C & F FINANCIAL CORP - FORM 10-Q

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EX-32 - EX-32 - C & F FINANCIAL CORP	cffi-20200331xex32.htm
EX-31.2 - EX-31.2 - C & F FINANCIAL CORP	cffi-20200331ex31294f4f3.htm
EX-31.1 - EX-31.1 - C & F FINANCIAL CORP	cffi-20200331ex3116dd1bc.htm

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)


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

For the quarterly period ended March 31, 2020


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

For the transition period from _________ to _________

Commission File Number 000-23423

C&F FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)


Virginia	54-1680165
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

802 Main Street West Point, VA	23181
(Address of principal executive offices)	(Zip Code)

(804) 843-2360

(Registrant’s telephone number, including area code)

N/A

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

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


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, $1.00 par value per share	CFFI	The NASDAQ Stock Market LLC

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 ☒ 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 (§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 ☒ No ☐

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

Large accelerated filer

☐

Accelerated filer

☒

Non-accelerated filer

☐

Smaller reporting company

☒

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 ☒

At May 7, 2020, the latest practicable date for determination, 3,647,673 shares of common stock, $1.00 par value, of the registrant were outstanding.

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TABLE OF CONTENTS


PART I - Financial Information		Page

Item 1.	Financial Statements	3

	Consolidated Balance Sheets – March 31, 2020 (unaudited) and December 31, 2019	3

	Consolidated Statements of Income (unaudited) – Three months ended March 31, 2020 and 2019	4

	Consolidated Statements of Comprehensive Income (unaudited) – Three months ended March 31, 2020 and 2019	5

	Consolidated Statements of Equity (unaudited) – Three months ended March 31, 2020 and 2019	6

	Consolidated Statements of Cash Flows (unaudited) – Three months ended March 31, 2020 and 2019	7

	Notes to Consolidated Financial Statements (unaudited)	8

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	33

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	58

Item 4.	Controls and Procedures	58

PART II - Other Information

Item 1A.	Risk Factors	58

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	59

Item 6.	Exhibits	61

	Signatures	62

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Part I – FINANCIAL INFORMATION

ITEM 1.FINANCIAL STATEMENTS

C&F FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share amounts)


	March 31,		December 31,
	2020		2019
Assets		(unaudited)		*
Cash and due from banks	$	37,006	$	21,148
Interest-bearing deposits in other banks		111,003		144,285
Total cash and cash equivalents		148,009		165,433
Securities—available for sale at fair value, amortized cost of $230,245 and $187,759, respectively		234,424		189,733
Loans held for sale, at fair value		125,667		90,500
Loans, net of allowance for loan losses of $33,298 and $32,873, respectively		1,204,171		1,082,318
Restricted stock, at cost		3,209		3,257
Corporate premises and equipment, net		38,731		35,261
Other real estate owned, net of valuation allowance of $88 and $88, respectively		1,103		1,103
Accrued interest receivable		7,253		6,776
Goodwill		25,117		14,425
Other intangible assets, net		2,540		912
Bank-owned life insurance		19,749		16,044
Net deferred tax asset		12,737		11,219
Other assets		54,582		40,451
Total assets	$	1,877,292	$	1,657,432

Liabilities
Deposits
Noninterest-bearing demand deposits	$	334,648	$	296,985
Savings and interest-bearing demand deposits		641,976		572,209
Time deposits		507,750		422,056
Total deposits		1,484,374		1,291,250
Short-term borrowings		18,391		16,360
Long-term borrowings		116,254		119,529
Trust preferred capital notes		25,289		25,281
Accrued interest payable		1,508		1,291
Other liabilities		52,232		38,442
Total liabilities		1,698,048		1,492,153

Commitments and contingent liabilities (Note 11)

Equity
Common stock ($1.00 par value, 8,000,000 shares authorized, 3,648,658 and 3,438,126 shares issued and outstanding, respectively, includes 139,820 and 142,020 of unvested shares, respectively)		3,509		3,296
Additional paid-in capital		20,710		9,503
Retained earnings		156,438		154,248
Accumulated other comprehensive loss, net		(1,955)		(2,249)
Equity attributable to C&F Financial Corporation		178,702		164,798
Noncontrolling interest		542		481
Total equity		179,244		165,279
Total liabilities and equity	$	1,877,292	$	1,657,432

* Derived from audited consolidated financial statements.

See notes to consolidated financial statements.

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C&F FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(Dollars in thousands, except per share amounts)


	Three Months Ended March 31,
	2020		2019
Interest income
Interest and fees on loans	$	22,897	$	20,920
Interest on interest-bearing deposits and federal funds sold		598		589
Interest and dividends on securities
U.S. government agencies and corporations		126		101
Mortgage-backed securities		520		611
Tax-exempt obligations of states and political subdivisions		496		583
Taxable obligations of states and political subdivisions		92		93
Other		49		54
Total interest income		24,778		22,951
Interest expense
Savings and interest-bearing deposits		586		602
Time deposits		2,299		1,306
Borrowings		1,001		1,111
Trust preferred capital notes		289		285
Total interest expense		4,175		3,304
Net interest income		20,603		19,647
Provision for loan losses		2,650		2,395
Net interest income after provision for loan losses		17,953		17,252
Noninterest income
Gains on sales of loans		3,676		2,136
Mortgage banking fee income		1,305		769
Interchange income		1,089		958
Service charges on deposit accounts		1,002		918
Wealth management services income, net		585		449
Other service charges and fees		375		299
Net gains on sales, maturities and calls of available for sale securities		4		4
Other		993		1,570
Total noninterest income		9,029		7,103
Noninterest expenses
Salaries and employee benefits		10,817		11,907
Occupancy		2,327		2,190
Other		9,222		5,580
Total noninterest expenses		22,366		19,677
Income before income taxes		4,616		4,678
Income tax expense		977		907
Net income		3,639		3,771
Less net income attributable to noncontrolling interest		61		—
Net income attributable to C&F Financial Corporation	$	3,578	$	3,771
Net income per share - basic and diluted	$	0.98	$	1.08

See notes to consolidated financial statements.

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C&F FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands)


	Three Months Ended March 31,
	2020		2019
Net income	$	3,639	$	3,771
Other comprehensive income:
Defined benefit plan:
Reclassification of recognized net actuarial losses into net income1		42		42
Related income tax effects		(9)		(9)
Amortization of prior service credit into net income1		(17)		(17)
Related income tax effects		4		4
Defined benefit plan, net of tax		20		20

Cash flow hedges:
Unrealized holding losses arising during the period		(1,974)		(108)
Related income tax effects		508		28
Amortization of hedging gains into net income2		(3)		—
Related income tax effects		1		—
Cash flow hedges, net of tax		(1,468)		(80)

Securities available for sale:
Unrealized holding gains arising during the period		2,209		1,826
Related income tax effects		(464)		(383)
Reclassification of net realized gains into net income3		(4)		(4)
Related income tax effects		1		1
Securities available for sale, net of tax		1,742		1,440
Other comprehensive income, net of tax		294		1,380
Comprehensive income		3,933		5,151
Less comprehensive income attributable to noncontrolling interest		61		—
Comprehensive income attributable to C&F Financial Corporation	$	3,872	$	5,151

These items are included in the computation of net periodic benefit cost and are included in “Noninterest income – Other” on the Consolidated Statements of Income. See “Note 8: Employee Benefit Plans,” for additional information.

These items are included in “Interest expense – Trust preferred capital notes” on the Consolidated Statements of Income.

These items are included in “Net gains on sales, maturities and calls of available for sale securities” on the Consolidated Statements of Income.

See notes to consolidated financial statements.

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C&F FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EQUITY

FOR THE THREE MONTHS ENDED MARCH 31, 2020 AND 2019

(Unaudited)

(Dollars in thousands, except per share amounts)


	Attributable to C&F Financial Corporation
							Accumulated
			Additional				Other
	Common		Paid - In		Retained		Comprehensive		Noncontrolling		Total
	Stock		Capital		Earnings		Loss, Net		Interest		Equity
Balance December 31, 2019	$	3,296	$	9,503	$	154,248	$	(2,249)	$	481	$	165,279
Comprehensive income:
Net income		—		—		3,578		—		61		3,639
Other comprehensive income		—		—		—		294		—		294
Share-based compensation		—		389		—		—		—		389
Restricted stock vested		16		(16)		—		—		—		—
Acquisition of Peoples Bankshares, Incorporated		210		11,402		—		—		—		11,612
Common stock issued		1		36		—		—		—		37
Common stock purchased		(14)		(604)		—		—		—		(618)
Cash dividends declared ($0.38 per share)		—		—		(1,388)		—		—		(1,388)
Balance March 31, 2020	$	3,509	$	20,710	$	156,438	$	(1,955)	$	542	$	179,244


	Attributable to C&F Financial Corporation
							Accumulated
			Additional				Other
	Common		Paid - In		Retained		Comprehensive		Noncontrolling		Total
	Stock		Capital		Earnings		Loss, Net		Interest		Equity
Balance December 31, 2018	$	3,358	$	12,752	$	140,520	$	(4,672)	$	—	$	151,958
Comprehensive income:
Net income		—		—		3,771		—		—		3,771
Other comprehensive income		—		—		—		1,380		—		1,380
Issuance of noncontrolling interest		—		—		—		—		490		490
Share-based compensation		—		457		—		—		—		457
Restricted stock vested		15		(15)		—		—		—		—
Common stock issued		1		35		—		—		—		36
Common stock purchased		(37)		(1,867)		—		—		—		(1,904)
Cash dividends declared ($0.37 per share)		—		—		(1,288)		—		—		(1,288)
Balance March 31, 2019	$	3,337	$	11,362	$	143,003	$	(3,292)	$	490	$	154,900

See notes to consolidated financial statements.

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C&F FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)


	Three Months Ended March 31,
	2020		2019
Operating activities:
Net income	$	3,639	$	3,771
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation		885		916
Provision for loan losses		2,650		2,395
Share-based compensation		389		457
Pension expense		172		141
Accretion of certain acquisition-related discounts, net		(1,259)		(365)
Amortization of intangible assets		83		78
Net realized gains on sales, maturities and calls of securities available for sale		(4)		(4)
Accretion of discounts and amortization of premiums on securities, net		370		410
Income from bank-owned life insurance		(103)		(83)
Proceeds from sales of loans held for sale		227,422		146,701
Origination of loans held for sale		(253,868)		(138,705)
Gains on sales of loans held for sale		(3,676)		(2,136)
Other losses (gains), net		257		(10)
Change in other assets and liabilities:
Accrued interest receivable		(47)		169
Other assets		4,455		3,508
Accrued interest payable		(43)		246
Other liabilities		(3,100)		(3,322)
Net cash (used in) provided by operating activities		(21,778)		14,167
Investing activities:
Acquisition of Peoples Bankshares, Incorporated		19,101		—
Disposition of assets related to business combination		8,004		—
Proceeds from sales, maturities and calls of securities available for sale and payments on mortgage-backed securities		39,063		15,657
Purchases of securities available for sale		(64,746)		(8,338)
Repayments on loans held for investment by non-bank affiliates		32,448		30,599
Purchases of loans held for investment by non-bank affiliates		(29,305)		(36,854)
Net increase in retail banking loans held for investment		(4,911)		(9,250)
Proceeds from sales of other real estate owned		281		—
Purchases of corporate premises and equipment		(1,548)		(753)
Changes in collateral posted with other financial institutions, net		(8,270)		(2,370)
Other investing activities, net		199		3
Net cash used in investing activities		(9,684)		(11,306)
Financing activities:
Net increase (decrease) in demand and savings deposits		12,632		(11,057)
Net increase in time deposits		8,745		31,590
Net increase in short-term borrowings		2,030		2,107
Repayments of long-term borrowings		(7,519)		—
Repurchases of common stock		(355)		(1,667)
Cash dividends paid		(1,388)		(1,288)
Other financing activities, net		(107)		(108)
Net cash provided by financing activities		14,038		19,577
Net (decrease) increase in cash and cash equivalents		(17,424)		22,438
Cash and cash equivalents at beginning of period		165,433		115,013
Cash and cash equivalents at end of period	$	148,009	$	137,451
Supplemental cash flow disclosures:
Interest paid	$	4,175	$	3,049
Income taxes paid		3		8
Supplemental disclosure of noncash investing and financing activities:
Value of shares withheld at vesting for employee taxes	$	246	$	237
Liabilities assumed to acquire right of use assets under operating leases		204		821
Issuance of noncontrolling interest		—		490

See notes to consolidated financial statements.

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C&F FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1: Summary of Significant Accounting Policies

Principles of Consolidation: The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial reporting and with applicable quarterly reporting regulations of the Securities and Exchange Commission (the SEC). They do not include all of the information and notes required by U.S. GAAP for complete financial statements. Therefore, these consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the C&F Financial Corporation Annual Report on Form 10-K for the year ended December 31, 2019.

The unaudited consolidated financial statements include the accounts of C&F Financial Corporation (the Corporation) and its direct wholly-owned subsidiary, Citizens and Farmers Bank (the Bank or C&F Bank) and indirect subsidiaries that are wholly-owned or controlled. Subsidiaries that are less than wholly owned are fully consolidated if they are controlled by the Corporation or one of its subsidiaries, and the portion of any subsidiary not owned by the Corporation is reported as noncontrolling interest. All significant intercompany accounts and transactions have been eliminated in consolidation. In addition, the Corporation owns all of the common stock of C&F Financial Statutory Trust I, C&F Financial Statutory Trust II and Central Virginia Bankshares Statutory Trust I, all of which are unconsolidated subsidiaries. The subordinated debt owed to these trusts is reported as liabilities of the Corporation. The accounting and reporting policies of the Corporation conform to U.S. GAAP and to predominant practices within the banking industry.

Nature of Operations: The Corporation is a bank holding company incorporated under the laws of the Commonwealth of Virginia. The Corporation owns all of the stock of its subsidiary, C&F Bank, which is an independent commercial bank chartered under the laws of the Commonwealth of Virginia.

C&F Bank has five wholly-owned subsidiaries: C&F Mortgage Corporation (C&F Mortgage), C&F Finance Company (C&F Finance), C&F Wealth Management Corporation (C&F Wealth Management), C&F Insurance Services, Inc. and CVB Title Services, Inc., all incorporated under the laws of the Commonwealth of Virginia. C&F Mortgage, organized in September 1995, was formed to originate and sell residential mortgages and through its subsidiary, Certified Appraisals LLC, provides ancillary mortgage loan production services for residential appraisals. C&F Mortgage owns a 51 percent interest in C&F Select LLC, which was organized in January 2019 and is also engaged in the business of originating and selling residential mortgages. C&F Finance, acquired in September 2002, is a finance company purchasing automobile, marine and recreational vehicle (RV) loans through indirect lending programs. C&F Wealth Management, organized in April 1995, is a full-service brokerage firm offering a comprehensive range of wealth management services and insurance products through third-party service providers. C&F Insurance Services, Inc., was organized in July 1999, for the primary purpose of owning an equity interest in an independent insurance agency that operates in Virginia and North Carolina. CVB Title Services, Inc. was organized for the primary purpose of owning an equity interest in a full service title and settlement agency. Business segment data is presented in Note 10.

Basis of Presentation: The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, impairment of loans and goodwill impairment. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, which are necessary for a fair presentation of the results of operations in these financial statements, have been made.

The outbreak of the novel coronavirus and the resulting COVID-19 illness has caused a significant disruption in economic activity worldwide, and the Corporation expects that it will have a significant impact on businesses and consumers in its market areas and on its results of operations. It is unknown how long these conditions will last and what the ultimate financial impact will be to the Corporation.

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Business Combination: On January 1, 2020, the Corporation completed the acquisition of Peoples Bankshares, Incorporated (Peoples) and its banking subsidiary, Peoples Community Bank for an aggregate purchase price of $22.19 million of cash and stock. Additional information about the acquisition is presented in Note 2.

Reclassification: Certain reclassifications have been made to the prior period financial statements to conform to the current period presentation. None of these reclassifications are considered material.

Derivative Financial Instruments: The Corporation recognizes derivative financial instruments at fair value as either an other asset or other liability in the Consolidated Balance Sheets. The Corporation’s derivative financial instruments include (1) interest rate swaps that qualify and are designated as cash flow hedges on the Corporation’s trust preferred capital notes, (2) interest rate swaps with certain qualifying commercial loan customers and dealer counterparties and (3) interest rate contracts arising from mortgage banking activities, including interest rate lock commitments (IRLCs) on mortgage loans and related forward sales of mortgage loans and mortgage backed securities. The gain or loss on the Corporation’s cash flow hedges is reported as a component of other comprehensive income, net of deferred income taxes, and reclassified into earnings in the same period(s) during which the hedged transactions affect earnings. IRLCs, forward sales contracts and interest rate swaps with loan customers and dealer counterparties are not designated as hedging instruments, and therefore changes in the fair value of these instruments are reported as noninterest income or noninterest expense, as applicable. The Corporation’s derivative financial instruments are described more fully in Note 12.

Share-Based Compensation: Share-based compensation expense, net of forfeitures, for the three months ended March 31, 2020 was $389,000 ($217,000 after tax) for restricted stock granted during 2015 through 2020. As of March 31, 2020, there was $3.73 million of total unrecognized compensation expense related to unvested restricted stock that will be recognized over the remaining requisite service periods.

A summary of activity for restricted stock awards during the three months ended March 31, 2020 and 2019 is presented below:


	2020
		Weighted-
		Average
		Grant Date
	Shares	Fair Value
Unvested, December 31, 2019	142,020	$	48.88
Granted	14,650		53.22
Vested	(16,230)		39.97
Forfeited	(620)		53.46
Unvested, March 31, 2020	139,820		50.39


	2019
		Weighted-
		Average
		Grant Date
	Shares	Fair Value
Unvested, December 31, 2018	139,455	$	45.75
Granted	16,100		51.73
Vested	(15,490)		41.31
Forfeited	(70)		60.95
Unvested, March 31, 2019	139,995		46.92

Recently Adopted Accounting Pronouncements:

On January 1, 2020, the Corporation adopted Accounting Standards Update (ASU) 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement.” These amendments modified the disclosure requirements in Topic 820 to add disclosures regarding changes in unrealized gains

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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. The applicable amendments of ASU 2018-13 were applied prospectively and did not have a material effect on the Corporation’s consolidated financial statements.

Recent Significant Accounting Pronouncements:

In June 2016, the Financial Accounting Standards Board (FASB) issued ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments,” as part of its project on financial instruments. Subsequently, this ASU was amended when the FASB issued ASU 2018-19, “Codification Improvements to Topic 326, Financial Instruments – Credit Losses,” ASU 2019-04, “Codification Improvements to Topic 326, Financial Instruments – Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments,” ASU 2019-05, “Financial Instruments – Credit Losses (Topic 326): Targeted Transition Relief,” ASU 2019-10, “Financial Instruments—Credit losses (Topic 326), Derivatives and hedging (Topic 815), and Leases (Topic 842)—Effective dates,” ASU 2019-11, “Codification Improvements to Topic 326, Financial Instruments—Credit Losses,” ASU 2020-02, “Financial Instruments-Credit Losses (Topic 326) and Leases (Topic 842)” and ASU 2020-03, “Codification Improvements to Financial Instruments” (collectively, ASC 326). ASC 326 introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments. It also modifies the impairment model for available-for-sale debt securities and provides for a simplified accounting model for purchased financial assets with credit deterioration since their origination. The new standard will be effective for the Corporation beginning on January 1, 2023. Early adoption of the new standard is permitted.

The amendments of ASC 326, upon adoption, will be applied on a modified retrospective basis, with the cumulative effect of adopting the new standard being recorded as an adjustment to opening retained earnings in the period of adoption. The Corporation has established a working group to prepare for and implement changes related to ASC 326 and has gathered historical loan loss data for purposes of evaluating appropriate portfolio segmentation and modeling methods under the standard. The Corporation has performed procedures to validate the historical loan loss data to ensure its suitability and reliability for purposes of developing an estimate of expected credit losses under ASC 326. The Corporation has engaged a vendor to assist in modeling expected lifetime losses under ASC 326, and is continuing to develop and refine an approach to estimating the allowance for credit losses. The adoption of ASC 326 will result in significant changes to the Corporation’s consolidated financial statements, which may include changes in the level of the allowance for credit losses that will be considered adequate, a reduction in total equity and regulatory capital of C&F Bank, differences in the timing of recognizing changes to the allowance for credit losses and expanded disclosures about the allowance for credit losses. The Corporation has not yet determined an estimate of the effect of these changes. The adoption of the standard will also result in significant changes in the Corporation’s internal control over financial reporting related to the allowance for credit losses.

