UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K/A

(Mark One)

 

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

 

For the fiscal year ended December 31, 2019

 

OR

 

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

 

For the transition period from _______________ to _________________________.

 

Commission file number: 0-16084 

 

CITIZENS & NORTHERN CORPORATION

(Exact name of Registrant as specified in its charter)

 

PENNSYLVANIA	23-2451943
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)

 

90-92 MAIN STREET, WELLSBORO, PA 16901

(Address of principal executive offices) (Zip code)

 

570-724-3411

(Registrant's telephone number including area code)

 

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

 

Title of Each Class		Trading Symbol		Name of Each Exchange on Which Registered
Common Stock Par Value $1.00		CZNC		NASDAQ Capital Market

 

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

 

Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No x

 

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

 

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

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit 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 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 x Non-accelerated filer ¨ Smaller reporting company x 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

 

The aggregate market value of the registrant's common stock held by non-affiliates at June 30, 2019, the registrant’s most recently completed second fiscal quarter, was $348,405,379.

 

The number of shares of common stock outstanding at February 13, 2020 was 13,762,993.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the registrant’s proxy statement for the annual meeting of its shareholders to be held April 16, 2020 are incorporated by reference into Parts III and IV of this report.

 

 

 

TABLE OF CONTENTS

 

	Page(s)
Part II.
Item 8. Financial Statements and Supplementary Data	4-53
Part IV:
Item 15. Exhibits and Financial Statement Schedules	54-57
Signature	58

 

 

Explanatory Note

 

Citizens & Northern Corporation, (“Corporation”) is filing this Form 10-K/A to provide the conformed signature of Baker Tilly Virchow Krause, LLP which was inadvertently omitted due to an administrative error from the Report of Independent Registered Public Accounting Firm which appears on pages 52 and 53 of Part II, Item 8. There are no other changes to any other pages of Part II, Item 8.

  

 

PART II

 

ITEM 8. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
		December 31,				December 31,
(In Thousands, Except Share and Per Share Data)		2019				2018
ASSETS
Cash and due from banks:
Noninterest-bearing		$	17,667			$	20,970
Interest-bearing			17,535				16,517
Total cash and due from banks			35,202				37,487
Available-for-sale debt securities, at fair value			346,723				363,273
Marketable equity security			979				950
Loans held for sale			767				213
Loans receivable			1,182,222				827,563
Allowance for loan losses			(9,836	)			(9,309	)
Loans, net			1,172,386				818,254
Bank-owned life insurance			18,641				19,035
Accrued interest receivable			5,001				3,968
Bank premises and equipment, net			17,170				14,592
Foreclosed assets held for sale			2,886				1,703
Deferred tax asset, net			2,618				4,110
Goodwill			28,388				11,942
Core deposit intangibles			1,247				9
Other assets			22,137				15,357
TOTAL ASSETS		$	1,654,145			$	1,290,893
LIABILITIES
Deposits:
Noninterest-bearing		$	285,904			$	272,520
Interest-bearing			966,756				761,252
Total deposits			1,252,660				1,033,772
Short-term borrowings			86,220				12,853
Long-term borrowings			52,127				35,915
Subordinated debt			6,500				0
Accrued interest and other liabilities			12,186				10,985
TOTAL LIABILITIES			1,409,693				1,093,525
STOCKHOLDERS' EQUITY
Preferred stock, $1,000 par value; authorized 30,000 shares; $1,000 liquidation preference per share; no shares issued			0				0
Common stock, par value $1.00 per share; authorized 20,000,000 shares; issued 13,934,996 and outstanding 13,716,445 at December 31, 2019; issued 12,655,171 and outstanding 12,319,330 at December 31, 2018			13,935				12,655
Paid-in capital			104,519				72,602
Retained earnings			126,480				122,643
Treasury stock, at cost; 218,551 shares at December 31, 2019 and 335,841 shares at December 31, 2018			(4,173	)			(6,362	)
Accumulated other comprehensive income (loss)			3,691				(4,170	)
TOTAL STOCKHOLDERS' EQUITY			244,452				197,368
TOTAL LIABILITIES & STOCKHOLDERS' EQUITY		$	1,654,145			$	1,290,893

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

Consolidated Statements of Income		Years Ended December 31,
(In Thousands Except Per Share Data)		2019				2018
INTEREST INCOME
Interest and fees on loans:
Taxable		$	53,086			$	38,667
Tax-exempt			2,104				2,242
Interest on loans held for sale			22				14
Interest on balances with depository institutions			514				415
Income from available-for-sale debt securities:
Taxable			7,008				6,189
Tax-exempt			2,014				2,779
Dividends on marketable equity security			23				22
Total interest and dividend income			64,771				50,328
INTEREST EXPENSE
Interest on deposits			8,190				3,702
Interest on short-term borrowings			733				366
Interest on long-term borrowings			1,013				557
Interest on subordinated debt			347				0
Total interest expense			10,283				4,625
Net interest income			54,488				45,703
Provision for loan losses			849				584
Net interest income after provision for loan losses			53,639				45,119
NONINTEREST INCOME
Trust and financial management revenue			6,106				5,838
Brokerage revenue			1,266				1,018
Insurance commissions, fees and premiums			167				105
Service charges on deposit accounts			5,358				5,171
Service charges and fees			332				343
Interchange revenue from debit card transactions			2,754				2,546
Net gains from sale of loans			924				682
Loan servicing fees, net			100				347
Increase in cash surrender value of bank-owned life insurance			402				394
Other noninterest income			1,875				2,153
Sub-total			19,284				18,597
Gain on restricted equity security			0				2,321
Realized gains (losses) on available-for-sale debt securities, net			23				(288	)
Total noninterest income			19,307				20,630
NONINTEREST EXPENSE
Salaries and wages			20,644				17,191
Pensions and other employee benefits			5,837				5,259
Occupancy expense, net			2,629				2,497
Furniture and equipment expense			1,289				1,196
Data processing expenses			3,403				2,750
Automated teller machine and interchange expense			1,103				1,304
Pennsylvania shares tax			1,380				1,318
Professional fees			1,069				976
Telecommunications			744				748
Directors' fees			673				706
Merger-related expenses			4,099				328
Other noninterest expense			6,667				5,213
Total noninterest expense			49,537				39,486
Income before income tax provision			23,409				26,263
Income tax provision			3,905				4,250
NET INCOME		$	19,504			$	22,013
EARNINGS PER COMMON SHARE - BASIC		$	1.46			$	1.79
EARNINGS PER COMMON SHARE - DILUTED		$	1.46			$	1.79

 

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

 

Consolidated Statements of Comprehensive Income		Years Ended December 31,
(In Thousands)		2019				2018
Net income		$	19,504			$	22,013
Unrealized gains (losses) on available-for-sale debt securities:
Unrealized holding gains (losses) on available-for-sale debt securities			9,920				(3,392	)
Reclassification adjustment for (gains) losses realized in income			(23	)			288
Other comprehensive gain (loss) on available-for-sale debt securities			9,897				(3,104	)
Unfunded pension and postretirement obligations:
Changes from plan amendments and actuarial gains and losses			87				101
Amortization of prior service cost and net actuarial loss included in net periodic benefit cost			(32	)			(17	)
Other comprehensive gain on unfunded retirement obligations			55				84
Other comprehensive income (loss) before income tax			9,952				(3,020	)
Income tax related to other comprehensive (income) loss			(2,091	)			634
Net other comprehensive income (loss)			7,861				(2,386	)
Comprehensive income		$	27,365			$	19,627

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

Consolidated Statements of Changes in Stockholders' Equity
(In Thousands Except Share and Per Share Data)
																	Accumulated
																	Other
		Common			Treasury			Common			Paid-in			Retained			Comprehensive			Treasury
		Shares			Shares			Stock			Capital			Earnings			(Loss) Income			Stock				Total
Balance, January 1, 2018			12,655,171			440,646		$	12,655		$	72,035		$	113,608		$	(1,507	)	$	(8,348	)		$	188,443
Impact of change in enacted income tax rate (a)															325			(325	)					0
Impact of change in method of premium amortization of callable debt securities (b)															(26	)		26						0
Impact of change in method of accounting for marketable equity security (c)															(22	)		22						0
Net income															22,013									22,013
Other comprehensive loss, net																		(2,386	)					(2,386		)
Cash dividends declared on common stock, $1.08 per share															(13,255	)								(13,255		)
Shares issued for dividend reinvestment plan						(59,330	)					385									1,124			1,509
Shares issued from treasury and redeemed related to exercise of stock options						(18,862	)					(166	)								355			189
Restricted stock granted						(34,552	)					(655	)								655			0
Forfeiture of restricted stock						7,939						148									(148	)		0
Stock-based compensation expense												855												855
Balance, December 31, 2018			12,655,171			335,841			12,655			72,602			122,643			(4,170	)		(6,362	)		197,368
Net income															19,504									19,504
Other comprehensive income, net																		7,861						7,861
Cash dividends declared on common stock, $1.18 per share															(15,667	)								(15,667		)
Shares issued for dividend reinvestment plan						(62,232	)					439									1,187			1,626
Shares issued from treasury and redeemed related to exercise of stock options						(18,071	)					(146	)								344			198
Restricted stock granted						(48,137	)					(918	)								918			0
Forfeiture of restricted stock						3,758						71									(71	)		0
Stock-based compensation expense												798												798
Purchase of restricted stock for tax withholding						7,392															(189	)		(189		)
Shares issued for acquisition of Monument Bancorp, Inc., net of equity issuance costs			1,279,825						1,280			31,673												32,953
Balance, December 31, 2019			13,934,996			218,551		$	13,935		$	104,519		$	126,480		$	3,691		$	(4,173	)		$	244,452

 

(a)

As described in more detail in the Recent Accounting Pronouncements - Adopted section of Note 2, this reclassification resulted from adoption of Accounting Standards Update (ASU) 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, effective January 1, 2018.

 

(b)

As described in more detail in the Recent Accounting Pronouncements - Adopted section of Note 2, this reclassification resulted from adoption of ASU 2017-08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20), effective January 1, 2018.

 

(c)

As described in more detail in the Recent Accounting Pronouncements - Adopted section of Note 2, this reclassification resulted from adoption of ASU 2016-01, Recognition and Measurement of Financial Assets and Liabilities, effective January 1, 2018.

 

The accompanying notes are an integral part of the consolidated financial statements. 

 

CONSOLIDATED STATEMENTS OF CASH FLOWS
		Years Ended December 31,
(In Thousands)		2019				2018
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	19,504			$	22,013
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses			849				584
Realized (gains) losses on available-for-sale debt securities, net			(23	)			288
Gain on restricted equity security			0				(2,321	)
Accretion and amortization on securities, net			1,341				1,044
Increase in cash surrender value of bank-owned life insurance			(402	)			(394	)
Depreciation and amortization of bank premises and equipment			1,749				1,754
Other accretion and amortization, net			(375	)			(6	)
Stock-based compensation			798				855
Deferred income taxes			172				(187	)
Decrease in fair value of servicing rights			331				83
Gains on sales of loans, net			(924	)			(682	)
Origination of loans held for sale			(29,978	)			(21,014	)
Proceeds from sales of loans held for sale			30,144				22,060
Decrease (increase) in accrued interest receivable and other assets			1,188				(413	)
(Decrease) increase in accrued interest payable and other liabilities			(2,068	)			1,957
Other			155				271
Net Cash Provided by Operating Activities			22,461				25,892
CASH FLOWS FROM INVESTING ACTIVITIES:
Net cash and cash equivalents used in business combination			(1,778	)			0
Proceeds from maturities of certificates of deposit			580				2,280
Purchase of certificates of deposit			0				(3,700	)
Proceeds from sales of available-for-sale debt securities			96,148				25,860
Proceeds from calls and maturities of available-for-sale debt securities			81,204				52,383
Purchase of available-for-sale debt securities			(57,655	)			(90,015	)
Redemption of Federal Home Loan Bank of Pittsburgh stock			10,137				6,145
Purchase of Federal Home Loan Bank of Pittsburgh stock			(9,208	)			(5,301	)
Net increase in loans			(96,628	)			(14,492	)
Proceeds from sale of restricted equity security			0				2,321
Proceeds from bank owned life insurance			796				1,442
Purchase of premises and equipment			(2,870	)			(1,167	)
Proceeds from sale of foreclosed assets			1,768				2,418
Other			174				178
Net Cash Provided by (Used in) Investing Activities			22,668				(21,648	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net (decrease) increase in deposits			(4,822	)			25,323
Net decrease in short-term borrowings			(38,307	)			(48,913	)
Proceeds from long-term borrowings			48,500				33,000
Repayments of long-term borrowings and subordinated debt			(38,173	)			(6,274	)
Sale of treasury stock			198				189
Purchase of vested restricted stock			(189	)			0
Common dividends paid			(14,041	)			(11,746	)
Net Cash Used in Financing Activities			(46,834	)			(8,421	)
DECREASE IN CASH AND CASH EQUIVALENTS			(1,705	)			(4,177	)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR			32,827				37,004
CASH AND CASH EQUIVALENTS, END OF YEAR		$	31,122			$	32,827
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Right-of-use assets recognized at adoption of ASU 2016-02		$	1,132			$	0
Leased assets obtained in exchange for new operating lease liabilities		$	745			$	0
Assets acquired through foreclosure of real estate loans		$	2,053			$	2,520
Interest paid		$	9,601			$	4,529
Income taxes paid		$	3,234			$	4,277

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

BASIS OF CONSOLIDATION - The consolidated financial statements include the accounts of Citizens & Northern Corporation and its subsidiaries, Citizens & Northern Bank (“C&N Bank”), Bucktail Life Insurance Company and Citizens & Northern Investment Corporation (collectively, “Corporation”), as well as C&N Bank’s wholly-owned subsidiary, C&N Financial Services Corporation. In December 2018, C&N Bank established a new entity, Northern Tier Holding LLC, for the purpose of acquiring, holding and disposing of real property acquired by C&N Bank. C&N Bank is the sole member of Northern Tier Holding LLC. All material intercompany balances and transactions have been eliminated in consolidation.

 

NATURE OF OPERATIONS - The Corporation provides banking and related services to individual and corporate customers. Lending products include commercial, mortgage and consumer loans, as well as specialized instruments such as commercial letters-of-credit. Deposit products include various types of checking accounts, passbook and statement savings, money market accounts, interest checking accounts, Individual Retirement Accounts and certificates of deposit. As discussed further in Note 3, in 2019 the Corporation expanded its primary market area from its historic concentration in northcentral Pennsylvania and southern New York State by acquiring Monument Bancorp, Inc. (“Monument”) with offices in Southeastern Pennsylvania. In 2019, the Corporation also expanded into south central Pennsylvania by opening a lending office in York.

 

The Corporation provides Trust and Financial Management services, including administration of trusts and estates, retirement plans, and other employee benefit plans, and investment management services. The Corporation offers a variety of personal and commercial insurance products through C&N Financial Services Corporation. C&N Financial Services Corporation also offers mutual funds, annuities, educational savings accounts and other investment products through registered agents.

 

Management has determined that the Corporation has one reportable segment, “Community Banking.” All of the Corporation’s activities are interrelated, and each activity is dependent and assessed based on how each of the activities of the Corporation supports the others.

 

The Corporation is subject to competition from other financial institutions. It is also subject to regulation by certain federal and state agencies and undergoes periodic examination by those regulatory authorities. As a consequence, the Corporation’s business is particularly susceptible to being affected by future federal and state legislation and regulations.

 

USE OF ESTIMATES - The financial information is presented in accordance with generally accepted accounting principles and general practice for financial institutions in the United States of America (“U.S. GAAP”). In preparing financial statements, management is required to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements. In addition, these estimates and assumptions affect revenues and expenses in the financial statements and as such, actual results could differ from those estimates.

 

Material estimates that are particularly susceptible to change include: (1) the allowance for loan losses, (2) fair values of debt securities based on estimates from independent valuation services or from brokers and (3) assessment of impaired securities to determine whether or not the securities are other-than-temporarily impaired.

 

INVESTMENT SECURITIES - Investment securities are accounted for as follows:

 

Available-for-sale debt securities - includes debt securities not classified as held-to-maturity or trading. Such securities are reported at fair value, with unrealized gains and losses excluded from earnings and reported separately through accumulated other comprehensive income (loss), net of tax. Premiums on non-amortizing available-for-sale debt securities are amortized using the level yield method to the earliest call date, while discounts on non-amortizing securities are amortized to the maturity date. Premiums and discounts on amortizing securities (mortgage-backed securities) are amortized using the level yield method over the remaining contractual life of the securities, adjusted for actual prepayments. Realized gains and losses on sales of available-for-sale securities are computed on the basis of specific identification of the adjusted cost of each security. Securities within the available-for-sale portfolio may be used as part of the Corporation’s asset and liability management strategy and may be sold in response to changes in interest rate risk, prepayment risk or other factors.

 

Other-than-temporary impairment – Credit-related declines in the fair value of available-for-sale debt securities that are deemed to be other-than-temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment (OTTI) losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) the intent and ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value, and (4) whether the Corporation intends to sell the security or if it is more likely than not that the Corporation will be required to sell the security before the recovery of its amortized cost basis. The credit-related impairment is recognized in earnings and is the difference between a security’s amortized cost basis and the present value of expected future cash flows discounted at the security’s effective interest rate. For debt securities classified as held-to-maturity, if any, the amount of noncredit-related impairment is recognized in other comprehensive income and accreted over the remaining life of the debt security as an increase in the carrying value of the security.

 

 

Marketable equity security – The marketable equity security is carried at fair value with unrealized gains and losses included in other noninterest income in the consolidated statements of income.

 

Restricted equity securities - Restricted equity securities consist primarily of Federal Home Loan Bank of Pittsburgh stock, and are carried at cost and evaluated for impairment. Holdings of restricted equity securities are included in Other Assets in the consolidated balance sheets, and dividends received on restricted securities are included in Other Income in the consolidated statements of income.

 

LOANS HELD FOR SALE - Mortgage loans held for sale are reported at the lower of cost or market, determined in the aggregate.

 

LOANS RECEIVABLE - Loans originated by the Corporation which management has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at unpaid principal balances, less the allowance for loan losses and net deferred loan fees. Interest income is accrued on the unpaid principal balance. Loan origination and commitment fees, as well as certain direct origination costs, are deferred and amortized as a yield adjustment over the lives of the related loans using the interest method.

 

The loans receivable portfolio is segmented into residential mortgage, commercial and consumer loans. The residential mortgage segment includes the following classes: first and junior lien residential mortgages, home equity lines of credit and residential construction loans. The most significant classes of commercial loans are commercial loans secured by real estate, non-real estate secured commercial and industrial loans, loans to political subdivisions, commercial construction, multi-family residential and loans secured by farmland.

