XNAS:FSGI First Security Group, Inc. Quarterly Report 10-Q Filing - 3/31/2012
Effective Date 3/31/2012
| • 10-Q • EX-31.1 • EX-31.2 • EX-32.1 • EX-32.2 • XBRL INSTANCE DOCUMENT • XBRL TAXONOMY EXTENSION SCHEMA DOCUMENT • XBRL TAXONOMY EXTENSION CALCULATION LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION DEFINITION LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION LABEL LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE DOCUMENT | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549  _________________________________________________ FORM 10-Q _________________________________________________ (Mark One)
For the quarterly period ended March 31, 2012 OR
For the transition period from to . COMMISSION FILE NO. 000-49747 _________________________________________________ FIRST SECURITY GROUP, INC. (Exact Name of Registrant as Specified in its Charter) _________________________________________________
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨ Indicate by check mark whether the Registrant has submitted electronically and posted on its Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). Yes ý No ¨ Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: Common Stock, $0.01 par value: 1,762,342 shares outstanding and issued as of May 9, 2012 First Security Group, Inc. and Subsidiary Form 10-Q INDEX
PART I - FINANCIAL INFORMATION
First Security Group, Inc. and Subsidiary Consolidated Balance Sheets
(See Accompanying Notes to Consolidated Financial Statements) 1 First Security Group, Inc. and Subsidiary Consolidated Balance Sheets
(See Accompanying Notes to Consolidated Financial Statements) 2 First Security Group, Inc. and Subsidiary Consolidated Statements of Comprehensive Income (unaudited)
(See Accompanying Notes to Consolidated Financial Statements) 3 First Security Group, Inc. and Subsidiary Consolidated Statement of Stockholders’ Equity (unaudited)
(See Accompanying Notes to Consolidated Financial Statements) 4 First Security Group, Inc. and Subsidiary Consolidated Statements of Cash Flow (unaudited)
(See Accompanying Notes to Consolidated Financial Statements) 5 FIRST SECURITY GROUP, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited) NOTE 1 – BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair statement of financial condition and the results of operations have been included. All such adjustments were of a normal recurring nature. Some items in the prior year financial statements were reclassified to conform to the current presentation. Reclassifications had no effect on prior year net income or shareholders’ equity. The consolidated financial statements include the accounts of First Security Group, Inc. and its subsidiary bank, which is wholly-owned. All significant intercompany balances and transactions have been eliminated. On September 19, 2011 (the Effective Date), First Security completed a one-for-ten reverse stock split of its common stock. In connection with the reverse stock split, every ten shares of issued and outstanding First Security common stock at the Effective Date were exchanged for one share of newly issued common stock. Fractional shares were rounded up to the next whole share. Other than the number of authorized shares of common stock disclosed in the Consolidated Balance Sheets, which did not change as a result of the reverse stock split, all prior period share amounts have been retroactively restated to reflect the reverse stock split. For additional information related to the reverse stock split, see Note 9, Stockholders’ Equity. Operating results for the three months ended March 31, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012 or any other period. These interim financial statements should be read in conjunction with the Company’s latest annual consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011. NOTE 2 – REGULATORY MATTERS AND MANAGEMENT'S PLANS Regulatory Matters First Security Group, Inc. On September 7, 2010, the Company entered into a Written Agreement (the Agreement) with the Federal Reserve Bank of Atlanta (the Federal Reserve), the Company’s primary regulator. The Agreement is designed to enhance the Company’s ability to act as a source of strength to the Company's wholly owned subsidiary, FSGBank, National Association (FSGBank or the Bank). The Agreement prohibits the Company from declaring or paying dividends without prior written consent of the Federal Reserve. The Company is also prohibited from taking dividends, or any other form of payment representing a reduction of capital, from the Bank without prior written consent. Within 60 days of the Agreement, the Company was required to submit to the Federal Reserve Bank a written plan designed to maintain sufficient capital at the Company and the Bank. The Company submitted a copy of the Bank’s capital plan that had previously been submitted to the Bank’s primary regulator, the Office of the Comptroller of the Currency (OCC). Neither the Federal Reserve Bank nor the OCC accepted the initially submitted capital plan. A revised five-year strategic and capital plan is currently being reviewed by the OCC. The Company is currently deemed not in compliance with certain provisions of the Agreement. Any material noncompliance may result in further enforcement actions by the Federal Reserve. Management believes the successful execution of the strategic initiatives discussed above will ultimately result in full compliance with the Agreement and position the Company for long-term growth and a return to profitability. On September 14, 2010, the Company filed a current report on Form 8-K describing the Agreement. A copy of the Agreement is filed as Exhibit 10.1 to such Form 8-K. The foregoing summary is not complete and is qualified in all respects by reference to the actual language of the Agreement. FSGBank, N.A. On April 28, 2010, pursuant to a Stipulation and Consent to the Issuance of a Consent Order (Order), FSGBank consented and agreed to the issuance of a Consent Order by