In August 2018, the FASB issued ASU 2018-14, “Compensation-Retirement Benefits-Defined Benefit Plans-General (Subtopic 715-20): Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans.” These amendments modify the disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. Certain disclosure requirements have been deleted while the following disclosure requirements have been added: the weighted-average interest crediting rates for cash balance plans and other plans with promised interest crediting rates and an explanation of the reasons for significant gains and losses related to changes in the benefit obligation for the period. The amendments also clarify the disclosure requirements regarding the projected benefit obligation (PBO) and fair value of plan assets for plans with PBOs in excess of plan assets and the accumulated benefit obligation (ABO) and fair value of plan assets for plans with ABOs in excess of plan assets. The amendments are effective for fiscal years ending after December 15, 2020. Early adoption is permitted. The Corporation does not expect the adoption of ASU 2018-14 to have a material effect on its consolidated financial statements.

Other accounting standards that have been issued by the FASB or other standards-setting bodies are not currently expected to have a material effect on the Corporation’s financial position, results of operations or cash flows.

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NOTE 2: Business Combination

On January 1, 2020, the Corporation completed its acquisition of Peoples. Peoples shareholders received 0.5366 shares of the Corporation’s common stock and $27.00 in cash for each share of Peoples common stock, with cash paid in lieu of any fractional shares of the Corporation’s common stock. In connection with the transaction, the Corporation paid aggregate cash consideration of $10.58 million and issued 209,871 shares of its common stock to the shareholders of Peoples.

The Corporation accounted for the acquisition using the acquisition method of accounting in accordance with ASC 805, Business Combinations. Under the acquisition method of accounting, the assets acquired and liabilities assumed in the acquisition and the common stock of the Corporation issued as consideration were recorded at their respective acquisition date fair values. Determining the fair value of assets and liabilities, particularly related to the loan portfolio, is inherently subjective and involves significant judgment regarding the methods and assumptions used to estimate fair value. During the measurement period, the acquirer shall adjust the amounts recognized at the acquisition date and may recognize additional assets or liabilities to reflect new information obtained from facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date. Measurement period adjustments are recognized in the reporting period in which they are determined. The measurement period may not exceed one year from the acquisition date.

The following table presents as of January 1, 2020 the total consideration paid by the Corporation in connection with the acquisition of Peoples, the fair values of the assets acquired and liabilities assumed, and the resulting goodwill.





(Dollars in thousands)
Purchase price:
Cash paid	$	10,579
Common stock issued		11,612
Total purchase price	$	22,191

Identifiable assets acquired:
Cash and cash equivalents	$	29,680
Securities available for sale		17,169
Loans		124,290
Accrued interest receivable		430
Corporate premises and equipment		3,105
Other real estate owned		281
Core deposit intangible asset		1,711
Bank-owned life insurance		3,591
Investment in small business investment company		1,493
Other receivables		5,234
Other assets		3,637
Total identifiable assets acquired		190,621

Identifiable liabilities assumed:
Demand and savings deposits		94,798
Time deposits		77,018
Borrowings		4,245
Accrued interest payable		260
Salaries, benefits and deferred compensation		2,054
Other liabilities		747
Total identifiable liabilities assumed		179,122

Net identifiable assets assumed	$	11,499

Goodwill resulting from acquisition	$	10,692

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In connection with the acquisition, the Corporation recorded approximately $10.69 million of goodwill and $1.71 million of other intangible assets related to the core deposits of Peoples. The goodwill arising from the acquisition of Peoples is not deductible for income taxes. The core deposit intangible asset (CDI) will be amortized over a period of 15 years using a declining balance method.

Loans acquired from Peoples had aggregate outstanding principal of $131.92 million and an estimated fair value of $124.29 million. The discount between the outstanding principal balance and fair value represents expected credit losses and adjustments for market interest rates. Under the acquisition method, the allowance for loan losses recorded in the books of Peoples in the amount of $2.87 million was not carried over into the books of the Corporation. Loans that have evidence of deterioration in credit quality since origination are categorized as purchased credit impaired (PCI). PCI loans acquired from Peoples included medical student loans with an outstanding principal balance of $4.28 million and a fair value of $635,000 at January 1, 2020, which were purchased by Peoples and the performance of which was previously backed by surety bonds. The surety bonds were terminated in 2018 when the issuer of the bond was placed into liquidation by its insurance regulator, and replacement surety bond coverage has not been obtained.

Information about PCI loans acquired from Peoples as of January 1, 2020 is as follows:


(Dollars in thousands)	January 1, 2020
Contractual principal and interest due	$	20,239
Nonaccretable difference		(7,679)
Expected cash flows		12,560
Accretable yield		(3,366)
Purchase credit impaired loans - estimated fair value	$	9,194

Fair values of the major categories of assets acquired and liabilities assumed were determined as follows:

Loans: The acquired loans were recorded at fair value at the acquisition date without carryover of People's allowance for loan losses. The fair value of the loans was determined using market participant assumptions in estimating the amount and timing of both principal and interest cash flows expected to be collected on the loans and then discounting those cash flows based on a discount rate that would be required by a market participant. In this regard, the acquired loans were segregated into pools based on loan type and credit risk. Loan type was determined based on collateral type, loan purpose and loan structure. Credit risk characteristics included risk rating groups (pass rated loans and adversely classified loans), updated loan-to-value ratios and lien position, and past loan performance. For valuation purposes, these pools were further disaggregated by maturity and pricing characteristics (e.g., fixed-rate, adjustable-rate, balloon maturities).

Core Deposit Intangible: The fair value of the CDI was determined based on a discounted cash flow analysis using a discount rate based on the estimated cost of equity capital for a market participant. To calculate cash flows, deposit account servicing costs (net of deposit fee income) and interest expense on deposits were compared to the cost of alternative funding sources available through the FHLB. The life of the deposit base and projected deposit attrition rates were determined using Peoples’ historical deposit data. The CDI was estimated at $1.71 million or 1.8% of non-maturity deposits.

Deposits: The fair value adjustment of deposits represents a premium over the value of the contractual repayments of fixed-maturity deposits using prevailing market interest rates for similar term certificates of deposit. The resulting estimated fair value adjustment of certificates of deposit ranging in maturity from three months to five years is a $557,000 premium and is being amortized into income over a period of two years.

The following table presents certain unaudited pro forma information as if the acquisition had taken place on January 1, 2019. These results combine the historical results of Peoples and the Corporation for the period prior to the merger. While certain adjustments were made for estimated effects resulting from the application of the acquisition method, including certain fair value adjustments, this pro forma information is not indicative of what would have occurred had the acquisition actually taken place on January 1, 2019. Pro forma adjustments for the three months ended March 31, 2019 include the net impact of accretion of loan discounts related to market interest rates, amortization of premiums on deposits and borrowings, amortization of intangible assets and related income taxes. Additionally, the Corporation expects to achieve further

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operational cost savings and other efficiencies as a result of the acquisition which are not reflected in the unaudited pro forma amounts below.


	Unaudited Pro Forma
	Three Months Ended
(Dollars in thousands, except per share amounts)	March 31, 2019
Total revenues (net interest income plus nonintererest income)	$	28,655
Net income	$	4,289
Net income per share, basic and diluted	$	1.16

The revenue and earnings amounts specific to Peoples since the acquisition date that are included in the consolidated results for 2020 are not readily determinable. The disclosures of these amounts are impracticable due to the merging of certain processes and systems at the acquisition date.

Merger related expenses associated with the acquisition of Peoples were $957,000 ($785,000 after income taxes) for the three months ended March 31, 2020 and $1.67 million ($1.44 million after income taxes) in the aggregate through March 31, 2020. There were no merger related expenses during the three months ended March 31, 2019. These costs included the integration of systems and operations and legal and consulting expenses, which have been expensed as incurred. Additional merger related expenses are expected to be incurred during 2020 in connection with the systems conversion and ongoing integration.

NOTE 3: Securities

The Corporation’s debt securities, all of which are classified as available for sale, are summarized as follows:


	March 31, 2020
			Gross		Gross
	Amortized		Unrealized		Unrealized
(Dollars in thousands)	Cost		Gains		Losses		Fair Value
U.S. government agencies and corporations	$	31,985	$	57	$	—	$	32,042
Mortgage-backed securities		101,424		2,941		—		104,365
Obligations of states and political subdivisions		96,836		1,225		(44)		98,017
	$	230,245	$	4,223	$	(44)	$	234,424


	December 31, 2019
			Gross		Gross
	Amortized		Unrealized		Unrealized
(Dollars in thousands)	Cost		Gains		Losses		Fair Value
U.S. government agencies and corporations	$	21,454	$	3	$	(17)	$	21,440
Mortgage-backed securities		85,649		979		(43)		86,585
Obligations of states and political subdivisions		80,656		1,111		(59)		81,708
	$	187,759	$	2,093	$	(119)	$	189,733

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The amortized cost and estimated fair value of securities at March 31, 2020, by the earlier of contractual maturity or expected maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to prepay obligations with or without call or prepayment penalties.


	March 31, 2020
	Amortized
(Dollars in thousands)	Cost		Fair Value
Due in one year or less	$	50,438	$	50,564
Due after one year through five years		144,867		148,251
Due after five years through ten years		32,550		33,111
Due after ten years		2,390		2,498
	$	230,245	$	234,424

The following table presents the gross realized gains and losses on and the proceeds from the sales, maturities and calls of securities. During the three months ended March 31, 2020, $6.64 million in proceeds were related to sales of assets acquired in the acquisition of Peoples. There were no sales of securities during the three months ended March 31, 2019.


	Three Months Ended March 31,
(Dollars in thousands)	2020		2019
Realized gains from sales, maturities and calls of securities:
Gross realized gains	$	4	$	4
Gross realized losses		—		—
Net realized gains	$	4	$	4
Proceeds from sales, maturities, calls and paydowns of securities	$	39,063	$	15,657

The Corporation pledges securities primarily to secure public deposits and repurchase agreements. Securities with an aggregate amortized cost of $119.52 million and an aggregate fair value of $122.74 million were pledged at March 31, 2020. Securities with an aggregate amortized cost of $126.22 million and an aggregate fair value of $127.47 million were pledged at December 31, 2019.

Securities in an unrealized loss position at March 31, 2020, by duration of the period of the unrealized loss, are shown below.


	Less Than 12 Months				12 Months or More				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
(Dollars in thousands)	Value		Loss		Value		Loss		Value		Loss
U.S. government agencies and corporations	$	—	$	—	$	—	$	—	$	—	$	—
Mortgage-backed securities		—		—		—		—		—		—
Obligations of states and political subdivisions		9,612		39		604		5		10,216		44
Total temporarily impaired securities	$	9,612	$	39	$	604	$	5	$	10,216	$	44

There were 25 debt securities totaling $10.21 million of aggregate fair value considered temporarily impaired at March 31, 2020. The primary cause of the temporary impairments in the Corporation’s investments in debt securities was fluctuations in interest rates. The Corporation’s mortgage-backed securities are entirely issued by either U.S. government agencies or U.S. government-sponsored enterprises. Collectively, these entities provide a guarantee, which is either explicitly or implicitly supported by the full faith and credit of the U.S. government, that investors in such mortgage-backed securities will receive timely principal and interest payments. At March 31, 2020, all of the Corporation’s obligations of states and political subdivisions that were in a net unrealized loss position were rated “A” or better by Standard & Poor's or Moody's Investors Service. The Corporation considers these to meet regulatory credit quality standards, meaning that the securities have low risk of default by the obligor and the full and timely repayment of principal and interest is expected over the expected life of the investment. Because the Corporation intends to hold these investments in debt securities to maturity and it is more-likely-than-not that the Corporation will not be required to sell these

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investments before a recovery of unrealized losses, the Corporation does not consider these investments to be other-than-temporarily impaired at March 31, 2020 and no other-than-temporary impairment loss has been recognized in net income.

Securities in an unrealized loss position at December 31, 2019, by duration of the period of the unrealized loss, are shown below.


	Less Than 12 Months				12 Months or More				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
(Dollars in thousands)	Value		Loss		Value		Loss		Value		Loss
U.S. government agencies and corporations	$	6,256	$	11	$	4,094	$	6	$	10,350	$	17
Mortgage-backed securities		4,099		7		10,166		36		14,265		43
Obligations of states and political subdivisions		9,187		53		1,368		6		10,555		59
Total temporarily impaired securities	$	19,542	$	71	$	15,628	$	48	$	35,170	$	119

The Corporation’s investment in restricted stock totaled $3.21 million at March 31, 2020 and consisted of Federal Home Loan Bank (FHLB) stock. Restricted stock is generally viewed as a long-term investment, which is carried at cost because there is no market for the stock other than the FHLBs. Therefore, when evaluating restricted stock for impairment, its value is based on the ultimate recoverability of the par value rather than by recognizing any temporary decline in value. The Corporation did not consider its investment in restricted stock to be other-than-temporarily impaired at March 31, 2020 and no impairment has been recognized.

NOTE 4: Loans

Major classifications of loans are summarized as follows:


	March 31,		December 31,
(Dollars in thousands)	2020		2019
Real estate – residential mortgage	$	202,767	$	181,295
Real estate – construction 1		65,937		54,246
Commercial, financial and agricultural 2		588,585		500,812
Equity lines		56,306		52,083
Consumer		16,283		13,756
Consumer finance		307,591		312,999
		1,237,469		1,115,191
Less allowance for loan losses		(33,298)		(32,873)
Loans, net	$	1,204,171	$	1,082,318

Includes the Corporation’s real estate construction lending and consumer real estate lot lending.

Includes the Corporation’s commercial real estate lending, land acquisition and development lending, builder line lending and commercial business lending.

Consumer loans included $227,000 and $449,000 of demand deposit overdrafts at March 31, 2020 and December 31, 2019, respectively.

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Loans acquired in business combinations are recorded in the Consolidated Balance Sheets at fair value at the acquisition date under the acquisition method of accounting. The outstanding principal balance and the carrying amount at March 31, 2020 and December 31, 2019 of loans acquired in business combinations were as follows:


	March 31, 2020						December 31, 2019
	Acquired Loans -		Acquired Loans -				Acquired Loans -		Acquired Loans -
	Purchased		Purchased		Acquired Loans -		Purchased		Purchased		Acquired Loans -
(Dollars in thousands)	Credit Impaired		Performing		Total		Credit Impaired		Performing		Total
Outstanding principal balance	$	20,139	$	128,098	$	148,237	$	6,262	$	27,839	$	34,101
Carrying amount
Real estate – residential mortgage	$	3,195	$	25,269	$	28,464	$	107	$	7,035	$	7,142
Real estate – construction		103		7,139		7,242		—		—		—
Commercial, financial and agricultural1		5,234		78,272		83,506		563		11,338		11,901
Equity lines		50		12,379		12,429		35		8,046		8,081
Consumer		637		2,469		3,106		—		3		3
Total acquired loans	$	9,219	$	125,528	$	134,747	$	705	$	26,422	$	27,127

Includes acquired loans classified by the Corporation as commercial real estate lending and commercial business lending.

The following table presents a summary of the change in the accretable yield of loans classified as purchased credit impaired (PCI):


	Three Months Ended March 31,
(Dollars in thousands)	2020		2019
Accretable yield, balance at beginning of period	$	4,721	$	5,987
Acquisition of Peoples Bankshares, Incorporated		3,366		—
Accretion		(959)		(469)
Reclassification of nonaccretable difference due to improvement in expected cash flows		733		256
Other changes, net		57		162
Accretable yield, balance at end of period	$	7,918	$	5,936

Loans on nonaccrual status were as follows:


	March 31,		December 31,
(Dollars in thousands)	2020		2019
Real estate – residential mortgage	$	931	$	1,526
Commercial, financial and agricultural:
Commercial business lending		—		11
Equity lines		278		229
Consumer		699		118
Consumer finance		377		611
Total loans on nonaccrual status	$	2,285	$	2,495

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The past due status of loans as of March 31, 2020 was as follows:


															90+ Days
	30 - 59 Days		60 - 89 Days		90+ Days		Total								Past Due and
(Dollars in thousands)	Past Due		Past Due		Past Due		Past Due		PCI		Current1		Total Loans		Accruing
Real estate – residential mortgage	$	1,251	$	179	$	556	$	1,986	$	3,195	$	197,586	$	202,767	$	—
Real estate – construction:
Construction lending		—		—		—		—		103		50,644		50,747		—
Consumer lot lending		—		—		—		—		—		15,190		15,190		—
Commercial, financial and agricultural:
Commercial real estate lending		—		677		—		677		5,234		397,312		403,223		—
Land acquisition and development lending		—		—		—		—		—		40,189		40,189		—
Builder line lending		—		—		—		—		—		25,026		25,026		—
Commercial business lending		11		—		—		11		—		120,136		120,147		—
Equity lines		304		—		88		392		50		55,864		56,306		9
Consumer		5		—		—		5		637		15,641		16,283		—
Consumer finance		8,825		1,187		377		10,389		—		297,202		307,591		—
Total	$	10,396	$	2,043	$	1,021	$	13,460	$	9,219	$	1,214,790	$	1,237,469	$	9

For the purposes of the table above, “Current” includes loans that are 1-29 days past due.

The table above includes nonaccrual loans that are current of $556,000, 30-59 days past due of $114,000, 60-89 days past due of $20,000 and 90+ days past due of $1.01 million, as well as nonaccrual loans that are PCI of $538,000.

The past due status of loans as of December 31, 2019 was as follows:


															90+ Days
	30 - 59 Days		60 - 89 Days		90+ Days		Total								Past Due and
(Dollars in thousands)	Past Due		Past Due		Past Due		Past Due		PCI		Current1		Total Loans		Accruing
Real estate – residential mortgage	$	1,428	$	161	$	1,016	$	2,605	$	107	$	178,583	$	181,295	$	—
Real estate – construction:
Construction lending		—		—		—		—		—		40,943		40,943		—
Consumer lot lending		—		—		—		—		—		13,303		13,303		—
Commercial, financial and agricultural:
Commercial real estate lending		—		—		—		—		563		325,991		326,554		—
Land acquisition and development lending		—		—		—		—		—		42,891		42,891		—
Builder line lending		—		—		—		—		—		26,373		26,373		—
Commercial business lending		73		18		—		91		—		104,903		104,994		—
Equity lines		229		56		223		508		35		51,540		52,083		109
Consumer		20		10		—		30		—		13,726		13,756		—
Consumer finance		11,034		1,420		611		13,065		—		299,934		312,999		—
Total	$	12,784	$	1,665	$	1,850	$	16,299	$	705	$	1,098,187	$	1,115,191	$	109

For the purposes of the table above, “Current” includes loans that are 1-29 days past due.

The table above includes nonaccrual loans that are current of $547,000, 30-59 days past due of $197,000, 60‑89 days past due of $10,000 and 90+ days past due of $1.74 million.

There was one loan modification during the three months ended March 31, 2020 that was classified as a troubled debt restructuring (TDR). This TDR was an equity line with a recorded investment of $84,000 at the time of its modification and included modifications of the loan’s payment structure. There were no loan modifications that were classified as TDRs during the three months ended March 31, 2019.

All TDRs are considered impaired loans and are individually evaluated in the determination of the allowance for loan losses. A TDR payment default occurs when, within 12 months of the original TDR modification, either a full or partial charge-off occurs or a TDR becomes 90 days or more past due. The specific reserve associated with a TDR is reevaluated when a TDR payment default occurs. There were no TDR payment defaults during the three months ended March 31, 2020 and 2019.

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In response to the effects of the COVID-19 pandemic, including economic disruption and adverse impacts to commercial and consumer borrowers, the Bank has accommodated certain borrowers by granting short-term payment deferrals or periods of interest-only payments, including, as of April 30, 2020, over 130 loans with outstanding principal of approximately $70 million. Generally, a short-term payment deferral does not result in a loan modification being classified as a TDR. Management cannot predict the overall impact of the COVID-19 pandemic on its loan portfolio or the extent of payment deferrals or other modifications that may be granted.