 

Loans are placed on nonaccrual status for all classes of loans when, in the opinion of management, collection of interest is doubtful. Any unpaid interest previously accrued on those loans is reversed from income. Interest income is not recognized on specific impaired loans unless the likelihood of further loss is remote. Interest payments received on loans for which the risk of further loss is greater than remote are applied as a reduction of the loan principal balance. Interest income on other nonaccrual loans is recognized only to the extent of interest payments received. Generally, loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time (generally six months) and the ultimate collectability of the total contractual principal and interest is no longer in doubt. The past due status of all classes of loans receivable is determined based on contractual due dates for loan payments. Also, the amortization of deferred loan fees is discontinued when a loan is placed on nonaccrual status.

 

PURCHASED LOANS – The Corporation purchased loans in connection with its acquisition of Monument, some of which had, at the acquisition date of April 1, 2019, shown evidence of credit deterioration since origination. The Corporation considers several factors as indicators that an acquired loan has evidence of deterioration in credit quality. These factors include loans 90 days or more past due, loans with an internal risk rating of substandard or below, loans classified as nonaccrual by the acquired institution and loans that have been previously modified in a troubled debt restructuring. The purchased loans that showed evidence of credit impairment were designated as the purchased credit impaired (“PCI”) loans and were recorded at fair value, with no carryover of the allowance for loan losses. The PCI loans acquired are secured by real estate and the fair value of each loan at the acquisition date was determined based on the estimated proceeds to be derived from selling the collateral, net of selling costs. The PCI loans were placed into nonaccrual status upon acquisition (and remained in nonaccrual status at December 31, 2019) as the Corporation cannot reasonably estimate cash flows expected to be collected in order to compute yield on the loans.

 

For purchased loans that did not show evidence of credit deterioration at the acquisition date, the difference between the fair value of the loan at the acquisition date and the loan’s contractual amount is being amortized as a yield adjustment over the estimated remaining life of the loan using the effective interest method.

 

ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses represents management’s estimate of losses inherent in the loan portfolio as of the balance sheet date and is recorded as a reduction to loans. The allowance for loan losses is increased by the provision for loan losses, and decreased by charge-offs, net of recoveries. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance. All, or part, of the principal balance of loans receivable are charged off to the allowance as soon as it is determined that the collection of all, or part, of the principal balance is highly unlikely. Non-residential consumer loans are generally charged off no later than when they are 120 days past due on a contractual basis, or earlier in the event of bankruptcy or if there is an amount deemed uncollectible.

 

The allowance for loan losses is maintained at a level considered adequate to provide for losses that can be reasonably anticipated. Management performs a quarterly evaluation of the adequacy of the allowance. The allowance is based on the Corporation’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant revision as more information becomes available. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses. Such agencies may require the Corporation to recognize adjustments to the allowance based on their judgments of information available to them at the time of their examination. In the process of evaluating the loan portfolio, management also considers the Corporation’s exposure to losses from unfunded loan commitments. As of December 31, 2019 and 2018, management determined that no allowance for credit losses related to unfunded loan commitments was required.

 

 

The allowance consists primarily of two major components – (1) a specific component based on a detailed assessment of certain larger loan relationships, mainly commercial purpose, determined on a loan-by-loan basis; and (2) a general component for the remainder of the portfolio, except for the performing loans purchased in 2019 from Monument, based on a collective evaluation of pools of loans with similar risk characteristics. The general component is assigned to each pool of loans based on both historical net charge-off experience, and an evaluation of certain qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the above methodologies for estimating specific and general losses in the portfolio.

 

The specific component relates to loans that are classified as impaired based on a detailed assessment of certain larger loan relationships evaluated by a management committee referred to as the Watch List Committee. Specific loan relationships are identified for evaluation based on the related credit risk rating. For individual loans classified as impaired, an allowance is established when the collateral value less estimated selling costs, present value of discounted cash flows or observable market price of the impaired loan is lower than the carrying value of that loan.

 

The scope of loans reviewed individually each quarter to determine if they are impaired include all commercial loan relationships greater than $200,000 and any residential mortgage or consumer loans of $400,000 or more for which there is at least one extension of credit graded Special Mention, Substandard or Doubtful. Loans that are individually reviewed, but which are determined to not be impaired, are combined with all remaining loans that are not reviewed on a specific basis, and such loans are included within larger pools of loans based on similar risk and loss characteristics for purposes of determining the general component of the allowance. All loans classified as troubled debt restructurings and all commercial loan relationships less than $200,000 or other loan relationships less than $400,000 in the aggregate, but with an estimated loss of $100,000 or more, are individually evaluated for impairment.

 

Loans acquired from Monument that did not show evidence of credit deterioration at the acquisition date (April 1, 2019) were initially recorded at fair value, including a discount for credit losses reflecting an estimate of the present value of credit losses based on market expectations. None of the performing loans purchased were impaired at December 31, 2019, and these purchased performing loans were excluded from the loan pools for which the general component of the allowance for loan losses was calculated. A provision for loan losses on purchased performing loans would be recognized only when the required allowance for loan losses or charge-off would exceed any remaining purchase discount at the loan level.

 

The general component covers pools of loans by loan class including commercial loans not considered individually impaired, as well as smaller balance homogeneous classes of loans, such as residential real estate, home equity lines of credit and other consumer loans. Accordingly, the Corporation generally does not separately identify individual consumer and residential loans for impairment disclosures, unless such a loan: (1) is subject to a restructuring agreement, (2) has an outstanding balance of $400,000 or more and a credit grade of Special Mention, Substandard or Doubtful, or (3) has an estimated loss of $100,000 or more. The pools of loans for each loan segment are evaluated for loss exposure based upon average historical net charge-off rates, adjusted for qualitative factors. The time period used in determining the average historical net charge-off rate for each loan class is based on management’s evaluation of an appropriate time period that captures an historical loss experience relevant to the current portfolio. Qualitative risk factors (described in the following paragraph) are evaluated for the impact on each of the three distinct segments (residential mortgage, commercial and consumer) within the loan portfolio. Each qualitative factor is assigned a value to reflect improving, stable or declining conditions based on management’s judgment using relevant information available at the time of the evaluation. Any adjustments to the factors are supported by a narrative documentation of changes in conditions accompanying the allowance for loan losses calculation.

 

The qualitative factors used in the general component calculations are designed to address credit risk characteristics associated with each segment. The Corporation’s credit risk associated with all of the segments is significantly impacted by these factors, which include economic conditions within its market area, the Corporation’s lending policies, changes or trends in the portfolio, risk profile, competition, regulatory requirements and other factors.

 

Loans are classified as impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not 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 shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for commercial loans by the fair value of the collateral (if the loan is collateral dependent), by future cash flows discounted at the loan’s effective rate or by the loan’s observable market price.

 

 

For commercial loans secured by real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the original appraisal and the condition of the property. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.

 

For commercial and industrial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable aging data or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets.

 

Loans whose terms are modified are classified as troubled debt restructurings if the Corporation grants such borrowers concessions and it is deemed that those borrowers are experiencing financial difficulty. Concessions granted under a troubled debt restructuring generally involve reductions in required payments, an extension of a loan’s stated maturity date or a temporary reduction in interest rate. Loans classified as troubled debt restructurings are designated as impaired. Nonaccrual troubled debt restructurings may be restored to accrual status if the ultimate collectability of principal and interest payments under the modified terms is not in doubt, and there has been a period (generally, for at least six consecutive months) of satisfactory payment performance by the borrower either immediately before or after the restructuring.

 

BANK PREMISES AND EQUIPMENT - Bank premises and equipment are stated at cost less accumulated depreciation. Repair and maintenance expenditures which extend the useful lives of assets are capitalized, and other repair and maintenance expenditures are expensed as incurred. Depreciation expense is computed using the straight-line method.

 

IMPAIRMENT OF LONG-LIVED ASSETS - The Corporation reviews long-lived assets, such as premises and equipment and intangibles, for impairment whenever events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. These changes in circumstances may include a significant decrease in the market value of an asset or the manner in which an asset is used. If there is an indication the carrying value of an asset may not be recoverable, future undiscounted cash flows expected to result from use of the asset are estimated. If the sum of the expected cash flows is less than the carrying value of the asset, a loss is recognized for the difference between the carrying value and fair market value of the asset.

 

FORECLOSED ASSETS HELD FOR SALE - Foreclosed assets held for sale consist of real estate acquired by foreclosure and are initially recorded at fair value, less estimated selling costs.

 

GOODWILL - Goodwill represents the excess of the cost of acquisitions over the fair value of the net assets acquired. Goodwill is tested at least annually at December 31 for impairment, or more often if events or circumstances indicate there may be impairment. The Corporation has the option of performing a qualitative assessment to determine whether any further quantitative testing for impairment is necessary. The option of whether or not to perform a qualitative assessment is made annually.

 

CORE DEPOSIT INTANGIBLES – Amortization of core deposit intangibles is calculated using an accelerated method. In determining amortization using the accelerated method for any given period, the amount of expected cash flows for that period that were used in determining the acquisition-date fair value is divided by the total amount of expected cash flows over the life of the asset. That percentage is multiplied by the initial carrying amount of the asset to arrive at amortization expense for that period. If the Corporation’s cash flow patterns differ significantly from the initial estimates, the amortization schedule would be adjusted prospectively.

 

SERVICING RIGHTS - The estimated fair value of servicing rights related to mortgage loans sold and serviced by the Corporation is recorded as an asset upon the sale of such loans. The valuation of servicing rights is adjusted quarterly, with changes in fair value included in Loan Servicing Fees, Net, in the consolidated statements of income. Significant inputs to the valuation include expected net servicing income to be received, the expected life of the underlying loans and the discount rate. The servicing rights asset is included in Other Assets in the consolidated balance sheets.

 

INCOME TAXES - Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amount of existing assets and liabilities and their respective tax bases given the provisions of the enacted tax laws. Deferred tax assets are reduced, if necessary, by the amount of such benefits that are not expected to be realized based upon available evidence. Tax benefits from investments in limited partnerships that have qualified for federal low-income tax credits are recognized as a reduction in the provision for income tax over the term of the investment using the effective yield method. The Corporation includes income tax penalties in the provision for income tax. The Corporation has no accrued interest related to unrecognized tax benefits.

 

STOCK COMPENSATION PLANS - The Corporation’s stock-based compensation policy applies to all forms of stock-based compensation including stock options and restricted stock units. All stock-based compensation is accounted for under the fair value method as required by U.S. GAAP. The expense associated with stock-based compensation is recognized over the vesting period of each individual arrangement.

 

 

The fair value of each stock option is estimated on the date of grant using the Black-Scholes-Merton option valuation model. The fair value of restricted stock is based on the current market price on the date of grant.

 

OFF-BALANCE SHEET FINANCIAL INSTRUMENTS - In the ordinary course of business, the Corporation has entered into off-balance sheet financial instruments consisting of commitments to extend credit and standby letters of credit. Such financial instruments are recorded in the financial statements when they become payable.

 

CASH FLOWS - The Corporation utilizes the net reporting of cash receipts and cash payments for certain deposit and lending activities. Cash equivalents include federal funds sold and all cash and amounts due from depository institutions and interest-bearing deposits in other banks with original maturities of three months or less.

 

REVENUE RECOGNITION - As of January 1, 2018, the Corporation adopted Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606), as well as subsequent ASUs that modified Topic 606. The Company elected to apply the ASU and all related ASUs using the modified retrospective implementation method. The implementation of the guidance had no material impact on the measurement or recognition of revenue of prior periods. The Corporation 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.

 

Additional disclosures related to the Corporation’s largest sources of noninterest income within the consolidated statements of income that are subject to Topic 606 are as follows:

 

Trust and financial management revenue – C&N Bank’s trust division provides a wide range of financial services, including wealth management services for individuals, businesses and retirement funds, administration of 401(k) and other retirement plans, retirement planning, estate planning and estate settlement services. Trust clients are located primarily within the Corporation’s geographic markets. Assets held in a fiduciary capacity by C&N Bank are not the Corporation’s assets and are therefore not included in the consolidated balance sheets. The fair value of trust assets under management was approximately $1,007,113,000 at December 31, 2019 and $862,517,000 at December 31, 2018. Trust and financial management revenue is included within noninterest income in the consolidated statements of income.

 

Trust revenue is recorded on a cash basis, which is not materially different from the accrual basis. The majority (approximately 82%, based on annual 2019 results) of trust revenue is earned and collected monthly, with the amount determined based on a percentage of the fair value of the trust assets under management. Wealth management fees are contractually agreed with each customer, and fee levels vary based mainly on the size of assets under management. The services provided under such a contract represent a single performance obligation under the ASU because it embodies a series of distinct goods or services that are substantially the same and have the same pattern of transfer to the customer. None of the contracts with trust customers provide for incentive-based fees. In addition to wealth management fees, trust revenue includes fees for provision of services, including employee benefit plan administration, tax return preparation and estate planning and settlement. Fees for such services are billed based on contractual arrangements or established fee schedules and are typically billed upon completion of providing such services. The costs of acquiring trust customers are incremental and recognized within noninterest expense in the consolidated statements of income.

 

Service charges on deposit accounts - Deposits are included as liabilities in the consolidated balance sheets. Service charges on deposit accounts include: overdraft fees, which are charged when customers overdraw their accounts beyond available funds; automated teller machine (ATM) fees charged for withdrawals by deposit customers from other financial institutions’ ATMs; and a variety of other monthly or transactional fees for services provided to retail and business customers, mainly associated with checking accounts. All deposit liabilities are considered to have one-day terms and therefore related fees are recognized in income at the time when the services are provided to the customers. Incremental costs of obtaining deposit contracts are not significant and are recognized as expense when incurred within noninterest expense in the consolidated statements of income.

 

Interchange revenue from debit card transactions – The Corporation issues debit cards to consumer and business customers with checking, savings or money market deposit accounts. Debit card and ATM transactions are processed via electronic systems that involve several parties. The Corporation’s debit card and ATM transaction processing is executed via contractual arrangements with payment processing networks, a processor and a settlement bank. As described above, all deposit liabilities are considered to have one-day terms and therefore interchange revenue from customers’ use of their debit cards to initiate transactions are recognized in income at the time when the services are provided and related fees received in the Corporation’s deposit account with the settlement bank. Incremental costs associated with ATM and interchange processing are recognized as expense when incurred within noninterest expense in the consolidated statements of income.

 

 

2. RECENT ACCOUNTING PRONOUNCEMENTS

 

The Financial Accounting Standards Board (FASB) issues ASUs to the FASB Accounting Standards Codification (ASC). This section provides a summary description of recent ASUs that have significant implications (elected or required) within the consolidated financial statements, or that management expects may have a significant impact on financial statements issued in the foreseeable future.

 

Recent Accounting Pronouncements - Adopted

 

Effective December 31, 2019, the Corporation elected early adoption of ASU 2017-04, Intangibles – Goodwill and Other (Topic 350), which simplified accounting for goodwill impairment by removing step 2 of the goodwill impairment test thus eliminating the need to determine the fair value of individual assets and liabilities of the reporting unit. Upon adoption of this ASU, goodwill impairment is the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. Adoption of this ASU did not have a material impact on the Corporation’s consolidated financial statements.

 

Effective January 1, 2019, the Corporation adopted ASU 2016-02, Leases (Topic 842), as modified by subsequent ASUs, which changed U.S. GAAP by requiring that lease assets and liabilities arising from operating leases be recognized on the balance sheet. Topic 842, as modified, does not significantly change the recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee from prior U.S. GAAP. For leases with a term of 12 months or less, the Corporation made an accounting policy election by class of underlying asset not to recognize lease assets and liabilities. The Corporation elected to adopt this pronouncement using an optional transition method resulting in recognition of right-of-use assets and lease liabilities for operating leases of $1,132,000 on its consolidated balance sheets at January 1, 2019, with no adjustment to stockholders’ equity and no material impact to its consolidated statements of income. At December 31, 2019, right-of-use assets of $1,637,000 were included in other assets, and the related liabilities totaling the same amount were included in accrued interest and other liabilities, in the consolidated balance sheets.

 

In February 2018, the FASB issued ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, which permits, but does not require, entities to reclassify tax effects stranded in accumulated other

comprehensive income resulting from the Tax Cuts and Jobs Act of 2017 to retained earnings. Companies that elect to reclassify these amounts must reclassify stranded tax effects for all items accounted for in accumulated other comprehensive income. The Corporation elected early adoption and adopted this standard update, effective January 1, 2018. The Corporation’s stranded tax effects were related to valuation of the net deferred tax asset attributable to items of accumulated other comprehensive income (loss), which are unrealized gains (losses) on available-for-sale debt securities and unfunded defined benefit plan obligations. Adoption resulted in a reclassification between two categories of stockholders’ equity at January 1, 2018, with an increase of $325,000 in retained earnings and a decrease in accumulated other comprehensive loss for the same amount (no net change in stockholders’ equity).

 

Effective January 1, 2018, the Corporation elected early adoption of ASU 2017-08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20). This Update shortens the amortization period for certain callable debt securities held at a premium. Discounts will continue to be amortized to maturity. Adoption resulted in a reduction in retained earnings and corresponding increase in accumulated other comprehensive loss (no net change in stockholders’ equity) of $26,000 at January 1, 2018 for the cumulative after-tax impact of the change in accounting for debt securities held as of that date.

 

Effective January 1, 2018, the Corporation adopted ASU 2016-01, Recognition and Measurement of Financial Assets and Liabilities. The guidance affects the accounting for equity investments, financial liabilities under the fair value option and the presentation and disclosure requirements of financial instruments. ASU 2016-01 was effective for the Corporation on January 1, 2018 and resulted in the following changes:

 

·

A marketable equity security previously included in available-for-sale securities on the consolidated balance sheets is presented as a separate asset.

 

·

Changes in the fair value of the marketable equity security are captured in the consolidated statements of income.

 

·

Retained earnings was reduced and a corresponding increase in accumulated other comprehensive loss was recognized (no net change in stockholders’ equity) of $22,000 at January 1, 2018 for the after-tax impact of the change in accounting for the unrealized loss on the marketable equity security.

 

·

Adoption of ASU 2016-01 also resulted in the use of an exit price to determine the fair value of financial instruments not measured at fair value in the consolidated balance sheets. Further information regarding valuation of financial instruments is provided in Note 21.

 

Recently Issued But Not Yet Effective Accounting Pronouncements

 

ASU 2016-13, Financial Instruments-Credit Losses (Topic 326), as modified by subsequent ASUs, changes accounting for credit losses on loans receivable and debt securities from an incurred loss methodology to an expected credit loss methodology. Among other things, ASU 2016-13 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. Accordingly, ASU 2016-13 requires the use of forward-looking information to form credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, though the inputs to those techniques will change to reflect the full amount of expected credit losses.

 

 

In addition, ASU 2016-13 amends the accounting for credit losses on debt securities and purchased financial assets with credit deterioration. The effect of implementing this ASU is recorded through a cumulative-effect adjustment to retained earnings. The Corporation has formed a cross functional management team and is working with an outside vendor assessing alternative loss estimation methodologies and the Corporation’s data and system needs to evaluate the impact that adoption of this standard will have on the Corporation’s financial condition and results of operations. In November 2019, the FASB approved a delay of the required implementation date of ASU 2016-13 for smaller reporting companies, including the Corporation, resulting in a required implementation date for the Corporation of January 1, 2023.

