Management's discussion and analysis should be read in conjunction with the Company's unaudited consolidated interim financial statements and notes thereto contained in this Quarterly Report on Form 10-Q ("this Form 10-Q") and the audited consolidated financial statements and notes thereto contained in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2019 (the "2019 Annual Report on Form 10-K"). Special Note Regarding Forward-Looking Statements This Form 10-Q contains certain forward-looking statements concerning plans, objectives, future events or performance and assumptions and other statements. These statements are not statements of historical fact. Forward-looking statements may be identified by reference to a future period or periods or by use of forward-looking terminology such as "will," "should," "could," "anticipates," "believes," "expects," "intends," "may," "plans," "pursue," "views" and similar terms or expressions. Various statements contained in Item 2 - "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Item 3 - "Quantitative and Qualitative Disclosures About Market Risk" of this Form 10-Q are forward-looking statements, including, but not limited to statements related to management's views on:
• the banking environment and the economy;
• the impact of the COVID-19 pandemic ("pandemic") and the Company's
participation in and execution of government programs related to the
pandemic;
• competition and market expansion opportunities;
• the interest-rate environment, credit risk and the level of future
non-performing assets and charge-offs;
• potential asset and deposit growth, future non-interest expenditures and
non-interest income growth;
• expansion strategy; and • borrowing capacity. The Company cautions readers that such forward-looking statements reflect numerous assumptions that management believes to be reasonable, but which are inherently uncertain and beyond the Company's control. Forward-looking statements involve a number of risks and uncertainties that could cause the Company's actual results to differ materially from those expressed in, or implied by, the forward-looking statement. Accordingly, we caution you that any such forward-looking statements are not guarantees of future performance. Any forward-looking statements in this Form 10-Q are based on information available to the Company as of the date of this Form 10-Q, and the Company undertakes no obligation to publicly update or otherwise revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by applicable law. The following important factors, among others, could cause the Company's results for subsequent periods to differ materially from those expressed in any forward-looking statement made herein:
(i) failure of risk management controls and procedures;
(ii) adequacy of the allowance for loan losses;
(iii) risk specific to commercial loans and borrowers;
(iv) changes in the business cycle and downturns in the local, regional or
national economies, including changes in consumer spending and deterioration
in the local real estate market, could negatively impact credit and/or asset
quality and result in credit losses and increases in the Company's allowance
for loan losses;
(v) deterioration of securities markets could adversely affect the value or
credit quality of the Company's assets and the availability of funding
sources necessary to meet the Company's liquidity needs;
(vi) changes in interest rates could negatively impact net interest income;
(vii) liquidity risks;
(viii) technology-related risk, including technological changes and technology
service interruptions or failure could adversely impact the Company's
operations and increase technology-related expenditures;
(ix) cybersecurity risk including security breaches and identity theft could
impact the Company's reputation, increase regulatory oversight and impact
the financial results of the Company; (x) increasing competition from larger regional and out-of-state banking
organizations as well as non-bank providers of various financial services
could adversely affect the Company's competitive position within its market
area and reduce demand for the Company's products and services;
(xi) our ability to retain and increase our aggregate assets under management;
(xii) our ability to enter new markets successfully and capitalize on growth
opportunities, including the receipt of required regulatory approvals;
(xiii) damage to our reputation in the markets we serve;
(xiv) exposure to legal claims and litigation;
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(xv) the inability to raise capital, on terms favorable to us, could cause us to
fall below regulatory minimum capital adequacy levels and consequently
restrict our business and operations;
(xvi) changes in laws and regulations that apply to the Company's business and
operations, and any additional regulations, or repeals that may be
forthcoming as a result thereof, could cause the Company to incur
additional costs and adversely affect the Company's business environment,
operations and financial results;
(xvii) future regulatory compliance costs, including any increase caused by new
regulations imposed by the government's current administration;
(xviii) changes in accounting and/or auditing standards, policies and practices,
as may be adopted or established by the regulatory agencies, FASB, or thePublic Company Accounting Oversight Board could negatively impact the Company's financial results; and
(xix) the risks and uncertainties described in the documents that the Company
files or furnishes to the
Item1A, "Risk Factors," of this Form 10-Q and Item 1A, "Risk Factors," of
the Company's 2019 Annual Report on Form 10-K, which could have a material
adverse effect on the Company's business, financial condition and results
of operations.
Therefore, the Company cautions readers not to place undue reliance on any such forward-looking information and statements.
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Table of Contents Overview Executive Summary Net income for the three months endedJune 30, 2020 amounted to$7.3 million , or$0.61 per diluted share, compared to$7.8 million , or$0.66 per diluted share, for the three months endedJune 30, 2019 . Net income for the six months endedJune 30, 2020 amounted to$11.3 million , or$0.95 per diluted share, compared to$16.5 million , or$1.39 per diluted share, for the six months endedJune 30, 2019 . The net income results for the quarter and year-to-dateJune 30, 2020 , compared to the same respective 2019 periods, were impacted by the ongoing pandemic and the Company's participation in theSmall Business Administration ("SBA") Paycheck Protection Program ("PPP"). The provision for loan losses increased as the Company added general reserves to address economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio. The increase over the prior year was larger in the first quarter. Net interest income increased, in particular in the second quarter benefiting from first quarter loan growth and from second quarter PPP loan income, partially offset by a lower net interest margin since the comparable periods. Interest rates have declined significantly since late 2019, including an extraordinary emergency federal funds rate cut inmid-March 2020 . Operating expenses increased for the quarter and year-to-date endedJune 30, 2020 compared to the prior year, due primarily to the Company's strategic growth initiatives, and also from higher salary and benefit costs related to the pandemic, including our team members' PPP loan origination effort in the second quarter. These items are discussed in more detail below and in the "Results of Operations." Total assets, total loans, and customer deposits as ofJune 30, 2020 have increased by 27%, 32%, and 26%, respectively, compared toJune 30, 2019 . Our growth figures have been significantly impacted by both the outstanding PPP loans and the pandemic in general. Excluding PPP loans, total loans have increased by 11% compared toJune 30, 2019 . Deposit growth has been positively and significantly impacted by the PPP, stimulus checks and the pandemic, as the PPP loan monies were distributed into deposit accounts and many customers are proactively building liquidity in response to the economic uncertainty caused by the pandemic. We anticipate that as the majority of PPP loans are forgiven or paid off, which we believe will occur principally over the next 12 months, and as customers spend down their PPP loan funds, this will result in a reduction in both loans and deposits. Overall, the Company strategically operates with a long-term mindset that is focused on organic growth and supporting such growth by continually investing in our people, products, services, technology, digital transformation, and both new and existing branches. Our 25th branch located inLexington, Massachusetts opened in the first quarter and our 26th branch located inNorth Andover, Massachusetts is anticipated to open in late 2020 or early 2021.
COVID-19 Pandemic
The pandemic and its effects have impacted the Company's financial condition and results of operations, as discussed in this Management Discussion & Analysis. Management underscores that the pandemic may continue to impact the Company's financial condition and results of operations in the coming quarters, particularly due the economic uncertainty and its potential impact on interest rates, organic growth opportunities and the quality of the loan portfolio. However, the long-term impact of the pandemic on the Company cannot be reasonably estimated at this time. The Company activated its pandemic response team in January in response to the emergence of the pandemic and has continued to adjust its operations as the pandemic has evolved. For updated information on business and operating changes impacting customers, please visit our website at www.Enterprisebanking.com.
Paycheck Protection Program
The PPP was established by the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") and implemented by the SBA with support from theDepartment of the Treasury . The PPP is a federally-guaranteed, low-interest rate loan program that is designed to provide a direct incentive for small businesses to keep workers on the payroll. Businesses may use PPP loan funds to pay up to eight weeks of payroll costs as well as to cover other eligible business expenses. PPP loans may be partially or fully forgiven by the SBA if the funds are used for eligible expenses during the relevant forgiveness period and the borrower meets the employee retention criteria. The PPP loans will carry an interest rate of 1% to be paid by either the SBA, in the event of forgiveness, or by the borrower for the term of the loan, which may be either 2 or 5 years. The PPP loans that the SBA approved on or afterJune 5, 2020 will have a maturity date of 5 years. Payments for PPP loans are deferred until the SBA issues a forgiveness decision or ten months after the end of the forgiveness period if the borrower fails to apply for forgiveness. 45
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All PPP loans are fully guaranteed by the SBA and are included in total loans
outstanding. As of
In addition to generating interest income, the SBA pays a lender's fees for processing PPP loans. AtJune 30, 2020 , the Company has recorded$17.0 million in PPP-related SBA processing fees "PPP fees" and is accreting these fees into interest income over the life of the applicable loans. If a PPP loan is forgiven or paid off before maturity, the remaining deferred fee is realized into interest-income at that time. During the quarter, the Company recognized$1.6 million in PPP fees. Credit Quality The Company determined its allowance for loan loss reserves using the incurred loss methodology. The allowance for loan losses to total loan ratio was 1.33% atJune 30, 2020 , compared to 1.31% atDecember 31, 2019 and 1.42% atJune 30, 2019 . Excluding PPP loans, which are fully guaranteed by the SBA, the allowance for loan losses to total loan ratio was 1.58% atJune 30, 2020 . Non-performing assets to total assets amounted to 0.53% atJune 30, 2020 , compared to 0.46% atDecember 31, 2019 and 0.39% atJune 30, 2019 . Excluding PPP loans, the non-performing assets to total assets ratio was 0.60% atJune 30, 2020 . The long-term impact of the pandemic on the credit quality of our loan portfolio cannot be reasonably estimated at this time. It will likely be influenced by a variety of factors including the depth and duration of the economic contraction and the extent of financial support and fiscal stimulus by theU.S. government. We will continue to closely monitor the effect on credit quality across all industry sectors in our diversified loan portfolio as the results unfold in future quarters. Management has been proactive with customers since the onset of the pandemic and granted short term payment deferrals to those requesting financial assistance as a result of the pandemic's impact. As ofJune 30, 2020 , short term payment deferrals were granted on 1,130 loans amounting to$594.8 million , or 22% of the Company's loan portfolio, excluding PPP loans. Management is closely monitoring loans on deferral and estimates that approximately 75% of these loans will return to payment status after the initial three-month period has expired. The remaining loans on deferral are expected to be given another three-month deferral period. These loans continue to accrue interest in accordance with their initial terms.
Financial Strength & Stability
The Bank is designated as "well capitalized" by theFederal Deposit Insurance Corporation ("FDIC") and has collateralized lines of credit at both theFederal Home Loan Bank ("FHLB") and theFederal Reserve Bank of Boston ("FRB"). We also have access to the PPP Liquidity Facility ("PPPLF") established by the FRB. The Company had no PPPLF borrowings outstanding or loans pledged to the PPPLF atJune 30, 2020 . Any PPP loans pledged as collateral for the PPPLF would be excluded from average assets used in the leverage ratio calculation. The$505.6 million in PPP loans are fully guaranteed by the SBA and have no impact on our risk-based capital ratios. OnJuly 7, 2020 , the Company also completed a private placement with registration rights of$60.0 million in fixed-to-floating rate subordinated notes. The notes, with an initial fixed rate of 5.25%, are due in 2030 and redeemable at the option of the Company beginning on or afterJuly 15, 2025 . After the July issuance, the par value of or total outstanding subordinated notes amounted to$75.0 million . We anticipate the additional capital will increase the Bank's total capital to risk-weighted assets ratio from 11.79% atJune 30, 2020 to 13.58% on a pro forma basis. For further information on the Bank's capital ratios, refer to "Capital Resources" below.