Impaired loans, which included TDRs of $4.17 million, and the related allowance at March 31, 2020 were as follows:



			Recorded		Recorded
			Investment		Investment				Average
	Unpaid		in Loans		in Loans				Balance-		Interest
	Principal		without		with		Related		Impaired		Income
(Dollars in thousands)	Balance		Specific Reserve		Specific Reserve		Allowance		Loans		Recognized
Real estate – residential mortgage	$	3,357	$	1,313	$	1,820	$	47	$	3,295	$	31
Commercial, financial and agricultural:
Commercial real estate lending		1,403		—		1,403		76		1,417		18
Equity lines		121		114		—		—		121		—
Consumer		130		—		119		108		119		—
Total	$	5,011	$	1,427	$	3,342	$	231	$	4,952	$	49

Impaired loans, which included TDRs of $4.35 million, and the related allowance at December 31, 2019 were as follows:



			Recorded		Recorded
			Investment		Investment				Average
	Unpaid		in Loans		in Loans				Balance-		Interest
	Principal		without		with		Related		Impaired		Income
(Dollars in thousands)	Balance		Specific Reserve		Specific Reserve		Allowance		Loans		Recognized
Real estate – residential mortgage	$	3,891	$	2,192	$	1,479	$	72	$	3,506	$	155
Commercial, financial and agricultural:
Commercial real estate lending		1,459		4		1,447		77		1,581		82
Equity lines		31		31		—		—		32		2
Consumer		130		—		121		118		123		—
Total	$	5,511	$	2,227	$	3,047	$	267	$	5,242	$	239

NOTE 5: Allowance for Loan Losses

The following table presents the changes in the allowance for loan losses by major classification during the three months ended March 31, 2020:


	Real Estate				Commercial,
	Residential		Real Estate		Financial &		Equity				Consumer
(Dollars in thousands)	Mortgage		Construction		Agricultural		Lines		Consumer		Finance		Total
Allowance for loan losses:
Balance at December 31, 2019	$	2,080	$	681	$	7,121	$	733	$	465	$	21,793	$	32,873
Provision (credited) charged to operations		60		90		831		37		(18)		1,650		2,650
Loans charged off		(4)		—		(18)		—		(93)		(3,426)		(3,541)
Recoveries of loans previously charged off		4		—		1		—		62		1,249		1,316
Balance at March 31, 2020	$	2,140	$	771	$	7,935	$	770	$	416	$	21,266	$	33,298

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The following table presents the changes in the allowance for loan losses by major classification during the three months ended March 31, 2019:


	Real Estate				Commercial,
	Residential		Real Estate		Financial &		Equity				Consumer
(Dollars in thousands)	Mortgage		Construction		Agricultural		Lines		Consumer		Finance		Total
Allowance for loan losses:
Balance at December 31, 2018	$	2,246	$	727	$	6,688	$	1,106	$	257	$	22,999	$	34,023
Provision (credited) charged to operations		(47)		114		(25)		(205)		163		2,395		2,395
Loans charged off		—		—		—		—		(76)		(3,890)		(3,966)
Recoveries of loans previously charged off		5		—		1		—		42		1,089		1,137
Balance at March 31, 2019	$	2,204	$	841	$	6,664	$	901	$	386	$	22,593	$	33,589

The following table presents, as of March 31, 2020, the balance of the allowance for loan losses and the balance of loans by impairment methodology.


	Real Estate				Commercial,
	Residential		Real Estate		Financial &		Equity				Consumer
(Dollars in thousands)	Mortgage		Construction		Agricultural		Lines		Consumer		Finance		Total
Allowance balance attributable to loans:
Individually evaluated for impairment	$	47	$	—	$	76	$	—	$	108	$	—	$	231
Collectively evaluated for impairment		2,093		771		7,859		770		308		21,266		33,067
Acquired loans - PCI		—		—		—		—		—		—		—
Total allowance	$	2,140	$	771	$	7,935	$	770	$	416	$	21,266	$	33,298
Loans:
Individually evaluated for impairment	$	3,133	$	—	$	1,403	$	114	$	119	$	—	$	4,769
Collectively evaluated for impairment		196,439		65,834		581,948		56,142		15,527		307,591		1,223,481
Acquired loans - PCI		3,195		103		5,234		50		637		—		9,219
Total loans	$	202,767	$	65,937	$	588,585	$	56,306	$	16,283	$	307,591	$	1,237,469

The following table presents, as of December 31, 2019, the balance of the allowance for loan losses, the allowance by impairment methodology, total loans and loans by impairment methodology.


	Real Estate				Commercial,
	Residential		Real Estate		Financial &		Equity				Consumer
(Dollars in thousands)	Mortgage		Construction		Agricultural		Lines		Consumer		Finance		Total
Allowance balance attributable to loans:
Individually evaluated for impairment	$	72	$	—	$	77	$	—	$	118	$	—	$	267
Collectively evaluated for impairment		2,008		681		7,044		733		347		21,793		32,606
Acquired loans - PCI		—		—		—		—		—		—		—
Total allowance	$	2,080	$	681	$	7,121	$	733	$	465	$	21,793	$	32,873
Loans:
Individually evaluated for impairment	$	3,671	$	—	$	1,451	$	31	$	121	$	—	$	5,274
Collectively evaluated for impairment		177,517		54,246		498,798		52,017		13,635		312,999		1,109,212
Acquired loans - PCI		107		—		563		35		—		—		705
Total loans	$	181,295	$	54,246	$	500,812	$	52,083	$	13,756	$	312,999	$	1,115,191

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Loans by credit quality indicators as of March 31, 2020 were as follows:


			Special				Substandard
(Dollars in thousands)	Pass		Mention		Substandard		Nonaccrual		Total1
Real estate – residential mortgage	$	199,087	$	1,396	$	1,353	$	931	$	202,767
Real estate – construction:
Construction lending		50,747		—		—		—		50,747
Consumer lot lending		15,190		—		—		—		15,190
Commercial, financial and agricultural:
Commercial real estate lending		374,717		25,886		2,620		—		403,223
Land acquisition and development lending		31,778		8,411		—		—		40,189
Builder line lending		24,749		277		—		—		25,026
Commercial business lending		116,594		3,553		—		—		120,147
Equity lines		55,907		97		24		278		56,306
Consumer		14,947		54		583		699		16,283
	$	883,716	$	39,674	$	4,580	$	1,908	$	929,878

At March 31, 2020, the Corporation did not have any loans classified as Doubtful or Loss.

Included in the table above are loans purchased in connection with the acquisition of Peoples of $104.70 million pass rated, $1.33 million special mention, $3.11 million substandard and $583,000 substandard nonaccrual.


			Non-
(Dollars in thousands)	Performing		Performing		Total
Consumer finance	$	307,214	$	377	$	307,591

Loans by credit quality indicators as of December 31, 2019 were as follows:


			Special				Substandard
(Dollars in thousands)	Pass		Mention		Substandard		Nonaccrual		Total1
Real estate – residential mortgage	$	177,049	$	1,839	$	881	$	1,526	$	181,295
Real estate – construction:
Construction lending		40,943		—		—		—		40,943
Consumer lot lending		13,303		—		—		—		13,303
Commercial, financial and agricultural:
Commercial real estate lending		323,218		3,266		70		—		326,554
Land acquisition and development lending		33,870		9,021		—		—		42,891
Builder line lending		25,995		378		—		—		26,373
Commercial business lending		104,291		692		—		11		104,994
Equity lines		51,662		181		11		229		52,083
Consumer		13,632		6		—		118		13,756
	$	783,963	$	15,383	$	962	$	1,884	$	802,192

At December 31, 2019, the Corporation did not have any loans classified as Doubtful or Loss.


			Non-
(Dollars in thousands)	Performing		Performing		Total
Consumer finance	$	312,388	$	611	$	312,999

NOTE 6: Goodwill and Other Intangible Assets

The carrying amount of goodwill was $25.12 million and $14.43 million at March 31, 2020 and December 31, 2019, respectively. The following table presents the changes in goodwill during the three months ended March 31, 2020. There were no changes in the recorded balance of goodwill during the three months ended March 31, 2019.

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	Retail		Consumer
(Dollars in thousands)	Banking		Finance		Total
Balance as of January 1, 2020	$	3,702	$	10,723	$	14,425
Acquisition of Peoples Bankshares, Incorporated		10,692		—		10,692
Balance at March 31, 2020	$	14,394	$	10,723	$	25,117

The Corporation had $2.54 million and $912,000 of other intangible assets as of March 31, 2020 and December 31, 2019, respectively. Other intangible assets were recognized in connection with the core deposits acquired from Peoples in 2020 and customer relationships acquired by C&F Wealth Management in 2016.

The following table summarizes the gross carrying amounts and accumulated amortization of other intangible assets:


		March 31,				December 31,
		2020				2019
		Gross				Gross
		Carrying	Accumulated			Carrying	Accumulated
(Dollars in thousands)		Amount	Amortization			Amount	Amortization
Amortized intangible assets:
Core deposit intangibles	$	1,711	$	(43)	$	—	$	—
Other intangibles		1,405		(533)		1,405		(493)
Total	$	3,116	$	(576)	$	1,405	$	(493)

Amortization expense was $83,000 and $78,000 for the three months ended March 31, 2020 and 2019, respectively.

NOTE 7: Equity, Other Comprehensive Income and Earnings Per Share

Equity and Noncontrolling Interest

During the three months ended March 31, 2020 and 2019, the Corporation repurchased 8,963 shares and 32,407 shares of its common stock, respectively, for an aggregate cost of $355,000 and $1.67 million, respectively, under share repurchase programs authorized by its Board of Directors. Additionally during the three months ended March 31, 2020 and 2019, the Corporation withheld 5,069 shares and 4,641 shares of its common stock, respectively, from employees to satisfy tax withholding obligations upon vesting of restricted stock.

During the three months ended March 31, 2019, C&F Select LLC, a subsidiary of C&F Mortgage, issued a 49 percent ownership interest to an unrelated investor. In exchange for this noncontrolling interest in C&F Select LLC, C&F Bank received a note receivable from the investor for $490,000, which is included in loans in the Consolidated Balance Sheets and is secured by cash deposits at C&F Bank.

Accumulated Other Comprehensive Loss, Net

The following table presents the cumulative balances of the components of accumulated other comprehensive loss, net of deferred taxes of $644,000 and $604,000 as of March 31, 2020 and December 31, 2019, respectively.


	March 31,		December 31,
(Dollars in thousands)	2020		2019
Net unrealized gains on securities	$	3,302	$	1,560
Net unrecognized losses on cash flow hedges		(1,537)		(69)
Net unrecognized losses on defined benefit plan		(3,720)		(3,740)
Total accumulated other comprehensive loss, net	$	(1,955)	$	(2,249)

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Earnings Per Share (EPS)

The components of the Corporation’s EPS calculations are as follows:


	Three Months Ended March 31,
(Dollars in thousands)	2020		2019
Net income attributable to C&F Financial Corporation	$	3,578	$	3,771
Weighted average shares outstanding—basic and diluted		3,644,614		3,484,592

The Corporation has applied the two-class method of computing basic and diluted EPS for each period presented because the Corporation’s unvested restricted shares outstanding contain rights to nonforfeitable dividends equal to dividends on the Corporation’s common stock. Accordingly, the weighted average number of shares used in the calculation of basic and diluted EPS includes both vested and unvested shares outstanding.

NOTE 8: Employee Benefit Plans

The following table summarizes the components of net periodic benefit cost for the Bank’s non-contributory cash balance pension plan.


	Three Months Ended March 31,
(Dollars in thousands)	2020		2019
Components of net periodic benefit cost:
Service cost, included in salaries and employee benefits	$	386	$	293

Other components of net periodic benefit cost:
Interest cost		135		153
Expected return on plan assets		(374)		(330)
Amortization of prior service credit		(17)		(17)
Amortization of net obligation at transition		—		—
Recognized net actuarial losses		42		42
Other components of net periodic benefit cost, included in other noninterest income		(214)		(152)

Net periodic benefit cost	$	172	$	141

NOTE 9: Fair Value of Assets and Liabilities

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. U.S. GAAP requires that valuation techniques maximize the use of observable inputs and minimize the use of unobservable inputs. U.S. GAAP also establishes a fair value hierarchy which prioritizes the valuation inputs into three broad levels. Based on the underlying inputs, each fair value measurement in its entirety is reported in one of the three levels. These levels are:

Level 1—Valuation is based upon quoted prices for identical instruments traded in active markets. Level 1 assets and liabilities include debt securities traded in an active exchange market, as well as U.S. Treasury securities.

Level 2—Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

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Level 3—Valuation is determined using model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect the Corporation’s estimates of assumptions that market participants would use in pricing the respective asset or liability. Valuation techniques may include the use of pricing models, discounted cash flow models and similar techniques.

U.S. GAAP allows an entity the irrevocable option to elect fair value (the fair value option) for the initial and subsequent measurement for certain financial assets and liabilities on a contract-by-contract basis. The Corporation has elected to use fair value accounting for its entire portfolio of loans held for sale (LHFS).

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following describes the valuation techniques and inputs used by the Corporation in determining the fair value of certain assets recorded at fair value on a recurring basis in the financial statements.

Securities available for sale. The Corporation primarily values its investment portfolio using Level 2 fair value measurements, but may also use Level 1 or Level 3 measurements if required by the composition of the portfolio. At March 31, 2020 and December 31, 2019, the Corporation’s entire investment securities portfolio was comprised of securities available for sale, which were valued using Level 2 fair value measurements. The Corporation has contracted with third party portfolio accounting service vendors for valuation of its securities portfolio. The vendors’ sources for security valuation are ICE Data Services (ICE) and Thomson Reuters Pricing Service (TRPS). Each source provides opinions, known as evaluated prices, as to the value of individual securities based on model-based pricing techniques that are partially based on available market data, including prices for similar instruments in active markets and prices for identical assets in markets that are not active. ICE provides evaluated prices for the Corporation’s obligations of states and political subdivisions category of securities. ICE uses proprietary pricing models and pricing systems, mathematical tools and judgment to determine an evaluated price for a security based upon a hierarchy of market information regarding that security or securities with similar characteristics. TRPS provides evaluated prices for the Corporation’s U.S. government agencies and corporations and mortgage-backed categories of securities. Fixed-rate callable securities of the U.S. government agencies and corporations category are individually evaluated on an option adjusted spread basis for callable issues or on a nominal spread basis incorporating the term structure of agency market spreads and the appropriate risk free benchmark curve for non-callable issues. Pass-through mortgage-backed securities (MBS) in the mortgage-backed category are grouped into aggregate categories defined by issuer program, weighted average coupon, and weighted average maturity. Each aggregate is benchmarked to relative to-be-announced mortgage-backed securities (TBA securities) or other benchmark prices. TBA securities prices are obtained from market makers and live trading systems. Collateralized mortgage obligations in the mortgage-backed category are individually evaluated based upon a hierarchy of security specific information and market data regarding that security or securities with similar characteristics. Each evaluation is determined using an option adjusted spread and prepayment model based on volatility-driven, multi-dimensional spread tables. Fixed-rate securities issued by the Small Business Association in the mortgage backed category are individually evaluated based upon a hierarchy of security specific information and market data regarding that security or securities with similar characteristics.

Investments in small business investment companies. The Corporation holds an investment in a small business investment company, which is recorded at fair value and included in other assets in the Consolidated Balance Sheets. Changes in fair value are recognized in net income. At March 31, 2020, the fair value of the Corporation’s investment in small business investment companies, based on net asset value, was $1.56 million. Investments in small business investment companies measured at net asset value are not presented in the tables below related to fair value measurements. There were no unrealized gains or losses on investments in small business investment companies recorded during the quarter ended March 31, 2020.

Loans held for sale. Fair value of the Corporation’s LHFS is based on observable market prices for similar instruments traded in the secondary mortgage loan markets in which the Corporation conducts business. The Corporation’s portfolio of LHFS is classified as Level 2.

Derivative asset - IRLCs. The Corporation recognizes IRLCs at fair value. Fair value of IRLCs is based on either (i) the price of the underlying loans obtained from an investor for loans that will be delivered on a best efforts basis or (ii) the

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observable price for individual loans traded in the secondary market for loans that will be delivered on a mandatory basis. All of the Corporation’s IRLCs are classified as Level 2.

Derivative asset/liability – interest rate swaps on loans. The Corporation recognizes interest rate swaps at fair value. The Corporation has contracted with a third party vendor to provide valuations for these interest rate swaps using standard valuation techniques. All of the Corporation’s interest rate swaps on loans are classified as Level 2.

Derivative asset/liability – cash flow hedges. The Corporation recognizes cash flow hedges at fair value. The fair value of the Corporation’s cash flow hedges is determined using the discounted cash flow method. All of the Corporation’s cash flow hedges are classified as Level 2.

Derivative asset/liability – forward sales of TBA securities. The Corporation recognizes forward sales of TBA securities at fair value. The fair value of forward sales of TBA securities is based on prices obtained from market makers and live trading systems for TBA securities of similar issuer programs, coupons and maturities. All of the Corporation’s forward sales of TBA securities are classified as Level 2.

The following table presents the balances of financial assets and liabilities measured at fair value on a recurring basis.


	March 31, 2020
	Fair Value Measurements Using						Assets/Liabilities at
(Dollars in thousands)	Level 1		Level 2		Level 3		Fair Value
Assets:
Securities available for sale
U.S. government agencies and corporations	$	—	$	32,042	$	—	$	32,042
Mortgage-backed securities		—		104,365		—		104,365
Obligations of states and political subdivisions		—		98,017		—		98,017
Total securities available for sale		—		234,424		—		234,424
Loans held for sale		—		125,667		—		125,667
Derivatives
IRLC		—		3,208		—		3,208
Interest rate swaps on loans		—		8,842		—		8,842
Total assets	$	—	$	372,141	$	—	$	372,141

Liabilities:
Derivatives
Interest rate swaps on loans	$	—	$	8,842	$	—	$	8,842
Cash flow hedges		—		2,119		—		2,119
Forward sales of TBA securities		—		374		—		374
Total liabilities	$	—	$	11,335	$	—	$	11,335

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	December 31, 2019
	Fair Value Measurements Using						Assets/Liabilities at
(Dollars in thousands)	Level 1		Level 2		Level 3		Fair Value
Assets:
Securities available for sale
U.S. government agencies and corporations	$	—	$	21,440	$	—	$	21,440
Mortgage-backed securities		—		86,585		—		86,585
Obligations of states and political subdivisions		—		81,708		—		81,708
Total securities available for sale		—		189,733		—		189,733
Loans held for sale		—		90,500		—		90,500
Derivatives
IRLC		—		1,083		—		1,083
Interest rate swaps on loans		—		2,462		—		2,462
Total assets	$	—	$	283,778	$	—	$	283,778

Liabilities:
Derivatives
Interest rate swaps on loans	$	—	$	2,462	$	—	$	2,462
Cash flow hedges		—		145		—		145
Forward sales of TBA securities		—		25		—		25
Total liabilities	$	—	$	2,632	$	—	$	2,632

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

The Corporation may be required, from time to time, to measure and recognize certain assets at fair value on a nonrecurring basis in accordance with U.S. GAAP. The following describes the valuation techniques and inputs used by the Corporation in determining the fair value of certain assets recorded at fair value on a nonrecurring basis in the financial statements.

Impaired loans. The Corporation does not record loans held for investment at fair value on a recurring basis. However, there are instances when a loan is considered impaired and an allowance for loan losses is established. The Corporation measures impairment either based on the fair value of the loan using the loan’s obtainable market price or the fair value of the collateral if the loan is collateral dependent, or using the present value of expected future cash flows discounted at the loan’s effective interest rate, which is not a fair value measurement. The Corporation maintains a valuation allowance to the extent that this measure of the impaired loan is less than the recorded investment in the loan. When an impaired loan is measured at fair value based solely on observable market prices or a current appraisal without further adjustment for unobservable inputs, the Corporation records the impaired loan as a nonrecurring fair value measurement classified as Level 2. However, if based on management’s review, additional discounts to observed market prices or appraisals are required or if observable inputs are not available, the Corporation records the impaired loan as a nonrecurring fair value measurement classified as Level 3.

Impaired loans that are measured based on expected future cash flows discounted at the loan’s effective interest rate rather than the market rate of interest, are not recorded at fair value and are therefore excluded from fair value disclosure requirements.

OREO. Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less estimated costs to sell at the date of foreclosure. Initial fair value is based upon appraisals the Corporation obtains from independent licensed appraisers. Subsequent to foreclosure, management periodically performs valuations of the foreclosed assets based on updated appraisals, general market conditions, recent sales of similar properties, length of time the properties have been held, and our ability and intent with regard to continued ownership of the properties. The Corporation may incur additional write-downs of foreclosed assets to fair value less estimated costs to sell if valuations

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indicate a further deterioration in market conditions. As such, the Corporation records OREO as a nonrecurring fair value measurement classified as Level 3.