the OCC. 6 The Bank and the OCC agreed as to the areas of the Bank’s operations that warrant improvement and a plan for making those improvements. The Order required the Bank to develop and submit written strategic and capital plans covering at least a three-year period. The Board of Directors is required to ensure that competent management is in place in all executive officer positions to manage the Bank in a safe and sound manner. The Bank is also required to review and revise various policies and procedures, including those associated with credit concentration management, the allowance for loan and lease losses, liquidity management, criticized assets, loan review and credit. The Bank is continuing to work with the OCC to ensure the policies and procedures are both appropriate and fully implemented. Within 120 days of the effective date of the Order, the Bank was required to achieve and thereafter maintain total capital at least equal to 13 percent of risk-weighted assets and Tier 1 capital at least equal to 9 percent of adjusted total assets. As of March 31, 2012, the seventh financial reporting period subsequent to the 120 day requirement, the Bank’s total capital to risk-weighted assets was 9.8 percent and the Tier 1 capital to adjusted total assets was 5.2 percent. The Bank has notified the OCC of its non-compliance with the requirements of the Order. During the third quarter of 2010, the OCC requested additional information and clarifications to the Bank's submitted strategic and capital plans as well as the management assessments. Subsequent to the resignation of the CEO in April 2011, the Bank requested an extension on the submission date for the strategic and capital plans until a new CEO was appointed and had sufficient time to modify the strategic plan. Because the Order established specific capital amounts to be maintained by the Bank, the Bank may not be considered better than “adequately capitalized” for capital adequacy purposes, even if the Bank exceeds the levels of capital set forth in the Order. As an adequately capitalized institution, the Bank may not pay interest on deposits that are more than 0.75% above the rate applicable to the applicable market of the Bank as determined by the FDIC. Additionally, the Bank may not accept, renew or roll over brokered deposits without prior approval of the Federal Deposit Insurance Corporation (FDIC). The Bank is currently deemed not in compliance with some provisions of the Order, including the capital requirements. Any material noncompliance may result in further enforcement actions by the OCC, including the OCC requiring that FSGBank develop a plan to sell, merge or liquidate. Management believes the successful execution of the strategic initiatives discussed above will ultimately result in full compliance with the Order and position the Bank for long-term growth and a return to profitability. On April 29, 2010, the Company filed a current report on Form 8-K describing the Order. A copy of the Order is filed as Exhibit 10.1 to such Form 8-K. The foregoing summary is not complete and is qualified in all respects by reference to the actual language of the Order. Management's Plans The Company continues to operate in a difficult environment and has been significantly impacted by the downturn in real estate values and the general recessionary economy. The Company has experienced significant net operating losses for the quarter ended March 31, 2012 and years ended December 31, 2011, 2010, and 2009, substantially resulting from declining net interest margins and elevated levels of provision for loan losses. Losses on other real estate owned have also significantly impacted net income. Each of these financial trends was significantly impacted by significant levels of nonperforming assets and related deterioration in the economy. During 2011 and through the first quarter of 2012, the Company underwent significant change within the Board of Directors and executive management. The changes were predicated on strengthening and deepening the Company’s leadership in order to successfully execute a strategic and capital plan to return the Company to profitable operations, satisfy the requirements of the regulatory actions detailed below, and lower the level of problem assets to an acceptable level. In December 2011, the Company appointed Michael Kramer as President and Chief Executive Officer. Subsequently, the Company appointed a Chief Credit Officer, Retail Banking Officer and Director of FSGBank’s Wealth Management and Trust Department. The Company added three additional directors to the Board in 2011 and has added three additional directors in 2012, including a new independent Chairman of the Board, Larry D. Mauldin. The Company’s strategic plan addresses the actions necessary to restore profitability and achieve full compliance with all regulatory agreements, including, but not limited to, restoring capital to the prescribed regulatory levels of the Order. Management is pursuing various options to restore the Company’s capital to a satisfactory level, including, but not limited to, a private stock placement and select asset divestitures of nonperforming assets. Since December 2011, the Company has been in preliminary discussions with multiple potential investors and asset disposition firms but can give no assurances as to the terms on which any such transactions may take place if at all. 7 The Bank has successfully maintained elevated liquidity and has chosen to do so primarily by maintaining excess cash at the Federal Reserve. The Company’s cash position as of March 31, 2012 was $225,386 thousand compared to $258,181 thousand and $197,742 thousand at December 31, 2011 and March 31, 2011, respectively. The Company’s strategic plan includes maintaining adequate liquidity, reducing nonperforming assets, and appropriately increasing the Company’s capital ratios. Compliance with the capital ratios required in the Order can be achieved by increasing capital and / or