Accounting Implications
In the first quarter of 2020, the Company elected under the CARES Act to delay the adoption of CECL. The Company will be required to adopt CECL byDecember 31, 2020 . We anticipate the adoption of CECL will result in a reduction to retained earnings and may increase the provision for loan losses in the period of adoption. See Note 1, Item (e), "Recent Accounting Pronouncements" to the Company's unaudited consolidated interim financial statements in this Form 10-Q for information regarding CECL. The Company also suspended TDR accounting under the CARES Act beginning in the first quarter of 2020 for certain loan modifications. This election primarily impacts financial statement disclosure, for loans that have had a short-term payment deferral sinceMarch 1, 2020 as long as those loans were current and risk rated as "pass" as ofFebruary 29, 2020 . 46
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Table of Contents Composition of Earnings Throughout this Form 10-Q we have noted certain ratios or other measures of the Company's performance as having been adjusted to remove the impact of PPP loans. Such ratios and other measures are considered non-GAAP measures. See the non-GAAP table below which provides a reconciliation of the non-GAAP measures to the information presented underU.S. generally accepted accounting principles ("GAAP"). The Company's earnings are largely dependent on its net interest income, which is primarily the difference between interest earned on loans and investments and the cost of funding (primarily deposits and borrowings). Net interest income expressed as a percentage of average interest earning assets is referred to as net interest margin ("margin"). Margin presented on a tax equivalent basis by factoring in adjustments associated with interest income on tax exempt loans and investments is referred to as tax equivalent net interest margin ("T/E margin"). Net interest income for the three months endedJune 30, 2020 amounted to$32.5 million , an increase of$3.7 million , or 13%, compared to the three months endedJune 30, 2019 . Net interest income for the six months endedJune 30, 2020 amounted to$62.4 million , an increase of$5.6 million , or 10%, compared to the six months endedJune 30, 2019 . The increase in net interest income was due largely to interest-earning asset growth, primarily in loans, partially offset by a decline in T/E margin. The Company recognized$948 thousand in PPP interest income and$1.6 million in PPP fees, accreted to interest income, during the second quarter. Average loan balances increased$661.4 million , or 28%, for the three months endedJune 30, 2020 and$443.1 million , or 19%, for the six months endedJune 30, 2020 , compared to the same respective 2019 period averages. Excluding PPP loans, average loan balances increased$293.5 million , or 12%, and$259.1 million , or 11%, for the three and six months endedJune 30, 2020 , respectively, compared to the same respective 2019 period averages. T/E margin was 3.59%, 3.89%, and 3.96% for the three months endedJune 30, 2020 ,March 31, 2020 , andJune 30, 2019 , respectively. T/E margin was 3.73% and 3.97% for the six months endedJune 30, 2020 andJune 30, 2019 , respectively. Excluding PPP loans, T/E margin for the three and six months endedJune 30, 2020 was 3.68% and 3.78%, respectively. The lower margin results primarily reflect the significant decline in interest rates since the comparable periods resulting in interest-earning asset yields declining faster than the cost of funding. T/E margin for theJune 2020 quarter was also impacted by higher balances in lower-yielding short-term and overnight investments than the comparable periods. Interest-earning asset yields have been impacted by a 225 basis point decrease in the federal funds rate sinceJune 30, 2019 , with 150 basis points of that total decline occurring inMarch 2020 . Term interest rates have also fallen significantly over the respective periods and collectively these interest rate decreases have reduced yields on loans repricing, short-term and overnight investments and interest-earning asset growth. The Company funds these interest-earning assets principally through non-term customer deposits, which were less impacted by interest rate declines. The re-pricing frequency of the Company's assets and liabilities are not identical and therefore subject the Company to the risk of adverse changes in interest rates. This is often referred to as "interest-rate risk" and is reviewed in more detail in Part I, Item 3, "Quantitative and Qualitative Disclosures About Market Risk," of this Form 10-Q and in Item 7A, "Quantitative and Qualitative Disclosures About Market Risk," of the Company's 2019 Annual Report on Form 10-K. For the three months endedJune 30, 2020 , the provision for loan losses amounted to$2.7 million , compared to$955 thousand for the three months endedJune 30, 2019 . The provision for the quarter endedJune 30, 2020 consisted of$1.9 million in general reserve factor increases related primarily to economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio and$800 thousand related to classified and impaired loans. For the six months endedJune 30, 2020 , the provision for loan losses amounted to$8.8 million , compared to$555 thousand for the six months endedJune 30, 2019 . The provision for the six months endedJune 30, 2020 consisted of$5.2 million in general reserve factor increases primarily related to economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio,$2.3 million related to classified and impaired loans and$1.3 million related to loan growth and other factors. The provisions for the 2019 periods were impacted by generally positive credit metrics, partially offset by the impact of loan growth. Non-interest income for the three months endedJune 30, 2020 amounted to$4.0 million , a decrease of$30 thousand , or 1%, compared to the three months endedJune 30, 2019 . Quarter-to-date non-interest income decreased in 2020 due primarily to decreases in deposit and interchange fees as well as net gains on sales of securities, partially offset by net gains on sales of loans. Non-interest income for the six months endedJune 30, 2020 amounted to$8.2 million , an increase of$332 thousand , or 47
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4%, compared to the six months endedJune 30, 2019 . Year-to-date non-interest income increased in 2020 due primarily to increases in net gains on sales of loans. Year-to-date other non-interest income decreased mainly due to decreases in equity investment fair values, partially offset by derivative fee income. Non-interest expense for the three months endedJune 30, 2020 , amounted to$24.3 million , an increase of$2.6 million , or 12%, compared to the three months endedJune 30, 2019 . Non-interest expense for the six months endedJune 30, 2020 , amounted to$47.0 million , an increase of$4.4 million , or 10%, compared to the six months endedJune 30, 2019 . Increases in non-interest expense in 2020 related primarily to the Company's strategic growth initiatives, particularly salaries and employee benefits, and to a lesser extent technology and telecommunications expenses. Salaries and employee benefits expense also included costs related to the PPP effort and the pandemic. Sources and Uses of Funds The Company's primary sources of funds are customer deposits, FHLB borrowings, current earnings and proceeds from the sales, maturities and pay-downs on loans and investment securities. The Company may also, from time to time, utilize brokered deposits, overnight borrowings from correspondent banks and borrowings from the FRB. Additionally, funding for the Company may be generated through equity transactions, including the dividend reinvestment and direct stock purchase plan or exercise of stock options, and occasionally the issuance of debt securities or common stock. The Company's sources of funds are intended to be used to conduct operations and to support growth, by funding loans and investing in securities, to expand the branch network, and to pay dividends to stockholders. The investment portfolio is used primarily used to provide liquidity, manage the Company's asset-liability position and to invest excess funds providing additional sources of revenue. Total investments, a component of interest-earning assets, amounted to$508.3 million atJune 30, 2020 , consistent withDecember 31, 2019 balances, and comprised 13% and 16%, of total assets atJune 30, 2020 andDecember 31, 2019 , respectively. Enterprise's main asset strategy is to grow loans, the largest component of interest-earning assets, with a focus on high quality commercial lending relationships. Total loans, comprising 79% of total assets at bothJune 30, 2020 andDecember 31, 2019 , amounted to$3.18 billion atJune 30, 2020 , compared to$2.57 billion atDecember 31, 2019 , an increase of$610.7 million , or 24%, due largely to PPP loan growth. Excluding PPP loans, total loans have increased$120.5 million , or 5%, sinceDecember 31, 2019 . Total commercial loans amounted to$2.84 billion , or 89% of gross loans, atJune 30, 2020 , compared to 86% atDecember 31, 2019 . Excluding PPP loans, total commercial loans amounted to$2.33 billion , or 87% of gross loans, atJune 30, 2020 . Management's preferred strategy for funding asset growth is to grow relationship-based customer deposit balances, preferably comprised of non-interest checking accounts, interest-bearing checking accounts and traditional savings accounts. Asset growth in excess of transactional deposits is typically funded through non-transactional deposits (comprised of money market accounts, commercial tiered rate or "investment savings" accounts and term CDs) and wholesale funding (brokered deposits and borrowed funds). AtJune 30, 2020 , customer deposits (total deposits excluding brokered deposits) amounted to$3.57 billion , or 89% of total assets, compared to$2.79 billion , or 86% of total assets, atDecember 31, 2019 . SinceDecember 31, 2019 , customer deposits increased$786.4 million , or 28%, primarily in checking accounts, and to a lesser extent money markets. Management believes this deposit growth was due in large part to PPP loan funds distributed to deposit accounts and customers generally maintaining higher account balances in response to the pandemic. See "Deposits" under "Financial Condition" contained in this Item 2 of this Form 10-Q for a further breakdown of deposit growth. Wholesale funding, which may be comprised of brokered deposits and FHLB advances, amounted to$79.2 million atJune 30, 2020 , compared to$96.2 million atDecember 31, 2019 , a decrease of$17.0 million , or 18%. AtJune 30, 2020 , wholesale funding was comprised primarily of brokered deposits, while atDecember 31, 2019 , it was principally overnight FHLB advances. See "Borrowed Funds," "Wholesale Funding," and "Derivatives and Hedging Activities" under "Financial Condition" contained in this Item 2 of this Form 10-Q for additional information on the Company's borrowings and wholesale funding strategies atJune 30, 2020 .
On
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Non-GAAP Measures
The accompanying unaudited consolidated interim financial statements have been prepared in accordance with GAAP. Non-GAAP measures are intended to provide the reader with additional supplemental perspectives on operating results, performance trends, and financial condition. Non-GAAP financial measures are not a substitute for GAAP measures; they should be read and used in conjunction with the Company's GAAP financial information. Certain non-GAAP measures provided in this Management Discussion and Analysis exclude the outstanding balance of PPP loans that the Company began originating inApril 2020 and which are expected to be short-term in nature. The Company normalized for this activity in order to provide a more meaningful comparison to prior periods. The following tables summarize the reconciliation of GAAP items to non-GAAP items (1): (Dollars in thousands) June 30, 2020 Total loans (GAAP)$ 3,176,142 Adjustment: PPP loans (505,557 ) Adjustment: Deferred PPP fees 15,398 Total loans (non-GAAP)$ 2,685,983 Total assets (GAAP)$ 4,037,229 Adjustment: PPP loans (505,557 ) Adjustment: Deferred PPP fees 15,398 Total assets (non-GAAP)$ 3,547,070 Three months ended Six months ended (Dollars in thousands) June 30, 2020 June 30, 2020 Total average loans (GAAP) (2)$ 3,056,052 $ 2,826,991 Adjustment: Average PPP loans (376,727 ) (188,364 ) Adjustment: Average deferred PPP fees 8,867 4,433 Total average loans (non-GAAP) (2)$ 2,688,192
Net interest margin (tax equivalent) (GAAP) 3.59 % 3.73 % Adjustment: PPP effect (1) 0.09 % 0.05 % Net interest margin (tax equivalent) (non-GAAP) 3.68 % 3.78 %
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(1) PPP loan adjustments include an elimination of PPP loans, net of deferred PPP fees, as well as interest income on PPP loans and related PPP fee accretion, included in interest income. Month end and average balances were adjusted as applicable.
(2) Total average loans include loans held for sale.