The following table presents the balances of assets measured at fair value on a nonrecurring basis. At March 31, 2020 there were no impaired loans that were measured at fair value.


	March 31, 2020
	Fair Value Measurements Using						Assets at Fair
(Dollars in thousands)	Level 1		Level 2		Level 3		Value
Other real estate owned, net	$	—	$	—	$	268	$	268
Total	$	—	$	—	$	268	$	268


	December 31, 2019
	Fair Value Measurements Using						Assets at Fair
(Dollars in thousands)	Level 1		Level 2		Level 3		Value
Impaired loans, net	$	—	$	—	$	102	$	102
Other real estate owned, net		—		—		268		268
Total	$	—	$	—	$	370	$	370

The following table presents quantitative information about Level 3 fair value measurements for financial assets measured at fair value on a nonrecurring basis:


	Fair Value Measurements at March 31, 2020
(Dollars in thousands)	Fair Value		Valuation Technique(s)	Unobservable Inputs	Range (Weighted Average)1
Other real estate owned, net	$	268	Appraisals	Discount to reflect current market conditions and estimated selling costs	33%-75% (45%)
Total	$	268

The weighted average of unobservable inputs is calculated based on the relative asset fair values.

Fair Value of Financial Instruments

FASB ASC 825, Financial Instruments, requires disclosure about fair value of financial instruments, including those financial assets and financial liabilities that are not required to be measured and reported at fair value on a recurring or nonrecurring basis. ASC 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Corporation. The Corporation uses the exit price notion in calculating the fair values of financial instruments not measured at fair value on a recurring basis.

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The following tables reflect the carrying amounts and estimated fair values of the Corporation’s financial instruments whether or not recognized on the Consolidated Balance Sheets at fair value.


	Carrying		Fair Value Measurements at March 31, 2020 Using						Total Fair
(Dollars in thousands)	Value		Level 1		Level 2		Level 3		Value
Financial assets:
Cash and short-term investments	$	148,009	$	148,009	$	—	$	—	$	148,009
Securities available for sale		234,424		—		234,424		—		234,424
Loans, net		1,204,171		—		—		1,199,524		1,199,524
Loans held for sale		125,667		—		125,667		—		125,667
Derivatives
IRLC		3,208		—		3,208		—		3,208
Interest rate swaps on loans		8,842		—		8,842		—		8,842
Bank-owned life insurance		19,749		—		19,749		—		19,749
Accrued interest receivable		7,253		7,253		—		—		7,253
Financial liabilities:
Demand deposits		976,624		976,624		—		—		976,624
Time deposits		507,750		—		514,744		—		514,744
Borrowings		159,934		—		162,855		—		162,855
Derivatives
Cash flow hedges		2,119		—		2,119		—		2,119
Interest rate swaps on loans		8,842		—		8,842		—		8,842
Forward sales of TBA securities		374		—		374		—		374
Accrued interest payable		1,508		1,508		—		—		1,508


	Carrying		Fair Value Measurements at December 31, 2019 Using						Total Fair
(Dollars in thousands)	Value		Level 1		Level 2		Level 3		Value
Financial assets:
Cash and short-term investments	$	165,433	$	165,433	$	—	$	—	$	165,433
Securities available for sale		189,733		—		189,733		—		189,733
Loans, net		1,082,318		—		—		1,082,783		1,082,783
Loans held for sale		90,500		—		90,500		—		90,500
Derivatives
IRLC		1,083		—		1,083		—		1,083
Interest rate swaps on loans		2,462		—		2,462		—		2,462
Bank-owned life insurance		16,044		—		16,044		—		16,044
Accrued interest receivable		6,776		6,776		—		—		6,776
Financial liabilities:
Demand deposits		869,194		869,194		—		—		869,194
Time deposits		422,056		—		423,605		—		423,605
Borrowings		161,170		—		154,964		—		154,964
Derivatives
Cash flow hedges		145		—		145		—		145
Interest rate swaps on loans		2,462		—		2,462		—		2,462
Forward sales of TBA securities		25		—		25				25
Accrued interest payable		1,291		1,291		—		—		1,291

NOTE 10: Business Segments

The Corporation operates in a decentralized fashion in three principal business segments: retail banking, mortgage banking and consumer finance. Revenues from retail banking operations consist primarily of interest earned on loans and investment securities and fees earned on deposit accounts and debit card interchange activity. Mortgage banking operating revenues consist principally of gains on sales of loans in the secondary market, mortgage banking fee income related to

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loan originations, and interest earned on mortgage loans held for sale. Revenues from consumer finance consist primarily of interest earned on purchased retail installment sales contracts.

C&F Wealth Management derives revenues from offering wealth management services and insurance products through third-party service providers. The Corporation’s revenues and expenses are comprised primarily of interest expense associated with the Corporation’s trust preferred capital notes, general corporate expenses, and changes in the value of the rabbi trust and deferred compensation liability related to its nonqualified deferred compensation plan. The results of C&F Wealth Management and the Corporation are not significant to the Corporation on a consolidated basis and are included in “Other.”


	Three Months Ended March 31, 2020
	Retail		Mortgage		Consumer
(Dollars in thousands)	Banking		Banking		Finance		Other		Eliminations		Consolidated
Revenues:
Interest income	$	15,915	$	661	$	10,101	$	—	$	(1,899)	$	24,778
Gains on sales of loans		—		3,676		—		—		—		3,676
Other noninterest income		2,962		1,611		117		663		—		5,353
Total operating income		18,877		5,948		10,218		663		(1,899)		33,807
Expenses:
Provision for loan losses		1,000		—		1,650		—		—		2,650
Interest expense		3,144		305		2,286		339		(1,899)		4,175
Salaries and employee benefits		8,060		1,845		2,243		(1,331)		—		10,817
Depreciation and amortization		807		72		46		43		—		968
Other noninterest expenses		5,329		1,651		1,341		2,260		—		10,581
Total operating expenses		18,340		3,873		7,566		1,311		(1,899)		29,191
Income (loss) before income taxes		537		2,075		2,652		(648)		—		4,616
Income tax expense (benefit)		(33)		532		722		(244)		—		977
Net income (loss)	$	570	$	1,543	$	1,930	$	(404)	$	—	$	3,639
Total assets	$	1,689,244	$	140,084	$	310,249	$	19,242	$	(281,527)	$	1,877,292
Capital expenditures	$	752	$	294	$	502	$	—	$	—	$	1,548


	Three Months Ended March 31, 2019
	Retail		Mortgage		Consumer
(Dollars in thousands)	Banking		Banking		Finance		Other		Eliminations		Consolidated
Revenues:
Interest income	$	14,324	$	350	$	10,145	$	2	$	(1,870)	$	22,951
Gains on sales of loans		—		2,136		—		—		—		2,136
Other noninterest income		2,438		838		129		1,562		—		4,967
Total operating income		16,762		3,324		10,274		1,564		(1,870)		30,054
Expenses:
Provision for loan losses		—		—		2,395		—		—		2,395
Interest expense		2,175		163		2,551		285		(1,870)		3,304
Salaries and employee benefits		6,978		1,147		2,185		1,597		—		11,907
Depreciation and amortization		835		62		52		45		—		994
Other noninterest expenses		4,068		1,182		1,323		203		—		6,776
Total operating expenses		14,056		2,554		8,506		2,130		(1,870)		25,376
Income (loss) before income taxes		2,706		770		1,768		(566)		—		4,678
Income tax expense (benefit)		416		203		483		(195)		—		907
Net income (loss)	$	2,290	$	567	$	1,285	$	(371)	$	—	$	3,771
Total assets	$	1,380,790	$	53,642	$	301,579	$	6,836	$	(193,487)	$	1,549,360
Capital expenditures	$	721	$	24	$	8	$	—	$	—	$	753

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During the three months ended March 31, 2020, the Corporation recorded merger related expenses of $957,000 ($785,000 after income taxes) in connection with its acquisition of Peoples, of which $857,000 ($685,000 after income taxes) was allocated to the retail banking segment and recorded as $69,000 of salaries and benefits expense and $788,000 of other noninterest expense. The remainder was recorded as other noninterest expense at the holding company.

The retail banking segment extends two warehouse lines of credit to the mortgage banking segment, providing a portion of the funds needed to originate mortgage loans. The retail banking segment charges the mortgage banking segment interest at the daily FHLB advance rate plus a spread ranging from 50 basis points to 175 basis points. The retail banking segment also provides the consumer finance segment with a portion of the funds needed to purchase loan contracts by means of variable rate notes that carry interest at one-month LIBOR plus 200 basis points, with a floor of 3.0 percent and fixed rate notes that carry interest at rates ranging from 2.0 percent to 8.0 percent. The retail banking segment acquires certain residential real estate loans from the mortgage banking segment at prices similar to those paid by third-party investors. These transactions are eliminated to reach consolidated totals. Certain corporate overhead costs incurred by the retail banking segment are not allocated to the mortgage banking, consumer finance and other segments.

NOTE 11: Commitments and Contingent Liabilities

The Corporation enters into commitments to extend credit in the normal course of business to meet the financing needs of its customers, including loan commitments and standby letters of credit. These instruments involve elements of credit and interest rate risk in excess of the amounts recorded on the Consolidated Balance Sheets. The Corporation’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit written 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. Collateral is obtained based on management’s credit assessment of the customer.

Loan commitments are agreements to extend credit to a customer provided that there are no violations of the terms of the contract prior to funding. Commitments have fixed expiration dates or other termination clauses and may require payment of a fee by the customer. Because many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer’s creditworthiness on a case-by-case basis. The amount of loan commitments at the Bank was $257.50 million at March 31, 2020 and $256.15 million at December 31, 2019, which does not include IRLCs at the mortgage banking segment, which are discussed in Note 12.

Standby letters of credit are written conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. The total contract amount of standby letters of credit, whose contract amounts represent credit risk, was $17.61 million at March 31, 2020 and $16.60 million at December 31, 2019.

The mortgage banking segment sells substantially all of the residential mortgage loans it originates to third-party investors. As is customary in the industry, the agreements with these investors require the mortgage banking segment to extend representations and warranties with respect to program compliance, borrower misrepresentation, fraud, and early payment performance. Under the agreements, the investors are entitled to make loss claims and repurchase requests of the mortgage banking segment for loans that contain covered deficiencies. The mortgage banking segment has obtained early payment default recourse waivers for a significant portion of its business. Recourse periods for early payment default for the remaining investors vary from 90 days up to one year. Recourse periods for borrower misrepresentation or fraud, or underwriting error do not have a stated time limit. The mortgage banking segment maintains an allowance for indemnifications that represents management’s estimate of losses that are probable of arising under these recourse provisions. As performance data for loans that have been sold is not made available to the mortgage banking segment by the investors, the evaluation of potential losses is inherently subjective. A schedule of expected losses on loans with claims or indemnifications is maintained to ensure the reserve is adequate to cover estimated losses. For the three months ended March 31, 2020, the Corporation recorded $7,000 of provision for indemnifications, compared to no provision for

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indemnifications for the three months ended March 31, 2019. The allowance for indemnifications was $2.48 million at both March 31, 2020 and December 31, 2019.

NOTE 12: Derivative Financial Instruments

The Corporation uses derivative financial instruments primarily to manage risks to the Corporation associated with changing interest rates, and to assist customers with their risk management objectives. The Corporation designates certain interest rate swaps as hedging instruments in qualifying cash flow hedges. The changes in fair value of these designated hedging instruments is reported as a component of other comprehensive income. Derivative contracts that are not designated in a qualifying hedging relationship include customer accommodation loan swaps and contracts related to mortgage banking activities.

Cash flow hedges. The Corporation designates interest rate swaps as cash flow hedges when they are used to manage exposure to variability in cash flows on variable rate borrowings such as the Corporation’s trust preferred capital notes. These interest rate swaps are derivative financial instruments that manage the risk of variability in cash flows by exchanging variable-rate interest payments on a notional amount of the Corporation’s borrowings for fixed-rate interest payments. Interest rate swaps designated as cash flow hedges are expected to be highly effective in offsetting the effect of changes in interest rates on the amount of variable-rate interest payments, and the Corporation assesses the effectiveness of each hedging relationship quarterly. If the Corporation determines that a cash flow hedge is no longer highly effective, future changes in the fair value of the hedging instrument would be reported in earnings. As of March 31, 2020, the Corporation has designated cash flow hedges to manage its exposure to variability in cash flows on certain variable rate borrowings for periods that end between June 2024 and June 2029.

All interest rate swaps were entered into with counterparties that met the Corporation’s credit standards and the agreements contain collateral provisions protecting the at-risk party. The Corporation believes that the credit risk inherent in these derivative contracts is not significant.

Unrealized gains or losses recorded in other comprehensive income related to cash flow hedges are reclassified into earnings in the same period(s) during which the hedged interest payments affect earnings. When a designated hedging instrument is terminated and the hedged interest payments remain probable of occurring, any remaining unrecognized gain or loss in other comprehensive income is reclassified into earnings in the period(s) during which the forecasted interest payments affect earnings. Amounts reclassified into earnings and interest receivable or payable under designated interest rate swaps are reported in interest expense. The Corporation does not expect any unrealized losses related to cash flow hedges to be reclassified into earnings in the next twelve months.

Loan swaps. The Bank also enters into interest rate swaps with certain qualifying commercial loan customers to meet their interest rate risk management needs. The Bank simultaneously enters into interest rate swaps with dealer counterparties, with identical notional amounts and offsetting terms. The net result of these interest rate swaps is that the customer pays a fixed rate of interest and the Corporation receives a floating rate. These back-to-back loan swaps are derivative financial instruments and are reported at fair value in “other assets” and “other liabilities” in the Consolidated Balance Sheets. Changes in the fair value of loan swaps are recorded in other noninterest expense and sum to zero because of the offsetting terms of swaps with borrowers and swaps with dealer counterparties.

Mortgage banking. The mortgage banking segment enters into IRLCs with customers to originate loans for which the interest rates are determined (or “locked”) prior to funding. The mortgage banking segment is exposed to interest rate risk through fixed-rate IRLCs and mortgage loans from the time that interest rates are locked until the loans are sold in the secondary market. The mortgage banking segment mitigates this interest rate risk by either (1) entering into forward sales contracts with investors at the time that interest rates are locked for mortgage loans to be delivered on a best efforts basis or (2) entering into forward sales contracts for TBA securities until it can enter into forward sales contracts with investors for mortgage loans to be delivered on a mandatory basis. IRLCs, forward sales of loans and forward sales of TBA securities are derivative financial instruments and are reported at fair value in other assets and other liabilities in the Consolidated Balance Sheets. Changes in the fair value of mortgage banking derivatives are recorded as a component of gains on sales of loans.

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At March 31, 2020, the mortgage banking segment had $231.96 million of IRLCs and $108.67 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using best-efforts forward sales contracts for $340.63 million in mortgage loans. Also at March 31, 2020, the mortgage banking segment had $13.25 million of IRLCs and $13.40 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using forward sales of $14.50 million of TBA securities and mandatory-delivery forward sales contracts for $9.08 million in mortgage loans.

At December 31, 2019, the mortgage banking segment had $63.35 million of IRLCs and $65.77 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using best-efforts forward sales contracts for $129.12 million in mortgage loans. Also at December 31, 2019, the mortgage banking segment had $11.72 million of IRLCs and $21.98 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using forward sales of $24.0 million of TBA securities and mandatory-delivery forward sales contracts for $6.73 million in mortgage loans.

The following tables summarize key elements of the Corporation’s derivative instruments other than forward sales of mortgage loans. The fair values of forward sales of mortgage loans were not material to the consolidated financial statements of the Corporation at March 31, 2020 or December 31, 2019.


	March 31, 2020
	Notional
(Dollars in thousands)	Amount		Assets		Liabilities
Cash flow hedges:
Interest rate swap contracts	$	25,000	$	—	$	2,119
Not designated as hedges:
Customer-related interest rate swap contracts:
Matched interest rate swaps with borrower		81,256		8,842		—
Matched interest rate swaps with counterparty		81,256		—		8,842
Mortgage banking contracts:
IRLCs		245,210		3,208		—
Forward sales of TBA securities		14,500		—		374


	December 31, 2019
	Notional
(Dollars in thousands)	Amount		Assets		Liabilities
Cash flow hedges:
Interest rate swap contracts	$	25,000	$	—	$	145
Not designated as hedges:
Customer-related interest rate swap contracts:
Matched interest rate swaps with borrower		74,266		2,454		8
Matched interest rate swaps with counterparty		74,266		8		2,454
Mortgage banking contracts:
IRLCs		75,073		1,083		—
Forward sales of TBA securities		24,000		—		25

The Corporation is required to maintain cash collateral with dealer counterparties for derivative instruments in a loss position, subject to certain thresholds and offsets. At March 31, 2020 and at December 31, 2019, $10.79 million and $2.52 million, respectively, of cash collateral was maintained with dealer counterparties and was included in “Other assets” in the Consolidated Balance Sheets.

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NOTE 13: Other Noninterest Expenses

The following table presents the significant components in the Consolidated Statements of Income line “Noninterest Expenses-Other.”


	Three Months Ended March 31,
(Dollars in thousands)	2020		2019
Data processing fees	$	2,156	$	1,921
Unrealized loss on nonqualified deferred compensation plan		1,983		—
Professional fees		666		564
Marketing and advertising expenses		490		373
Travel and educational expenses		444		403
Telecommunication expenses		372		317
All other noninterest expenses		3,111		2,002
Total other noninterest expenses	$	9,222	$	5,580

The table above includes merger related expenses for the three months ended March 31, 2020 of $888,000, of which $238,000 was included in data processing fees, $314,000 was included in professional fees, and $336,000 was included in all other noninterest expenses. There were no merger related expenses during the three months ended March 31, 2019.

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

The following discussion supplements and provides information about the major components of the results of operations, financial condition, liquidity and capital resources of the Corporation. This discussion and analysis should be read in conjunction with the accompanying consolidated financial statements. In addition to current and historical information, the following discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to our future business, financial condition or results of operations. For a description of certain factors that may have a significant impact on our future business, financial condition or results of operations, see “Forward-Looking Statements” at the end of this discussion and analysis.

OVERVIEW

Our primary financial goals are to maximize the Corporation’s earnings and to deploy capital in profitable growth initiatives that will enhance long-term shareholder value. We track three primary financial performance measures in order to assess the level of success in achieving these goals: (1) return on average assets (ROA), (2) return on average equity (ROE), and (3) growth in earnings. In addition to these financial performance measures, we track the performance of the Corporation’s three principal business segments: retail banking, mortgage banking, and consumer finance. We also actively manage our capital through growth, dividends and share repurchases, while considering the need to maintain a strong capital position.

Financial Performance Measures

Consolidated net income for the Corporation was $3.6 million for the first quarter of 2020, or $0.98 per share, compared with consolidated net income of $3.8 million for the first quarter of 2019, or $1.08 per share. The Corporation’s annualized ROE and ROA were 8.27 percent and 0.79 percent, respectively, for the first quarter of 2020, compared to 9.96 percent and 1.00 percent, respectively, for the first quarter of 2019.

Net income for the first quarter of 2020 included merger related expenses incurred in connection with the Corporation’s acquisition of Peoples Bankshares, Incorporated (Peoples). Excluding these merger related expenses, adjusted net income for the first quarter of 2020 was $4.4 million, or $1.20 per share. Net income for the first quarter of 2019 did not include any merger related expenses. Adjusted ROE and adjusted ROA, which exclude merger related expenses, were 10.06 percent and 0.96 percent, respectively, for the first quarter of 2020. Refer to “Use of Certain Non-GAAP Financial Measures,” below, for a reconciliation of adjusted net income, adjusted earnings per share, adjusted ROE and adjusted ROA, which are non-GAAP financial measures, to the most directly comparable financial measures calculated in accordance with U.S. GAAP.

Consolidated net income and earnings per share for the first quarter of 2020 decreased 3.5 percent and 9.3 percent, respectively, and adjusted net income and adjusted earnings per share increased 17.3 percent and 11.1 percent, respectively, compared to the first quarter of 2019. The primary factors having a favorable impact on net income and earnings per share for the first quarter of 2020 compared to the first quarter of 2019 include higher net interest income at the retail banking segment, which includes the effects of the acquisition of Peoples, higher gains on sales of loans at the mortgage banking segment and lower provision for loan losses at the consumer finance segment. Factors having an unfavorable impact on net income and earnings per share include higher operating expenses at the retail banking segment, which includes the effects of the acquisition of Peoples, higher provision for loan losses at the retail banking segment and merger related expenses. Earnings per share is also affected by higher average shares outstanding during the first quarter of 2020 compared to the first quarter of 2019, due primarily to the issuance of 209,871 shares of common stock in connection with the acquisition of Peoples.

