.00% for the six months ended June 30, 2018 from 1.79% for the six months ended June 30, 2017. The average balance of securities available for sale, decreased $1.7 million, or 7.3%, to $21.6 million for the six months ended June 30, 2018 from the 2017 period.

Interest Expense. Total interest expense increased $463,000 or 46.2%, to $1.5 million for the six months ended June 30, 2018 from $1.0 million for the six months ended June 30, 2017. The average rate we paid on deposits increased twenty-four basis points to 1.03% for the six months ended June 30, 2018 from 0.79% for the six months ended June 30, 2017. The average balance of interest-bearing deposits remained unchanged at $203.1 million for the periods ended June 30, 2018 and 2017. The average balance of deposits was comprised of increases in certificates of deposit accounts of $3.4 million, and savings accounts of $214,000, offset by decreases in interest bearing checking of $2.9 million, and money market deposit accounts of $761,000.

The average balance of our certificates of deposit increased $3.4 million, or 3.2%, to $109.1 million for the six months ended June 30, 2018 from $105.7 million for the six months ended June 30, 2017. Interest expense on certificates of deposit increased $231,000 for the 2018 period as compared to the 2017 period due to the increased average rate paid of 1.61% in the 2018 period up thirty-nine basis points from 1.22% in 2017. Interest bearing checking, money market and savings accounts interest expense increased a total of $10,000 to $161,000 for the period ending June 30, 2018 from $151,000 for the period ending June 30, 2017.

Interest expense on borrowed funds, consisting entirely of Federal Home Loan Bank advances, increased $223,000, or 105.6%, to $434,000 for the six months ended June 30, 2018 from $211,000 for the six months ended June 30, 2017. The average balance of borrowed funds increased $13.0 million and the average weighted rate increased sixty basis points to 1.86% for the 2018 period from 1.26% from the 2017 period.

Net Interest Income. Net interest income remained unchanged at $5.9 million for the six months ended June 30, 2018 and 2017. Our net interest rate spread decreased to 4.13% for the six months ended June 30, 2018 from 4.39% for the six months ended June 30, 2017, net interest margin also decreased to 4.22% for the six months ended June 30, 2018 from 4.44% for six months ended June 30, 2017.

The following table summarize average balances and yields, costs of interest-earning assets and interest-bearing liabilities for the six months ended June 30, 2018 and 2017.

	Six months ended June 30,
	2018							2017
	Average Balance		Interest and Dividends		Yield/Cost			Average Balance		Interest and Dividends		Yield/Cost
Assets:
Interest-earning assets:
Loans	$	245,596	$	7,028		5.77	%	$	232,701	$	6,662		5.77	%
Investment Securities		21,577		214		2.00	%		23,274		207		1.79	%
Other interest-earning assets		13,175		134		2.05	%		10,805		59		1.10	%
		280,348		7,376		5.31	%		266,780		6,928		5.24	%
Noninterest-earning assets		24,157							24,222
Total assets	$	304,505						$	291,002

Liabilities and stockholder's equity
Interest-bearing liabilities:
Now accounts		32,273		33		0.21	%		35,168		29		0.17	%
Money market accounts		39,891		97		0.49	%		40,652		96		0.48	%
Savings accounts		21,800		31		0.29	%		21,586		26		0.24	%
Certificates of deposit		109,123		872		1.61	%		105,692		641		1.22	%
Total interest-bearing deposits		203,087		1,033		1.03	%		203,098		792		0.79	%
FHLB advances		46,909		433		1.86	%		33,876		211		1.26	%
Total interest-bearing liabilities		249,996		1,466		1.18	%		236,974		1,003		0.85	%
Noninterest-bearing deposits		24,019							23,503
Other noninterest-bearing liabilities		1,464							1,879
Total liabilities		275,479							262,356
Total stockholders' equity		29,026							28,647
Total liabilities and stockholders' equity	$	304,505						$	291,003
Net interest income			$	5,910						$	5,925
Interest rate spread						4.13	%						4.39	%
Net interest margin (annualized)						4.22	%						4.44	%
Average interest-earning assets to average interest-bearing liabilities						112.14	%						112.58	%

Provision for Loan Losses. Based on our analysis of the factors described in “Critical Accounting Policies—Allowance for Loan Losses,” in our annual report on Form 10-K we recorded a provision for loan losses of $1.0 million for the six months ended June 30, 2018 and $764,000 for the six months ended June 30, 2017. The increase to the provision is based on management’s quarterly analyses of the loan portfolio and credit quality indicators including charge-off trends and qualitative factors. The allowance for loan losses was $3.1 million, or 1.2% of total loans, at June 30, 2018, compared to $2.4 million, or 1.0% of total loans, at June 30, 2017. Total nonperforming loans were $1.1 million at June 30, 2018, compared with $953,000 at June 30, 2017. To the best of our knowledge, we have provided for all losses that are both probable and reasonable to estimate at June 30, 2018 and 2017.

Noninterest Income. Noninterest income increased $549,000, or 135.8%, to $954,000 for the six months ended June 30, 2018 as compared to the six months ended June 30, 2017. The increase was due primarily to the increase in gain on other assets of $523,000 to $20,000 for the six months ended June 30, 2018 from a loss of $503,000 for the six months ended June 30, 2017. The change was due primarily to management’s determination that the fair market value on a single commercial property held in foreclosed real estate held for sale had decreased during the second quarter of 2017 resulting in a write down of $400,000.