Culture and Organic Growth Strategy
Management's present priorities continue to be the safety and wellness of our team members and customers and on managing through the pandemic and its economic impact. Looking beyond the pandemic, management is focused on long-term strategic growth initiatives, including investments in employee hiring and training and development, fostering diversity and inclusion, cultivating strong community relationships in all markets that we serve, loan growth funded by customer deposits, technology and digital transformation, and branch evolution and expansion. The Company's business model is to provide a full range of diversified financial products and services through a highly-trained team of knowledgeable banking professionals, who have an in-depth understanding of our markets and a commitment to open and honest communication with clients. Management believes the Company has differentiated itself from the competition by building a strong reputation within the local market as a customer-centric, community rooted, and commercially focused community bank, offering robust product and service lines, including commercial lending, cash management, wealth 49
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management and trust services and commercial insurance, delivered by a knowledgeable and dedicated team of community bankers through traditional in-person service and multiple digital delivery channels offering 24/7 remote banking capabilities.
The Company's banking professionals are dedicated to upholding the Company's core values, including significant and active involvement in many charitable and civic organizations, and community development programs throughout our service area. This long-held commitment to community not only contributes to the welfare of the communities we serve, it also helps to fuel the local economy, creating new businesses and jobs, and has led to a strong referral network with local businesses, non-profit organizations and community leaders. As we face the current period of unprecedented and unpredictable economic uncertainty, management is committed to utilizing its disciplined and reliable credit management approach, which has served to provide consistent quality asset growth over varying economic cycles during the Company's history. The Company's loan growth initiatives are executed through strong business development and referral efforts, by a seasoned lending team possessing a broad breadth of business acumen and lending experience, supported by a highly qualified and experienced commercial credit review function. The Company has an ongoing commitment to use scalable technology and digitization to continually improve the customer experience and internal efficiencies and productivity. As part of the Company's multi-year digital evolution strategy, new technology-driven products, services, delivery channels, and process automation are continually introduced. These investments proved invaluable in keeping our business operating efficiently and effectively for our customers as social distancing and non-essential business shut down orders were issued in early March by local and state government authorities. Branch evolution includes enhancing our highly-personalized customer interactions, updating technology and delivery methods, and ongoing facility improvements and renovations. New and renovated branches exhibit a modern, open-concept lobby with advanced technology. These branches are supported by our "Universal Bankers," who are crossed-trained to fully serve customer needs, and have on-site commercial lenders. The Company also continually looks to develop new branch locations within, and to complement, our existing footprint. InMarch 2020 , Enterprise opened its newLexington, Massachusetts location. Additionally, the Company is also in the process of establishing a branch office inNorth Andover, Massachusetts and anticipates that this location will open in late 2020 or early 2021. The opening is subject to postponement until health concerns and social distancing requirements inMassachusetts begin to normalize. While management recognizes that such investments increase expenses in the short term, Enterprise believes that such initiatives are a critical investment in the long-term growth and earnings potential of the Company and will help the Company to capitalize on current opportunities in the marketplace for community banks such as Enterprise. However, lower than expected returns on these investments, such as slower than anticipated loan and deposit growth in new branches, a delay in the time line for such initiatives due to the current pandemic, or other reasons, and/or lower than expected adoption rates or income generated from new technology or initiatives, could decrease anticipated revenues and net income on such investments in the future. Financial Condition Total assets increased$802.2 million , or 25%, sinceDecember 31, 2019 to$4.04 billion atJune 30, 2020 . Excluding PPP loans, total assets have increased$312.0 million , or 10%, sinceDecember 31, 2019 . The balance sheet composition and changes sinceDecember 31, 2019 are discussed below.
Cash and cash equivalents
Cash and cash equivalents may be comprised of cash on hand and cash items due from banks, interest-earning deposits (deposit accounts, excess reserve cash balances, money markets, and money market mutual funds accounts) and federal funds sold ("fed funds"). Cash and cash equivalents increased$191.0 million sinceDecember 31, 2019 . AtJune 30, 2020 , cash and cash equivalents amounted to 6% of total assets, compared to 2% of total assets atDecember 31, 2019 . While balances in cash and cash equivalents will fluctuate due primarily to the timing of net cash flows from deposits, borrowings, loans and investments, and the immediate liquidity needs of the Company, management believes customers are generally maintaining higher liquidity in response to the pandemic and have increased cash balances sinceDecember 31, 2019 .
Investments
At
50
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sinceDecember 31, 2019 balance. The investment portfolio represented 13% and 16% of total assets atJune 30, 2020 andDecember 31, 2019 , respectively. As ofJune 30, 2020 , andDecember 31, 2019 , the investment portfolio was comprised primarily of debt securities, with a small portion of the portfolio invested in equity securities. See also Note 2, "Investment Securities ," and Note 14, "Fair Value Measurements," to the Company's unaudited consolidated interim financial statements contained in Item 1 in this Form 10-Q above for further information regarding the Company's unrealized gains and losses on debt securities, including information about investments in an unrealized loss position for which impairment has or has not been recognized, and investments pledged as collateral, as well as the Company's fair value measurements for investments.
The following table summarizes the fair value of debt securities at the dates indicated: June 30, December 31, June 30, 2020 2019 2019 (Dollars in thousands) Amount Percent Amount Percent Amount Percent Federal agency obligations(1)$ 1,001 0.2 %$ 1,004 0.2 %$ 1,005 0.2 % Residential federal agency MBS(1) 186,102 36.7 % 192,658 38.2 % 172,738 37.1 % Commercial federal agency MBS(1) 117,465 23.1 % 114,635 22.7 % 117,011 25.1 % Municipal securities taxable 91,929 18.1 % 81,687 16.2 % 59,749 12.8 % Municipal securities tax exempt 96,933 19.1 % 100,038 19.8 % 100,108 21.5 % Corporate bonds 13,790 2.7 % 14,311 2.8 % 14,383 3.1 % CDs(2) 454 0.1 % 455 0.1 % 950 0.2 % Total debt securities$ 507,674 100.0 %$ 504,788 100.0 %$ 465,944 100.0 %
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(1) These categories may include investments issued or guaranteed by
government sponsored enterprises such as Fannie Mae ("FNMA"), Freddie Mac
("FHLMC"),
Home Loan Banks, as well as, investments guaranteed byGinnie Mae ("GNMA"), a wholly-owned government entity. (2) CDs represent term deposits issued by banks that are subject toFDIC insurance and purchased on the open market. As of the dates reflected in the tables above, the majority of investments in the residential and commercial federal agency MBS categories were collateralized mortgage obligations ("CMOs") issued byU.S. agencies. The remaining MBS investments totaled$23.0 million ,$23.5 million , and$23.7 million atJune 30, 2020 December 31, 2019 andJune 30, 2019 , respectively. During the six months endedJune 30, 2020 , the Company purchased$15.7 million in debt securities. The Company had principal pay downs, calls and maturities totaling$27.3 million during the six months endedJune 30, 2020 . During the six months endedJune 30, 2020 , management sold debt securities with an amortized cost of approximately$2.5 million realizing net gains on sales of$100 thousand . Net unrealized gains on the debt securities portfolio amounted to$31.2 million atJune 30, 2020 , compared to net unrealized gains of$13.5 million atDecember 31, 2019 and net unrealized gains of$12.7 million atJune 30, 2019 . The Company attributes the large increase in net unrealized gains as compared toDecember 31, 2019 to significant decreases in market yields. Unrealized gains or losses on debt securities are carried on the Consolidated Balance Sheet and will be recognized in the Consolidated Statements of Income if the investments are sold. Should an investment be deemed OTTI, the Company is required to write-down the fair value of the investment. See Note 1, "Summary of Significant Accounting Policies," under Item (e), "Investments," to the Company's audited consolidated financial statements contained in the Company's 2019 Annual Report on Form 10-K for additional information on accounting for OTTI. For more information about the Company's assessment for OTTI, see Note 2, "Investment Securities ," to the Company's audited consolidated financial statements contained in the Company's 2019 Annual Report on Form 10-K. 51
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Table of ContentsEquity Securities The Company held equity securities with a fair value of$654 thousand atJune 30, 2020 ,$467 thousand atDecember 31, 2019 , and$2.4 million atJune 30, 2019 . During the six months endedJune 30, 2020 , the Company recorded net losses on equity securities in the Consolidated Statements of Income of$132 thousand , compared to net gains of$263 thousand for the six months endedJune 30, 2019 , due in both periods primarily to fair market value adjustments stemming from fluctuations in market prices of securities held. The amount recognized related to equity securities in "Other income" is dependent primarily on the amount of dollars invested in equities and the magnitude of changes in equity market values.
Federal Home Loan
The Bank is required to purchase stock of the FHLB at par value in association with advances from the FHLB; this stock is classified as a restricted investment and carried at cost, which management believes approximates fair value. The Company's investment in FHLB stock was$2.0 million atJune 30, 2020 ,$4.5 million atDecember 31, 2019 and$1.6 million atJune 30, 2019 . See Note 1, "Summary of Significant Accounting Policies," under the section "Restricted Cash and Investments," in Item (c), "Accounting Policies," to the Company's unaudited consolidated interim financial statements contained in Item 1 above for further information regarding the Company's investment in FHLB stock.
Loans
Total loans represented 79% of total assets atJune 30, 2020 andDecember 31, 2019 . Total loans increased$610.7 million , or 24%, compared toDecember 31, 2019 , and increased$762.0 million , or 32%, sinceJune 30, 2019 . The mix of loans within the portfolio remained relatively unchanged with commercial loans amounting to approximately 89% of gross loans (87% excluding PPP loans) atJune 30, 2020 . PPP loan production, which began inApril 2020 , accounted for$505.6 million in growth throughJune 30, 2020 .
The following table sets forth the loan balances by certain loan categories at the dates indicated and the percentage of each category to gross loans:
June 30, 2020 December 31, 2019 June 30, 2019
(Dollars in thousands) Amount Percent Amount Percent Amount Percent
Commercial real estate
54.3 %$ 1,294,509 53.6 % Commercial and industrial 454,455 14.2 % 501,227 19.5 % 514,402 21.3 % Commercial construction 404,008 12.7 % 317,477 12.4 % 264,484 10.9 % SBA PPP loans 505,557 15.8 % - - % - - % Total commercial loans 2,835,606 88.8 % 2,212,883 86.2 % 2,073,395 85.8 % Residential mortgages 261,786 8.2 % 247,373 9.6 % 235,392 9.7 % Home equity 88,157 2.7 % 98,252 3.8 % 97,994 4.1 % Consumer 9,174 0.3 % 10,054 0.4 % 10,208 0.4 % Total retail loans 359,117 11.2 % 355,679 13.8 % 343,594 14.2 % Gross loans 3,194,723 100.0 % 2,568,562 100.0 % 2,416,989 100.0 % Deferred fees, net (3,183 ) (3,103 ) (2,887 ) Deferred PPP fees (15,398 ) - - Total loans 3,176,142 2,565,459 2,414,102 Allowance for loan losses (42,324 ) (33,614 ) (34,351 ) Net loans$ 3,133,818 $ 2,531,845 $ 2,379,751 As ofJune 30, 2020 , commercial real estate loans increased$77.4 million , or 6%, compared toDecember 31, 2019 , and increased$177.1 million , or 14%, compared toJune 30, 2019 . Commercial real estate loans are typically secured by a variety of owner-use and non-owner occupied (investor) commercial and industrial property types including one-to-four and multi- 52
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family apartment buildings, office, industrial or mixed-use facilities, strip shopping centers or other commercial properties and are generally guaranteed by the principals of the borrower. As ofJune 30, 2020 , commercial and industrial loan balances decreased by$46.8 million , or 9%, compared toDecember 31, 2019 and decreased$59.9 million , or 12%, compared toJune 30, 2019 . The decrease reflects a decline in line utilization on revolving lines as business customers made use of alternative government sponsored funding sources and declines in business activity in response to the pandemic, as well as general paydowns, maturities and reduction in originations. These loans include seasonal and formula-based revolving lines of credit, working capital loans, equipment financing, and term loans. Also included in commercial and industrial loans are loans partially guaranteed by the SBA under various long-established programs (see below regarding the SBA PPP loan portfolio). Commercial and industrial credits may be unsecured loans and lines to financially strong borrowers, loans secured in whole or in part by real estate unrelated to the principal purpose of the loan or secured by inventories, equipment, or receivables, and are generally guaranteed by the principals of the borrower. Commercial construction loans increased by$86.5 million , or 27%, sinceDecember 31, 2019 , and increased$139.5 million , or 53%, compared toJune 30, 2019 . Commercial construction loans include the development of residential housing and condominium projects, the development of commercial and industrial use property and loans for the purchase and improvement of raw land. These loans are secured in whole or in part by underlying real estate collateral and are generally guaranteed by the principals of the borrowers. In many cases, these loans move into the permanent commercial real estate portfolio when the construction phase is completed. The increases sinceDecember 31, 2019 andJune 30, 2019 were due primarily to active local construction markets fueled by strong demand for residential and multi-family housing and increased commercial development activity. As previously noted in the "Overview" of this "Management's Discussion and Analysis of Financial Condition and Results of Operations," the PPP was established by the CARES Act and implemented by the SBA. The PPP began in early April and the deadline for submission of PPP loan applications is currentlyAugust 8, 2020 . PPP loans may be partially or fully forgiven by the SBA if certain criteria are met. The PPP loans will carry an interest rate of 1% to be paid by either the SBA, in the event of forgiveness, or by the borrower for the term of the loan, which may be either 2 or 5 years. Payments for PPP loans are deferred until the SBA issues a forgiveness decision or ten months after the end of the forgiveness period if the borrower fails to apply for forgiveness.