Impact of and Response to the COVID-19 Pandemic

The outbreak of the novel coronavirus and the resulting COVID-19 illness has caused a significant disruption in economic activity worldwide, and the Corporation expects that it will have a significant impact on businesses and consumers in our market areas and on our results of operations. Many businesses have temporarily closed or reduced their availability, state

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and local governments have instructed people to stay at home and U.S. initial unemployment claims have exceeded 33 million since March 15, 2020. The COVID-19 pandemic presents significant risks and uncertainties in our businesses; however, at this time we cannot determine the ultimate impact of this pandemic on the results of operations of the Corporation. The federal government and state and local governments have responded to this crisis with unprecedented relief efforts and economic stimulus. We cannot predict the duration or extent of government intervention during and following the pandemic or the effect it will have on the Corporation. We believe that as a result of the COVID-19 pandemic, our results of operations may be impacted by elevated loan losses, net interest margin compression, falling demand for loans and potential impairments of securities available for sale and goodwill.

Risks to Results of Operations

Elevated loan losses. The COVID-19 pandemic has had a significant impact on businesses and consumers in our market areas. Many businesses have temporarily closed or face possible declines in revenue as consumers have been instructed to stay at home. This disruption has caused employers to lay off or reduce compensation of certain employees, and people who have become ill may not receive compensation while they are not able to work, resulting in many households facing reduced income as a result of the pandemic. Commercial and consumer borrowers affected by the pandemic may not be able to make timely payments on loans, which may lead to an increase in delinquencies or defaults and may ultimately result in increases in net charge-offs and provision for loan losses. Furthermore, collateral values may decline as a result of decreased economic activity and increased uncertainty during the crisis, which may contribute to an increase in loan losses during and after the pandemic.

In the first quarter of 2020, the Corporation recorded additional provision for loan losses at the retail banking segment and the consumer finance segment of $1.0 million and $700,000, respectively, as a result of asset quality deterioration that is expected to arise as a result of the COVID-19 pandemic and related economic disruption. Management continues to monitor changes in economic conditions and asset quality resulting from the COVID-19 pandemic and believes that additional provision for loan losses may be required in future periods.

Net interest margin compression. Since December 31, 2019, the Federal Reserve Bank’s Federal Open Market Committee has reduced its benchmark interest rate target to near zero by announcing rate cuts of 50 basis points on March 3, 2020 and 100 basis points on March 15, 2020. Treasury yields for all maturities are also lower since the outbreak of COVID-19. Lower market interest rates will result in lower average yields on all classes of earning assets. While we also expect that average costs of deposits and borrowings will decrease, this may occur slowly based on the repricing of time deposits at maturity, and the effect on net interest margin may not offset the effect of lower yields on earning assets.

Falling demand for loans. As businesses and consumers have been affected by the pandemic, new investment and consumer spending may decline, resulting in lower demand for loans. Our recent performance and strategic planning have depended in part on growth in lending, and we have invested in expanding our commercial lending team. Lower demand for loans in our markets as a result of the COVID-19 pandemic, combined with lower interest rates on new loans, may negatively impact interest income from loans.

Impairment of securities and goodwill. A broad decrease in economic activity as a result of the COVID-19 pandemic is expected to affect tax revenues of states and political subdivisions, and increased uncertainty has resulted in volatility in the market price of investments. The Corporation holds securities issued by states and political subdivisions that may experience shortfalls in general revenues or an inability to repay obligations when due as a result of the crisis, and there is a risk that these securities may become impaired, which would have a negative impact on the Corporation’s results of operations. Additionally, depending on the severity of the economic consequences of the COVID-19 pandemic and their impact on the Corporation, management may determine that goodwill is required to be evaluated for impairment due to the presence of a triggering event, which may have a negative impact on the Corporation’s results of operations.

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Our Response to the Crisis

The Corporation has taken steps in various areas of our businesses in response to the changes in circumstances arising from the COVID-19 pandemic.

We have adapted our technology and processes to allow a substantial portion of administrative personnel to work remotely beginning in mid-March 2020.

We have implemented safe and healthy practices of social distancing and enhanced cleaning to protect our employees and customers as we continue to operate and serve our communities as an essential business. These practices include closing the lobbies of our Bank branches except for appointments.

Bank customers continue to have access to our products and services through our online and mobile platforms, ATMs and drive-thru facilities, as well as by appointment in our branch lobbies.

We quickly implemented lending processes under the Payroll Protection Program (PPP) of the Small Business Administration and beginning on April 3, 2020 have successfully processed and funded over 1,100 loans totaling $85 million under the initial appropriation for the program.

We are working proactively with borrowers affected by the crisis, including offering short-term loan modifications, such as payment deferrals or interest only periods of up to six months, for borrowers who are temporarily unable to make loan payments. As of April 30, 2020, we have provided payment deferrals or interest only periods of less than six months on over 130 loans with outstanding principal of $70 million.

Principal Business Segments

An overview of the financial results for each of the Corporation’s principal segments is presented below. A more detailed discussion is included in the section “Results of Operations.”

Retail Banking: The retail banking segment reported net income of $570,000 for the first quarter of 2020, compared to net income of $2.3 million for the first quarter of 2019. Retail banking segment net income for the first quarter of 2020 included merger related expenses of $857,000 ($685,000 after income taxes).

For the first quarter of 2020, compared to the same period in 2019, retail banking segment net income decreased primarily as a result of (1) higher operating expenses, including (a) assuming certain operating costs of Peoples Community Bank, (b) expanding the retail banking segment’s commercial lending team in the Richmond and Charlottesville markets in 2019 and (c) investing in technology infrastructure to support continued growth; (2) lower average yields on loans; (3) higher average balances and higher average rates on interest-bearing deposit accounts; (4) higher provision for loan losses resulting from the economic disruption beginning in March 2020 related to COVID-19 and (5) merger related expenses. These factors were partially offset by (1) higher average loans outstanding, which contributed to higher interest income; (2) higher interest income on certain purchased loans, as discussed below; and (3) higher non-interest income from debit card interchange fees and interest rate swaps offered to commercial loan customers.

Anticipated cost savings associated with the acquisition of Peoples are expected to be realized beginning in the second quarter of 2020 after the completion of the systems conversion and integration.

The recognition of interest income on purchased credit impaired (PCI) loans is based on management’s expectation of future payments of principal and interest. The unexpected payoff of a certain PCI loan resulted in the recognition of additional interest income in the first quarter of 2020. Interest income recognized on PCI loans was $959,000 and $469,000 for the first quarter of 2020 and 2019, respectively.

Average loans increased $146.8 million or 19.0 percent for the first quarter of 2020, compared to the same period in 2019, primarily due to the acquisition of Peoples and investment in commercial lending teams resulting in loan growth. The average balance of loans associated with the acquisition of Peoples for the first quarter of 2020 was $118.5 million.

The retail banking segment’s total nonperforming assets were $3.0 million at March 31, 2020, compared to $2.6 million at December 31, 2019. Nonperforming assets at March 31, 2020 included $1.9 million in nonaccrual loans, compared to $1.5 million at December 31, 2019 and included $1.1 million in other real estate owned at March 31, 2020 and at December

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31, 2019. Nonaccrual loans were comprised primarily of residential mortgages and equity lines at March 31, 2020 and December 31, 2019. The retail banking segment recorded provision for loan losses of $1.0 million in the first quarter of 2020 due primarily to the COVID-19 pandemic, and we anticipate that additional increases in the allowance for loan losses may be required in future periods.

Mortgage Banking: The mortgage banking segment reported net income of $1.5 million for the first quarter of 2020, compared to net income of $567,000 for the first quarter of 2019.

The increase in net income of the mortgage banking segment for the first quarter of 2020 compared to the same period in 2019 was due primarily to higher gains on sales of loans and mortgage banking fee income, resulting from higher loan production, and higher fee income for providing mortgage origination functions to third parties, which were partially offset by higher compensation expense related to higher loan volume, lower average margins resulting from a higher mix of refinancings compared to home purchases and fair value adjustments on hedging activities due to disruption in the market caused by COVID-19.

Mortgage loan originations for the mortgage banking segment were $260.4 million for the first quarter of 2020, compared to $138.7 million for the first quarter of 2019. Loan production for the first quarter of 2020 was the highest reported by the mortgage banking segment for the first quarter of any calendar year since 2009, when home sales were supported by a federal income tax credit for first-time home buyers. Lower interest rates on mortgage loans have contributed to an increase in volume in the broader mortgage industry in the first quarter of 2020 compared to the first quarter of 2019. Mortgage loan originations for the mortgage banking segment during the first quarter of 2020 for refinancings and home purchases were $95.4 million and $165.0 million, respectively, compared to $20.8 million and $117.9 million, respectively, during the first quarter of 2019. At March 31, 2020, the mortgage banking segment had locked loan commitments to borrowers of $245.2 million. Due to conditions affecting borrowers related to the COVID-19 pandemic, the amount of these loan commitments that ultimately result in loan originations may be less than the proportion normally experienced by the mortgage banking segment, which may negatively affect gains on loans held for sale in the second quarter of 2020.

Consumer Finance: The consumer finance segment reported net income of $1.9 million for the first quarter of 2020, compared to net income of $1.3 million for the first quarter of 2019.

The increase in net income of the consumer finance segment for the first quarter of 2020 compared to the first quarter of 2019 was due primarily to (1) a decline in the provision for loan losses of $745,000 as charge-offs declined and the overall credit quality of the portfolio continued to improve, which was partially offset by additional provision for loan losses in the first quarter of 2020 related to the COVID-19 pandemic, (2) lower cost of variable-rate borrowings and (3) growth in average loans outstanding of 4.7 percent, partially offset by lower loan yields. The average yield on loans for the first quarter of 2020 was lower compared to first quarter of 2019 due to continued competition in the non-prime automobile loan business and the consumer finance segment’s pursuing growth in higher quality, lower yielding loans, which include prime marine and recreational vehicle (RV) loans.

The annualized net charge-off ratio for the first quarter of 2020 decreased to 2.81 percent from 3.79 percent for the first quarter of 2019. The decline reflects a lower number of charge-offs during 2020 as a result of the consumer finance segment’s purchasing automobile loan contracts with higher credit metrics beginning in 2016. At March 31, 2020, total delinquent loans as a percentage of total loans was 3.38 percent, compared to 4.17 percent at December 31, 2019 and 2.66 percent at March 31, 2019. The allowance for loan losses was $21.3 million, or 6.91 percent of total loans at March 31, 2020, compared to $21.8 million, or 6.96 percent of total loans at December 31, 2019. The decrease in the level of the allowance for loan losses as a percentage of total loans was primarily due to a higher composition of marine and RV loans as compared to non-prime automobile loans within the consumer finance loan portfolio, which was partially offset by an increase to the provision for loan losses of approximately $700,000 due to the COVID-19 pandemic. We anticipate that additional increases in the allowance for loan losses may be required in future periods.

Merger Related Expenses: In the first quarter of 2020, the Corporation recorded merger related expenses of $957,000 ($785,000 after income taxes), in connection with its acquisition of Peoples, of which $857,000 ($685,000 after income taxes) was allocated to the retail banking segment and the remainder was recorded as a holding company expense. As of March 31, 2020, the Corporation has recorded aggregate merger related expenses of $1.7 million ($1.4 million after income

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taxes) and expects to incur additional after-tax merger related expenses of approximately $400,000 to be recorded in the second quarter of 2020.

Capital Management. Total equity was $179.2 million at March 31, 2020, compared to $165.3 million at December 31, 2019. Capital growth resulted primarily from earnings for the first quarter of 2020 and the issuance of $11.6 million of common equity in connection with the acquisition of Peoples on January 1, 2020, which was offset in part by share repurchases of $618,000, as further described below, and cash dividends declared of $0.38 per share during the first quarter of 2020. For the first quarter of 2020, the Corporation’s cash dividend equated to a payout ratio of 38.8 percent of first quarter earnings per share. The Corporation cannot predict what impact the COVID-19 pandemic will ultimately have on its earnings and capital levels. At this time, the Corporation expects to continue paying a regular quarterly dividend. The Board of Directors of the Corporation continually reviews the amount of cash dividends per share and the resulting dividend payout ratio in light of changes in economic conditions (including the impact of COVID-19), current and future capital requirements and expected future earnings.

In May 2019, the Corporation’s Board of Directors authorized a program, effective June 1, 2019, to repurchase up to $5.0 million of the Corporation’s common stock (the Repurchase Program) through May 31, 2020. As of March 31, 2020, the Corporation has made aggregate common stock repurchases of $2.1 million under the Repurchase Program. Currently, the Corporation does not expect to make additional repurchases during the remaining period of the Repurchase Program. At March 31, 2020, the book value per share of the Corporation’s common stock was $48.98, and tangible book value per share was $41.40, compared to $47.93 and $43.47, respectively, at December 31, 2019.

CRITICAL ACCOUNTING POLICIES

The preparation of financial statements requires us to make estimates and assumptions. Those accounting policies with the greatest uncertainty and that require management’s most difficult, subjective or complex judgments affecting the application of these policies, and the greatest likelihood that materially different amounts would be reported under different conditions, or using different assumptions, are described below.

Allowance for Loan Losses: We establish the allowance for loan losses through charges to earnings in the form of a provision for loan losses. Loan losses are charged against the allowance when we believe that the collection of the principal is unlikely. Subsequent recoveries of losses previously charged against the allowance are credited to the allowance. The allowance represents an amount that, in our judgment, will be adequate to absorb probable losses inherent in the loan portfolio. Our judgment in determining the level of the allowance is based on evaluations of the collectibility of loans while taking into consideration such factors as trends in delinquencies and charge-offs for relevant periods of time, changes in the nature and volume of the loan portfolio, current economic conditions that may affect a borrower’s ability to repay and the value of collateral, overall portfolio quality and review of specific potential losses. This evaluation is inherently subjective because it requires estimates that are susceptible to significant revision as more information becomes available.

Impairment of Loans: We consider a loan impaired when it is probable that the Corporation will be unable to collect all interest and principal payments as scheduled in the loan agreement. We do not consider a loan impaired during a period of delay in payment if we expect the ultimate collection of all amounts due. We measure impairment on a loan-by-loan basis based on either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price or the fair value of the collateral if the loan is collateral dependent. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. We maintain a valuation allowance to the extent that the measure of the impaired loan is less than the recorded investment in the loan. All troubled debt restructurings (TDRs) are also considered impaired loans and are evaluated individually. A TDR occurs when we agree to significantly modify the original terms of a loan by granting a concession due to the deterioration in the financial condition of the borrower. For more information see the section titled “Asset Quality” within Item 2.

Loans Acquired in a Business Combination: Acquired loans are classified as either (i) purchased credit-impaired (PCI) loans or (ii) purchased performing loans and are recorded at fair value on the date of acquisition.

PCI loans are those for which there is evidence of credit deterioration since origination and for which it is probable at the date of acquisition that the Corporation will not collect all contractually required principal and interest payments. When

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determining fair value, PCI loans are aggregated into pools of loans based on common risk characteristics as of the date of acquisition such as loan type, date of origination, and evidence of credit quality deterioration such as internal risk grades and past due and nonaccrual status. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the “nonaccretable difference.” Any excess of cash flows expected at acquisition over the estimated fair value is referred to as the “accretable yield” and is recognized as interest income over the remaining life of the loan when there is a reasonable expectation about the amount and timing of such cash flows.

On a quarterly basis, we evaluate our estimate of cash flows expected to be collected on PCI loans. Estimates of cash flows for PCI loans require significant judgment. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses resulting in an increase to the allowance for loan losses. Subsequent significant increases in cash flows may result in a reversal of post-acquisition provision for loan losses or a transfer from nonaccretable difference to accretable yield that increases interest income over the remaining life of the loan or pool(s) of loans. Disposals of loans, which may include sale of loans to third parties, receipt of payments in full or in part from the borrower or foreclosure of the collateral, result in removal of the loan from the PCI loan portfolio at its carrying amount.

PCI loans are not classified nonperforming loans by the Corporation at the time they are acquired, regardless of whether they had been classified as nonperforming by the previous holder of such loans, and they will not be classified as nonperforming so long as, at quarterly re-estimation periods, we believe we will fully collect the new carrying value of the pools of loans.

The Corporation accounts for purchased performing loans using the contractual cash flows method of recognizing discount accretion based on the acquired loans’ contractual cash flows. Purchased performing loans are recorded at fair value, including a credit discount. The fair value discount is accreted as an adjustment to yield over the estimated lives of the loans. There is no allowance for loan losses established at the acquisition date for purchased performing loans. A provision for loan losses may be required for any deterioration in these loans in future periods.

Goodwill: The Corporation's goodwill was recognized in connection with past business combinations and is reported at the retail banking segment and the consumer finance segment. The Corporation reviews the carrying value of goodwill at least annually or more frequently if certain impairment indicators exist. In testing goodwill for impairment, the Corporation may first consider qualitative factors to determine whether the existence of events or circumstances lead to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events and circumstances, we conclude that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then no further testing is required and the goodwill of the reporting unit is not impaired. If the Corporation elects to bypass the qualitative assessment or if we conclude that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then the fair value of the reporting unit is compared with its carrying value to determine whether an impairment exists. In the last evaluation of goodwill at the retail banking segment and the consumer finance segment, which was the annual evaluation in the fourth quarter of 2019, the Corporation concluded that no impairment existed based on an assessment of qualitative factors. Depending on the severity of the economic consequences of the COVID-19 pandemic and their impact on the Corporation, management may determine that goodwill should be evaluated for impairment.

Income Taxes: Determining the Corporation’s effective tax rate requires judgment. The Corporation’s net deferred tax asset is determined annually based on temporary differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. In addition, there may be transactions and calculations for which the ultimate tax outcomes are uncertain and the Corporation’s tax returns are subject to audit by various tax authorities. Although we believe that estimates related to income taxes are reasonable, no assurance can be given that the final tax outcome will not be materially different than that which is reflected in the consolidated financial statements.

For further information concerning accounting policies, refer to Item 8. “Financial Statements and Supplementary Data,” under the heading “Note 1: Summary of Significant Accounting Policies” in the Corporation's Annual Report on Form 10-K for the year ended December 31, 2019.

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RESULTS OF OPERATIONS

NET INTEREST INCOME

The following table shows the average balance sheets, the amounts of interest earned on earning assets, with related yields, and interest expense on interest-bearing liabilities, with related rates, for the three months ended March 31, 2020 and 2019. Loans include loans held for sale. Loans placed on a nonaccrual status are included in the balances and are included in the computation of yields, but had no material effect. Accretion of fair value purchase adjustments related to business combinations are included in the computation of yields on loans and investments and on the cost of borrowings. The accretion contributed approximately 37 basis points to the yield on loans and 28 basis points to both the yield on interest earning assets and the net interest margin for the first quarter of 2020, compared to approximately 16 basis points to the yield on loans and 13 basis points to both the yield on interest earning assets and the net interest margin for the first quarter of 2019. Interest on tax-exempt loans and securities is presented on a taxable-equivalent basis (which converts the income on loans and investments for which no income taxes are paid to the equivalent yield as if income taxes were paid) using the federal corporate income tax rate of 21 percent that was applicable for all periods presented.