 

ASU 2018-13, Fair Value Measurement (Topic 820) modifies disclosure requirements on fair value measurements. This ASU removes requirements to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, the policy for timing of transfers between levels and the valuation processes for Level 3 fair value measurements. ASU 2018-13 clarifies that disclosure regarding measurement uncertainty is intended to communicate information about the uncertainty in measurement as of the reporting date. ASU 2018-13 adds certain disclosure requirements, including disclosure of changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The amendments in this ASU are effective for the Corporation beginning in the first quarter 2020. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty should be applied prospectively, while all other amendments should be applied retrospectively for all periods presented. The Corporation does not expect adoption of this ASU to have a material impact on its consolidated financial position or results of operations.

 

ASU 2018-15, Intangibles – Goodwill and Other – Internal-Use Software (Subtopic 350-40) was issued to help entities evaluate the accounting for fees paid by a customer in a cloud computing arrangement (hosting arrangement) by providing guidance for determining when the arrangement includes a software license. The amendments align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected by the amendments. This guidance will become effective for the Corporation beginning in the first quarter 2020, with early adoption permitted. The Corporation does not expect adoption of this ASU to have a material impact on its consolidated financial statements.

 

3. BUSINESS COMBINATION AND PENDING ACQUISITION

 

Business Combination – Acquisition of Monument Bancorp, Inc.

 

On April 1, 2019, the Corporation completed its acquisition of 100% of the common stock of Monument. Monument was the parent company of Monument Bank, a commercial bank which operated two community bank offices and one lending office in Bucks County, Pennsylvania. Pursuant to the merger, Monument was merged into Citizens & Northern Corporation and Monument Bank was merged into C&N Bank. Management believes the acquisition provides an opportunity to leverage the Corporation’s capital and deposits in a higher growth market and aligns with the Corporation’s focus to proactively deploy capital to enhance long-term shareholder value.

 

The consolidated financial statements include the formerly separate Monument operations from April 1, 2019 through December 31, 2019. Since the activities of the former Monument operations have been combined with those of the Corporation, separate disclosure of Monument-related financial information included in the consolidated financial statements is not practicable.

 

Total purchase consideration was $42,651,000, including cash paid to former Monument shareholders totaling $9,517,000 and 1,279,825 shares of Corporation common stock issued with a value of $32,953,000, (net of costs directly related to stock issuance of $181,000 included in the cash portion of merger consideration transferred in the table below).

 

The merger was accounted for using the acquisition method of accounting and, accordingly, purchased assets, including identifiable intangible assets, and assumed liabilities were recorded at their respective acquisition date fair values. The fair value measurements of assets acquired and liabilities assumed are subject to refinement for up to one year after the closing date of the acquisition as additional information relative to closing date fair values become available. In the fourth quarter 2019, the Corporation recorded an adjustment to the initial fair value measurements of miscellaneous receivables and accrued liabilities made as of April 1, 2019. The adjustment resulted in an increase in other assets of $216,000 and a decrease in other liabilities of $14,000, with a corresponding reduction in goodwill of $230,000.

 

 

The fair value of assets acquired (as adjusted in the fourth quarter 2019), excluding goodwill, totaled $375,138,000, while the fair value of liabilities assumed totaled $348,933,000. Goodwill represents consideration transferred in excess of the fair value of the net assets acquired. At December 31, 2019, goodwill associated with the acquisition was $16,446,000. The goodwill resulting from the acquisition represents the value expected from the expansion of the Corporation’s market into Southeastern Pennsylvania. Goodwill acquired in the Monument merger is not deductible for tax purposes as the acquisition is accounted for as a tax-free exchange for tax purposes.

 

The following table summarizes the consideration paid for Monument and the estimated fair values of the assets acquired and liabilities assumed at the acquisition date:

 

(In Thousands)
Fair value of consideration transferred:
Cash		$	9,698
Common stock issued			32,953
Total consideration transferred		$	42,651

 

Estimated fair values of assets acquired and (liabilities) assumed: (In Thousands)
Cash and cash equivalents		$	7,920
Available-for-sale debt securities			94,568
Loans receivable			259,295
Accrued interest receivable			1,593
Bank premises and equipment			1,465
Foreclosed assets held for sale			1,064
Deferred tax asset, net			771
Core deposit intangible			1,461
Goodwill			16,446
Other assets			7,001
Deposits			(223,303	)
Short-term borrowings			(111,568	)
Subordinated debt			(12,375	)
Accrued interest and other liabilities			(1,687	)
Estimated excess fair value of assets acquired over liabilities assumed		$	42,651

 

In the consolidated statements of cash flows, noncash investing and financing activities include the issuance of common stock as part of the merger consideration as well as the following categories of assets acquired and liabilities assumed from Monument as reflected in the table above: available-for-sale debt securities, loans receivable, bank premises and equipment, foreclosed assets held for sale, core deposit intangible, goodwill, Federal Home Loan Bank of Pittsburgh stock of $5,478,000 (included in other assets above), deposits, short-term borrowings and subordinated debt.

 

Acquisition date fair values for available-for-sale securities were determined using Level 1 inputs consistent with the methods discussed further in Note 21. The Corporation sold the acquired securities in April 2019 for approximately no realized gain or loss.

 

The determination of estimated fair values of the acquired loans required the Corporation to make certain estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature. Based on such factors as past due status, nonaccrual status, bankruptcy status, and credit risk ratings, the acquired loans were evaluated, and four loans (from three relationships) displayed evidence of credit quality deterioration. These loans are accounted for under ASC 310-30 (purchased credit impaired, or “PCI”). The majority of the purchased loans did not display evidence of impairment, and thus are accounted for under ASC 310-20. Expected cash flows, both principal and interest, were estimated based on key assumptions covering such factors as prepayments, default rates and severity of loss given default. These assumptions were developed based on the portfolio characteristics as of the acquisition date as well as available market research. The fair value estimates for acquired loans were based on the amount and timing of expected principal, interest and other cash flows, including expected prepayments, discounted at prevailing market interest rates applicable to the types of acquired loans, which the Corporation considers Level 3 fair value measurements.

 

 

Loans acquired from Monument were measured at fair value at the acquisition date with no carryover of an allowance for loan losses. The following table presents performing and PCI loans acquired, by loan segment and class, at April 1, 2019:

 

(In Thousands)		Performing				PCI				Total
Residential mortgage:
Residential mortgage loans - first liens		$	107,645			$	77			$	107,722
Residential mortgage loans - junior liens			2,433				0				2,433
Home equity lines of credit			2,674				0				2,674
1-4 Family residential construction			510				0				510
Total residential mortgage			113,262				77				113,339
Commercial:
Commercial loans secured by real estate			113,821				364				114,185
Commercial and industrial			7,571				0				7,571
Commercial construction and land			4,617				0				4,617
Loans secured by farmland			267				0				267
Multi-family (5 or more) residential			17,493				0				17,493
Other commercial loans			835				0				835
Total commercial			144,604				364				144,968
Consumer			988				0				988
Total		$	258,854			$	441			$	259,295

 

The following table presents the preliminary fair value adjustments made to the amortized cost basis of loans acquired at April 1, 2019:

 

(In Thousands)
Gross amortized cost at acquisition		$	263,334
Market rate adjustment			(1,807	)
Credit fair value adjustment on non-credit impaired loans (accretable)			(1,914	)
Credit fair value adjustment on impaired loans (non-accretable)			(318	)
Estimated fair value of acquired loans		$	259,295

 

The market rate adjustment represents the movement in interest rates, irrespective of credit adjustments, compared to the contractual rates of the acquired loans. The credit adjustment made on non-PCI loans represents changes in credit quality of the underlying borrowers from loan inception to the acquisition date.

 

The credit adjustment on PCI loans is derived in accordance with ASC 310-30 and represents the portion of the loan balances that have been deemed uncollectible for each loan. The PCI loans are secured by real estate and the fair value of each loan was determined based on the estimated proceeds to be derived from selling the collateral, net of selling costs. The PCI loans were placed into nonaccrual status upon acquisition (and remained in nonaccrual status at December 31, 2019) as the Corporation cannot reasonably estimate cash flows expected to be collected in order to compute yield on the loans.

 

The Corporation recognized a core deposit intangible of $1,461,000. The core deposit intangible represents the estimated value of lower-cost funding provided by the nonmaturity deposits assumed in comparison with the Corporation’s estimated cost of borrowing funds in the market. The core deposit intangible will be amortized over a weighted-average life of 4.4 years.

 

Deposit liabilities assumed were segregated into two categories: (1) nonmaturity deposits (checking, savings and money market), and (2) time deposits (deposit accounts with a stated maturity). The fair values of both categories of deposits were determined using level 2 fair value measurements. For nonmaturity deposits, the acquisition date outstanding balance of the assumed demand deposit accounts approximates fair value. In determining the fair value of time deposits, the Corporation discounted the contractual cash flows of the deposit accounts using prevailing market interest rates for time deposit accounts of similar type and duration.

 

Short-term borrowings assumed consisted of advances from the Federal Home Loan Bank of Pittsburgh. The fair value of short-term borrowings was determined using Level 2 measurements by discounting the contractual cash flows of the borrowings using Federal Home Loan Bank interest rates available April 1, 2019 for advances to the same maturities as those of the deposits assumed.

 

 

Subordinated debt assumed included two issues: (1) agreements with par values totaling $5,375,000 which were redeemed on April 1, 2019; and (2) agreements with par values totaling $7,000,000, maturing April 1, 2027 and which may be redeemed at par beginning April 1, 2022. The fair value of subordinated debt was determined using Level 2 measurements by comparing the interest rates on the debt to the rates on similar recent issues of comparable size by other similar-sized banking companies. In the fourth quarter 2019, the Corporation redeemed subordinated debt with a par value of $500,000, resulting in a loss of $10,000 (included in other noninterest expense in the consolidated statements of income).

 

Merger-related expenses associated with the Monument transaction totaled of $3,812,000 in 2019 and $328,000 in 2018. Merger-related expenses include costs associated with termination of data processing contracts, conversion of Monument’s customer accounting data into the Corporation’s core system, severance and similar expenses, legal and other professional fees and various other costs.

 

The following table presents pro forma information as if the merger between the Corporation and Monument had been completed on January 1, 2018. The pro forma information does not necessarily reflect the results of operations that would have occurred had the merger taken place at the beginning of 2018. The supplemental pro forma information excludes the after-tax cost of merger-related expenses totaling $3,270,000 in 2019 and $305,000 in 2018. The pro forma information does not include the impact of possible business model changes nor does it consider any potential impacts of current market conditions or revenues, expense efficiencies or other factors.

 

		Year Ended
		Dec. 31,				Dec. 31,
(In Thousands Except Per Share Data)		2019				2018
Interest income		$	68,817			$	66,528
Interest expense			11,517				10,516
Net interest income			57,300				56,012
Provision for loan losses			894				1,059
Net interest income after provision for loan losses			56,406				54,953
Noninterest income			19,300				18,712
Net gains on securities			23				2,763
Other noninterest expenses			47,178				46,586
Income before income tax provision			28,551				29,842
Income tax provision			4,954				4,812
Net income		$	23,597			$	25,030
Earnings per common share - basic		$	1.65			$	1.84
Earnings per common share - diluted		$	1.64			$	1.84

 

Pending Acquisition of Covenant Financial, Inc.

 

In December 2019, the Corporation announced a plan of merger to acquire Covenant Financial, Inc. (“Covenant”) in a transaction valued on December 18, 2019 at approximately $77 million. Under the terms of the definitive agreement, the Corporation will pay cash for 25% of the Covenant shares and will convert 75% of Covenant shares to the Corporation’s common stock. Covenant is the holding company for Covenant Bank, which operates banking offices in Bucks and Chester Counties of PA. Covenant had total assets of $516 million, liabilities of $474 million and stockholders’ equity of $42 million at December 31, 2019. The merger is subject to satisfaction of customary closing conditions, including receipt of regulatory approvals and approval of Covenant’s shareholders. The merger is expected to close in the third quarter 2020. In 2019, the Corporation incurred merger-related expenses totaling $287,000 related to the planned acquisition of Covenant. Management estimates pre-tax merger-related expenses associated with the Covenant acquisition will total approximately $8 million ($6.6 million, net of tax), with most of the expenses expected to be incurred in the third quarter 2020.

 

4. PER SHARE DATA

 

Basic earnings per common share are calculated using the two-class method to determine income attributable to common shareholders. Unvested restricted stock awards that contain nonforfeitable rights to dividends are considered participating securities under the two-class method. Distributed dividends and an allocation of undistributed net income to participating securities reduce the amount of income attributable to common shareholders. Income attributable to common shareholders is then divided by weighted-average common shares outstanding for the period to determine basic earnings per common share.

 

 

Diluted earnings per common share are calculated under the more dilutive of either the treasury method or the two-class method. Diluted earnings per common share is computed using weighted-average common shares outstanding, plus weighted-average common shares available from the exercise of all dilutive stock options, less the number of shares that could be repurchased with the proceeds of stock option exercises based on the average share price of the Corporation's common stock during the period.

 

		Years Ended
		Dec. 31,				Dec. 31,
		2019				2018
Basic
Net income		$	19,504,000			$	22,013,000
Less: Dividends and undistributed earnings allocated to participating securities			(100,000	)			(110,000	)
Net income attributable to common shares		$	19,404,000			$	21,903,000
Basic weighted-average common shares outstanding			13,298,736				12,219,209
Basic earnings per common share (a)		$	1.46			$	1.79
Diluted
Net income attributable to common shares		$	19,404,000			$	21,903,000
Basic weighted-average common shares outstanding			13,298,736				12,219,209
Dilutive effect of potential common stock arising from stock options			22,823				38,159
Diluted weighted-average common shares outstanding			13,321,559				12,257,368
Diluted earnings per common share (a)		$	1.46			$	1.79

 

(a) Basic and diluted earnings per share under the two-class method are determined on net income reported on the income statement less earnings allocated to nonvested restricted shares with nonforfeitable dividends (participating securities).

 

The weighted-average number of nonvested restricted shares outstanding was 68,358 shares in 2019 and 61,778 shares in 2018.

 

Stock options that are anti-dilutive are excluded from net income per share calculations. There were no anti-dilutive instruments in 2019 or 2018.

 

 

5. COMPREHENSIVE INCOME

 

Comprehensive income (loss) is the total of (1) net income, and (2) all other changes in equity from non-stockholder sources, which are referred to as other comprehensive income (loss). The components of other comprehensive income (loss), and the related tax effects, are as follows:

 

		Before-Tax				Income Tax				Net-of-Tax
(In Thousands)		Amount				Effect				Amount
2019
Unrealized gains on available-for-sale debt securities:
Unrealized holding gains on available-for-sale securities		$	9,920			($	2,084	)		$	7,836
Reclassification adjustment for gains realized in income			(23	)			5				(18	)
Other comprehensive income on available-for-sale debt securities			9,897				(2,079	)			7,818
Unfunded pension and postretirement obligations:
Changes from plan amendments and actuarial gains and losses
included in other comprehensive income			87				(19	)			68
Amortization of prior service cost and net actuarial loss
included in net periodic benefit cost			(32	)			7				(25	)
Other comprehensive income on unfunded retirement obligations			55				(12	)			43
Total other comprehensive income		$	9,952			($	2,091	)		$	7,861

 

		Before-Tax				Income Tax				Net-of-Tax
(In Thousands)		Amount				Effect				Amount
2018
Unrealized losses on available-for-sale debt securities:
Unrealized holding losses on available-for-sale securities		($	3,392	)		$	712			($	2,680	)
Reclassification adjustment for losses realized in income			288				(60	)			228
Other comprehensive loss on available-for-sale debt securities			(3,104	)			652				(2,452	)
Unfunded pension and postretirement obligations:
Changes from plan amendments and actuarial gains and losses
included in other comprehensive income			101				(21	)			80
Amortization of prior service cost and net actuarial loss
included in net periodic benefit cost			(17	)			3				(14	)
Other comprehensive income on unfunded retirement obligations			84				(18	)			66
Total other comprehensive loss		($	3,020	)		$	634			($	2,386	)

 

 

Changes in the components of accumulated other comprehensive income (loss), included in stockholders’ equity, are as follows:

 

		Unrealized								Accumulated
		Gains				Unfunded				Other
		(Losses)				Retirement				Comprehensive
(In Thousands)		on Securities				Obligations				Income (Loss)
2019
Balance, beginning of period		$	(4,307	)		$	137			$	(4,170	)
Other comprehensive income during year ended December 31, 2019			7,818				43				7,861
Balance, end of period		$	3,511			$	180			$	3,691
2018
Balance, beginning of period		$	(1,566	)		$	59			$	(1,507	)
Impact of change in enacted income tax rate			(337	)			12				(325	)
Impact of change in the method of premium amortization of callable debt securities			26				0				26
Impact of change in the method of accounting for marketable equity security			22				0				22
Other comprehensive (loss) income during year ended December 31, 2018			(2,452	)			66				(2,386	)
Balance, end of period		$	(4,307	)		$	137			$	(4,170	)

 

Items reclassified out of each component of accumulated other comprehensive income (loss) are as follows:

 

For the Year Ended December 31, 2019
(In Thousands)
		Reclassified from
		Accumulated Other
Details about Accumulated Other		Comprehensive				Affected Line Item in the Consolidated
Comprehensive Income (Loss) Components		Income (Loss)				Statements of Income
Unrealized gains and losses on available-for-sale debt securities		$	(23	)		Realized gains on available-for-sale debt securities, net
			5			Income tax provision
			(18	)		Net of tax
Amortization of defined benefit pension and postretirement items:
Prior service cost			(31	)		Other noninterest expense
Actuarial gain			(1	)		Other noninterest expense
			(32	)		Total before tax
			7			Income tax provision
			(25	)		Net of tax
Total reclassifications for the period		$	(43	)

 

 

For the Year Ended December 31, 2018
(In Thousands)
		Reclassified from
		Accumulated Other
Details about Accumulated Other		Comprehensive				Affected Line Item in the Consolidated
Comprehensive Income (Loss) Components		Income (Loss)				Statements of Income
Unrealized gains and losses on available-for-sale debt securities		$	288			Realized losses on available-for-sale debt securities, net
			(60	)		Income tax provision
			228			Net of tax
Amortization of defined benefit pension and postretirement items:
Prior service cost			(30	)		Other noninterest expense
Actuarial loss			13			Other noninterest expense
			(17	)		Total before tax
			3			Income tax provision
			(14	)		Net of tax
Total reclassifications for the period		$	214

 

6. CASH AND DUE FROM BANKS

 

Cash and due from banks at December 31, 2019 and 2018 include the following:

 

		Dec. 31,				Dec. 31,
(In thousands)		2019				2018
Cash and cash equivalents		$	31,122			$	32,827
Certificates of deposit			4,080				4,660
Total cash and due from banks		$	35,202			$	37,487

 

Certificates of deposit are issues by U.S. banks with original maturities greater than three months. Each certificate of deposit is fully FDIC-insured. The Corporation maintains cash and cash equivalents with certain financial institutions in excess of the FDIC insurance limit.