Total retail loan balances increased by
AtJune 30, 2020 , commercial loan balances participated out to various banks amounted to$78.0 million , compared to$80.2 million atDecember 31, 2019 , and$70.0 million atJune 30, 2019 . These balances participated out to other institutions are not carried as assets on the Company's financial statements. Commercial loans originated by other banks in which the Company is a participating institution are carried at the pro-rata share of ownership and amounted to$102.5 million ,$104.3 million and$69.0 million atJune 30, 2020 ,December 31, 2019 , andJune 30, 2019 , respectively. In each case, the participating bank funds a percentage of the loan commitment and takes on the related pro-rata risk. The rights and obligations of each participating bank are divided proportionately among the participating banks in an amount equal to their share of ownership and with equal priority among all banks. Each participation is governed by individual participation agreements executed by the lead bank and the participant at loan origination. Participating loans with other institutions provide banks the opportunity to retain customer relationships and reduce credit risk exposure among each participating bank, while providing customers with larger credit vehicles than the individual bank might be willing or able to offer independently. See Note 3, "Loans," to the Company's unaudited consolidated interim financial statements contained in Item 1 of this Form 10-Q for information on loans serviced for others and loans pledged as collateral.
Credit Risk
Inherent in the lending process is the risk of loss due to customer non-payment, or "credit risk." The Company's commercial lending focus may entail significant additional credit risks compared to long-term financing on existing, owner-occupied residential real estate. The Company seeks to lessen its credit risk exposure by managing its loan portfolio to avoid concentration by industry, relationship size, and source of repayment, and through sound underwriting practices and the credit risk management function; however, management recognizes that loan losses will occur and that the amount of these losses will fluctuate depending on the risk characteristics of the loan portfolio and economic conditions. 53
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Non-performing assets are comprised of non-accrual loans and OREO. The designation of a loan or other asset as non-performing does not necessarily indicate that loan principal and interest will ultimately be uncollectible. However, management recognizes the greater risk characteristics of these assets and therefore considers the potential risk of loss on assets included in this category in evaluating the adequacy of the allowance for loan losses. The level of delinquent and non-performing assets is largely a function of economic conditions and the overall banking environment and the individual business circumstances of borrowers. Despite prudent loan underwriting, adverse changes within the Company's market area, or deterioration in local, regional or national economic conditions, could negatively impact the Company's level of non-performing assets in the future. Section 4013 of the CARES Act provides financial institutions the option to suspend TDR accounting under GAAP in certain circumstances, during the period beginningMarch 1, 2020 , and ending on the earlier of (i)December 31, 2020 , or (ii) the date that is 60 days after the date on which the national emergency concerning the pandemic declared under the National Emergencies Act terminates. The Company has elected to suspend TDR accounting, which impacts primarily financial statement disclosure, for loans that have had a short-term payment deferral related to the pandemic, as long as those loans were current and risk rated as "pass" as ofFebruary 29, 2020 . Management has been proactive with customers since the onset of the pandemic and granted short term payment deferrals to those requesting financial assistance. As ofJune 30, 2020 , short term payment deferrals were granted on 1,130 loans amounting to$594.8 million , or 22% of the Company's loan portfolio, excluding PPP loans. Management is closely monitoring loans on deferral and estimates that approximately 75% of these loans will return to payment status after the initial three-month period has expired. The remaining loans on deferral are expected to be given another three-month deferral period. These loans continue to accrue interest in accordance with their initial terms.
The following table provides information on loans with short-term payment
deferrals as of
Deferred Average balance Gross loan Segment % of Deferred deferred to gross (Dollars in thousands) balance Gross loans balance balance loans(1) Commercial real estate$ 1,471,586 46.1 %$ 420,466 $ 754 15.6 % Commercial and industrial 454,455 14.2 % 94,862 196 3.5 % Commercial construction 404,008 12.7 % 55,306 1,975 2.1 % SBA PPP loans 505,557 15.8 % - - - % Residential mortgages 261,786 8.2 % 21,701 482 0.8 % Home equity 88,157 2.7 % 2,468 224 0.1 % Consumer 9,174 0.3 % 43 14 - % Total$ 3,194,723 100.0 %$ 594,846 $ 526 22.1 %
(1) Gross loans excluding PPP loans
Approximately 84% of the loan balances with short-term payment deferrals, included in commercial real estate, commercial construction, residential mortgages and home equity loans in the table above, are secured primarily by real estate. Commercial and industrial loans with short-term payment deferrals are not secured primarily by real estate, but consist generally of smaller balances. AtJune 30, 2020 , the average loan size for commercial and industrial loans with a short-term payment deferral was$196 thousand . Based on management's review of the loan portfolio and underlying credits, the industries the Company considers generally to be most At-Risk from the impact of the pandemic are: retail trade, non-owner occupied - retail property, restaurants and hotels, and fitness centers. Collectively, these industries amounted to 13% of total gross loans (excluding PPP loans) atJune 30, 2020 , and comprised 28% of the total deferred balance. 54
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The following table provides information on balances as of
Deferred Industry Total balance to Industry gross to gross deferred total (Dollars in thousands) loan balance loans(1) balance industry Retail trade$ 114,332 4.3 %$ 26,295 23 % Non-owner occupied - retail leasing 105,562 3.9 % 40,156 38 % Restaurants 67,418 2.5 % 46,696 69 % Hotels 34,624 1.3 % 24,601 71 % Fitness centers 33,441 1.2 % 28,215 84 % Total$ 355,377 13.2 %$ 165,963
(1) Gross loans excluding PPP loans
Of these At-Risk industries, hotels, restaurants, and fitness centers are experiencing the largest deferrals as a percentage of industry balance with a combined 73% of the total industry balance on deferral. However, in total these three industries amount to only 5% of total gross loans (excluding PPP loans) and 17% of the total deferred balance. Management is closely monitoring all deferrals and notes that the loans are generally secured by real estate, usually have personal guarantees and typically are managed by experienced operators. The Company will continue to closely monitor the effect on credit quality across all industry sectors in our diversified loan portfolio as the results of the pandemic unfold in future quarters. The credit quality of our loans could be further impacted and additional provisions may be necessary. 55
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Asset Quality
The following table sets forth information regarding non-performing assets, TDR loans and delinquent loans 60-89 days past due as to interest or principal, held by the Company at the dates indicated: (Dollars in thousands) June 30, 2020 December 31, 2019 June 30, 2019 Non-accrual loan summary: Commercial real estate$ 8,789 $ 8,280$ 6,602 Commercial and industrial 5,549 3,285 4,049 Commercial construction 5,801 1,735 123 SBA PPP loans - - - Residential 473 411 745 Home equity 705 1,040 432 Consumer 18 20 27 Total non-accrual loans 21,335 14,771 11,978 OREO - - 255 Total non-performing assets$ 21,335 $ 14,771$ 12,233 Total loans$ 3,176,142 $ 2,565,459 $ 2,414,102 Accruing TDR loans not included above$ 12,182 $ 17,103$ 19,091 Delinquent loans 60-89 days past due and still accruing$ 2,036 $ 7,776$ 1,000 Loans 60-89 days past due and still accruing to total loans 0.06 % 0.30 % 0.04 % Adversely classified loans to total loans 1.29 % 1.45 % 1.42 % Non-performing loans to total loans 0.67 % 0.58 % 0.50 % Non-performing assets to total assets 0.53 % 0.46 % 0.39 % Allowance for loan losses$ 42,324 $ 33,614$ 34,351 Allowance for loan losses to non-performing loans 198.38 % 227.57 % 286.78 % Allowance for loan losses to total loans 1.33 % 1.31 % 1.42 % The provision for loan losses for the quarter endedJune 30, 2020 included an allocation of$1.9 million in general reserve factor increases related primarily to economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio. The provision for the second quarter of 2020 is discussed further under the heading "Results of Operations." Excluding the PPP loans, which are fully guaranteed by the SBA, the allowance for loan losses to total loan ratio was 1.58% atJune 30, 2020 . The majority of non-accrual loans were also carried as adversely classified during the periods. AtJune 30, 2020 andDecember 31, 2019 , the Company had adversely classified loans (loans carrying "substandard," "doubtful" or "loss" classifications) amounting to$41.0 million and$37.1 million , respectively. Total adversely classified loans amounted to 1.29% of total loans atJune 30, 2020 , compared to 1.45% atDecember 31, 2019 . Adversely classified loans that were performing but possessed potential weaknesses and, as a result, could ultimately become non-performing loans amounted to$19.8 million atJune 30, 2020 and$22.4 million atDecember 31, 2019 . The remaining balances of adversely classified loans were non-accrual loans, amounting to$21.3 million atJune 30, 2020 and$14.7 million atDecember 31, 2019 . Non-accrual loans that were not adversely classified amounted to$58 thousand and$84 thousand atJune 30, 2020 andDecember 31, 2019 , respectively, and primarily represented the guaranteed portions of non-performing SBA loans. The increase in non-performing loans since atJune 30, 2020 , was due primarily to commercial relationships which reached non-accrual status and were credit downgraded due to their unique individual circumstances. These individual downgrades are not considered an indication of general credit weakness in the entire commercial portfolio and consisted of one commercial and industrial loan (in the amount of$2.3 million ) and three unrelated commercial construction loans (amounting to$4.6 million in the aggregate); three of these relationships were also newly added to "Impaired" status during the period. Management continues to closely monitor these relationships and the underlying business fundamentals on ongoing construction projects and 56
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is in regular communication with the related entity's management teams. These efforts will allow us to quantify our exposure and apply the results to determine a reasonable provision for loan losses.