TABLE 1: Average Balances, Income and Expense, Yields and Rates


	Three Months Ended March 31,
	2020						2019
	Average		Income/		Yield/		Average		Income/		Yield/
(Dollars in thousands)	Balance		Expense		Rate		Balance		Expense		Rate
Assets
Securities:
Taxable	$	131,837	$	787	2.39	%	$	139,895	$	859	2.46	%
Tax-exempt		72,162		628	3.48			76,314		738	3.87
Total securities		203,999		1,415	2.77			216,209		1,597	2.95
Total loans		1,303,309		22,927	7.08			1,099,638		20,926	7.72
Interest-bearing deposits in other banks		189,467		598	1.28			103,807		589	2.30
Total earning assets		1,696,775		24,940	5.91			1,419,654		23,112	6.60
Allowance for loan losses		(32,866)						(34,116)
Total non-earning assets		183,627						127,959
Total assets	$	1,847,536					$	1,513,497

Liabilities and Equity
Interest-bearing deposits:
Interest-bearing demand deposits	$	261,221		230	0.35		$	225,072		312	0.56
Money market deposit accounts		237,579		328	0.56			205,461		260	0.51
Savings accounts		141,689		28	0.08			120,531		30	0.10
Certificates of deposit, $100 or more		249,407		1,233	1.99			182,015		717	1.60
Other certificates of deposit		255,313		1,066	1.68			176,650		589	1.35
Interest-bearing deposits		1,145,209		2,885	1.01			909,729		1,908	0.85
Borrowings		165,261		1,290	3.12			159,986		1,396	3.49
Total interest-bearing liabilities		1,310,470		4,175	1.28			1,069,715		3,304	1.25
Noninterest-bearing demand deposits		321,838						263,000
Other liabilities		39,303						29,264
Total liabilities		1,671,611						1,361,979
Equity		175,925						151,518
Total liabilities and equity	$	1,847,536					$	1,513,497
Net interest income			$	20,765					$	19,808
Interest rate spread					4.63	%					5.35	%
Interest expense to average earning assets (annualized)					0.99	%					0.94	%
Net interest margin (annualized)					4.92	%					5.66	%

Interest income and expense are affected by fluctuations in interest rates, by changes in the volume of earning assets and interest-bearing liabilities, and by the interaction of rate and volume factors. The following table shows the direct causes of the period-to-period changes in the components of net interest income on a taxable-equivalent basis. The Corporation calculates the rate and volume variances using a formula prescribed by the SEC. Rate/volume variances, the third element

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in the calculation, are not shown separately in the table, but are allocated to the rate and volume variances in proportion to the absolute dollar amounts of each.

TABLE 2: Rate-Volume Recap


	Three Months Ended March 31, 2020 from 2019
	Increase (Decrease)				Total
	Due to				Increase
(Dollars in thousands)	Rate		Volume		(Decrease)
Interest income:
Loans	$	(1,799)	$	3,800	$	2,001
Securities:
Taxable		(23)		(49)		(72)
Tax-exempt		(71)		(39)		(110)
Interest-bearing deposits in other banks		(342)		351		9
Total interest income		(2,235)		4,063		1,828
Interest expense:
Interest-bearing deposits:
Interest-bearing demand deposits		(128)		46		(82)
Money market deposit accounts		26		42		68
Savings accounts		(7)		5		(2)
Certificates of deposit, $100 or more		205		311		516
Other certificates of deposit		169		308		477
Total interest-bearing deposits		265		712		977
Borrowings		(151)		45		(106)
Total interest expense		114		757		871
Change in net interest income	$	(2,349)	$	3,306	$	957

Net interest income, on a taxable-equivalent basis, for the three months ended March 31, 2020 was $20.8 million, compared to $19.8 million for the three months ended March 31, 2019. Annualized net interest margin decreased 74 basis points to 4.92 percent for the first quarter of 2020, relative to the same period in 2019, as yields on interest-earning assets decreased for the first quarter of 2020 as compared to the first quarter of 2019, while costs of interest-bearing liabilities increased. For the first quarter of 2020, the yield on interest-earning assets decreased by 69 basis points compared to the first quarter of 2019 due to lower average yields on securities, loans and interest-bearing deposits in other banks. Average earning assets grew by $277.1 million for the first quarter of 2020, compared to the same period in 2019, primarily due to the acquisition of Peoples on January 1, 2020. The cost of interest-bearing liabilities increased by three basis points for the first quarter of 2020 compared to the same period in 2019, resulting primarily from higher average costs of deposits.

Average loans, which includes both loans held for investment and loans held for sale, increased $203.7 million to $1.3 billion for the first quarter of 2020, compared to the same period in 2019. Average loans held for investment at the retail banking segment increased $146.8 million, or 19.0 percent, for the first quarter of 2020, compared to the same period in 2019, due primarily to $118.5 million of average loans for the first quarter 2020 arising from the acquisition of Peoples and growth in the commercial business lending segment of the portfolio. Average loans held for investment at the consumer finance segment increased $14.0 million, or 4.7 percent, for the first quarter of 2020 compared to the first quarter of 2019 as a result of the continued expansion of the consumer finance segment’s purchases of marine and RV loan contracts and growth in automobile loans outstanding. Average loans held for sale at the mortgage banking segment increased $41.9 million, or 153 percent for the first quarter of 2020, compared to the same period in 2019, due to higher loan production.

The overall yield on average loans decreased 64 basis points to 7.08 percent for the first quarter of 2020 compared to the first quarter of 2019 due primarily to changes in the composition of the loan portfolio. Average loans at the retail banking and mortgage banking segments increased faster than loans at the consumer finance segment which has higher average yields. Growth at the retail banking segment resulted from the acquisition of Peoples and investments in the commercial lending teams added during 2019, while growth at the mortgage banking segment resulted from the lower rate environment which has contributed to an increase in volume in the broader mortgage industry. In addition, yields on all segments of the portfolio declined due to the lower rate environment and continued competition specifically in the non-prime automobile loan business as the consumer finance segment has continued to pursue growth in higher quality, lower yielding loans

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including prime marine and RV loans. These effects were partially offset by higher interest income on PCI loans at the retail banking segment.

Average securities available for sale decreased $12.2 million for the first quarter of 2020, compared to the same period in 2019, as net declines during 2019 from sales, maturities and calls were partially offset by securities added as a result of the acquisition of Peoples. The average yield on the securities portfolio on a taxable-equivalent basis decreased 17 basis points for the first quarter of 2020, compared to the same period in 2019.

Average interest-bearing deposits in other banks, consisting primarily of excess cash reserves maintained at the Federal Reserve Bank, increased $85.7 million during the first quarter of 2020, compared to the same period in 2019. The increase during the first quarter of 2020 resulted primarily from deposit growth outpacing loan growth. The average yield on these overnight funds decreased 102 basis points for the first quarter of 2020, compared to the same period in 2019, as the Federal Reserve Bank decreased the interest rate on excess cash reserve balances from 2.40 percent at March 31, 2019 to 1.55 percent by the end of 2019, and then further decreased the interest rate to 0.10 percent by the end of the first quarter of 2020 in response to the COVID-19 pandemic.

Average money market, savings and interest-bearing demand deposits increased $89.4 million for the first quarter of 2020, and average time deposits increased $146.1 million for the first quarter of 2020, compared to the same period in 2019. $77.0 million of the increase in average money market, savings and interest-bearing demand deposits and $77.8 million of the increase in average time deposits was attributable to the acquisition of Peoples during the first quarter of 2020. The average cost of interest-bearing deposits increased 16 basis points for the first quarter of 2020, compared to the same period in 2019, due to increases in interest rates on time deposits in 2019. By the end of the first quarter of 2020, offered rates on deposit products have decreased, but changes in the average cost of time deposits lag changes in pricing based on the repricing of time deposits at maturity.

Average borrowings increased $5.3 million for the first quarter of 2020, compared to the same period in 2019 due primarily to the assumption of $4.0 million of subordinated debt upon the acquisition of Peoples. The average cost of borrowings decreased 37 basis points during the first quarter of 2020, compared to the same period in 2019, because of decreases in short-term interest rates, to which variable-rate borrowings at the consumer finance segment are indexed.

The Corporation believes that it may be challenging to maintain net interest margin at its current level based on the effects of (1) the current interest rate environment, including historically low interest rates and recent decreases in interest rates on all classes of earning assets, the effect of which is not fully reflected in net interest margin for the first quarter of 2020, (2) possible changes in the composition of earnings assets which may result from decreased loan demand as a result of the current economic environment and (3) lower accretion of purchase discounts on PCI loans from acquisitions, which is included in yields on loans. These effects are expected to be offset in part by the repricing of higher-rate time deposits and borrowings as they mature to lower rates, which may occur at a slower rate than the repricing of interest bearing assets.

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Noninterest Income

TABLE 3: Noninterest Income


	Three Months Ended March 31, 2020
	Retail		Mortgage		Consumer		Other and
(Dollars in thousands)	Banking		Banking		Finance		Eliminations		Total
Gains on sales of loans	$	—	$	3,676	$	—	$	—	$	3,676
Mortgage banking fee income		—		1,305		—		—		1,305
Service charges on deposit accounts		1,002		—		—		—		1,002
Other service charges and fees		374		—		1		—		375
Net gains on calls of available for sale securities		4		—		—		—		4
Wealth management services income, net		—		—		—		585		585
Income from bank-owned life insurance		103		—		—		—		103
Interchange income		1,089		—		—		—		1,089
Other income		390		306		116		78		890
Total noninterest income	$	2,962	$	5,287	$	117	$	663	$	9,029


	Three Months Ended March 31, 2019
	Retail		Mortgage		Consumer		Other and
(Dollars in thousands)	Banking		Banking		Finance		Eliminations		Total
Gains on sales of loans	$	—	$	2,136	$	—	$	—	$	2,136
Mortgage banking fee income		—		769		—		—		769
Service charges on deposit accounts		918		—		—		—		918
Other service charges and fees		298		—		1		—		299
Net gains on calls of available for sale securities		4		—		—		—		4
Wealth management services income, net		—		—		—		449		449
Income from bank-owned life insurance		83		—		—		—		83
Interchange income		958		—		—		—		958
Other income		177		69		128		1,113		1,487
Total noninterest income	$	2,438	$	2,974	$	129	$	1,562	$	7,103

Total noninterest income increased $1.9 million, or 27.1 percent, in the first quarter of 2020, compared to the first quarter of 2019. This increase in noninterest income was due primarily to (1) an increase in gains on sales of loans and mortgage banking fee income at the mortgage banking segment as a result of higher mortgage loan production for the first quarter of 2020 compared to the same period in 2019, as lower mortgage loan interest rates contributed to an increase in volume in the mortgage industry, (2) an increase in wealth management services income, (3) an increase in debit card interchange income at the retail banking segment and (4) an increase in “Other income,” related to interest rate swaps offered to commercial loan customers at the retail banking segment. These increases were partially offset by no unrealized gain recorded in the first quarter of 2020 at the Corporation related to its nonqualified deferred compensation plan compared to $1.0 million recorded in the first quarter of 2019 and included in “Other income.” Unrealized gains on the Corporation’s nonqualified deferred compensation plan are reflected in “Other and Eliminations” above and are offset by expenses, as discussed below.

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Noninterest Expense

TABLE 4: Noninterest Expense


	Three Months Ended March 31, 2020
	Retail		Mortgage		Consumer		Other and
(Dollars in thousands)	Banking		Banking		Finance		Eliminations		Total
Salaries and employee benefits	$	8,060	$	1,845	$	2,243	$	(1,331)	$	10,817
Occupancy expense		1,484		663		164		16		2,327
Other expenses:
Data processing		1,807		16		314		19		2,156
Professional fees		372		72		125		98		667
Other expenses		2,473		972		784		2,170		6,399
Total other expenses		4,652		1,060		1,223		2,287		9,222
Total noninterest expense	$	14,196	$	3,568	$	3,630	$	972	$	22,366


	Three Months Ended March 31, 2019
	Retail		Mortgage		Consumer		Other and
(Dollars in thousands)	Banking		Banking		Finance		Eliminations		Total
Salaries and employee benefits	$	6,978	$	1,147	$	2,185	$	1,597	$	11,907
Occupancy expense		1,486		479		203		22		2,190
Other expenses:
Data processing		1,584		10		309		18		1,921
Professional fees		325		16		136		87		564
Other expenses		1,508		739		727		121		3,095
Total other expenses		3,417		765		1,172		226		5,580
Total noninterest expense	$	11,881	$	2,391	$	3,560	$	1,845	$	19,677

Total noninterest expenses increased $2.7 million, or 13.7 percent, in the first quarter of 2020, compared to the same period in 2019. The increase in noninterest expenses for the first quarter of 2020, compared to the first quarter of 2019, was due primarily to (1) merger related expenses associated with the acquisition of Peoples, (2) the assumption of certain operating costs of Peoples Community Bank at the retail banking segment, (3) increases in salaries and employee benefits expense associated with (a) C&F Bank adding new talent to its commercial lending team in the Richmond and Charlottesville markets at the retail banking segment during 2019 and (b) higher mortgage loan production at the mortgage banking segment, (4) higher data processing expenses associated with investing in technology infrastructure to support continued growth and (5) higher expense for loan processing at the mortgage banking segment as a result of higher mortgage loan production. Partially offsetting these increases was lower net expenses at the Corporation related to its nonqualified deferred compensation plan. Merger related expenses in the first quarter of 2020 included $857,000 at the retail banking segment, of which $69,000 was salaries and employee benefits expense, $238,000 was data processing expense and $214,000 was professional fees expense; and $100,000 at the holding company, shown in the “Other” segment, above, which was professional fees expense.

Compensation expense related to the Corporation’s nonqualified deferred compensation plan is recorded in “Other and Eliminations” above and is based in part on changes in the fair value of assets held in trust for the plan, which are allocated to participants. As a result of unrealized gains and losses related to the nonqualified plan, a reduction of compensation expense of $2.0 million was recorded in the first quarter of 2020 compared to compensation expense of $1.0 million in the first quarter of 2019. These amounts were offset by unrealized losses recorded in “Other expenses” and unrealized gains recorded in “Other income” in the first quarter of 2020 and 2019, respectively.

Income Taxes

Income tax expense for the first quarter of 2020 was $977,000 resulting in an effective tax rate of 21.2 percent, compared with $907,000, or an effective tax rate of 19.4 percent, for the first quarter of 2019. The higher effective tax rate in the first

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quarter of 2020 compared to the same period of 2019 resulted primarily from higher pre-tax income at the mortgage banking and consumer finance segments, which are subject to state income tax, and certain merger related expenses in 2020 which were non-deductible, partially offset by higher tax benefits of share based compensation.

ASSET QUALITY

The allowance for loan losses represents an amount that, in our judgment, will be adequate to absorb probable losses inherent in the loan portfolio. The provision for loan losses increases the allowance, and loans charged off, net of recoveries, reduce the allowance. Table 5 summarizes the allowance activity for the periods indicated:

TABLE 5: Allowance for Loan Losses


	Three Months Ended March 31,
(Dollars in thousands)	2020			2019
Balance, beginning of period	$	32,873		$	34,023
Provision for loan losses:
Retail Banking		1,000			—
Mortgage Banking		—			—
Consumer Finance		1,650			2,395
Total provision for loan losses		2,650			2,395
Loans charged off:
Real estate—residential mortgage		(4)			—
Commercial, financial and agricultural1		(18)			—
Consumer		(93)			(76)
Consumer finance		(3,426)			(3,890)
Total loans charged off		(3,541)			(3,966)
Recoveries of loans previously charged off:
Real estate—residential mortgage		4			5
Commercial, financial and agricultural1		1			1
Consumer		62			42
Consumer finance		1,249			1,089
Total recoveries		1,316			1,137
Net loans charged off		(2,225)			(2,829)
Balance, end of period	$	33,298		$	33,589
Ratio of annualized net charge-offs to average total loans outstanding during period for Retail Banking		0.01	%		0.01	%
Ratio of annualized net charge-offs to average total loans outstanding during period for Consumer Finance		2.81	%		3.79	%

1Includes the Corporation’s commercial real estate lending, land acquisition and development lending, builder line lending and commercial business lending.

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Table 6 presents the allocation of the allowance for loan losses as of the dates indicated.

TABLE 6: Allocation of Allowance for Loan Losses


	March 31,			December 31,
(Dollars in thousands)	2020			2019
Allocation of allowance for loan losses:
Real estate—residential mortgage	$	2,140		$	2,080
Real estate—construction 1		771			681
Commercial, financial and agricultural 2		7,935			7,121
Equity lines		770			733
Consumer		416			465
Consumer finance		21,266			21,793
Total allowance for loan losses	$	33,298		$	32,873
Ratio of loans to total period-end loans:
Real estate—residential mortgage		16	%		16	%
Real estate—construction 1		5			5
Commercial, financial and agricultural 2		48			45
Equity lines		5			5
Consumer		1			1
Consumer finance		25			28
		100	%		100	%

Includes the Corporation’s real estate construction lending and consumer real estate lot lending.

Includes the Corporation’s commercial real estate lending, land acquisition and development lending, builder line lending and commercial business lending.

Loans by credit quality indicators are presented in Table 7 below. The characteristics of these loan ratings are as follows:

Pass rated loans are to persons or business entities with an acceptable financial condition, appropriate collateral margins, appropriate cash flow to service the existing loan, and an appropriate leverage ratio. The borrower has paid all obligations as agreed and it is expected that this type of payment history will continue. When necessary, acceptable personal guarantors support the loan.

Special mention loans have a specific identified weakness in the borrower’s operations and in the borrower’s ability to generate positive cash flow on a sustained basis. The borrower’s recent payment history may be characterized by late payments. The Corporation’s risk exposure is mitigated by collateral supporting the loan. The collateral is considered to be well-margined, well maintained, accessible and readily marketable.

Substandard loans are considered to have specific and well-defined weaknesses that jeopardize the viability of the Corporation’s credit extension. The payment history for the loan has been inconsistent and the expected or projected primary repayment source may be inadequate to service the loan. The estimated net liquidation value of the collateral pledged and/or ability of the personal guarantor(s) to pay the loan may not adequately protect the Corporation. There is a distinct possibility that the Corporation will sustain some loss if the deficiencies associated with the loan are not corrected in the near term. A substandard loan would not automatically meet the Corporation’s definition of impaired unless the loan is significantly past due and the borrower’s performance and financial condition provide evidence that it is probable that the Corporation will be unable to collect all amounts due.

Substandard nonaccrual loans have the same characteristics as substandard loans; however, they have a nonaccrual classification because it is probable that the Corporation will not be able to collect all amounts due.

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Doubtful rated loans have all the weaknesses inherent in a loan that is classified substandard but with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable. The possibility of loss is extremely high.

Loss rated loans are not considered collectible under normal circumstances and there is no realistic expectation for any future payment on the loan. Loss rated loans are fully charged off.

TABLE 7: Credit Quality Indicators

Loans by credit quality indicators as of March 31, 2020 were as follows:


			Special				Substandard
(Dollars in thousands)	Pass		Mention		Substandard		Nonaccrual		Total1
Real estate – residential mortgage	$	199,087	$	1,396	$	1,353	$	931	$	202,767
Real estate – construction 2		65,937		—		—		—		65,937
Commercial, financial and agricultural 3		547,838		38,127		2,620		—		588,585
Equity lines		55,907		97		24		278		56,306
Consumer		14,947		54		583		699		16,283
	$	883,716	$	39,674	$	4,580	$	1,908	$	929,878

Included in the table above are loans purchased in connection with the acquisition of Peoples of $104.7 million pass rated, $1.3 million special mention, $3.1 million substandard and $583,000 substandard nonaccrual.


			Non-
(Dollars in thousands)	Performing		Performing		Total
Consumer finance	$	307,214	$	377	$	307,591

At March 31, 2020, the Corporation did not have any loans classified as Doubtful or Loss.

Includes the Corporation’s real estate construction lending and consumer real estate lot lending.

Includes the Corporation’s commercial real estate lending, land acquisition and development lending, builder line lending and commercial business lending.

Loans by credit quality indicators as of December 31, 2019 were as follows:


			Special				Substandard
(Dollars in thousands)	Pass		Mention		Substandard		Nonaccrual		Total1
Real estate – residential mortgage	$	177,049	$	1,839	$	881	$	1,526	$	181,295
Real estate – construction 2		54,246		—		—		—		54,246
Commercial, financial and agricultural 3		487,374		13,357		70		11		500,812
Equity lines		51,662		181		11		229		52,083
Consumer		13,632		6		—		118		13,756
	$	783,963	$	15,383	$	962	$	1,884	$	802,192


			Non-
(Dollars in thousands)	Performing		Performing		Total
Consumer finance	$	312,388	$	611	$	312,999

At December 31, 2019, the Corporation did not have any loans classified as Doubtful or Loss.

Includes the Corporation’s real estate construction lending and consumer real estate lot lending.

Includes the Corporation’s commercial real estate lending, land acquisition and development lending, builder line lending and commercial business lending.

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The increase in loans rated Special Mention at March 31, 2020 compared to December 31, 2019 is related primarily to two commercial real estate loans which were rated Pass at December 31, 2019. Each loan was classified as Special Mention at March 31, 2020 partially as a result of effects on the borrowers of the COVID-19 pandemic.