 

The Corporation is required to maintain reserves against deposit liabilities in the form of cash and balances with the Federal Reserve Bank. The reserves are based on deposit levels, account activity, and other services provided by the Federal Reserve Bank. Required reserves were $20,148,000 at December 31, 2019 and $18,141,000 at December 31, 2018.

 

7. SECURITIES

 

Amortized cost and fair value of available-for-sale debt securities at December 31, 2019 and 2018 are summarized as follows:

 

						December 31, 2019
						Gross				Gross
						Unrealized				Unrealized
		Amortized				Holding				Holding				Fair
(In Thousands)		Cost				Gains				Losses				Value
Obligations of U.S. Government agencies		$	16,380			$	620			$	0			$	17,000
Obligations of states and political subdivisions:
Tax-exempt			68,787				2,011				(38	)			70,760
Taxable			35,446				927				(70	)			36,303
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			58,875				472				(137	)			59,210
Residential collateralized mortgage obligations			115,025				308				(610	)			114,723
Commercial mortgage-backed securities			47,765				1,069				(107	)			48,727
Total		$	342,278			$	5,407			($	962	)		$	346,723

 

 

						December 31, 2018
						Gross				Gross
						Unrealized				Unrealized
		Amortized				Holding				Holding				Fair
(In Thousands)		Cost				Gains				Losses				Value
Obligations of U.S. Government agencies		$	12,331			$	169			$	0			$	12,500
Obligations of states and political subdivisions:
Tax-exempt			84,204				949				(1,201	)			83,952
Taxable			27,618				208				(127	)			27,699
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			54,827				48				(1,430	)			53,445
Residential collateralized mortgage obligations			148,964				238				(3,290	)			145,912
Commercial mortgage-backed securities			40,781				166				(1,182	)			39,765
Total		$	368,725			$	1,778			($	7,230	)		$	363,273

 

The following table presents gross unrealized losses and fair value of available-for-sale debt securities with unrealized loss positions that are not deemed to be other-than-temporarily impaired, aggregated by length of time that individual securities have been in a continuous unrealized loss position at December 31, 2019 and 2018:

 

		Less Than 12 Months								12 Months or More								Total
December 31, 2019		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
(In Thousands)		Value				Losses				Value				Losses				Value				Losses
Obligations of states and political subdivisions:
Tax-exempt		$	6,429			($	38	)		$	0			$	0			$	6,429			($	38	)
Taxable			5,624				(68	)			161				(2	)			5,785				(70	)
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			9,771				(35	)			14,787				(102	)			24,558				(137	)
Residential collateralized mortgage obligations			31,409				(195	)			30,535				(415	)			61,944				(610	)
Commercial mortgage-backed securities			0				0				8,507				(107	)			8,507				(107	)
Total		$	53,233			($	336	)		$	53,990			($	626	)		$	107,223			($	962	)

 

		Less Than 12 Months								12 Months or More								Total
December 31, 2018		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
(In Thousands)		Value				Losses				Value				Losses				Value				Losses
Obligations of states and political subdivisions:
Tax-exempt		$	5,084			($	11	)		$	32,684			($	1,190	)		$	37,768			($	1,201	)
Taxable			980				(2	)			11,418				(125	)			12,398				(127	)
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			5,592				(4	)			42,309				(1,426	)			47,901				(1,430	)
Residential collateralized mortgage obligations			1,892				(8	)			101,662				(3,282	)			103,554				(3,290	)
Commercial mortgage-backed securities			0				0				32,552				(1,182	)			32,552				(1,182	)
Total		$	13,548			($	25	)		$	220,625			($	7,205	)		$	234,173			($	7,230	)

 

 

Gross realized gains and losses from available-for-sale securities and the related income tax provision were as follows:

 

(In Thousands)		2019				2018
Gross realized gains from sales		$	24			$	259
Gross realized losses from sales			(1	)			(547	)
Net realized gains (losses)		$	23			($	288	)
Income tax (credit) provision related to net realized gains (losses)		$	5			($	60	)

 

The amortized cost and fair value of available-for-sale debt securities by contractual maturity are shown in the following table as of December 31, 2019. Actual maturities may differ from contractual maturities because counterparties may have the right to call or prepay obligations with or without call or prepayment penalties.

 

		December 31, 2019
		Amortized				Fair
(In Thousands)		Cost				Value
Due in one year or less		$	7,216			$	7,247
Due from one year through five years			31,627				32,408
Due from five years through ten years			42,709				43,845
Due after ten years			39,061				40,563
Sub-total			120,613				124,063
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			58,875				59,210
Residential collateralized mortgage obligations			115,025				114,723
Commercial mortgage-backed securities			47,765				48,727
Total		$	342,278			$	346,723

 

The Corporation’s mortgage-backed securities and collateralized mortgage obligations have stated maturities that may differ from actual maturities due to borrowers’ ability to prepay obligations. Cash flows from such investments are dependent upon the performance of the underlying mortgage loans and are generally influenced by the level of interest rates. In the table above, mortgage-backed securities and collateralized mortgage obligations are shown in one period.

 

Investment securities carried at $215,270,000 at December 31, 2019 and $229,418,000 at December 31, 2018 were pledged as collateral for public deposits, trusts and certain other deposits as provided by law. See Note 12 for information concerning securities pledged to secure borrowing arrangements.

 

Management evaluates securities for OTTI at least on a quarterly basis, and more frequently when economic or market conditions warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) whether the Corporation intends to sell the security or more likely than not will be required to sell the security before its anticipated recovery.

 

A summary of information management considered in evaluating debt and equity securities for OTTI at December 31, 2019 and 2018 is provided below.

 

Debt Securities

 

At December 31, 2019 and 2018, management performed an assessment for possible OTTI of the Corporation’s debt securities on an issue-by-issue basis, relying on information obtained from various sources, including publicly available financial data, ratings by external agencies, brokers and other sources. The extent of individual analysis applied to each security depended on the size of the Corporation’s investment, as well as management’s perception of the credit risk associated with each security. Based on the results of the assessment, management believes impairment of these debt securities at December 31, 2019 and 2018 to be temporary.

 

 

Equity Securities

 

C&N Bank is a member of the Federal Home Loan Bank of Pittsburgh (FHLB-Pittsburgh), which is one of 11 regional Federal Home Loan Banks. As a member, C&N Bank is required to purchase and maintain stock in FHLB-Pittsburgh. There is no active market for FHLB-Pittsburgh stock, and it must ordinarily be redeemed by FHLB-Pittsburgh in order to be liquidated. C&N Bank’s investment in FHLB-Pittsburgh stock, included in Other Assets in the consolidated balance sheets, was $10,131,000 at December 31, 2019 and $5,582,000 at December 31, 2018. The Corporation evaluated its holding of FHLB-Pittsburgh stock for impairment and deemed the stock to not be impaired at December 31, 2019 and December 31, 2018. In making this determination, management concluded that recovery of total outstanding par value, which equals the carrying value, is expected. The decision was based on review of financial information that FHLB-Pittsburgh has made publicly available.

 

The Corporation’s marketable equity security, with carrying values of $979,000 at December 31, 2019 and $950,000 at December 31, 2018, consisted exclusively of one mutual fund. There was an unrealized loss on the mutual fund of $21,000 at December 31, 2019 and $50,000 at December 31, 2018. The decrease in the unrealized loss of $29,000 in 2019 and the increase in the unrealized loss of $21,000 in 2018 are included in other noninterest income in the consolidated statements of income.

 

In the year ended December 31, 2018, the Corporation recorded pre-tax gains from sales of a restricted equity security (Visa Class B stock) totaling $2,321,000. The Corporation had received 19,789 shares of Visa Class B stock pursuant to Visa’s 2007 initial public offering. Until the second quarter 2018, the carrying value of the shares was $0, which represented the Corporation’s cost basis. Class B shares are subject to restrictions on transfer, essentially limiting their transferability to other owners of Class B shares. In the second and third quarters of 2018, the Corporation sold all of its Visa Class B stock.

 

A summary of realized and unrealized gains and losses recognized on equity securities is as follows:

 

(In Thousands)		2019				2018
Net gains recognized during the period on equity securities		$	29			$	2,300
Less: net gains recognized during the period on equity securities sold during the period			0				(2,321	)
Unrealized gains (losses) recognized during the period on equity securities still held at the reporting date		$	29			$	(21	)

 

 

8. LOANS

 

Loans outstanding at December 31, 2019 and 2018 are summarized as follows:

 

Summary of Loans by Type		Dec. 31,				Dec. 31,
(In Thousands)		2019				2018
Residential mortgage:
Residential mortgage loans - first liens		$	510,641			$	372,339
Residential mortgage loans - junior liens			27,503				25,450
Home equity lines of credit			33,638				34,319
1-4 Family residential construction			14,798				24,698
Total residential mortgage			586,580				456,806
Commercial:
Commercial loans secured by real estate			301,227				162,611
Commercial and industrial			126,374				91,856
Political subdivisions			53,570				53,263
Commercial construction and land			33,555				11,962
Loans secured by farmland			12,251				7,146
Multi-family (5 or more) residential			31,070				7,180
Agricultural loans			4,319				5,659
Other commercial loans			16,535				13,950
Total commercial			578,901				353,627
Consumer			16,741				17,130
Total			1,182,222				827,563
Less: allowance for loan losses			(9,836	)			(9,309	)
Loans, net		$	1,172,386			$	818,254

 

In the table above, outstanding loan balances are presented net of deferred loan origination fees, net, of $2,482,000 at December 31, 2019 and $1,999,000 at December 31, 2018.

 

As described in Note 3, effective April 1, 2019, the Corporation acquired loans pursuant to the acquisition of Monument. The loans acquired from Monument were recorded at an initial fair value of $259,295,000. The gross amortized cost of loans acquired from Monument on April 1, 2019 was reduced $1,807,000 based on movements in interest rates (market rate adjustment) and was also reduced $1,914,000 based on a credit fair value adjustment on non-impaired loans and by $318,000 based on a credit fair value adjustment on impaired loans. In 2019, adjustments to these initial discounts to the carrying amounts of loans were recognized as follows:

 

						Credit
		Market				Adjustment on				Credit
		Rate				Non-impaired				Adjustment on
(In Thousands)		Adjustment				Loans				PCI Loans
Adjustments to gross amortized cost of loans at acquisition		$	(1,807	)		$	(1,914	)		$	(318	)
Accretion recognized in interest income			392				698
Recovery from PCI loan pay-off											10
Adjustments to gross amortized cost of loans at December 31, 2019		$	(1,415	)		$	(1,216	)		$	(308	)

 

 

The Corporation grants loans to individuals as well as commercial and tax-exempt entities. Commercial, residential and personal loans are made to customers geographically concentrated in northcentral Pennsylvania, the southern tier of New York State, southeastern Pennsylvania and southcentral Pennsylvania. Although the Corporation has a diversified loan portfolio, a significant portion of its debtors’ ability to honor their contracts is dependent on the local economic conditions within the region. There is no concentration of loans to borrowers engaged in similar businesses or activities that exceed 10% of total loans at December 31, 2019.

 

 

Transactions within the allowance for loan losses, summarized by segment and class, were as follows:

 

Year Ended December 31, 2019		Dec. 31,																Dec. 31,
(In Thousands)		2018 Balance				Charge-offs				Recoveries				Provision (Credit)				2019 Balance
Allowance for Loan Losses:
Residential mortgage:
Residential mortgage loans - first liens		$	3,156			$	(166	)		$	4			$	411			$	3,405
Residential mortgage loans - junior liens			325				(24	)			2				81				384
Home equity lines of credit			302				0				5				(31	)			276
1-4 Family residential construction			203				0				1				(87	)			117
Total residential mortgage			3,986				(190	)			12				374				4,182
Commercial:
Commercial loans secured by real estate			2,538				0				0				(617	)			1,921
Commercial and industrial			1,553				(6	)			6				(162	)			1,391
Commercial construction and land			110				0				0				856				966
Loans secured by farmland			102				0				0				56				158
Multi-family (5 or more) residential			114				0				0				42				156
Agricultural loans			46				0				0				(5	)			41
Other commercial loans			128				0				0				27				155
Total commercial			4,591				(6	)			6				197				4,788
Consumer			233				(183	)			39				192				281
Unallocated			499				0				0				86				585
Total Allowance for Loan Losses		$	9,309			$	(379	)		$	57			$	849			$	9,836

 

 

Year Ended December 31, 2018		Dec. 31,																Dec. 31,
(In Thousands)		2017 Balance				Charge-offs				Recoveries				Provision (Credit)				2018 Balance
Allowance for Loan Losses:
Residential mortgage:
Residential mortgage loans - first liens		$	3,200			$	(108	)		$	4			$	60			$	3,156
Residential mortgage loans - junior liens			224				0				4				97				325
Home equity lines of credit			296				(50	)			0				56				302
1-4 Family residential construction			243				0				0				(40	)			203
Total residential mortgage			3,963				(158	)			8				173				3,986
Commercial:
Commercial loans secured by real estate			2,584				(21	)			0				(25	)			2,538
Commercial and industrial			1,065				(144	)			6				626				1,553
Commercial construction and land			150				0				0				(40	)			110
Loans secured by farmland			105				0				0				(3	)			102
Multi-family (5 or more) residential			172				0				311				(369	)			114
Agricultural loans			57				0				0				(11	)			46
Other commercial loans			102				0				0				26				128
Total commercial			4,235				(165	)			317				204				4,591
Consumer			159				(174	)			41				207				233
Unallocated			499				0				0				0				499
Total Allowance for Loan Losses		$	8,856			$	(497	)		$	366			$	584			$	9,309

 

In the evaluation of the loan portfolio, management determines two major components for the allowance for loan losses – (1) a specific component based on an assessment of certain larger relationships, mainly commercial purpose loans, on a loan-by-loan basis; and (2) a general component for the remainder of the portfolio, except for performing loans purchased in 2019 from Monument, based on a collective evaluation of pools of loans with similar risk characteristics. The general component is assigned to each pool of loans based on both historical net charge-off experience, and an evaluation of certain qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the above methodologies for estimating specific and general losses in the portfolio.

 

 

Loans acquired from Monument that were identified as having a deterioration in credit quality (purchased credit impaired, or PCI) were valued at $441,000 at April 1, 2019 and December 31, 2019. The remainder of the portfolio was deemed to be the performing component of the portfolio. None of the performing loans purchased were found to be impaired at December 31, 2019, and the performing loans purchased in 2019 were excluded from the loan pools for which the general component of the allowance for loan losses was calculated.

 

In determining the larger loan relationships for detailed assessment under the specific allowance component, the Corporation uses an internal risk rating system. Under the risk rating system, the Corporation classifies problem or potential problem loans as “Special Mention,” “Substandard,” or “Doubtful” on the basis of currently existing facts, conditions and values. Loans that do not currently expose the Corporation to sufficient risk to warrant classification as Substandard or Doubtful, but possess weaknesses that deserve management’s close attention, are deemed to be Special Mention. Substandard loans include those characterized by the distinct possibility that the Corporation will sustain some loss if the deficiencies are not corrected. Loans classified as Doubtful have all the weaknesses inherent in those classified as Substandard with the added characteristic that the weaknesses present make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. Risk ratings are updated any time that conditions or the situation warrants. Loans not classified are included in the “Pass” column in the table below.

 

The following tables summarize the aggregate credit quality classification of outstanding loans by risk rating as of December 31, 2019 and 2018:

 

																		Purchased
December 31, 2019						Special												Credit
(In Thousands)		Pass				Mention				Substandard				Doubtful				Impaired				Total
Residential Mortgage:
Residential Mortgage loans - first liens		$	500,963			$	193			$	9,324			$	84			$	77			$	510,641
Residential Mortgage loans - junior liens			26,953				79				471				0				0				27,503
Home Equity lines of credit			33,170				59				409				0				0				33,638
1-4 Family residential construction			14,798				0				0				0				0				14,798
Total residential mortgage			575,884				331				10,204				84				77				586,580
Commercial:
Commercial loans secured by real estate			294,397				4,773				1,693				0				364				301,227
Commercial and Industrial			114,293				9,538				2,543				0				0				126,374
Political subdivisions			53,570				0				0				0				0				53,570
Commercial construction and land			32,224				0				1,331				0				0				33,555
Loans secured by farmland			6,528				4,681				1,042				0				0				12,251
Multi-family (5 or more) residential			30,160				0				910				0				0				31,070
Agricultural loans			3,343				335				641				0				0				4,319
Other commercial loans			16,416				0				119				0				0				16,535
Total commercial			550,931				19,327				8,279				0				364				578,901
Consumer			16,720				0				21				0				0				16,741
Totals		$	1,143,535			$	19,658			$	18,504			$	84			$	441			$	1,182,222

 

 

December 31, 2018						Special
(In Thousands)		Pass				Mention				Substandard				Doubtful				Total
Residential Mortgage:
Residential mortgage loans - first liens		$	363,407			$	937			$	7,944			$	51			$	372,339
Residential mortgage loans - junior liens			24,841				176				433				0				25,450
Home equity lines of credit			33,659				59				601				0				34,319
1-4 Family residential construction			24,698				0				0				0				24,698
Total residential mortgage			446,605				1,172				8,978				51				456,806
Commercial:
Commercial loans secured by real estate			156,308				740				5,563				0				162,611
Commercial and Industrial			84,232				5,230				2,394				0				91,856
Political subdivisions			53,263				0				0				0				53,263
Commercial construction and land			11,887				0				75				0				11,962
Loans secured by farmland			5,171				168				1,796				11				7,146
Multi-family (5 or more) residential			7,180				0				0				0				7,180
Agricultural loans			4,910				84				665				0				5,659
Other commercial loans			13,879				0				71				0				13,950
Total commercial			336,830				6,222				10,564				11				353,627
Consumer			17,116				0				14				0				17,130
Totals		$	800,551			$	7,394			$	19,556			$	62			$	827,563

 

As shown in the tables immediately above, total loans classified as special mention increased to $19,658,000 at December 31, 2019 from $7,394,000 at December 31, 2018. At December 31, 2019, there were 60 loans classified as special mention, with an average balance of $328,000. In comparison, at December 31, 2018, there were 53 loans classified as special mention, with an average balance of $140,000. Of the total balance of special mention loans at December 31, 2019, loans of $500,000 or more totaled $15,357,000, or 78% of the total. Special mention loans with balances of $500,000 or more at December 31, 2019 included 9 commercial loans to 7 different borrowers, summarized with comparative December 31, 2018 (if applicable) as follows:

 

										Risk
		Balance,				Balance,				Rating
		December 31,				December 31,				December 31,
(In Thousands)		2019				2018				2018
4 loans downgraded in 2019		$	6,668			$	7,043				Pass
1 loan with no change in rating in 2019			984				1,098				Special Mention
2 loans upgraded in 2019			3,570				3,781				Substandard
2 loans originated in 2019			4,135				0				N/A
Total Special Mention Loans of $500,000 or  More at December 31, 2019		$	15,357			$	11,922

 

There was no specific allowance for loan losses recorded on any loans classified as special mention at December 31, 2019. At December 31, 2018, there were specific allowances totaling $1,365,000 on the 2 loans in the table above that were upgraded from substandard at December 31, 2018 to special mention at December 31, 2019. These loans were no longer considered impaired in 2019 and the specific allowances were eliminated in 2019. One of the loans originated in 2019 and classified as special mention at December 31, 2019, with an outstanding balance of $3,500,000 at December 31, 2019, was made on a partially unsecured basis. The Corporation estimates the liquidation value of the related collateral, net of selling costs, would be approximately $1,500,000, with a shortfall of $2,000,000. Despite the shortfall from the estimated value of the collateral, based on available information, the Corporation believes the loan should be repaid in full due to the high reported value of the borrower’s net worth.