Total impaired loans amounted to$33.5 million and$31.9 million atJune 30, 2020 andDecember 31, 2019 , respectively. Total accruing impaired loans amounted to$12.2 million and$17.1 million atJune 30, 2020 andDecember 31, 2019 , respectively, while non-accrual impaired loans amounted to$21.3 million and$14.8 million as ofJune 30, 2020 andDecember 31, 2019 , respectively. In management's opinion, the majority of impaired loan balances atJune 30, 2020 andDecember 31, 2019 were supported by expected future cash flows or, for those collateral dependent loans, the net realizable value of the underlying collateral. Based on management's assessment atJune 30, 2020 , impaired loans totaling$27.0 million required no specific reserves and impaired loans totaling$6.5 million required specific reserve allocations of$3.9 million . AtDecember 31, 2019 , impaired loans totaling$29.5 million required no specific reserves and impaired loans totaling$2.4 million required specific reserve allocations of$1.0 million . The increase in specific reserves sinceDecember 31, 2019 was due primarily to the credit downgrade of two commercial relationships, for which management determined that the additional provisions were necessary based on a review of underlying collateral values, individual business circumstances, and credit metrics. Management closely monitors all impaired relationships for the individual business circumstances, and underlying collateral or credit deterioration to determine if additional reserves are necessary. Total TDR loans included in the impaired loan amounts above as ofJune 30, 2020 andDecember 31, 2019 were$19.3 million and$21.1 million , respectively. TDR loans on accrual status amounted to$12.2 million and$17.1 million atJune 30, 2020 andDecember 31, 2019 , respectively. TDR loans included in non-performing loans amounted to$7.1 million atJune 30, 2020 and$4.0 million atDecember 31, 2019 . The Company continues to work with customers and enters into loan modifications (which may or may not be TDRs) to the extent deemed to be necessary or appropriate while attempting to achieve the best mutual outcome given the individual financial circumstances and prospects of the borrower.
Allowance for Loan Losses
As noted above, the Company has elected to delay the implementation of CECL, as allowed under the CARES Act, which allows entities to delay adoption until the earlier of: (1) the date on which the national emergency concerning the pandemic declared under the National Emergencies Act terminates; or (2)December 31, 2020 . Accordingly, the information that follows is under the incurred loss model. The allowance for loan losses is an estimate of probable credit loss inherent in the loan portfolio as of the specified balance sheet dates. On a quarterly basis, management prepares an estimate of the allowance necessary to cover estimated probable credit losses. The Company maintains the allowance at a level that it deems adequate to absorb all reasonably anticipated probable losses from specifically known and other probable credit risks associated with the portfolio. The Company maintains a robust credit risk management culture and may adjust policies, procedures and practices as circumstances warrant. There have been no material changes to the Company's underwriting practices, credit risk management system, or to the allowance assessment methodology used to estimate loan loss exposure but due to the economic uncertainty from the pandemic, management has strengthened risk management over new originations and existing credits. See Note 4, "Allowance for Loan Losses," to the Company's audited consolidated financial statements contained the 2019 Annual Report on Form 10-K. Management continues to closely monitor the necessary allowance levels, including specific reserves. The allowance for loan losses to total loans ratio was 1.33% atJune 30, 2020 , 1.31% atDecember 31, 2019 , and 1.42% atJune 30, 2019 . Excluding PPP loans, which are fully guaranteed by the SBA, the allowance for loan losses to total loan ratio was 1.58% atJune 30, 2020 . This increase atJune 30, 2020 compared to prior periods resulted from increases in general reserve factors, related primarily to economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio, and to additional reserves related to classified and impaired loans, and to loan growth and other factors. Based on the foregoing, as well as management's judgment as to the existing credit risks inherent in the loan portfolio, as discussed above under the headings "Credit Risk" and "Asset Quality," management believes that the Company's allowance for loan losses is adequate to absorb probable losses from specifically known and other probable credit risks associated with the portfolio as ofJune 30, 2020 . 57
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The following table summarizes the activity in the allowance for loan losses for the periods indicated: Six Months Ended June 30, (Dollars in thousands) 2020 2019 Balance at beginning of year$ 33,614 $ 33,849 Provision for loan losses 8,822 555 Recoveries on charged-off loans: Commercial real estate - - Commercial and industrial 174 456 Commercial construction - - SBA PPP loans - - Residential mortgages - - Home equity 6 5 Consumer 25 13 Total recovered 205 474 Charged-off loans Commercial real estate - - Commercial and industrial 299 459 Commercial construction - - SBA PPP loans - - Residential mortgages - - Home equity - - Consumer 18 68 Total charged-off 317 527 Net loans charged-off 112 53 Ending balance $
42,324
- % See Note 4, "Allowance for Loan Losses," to the Company's unaudited consolidated interim financial statements, contained in Item 1 in this Form 10-Q, for further information regarding the allowance for loan losses and credit quality.
Other real estate owned ("OREO")
The Company had no OREO atJune 30, 2020 orDecember 31, 2019 , and the OREO carrying value atJune 30, 2019 was$255 thousand . There were no OREO additions during the six months endedJune 30, 2020 and one addition during the six months endedJune 30, 2019 . There were no sales or subsequent write downs of OREO during the six months endedJune 30, 2020 or 2019. 58
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Deposits
Total deposits as a percentage of total assets were 90% at
The following table sets forth the deposit balances by certain categories at the dates indicated and the percentage of each category to total deposits:
June 30, 2020 December 31, 2019 June 30, 2019 (Dollars in thousands) Amount Percent Amount Percent Amount Percent Non-interest checking$ 1,282,535 35.2 %$ 794,583 28.5 %$ 822,455 29.1 % Interest-bearing checking 540,735 14.8 % 467,988 16.8 % 496,828 17.6 % Total checking 1,823,270 50.0 % 1,262,571 45.3 % 1,319,283 46.7 % Savings 243,647 6.7 % 203,236 7.3 % 209,477 7.3 % Money markets 1,228,847 33.7 % 1,009,972 36.2 % 1,006,526 35.6 % Total savings/money markets 1,472,494 40.4 % 1,213,208 43.5 % 1,216,003 42.9 % CDs 277,347 7.6 % 310,951 11.2 % 294,862 10.4 % Total customer deposits 3,573,111 98.0 % 2,786,730 100.0 % 2,830,148 100.0 % Brokered deposits (1) 74,997 2.0 % - - % - - % Total deposits$ 3,648,108 100.0 %$ 2,786,730 100.0 %$ 2,830,148 100.0 %
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(1) Brokered CDs
As ofJune 30, 2020 , customer deposits increased$786.4 million , or 28%, sinceDecember 31, 2019 , and$743.0 million , or 26%, sinceJune 30, 2019 . SinceDecember 31, 2019 , the largest growth occurred in checking accounts and to a lesser extent money markets. Deposit growth has been positively and significantly impacted by the PPP, stimulus checks and the ongoing pandemic as the PPP loan monies were distributed into deposit accounts and many customers are proactively building liquidity in response to the economic uncertainty caused by the pandemic. We anticipate that as customers spend down their PPP loan funds, this will result in a reduction in deposits. The Company offers its customers the ability to enhanceFDIC insurance coverage by electing to participate a portion of their deposit balance into nationwide deposit networks. The Company's total customer deposits reflect the equal and reciprocal deposits received from other banks' customers participating in the programs. Essentially, the equivalent of the original customers' deposited funds comes back to the Company and are carried within the appropriate category under total customer deposits. The Company's balances in these reciprocal products were$520.0 million ,$419.7 million and$412.0 million atJune 30, 2020 ,December 31, 2019 andJune 30, 2019 , respectively. Savings account are not eligible for this program. Management may, from time-to-time, utilize brokered deposits as cost effective wholesale funding sources to support continued loan growth. Brokered deposits may be comprised of non-reciprocal insured overnight or selected term funding gathered from nationwide bank networks or term deposits from large money center banks; however, atJune 30, 2020 the Company's$75.0 million in brokered deposits were comprised only of short-term brokered CDs. These brokered CDs are used in conjunction with cash flow hedge interest-rate swaps. See also "Wholesale Funding" below.
Borrowed Funds
The Company had borrowed funds outstanding, all of which are FHLB advances, of$4.2 million ,$96.2 million , and$484 thousand atJune 30, 2020 ,December 31, 2019 , andJune 30, 2019 , respectively. FHLB borrowings atJune 30, 2020 are related to specific lending projects under the FHLB's community development program. AtDecember 31, 2019 , borrowed funds, consisted primarily of overnight advances, with the remaining balance related to the specific lending projects noted above. AtJune 30, 2020 , the Bank had the capacity to borrow additional funds from the FHLB of up to approximately$575.0 million and the capacity to borrow from the FRB Discount Window of approximately$180.0 million . 59
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InApril 2020 , the Company established access to the PPPLF, which provides funding secured by PPP pledged loans. Advances issued under the PPPLF are non-recourse. The amount and term of an advance matches the amount and remaining term of the PPP loans pledged. Due to deposit growth in large part from customers depositing funds received from PPP loan advances and generally maintaining higher liquidity in response to the pandemic, the Company did not have any borrowings outstanding under the PPPLF atJune 30, 2020 . The Bank had the capacity to borrow approximately$505.6 million under the PPPLF atJune 30, 2020 . Wholesale Funding Wholesale funding includes brokered deposits and borrowed funds as discussed above. SinceDecember 31, 2019 , wholesale funding has decreased$17.0 million , or 18%. The following table sets forth the breakout of wholesale funding by composition at the dates indicated and the percentage of each category to total wholesale funding: June 30, 2020 December 31, 2019 June 30, 2019 (Dollars in thousands) Amount Percent Amount Percent Amount Percent Brokered deposits$ 74,997 94.7 % $ - - % $ - - % Borrowed funds 4,165 5.3 % 96,173 100.0 % 484 100.0 % Wholesale funding$ 79,162 100.0 %$ 96,173 100.0 %$ 484 100.0 %
The Company has the flexibility to use either brokered deposits or FHLB borrowings in conjunction with interest-rate swaps and in the second quarter, the Company shifted from FHLB borrowings to brokered CDs.
See "Liquidity," below, for additional information.