Table 8 summarizes nonperforming assets as of the dates indicated.

TABLE 8: Nonperforming Assets

Retail Banking Segment


	March 31,			December 31,
(Dollars in thousands)	2020			2019
Loans, excluding purchased loans	$	790,852		$	770,423
Purchased performing loans1		125,528			26,422
Purchased credit impaired loans1		9,219			705
Total loans	$	925,599		$	797,550

Nonaccrual loans	$	1,875		$	1,512
OREO2		1,103			1,103
Total nonperforming assets	$	2,978		$	2,615

Accruing loans past due for 90 days or more	$	9		$	109
Troubled debt restructurings (TDRs)3	$	4,173		$	4,353
Allowance for loan losses (ALL)	$	11,434		$	10,482
Nonperforming assets to total loans and OREO		0.32	%		0.33	%
ALL to total loans, excluding purchased credit impaired loans4		1.25			1.32
ALL to total nonaccrual loans		609.81			693.25
Annualized net charge-offs to average total loans		0.01			0.04

Acquired loans are tracked in two separate categories – “purchased performing” and “purchased credit impaired.” The remaining discount for the purchased performing loans was $2.6 million at March 31, 2020 and $1.4 million at December 31, 2019. The remaining discount for the purchased credit impaired loans was $10.9 million at March 31, 2020 and $5.6 million at December 31, 2019. The increase in remaining discount on purchased performing loans and purchased credit impaired loans from December 31, 2019 to March 31, 2020 is due primarily to loans acquired in the acquisition of Peoples.

OREO includes $835,000 at both March 31, 2020 and December 31, 2019 related to the land and buildings of the Bellgrade branch, which was consolidated into a nearby branch in 2019.

Nonaccrual loans include nonaccrual TDRs of $335,000 at March 31, 2020 and $254,000 at December 31, 2019.

⁴

The ratio of ALL to total loans, excluding purchased credit impaired loans, includes purchased performing loans for which no allowance for loan losses is required. The ratio of ALL to total loans excluding all purchased loans was 1.45 percent at March 31, 2020 and 1.36 percent at December 31, 2019.

Mortgage Banking Segment


	March 31,			December 31,
(Dollars in thousands)	2020			2019
Nonaccrual loans	$	33		$	372
Total loans	$	4,279		$	4,642
ALL	$	598		$	598
Nonaccrual loans to total loans		0.77	%		8.01	%
ALL to total loans		13.98			12.88

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Consumer Finance Segment


	March 31,			December 31,
(Dollars in thousands)	2020			2019
Nonaccrual loans	$	377		$	611
Accruing loans past due for 90 days or more	$	—		$	—
Repossessed assets	$	496		$	410
Total loans	$	307,591		$	312,999
ALL	$	21,266		$	21,793
Nonaccrual consumer finance loans to total consumer finance loans		0.12	%		0.20	%
ALL to total consumer finance loans		6.91			6.96
Annualized net charge-offs to average total loans		2.81			3.05

Nonperforming assets of the retail banking segment totaled $3.0 million at March 31, 2020, compared to $2.6 million at December 31, 2019. Nonperforming assets at both March 31, 2020 and December 31, 2019 consisted of $1.1 million in OREO, and consisted of $1.9 million in nonaccrual loans at March 31, 2020, compared to $1.5 million in nonaccrual loans at December 31, 2019. Nonaccrual loans were comprised primarily of residential mortgages and equity lines at March 31, 2020 and December 31, 2019.

The allowance for loan losses as a percentage of total loans at the retail banking segment, excluding PCI loans, at March 31, 2020 decreased to 1.25 percent, compared to 1.32 percent at December 31, 2019, primarily as a result of recording loans at fair value in connection with the acquisition of Peoples, resulting in no allowance for loan losses being required for those loans as of March 31, 2020. Excluding purchased loans, the allowance for loan losses as a percentage of total loans increased to 1.45 percent at March 31, 2020 compared to December 31, 2019. The retail banking segment recorded provision for loan losses of $1.0 million in the first quarter of 2020 due primarily to asset quality issues expected to result from the COVID-19 pandemic and related economic disruption. We anticipate that additional increases in the allowance for loan losses may be required in future periods as more information becomes available about the economic impacts of this crisis.

Nonaccrual loans at the consumer finance segment were $377,000 at March 31, 2020, compared to $611,000 at December 31, 2019. Nonaccrual consumer finance loans remain low relative to the allowance for loan losses and the total consumer finance loan portfolio because the consumer finance segment generally initiates repossession of loan collateral once a loan becomes more than 60 days delinquent. Repossessed vehicles of the consumer finance segment are classified as other assets and consist only of vehicles the Corporation has the legal right to sell. Prior to the reclassification from loans to repossessed vehicles, the difference between the carrying amount of each loan and the fair value of each vehicle (i.e. the deficiency) is charged against the allowance for loan losses. At March 31, 2020, repossessed vehicles available for sale totaled $496,000, compared to $410,000 at December 31, 2019.

The consumer finance segment’s allowance for loan losses decreased $527,000 to $21.3 million at March 31, 2020 from $21.8 million at December 31, 2019, and its provision for loan losses decreased $745,000 for the first quarter of 2020, compared to the same period in 2019. The decrease in the allowance and the lower provision resulted from lower charge-offs as a result of the consumer finance segment purchasing automobile loan contracts with higher credit metrics beginning in 2016, partially offset by additional provision for loan losses of $700,000 related to the COVID-19 pandemic. Delinquent loans as a percentage of total loans decreased to 3.38 percent at March 31, 2020 compared to 4.17 percent at December 31, 2019 and increased from 2.66 percent at March 31, 2019. The annualized net charge-off ratio for the first quarter of 2020 decreased to 2.81 percent from 3.79 percent for the first quarter of 2019 because of the lower number of charge-offs during the first quarter of 2020. The allowance for loan losses as a percentage of loans decreased to 6.91 percent at March 31, 2020, compared to 6.96 percent at December 31, 2019. The decrease in the level of the allowance for loan losses as a percentage of total loans was primarily due to a higher composition of marine and RV loans as compared to non-prime automobile loans within the consumer finance loan portfolio, which was partially offset by an increase to the provision for loan losses of approximately $700,000 due to the COVID-19 pandemic. We anticipate that additional increases in the allowance for loan losses may be required in future periods as more information becomes available about the economic impacts of this crisis.

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The consumer finance segment, at times, offers payment deferrals to non-prime automobile borrowers as a management technique to achieve higher ultimate cash collections on select loan accounts. Payment deferrals may affect the ultimate timing of when an account is charged off. A significant reliance on deferrals as a means of managing collections may result in a lengthening of the loss confirmation period, which would increase expectations of credit losses inherent in the portfolio. Payment deferrals as a percentage of non-prime automobile loans outstanding was 4.27 percent at March 31, 2020 compared to 1.84 percent at March 31, 2019. The average amounts deferred on a monthly basis, as a percentage of non-prime automobile loans outstanding was 1.90 percent for the year ended December 31, 2019. Payment deferrals are expected to increase as a result of the COVID-19 pandemic as borrowers may be unable to make timely loan payments.

Impaired Loans

We measure impaired loans either based on fair value of the loan using the loan’s obtainable market price or the fair value of the collateral if the loan is collateral dependent, or using the present value of expected future cash flows discounted at the loan’s effective interest rate, which is not a fair value measurement. We maintain a valuation allowance to the extent that the measure of the impaired loan is less than the recorded investment in the loan. TDRs occur when we agree to significantly modify the original terms of a loan by granting a concession due to the deterioration in the financial condition of the borrower. These concessions typically are made for loss mitigation purposes and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. TDRs are considered impaired loans.

TABLE 9: Impaired Loans

Impaired loans, which included TDRs of $4.2 million, and the related allowance at March 31, 2020, were as follows:



			Recorded		Recorded
			Investment		Investment				Average
	Unpaid		in Loans		in Loans				Balance-		Interest
	Principal		without		with		Related		Impaired		Income
(Dollars in thousands)	Balance		Specific Reserve		Specific Reserve		Allowance		Loans		Recognized
Real estate – residential mortgage	$	3,357	$	1,313	$	1,820	$	47	$	3,295	$	31
Commercial, financial and agricultural:
Commercial real estate lending		1,403		—		1,403		76		1,417		18
Equity lines		121		114		—		—		121		—
Consumer		130		—		119		108		119		—
Total	$	5,011	$	1,427	$	3,342	$	231	$	4,952	$	49

Impaired loans, which included TDRs of $4.4 million, and the related allowance at December 31, 2019, were as follows:



			Recorded		Recorded
			Investment		Investment				Average
	Unpaid		in Loans		in Loans				Balance-		Interest
	Principal		without		with		Related		Impaired		Income
(Dollars in thousands)	Balance		Specific Reserve		Specific Reserve		Allowance		Loans		Recognized
Real estate – residential mortgage	$	3,891	$	2,192	$	1,479	$	72	$	3,506	$	155
Commercial, financial and agricultural:
Commercial real estate lending		1,459		4		1,447		77		1,581		82
Equity lines		31		31		—		—		32		2
Consumer		130		—		121		118		123		—
Total	$	5,511	$	2,227	$	3,047	$	267	$	5,242	$	239

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TDRs at March 31, 2020 and December 31, 2019 were as follows:

TABLE 10: Troubled Debt Restructurings


	March 31,		December 31,
(Dollars in thousands)	2020		2019
Accruing TDRs	$	3,838	$	4,099
Nonaccrual TDRs1		335		254
Total TDRs2	$	4,173	$	4,353

Included in nonaccrual loans in Table 8: Nonperforming Assets.

Included in impaired loans in Table 9: Impaired Loans.

While TDRs are considered impaired loans, not all TDRs are on nonaccrual status. If a loan was on nonaccrual status at the time of the TDR modification, the loan will remain on nonaccrual status following the modification and may be returned to accrual status based on the Corporation’s policy for returning loans to accrual status. If a loan was accruing prior to being modified as a TDR and if management concludes that the borrower is able to make such modified payments, and there are no other factors or circumstances that would cause management to conclude otherwise, the TDR will remain on an accruing status.

The Corporation has accommodated certain borrowers affected by the COVID-19 pandemic by granting short-term payment deferrals or periods of interest-only payments, including, as of April 30, 2020, over 130 loans with outstanding principal of approximately $70 million. Generally, a short-term payment deferral does not result in a loan modification being classified as a TDR. Management cannot predict the overall impact of the COVID-19 pandemic on its loan portfolio or the extent of payment deferrals or other modifications that may be granted. Depending on the severity and duration of the economic disruption caused by the COVID-19 pandemic, the Corporation may experience an increase in delinquencies that may lead to further loan modifications, including loan modifications that may be classified as TDRs.

FINANCIAL CONDITION

At March 31, 2020, the Corporation had total assets of $1.9 billion, which was an increase of $219.9 million since December 31, 2019. The increase resulted primarily from the acquisition of Peoples on January 1, 2020 which added total assets of $190.6 million.

Loan Portfolio

Table 11 presents information pertaining to the composition of loans held for investment.

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TABLE 11: Summary of Loans Held for Investment


	March 31, 2020				December 31, 2019
(Dollars in thousands)	Amount		Percent		Amount		Percent
Real estate—residential mortgage	$	202,767	16	%	$	181,295	16	%
Real estate—construction 1		65,937	5			54,246	5
Commercial, financial, and agricultural 2		588,585	48			500,812	45
Equity lines		56,306	5			52,083	5
Consumer		16,283	1			13,756	1
Consumer finance		307,591	25			312,999	28
Total loans		1,237,469	100	%		1,115,191	100	%
Less allowance for loan losses		(33,298)				(32,873)
Total loans, net	$	1,204,171			$	1,082,318

Includes the Corporation’s real estate construction lending and consumer real estate lot lending.

Includes the Corporation’s commercial real estate lending, land acquisition and development lending, builder line lending and commercial business lending.

Investment Securities

The investment portfolio plays a primary role in the management of the Corporation’s interest rate sensitivity. In addition, the portfolio serves as a source of liquidity and is used as needed to meet collateral requirements. The investment portfolio consists of securities available for sale, which may be sold in response to changes in market interest rates, changes in prepayment risk, increases in loan demand, general liquidity needs and other similar factors. These securities are carried at estimated fair value. At March 31, 2020 and December 31, 2019, all securities in the Corporation’s investment portfolio were classified as available for sale.

The following table sets forth the composition of the Corporation’s securities available for sale in dollar amounts at fair value and as a percentage of the Corporation’s total securities available for sale at the dates indicated.

TABLE 12: Securities Available for Sale


	March 31, 2020				December 31, 2019
(Dollars in thousands)	Amount		Percent		Amount		Percent
U.S. government agencies and corporations	$	32,042	13	%	$	21,440	11	%
Mortgage-backed securities		104,365	45			86,585	46
Obligations of states and political subdivisions		98,017	42			81,708	43
Total available for sale securities at fair value	$	234,424	100	%	$	189,733	100	%

For more information about the Corporation's securities available for sale, including information about securities in an unrealized loss position at March 31, 2020 and December 31, 2019, see Part I, Item 1, “Financial Statements” under the heading “Note 3: Securities” in this Quarterly Report on Form 10-Q.

Deposits

The Corporation’s predominant source of funds is depository accounts, which are comprised of demand deposits, savings and money market accounts and time deposits. The Corporation’s deposits are principally provided by individuals and businesses located within the communities served.

During the first quarter of 2020, deposits increased $193.1 million to $1.48 billion at March 31, 2020, compared to $1.29 billion at December 31, 2019. This increase resulted primarily from the addition of $171.8 million of deposits in connection with the acquisition of Peoples.

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The Corporation had $4.0 million in brokered money market and time deposits outstanding at March 31, 2020, compared to $2.0 million at December 31, 2019. The source of these brokered deposits is primarily uninvested cash balances held in third-party brokerage sweep accounts. The Corporation uses brokered deposits as a means of diversifying liquidity sources, as opposed to a long-term deposit gathering strategy.

Borrowings

Borrowings decreased to $159.9 million at March 31, 2020 from $161.2 million at December 31, 2019 due to fluctuations in repurchase agreements with commercial deposit customers and paydowns on FHLB advances, partially offset by the assumption of $4.0 million of subordinated debt in connection with the acquisition of Peoples.

Off-Balance Sheet Arrangements

As of March 31, 2020, there have been no material changes to the off-balance sheet arrangements disclosed in Part II, Item 7, "Management's Discussion and Analysis," under the heading "Off-Balance-Sheet Arrangements" in the Corporation's Annual Report on Form 10-K for the year ended December 31, 2019.

At March 31, 2020, the mortgage banking segment had $232.0 million of interest rate lock commitments (IRLCs) and $108.6 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using best-efforts forward sales contracts for $340.6 million in mortgage loans. Also at March 31, 2020, the mortgage banking segment had $13.3 million of IRLCs and $13.4 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using forward sales of $14.5 million of TBA securities and mandatory-delivery forward sales contracts for $9.1 million in mortgage loans.

At December 31, 2019, the mortgage banking segment had $63.4 million of IRLCs and $65.8 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using best-efforts forward sales contracts for $129.1 million in mortgage loans. Also at December 31, 2019, the mortgage banking segment had $11.7 million of IRLCs and $22.0 million of unpaid principal on mortgage loans held for sale for which it managed interest rate risk using forward sales of $24.0 million of TBA securities and mandatory-delivery forward sales contracts for $6.7 million in mortgage loans.

The Corporation uses derivatives to manage exposure to interest rate risk through the use of interest rate swaps. Interest rate swaps involve the exchange of fixed and variable rate interest payments between two parties, based on a common notional principal amount and maturity date with no exchange of underlying principal amounts.

The Corporation has interest rate swaps that qualify and are designated as cash flow hedges. The Corporation’s cash flow hedges effectively modify the Corporation’s exposure to interest rate risk by converting variable rates of interest on $25.0 million of the Corporation’s trust preferred capital notes to fixed rates of interest for periods that end between June 2024 and June 2029. The cash flow hedges’ total notional amount is $25.0 million. At March 31, 2020, the cash flow hedges had a fair value of $2.1 million, which is recorded in other liabilities. The net gain/loss on the cash flow hedges is recognized as a component of other comprehensive income and reclassified into earnings in the same period(s) during which the hedged transactions affect earnings.

The Corporation also enters into interest rate swaps with certain qualifying commercial loan customers to meet their interest rate risk management needs. The Corporation simultaneously enters into interest rate swaps with dealer counterparties, with identical notional amounts and terms. The net effect of these interest rate swaps and the related loans is that the customer pays a fixed rate of interest and the Corporation receives a floating rate. At March 31, 2020, the total notional amount of the interest rate swaps related to these loans was $162.5 million and the interest rate swaps had a net fair value of zero, with $8.8 million recognized in other assets and $8.8 million recognized in other liabilities. These swaps are not designated as hedging instruments; therefore, changes in fair value are recorded in other noninterest expense.

The Corporation’s contracts with dealer counterparties for interest rate swaps and forward sales of TBA securities require the Corporation to post collateral for derivative instruments in a loss position, subject to certain thresholds and offsets. At

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March 31, 2020 and at December 31, 2019, $10.8 million and $2.5 million, respectively, of cash collateral was maintained with dealer counterparties and was included in “Other assets” in the Consolidated Balance Sheets

Contractual Obligations

As of March 31, 2020, there have been no material changes outside the ordinary course of business to the contractual obligations disclosed in Part II, Item 7, “Management's Discussion and Analysis," under the heading “Table 20: Contractual Obligations” in the Corporation's Annual Report on Form 10-K for the year ended December 31, 2019.

Liquidity

The objective of the Corporation’s liquidity management is to ensure the continuous availability of funds to satisfy the credit needs of our customers and the demands of our depositors, creditors and investors. Stable core deposits and a strong capital position are the components of a solid foundation for the Corporation’s liquidity position. Additional sources of liquidity available to the Corporation include cash flows from operations, loan payments and payoffs, deposit growth, maturities, calls and sales of securities, the issuance of brokered certificates of deposit and the capacity to borrow additional funds.

Liquid assets, which include cash and due from banks, interest-bearing deposits at other banks and nonpledged securities available for sale, totaled $259.7 million at March 31, 2020, compared to $227.7 million at December 31, 2019. The Corporation’s funding sources, including capacity, amount outstanding and amount available at March 31, 2020 are presented in Table 13.

TABLE 13: Funding Sources


	March 31, 2020
(Dollars in thousands)	Capacity		Outstanding		Available
Unsecured federal funds agreements	$	95,000	$	—	$	95,000
Repurchase lines of credit		50,000		—		50,000
Borrowings from FHLB		191,759		37,000		154,759
Borrowings from Federal Reserve Bank		107,802		—		107,802
Revolving bank line of credit		120,000		75,029		44,971
Total	$	564,561	$	112,029	$	452,532

We have no reason to believe these arrangements will not be renewed at maturity. During the quarter ending March 31, 2020, the Corporation pledged additional loans as collateral in order to increase available liquidity at the Federal Reserve Bank that had been unpledged as of December 31, 2019. Additional loans and securities are available that can be pledged as collateral for future borrowings from the Federal Reserve Bank or the FHLB above the current lendable collateral value. Our ability to maintain sufficient liquidity may be affected by numerous factors, including economic conditions nationally and in our markets. Depending on our liquidity levels, our capital position, conditions in the capital markets, our business operations and initiatives, and other factors, we may from time to time consider the issuance of debt, equity or other securities or other possible capital market transactions, the proceeds of which could provide additional liquidity for our operations.

As a result of the Corporation’s management of liquid assets and the ability to generate liquidity through liability funding, management believes that the Corporation maintains overall liquidity sufficient to satisfy its operational requirements and contractual obligations.

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Capital Resources

The disclosure below presents the Bank’s actual regulatory capital amounts and ratios under currently applicable regulatory capital standards. Under the small bank holding company policy statement of the Federal Reserve Board, which applies to certain bank holding companies with consolidated total assets of less than $3 billion, the Corporation is not subject to regulatory capital requirements. The table below reflects the Corporation’s consolidated capital as determined under regulations that apply to bank holding companies that are not small bank holding companies and minimum capital requirements that would apply to the Corporation if it were not a small bank holding company.