 

At December 31, 2019, total loans classified as substandard amounted to $18,504,000, down from $19,556,000 at December 31, 2018. At December 31, 2019, there were 225 loans classified as substandard, with an average balance of $82,000. In comparison, at December 31, 2018, there were 215 loans classified as substandard, with an average balance of $91,000. Of the total balance of substandard loans at December 31, 2019, loans of $500,000 or more totaled $4,185,000, or 23% of the total, with the largest balance from one commercial construction loan with an outstanding balance of $1,261,000 and a specific allowance for loan losses of $678,000.

 

 

The following tables present a summary of loan balances and the related allowance for loan losses summarized by portfolio segment and class for each impairment method used as of December 31, 2019 and 2018:

 

		Loans:																Allowance for Loan Losses:
										Purchased
December 31, 2019		Individually				Collectively				Performing								Individually				Collectively
(In Thousands)		Evaluated				Evaluated				Loans				Totals				Evaluated				Evaluated				Totals
Residential mortgage:
Residential mortgage loans - first liens		$	1,023			$	405,186			$	104,432			$	510,641			$	0			$	3,405			$	3,405
Residential mortgage loans - junior liens			368				24,730				2,405				27,503				176				208				384
Home equity lines of credit			0				32,147				1,491				33,638				0				276				276
1-4 Family residential construction			0				14,640				158				14,798				0				117				117
Total residential mortgage			1,391				476,703				108,486				586,580				176				4,006				4,182
Commercial:
Commercial loans secured by real estate			684				198,532				102,011				301,227				0				1,921				1,921
Commercial and industrial			1,467				122,313				2,594				126,374				149				1,242				1,391
Political subdivisions			0				53,570				0				53,570				0				0				0
Commercial construction and land			1,261				29,710				2,584				33,555				678				288				966
Loans secured by farmland			607				11,386				258				12,251				48				110				158
Multi-family (5 or more) residential			0				10,617				20,453				31,070				0				156				156
Agricultural loans			76				4,243				0				4,319				0				41				41
Other commercial loans			0				15,947				588				16,535				0				155				155
Total commercial			4,095				446,318				128,488				578,901				875				3,913				4,788
Consumer			0				16,741				0				16,741				0				281				281
Unallocated																											585
Total		$	5,486			$	939,762			$	236,974			$	1,182,222			$	1,051			$	8,200			$	9,836

 

		Loans:												Allowance for Loan Losses:
December 31, 2018		Individually				Collectively								Individually				Collectively
(In Thousands)		Evaluated				Evaluated				Totals				Evaluated				Evaluated				Totals
Residential mortgage:
Residential mortgage loans - first liens		$	991			$	371,348			$	372,339			$	0			$	3,156			$	3,156
Residential mortgage loans - junior liens			293				25,157				25,450				116				209				325
Home equity lines of credit			0				34,319				34,319				0				302				302
1-4 Family residential construction			0				24,698				24,698				0				203				203
Total residential mortgage			1,284				455,522				456,806				116				3,870				3,986
Commercial:
Commercial loans secured by real estate			4,302				158,309				162,611				781				1,757				2,538
Commercial and industrial			2,157				89,699				91,856				659				894				1,553
Political subdivisions			0				53,263				53,263				0				0				0
Commercial construction and land			0				11,962				11,962				0				110				110
Loans secured by farmland			1,349				5,797				7,146				49				53				102
Multi-family (5 or more) residential			0				7,180				7,180				0				114				114
Agricultural loans			665				4,994				5,659				0				46				46
Other commercial loans			0				13,950				13,950				0				128				128
Total commercial			8,473				345,154				353,627				1,489				3,102				4,591
Consumer			17				17,113				17,130				0				233				233
Unallocated																							499
Total		$	9,774			$	817,789			$	827,563			$	1,605			$	7,205			$	9,309

 

 

Summary information related to impaired loans as of December 31, 2019 and 2018 is as follows:

 

		December 31, 2019												December 31, 2018
		Unpaid												Unpaid
		Principal				Recorded				Related				Principal				Recorded				Related
(In Thousands)		Balance				Investment				Allowance				Balance				Investment				Allowance
With no related allowance recorded:
Residential mortgage loans - first liens		$	645			$	617			$	0			$	750			$	721			$	0
Residential mortgage loans - junior liens			42				42				0				54				54				0
Commercial loans secured by real estate			684				684				0				1,787				1,787				0
Commercial and industrial			563				563				0				817				817				0
Loans secured by farmland			129				129				0				862				862				0
Agricultural loans			76				76				0				665				665				0
Consumer			0				0				0				17				17				0
Total with no related allowance recorded			2,139				2,111				0				4,952				4,923				0
With a related allowance recorded:
Residential mortgage loans - first liens			406				406				0				270				270				0
Residential mortgage loans - junior liens			326				326				176				239				239				116
Commercial loans secured by real estate			0				0				0				2,515				2,515				781
Commercial and industrial			904				904				149				1,340				1,340				659
Construction and other land loans			1,261				1,261				678				0				0				0
Loans secured by farmland			478				478				48				487				487				49
Total with a related allowance recorded			3,375				3,375				1,051				4,851				4,851				1,605
Total		$	5,514			$	5,486			$	1,051			$	9,803			$	9,774			$	1,605

 

In the table immediately above, two loans to one borrower are presented under the Residential mortgage loans – first liens and Residential mortgage loans – junior liens classes. These loans are collateralized by one property, and the allowance associated with these loans was determined based on an analysis of the total amounts of the Corporation’s exposure in comparison to the estimated net proceeds if the Corporation were to sell the property.

 

The average balance of impaired loans and interest income recognized on impaired loans is as follows:

 

										Interest Income Recognized
		Average Investment in								on Impaired Loans
		Impaired Loans								on a Cash Basis
		Year Ended December 31,								Year Ended December 31,
(In Thousands)		2019				2018				2019				2018
Residential mortgage:
Residential mortgage loans - first lien		$	1,440			$	980			$	87			$	52
Residential mortgage loans - junior lien			288				297				12				11
Home equity lines of credit			26				0				4				0
Total residential mortgage			1,754				1,277				103				63
Commercial:
Commercial loans secured by real estate			1,562				4,897				19				141
Commercial and industrial			1,186				708				25				47
Commercial construction and land			556				0				71				0
Loans secured by farmland			1,276				1,357				49				35
Multi-family (5 or more) residential			0				314				0				0
Agricultural loans			399				542				31				46
Other commercial loans			20				0				4				0
Total commercial			4,999				7,818				199				269
Consumer			3				18				0				1
Total		$	6,756			$	9,113			$	302			$	333

  

 

The breakdown by portfolio segment and class of nonaccrual loans and loans past due ninety days or more and still accruing is as follows:

 

		December 31, 2019								December 31, 2018
		Past Due								Past Due
		90+ Days and								90+ Days and
(In Thousands)		Accruing				Nonaccrual				Accruing				Nonaccrual
Residential mortgage:
Residential mortgage loans - first liens		$	878			$	4,679			$	1,633			$	4,750
Residential mortgage loans - junior liens			53				326				151				239
Home equity lines of credit			71				73				219				27
Total residential mortgage			1,002				5,078				2,003				5,016
Commercial:
Commercial loans secured by real estate			107				1,148				394				3,958
Commercial and industrial			15				1,051				18				2,111
Commercial construction and land			0				1,311				0				52
Loans secured by farmland			43				565				459				1,297
Agricultural loans			0				0				0				665
Other commercial			0				49				0				0
Total commercial			165				4,124				871				8,083
Consumer			40				16				32				14
Totals		$	1,207			$	9,218			$	2,906			$	13,113

 

The amounts shown in the table immediately above include loans classified as troubled debt restructurings (described in more detail below), if such loans are considered past due ninety days or more, or nonaccrual.

 

The tables below present a summary of the contractual aging of loans as of December 31, 2019 and 2018:

 

		As of December 31, 2019																As of December 31, 2018
		Current &																Current &
		Past Due				Past Due				Past Due								Past Due				Past Due			Past Due
		Less than				30-89				90+								Less than				30-89			90+
(In Thousands)		30 Days				Days				Days				Total				30 Days				Days			Days				Total
Residential mortgage:
Residential mortgage loans - first liens		$	499,024			$	7,839			$	3,778			$	510,641			$	361,362			$	6,414		$	4,563			$	372,339
Residential mortgage loans - junior liens			27,041				83				379				27,503				24,876				184			390				25,450
Home equity lines of credit			33,115				452				71				33,638				33,611				480			228				34,319
1-4 Family residential construction			14,758				40				0				14,798				24,531				167			0				24,698
Total residential mortgage			573,938				8,414				4,228				586,580				444,380				7,245			5,181				456,806
Commercial:
Commercial loans secured by real estate			299,640				737				850				301,227				160,668				226			1,717				162,611
Commercial and industrial			126,221				16				137				126,374				90,915				152			789				91,856
Political subdivisions			53,570				0				0				53,570				53,263				0			0				53,263
Commercial construction and land			33,505				0				50				33,555				11,910				0			52				11,962
Loans secured by farmland			11,455				666				130				12,251				5,390				487			1,269				7,146
Multi-family (5 or more) residential			31,070				0				0				31,070				7,104				76			0				7,180
Agricultural loans			4,318				1				0				4,319				5,624				29			6				5,659
Other commercial loans			16,535				0				0				16,535				13,950				0			0				13,950
Total commercial			576,314				1,420				1,167				578,901				348,824				970			3,833				353,627
Consumer			16,496				189				56				16,741				16,991				93			46				17,130
Totals		$	1,166,748			$	10,023			$	5,451			$	1,182,222			$	810,195			$	8,308		$	9,060			$	827,563

 

 

Nonaccrual loans are included in the contractual aging immediately above. A summary of the contractual aging of nonaccrual loans at December 31, 2019 and 2018 is as follows:

 

		Current &
		Past Due				Past Due				Past Due
		Less than				30-89				90+
(In Thousands)		30 Days				Days				Days				Total
December 31, 2019 Nonaccrual Totals		$	3,840			$	1,134			$	4,244			$	9,218
December 31, 2018 Nonaccrual Totals		$	5,793			$	1,166			$	6,154			$	13,113

 

Loans whose terms are modified are classified as Troubled Debt Restructurings (TDRs) if the Corporation grants such borrowers concessions and it is deemed that those borrowers are experiencing financial difficulty. Loans classified as TDRs are designated as impaired and reviewed each quarter to determine if a specific allowance for loan losses is required. The outstanding balance of loans subject to TDRs, as well as the contractual aging information at December 31, 2019 and 2018 is as follows:

 

Troubled Debt Restructurings (TDRs):

 

		Current &
		Past Due				Past Due				Past Due
		Less than				30-89				90+
(In Thousands)		30 Days				Days				Days				Nonaccrual				Total
December 31, 2019 Totals		$	889			$	0			$	0			$	1,737			$	2,626
December 31, 2018 Totals		$	612			$	43			$	0			$	2,884			$	3,539

 

At December 31, 2019 and 2018, there were no commitments to loan additional funds to borrowers whose loans have been classified as TDRs.

 

A summary of TDRs that occurred during 2019 and 2018 is as follows:

 

(Balances in Thousands)
		2019								2018
						Post-								Post-
		Number				Modification				Number				Modification
		of				Recorded				of				Recorded
		Loans				Investment				Loans				Investment
Residential mortgage - first liens:
Reduced monthly payments and extended maturity date			1			$	271				0			$	0
Reduced monthly payments for a six-month period			0				0				1				80
Residential mortgage - junior liens,
Reduced monthly payments and extended maturity date			1				18				0				0
Commercial loans secured by real estate,
Extended interest only payments for a six-month period			0				0				2				36
Commercial and industrial:
Extended interest only payments for a six-month period			0				0				1				46
Reduced monthly payments and extended maturity date			8				177				0				0
Commercial construction and land,
Extended interest only payments and reduced monthly
payments with a balloon payment at maturity			1				1,261				0				0
Agricultural loans,
Reduced monthly payments and extended maturity date			1				84				0				0
Total			12			$	1,811				4			$	162

 

There were no differences between the outstanding contractual amounts and the recorded investments in receivables resulting from TDRs that occurred in 2019 and 2018. At December 31, 2019, the Corporation maintained a specific allowance for loan losses of $678,000 related to the commercial construction loan for which a TDR occurred in 2019. The other loans for which TDRs were granted in 2019 are associated with one relationship for which payment defaults occurred in 2019 as described below.

 

 

In 2019 and 2018, payment defaults on loans for which modifications considered to be TDRs were entered into within the previous 12 months are summarized as follows:

 

		2019								2018
		Number								Number
		of				Recorded				of				Recorded
(Balances in Thousands)		Loans				Investment				Loans				Investment
Residential mortgage - first liens			1			$	261				0				0
Residential mortgage - junior liens			1				18				0				0
Commercial and industrial			8				170				0				0
Agricultural loans			1				81				0				0
Total			11			$	530				0			$	0

 

All of the TDRs for which payment defaults occurred in 2019 were related to one commercial relationship. These loans were individually evaluated for impairment at December 31, 2019 and 2018, and no specific allowance for loan losses was recognized because the estimated values of collateral and U.S. Government (Small Business Administration) guarantees exceeded the outstanding balances of the loans.

 

The carrying amount of foreclosed residential real estate properties held as a result of obtaining physical possession (included in Foreclosed assets held for sale in the consolidated balance sheets) is as follows:

 

		Dec. 31,				Dec. 31,
(In Thousands)		2019				2018
Foreclosed residential real estate		$	292			$	64

 

The recorded investment of consumer mortgage loans secured by residential real properties for which formal foreclosure proceedings were in process is as follows:

 

		Dec. 31,				Dec. 31,
(In Thousands)		2019				2018
Residential real estate in process of foreclosure		$	1,717			$	1,097

 

9. BANK PREMISES AND EQUIPMENT

 

		December 31,
(In Thousands)		2019				2018
Land		$	3,199			$	2,803
Buildings and improvements			28,403				27,343
Furniture and equipment			13,618				16,577
Construction in progress			1,655				2
Total			46,875				46,725
Less: accumulated depreciation			(29,705	)			(32,133	)
Net		$	17,170			$	14,592

 

Depreciation expense is included in the following line items of the consolidated statements of income:

 

(In Thousands)		2019				2018
Occupancy expense		$	775			$	849
Furniture and equipment expense			692				684
Data processing expenses			239				183
Telecommunications expenses			43				38
Total		$	1,749			$	1,754

 

 

10. GOODWILL AND OTHER INTANGIBLE ASSETS, NET

 

Information related to the core deposit intangibles is as follows:

 

		December 31,
(In Thousands)		2019				2018
Gross amount		$	3,495			$	2,034
Accumulated amortization			(2,248	)			(2,025	)
Net		$	1,247			$	9

 

Amortization expense was $223,000 in 2019, including $214,000 related to the Monument transaction described in Note 3, and $3,000 in 2018. The amount of amortization expense to be recognized in each of the ensuing five years is as follows:

 

(In Thousands)
2020		$	249
2021			193
2022			160
2023			133
2024			125

 

Changes in the carrying amount of goodwill are summarized in the following table:

 

		December 31,
(In Thousands)		2019				2018
Balance, beginning of period		$	11,942			$	11,942
Goodwill arising in business combination			16,446				0
Balance, end of period		$	28,388			$	11,942

 

In testing goodwill for impairment as of December 31, 2019, the Corporation by-passed performing a qualitative assessment and performed a quantitative assessment based on comparison of the Corporation’s market capitalization to its stockholders’ equity, resulting in the determination that the fair value of its reporting unit, its community banking operation, exceeded its carrying value. Accordingly, there was no goodwill impairment at December 31, 2019.

 

The Corporation’s assessment of goodwill for impairment at December 31, 2018 was based on assessment of qualitative factors to determine whether it was more likely than not that the fair value of its community banking operation was less than its carrying amount. The qualitative factors assessed included the Corporation’s recent financial performance, economic conditions in the Corporation’s market area, macroeconomic conditions and other factors. Based on the assessment of qualitative factors, the Corporation determined that it was not more likely than not that the fair value of the community banking operation had fallen below its carrying value, and therefore, the Corporation did not perform a more detailed, two-step goodwill impairment test and concluded there was no goodwill impairment as of December 31, 2018.

 

11. DEPOSITS

 

At December 31, 2019, the scheduled maturities of time deposits are as follows:

 

(In Thousands)
2020		$	238,887
2021			83,197
2022			28,968
2023			12,003
2024			11,610
2025			30
Total		$	374,695

 

Time deposits of more than $250,000 totaled $84,476,000 at December 31, 2019 and $36,094,000 at December 31, 2018. As of December 31, 2019, the remaining maturities or time to next re-pricing of time deposits more than $250,000 was as follows:

 

(In Thousands)
Three months or less		$	19,176
Over 3 months through 12 months			52,093
Over 1 year through 3 years			6,601
Over 3 years			6,606
Total		$	84,476

 

 

12. BORROWED FUNDS AND SUBORDINATED DEBT

 

Short-term borrowings (initial maturity within one year) include the following:

 

		Dec. 31,				Dec. 31,
(In Thousands)		2019				2018
FHLB-Pittsburgh borrowings		$	84,292			$	7,000
Customer repurchase agreements			1,928				5,853
Total short-term borrowings		$	86,220			$	12,853

 

Short-term borrowings from FHLB-Pittsburgh are as follows:

 

		Dec. 31,				Dec. 31
(In Thousands)		2019				2018
Overnight borrowing		$	64,000			$	7,000
Other short-term advances			20,292				0
Total short-term FHLB-Pittsburgh borrowings		$	84,292			$	7,000

 

Overnight borrowings from FHLB-Pittsburgh had an interest rate of 1.81% at December 31, 2019 and 2.62% at December 31, 2018. At December 31, 2019, other short-term advances included seven advances totaling $20,297,000 which are presented in the table net of the unamortized purchase accounting adjustment, with a weighted-average effective rate of 2.28%.

 

The weighted average interest rate on total short-term borrowings outstanding was 1.88% at December 31, 2019 and 1.47% at December 31, 2018. The maximum amount of total short-term borrowings outstanding at any month-end was $86,220,000 in 2019 and $74,646,000 in 2018.