Subordinated Debt
The Company had outstanding subordinated debt of$14.9 million (net of deferred issuance costs) atJune 30, 2020 ,December 31, 2019 andJune 30, 2019 , which consisted of$15.0 million in aggregate principal amount of Fixed-to-Floating Rate Subordinated Notes issued inJanuary 2015 , in a private placement to an accredited investor. OnJuly 7, 2020 , the Company completed a private placement with registration rights of$60.0 million in fixed-to-floating rate subordinated notes. These notes, with an initial fixed rate of 5.25%, are due in 2030 and redeemable at the option of the Company beginning on or afterJuly 15, 2025 . See also Note 7, "Borrowed Funds and Subordinated Debt," to the Company's unaudited consolidated interim financial statements contained in Item 1 above in this Form 10-Q, for further information regarding the Company's subordinated debt. Derivatives and Hedging During the first quarter of 2020, the Company entered into three pay fixed, receive float interest rate swaps to hedge the variable cash flows associated with the Company's short-term wholesale funding to add stability to interest expense and to manage its exposure to interest rate movements. The combined notional value of these swaps, maturing in three to five years, was$75.0 million atJune 30, 2020 and the fair value carried as a liability on the Company's Consolidated Balance Sheet was$3.3 million . The Company also has a "Back-to-Back Swap" program whereby the Bank enters into an interest-rate swaps with qualified commercial banking customers and simultaneously enters into equal and opposite interest-rate swaps with a swap counterparty. The customer interest-rate swap agreement allows commercial banking customers to convert a floating-rate loan payment to a fixed-rate payment. The notional value of interest-rate swaps with customers increased to$38.9 million atJune 30, 2020 from$22.8 million atDecember 31, 2019 . The fair value of assets and corresponding liabilities associated with these swaps and carried on the Company's Consolidated Balance Sheets was$3.0 million atJune 30, 2020 compared to$625 thousand atDecember 31, 2019 . For further information on the Company's derivatives and hedging activities see Note 8, "Derivatives and Hedging Activities," to the Company's unaudited consolidated interim financial statements contained in Item 1 above in this Form 10-Q. 60
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Table of Contents Liquidity Liquidity is the ability to meet cash needs arising from, among other things, fluctuations in loans, investments, deposits and borrowings. Liquidity management is the coordination of activities so that cash needs are anticipated and met readily and efficiently. The Company's liquidity policies are set and monitored by the Company's Board of Directors ("the Board"). The duties and responsibilities related to asset-liability management matters are also covered by the Board. The Company's asset-liability objectives are to engage in sound balance sheet management strategies, maintain liquidity, provide and enhance access to a diverse and stable source of funds, provide competitively priced and attractive products to customers and conduct funding at a low-cost relative to current market conditions. Funds gathered are used to support current commitments, to fund earning asset growth, and to take advantage of selected leverage opportunities. The Company's liquidity is maintained by projecting cash needs, balancing maturing assets with maturing liabilities, monitoring various liquidity ratios, monitoring deposit flows, maintaining cash flow within the investment portfolio, and maintaining wholesale funding resources. AtJune 30, 2020 , the Company's wholesale funding sources included primarily borrowing capacity at the FHLB and brokered deposits. In addition, the Company maintains uncommitted overnight fed fund purchase arrangements with correspondent banks, has access to the FRB Discount Window and has access to the PPPLF, which provides funding secured by PPP pledged loans. Management believes that the Company has adequate liquidity to meet its obligations. However, if general economic conditions, the pandemic, or other events, cause these sources of external funding to become restricted or are eliminated, the Company may not be able to raise adequate funds or may incur substantially higher funding costs or operating restrictions in order to raise the necessary funds to support the Company's operations and growth. The Company has in the past also increased capital and liquidity by offering for sale shares of the Company's common stock and through the issuance of subordinated debt. OnJuly 7, 2020 , the Company completed a private placement with registration rights of$60.0 million in fixed-to-floating rate subordinated notes. See "Capital Resources," below for information on the Company's capital planning. Capital Resources
Capital Raised and Capital Adequacy Requirements
Capital planning by the Company and the Bank considers current needs and anticipated future growth. Ongoing sources of capital include the retention of earnings, less dividends paid, proceeds from the exercise of employee stock options and proceeds from purchases of shares pursuant to the Company's dividend reinvestment plan and direct stock purchase plan (together, the "DRSPP"). Additional sources of capital for the Company and the Bank have been proceeds from the issuance of the Company's common stock and subordinated debt. The Company believes its current capital is adequate to support ongoing operations. The Company is subject to the regulatory capital framework known as the "Basel III Rules." As ofJune 30, 2020 , the Company and the Bank met all capital adequacy requirements to which they were subject under Basel III. As ofJune 30, 2020 , the Company met the definition of "well-capitalized" under the applicableFederal Reserve Board regulations and the Bank qualified as "well capitalized" under the prompt corrective action regulations of Basel III and theFDIC . 61
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The Company's and the Bank's actual capital amounts and ratios as of
Minimum Capital Minimum Capital for Capital Adequacy To Be Actual Purposes(1) Well Capitalized(2) (Dollars in thousands) Amount Ratio Amount Ratio Amount Ratio The Company Total Capital (to risk weighted assets)$ 340,060 11.80 %$ 230,532 8.00 % N/A N/A Tier 1 Capital (to risk weighted assets)$ 289,083 10.03 %$ 172,899 6.00 % N/A N/A Tier 1 Capital (to average assets) or Leverage ratio$ 289,083 7.57 %$ 152,762 4.00 % N/A N/A Common equity tier 1 capital (to risk weighted assets)$ 289,083 10.03 %$ 129,674 4.50 % N/A N/A The Bank Total Capital (to risk weighted assets)$ 339,673 11.79 %$ 230,532 8.00 %$ 288,165 10.00 % Tier 1 Capital (to risk weighted assets)$ 303,575 10.53 %$ 172,899 6.00 %$ 230,532 8.00 % Tier 1 Capital (to average assets) or Leverage ratio$ 303,575 7.95 %$ 152,762 4.00 %$ 190,953 5.00 % Common equity tier 1 capital (to risk weighted assets)$ 303,575 10.53 %$ 129,674 4.50 %$ 187,307 6.50 %
_________________________________________
(1) Before application of the capital conservation buffer of 2.50%, see discussion below. (2) For the Bank to qualify as "well-capitalized," it must maintain at least the minimum ratios listed under the regulatory prompt corrective action framework. This framework does not apply to the Company. The Basel III capital ratio requirements include a "capital conservation buffer" of 2.50% above the regulatory minimum risk-based capital adequacy requirements shown above. If a banking organization dips into its capital conservation buffer it may be restricted in its activities, including its ability to pay dividends and discretionary bonus payments to its executive officers. Both the Company's and the Bank's actual ratios, as outlined in the table above, exceeded theBasel III risk-based capital requirement with the capital conservation buffer as ofJune 30, 2020 .
The Basel III minimum capital ratio requirements as applicable to the Company
and the Bank at
Basel III Basel III Basel III "Adequate" Minimum for Additional Ratio with Capital Capital Capital Adequacy Conservation Conservation Purposes Buffer Buffer Total Capital (to risk weighted assets) 8.00% 2.50%
10.50%
Tier 1 Capital (to risk weighted assets) 6.00% 2.50%
8.50%
Tier 1 Capital (to average assets) or Leverage ratio 4.00% -%
4.00%
Common equity tier 1 capital (to risk weighted assets) 4.50% 2.50% 7.00% In response to the pandemic, inApril 2020 , the Company participated in both the PPP loan program and the PPPLF borrowing program. PPP loans are fully guaranteed by the SBA and have no impact on our risk-based capital ratios. PPP loans pledged as collateral for the PPPLF are excluded from the average assets used in the leverage ratio calculation. There are no PPP loans pledged as collateral for the PPPLF as ofJune 30, 2020 . InMarch 2020 , the federal regulatory banking agencies issued an interagency interim final rule that allows banking institutions that implement CECL during 2020 to delay for two years the estimated impact of CECL on regulatory capital, followed by a three-year transition period. The Company is currently assessing its options at this time, and will make its election when it adopts CECL. Upon adoption of CECL, the Company estimates a reduction to retained earnings in the range of$1.0 to$3.0 million , net of tax, with an effective date ofJanuary 1, 2020 . OnJuly 7, 2020 , the Company completed a private placement with registration rights of$60.0 million in fixed-to-floating rate subordinated notes due 2030 and redeemable at the option of the Company on or afterJuly 15, 2025 .Enterprise Bank's pro 62
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forma capital ratios provided below reflect an anticipated$53.0 million capital investment from the Company related to theJuly 2020 subordinated debt issuance: Actual Pro forma June 30, June 30, Enterprise Bank 2020 2020 Total capital to risk weighted assets 11.79 % 13.58 % Tier 1 capital to risk weighted assets 10.53 % 12.33 % Tier 1 capital to average assets 7.95 % 9.21 %
Common equity tier 1 capital to risk weighted assets 10.53 % 12.33 %
DRSPP and Dividends The Company's DRSPP enables stockholders, at their discretion, to elect to reinvest cash dividends paid on their shares of the Company's common stock by purchasing additional shares of common stock from the Company at a purchase price equal to fair market value. Under the DRSPP, stockholders and new investors also have the opportunity to purchase shares of the Company's common stock without brokerage fees, subject to monthly minimums and maximums. For the six months endedJune 30, 2020 , the Company declared$4.2 million in cash dividends. Stockholders utilized the dividend reinvestment portion of the DRSPP to purchase an aggregate of 24,831 shares of the Company's common stock, totaling$608 thousand . The direct purchase component of the DRSPP was used by stockholders to purchase 1,424 shares of the Company's common stock, totaling$34 thousand , during the six months endedJune 30, 2020 .
On
For further information about the Company's capital, see Note 9 and Note 11, both titled "Stockholders' Equity," to the Company's unaudited consolidated interim financial statements contained in Item 1 of this Form 10-Q and to the Company's audited consolidated financial statements contained in the Company's 2019 Annual Report on Form 10-K, respectively. Assets Under Management Total assets under management include total assets, loans serviced for others and investment assets under management. Loans serviced for others and investment assets under management are not carried as assets on the Company's Consolidated Balance Sheet, and as such, total assets under management is not a financial measurement recognized under GAAP, however management believes its disclosure provides information useful in understanding the trends in total assets under management.
The Company provides a wide range of wealth management and wealth services, including brokerage, trust, and investment management. Also included in the investment assets under management total are customers' commercial sweep arrangements that are invested in third-party money market mutual funds.
As ofJune 30, 2020 , investment assets under management, which are reflected at fair market value, decreased$36.4 million , or 4%, sinceDecember 31, 2019 , and sinceJune 30, 2019 , balances have increased$23.0 million , or 3%. The decreases in investment assets under management sinceDecember 31, 2019 were driven primarily by the volatile financial markets stemming from the pandemic. SinceMarch 31, 2020 , investment assets under management have increased$87.0 million , or 11%, due primarily to asset growth from market appreciation.
As of
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The following table sets forth the value of assets under management and its components at the dates indicated:
June 30, December 31, June 30, (Dollars in thousands) 2020 2019 2019 Total assets$ 4,037,229 $ 3,235,049 $ 3,167,518 Loans serviced for others 93,823 95,905 86,677 Investment assets under management 880,211 916,623 857,187 Total assets under management$ 5,011,263 $ 4,247,577 $ 4,111,382 Results of Operations Three Months EndedJune 30, 2020 vs. Three Months EndedJune 30, 2019 Unless otherwise indicated, the reported results are for the three months endedJune 30, 2020 with the "same period," the "comparable period," and "prior period" being the three months endedJune 30, 2019 . Average yields are presented on an annualized tax equivalent basis.
The Company's net income for the second quarter of 2020 amounted to
The net income results for the quarter endedJune 30, 2020 compared to the prior year quarter results were impacted by PPP loan originations and the pandemic. The provision for loan losses increased as the Company added to general reserves to address the impact of the pandemic on the economy and the Company's loan portfolio. Net interest income increased mainly from loan growth and PPP loan related income, partially offset by a lower spread principally due to lower market interest rates. Operating expenses increased for the quarter endedJune 30, 2020 compared to the prior period, due primarily to the Company's strategic growth initiatives, and also from higher salary and benefit costs related to the pandemic, including our team members' PPP loan origination effort in the second quarter.