Noninterest Expense. Noninterest expense decreased $186,000, or 3.7%, to $4.9 million for the six months ended June 30, 2018, from $5.1 million for the six months ended June 30, 2017. The decrease was due primarily to decreases in foreclosed real estate and repossession expense of $278,000, professional fees of $107,000, and ATM charges of $81,000, offset by increases in salaries and employee benefits of $156,000, and net occupancy of $137,000. Expenses related to foreclosed real estate decreased due to the sale in 2017 of a commercial property held in foreclosure and relief of the related carryforward costs. The savings in ATM charges are due to the transition to a new servicer. Salaries and employee benefits increased due to normal cost of living and merit increases, and other employee benefit programs. Net occupancy expense increased due to the completion of the administrative and operations building late in 2017 and affixed depreciation on the building and furniture fixtures and equipment.

Income Tax Expense. We recorded income tax expense of $239,000 for the six months ended June 30, 2018 compared to $152,000 income tax expense for the 2017 period, reflecting income of $941,000 before income tax expense for the six months ended June 30, 2018, compared to income before income tax expense of $491,000 for the six months ended June 30, 2017. Our effective tax rate was 25.4% for the six months ended June 30, 2018, compared to 31.0% for the six months ended June 30, 2017, reflecting an increase in pretax income and a reduced corporate federal income tax rate following the passage of tax legislation in December 2017.

Liquidity and Capital Resources. Our primary sources of funds are deposits, principal and interest payments on loans and securities, proceeds from sale of loans, proceeds from maturities and calls of securities, and Federal Home Loan Bank advances. While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and short-term investments including interest-bearing demand deposits. The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period.

Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. Net cash provided by operating activities was $4.5 million and $1.9 million for the six months ended June 30, 2018 and 2017, respectively. Net cash used in investing activities, which consists primarily of disbursements for loan originations, offset by principal collections on loans, proceeds from the sale of securities and proceeds from maturing securities and pay downs on mortgage-backed securities, was ($13.1 million) and ($5.6 million) for the six months ended June 30, 2018 and 2017, respectively. Net cash provided by financing activities, consisting primarily of the activity in deposit accounts and Federal Home Loan Bank advances, was $12.0 million and $6.1 for the six months ended June 30, 2018 and 2017, respectively.

At June 30, 2018, we exceeded all of our regulatory capital requirements with a Tier 1 (core) capital level of $29.5 million, or 9.6% of adjusted total assets, which is above the required level of $12.2 million, or 4%; and total risk-based capital of $32.6 million, or 13.2% of risk-weighted assets, which is above the required level of $19.7 million, or 8%. Accordingly West End Bank, S.B. was categorized as well capitalized at June 30, 2018. Management is not aware of any conditions or events since the most recent notification that would change our category.

At June 30, 2018, we had outstanding commitments to originate loans of $19.6 million and stand-by letters of credit of $45,000. We anticipate that we will have sufficient funds available to meet our current loan origination commitments. Certificates of deposit that are scheduled to mature in less than one year from June 30, 2018 totaled $44.1 million. Management expects that a substantial portion of the maturing certificates of deposit will be renewed. However, if a substantial portion of these deposits is not retained, we may utilize Federal Home Loan Bank advances or raise interest rates on deposits to attract new accounts, which may result in higher levels of interest expense.

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

Not applicable, as the Registrant is a smaller reporting company.

Item 4.

Controls and Procedures

An evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and the and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of June 30, 2018. Based on that evaluation, the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, concluded that the Company’s disclosure controls and procedures were effective.

During the quarter ended June 30, 2018 there have been no changes in the Company’s internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Part II – Other Information

Item 1.

Legal Proceedings

We are subject to various legal actions arising in the normal course of business. In the opinion of management, the resolution of these legal actions is not expected to have a material adverse effect on the Bank’s or the Registrant’s financial condition or results of operations.

Item 1A.

Risk Factors

Not applicable, as the Registrant is a smaller reporting company.

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

(a)

There were no sales of unregistered securities during the period covered by this Report.

(b)

Not applicable.

(c)

There were no issuer repurchases of securities during the period covered by this Report.

Item 3.

Defaults Upon Senior Securities

None.

Item 4.

Mine Safety Disclosures

Not applicable.

Item 5.

Other Information

None.

Item 6.

Exhibits

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

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

32		Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101.INS		XBRL Instance Document.

101.SCH		XBRL Schema Document.

101.CAL		XBRL Calculation Linkbase Document.

101.DEF		XBRL Definition Linkbase Document.

101.LAB		XBRL Label Linkbase Document.

101.PRE		Presentation Linkbase Document

SIGNATURES

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

		WEST END INDIANA BANCSHARES, INC.

Date: August 14, 2018		/s/ Timothy R. Frame
		Timothy R. Frame
		President/Chief Executive Officer

Date: August 14, 2018		/s/ Shelley D. Miller
		Shelley D. Miller
		Executive Vice President and Chief Financial Officer

West End Indiana Bancshares, Inc. - FORM 10-Q - August 14, 2018

Attached files

West End Indiana Bancshares, Inc. Reports