 

The Corporation had available credit with other correspondent banks totaling $45,000,000 at December 31, 2019 and 2018. These lines of credit are primarily unsecured. No amounts were outstanding at December 31, 2019 or 2018.

 

The Corporation has a line of credit with the Federal Reserve Bank of Philadelphia’s Discount Window. At December 31, 2019, the Corporation had available credit in the amount of $14,244,000 on this line with no outstanding advances. At December 31, 2018, the Corporation had available credit in the amount of $15,262,000 on this line with no outstanding advances. As collateral for this line, the Corporation has pledged available-for-sale securities with a carrying value of $14,728,000 at December 31, 2019 and $15,710,000 at December 31, 2018.

 

The FHLB-Pittsburgh loan facility is collateralized by qualifying loans secured by real estate with a book value totaling $778,877,000 at December 31, 2019 and $495,143,000 at December 31, 2018. Also, the FHLB-Pittsburgh loan facility requires the Corporation to invest in established amounts of FHLB-Pittsburgh stock. The carrying values of the Corporation’s holdings of FHLB-Pittsburgh stock (included in Other Assets) were $10,131,000 at December 31, 2019 and $5,582,000 at December 31, 2018. The Corporation’s total credit facility with FHLB-Pittsburgh was $552,546,000 at December 31, 2019, including an unused (available) amount of $416,127,000. At December 31, 2018, the Corporation’s total credit facility with FHLB-Pittsburgh was $361,614,000, including an unused (available) amount of $318,699,000.

 

The Corporation engages in repurchase agreements with certain commercial customers. These agreements provide that the Corporation sells specified investment securities to the customers on an overnight basis and repurchases them on the following business day. The weighted average rate paid by the Corporation on customer repurchase agreements was 0.10% at December 31, 2019 and December 31, 2017. The carrying value of the underlying securities was $1,951,000 at December 31, 2019 and $5,890,000 at December 31, 2018.

 

LONG-TERM BORROWINGS

 

Long-term borrowings from FHLB-Pittsburgh are as follows:

 

		Dec. 31,				Dec. 31,
(In Thousands)		2019				2018
Loans matured in 2019 with a weighted-average rate of 2.36%		$	0			$	32,000
Loans maturing in 2020 with a weighted-average rate of 2.73%			5,069				3,271
Loans maturing in 2021 with a weighted-average rate of 1.54%			6,000				0
Loans maturing in 2022 with a weighted-average rate of 2.03%			20,000				0
Loans maturing in 2023 with a weighted-average rate of 1.70%			20,500				0
Loan maturing in 2025 with a rate of 4.91%			558				644
Total long-term FHLB-Pittsburgh borrowings		$	52,127			$	35,915

 

 

In connection with the Monument acquisition, the Corporation assumed subordinated debt agreements with par values totaling $7,000,000, maturing April 1, 2027, which may be redeemed at par beginning April 1, 2022. The agreements have fixed annual interest rates of 6.50%. The subordinated debt was recorded at fair value, which was deemed to be equal to par value. In the fourth quarter 2019, the Corporation redeemed subordinated debt with a par value of $500,000, resulting in a loss of $10,000 (included in other noninterest expense in the consolidated statements of income). At December 31, 2019, the carrying value of the subordinated debt on the consolidated balance sheet is $6,500,000.

 

13. EMPLOYEE AND POSTRETIREMENT BENEFIT PLANS

 

DEFINED BENEFIT PLANS

 

The Corporation sponsors a defined benefit health care plan that provides postretirement medical benefits and life insurance to employees who meet certain age and length of service requirements. Full-time employees no longer accrue service time toward the Corporation-subsidized portion of the medical benefits. The plan contains a cost-sharing feature which causes participants to pay for all future increases in costs related to benefit coverage. Accordingly, actuarial assumptions related to health care cost trend rates do not significantly affect the liability balance at December 31, 2019 and December 31, 2018 and are not expected to significantly affect the Corporation's future expenses. The Corporation uses a December 31 measurement date for the postretirement plan.

 

In an acquisition in 2007, the Corporation assumed the Citizens Trust Company Retirement Plan, a defined benefit pension plan. This plan covers certain employees who were employed by Citizens Trust Company on December 31, 2002, when the plan was amended to discontinue admittance of any future participant and to freeze benefit accruals. Information related to the Citizens Trust Company Retirement Plan has been included in the tables that follow. The Corporation uses a December 31 measurement date for this plan.

 

The following table shows the funded status of the defined benefit plans:

 

		Pension								Postretirement
(In Thousands)		2019				2018				2019				2018
CHANGE IN BENEFIT OBLIGATION:
Benefit obligation at beginning of year		$	870			$	850			$	1,349			$	1,497
Service cost			0				0				33				40
Interest cost			28				25				50				51
Plan participants' contributions			0				0				184				206
Actuarial (gain) loss			91				11				(63	)			(192	)
Benefits paid			(13	)			(16	)			(227	)			(253	)
Benefit obligation at end of year		$	976			$	870			$	1,326			$	1,349
CHANGE IN PLAN ASSETS:
Fair value of plan assets at beginning of year		$	847			$	923			$	0			$	0
Actual return on plan assets			137				(60	)			0				0
Employer contribution			0				0				43				47
Plan participants' contributions			0				0				184				206
Benefits paid			(13	)			(16	)			(227	)			(253	)
Fair value of plan assets at end of year		$	971			$	847			$	0			$	0
Funded status at end of year		$	(5	)		$	(23	)		$	(1,326	)		$	(1,349	)

 

 

At December 31, 2019 and 2018, the following pension plan and postretirement plan liability amounts were recognized in the consolidated balance sheets:

 

		Pension								Postretirement
(In Thousands)		2019				2018				2019				2018
Accrued interest and other liabilities		$	5			$	23			$	1,326			$	1,349

 

At December 31, 2019 and 2018, the following items included in accumulated other comprehensive income had not been recognized as components of expense:

 

Items not yet recognized as a component of net periodic benefit cost:

 

		Pension								Postretirement
(In Thousands)		2019				2018				2019				2018
Prior service cost		$	0			$	0			$	(248	)		$	(279	)
Net actuarial loss (gain)			255				299				(236	)			(194	)
Total		$	255			$	299			$	(484	)		$	(473	)

 

For the defined benefit pension plan, amortization of the net actuarial loss is expected to be $16,000 in 2020. For the postretirement plan, the estimated amount of prior service cost that will be amortized from accumulated other comprehensive income into net periodic benefit cost in 2020 is a reduction in expense of $31,000, and net actuarial gain of $7,000 is expected to be amortized in 2020.

 

The accumulated benefit obligation for the defined benefit pension plan was $976,000 at December 31, 2019 and $870,000 at December 31, 2018.

 

The components of net periodic benefit costs from defined benefit plans are as follows:

 

		Pension								Postretirement
(In Thousands)		2019				2018				2019				2018
Service cost		$	0			$	0			$	33			$	40
Interest cost			28				25				50				51
Expected return on plan assets			(22	)			(20	)			0				0
Amortization of prior service cost			0				0				(31	)			(30	)
Recognized net actuarial loss (gain)			20				13				(21	)			0
Total net periodic benefit cost		$	26			$	18			$	31			$	61

 

The weighted-average assumptions used to determine net periodic benefit cost are as follows:

 

		Pension								Postretirement
		2019				2018				2019				2018
Citizens Trust Company Retirement Plan and postretirement plan:
Discount rate			4.10	%			3.55	%			4.50	%			3.75	%
Expected return on plan assets			4.68	%			4.32	%			N/A				N/A
Rate of compensation increase			N/A				N/A				N/A				N/A

 

The weighted-average assumptions used to determine benefit obligations as of December 31, 2019 and 2018 are as follows:

 

		Pension								Postretirement
		2019				2018				2019				2018
Discount rate			3.55	%			4.10	%			3.25	%			4.50	%
Rate of compensation increase			N/A				N/A				N/A				N/A

 

 

Estimated future benefit payments, including only estimated employer contributions for the postretirement plan, which reflect expected future service, are as follows:

 

(In Thousands)		Pension				Postretirement
2020		$	431			$	81
2021			11				85
2022			13				89
2023			181				81
2024			11				84
2025-2029			349				478

 

No estimated minimum contribution to the defined benefit pension plan is required in 2020, though the Corporation may make discretionary contributions.

 

The expected return on pension plan assets is a significant assumption used in the calculation of net periodic benefit cost. This assumption reflects the average long-term rate of earnings expected on the funds invested or to be invested to provide for the benefits included in the projected benefit obligation.

 

The fair values of pension plan assets at December 31, 2019 and 2018 are as follows:

 

		2019				2018
Mutual funds invested principally in:
Cash and cash equivalents			3	%			3	%
Debt securities			38	%			40	%
Equity securities			49	%			45	%
Alternative funds			10	%			12	%
Total			100	%			100	%

 

C&N Bank’s Trust and Financial Management Department manages the investment of the pension plan assets. The Plan’s securities include mutual funds invested principally in debt securities, a diversified mix of large, mid- and small-capitalization U.S. stocks, foreign stocks and alternative asset classes such as real estate, commodities, and inflation-protected securities. The fair values of plan assets are determined based on Level 1 inputs (as described in Note 21). The Plan’s assets do not include any shares of the Corporation’s common stock.

 

PROFIT SHARING AND DEFERRED COMPENSATION PLANS

 

The Corporation has a profit sharing plan that incorporates the deferred salary savings provisions of Section 401(k) of the Internal Revenue Code. The Corporation’s matching contributions to the Plan depend upon the tax deferred contributions of employees. The Corporation’s total basic and matching contributions were $891,000 in 2019 and $717,000 in 2018.

 

The Corporation has an Employee Stock Ownership Plan (ESOP). Contributions to the ESOP are discretionary, and the ESOP uses funds contributed to purchase Corporation stock for the accounts of ESOP participants. These purchases are made on the market (not directly from the Corporation), and employees are not permitted to purchase Corporation stock under the ESOP. The ESOP includes a diversification feature, which allows participants, upon reaching age 55 and 10 years of service (as defined), to sell up to 50% of their Corporation shares over a period of 6 years. As of December 31, 2019, and 2018, there were no shares allocated for repurchase by the ESOP.

 

Dividends paid on shares held by the ESOP are charged to retained earnings. All Corporation shares owned through the ESOP are included in the calculation of weighted-average shares outstanding for purposes of calculating earnings per share - basic and diluted. The ESOP held 473,171 shares of Corporation stock at December 31, 2019 and 444,843 shares at December 31, 2018, all of which had been allocated to Plan participants. The Corporation’s contributions to the ESOP totaled $718,000 in 2019 and $605,000 in 2018.

 

The Corporation has a nonqualified supplemental deferred compensation arrangement with its key officers. Charges to operating expense for officers’ supplemental deferred compensation were $251,000 in 2019 and $242,000 in 2018.

 

The Corporation also has a nonqualified deferred compensation plan that allows selected officers the option to defer receipt of cash compensation, including base salary and any cash bonuses or other cash incentives. This nonqualified deferred compensation plan does not provide for Corporation contributions.

 

 

STOCK-BASED COMPENSATION PLANS

 

The Corporation has a Stock Incentive Plan for a selected group of senior officers. A total of 850,000 shares of common stock may be issued under the Stock Incentive Plan. Awards may be made under the Stock Incentive Plan in the form of qualified options (“Incentive Stock Options,” as defined in the Internal Revenue Code), nonqualified options, stock appreciation rights or restricted stock. Historically through December 31, 2019, all awards made under this Plan have consisted of Incentive Stock Options or restricted stock. Incentive Stock Options have an exercise price equal to the market value of the stock at the date of grant, vest after 6 months and expire after 10 years. There are 223,867 shares available for issuance under the Stock Incentive Plan as of December 31, 2019.

 

Also, the Corporation has an Independent Directors Stock Incentive Plan. This plan permits awards of nonqualified stock options and/or restricted stock to non-employee directors. A total of 235,000 shares of common stock may be issued under the Independent Directors Stock Incentive Plan. The recipients’ rights to exercise stock options under this plan expire 10 years from the date of grant. The exercise prices of all stock options awarded under the Independent Directors Stock Incentive Plan are equal to market value as of the dates of grant. There are 109,965 shares available for issuance under the Independent Directors Stock Incentive Plan as of December 31, 2019.

 

Total stock-based compensation expense is as follows:

 

(In Thousands)		2019				2018
Restricted stock		$	798			$	855
Stock options			0				0
Total		$	798			$	855

 

The following summarizes non-vested restricted stock activity for the year ended December 31, 2019:

 

						Weighted
						Average
		Number				Grant Date
		of Shares				Fair Value
Outstanding, December 31, 2018			60,345			$	23.81
Granted			48,137			$	24.47
Vested			(36,524	)		$	23.21
Forfeited			(3,758	)		$	25.08
Outstanding, December 31, 2019			68,200			$	24.53

 

Compensation cost related to restricted stock is recognized based on the market price of the stock at the grant date over the vesting period, adjusted for estimated and actual forfeitures. As of December 31, 2019, there was $822,000 total unrecognized compensation cost related to restricted stock, which is expected to be recognized over a weighted average period of 1.4 years.

 

In 2019 and 2018, the Corporation awarded shares of restricted stock under the Stock Incentive Plan, as follows:

 

		2019				2018
Time-based awards to independent directors			7,620				9,086
Time-based awards to employees			26,827				17,147
Performance-based awards to employees			13,690				8,289
Total			48,137				34,522

 

Time-based restricted stock awards granted under the Independent Directors Stock Incentive Plan in 2019 and 2018 vest over one-year terms. Time-based restricted stock awards granted to employees in 2019 and 2018 vest ratably over three-year terms, subject to continued employment and satisfactory job performance. Performance-based restricted stock awards granted in 2019 and 2018 vest ratably over three-year terms, with vesting contingent upon meeting conditions based on the Corporation’s earnings as specified in the agreements.

 

 

There were no stock options granted in 2019 or 2018. A summary of stock option activity is presented below:

 

		2019								2018
						Weighted								Weighted
						Average								Average
						Exercise								Exercise
		Shares				Price				Shares				Price
Outstanding, beginning of year			115,714			$	18.49				165,660			$	18.49
Granted			0								0
Exercised			(31,304	)		$	17.65				(41,210	)		$	18.69
Forfeited			0								0
Expired			(8,513	)		$	19.88				(8,736	)		$	17.50
Outstanding, end of year			75,897			$	18.69				115,714			$	18.49
Options exercisable at year-end			75,897			$	18.69				115,714			$	18.49
Weighted-average fair value of options forfeited							N/A								N/A

 

The weighted-average remaining contractual term of outstanding stock options at December 31, 2019 was 2.7 years. The aggregate intrinsic value of stock options outstanding was $726,000 at December 31, 2019. The total intrinsic value of options exercised was $276,000 in 2019 and $291,000 in 2018.

 

The Corporation has issued shares from treasury stock for almost all stock option exercises through December 31, 2019. Management does not anticipate that stock repurchases will be necessary to accommodate stock option exercises in 2020.

 

In January 2020, the Corporation awarded 30,381 shares of restricted stock under the Stock Incentive Plan and 7,580 shares of restricted stock under the Independent Directors Stock Incentive Plans. The January 2020 restricted stock awards under the Stock Incentive Plan vest ratably over three years. The 2020 restricted stock issued under the Independent Directors Stock Incentive Plan vests over one year. Total estimated stock-based compensation for 2020 is $920,000. The restricted stock awards made in January 2020 are not included in the tables above.

 

14. INCOME TAXES

 

The net deferred tax asset at December 31, 2019 and 2018 represents the following temporary difference components:

 

		December 31,				December 31,
(In Thousands)		2019				2018
Deferred tax assets:
Unrealized holding losses on securities		$	0			$	1,145
Allowance for loan losses			2,080				2,005
Purchase accounting adjustments on loans			640				0
Other deferred tax assets			2,173				2,049
Total deferred tax assets			4,893				5,199
Deferred tax liabilities:
Unrealized holding gains on securities			934				0
Defined benefit plans - ASC 835			49				37
Bank premises and equipment			763				907
Core deposit intangibles			272				2
Other deferred tax liabilities			257				143
Total deferred tax liabilities			2,275				1,089
Deferred tax asset, net		$	2,618			$	4,110

 

The provision for income taxes includes the following:

 

(In thousands)		2019				2018
Currently payable		$	3,618			$	4,350
Tax expense resulting from allocations of certain tax benefits to equity or as a reduction in other assets			115				87
Deferred			172				(187	)
Total provision		$	3,905			$	4,250

 

 

A reconciliation of income tax at the statutory rate to the Corporation’s effective rate is as follows (amounts in thousands):

 

		2019								2018
(Amounts in thousands)		Amount				%				Amount				%
Statutory provision		$	4,916				21.00			$	5,515				21.00
Tax-exempt interest income			(853	)			(3.64	)			(1,046	)			(3.98	)
Increase in cash surrender value and other income from life insurance, net			(91	)			(0.39	)			(170	)			(0.65	)
ESOP Dividends			(113	)			(0.48	)			(98	)			(0.37	)
State income tax, net of Federal benefit			122				0.52				125				0.48
Other, net			(76	)			(0.32	)			(76	)			(0.29	)
Effective income tax provision		$	3,905				16.68			$	4,250				16.18

 

In December 2017, the Corporation recognized an adjustment in the carrying value of the net deferred tax asset as a result of a reduction in the federal corporate income tax rate to 21%, effective January 1, 2018, from the 35% marginal rate that had previously been in effect. At December 31, 2017, the portion of the adjustment attributable to items of accumulated other comprehensive income (loss) were stranded in retained earnings, including components related to unrealized losses on securities and defined benefit plans. As described in Note 2, the Corporation elected early adoption of ASU 2018-02, resulting in a reclassification between two categories of stockholders’ equity at January 1, 2018, with an increase of $325,000 in retained earnings and a decrease in accumulated other comprehensive loss for the same amount (no net change in stockholders’ equity).

 

The Corporation has no unrecognized tax benefits, nor pending examination issues related to tax positions taken in preparation of its income tax returns. With limited exceptions, the Corporation is no longer subject to examination by the Internal Revenue Service for years prior to 2016.

 

15. RELATED PARTY TRANSACTIONS

 

Loans to executive officers, directors of the Corporation and its subsidiaries and any associates of the foregoing persons are as follows:

 

		Beginning				New								Other				Ending
(In Thousands)		Balance				Loans				Repayments				Changes				Balance
11 directors, 8 executive officers 2019		$	15,144			$	1,027			$	(1,850	)		$	134			$	14,455
11 directors, 8 executive officers 2018		$	14,412			$	3,553			$	(1,417	)		$	(1,404	)		$	15,144

 

In the table above, other changes represent net changes in the balance of existing lines of credit and transfers in and out of the related party category.

 

Deposits from related parties held by the Corporation amounted to $8,828,000 at December 31, 2019 and $9,622,000 at December 31, 2018.

 

16. OFF-BALANCE SHEET RISK

 

The Corporation is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financial needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit, interest rate or liquidity risk in excess of the amount recognized in the consolidated balance sheets. The contract amounts of these instruments express the extent of involvement the Corporation has in particular classes of financial instruments.