Net Interest Income and Margin
The Company's net interest income for the quarter endedJune 30, 2020 amounted to$32.5 million , compared to$28.8 million for the quarter endedJune 30, 2019 , an increase of$3.7 million , or 13%. The Company's margin was 3.55% for three months endedJune 30, 2020 , compared to 3.91% for the quarter endedJune 30, 2019 . Margin was 3.84% for the quarter endedMarch 31, 2020 . Tax equivalent net interest income for the three months endedJune 30, 2020 was$32.9 million compared to$29.2 million for the three months endedJune 30, 2019 , an increase of$3.7 million , or 13%. T/E margin was 3.59%, 3.89%, and 3.96% for the three months endedJune 30, 2020 ,March 31, 2020 , andJune 30, 2019 , respectively. Excluding PPP loans, T/E margin for the three months endedJune 30, 2020 was 3.68%. The increase in net interest income was due largely to interest-earning asset growth, primarily in loans, partially offset by a decline in T/E margin. The Company recognized$948 thousand in PPP interest income and$1.6 million in PPP fees, accreted to interest income, during the second quarter. The lower margin results primarily reflect the significant decline in interest rates since the comparable periods noted above resulting in interest-earning asset yields declining faster than the cost of funding. Interest-earning asset yields have been impacted by a 225 basis-point decrease in the federal funds rate ("fed funds") sinceJune 30, 2019 , with 150 basis points of that total decline occurring inMarch 2020 . Term interest rates have also fallen significantly over the respective periods noted above and collectively these interest rate decreases have reduced yields on loans repricing, short-term and overnight investments and interest-earning asset growth. Margin for theJune 2020 quarter was also impacted by higher balances in lower-yielding short-term and overnight investments than the comparable periods. The Company funds these interest-earning assets principally through non-term customer deposits, which were less impacted by interest rate declines. 64
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Interest and Dividend Income
For the second quarter of 2020, total interest and dividend income amounted to$36.2 million , an increase of$1.9 million , or 5%, compared to the prior period. The increase resulted primarily from an increase of$661.4 million , or 28%, in average balances of loans and loans held for sale, partially offset by lower yields on interest-earning assets. Average T/E loan yields have declined 80 basis points and other interest-earning asset yields have decreased 221 basis points compared to the prior period. See the "Net Interest Income and Margin" discussion above for further information on the decrease in interest rates.
Interest Expense
For the three months endedJune 30, 2020 , total interest expense amounted to$3.6 million , a decrease of$1.9 million , or 34%, compared to the same period in 2019, due primarily to decreases in the deposit rates, mainly checking, saving and money markets. The average cost of checking, saving and money markets decreased 53 basis points and the average cost of CDs decreased 16 basis points. Deposit growth in theJune 30, 2020 quarter has been positively and significantly impacted by the PPP loan funds, stimulus checks and the ongoing pandemic as the PPP loan monies were distributed into deposit accounts and many customers are proactively building liquidity in response to the economic uncertainty caused by the pandemic. Non-interest-bearing checking accounts are an important component of the Company's core funding strategy. For the three months endedJune 30, 2020 , the average balance of non-interest-bearing checking accounts increased$386.5 million , or 50%, as compared to the same period in 2019, and represented 34% and 28% of total average deposit balances for the three months endedJune 30, 2020 andJune 30, 2019 , respectively.
Interest rate risk is reviewed in detail under the heading Item 3, "Quantitative and Qualitative Disclosures About Market Risk," below.
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Rate / Volume Analysis
The following table sets forth, on a tax-equivalent basis, the extent to which changes in interest rates and changes in the average balances of interest-earning assets and interest-bearing liabilities have affected interest income and expense during the three months endedJune 30, 2020 compared to the three months endedJune 30, 2019 . For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to: (1) volume (change in average portfolio balance multiplied by prior period average rate); and (2) interest rate (change in average interest rate multiplied by prior period average balance). Changes attributable to the combined impact of volume and rate have been allocated proportionately based on absolute value to the changes due to volume and the changes due to rate. Increase (decrease) due to Net (Dollars in thousands) Change Volume Rate Interest Income Loans and loans held for sale (tax-equivalent)$ 2,265 $ 7,707 $ (5,442 ) Investment securities (tax-equivalent) 66 149 (83 ) Other interest-earning assets (1) (518 ) 201 (719 ) Total interest-earning assets (tax-equivalent) 1,813 8,057 (6,244 ) Interest Expense Interest checking, savings and money market (1,991 ) 483 (2,474 ) Certificates of deposit (137 ) (19 ) (118 ) Brokered CDs 56 85 (29 ) Borrowed funds 180 - 180 Subordinated debt (1 ) - (1 ) Total interest-bearing funding (1,893 ) 549 (2,442 )
Change in net interest income (tax-equivalent)
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(1) Income on other interest-earning assets includes interest on deposits and
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The following table presents the Company's average balance sheet, net interest
income and average rates for the three months ended
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS Three months ended June 30, 2020 Three months ended June 30, 2019 Average Average Average Average (Dollars in thousands) Balance Interest(1) Yield(1) Balance Interest(1) Yield(1) Assets: Loans and loans held for sale (2) (tax equivalent)$ 3,056,052 $ 32,822 4.32 %$ 2,394,688 $ 30,557 5.12 % Investments (3) (tax equivalent) 477,117 3,613 3.03 % 458,316 3,547 3.10 % Other interest-earning assets (4) 148,408 79 0.21 % 98,994 597 2.42 % Total interest-earning assets (tax equivalent) 3,681,577 36,514 3.99 % 2,951,998 34,701 4.71 % Other assets 160,077 133,269 Total assets$ 3,841,654 $ 3,085,267 Liabilities and stockholders' equity: Interest checking, savings and money market$ 1,920,764 1,750 0.37 %$ 1,675,636 3,741 0.90 % Certificates of deposit 291,003 1,335 1.84 % 294,756 1,472 2.00 % Brokered CDs 40,382 135 1.33 % 16,735 79 1.89 % Borrowed funds 59,786 180 1.21 % 485 - - % Subordinated debt (5) 14,877 230 6.24 % 14,864 231 6.22 % Total interest-bearing funding 2,326,812 3,630 0.63 % 2,002,476 5,523 1.11 % Net interest-rate spread (tax equivalent) 3.36 % 3.60 % Non-interest checking 1,164,058 - 777,564 - Total deposits, borrowed funds and subordinated debt 3,490,870 3,630 0.42 % 2,780,040 5,523 0.80 % Other liabilities 39,965 33,645 Total liabilities 3,530,835 2,813,685 Stockholders' equity 310,819 271,582 Total liabilities and stockholders' equity$ 3,841,654 $ 3,085,267 Net interest income (tax equivalent) 32,884 29,178 Net interest margin (tax equivalent) 3.59 % 3.96 % Less tax equivalent adjustment 358 400 Net interest income$ 32,526 $ 28,778 Net interest margin 3.55 % 3.91 %
__________________________________________
(1) Average yields and interest income are presented on a tax equivalent
basis, calculated using a
and 2019, based on tax equivalent adjustments associated with tax exempt
loans and investments interest income. (2) Average loans and loans held for sale include non-accrual loans and are net of average deferred loan fees.
(3) Average investments are presented at average amortized cost.
(4) Average other interest-earning assets include interest-earning deposits,
fed funds sold and FHLB stock.
(5) The subordinated debt is net of average deferred debt issuance costs.
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Provision for Loan Loss
The provision for loan losses under the incurred loss model amounted to$2.7 million for the three months endedJune 30, 2020 , an increase of$1.7 million , compared to the prior period. The provision for the quarter endedJune 30, 2020 consisted of$1.9 million in general reserve factor increases related primarily to economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio, and$800 thousand related to classified and impaired loans. The provision for loan losses is a significant factor in the Company's operating results. For further discussion regarding the provision for loan losses and management's assessment of the adequacy of the allowance for loan losses see "Credit Risk," "Asset Quality," and "Allowance for Loan Losses" under "Financial Condition" in this Item 2 above, and "Credit Risk," "Asset Quality," and "Allowance for Loan Losses" in the Financial Condition section of Management's Discussion and Analysis of Financial Condition and Results of Operations in the Company's 2019 Annual Report on Form 10-K.
Non-Interest Income
Non-interest income for the three months endedJune 30, 2020 amounted to$4.0 million , a decrease of$30 thousand , or 1%, as compared to the same period in 2019. The primary components of the quarter over quarter change are as follows:
• Deposit and interchange fees decreased primarily due to lower deposit
account activity combined with higher balances in customer accounts and less consumer spending resulting in lower interchange activity. • Net gains on sales of debt securities decreased as the Company did not have any sales in the second quarter of 2020.
• Net gains on loan sales increased due primarily to higher volume of loans
originated for sale. Non-Interest Expense Non-interest expense for the three months endedJune 30, 2020 amounted to$24.3 million , an increase of$2.6 million , or 12%, compared to the prior period. The primary components of the quarter over quarter change are as follows:
• Salaries and benefits increased due primarily to the Company's strategic
growth initiatives. There were also several pandemic associated expense
items in the quarter including discretionary awards to recognize team
contributions including the successful PPP loan effort, among others. • Technology and telecommunications increased due primarily to higher
infrastructure costs and expenses associated with the Company's multi-year
digital evolution strategy to enhance operating efficiency and customer
experience.
• Advertising and public relations costs decreased as the Company's business
development costs were less due to the pandemic and the focus on PPP loan originations. • Audit, legal and other professional fees increased primarily in other professional fees, which includes, among other things, consulting and
professional expenses associated with the Company's digital evolution
strategy. • Deposit insurance premiums increased due primarily to increasedFDIC assessment factors and asset growth.
• Other operating expenses decreased due primarily to the pandemic resulting
in lower employee-related expenses such as training, dues and entertainment, and travel.
Income Taxes
The effective tax rate for the three months ended
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Table of Contents Results of Operations Six Months EndedJune 30, 2020 vs. Six Months EndedJune 30, 2019 Unless otherwise indicated, the reported results are for the six months endedJune 30, 2020 with the "same period," the "comparable period," "prior year," and "prior period" being the six months endedJune 30, 2019 . Average yields are presented on an annualized tax equivalent basis.
Net Income
The Company's net income for the six months endedJune 30, 2020 amounted to$11.3 million , compared to$16.5 million for the same period in 2019. Diluted earnings per share were$0.95 for the six months endedJune 30, 2020 , compared to$1.39 for the six months endedJune 30, 2019 . Net income results for the six months endedJune 30, 2020 compared to the same period in the prior year were impacted by the PPP and the pandemic. The provision for loan losses increased, primarily in the first quarter, as the Company added to general reserves to address the impact of the pandemic on the economy and the Company's loan portfolio. Net interest income increased mainly from loan growth and PPP-related income in the second quarter, partially offset by a lower spread principally due to lower market interest rates. Operating expenses increased for the six months endedJune 30, 2020 compared to the prior year, due primarily to the Company's strategic growth initiatives, and also from higher salary and benefit costs related to the pandemic, including our team members' PPP loan origination effort in the second quarter.
Net Interest Income and Margin
The Company's net interest income for the six months endedJune 30, 2020 amounted to$62.4 million , compared to$56.9 million for the six months endedJune 30, 2019 , an increase of$5.6 million , or 10%. The Company's margin was 3.68% for the six months endedJune 30, 2020 and was 3.91% for the six months endedJune 30, 2019 . Tax equivalent net interest income for the six months endedJune 30, 2020 was$63.1 million compared to$57.7 million for the six months endedJune 30, 2019 , an increase of$5.5 million , or 9%. T/E margin was 3.73% and 3.97% for the six months endedJune 30, 2020 and 2019, respectively. Excluding PPP loans, T/E margin for the six months endedJune 30, 2020 was 3.78%. The increase in net interest income over the comparable period was due largely to interest-earning asset growth, primarily in loans, partially offset by a decrease in margin. As previously noted, the Company recognized$948 thousand in PPP interest income and$1.6 million in PPP fees, accreted to interest income, during the second quarter. As with the second quarter, the lower margin results primarily reflect the significant decline in interest rates since the comparable period resulting in interest-earning asset yields declining faster than the cost of funding. Interest-earning asset yields have been impacted by a 225 basis point decrease in the fed funds rate sinceJune 30, 2019 , with 150 basis points of that total decline occurring inMarch 2020 . Term interest rates have also fallen significantly over the respective period and collectively these interest rate decreases have reduced yields on loans repricing, short-term and overnight investments and interest-earning asset growth. The Company funds these interest-earning assets principally through non-term customer deposits, which were less impacted by interest rate declines.