									Minimum To Be
									Well Capitalized
									Under Prompt
					Minimum Capital				Corrective Action
	Actual				Requirements				Provisions
(Dollars in thousands)	Amount		Ratio		Amount		Ratio		Amount		Ratio
As of March 31, 2020:
Total Capital (to Risk-Weighted Assets)
Corporation	$	203,043	14.0	%	$	115,892	8.0	%		N/A	N/A
C&F Bank		197,858	13.8			114,578	8.0		$	143,222	10.0	%
Tier 1 Capital (to Risk-Weighted Assets)
Corporation		180,747	12.5			86,919	6.0			N/A	N/A
C&F Bank		179,765	12.6			85,933	6.0			114,578	8.0
Common Equity Tier 1 Capital (to Risk-Weighted Assets)
Corporation		155,747	10.8			65,190	4.5			N/A	N/A
C&F Bank		179,765	12.6			64,450	4.5			93,094	6.5
Tier 1 Capital (to Average Assets)
Corporation		180,747	9.9			72,849	4.0			N/A	N/A
C&F Bank		179,765	10.0			72,171	4.0			90,214	5.0

As of December 31, 2019:
Total Capital (to Risk-Weighted Assets)
Corporation	$	195,927	14.9	%	$	105,544	8.0	%		N/A	N/A
C&F Bank		181,369	14.0			103,307	8.0		$	129,134	10.0	%
Tier 1 Capital (to Risk-Weighted Assets)
Corporation		179,233	13.6			79,158	6.0			N/A	N/A
C&F Bank		165,021	12.8			77,480	6.0			103,307	8.0
Common Equity Tier 1 Capital (to Risk-Weighted Assets)
Corporation		154,233	11.7			59,369	4.5			N/A	N/A
C&F Bank		165,021	12.8			58,110	4.5			83,937	6.5
Tier 1 Capital (to Average Tangible Assets)
Corporation		179,233	11.1			64,863	4.0			N/A	N/A
C&F Bank		165,021	10.3			64,201	4.0			80,251	5.0

The regulatory risk-based capital amounts presented above include: (1) common equity tier 1 capital (CET1) which consists principally of common stock (including surplus) and retained earnings with adjustments for goodwill, intangible assets and deferred tax assets; (2) Tier 1 capital which consists principally of CET1 plus the Corporation’s “grandfathered” trust preferred securities; and (3) Tier 2 capital which consists principally of Tier 1 capital plus a limited amount of the allowance for loan losses. In addition, the Corporation has made the one-time irrevocable election to continue treating accumulated other comprehensive income (AOCI) under regulatory standards that were in place prior to the Basel III Final Rule in order to eliminate volatility of regulatory capital that can result from fluctuations in AOCI and the inclusion of AOCI in regulatory capital, as would otherwise be required under the Basel III Capital Rule. For additional information

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about the Basel III Final Rules, see “Item 1. Business” under the heading “Regulation and Supervision” and “Item 8. Financial Statements and Supplementary Data,” under the heading “Note 16: Regulatory Requirements and Restrictions” in the Corporation's Annual Report on Form 10-K for the year ended December 31, 2019.

In addition to the regulatory risk-based capital amounts presented above, the Bank must maintain a capital conservation buffer of additional capital of 2.5 percent of risk-weighted assets as required by the Basel III Final Rule. At March 31, 2020, the Bank exceeded the total capital conservation buffer and the tier 1 capital conservation buffer by 331 basis points and 405 basis points, respectively. At December 31, 2019, the Bank exceeded the total capital conservation buffer and the tier 1 capital conservation buffer by 355 and 428 basis points, respectively. The increase in regulatory capital of C&F Bank during the first quarter of 2020 is due primarily to the acquisition of Peoples and current period earnings.

The Corporation's capital resources may be affected by the Corporation's Repurchase Program, which was authorized by the Corporation's Board of Directors during the second quarter of 2019. Under the Repurchase Program the Corporation is authorized to purchase up to $5.0 million of its common stock. Repurchases under the program may be made through privately-negotiated transactions or open-market transactions, and shares repurchased will be returned to the status of authorized and unissued shares of common stock. The timing, number and purchase price of shares repurchased under the program will be determined by management and the Board of Directors in their discretion and will depend on a number of factors, including the market price of the shares, general market and economic conditions, applicable legal requirements and other conditions. The Repurchase Program is authorized through May 31, 2020. As of March 31, 2020, $2.9 million of the Corporation's common stock may be purchased under the Corporation's Repurchase Program. Currently, the Corporation does not expect to make additional repurchases during the remaining period of the Repurchase Program.

Effects of Inflation and Changing Prices

The Corporation’s financial statements included herein have been prepared in accordance with generally accepted accounting principles in the United States (U.S. GAAP). U.S. GAAP presently requires the Corporation to measure financial position and operating results primarily in terms of historic dollars. Changes in the relative value of money due to inflation or recession are generally not considered. The primary effect of inflation on the operations of the Corporation is reflected in increased operating costs. In management’s opinion, changes in interest rates affect the financial condition of a financial institution to a far greater degree than changes in the inflation rate. While interest rates are greatly influenced by changes in the inflation rate, they do not necessarily change at the same rate or in the same magnitude as the inflation rate. Interest rates are highly sensitive to many factors that are beyond the control of the Corporation, including changes in the expected rate of inflation, the influence of general and local economic conditions and the monetary and fiscal policies of the United States government, its agencies and various other governmental regulatory authorities.

USE OF CERTAIN NON-GAAP FINANCIAL MEASURES

The accounting and reporting policies of the Corporation conform to U.S. GAAP and prevailing practices in the banking industry. However, certain non-GAAP measures are used by management to supplement the evaluation of the Corporation’s performance. These include adjusted net income; adjusted earnings per share; adjusted annualized ROE; and adjusted annualized ROA, all of which are adjusted to exclude the one-time effect of merger related expenses in connection with the acquisition of Peoples, and tangible book value per share.

Management believes that the use of these non-GAAP measures provide meaningful information about operating performance by enhancing comparability with other financial periods and other financial institutions. The non-GAAP measures used by management enhance comparability by excluding the effects of items that do not reflect ongoing operating performance, including non-recurring gains or charges, and balances of intangible assets, including goodwill, that vary significantly between institutions. These non-GAAP financial measures should not be considered an alternative to U.S. GAAP-basis financial statements, and other bank holding companies may define or calculate these or similar measures differently. A reconciliation of the non-GAAP financial measures used by the Corporation to evaluate and measure the Corporation’s performance to the most directly comparable U.S. GAAP financial measures is presented below.

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	For The
	Quarter Ended
(Dollars in thousands except for per share data)	3/31/2020			3/31/2019
Adjusted Net Income and Earnings Per Share	(unaudited)
Net income, as reported	$	3,639		$	3,771
Merger related expenses		957			-
Related income taxes		(172)			-
Adjusted net income	$	4,424		$	3,771

Weighted average shares - basic and diluted		3,644,614			3,484,592

Earnings per share - basic and diluted
Earnings per share - basic and diluted, as reported	$	0.98		$	1.08
Merger related expenses		0.22			-
Adjusted earnings per share - basic and diluted	$	1.20		$	1.08

Adjusted Return on Average Equity (ROE)
Average total equity, as reported	$	175,925		$	151,518

Annualized ROE, as reported		8.27	%		9.96	%
Adjusted annualized ROE		10.06	%		9.96	%

Adjusted Return on Average Assets (ROA)
Average assets, as reported	$	1,847,536		$	1,513,497

Annualized ROA, as reported		0.79	%		1.00	%
Adjusted annualized ROA		0.96	%		1.00	%


	3/31/2020		12/31/2019
Tangible Book Value Per Share	(unaudited)		*
Equity attributable to C&F Financial Corporation	$	178,702	$	164,798
Less goodwill		25,117		14,425
Less other intangible assets		2,540		912
Tangible equity attributable to C&F Financial Corporation	$	151,045	$	149,461

Shares outstanding		3,648,658		3,438,126

Book value per share	$	48.98	$	47.93
Tangible book value per share	$	41.40	$	43.47

CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements, including statements concerning the Corporation’s expectations, plans, objectives or beliefs regarding future financial performance; actions and initiatives taken in response to the COVID-19 pandemic; potential effects of the COVID-19 pandemic, including on asset quality, the allowance for loan losses, provision for loan losses and interest rates, impairment of securities and goodwill, future dividend payments, expected impacts of the Corporation’s acquisition and integration of Peoples, strategic business initiatives and the anticipated effects thereof, including lending under the PPP loan program, competition among financial institutions and the expected effects thereof, margin compression, technology initiatives, asset quality, adequacy of allowances for loan losses and the level of future charge-offs, capital levels, the effect of future market industry trends and interest rate environments and the effects of future interest rate fluctuations. These forward-looking statements are subject to significant risks and uncertainties due to factors that could have a material adverse effect on the operations and future prospects of the Corporation, including, but not limited to, changes in:

the ability of the Corporation and the Bank to realize the anticipated benefits of the Merger, including the ability to successfully integrate Peoples’ systems and processes into the Corporation’s systems and processes

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expected revenue synergies and cost savings from the acquisition of Peoples that may not be fully realized or realized within the expected time frame

revenues following the acquisition of Peoples that may be lower than expected

customer and employee relationships and business operations as a result of disruptions caused by the Merger

interest rates, such as changes or volatility in the Federal Funds rate, yields on U.S. Treasury securities or mortgage rates

general business conditions, as well as conditions within the financial markets

general economic conditions, including unemployment levels and slowdowns in economic growth, especially related to further and sustained economic impacts of the COVID-19 pandemic

the Corporation’s ability to manage the impact of the COVID-19 pandemic

potential claims, damages and fines related to litigation or actions arising from the Corporation’s participation in and administration of programs related to the COVID-19 pandemic (including, among other things, the PPP and other programs established pursuant to the CARES Act)

the legislative and regulatory climate, including regulatory initiatives with respect to financial institutions, including the Consumer Financial Protection Bureau (the CFPB) and the regulatory and enforcement activities of the CFPB, the application of the Basel III capital standards to C&F Bank, the effect of the Economic Regulatory Relief and Consumer Protection Act (the Act) and changes in the effect of the Act due to issuance of interpretive regulatory guidance or enactment of corrective or supplemental legislation

monetary and fiscal policies of the U.S. Government, including policies of the U.S. Department of the Treasury and the Federal Reserve Board, and the effect of these policies on interest rates and business in our markets

the value of securities held in the Corporation’s investment portfolios

the quality or composition of the loan portfolios and the value of the collateral securing those loans

the commercial and residential real estate markets

the inventory level and pricing of used automobiles, including sales prices of repossessed vehicles

the level of net charge-offs on loans and the adequacy of our allowance for loan losses

deposit flows

demand in the secondary residential mortgage loan markets

the level of indemnification losses related to mortgage loans sold

competition from both banks and non-banks, including competition in the non-prime automobile finance markets

demand for financial services in the Corporation’s market area, including demand for loans

the Corporation's branch and market expansions, technology initiatives and other strategic initiatives

cyber threats, attacks or events

reliance on third parties for key services

expansion of C&F Bank’s product offerings

accounting principles, policies and guidelines, and elections made by the Corporation thereunder.

These risks and uncertainties, and the risks discussed in more detail in Item 1A. “Risk Factors,” of the Corporation's Annual Report on Form 10-K for the year ended December 31, 2019, and in Item 1A. “Risk Factors,” of Part II of this Quarterly Report on Form 10-Q, should be considered in evaluating the forward-looking statements contained herein.

Forward-looking statements generally can be identified by the use of words such as “believe,” “expect,” “anticipate,” “estimate,” “plan,” “may,” “will,” “intend,” “should,” “could,” or similar expressions, are not statements of historical fact, and are based on management’s beliefs, assumptions and expectations regarding future events or performance as of the date of this report, taking into account all information currently available. Readers should not place undue reliance on any forward-looking statement. There can be no assurance that actual results will not differ materially from historical results or those expressed in or implied by such forward-looking statements, or that the beliefs, assumptions and expectations underlying such forward-looking statements will be proven to be accurate. Forward-looking statements are made as of the date of this report and we undertake no obligation to update or revise any forward-looking statement to reflect events or circumstances arising after the date on which the statement was made, except as otherwise required by law.

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ITEM 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no significant changes from the quantitative and qualitative disclosures about market risk made in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2019.

ITEM 4.CONTROLS AND PROCEDURES

The Corporation’s management, including the Corporation’s Chief Executive Officer and the Chief Financial Officer, has evaluated the effectiveness of the Corporation’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer have concluded that the Corporation’s disclosure controls and procedures were effective as of March 31, 2020 to ensure that information required to be disclosed by the Corporation in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and that such information is accumulated and communicated to the Corporation’s management, including the Corporation’s Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that the Corporation’s disclosure controls and procedures will detect or uncover every situation involving the failure of persons within the Corporation or its subsidiary to disclose material information required to be set forth in the Corporation’s periodic reports.

The Corporation completed the acquisition of Peoples on January 1, 2020, and is in the process of completing its consolidation and integration of Peoples’ legacy systems and processes. The conversion of Peoples’ loan and deposit systems was completed on April 25, 2020. The integration of Peoples’ legacy systems and processes does not have a material effect on our internal control over financial reporting.

As a result of the COVID-19 pandemic, a substantial portion of our administrative personnel began working remotely in mid March 2020. In order to facilitate this change, which occurred with little advance notice, the Corporation adapted certain technologies and processes. While our internal controls were not designed specifically to operate in a remote working environment, we believe that our internal control over financial reporting was not materially affected by this change in processes and continues to be effective in a remote working environment.

There were no changes in the Corporation’s internal control over financial reporting during the three months ended March 31, 2020 that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting.

PART II – OTHER INFORMATION

ITEM 1A.RISK FACTORS

The following risk factor should be considered in addition to the risk factors disclosed in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2019.

The Corporation’s results of operations and financial condition have been adversely affected by the COVID-19 pandemic and, depending on future developments, may be materially adversely impacted by the COVID-19 pandemic.

The outbreak of the novel coronavirus and the resulting COVID-19 illness, the widespread government response and the impact on consumers and businesses in our market area have caused significant disruption in the United States and international economies and financial markets and have had and will continue to have a significant impact on the operations and financial performance of the Corporation. Governments, businesses and the public are taking unprecedented actions to contain the spread of COVID-19 and to mitigate its effects including quarantines, shelter-in-place orders, state of emergency declarations, travel bans, closures of businesses and schools, fiscal stimulus and legislative initiatives to deliver monetary aid and other relief. Although the scope, duration and full effects of the COVID-19 pandemic are rapidly evolving and cannot be fully known, consequences of the COVID-19 pandemic and efforts to contain the spread of

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COVID-19 and mitigate the pandemic’s effects have included and may include further market volatility, including lower interest rates, disrupted trade and supply chains, increased unemployment and reduced economic activity including an economic recession. If these effects continue for a prolonged period of time, the Corporation may experience significant delinquencies and credit losses due to the inability of borrowers to make timely payments on loans, net interest margin compression, lower demand for our products and services, decreased capital, which may affect the Corporation’s ability to originate new loans, disruption of operational processes arising from practices of social distancing and telecommuting and potential impairment of assets, including securities available for sale and goodwill. The COVID-19 pandemic may also exacerbate many of the risk factors identified in the Corporation’s Annual Report on Form 10-K, including risk related to our credit quality, collateral, capital, liquidity, operations, interest rate risk, strategic risk and technology.

Although banks have generally been permitted to continue operating during the COVID-19 outbreak, the outbreak has caused the Corporation to change its business operations, including updating branch operations to comply with governmental recommendations, closing the lobbies of our branches except for appointments, and implementing a work from home model for many administrative employees. These changes may have adverse impacts on the Corporation’s business due to reduced effectiveness of operations, unavailability of personnel, and increased cybersecurity risks related to use of remote technology. The changes in business operations could also have a detrimental effect on the Corporation’s relationships with its customers and could reduce demand for the Corporation’s products and services.

The extent to which the COVID-19 pandemic impacts our business, results of operations and financial condition will depend on future developments, which are highly uncertain and cannot be predicted, including, but not limited to the duration, spread, severity and impact of the COVID-19 pandemic, and the actions required to contain and mitigate it, the effects of the pandemic on our customers and vendors and the remedial actions and stimulus measures adopted by local, state and federal governments, the timing and availability of government support for the economy and financial markets including indirect governmental support for various financial assets including mortgage loans, the short- and long-term health impacts of the pandemic, and to what extent normal economic and operating conditions can resume. There can be no assurance that any efforts by the Corporation to address the adverse impacts of the COVID-19 pandemic will be effective. Even after the COVID-19 pandemic has subsided, we may continue to experience adverse impacts to our business as a result of any economic recession or depression that has occurred or may occur in the future. Furthermore, the financial condition of our customers and vendors may be adversely impacted, which may result in an elevated level of loan losses, a decrease in demand for our products and services, or reduced availability of services provided by third parties on which we rely. Any of these events may, in turn, have a material adverse impact our business, results of operations and financial condition.

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

Issuer Purchases of Equity Securities

The Corporation’s Board of Directors authorized programs to repurchase the Corporation’s common stock in May 2014 (which was subsequently reauthorized, most recently in April 2018), for repurchases of up to $5.0 million of the Corporation’s common stock through May 31, 2019, and in May 2019 for repurchases of up to $5.0 million of the Corporation’s common stock from June 1, 2019 through May 31, 2020. Repurchases under either program could be made through privately-negotiated transactions, or open-market transactions, including pursuant to a trading plan in accordance with Rule 10b5-1 of the Exchange Act and/or Rule 10b-18 of the Exchange Act. Under the repurchase program last reauthorized in April 2018, the Corporation made aggregate common stock repurchases of $3.8 million between November 2018 and May 2019. As of March 31, 2020, the Corporation has made aggregate common stock repurchases of $2.1 million under the repurchase program authorized in May 2019. Currently, the Corporation does not expect to make additional repurchases during the remaining period of the repurchase program.

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The following table summarizes repurchases of the Corporation’s common stock that occurred during the three months ended March 31, 2020.


					Maximum Number
					(or Approximate
				Total Number of	Dollar Value) of
				Shares Purchased as	Shares that May Yet
				Part of Publicly	Be Purchased
	Total Number of	Average Price Paid		Announced Plans or	Under the Plans or
(Dollars in thousands, except for per share amounts)	Shares Purchased1	per Share		Programs	Programs
January 1, 2020 - January 31, 2020	5,006	$	52.15	—	$	3,299
February 1, 2020 - February 29, 2020	1,063		46.28	1,000		3,253
March 1, 2020 - March 31, 2020	7,963		38.74	7,963		2,944
Total	14,032	$	44.09	8,963

During the three months ended March 31, 2020, 5,069 shares were withheld upon the vesting of restricted shares granted to employees of the Corporation and its subsidiaries in order to satisfy tax withholding obligations.

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ITEM 6.EXHIBITS


2.1	Agreement and Plan of Reorganization dated as of August 13, 2019 by and among C&F Financial Corporation and Peoples Bankshares, Incorporated (incorporated by reference to Appendix A to Pre-Effective Amendment No. 1 to Form S-4 filed October 15, 2019)

3.1	Amended and Restated Articles of Incorporation of C&F Financial Corporation, effective March 7, 1994 (incorporated by reference to Exhibit 3.1 to Form 10-Q filed November 8, 2017)

3.1.1	Amendment to Articles of Incorporation of C&F Financial Corporation (incorporated by reference to Exhibit 3.1.1 to Form 8-K filed January 14, 2009)

3.2	Amended and Restated Bylaws of C&F Financial Corporation, as adopted February 23, 2016 (incorporated by reference to Exhibit 3.1 to Form 8-K filed February 29, 2016)

31.1	Certification of CEO pursuant to Rule 13a-14(a)

31.2	Certification of CFO pursuant to Rule 13a-14(a)

32	Certification of CEO/CFO pursuant to 18 U.S.C. Section 1350

101.INS	XBRL Instance Document

101.SCH	XBRL Taxonomy Extension Schema Document

101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF	XBRL Taxonomy Extension Definition Linkbase Document

101.LAB	XBRL Taxonomy Extension Label Linkbase Document

101.PRE	XBRL Taxonomy Presentation Linkbase Document

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SIGNATURES

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


		C&F FINANCIAL CORPORATION
			(Registrant)

Date:	May 8, 2020	By:	/s/ Thomas F. Cherry
			Thomas F. Cherry
			President and Chief Executive Officer
			(Principal Executive Officer)

Date:	May 8, 2020		/s/ Jason E. Long
			Jason E. Long
			Senior Vice President, Chief Financial Officer and Secretary
			(Principal Financial and Accounting Officer)

C & F FINANCIAL CORP - FORM 10-Q - May 8, 2020

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C & F FINANCIAL CORP Reports