 

The Corporation’s exposure to credit loss from nonperformance by the other party to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contractual amount of these instruments. The Corporation uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

 

Financial instruments whose contract amounts represent credit risk at December 31, 2019 and 2018 are as follows:

 

(In Thousands)		2019				2018
Commitments to extend credit		$	256,896			$	191,672
Standby letters of credit			8,446				7,227

 

Commitments to extend credit are legally binding agreements to lend to customers. Commitments generally have fixed expiration dates or other termination clauses and may require payment of fees. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future liquidity requirements. The Corporation evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Corporation, for extensions of credit is based on management’s credit assessment of the counterparty.

 

 

Standby letters of credit are conditional commitments issued by the Corporation guaranteeing performance by a customer to a third party. Those guarantees are issued primarily to support public and private borrowing arrangements, including commercial paper, bond financing and similar transactions. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Some of the standby letters of credit are collateralized by real estate or other assets, and others are unsecured. The extent to which proceeds from liquidation of collateral would be expected to cover the maximum potential amount of future payments related to standby letters of credit is not estimable. The Corporation has recorded no liability associated with standby letters of credit as of December 31, 2019 and 2018.

 

Standby letters of credit as of December 31, 2019 expire as follows:

 

Year of Expiration			(In Thousands)
2020			$	7,809
2021				523
2022				114
Total			$	8,446

 

17. OPERATING LEASE COMMITMENTS AND CONTINGENCIES

 

The Corporation leases certain branch locations, office space and equipment. All leases are classified as operating leases. Leases with an initial term of 12 months or less are not recorded on the balance sheet and the related lease expense is recognized on a straight-line basis over the lease term.

 

Certain leases include options to renew, with renewal terms that can extend the lease term from one to eight years that are reasonably certain of being exercised. The discount rate used in determining the lease liability for each individual lease was the FHLB fixed advance rate which corresponded with the remaining lease term as of January 1, 2019 for leases that existed at adoption and as of the lease commencement date for leases subsequently entered into after January 1, 2019. At December 31, 2019, discount rates ranged from 2.77% to 3.50% with a weighted-average discount rate of 3.23%.

 

At December 31, 2019, right-of-use assets of $1,637,000 were included in other assets, and the related liabilities totaling the same amount were included in accrued interest and other liabilities, in the unaudited consolidated balance sheets. In 2019, right-of-use assets obtained in exchange for lease liabilities totaled $745,000. In 2019, operating lease expenses totaling $214,000 are included in occupancy expense, net, and $37,000 are included in furniture and equipment expense.

 

A maturity analysis of the Corporation’s lease liabilities at December 31, 2019 is as follows:

 

(In Thousands)

 

Lease Payments Due

 

2020			$	265
2021				265
2022				241
2023				229
2024				239
Thereafter				625
Total lease payments				1,864
Discount on cash flows				(227	)
Total lease liabilities			$	1,637

 

In the normal course of business, the Corporation is subject to pending and threatened litigation in which claims for monetary damages are asserted. In management’s opinion, the Corporation’s financial position and results of operations would not be materially affected by the outcome of these legal proceedings.

 

18. REGULATORY MATTERS

 

As required by the Economic Growth, Regulatory Relief, and Consumer Protection Act, in August 2018, the Federal Reserve Board issued an interim final rule that expanded applicability of the Board’s small bank holding company policy statement. The interim final rule raised the policy statement’s asset threshold from $1 billion to $3 billion in total consolidated assets for a bank holding company or savings and loan holding company that: (1) is not engaged in significant nonbanking activities; (2) does not conduct significant off-balance sheet activities; and (3) does not have a material amount of debt or equity securities, other than trust-preferred securities, outstanding. The interim final rule provides that, if warranted for supervisory purposes, the Federal Reserve may exclude a company from the threshold increase. Management believes the Corporation meets the conditions of the Federal Reserve’s small bank holding company policy statement and is therefore excluded from consolidated capital requirements at December 31, 2019; however, C&N Bank remains subject to regulatory capital requirements administered by the federal banking agencies.

 

 

Details concerning capital ratios at December 31, 2019 and December 31, 2018 are presented below. Management believes, as of December 31, 2019, that C&N Bank meets all capital adequacy requirements to which it is subject and maintains a capital conservation buffer (described in more detail below) that allows the Bank to avoid limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers. Further, as reflected in the table below, the Corporation’s and C&N Bank’s capital ratios at December 31, 2019 and December 31, 2018 exceed the Corporation’s Board policy threshold levels.

 

Minimum To Be Well

Minimum

Minimum To Maintain

Capitalized Under

Minimum To Meet

Capital

Capital Conservation

Prompt Corrective

the Corporation's

Actual

Requirement

Buffer at Reporting Date

Action Provisions

Policy Thresholds

(Dollars in Thousands)

Amount

Ratio

Amount

Ratio

Amount

Ratio

Amount

Ratio

Amount

Ratio

December 31, 2019:

Total capital to risk-weighted assets:

Consolidated

$

228,057

20.70

%

N/A

N/A

N/A

N/A

N/A

N/A

$

115,689

³10.5%

C&N Bank

205,863

18.75

%

87,817

³8%

115,260

³10.5%

109,771

³10%

115,260

³10.5%

Tier 1 capital to risk-weighted assets:

Consolidated

211,388

19.19

%

N/A

N/A

N/A

N/A

N/A

N/A

93,653

³8.5%

C&N Bank

195,694

17.83

%

65,863

³6%

93,306

³8.5%

87,817

³8%

93,306

³8.5%

Common equity tier 1 capital to risk-weighted assets:

Consolidated

211,388

19.19

%

N/A

N/A

N/A

N/A

N/A

N/A

77,126

³7%

C&N Bank

195,694

17.83

%

49,397

³4.5%

76,840

³7.0%

71,351

³6.5%

76,840

³7%

Tier 1 capital to average assets:

Consolidated

211,388

13.10

%

N/A

N/A

N/A

N/A

N/A

N/A

129,126

³8%

C&N Bank

195,694

12.24

%

63,940

³4%

N/A

N/A

79,925

³5%

127,879

³8%

December 31, 2018:

Total capital to risk-weighted assets:

Consolidated

$

199,226

24.42

%

N/A

N/A

N/A

N/A

N/A

N/A

$

85,653

³10.5%

C&N Bank

176,499

21.75

%

64,916

³8%

80,130

³9.875%

81,145

³10%

85,202

³10.5%

Tier 1 capital to risk-weighted assets:

Consolidated

189,589

23.24

%

N/A

N/A

N/A

N/A

N/A

N/A

69,338

³8.5%

C&N Bank

166,862

20.56

%

48,687

³6%

63,901

³7.875%

64,916

³8%

68,976

³8.5%

Common equity tier 1 capital to risk-weighted assets:

Consolidated

189,589

23.24

%

N/A

N/A

N/A

N/A

N/A

N/A

57,102

³7%

C&N Bank

166,862

20.56

%

36,515

³4.5%

51,730

³6.375%

52,744

³6.5%

56,801

³7%

Tier 1 capital to average assets:

Consolidated

189,589

14.78

%

N/A

N/A

N/A

N/A

N/A

N/A

102,634

³8%

C&N Bank

166,862

13.16

%

50,715

³4%

N/A

N/A

63,394

³5%

101,430

³8%

 

In July 2013, the federal regulatory authorities issued a new capital rule based, in part, on revisions developed by the Basel Committee on Banking Supervision to the Basel capital framework (Basel III). This capital rule provides that, to avoid limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers, a banking organization subject to the rule must hold a capital conservation buffer composed of common equity tier 1 capital above its minimum risk-based capital requirements. The buffer is measured relative to risk-weighted assets. In 2019, the minimum risk-based capital ratios, and the capital ratios including the capital conservation buffer, are as follows:

 

 

Minimum common equity tier 1 capital ratio			4.5	%
Minimum common equity tier 1 capital ratio plus capital conservation buffer			7.0	%
Minimum tier 1 capital ratio			6.0	%
Minimum tier 1 capital ratio plus capital conservation buffer			8.5	%
Minimum total capital ratio			8.0	%
Minimum total capital ratio plus capital conservation buffer			10.5	%

 

A banking organization with a buffer greater than 2.5% over the minimum risk-based capital ratios would not be subject to additional limits on dividend payments or discretionary bonus payments; however, a banking organization with a buffer less than 2.5% would be subject to increasingly stringent limitations as the buffer approaches zero. Also, a banking organization is prohibited from making dividend payments or discretionary bonus payments if its eligible retained income is negative in that quarter and its capital conservation buffer ratio was less than 2.5% as of the beginning of that quarter. Eligible net income is defined as net income for the four calendar quarters preceding the current calendar quarter, net of any distributions and associated tax effects not already reflected in net income. A summary of payout restrictions based on the capital conservation buffer is as follows:

 

Capital Conservation Buffer		Maximum Payout
(as a % of risk-weighted assets)		(as a % of eligible retained income)
Greater than 2.5%			No payout limitation applies
≤2.5% and >1.875%			60%
≤1.875% and >1.25%			40%
≤1.25% and >0.625%			20%
≤0.625%			0%

 

At December 30, 2019, C&N Bank’s Capital Conservation Buffer, determined based on the minimum total capital ratio, was 10.75%.

 

Banking regulators limit the amount of dividends that may be paid by C&N Bank to the Corporation. Retained earnings against which dividends may be paid without prior approval of the banking regulators amounted to approximately $94,628,000 at December 31, 2019, subject to the minimum capital ratio requirements noted above.

 

Restrictions imposed by federal law prohibit the Corporation from borrowing from C&N Bank unless the loans are secured in specific amounts. Such secured loans to the Corporation are generally limited to 10% of C&N Bank’s tangible stockholder’s equity (excluding accumulated other comprehensive income) or $19,543,000 at December 31, 2019.

 

 

19. PARENT COMPANY ONLY

 

The following is condensed financial information for Citizens & Northern Corporation:

 

CONDENSED BALANCE SHEET		Dec. 31,				Dec. 31,
(In Thousands)		2019				2018
ASSETS
Cash		$	6,485			$	7,389
Investment in subsidiaries:
Citizens & Northern Bank			228,413				174,795
Citizens & Northern Investment Corporation			12,353				11,697
Bucktail Life Insurance Company			3,669				3,525
Other assets			109				6
TOTAL ASSETS		$	251,029			$	197,412
LIABILITIES AND STOCKHOLDERS' EQUITY
Subordinated debt		$	6,500			$	0
Other liabilities			77				44
Stockholders' equity			244,452				197,368
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY		$	251,029			$	197,412

 

CONDENSED INCOME STATEMENT
(In Thousands)		2019				2018
Dividends from Citizens & Northern Bank		$	24,600			$	12,800
Expenses			(1,086	)			(681	)
Income before equity in (excess distributions)/undistributed income of subsidiaries			23,514				12,119
Equity in (excess distributions)/undistributed income of subsidiaries			(4,010	)			9,894
NET INCOME		$	19,504			$	22,013

 

CONDENSED STATEMENT OF CASH FLOWS
(In Thousands)		2019				2018
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	19,504			$	22,013
Adjustments to reconcile net income to net cash provided by operating activities:
Loss on repayment of subordinated debt			10				0
Equity in (excess distributions)/undistributed income of subsidiaries			4,010				(9,894	)
(Increase) decrease in other assets			(107	)			7
(Decrease) increase in other liabilities			(81	)			30
Net Cash Provided by Operating Activities			23,336				12,156
CASH FLOWS FROM INVESTING ACTIVITIES,
Net cash used in business combination			(9,698	)			0
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of subordinated debt			(510	)			0
Proceeds from sale of treasury stock			198				189
Purchase of treasury stock			(189	)			0
Dividends paid			(14,041	)			(11,746	)
Net Cash Used in Financing Activities			(14,542	)			(11,557	)
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS			(904	)			599
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR			7,389				6,790
CASH AND CASH EQUIVALENTS, END OF YEAR		$	6,485			$	7,389
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Investment of net assets acquired in business combination in Citizens & Northern Bank		$	49,765			$	0
Common equity issued in business combination		$	32,953			$	0
Subordinated debt assumed in business combination		$	7,000			$	0
Other liabilities assumed in business combination		$	114			$	0
Interest paid		$	461			$	0

 

 

20. SUMMARY OF QUARTERLY CONSOLIDATED FINANCIAL DATA (Unaudited)

 

The following table presents summarized quarterly financial data for 2019 and 2018:

 

SUMMARY OF QUARTERLY CONSOLIDATED FINANCIAL DATA

 

		2019 Quarter Ended
		Mar. 31,				June 30,				Sept. 30,				Dec. 31,
(In Thousands Except Per Share Data) (Unaudited)		2019				2019				2019				2019
Interest income		$	13,065			$	17,139			$	17,277			$	17,290
Interest expense			1,350				2,934				3,000				2,999
Net interest income			11,715				14,205				14,277				14,291
(Credit) provision for loan losses			(957	)			(4	)			1,158				652
Net interest income after (credit) provision for loan losses			12,672				14,209				13,119				13,639
Other income			4,406				4,849				4,963				5,066
Net gains on available-for-sale debt securities			0				7				13				3
Merger-related expenses			311				3,301				206				281
Other expenses			10,696				11,422				11,486				11,834
Income before income tax provision			6,071				4,342				6,403				6,593
Income tax provision			981				693				1,096				1,135
Net income		$	5,090			$	3,649			$	5,307			$	5,458
Net income attributable to common shares		$	5,063			$	3,630			$	5,281			$	5,431
Net income per share – basic		$	0.41			$	0.27			$	0.39			$	0.40
Net income per share – diluted		$	0.41			$	0.27			$	0.39			$	0.40

 

		2018 Quarter Ended
		Mar. 31,				June 30,				Sept. 30,				Dec. 31,
		2018				2018				2018				2018
Interest income		$	11,890			$	12,334			$	12,800			$	13,304
Interest expense			993				1,079				1,241				1,312
Net interest income			10,897				11,255				11,559				11,992
Provision (credit) for loan losses			292				(20	)			60				252
Net interest income after provision (credit) for loan losses			10,605				11,275				11,499				11,740
Other income			4,406				4,689				4,462				5,040
Gain on restricted equity security			0				1,750				571				0
Net losses on available-for-sale debt securities			0				(282	)			(2	)			(4	)
Merger-related expenses			0				0				200				128
Other expenses			9,895				9,684				9,633				9,946
Income before income tax provision			5,116				7,748				6,697				6,702
Income tax provision			741				1,377				1,111				1,021
Net income		$	4,375			$	6,371			$	5,586			$	5,681
Net income attributable to common shares		$	4,352			$	6,339			$	5,558			$	5,654
Net income per share – basic		$	0.36			$	0.52			$	0.45			$	0.46
Net income per share – diluted		$	0.36			$	0.52			$	0.45			$	0.46

 

 

21. FAIR VALUE MEASUREMENTS AND FAIR VALUES OF FINANCIAL INSTRUMENTS

 

The Corporation measures certain assets at fair value. Fair value is defined as the price that would be received to sell an asset in an orderly transaction between market participants at the measurement date. FASB ASC topic 820, “Fair Value Measurements and Disclosures” establishes a framework for measuring fair value that includes a hierarchy used to classify the inputs used in measuring fair value. The hierarchy prioritizes the inputs used in determining valuations into three levels. The level in the fair value hierarchy within which the fair value measurement falls is determined based on the lowest level input that is significant to the fair value measurement. The levels of the fair value hierarchy are as follows:

 

Level 1 – Fair value is based on unadjusted quoted prices in active markets that are accessible to the Corporation for identical assets. These generally provide the most reliable evidence and are used to measure fair value whenever available.

 

Level 2 – Fair value is based on significant inputs, other than Level 1 inputs, that are observable either directly or indirectly for substantially the full term of the asset through corroboration with observable market data. Level 2 inputs include quoted market prices in active markets for similar assets, quoted market prices in markets that are not active for identical or similar assets and other observable inputs.

 

Level 3 – Fair value is based on significant unobservable inputs. Examples of valuation methodologies that would result in Level 3 classification include option pricing models, discounted cash flows and other similar techniques.

 

The Corporation monitors and evaluates available data relating to fair value measurements on an ongoing basis and recognizes transfers among the levels of the fair value hierarchy as of the date of an event or change in circumstances that affects the valuation method chosen. Examples of such changes may include the market for a particular asset becoming active or inactive, changes in the availability of quoted prices, or changes in the availability of other market data.

 

At December 31, 2019 and 2018, assets measured at fair value and the valuation methods used are as follows:

 

						December 31, 2019
		Quoted Prices				Other
		in Active				Observable				Unobservable				Total
		Markets				Inputs				Inputs				Fair
(In Thousands)		(Level 1)				(Level 2)				(Level 3)				Value
Recurring fair value measurements
AVAILABLE-FOR-SALE DEBT SECURITIES:
Obligations of U.S. Government agencies		$	0			$	17,000			$	0			$	17,000
Obligations of states and political subdivisions:
Tax-exempt			0				70,760				0				70,760
Taxable			0				36,303				0				36,303
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			0				59,210				0				59,210
Residential collateralized mortgage obligations			0				114,723				0				114,723
Commercial mortgage-backed securities			0				48,727				0				48,727
Total available-for-sale debt securities			0				346,723				0				346,723
Marketable equity security			979				0				0				979
Servicing rights			0				0				1,277				1,277
Total recurring fair value measurements		$	979			$	346,723			$	1,277			$	348,979
Nonrecurring fair value measurements
Impaired loans with a valuation allowance		$	0			$	0			$	3,375			$	3,375
Valuation allowance			0				0				(1,051	)			(1,051	)
Impaired loans, net			0				0				2,324				2,324
Foreclosed assets held for sale			0				0				2,886				2,886
Total nonrecurring fair value measurements		$	0			$	0			$	5,210			$	5,210

 

 

						December 31, 2018
		Quoted Prices				Other
		in Active				Observable				Unobservable				Total
		Markets				Inputs				Inputs				Fair
(In Thousands)		(Level 1)				(Level 2)				(Level 3)				Value
Recurring fair value measurements
AVAILABLE-FOR-SALE DEBT SECURITIES:
Obligations of U.S. Government agencies		$	0			$	12,500			$	0			$	15,500
Obligations of states and political subdivisions:
Tax-exempt			0				83,952				0				83,952
Taxable			0				27,699				0				27,699
Mortgage-backed securities issued or guaranteed by U.S. Government agencies or sponsored agencies:
Residential pass-through securities			0				53,445				0				53,445
Residential collateralized mortgage obligations			0				145,912				0				145,912
Commercial mortgage-backed securities			0				39,765				0				39,765
Total available-for-sale debt securities			0				363,273				0				363,273
Marketable equity security			950				0				0				950
Servicing rights			0				0				1,404				1,404
Total recurring fair value measurements		$	950			$	363,273			$	1,404			$	365,627
Nonrecurring fair value measurements
Impaired loans with a valuation allowance		$	0			$	0			$	4,851			$	4,851
Valuation allowance			0				0				(1,605	)			(1,605	)
Impaired loans, net			0				0				3,246				3,246
Foreclosed assets held for sale			0				0				1,703				1,703
Total nonrecurring fair value measurements		$	0			$	0			$	4,949			$	4,949

 

Management’s evaluation and selection of valuation techniques and the unobservable inputs used in determining the fair values of assets valued using Level 3 methodologies include sensitive assumptions. Other market participants might use substantially different assumptions, which could result in calculations of fair values that would be substantially different than the amount calculated by management. The following table shows quantitative information regarding significant techniques and inputs used at December 31, 2019 and 2018 for servicing rights assets measured using unobservable inputs (Level 3 methodologies) on a recurring basis:

 

		Fair Value at
		12/31/19				Valuation		Unobservable						Method or Value As of
Asset		(In Thousands)				Technique		Input(s)						12/31/19
Servicing rights		$	1,277			Discounted cash flow		Discount rate			12.50	%		Rate used through modeling period
								Loan prepayment speeds			183.00	%		Weighted-average PSA of loan balances of payments are late late fees assessed
								Servicing fees			0.25	%
											4.00	%
											5.00	%
										$	1.94			Miscellaneous fees per account per month
								Servicing costs		$	6.00			Monthly servicing cost per account
										$	24.00			Additional monthly servicing cost per loan on loans more than 30 days delinquent of loans more than 30 days delinquent annual increase in servicing costs
											1.50	%
											3.00	%

 

 

		Fair Value at
		12/31/18				Valuation		Unobservable						Method or Value As of
Asset		(In Thousands)				Technique		Input(s)						12/31/18
Servicing rights		$	1,404			Discounted cash flow		Discount rate			12.50	%		Rate used through modeling period
								Loan prepayment speeds			114.00	%		Weighted-average PSA of loan balances of payments are late late fees assessed
								Servicing fees			0.25	%
											4.00	%
											5.00	%
										$	1.94			Miscellaneous fees per account per month
								Servicing costs		$	6.00			Monthly servicing cost per account
										$	24.00			Additional monthly servicing cost per loan on loans more than 30 days delinquent of loans more than 30 days delinquent annual increase in servicing costs
											1.50	%
											3.00	%

 

The fair value of servicing rights is affected by expected future interest rates. Increases (decreases) in future expected interest rates tend to increase (decrease) the fair value of the Corporation’s servicing rights because of changes in expected prepayment behavior by the borrowers on the underlying loans.