Interest and Dividend Income
Total interest and dividend income amounted to$71.1 million for the six months endedJune 30, 2020 , an increase of$3.5 million , or 5%, compared to the prior period. The increase was attributed primarily to a$443.1 million , or 19%, increase in the average balances of loans and loans held for sale, partially offset by lower yields on interest-earning assets. Average tax equivalent loan yields have declined 53 basis points and the yield on other interest earning assets has decreased 197 basis points. See the "Net Interest Income and Margin" discussion above for further information on the decrease in yields.
Interest Expense
For the six months endedJune 30, 2020 , total interest expense amounted to$8.7 million , a decrease of$2.1 million , or 19%, over the same period in 2019 due primarily to decreases in the cost of funding, partially offset by increases in average balances of checking, saving and money market accounts. The average cost of funding, including the impact of non-interest deposit accounts balances, decreased 25 basis points. The average balance of checking, savings and money market accounts increased$191.6 million , or 12%, and the average balance of borrowed funds increased$57.1 million . 69
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Deposit growth for the six months endedJune 30, 2020 , primarily in the second quarter, has been positively and significantly impacted by the PPP loan funds, stimulus checks and the ongoing pandemic as the PPP loan monies were distributed into deposit accounts and many customers are proactively building liquidity in response to the economic uncertainty caused by the pandemic. Non-interest deposit accounts are an important component of the Company's core funding strategy. For the six months endedJune 30, 2020 , the average balance of non-interest checking accounts increased$218.6 million , or 29%, as compared to the same period in 2019. This non-interest-bearing funding source represented 32% and 28% of total average deposit balances for the six months endedJune 30, 2020 andJune 30, 2019 , respectively.
Interest-rate risk is reviewed in detail in Item 3, "Quantitative and Qualitative Disclosures About Market Risk," below.
Rate / Volume Analysis
The following table sets forth, on a tax-equivalent basis, the extent to which changes in interest rates and changes in the average balances of interest-earning assets and interest-bearing liabilities have affected interest income and expense during the six months endedJune 30, 2020 , compared to the six months endedJune 30, 2019 . For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to: (1) volume (change in average portfolio balance multiplied by prior period average rate); and (2) interest rate (change in average interest rate multiplied by prior period average balance). Changes attributable to the combined impact of volume and rate have been allocated proportionately based on absolute value to the changes due to volume and the changes due to rate. Increase (decrease) due to Net (Dollars in thousands) Change Volume Rate Interest Income Loans and loans held for sale (tax equivalent)$ 3,934 $ 10,832 $ (6,898 ) Investment securities (tax equivalent) 289 427 (138 ) Other interest-earning assets (1) (812 ) 102 (914 ) Total interest-earning assets (tax equivalent) 3,411 11,361 (7,950 ) Interest Expense Interest checking, savings and money market (2,228 ) 743 (2,971 ) CDs 11 41 (30 ) Brokered CDs (156 ) (85 ) (71 ) Borrowed funds 316 478 (162 ) Subordinated debt 2 1 1 Total interest-bearing funding (2,055 ) 1,178 (3,233 )
Change in net interest income (tax equivalent)
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(1) Income on other interest-earning assets includes interest on deposits and
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The following table presents the Company's average balance sheet, net interest
income and average rates for the six months ended
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS Six months ended June 30, 2020 Six months ended June 30, 2019 Average Average Average Average (Dollars in thousands) Balance Interest(1) Yield(1) Balance Interest(1) Yield(1) Assets: Loans and loans held for sale(2) (tax equivalent)$ 2,826,991 $ 64,248 4.57 %$ 2,383,928 $ 60,314 5.10 % Investment securities(3) (tax equivalent) 482,820 7,329 3.04 % 454,885 7,040 3.10 % Other interest-earning assets(4) 94,678 244 0.52 % 85,629 1,056 2.49 % Total interest-earnings assets (tax equivalent) 3,404,489 71,821 4.24 % 2,924,442 68,410 4.71 % Other assets 154,501 129,291 Total assets$ 3,558,990 $ 3,053,733 Liabilities and stockholders' equity: Interest checking, savings and money market$ 1,815,978 4,650 0.51 %$ 1,624,366 6,878 0.85 % CDs 299,392 2,840 1.91 % 294,939 2,829 1.93 % Brokered CDs 20,191 135 1.33 % 31,188 291 1.88 % Borrowed funds 78,489 595 1.52 % 21,361 279 2.64 % Subordinated debt(5) 14,875 461 6.24 % 14,863 459 6.23 % Total interest-bearing funding 2,228,925 8,681
0.78 % 1,986,717 10,736 1.09 %
Net interest-rate spread (tax equivalent) 3.46 % 3.62 % Non-interest checking 983,326 - 764,718 - Total deposits, borrowed funds and subordinated debt 3,212,251 8,681 0.54 % 2,751,435 10,736 0.79 % Other liabilities 40,098 36,673 Total liabilities 3,252,349 2,788,108 Stockholders' equity 306,641 265,625 Total liabilities and stockholders' equity$ 3,558,990 $ 3,053,733 Net interest income (tax equivalent) 63,140 57,674 Net interest margin (tax equivalent) 3.73 % 3.97 % Less tax equivalent adjustment 718 812 Net interest income$ 62,422 $ 56,862 Net interest margin 3.68 % 3.91 %
_______________________________
(1) Average yields and interest income are presented on a tax equivalent
basis, calculated using a
and 2019, based on tax equivalent adjustments associated with tax exempt
loans and investments interest income. (2) Average loans and loans held for sale include non-accrual loans and are net of average deferred loan fees.
(3) Average investment balances are presented at average amortized cost.
(4) Average other interest-earning assets includes interest-earning deposits,
fed funds sold, and FHLB stock.
(5) The subordinated debt is net of average deferred debt issuance costs.
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Provision for Loan Loss
The provision for loan losses under the incurred loss model amounted to amounted to$8.8 million for the six months endedJune 30, 2020 , an increase of$8.3 million , compared to the same period in 2019. The provision for the six months endedJune 30, 2020 consisted of$5.2 million in general reserve factor increases related primarily to economic weakness caused by the pandemic and its impact on credit quality in the loan portfolio,$2.3 million related to classified and impaired loans and$1.3 million related to loan growth and other factors. The provision for loan losses is a significant factor in the Company's operating results. For further discussion regarding the provision for loan losses and management's assessment of the adequacy of the allowance for loan losses see "Credit Risk," "Asset Quality," and "Allowance for Loan Losses" under "Financial Condition" in this Item 2, above, and "Credit Risk," "Asset Quality," and "Allowance for Loan Losses" in the "Financial Condition" section of "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Company's 2019 Annual Report on Form 10-K.
Non-Interest Income
Non-interest income for the six months ended
• Net gains on loan sales increased due primarily to a higher volume of loans originated for sale, particularly in the second quarter of this year.
• Other non-interest income decreased slightly mainly due to decreases in
equity investment fair values, partially offset by derivative fee income
in the first quarter of this year.
Non-Interest Expense
Non-interest expense for the six months endedJune 30, 2020 amounted to$47.0 million , an increase of$4.4 million , or 10%, compared to the same period in 2019. The significant changes in non-interest expense are as follows:
• Salaries and benefits increased due primarily to the Company's strategic
growth initiatives. There were also several pandemic associated expense
items in the quarter including discretionary awards to recognize team
contributions including the successful PPP loan effort, among others. • Technology and telecommunications increased due primarily to higher
infrastructure costs and expenses associated with the Company's multi-year
digital evolution strategy to enhance operating efficiency and customer
experience.
• Advertising and public relations costs decreased primarily in the second
quarter as the Company's business development costs were less due to the pandemic and the focus on PPP loan originations.
• Audit, legal and other professional fees increased primarily in other
professional fees, which includes, among other things, consulting and
professional expenses associated with the Company's digital evolution
strategy.
• Deposit insurance premiums increased primarily in the second quarter due
mainly to increasedFDIC assessment factors and asset growth.
• Other operating expenses decreased largely in the second quarter of 2020
due primarily to the pandemic resulting in lower employee-related expenses
such as training, dues and entertainment, and travel.
Income Taxes
The effective tax rate was 23.8% and 23.7% for the six months ended
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Table of Contents Risk Management Framework Management utilizes a comprehensive enterprise risk management framework that enables a coordinated and structured approach for identifying, assessing and managing risks across the Company and provides reasonable assurance that management has the tools, programs, people, and processes in place to support informed decision making, anticipate risks before they materialize and maintain the Company's risk profile consistent with its strategic planning, and applicable laws and regulations. These risks, and the decisions related thereto, include, but are not limited to: credit risk, market and interest rate risk, legal and regulatory compliance risk, reputational risk, strategic risk, capital risk, compensation risk, liquidity management, information technology and cybersecurity risk, internal controls over financial reporting, physical security, loss and fraud prevention, policy reviews, vendor management (direct and indirect vendors) and contract management, business continuity and succession planning, short and long-term capital projects and facility planning, and corporate governance. See Part I, Item 1, "Business," under the "Risk Management Framework," section of the Company's 2019 Annual Report on Form 10-K for additional information on the Company's key risk mitigation strategies.
This Form 10-Q discusses certain key risks facing the Company and the Bank, including the following: • Credit risk management is reviewed in detail in this Item 2 under the
heading "Credit Risk," above.
• Liquidity management is the coordination of activities so that cash needs
are anticipated and met, readily and efficiently. Liquidity management is
reviewed in this Item 2 under the heading "Liquidity, " above. • Capital adequacy risk and regulatory requirements are reviewed in this Item 2, under the heading "Capital Resources" above. • Interest-rate risk is reviewed under Part I, Item 3, "Quantitative and Qualitative Disclosures About Market Risk," below.
In addition, certain heightened risks associated with the ongoing pandemic are outlined in Part II, Item 1A, "Risk Factors," in this Form 10-Q, below.
InJanuary 2020 , management activated our pandemic response team in light of the ongoing pandemic and have utilized established business continuity protocols since that time to provide uninterrupted service to our customers and communities. The pandemic response team quickly coordinated resources and responses across the Bank in order to (i) provide for the safety of our team members, customers, and business partners, (ii) maintain sound business operations, and (iii) minimize the risks identified above. Team leaders are in constant communication and continually strategize and implement coordinated efforts to mitigate the risk identified above, among others. We have modified our protocols and procedures as circumstances have evolved and we will continue to monitor the impact of the pandemic on many fronts as the pandemic continues longer than originally expected, and as activities shift towards reopening of local economies and business activity. In addition to the risks outlined in this Form 10-Q, numerous other factors that could adversely affect the Company's future results of operations and financial condition, and its reputation and business model, are addressed in Part I, Item 1A, "Risk Factors," of the Company's 2019 Annual Report on Form 10-K. Accounting Policies/Critical Accounting Estimates As discussed in the Company's 2019 Annual Report on Form 10-K, the three most significant areas in which management applies critical assumptions and estimates that are particularly susceptible to change relate to the determination of the allowance for loan losses, impairment review of investment securities and the impairment review of goodwill. The Company has not materially changed its significant accounting and reporting policies from those disclosed in its 2019 Annual Report on Form 10-K. Recent Accounting Pronouncements
See Note 1, Item (e), "Recent Accounting Pronouncements," to the Company's unaudited consolidated interim financial statements in this Form 10-Q for information regarding recent accounting pronouncements.
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