 

Following is a reconciliation of activity for Level 3 assets (servicing rights) measured at fair value on a recurring basis:

 

		Years Ended December 31,
(In Thousands)		2019				2018
Balance, beginning of period		$	1,404			$	1,299
Issuances of servicing rights			204				188
Unrealized losses included in earnings			(331	)			(83	)
Balance, end of period		$	1,277			$	1,404

 

Loans are classified as impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Foreclosed assets held for sale consist of real estate acquired by foreclosure. For impaired commercial loans secured by real estate and foreclosed assets held for sale, estimated fair values are determined primarily using values from third-party appraisals. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.

 

At December 31, 2019 and 2018, quantitative information regarding significant techniques and inputs used for nonrecurring fair value measurements using unobservable inputs (Level 3 methodologies) are as follows:

 

(In Thousands, Except Percentages) Asset		Balance at 12/31/19				Valuation Allowance at 12/31/19				Fair Value at 12/31/19				Valuation Technique		Unobservable Inputs		Weighted- Average Discount at 12/31/19
Impaired loans:
Residential mortgage loans - first and junior liens		$	732			$	176			$	556			Sales comparison		Discount to appraised value			30	%
Commercial:
Commercial and industrial			106				89				17			Sales comparison		Discount to appraised value			69	%
Commercial and industrial			798				60				738			Liquidation of accounts receivable		Discount to borrower's financial statement value			15	%
Commercial construction and land			1,261				678				583			Sales comparison		Discount to appraised value			47	%
Loans secured by farmland			478				48				430			Sales comparison		Discount to appraised value			46	%
Total impaired loans		$	3,375			$	1,051			$	2,324
Foreclosed assets held for sale - real estate:
Residential (1-4 family)		$	292			$	0			$	292			Sales comparison		Discount to appraised value			46	%
Land			70				0				70			Sales comparison		Discount to appraised value			53	%
Commercial real estate			2,524				0				2,524			Sales comparison		Discount to appraised value			39	%
Total foreclosed assets held for sale		$	2,886			$	0			$	2,886

 

 

(In Thousands, Except Percentages) Asset		Balance at 12/31/18				Valuation Allowance at 12/31/18				Fair Value at 12/31/18				Valuation Technique		Unobservable Inputs		Weighted- Average Discount at 12/31/18
Impaired loans:
Residential mortgage loans - first liens
		$	509			$	116			$	393			Sales comparison		Discount to appraised value			26	%
Commercial:
Commercial loans secured by real estate			2,515				781				1,734			Sales comparison		Discount to appraised value			16	%
Commercial and industrial			75				75				0			Sales comparison		Discount to appraised value			100	%
Commercial and industrial			1,265				584				681			Sales comparison		Discount to borrower's financial statement value			36	%
Loans secured by farmland			487				49				438			Sales comparison		Discount to appraised value			56	%
Total impaired loans		$	4,851			$	1,605			$	3,246
Foreclosed assets held for sale - real estate:
Residential (1-4 family)		$	64			$	0			$	64			Sales comparison		Discount to appraised value			68	%
Land			110				0				110			Sales comparison		Discount to appraised value			61	%
Commercial real estate			1,529				0				1,529			Sales comparison		Discount to appraised value			20	%
Total foreclosed assets held for sale		$	1,703			$	0			$	1,703

 

Certain of the Corporation’s financial instruments are not measured at fair value in the consolidated financial statements. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. Certain financial instruments and all nonfinancial instruments are excluded from disclosure requirements. Therefore, the aggregate fair value amounts presented may not represent the underlying fair value of the Corporation.

 

The estimated fair values, and related carrying amounts, of the Corporation’s financial instruments that are not recorded at fair value are as follows:

 

		Valuation				December 31, 2019								December 31, 2018
		Method(s)				Carrying				Fair				Carrying				Fair
(In Thousands)		Used				Amount				Value				Amount				Value
Financial assets:
Cash and cash equivalents			Level 1			$	31,122			$	31,122			$	32,827			$	32,827
Certificates of deposit			Level 2				4,080				4,227				4,660				4,634
Restricted equity securities (included in Other Assets)			Level 2				10,321				10,321				5,712				5,712
Loans, net			Level 3				1,172,386				1,181,000				818,254				825,809
Accrued interest receivable			Level 2				5,001				5,001				3,968				3,968
Financial liabilities:
Deposits with no stated maturity			Level 2				877,965				877,965				804,207				804,207
Time deposits			Level 2				374,695				376,738				229,565				229,751
Short-term borrowings			Level 2				86,220				86,166				12,853				12,617
Long-term borrowings			Level 2				52,127				52,040				35,915				35,902
Accrued interest payable			Level 2				311				311				142				142

 

 

Report of Independent Registered Public Accounting Firm

 

Stockholders and Board of Directors of
Citizens & Northern Corporation

 

Opinions on the Financial Statements and Internal Control over Financial Reporting

 

We have audited the accompanying consolidated balance sheets of Citizens & Northern Corporation and subsidiaries (collectively the "Corporation") as of December 31, 2019 and 2018, and the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows, for the years then ended, and the related notes (collectively referred to as the "consolidated financial statements"). We also have audited the Corporation’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control – Integrated Framework: (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

 

In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Corporation as of December 31, 2019 and 2018, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control – Integrated Framework: (2013) issued by COSO.

 

Basis for Opinions

 

The Corporation’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Corporation's consolidated financial statements and an opinion on the Corporation’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

 

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud and whether effective internal control over financial reporting was maintained in all material respects.

 

Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

 

As described in Management’s Report on Internal Control over Financial Reporting, management excluded from its assessment of internal control over financial reporting Monument Bancorp, Inc., which was acquired on April 1, 2019, and whose financial statements constitute assets of approximately 19.8% of the Corporation’s consolidated total assets, and interest income and noninterest income of approximately 14.3% of the Corporation’s consolidated total interest income and noninterest income, as of and for the year ended December 31, 2019. Accordingly, our audit did not include the internal control over financial reporting of Monument Bancorp, Inc.

 

 

Definition and Limitations of Internal Control Over Financial Reporting

 

A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

 

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

 

/s/ Baker Tilly Virchow Krause, LLP

 

We have served as the Corporation’s auditor since 1979.

 

Williamsport, Pennsylvania

February 20, 2020

 

  

PART IV

 

ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

 

(a) (1). The following consolidated financial statements are set forth in Part II, Item 8:

 

	Page
Report of Independent Registered Public Accounting Firm	52-53
Financial Statements:
Consolidated Balance Sheets - December 31, 2019 and 2018	4
Consolidated Statements of Income - Years Ended December 31, 2019 and 2018	5
Consolidated Statements of Comprehensive Income - Years Ended December 31, 2019 and 2018	6
Consolidated Statements of Changes in Stockholders' Equity - Years Ended December 31, 2019 and 2018	7
Consolidated Statements of Cash Flows - Years Ended December 31, 2019 and 2018	8
Notes to Consolidated Financial Statements	9-51

 

(a)(2) Financial statement schedules are not applicable or included in the financial statements or related notes.

 

2. Plan of acquisition, reorganization, arrangement, liquidation or succession:
2.1 Agreement and Plan of Merger dated September 27, 2018, between the Corporation and Monument Bancorp, Inc.	Incorporated by reference to Exhibit 2.1 of the Corporation’s Form 8-K filed September 28, 2018
2.2 Agreement and Plan of Merger dated December 18, 2019, between the Corporation and Covenant Financial, Inc.	Incorporated by reference to Exhibit 2.1 of the Corporation’s Form 8-K filed December 18, 2019
3. (i) Articles of Incorporation	Incorporated by reference to Exhibit 3.1 of
	the Corporation's Form 8-K filed
	September 21, 2009
3. (ii) By-laws	Incorporated by reference to Exhibit 3.1 of the
	Corporation's Form 8-K filed April 19, 2013
4. (i) through (v) Instruments defining the rights Of securities holders, including indentures	Not applicable
4. (vi) Description of registrant’s securities	Previously Filed
9. Voting trust agreement	Not applicable
10. Material contracts:
10.1 Form of Time-Based Restricted Stock agreement dated January 31, 2020 between the Corporation and Executive Officers pursuant to the Citizens & Northern Corporation Stock Incentive Plan	Previously Filed
10.2 Form of Restricted Stock agreement dated January 31, 2020 between the Corporation and its independent directors pursuant to the Citizens & Northern Corporation Independent Directors Stock Incentive Plan	Previously Filed
10.3 2020 Annual Performance Incentive Award Plan	Previously Filed
10.4 2020 Annual Performance Incentive Award Plan - Mortgage Lenders	Previously Filed

 

 

10.5 Deferred Compensation Agreement dated December 17, 2015	Incorporated by reference to Exhibit 10.8 filed with Corporation’s 10-K on February 15, 2018
10.6 Second Amendment to Employment Agreement dated August 24, 2018 between the Corporation and J. Bradley Scovill	Incorporated by reference to Exhibit 10.1 filed with Corporation’s Form 8-K on August 24, 2018
10.7 First Amendment to Employment Agreement dated June 26, 2017 between the Corporation and J. Bradley Scovill	Incorporated by reference to Exhibit 10.1 filed with Corporation’s Form 8-K on June 27, 2017
10.8 Employment agreement dated March 2, 2015 between the Corporation and J. Bradley Scovill	Incorporated by reference to Exhibit 10.1 filed with Corporation’s Form 8-K on February 9, 2015
10.9 Employment agreement dated September 19, 2013 Corporation’s Form 8-K on September 19, 2013 between the Corporation and Mark A. Hughes	Incorporated by reference to Exhibit 10.2 filed with
10.10 Employment agreement dated September 19, 2013 Corporation’s Form 8-K on September 19, 2013 between the Corporation and Harold F. Hoose, III	Incorporated by reference to Exhibit 10.3 filed with
10.11 Employment agreement dated September 19, 2013 Corporation’s Form 8-K on September 19, 2013 between the Corporation and Deborah E. Scott	Incorporated by reference to Exhibit 10.4 filed with
10.12 Form of Indemnification Agreement dated September 20, 2018 between the Corporation and J. Bradley Scovill	Incorporated by reference to Exhibit 10.1 filed with Corporation’s Form 10-Q on November 1, 2018
10.13 Form of Indemnification Agreement dated January 9, 2018 between the Corporation and Tracy E. Watkins	Incorporated by reference to Exhibit 10.6 filed with Corporation’s 10-K on February 15, 2018
10.14 Form of Indemnification Agreement dated February 11, 2015 between the Corporation and Stan R. Dunsmore	Incorporated by reference to Exhibit 10.9 filed with Corporation’s 10-K on February 26, 2015
10.15 Form of Indemnification Agreement dated January 2, 2013 between the Corporation and Shelley L. D'Haene	Incorporated by reference to Exhibit 10.5 filed with Corporation’s Form 10-K on February 21, 2013
10.16 Form of Indemnification Agreement dated January 19, 2011 between the Corporation and John M. Reber	Incorporated by reference to Exhibit 10.6 filed with Corporation's Form 10-K on Feb. 28, 2011
10.17 Form of Indemnification Agreements dated May 2004 between the Corporation and the Directors and certain officers	Incorporated by reference to Exhibit 10.1 filed with Corporation’s 10-K on March 14, 2005
10.18 Change in Control Agreement dated January 9, 2018 between the Corporation and Tracy E. Watkins	Incorporated by reference to Exhibit 10.7 filed with Corporation’s 10-K on February 15, 2018
10.19 Change in Control Agreement dated March 17, 2015 between the Corporation and Stan R. Dunsmore	Incorporated by reference to Exhibit 10.1 filed with Corporation’s Form 10-Q on May 8, 2015
10.20 Change in Control Agreement dated January 2, 2013 between the Corporation and Shelley L. D'Haene	Incorporated by reference to Exhibit 10.7 filed with Corporation’s Form 10-K on February 21, 2013
10.21 Change in Control Agreement dated January 20, 2005 between the Corporation and John M. Reber	Incorporated by reference to Exhibit 10.18 filed with Corporation’s Form 10-K on February 18, 2016

  

 

10.22 Change in Control Agreement dated December 31, 2003 between the Corporation and Thomas L. Rudy, Jr.	Incorporated by reference to Exhibit 10.2 filed with the Corporation's Form 10-K on March 14, 2005
10.23 Executive Compensation Recoupment Policy dated September 19, 2013	Incorporated by reference to Exhibit 10.5 filed with Corporation’s Form 8-K on September 19, 2013
10.24 Fifth Amendment to Citizens & Northern Corporation Stock Incentive Plan	Incorporated by reference to Exhibit 10.1 filed with Form 8-K on December 21, 2018
10.25 Fourth Amendment to Citizens & Northern Corporation Stock Incentive Plan and Annual Incentive Plan	Incorporated by reference to Exhibit 10.6 filed with Corporation's Form 8-K on September 19, 2013
10.26 Third Amendment to Citizens & Northern Corporation Stock Incentive Plan	Incorporated by reference to Exhibit A to the Corporation's proxy statement dated March 18, 2008 for the annual meeting of stockholders held on April 15, 2008
10.27 Second Amendment to Citizens & Northern Corporation Stock Incentive Plan	Incorporated by reference to Exhibit 10.5 filed with the Corporation's Form 10-K on March 10, 2004
10.28 First Amendment to Citizens & Northern Corporation Stock Incentive Plan	Incorporated by reference to Exhibit 10.6 filed with the Corporation's Form 10-K on March 10, 2004
10.29 Citizens & Northern Corporation Stock Incentive Plan	Incorporated by reference to Exhibit 10.7 filed with the Corporation's Form 10-K on March 10, 2004
10.30 Second Amendment to Citizens & Northern Independent Directors Stock incentive Plan	Incorporated by reference to Exhibit 10.2 filed with Form 8-K on December 21, 2018
10.31 First Amendment to Citizens & Northern Corporation Independent Directors Stock Incentive Plan	Incorporated by reference to Exhibit B to the Corporation's proxy statement dated March 18, 2008 for the annual meeting of stockholders held on April 15, 2008
10.32 Citizens & Northern Corporation Independent Directors Stock Incentive Plan	Incorporated by reference to Exhibit A to the Corporation's proxy statement dated March 19, 2001 for the annual meeting of stockholders held on April 17, 2001.
10.33 Citizens & Northern Corporation Supplemental Executive Retirement Plan (as amended and restated)	Incorporated by reference to Exhibit 10.21 filed with the Corporation's Form 10-K on March 6, 2009
10.34 Form of Indemnification Agreements dated May 24, 2018 between the Corporation and Directors Bobbi J. Kilmer, Terry L. Lehman, Frank G. Pellegrino and Aaron K. Singer	Incorporated by reference to Exhibit 10.1 of the Corporation’s Form 10-Q filed August 6, 2018
11. Statement re: computation of per share earnings	Information concerning the computation of earnings per share is provided in Note 4 to the Consolidated Financial Statements, which is included in Part II, Item 8 of Form 10-K
12. Statements re: computation of ratios	Not applicable
13. Annual report to security holders, Form 10-Q or quarterly report to security holders	Not applicable
14. Code of ethics	The Code of Ethics is available through the Corporation's website at www.cnbankpa.com. To access the Code of Ethics, click on “About,” “Investor Relations,” “Corporate Governance Policies,” and “Code of Ethics.”

 

 

16. Letter re: change in certifying accountant	Not applicable
18. Letter re: change in accounting principles	Not applicable
21. Subsidiaries of the registrant	Previously Filed
22. Published report regarding matters submitted to vote of security holders	Not applicable
23. Consent of Independent Registered Public Accounting Firm	Previously Filed
24. Power of attorney	Not applicable
31. Rule 13a-14(a)/15d-14(a) certifications:
31.1 Certification of Chief Executive Officer	Filed herewith
31.2 Certification of Chief Financial Officer	Filed herewith
32. Section 1350 certifications	Filed herewith
33. Report on assessment of compliance with servicing criteria for asset-backed securities	Not applicable
34. Attestation report on assessment of compliance with servicing criteria for asset-backed securities	Not applicable
35. Service compliance statement	Not applicable
99. Additional exhibits:
99.1 Additional information mailed or made available online to shareholders with proxy statement and Form 10-K on March 6, 2020	Previously Filed
100. XBRL-related documents	Not applicable
101. Interactive data file	Previously Filed
104. Cover page interactive data file	Not applicable

 

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this Amendment No. 1 to the Citizens & Northern Corporation Annual Report on Form 10-K for the year ended December 31, 2019 has been signed below by the following person on behalf of the registrant and in the capacities indicated.

 

By: /s/ Mark A. Hughes                     

Treasurer and Principal Accounting Officer

 

Date: February 21, 2020