through asset sales. The Company is currently implementing the strategic initiatives within the applicable plan. Any failure by the Company or the Bank to achieve compliance with the applicable regulatory enforcement order may result in additional adverse regulatory action. Regulatory Capital Ratios Banks and bank holding companies, as regulated institutions, must maintain required levels of capital. OCC and the Federal Reserve, the primary federal regulators for FSGBank and the Company, respectively, have adopted minimum capital regulations or guidelines that categorize components and the level of risk associated with various types of assets. Financial institutions are expected to maintain a level of capital commensurate with the risk profile assigned to their assets in accordance with the guidelines. As described above, the Order requires FSGBank to achieve and maintain total capital to risk adjusted assets of at least 13% and a leverage ratio of at least 9%. The Order provided 120 days from April 28, 2010, the effective date of the Order, to achieve these ratios. FSGBank is currently not in compliance with the capital requirements. The following table compares the required capital ratios maintained by the Company and FSGBank: CAPITAL RATIOS
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8 NOTE 3 – STOCK-BASED COMPENSATION As of March 31, 2012, the Company has two stock-based compensation plans, the 2002 Long-Term Incentive Plan (the 2002 LTIP) and the 1999 Long-Term Incentive Plan (the 1999 LTIP). The plans are administered by the Compensation Committee of the Board of Directors (the Committee), which selects persons eligible to receive awards and determines the number of shares and/or options subject to each award, the terms, conditions and other provisions of the award. The plans are described in further detail below. The 2002 LTIP was approved by the shareholders of the Company at the 2002 annual meeting and subsequently amended by the shareholders of the Company at the 2004 and 2007 annual meetings to increase the number of shares available for issuance under the 2002 LTIP by 480 thousand and 750 thousand shares, respectively. The total number of shares authorized for awards prior to the 10-for-1 reverse stock split was 1.5 million. As a result of the 10-for-1 reverse stock split in 2011, the total shares currently authorized under the 2002 LTIP is 151,800, of which not more than 20% may be granted as awards of restricted stock. Eligible participants include eligible employees, officers, consultants and directors of the Company or any affiliate. The exercise price per share of a stock option granted may not be less than the fair market value as of the grant date. The exercise price must be at least 110% of the fair market value at the grant date for options granted to individuals, who at the grant date, are 10% owners of the Company’s voting stock (each a 10% owner). Restricted stock may be awarded to participants with terms and conditions determined by the Committee. The term of each award is determined by the Committee, provided that the term of any incentive stock option may not exceed ten years (five years for 10% owners) from its grant date. Each option award vests in approximately equal percentages each year over a period of not less than three years from the date of grant as determined by the Committee subject to accelerated vesting under terms of the 2002 LTIP or as provided in any award agreement. As a result of the Company's participation in TARP CPP, the terms of awards are also subject to compliance with applicable TARP compensation regulations. Participation in the 1999 LTIP is limited to eligible employees. The total number of shares of stock authorized for awards prior to the 10-for-1 reverse stock split was 936 thousand. As a result of the 10-for-1 reverse stock split in 2011, the total shares currently authorized under the 1999 LTIP is 93,600, of which not more than 10% could be granted as awards of restricted stock. Under the terms of the 1999 LTIP, incentive stock options to purchase shares of the Company’s common stock may not be granted at a price less than the fair market value of the stock as of the date of the grant. Options must be exercised within ten years from the date of grant subject to conditions specified by the 1999 LTIP. Restricted stock could also be awarded by the Committee in accordance with the 1999 LTIP. Generally, each award vests in approximately equal percentages each year over a period of not less than three years and vest from the date of grant as determined by the Committee subject to accelerated vesting under terms of the 1999 LTIP or as provided in any award agreement. As a result of the Company's participation in TARP CPP, the terms of awards are also subject to compliance with applicable TARP compensation regulations. Stock Options The following table illustrates the effect on operating results for stock-based compensation for the three months ended March 31, 2012 and 2011.
During the three months ended March 31, 2012 and 2011, no options were exercised. The fair value of each option award is estimated on the date of grant using a closed form option valuation (Black-Scholes) model that uses the following assumptions: expected dividend yield, expected volatility, risk-free interest rate, expected life of the option and the grant date fair value. Expected volatilities are based on historical volatilities of the Company's common stock. The Company uses historical data to estimate option exercise and post-vesting termination behavior. The expected term of options granted is based on historical data and represents the period of time that options granted are expected to be outstanding, which takes into account that the options are not transferable. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury yield curve in effect at the time of the grant. During the three months ended March 31, 2012 and 2011, no options were granted. 9 The following table represents stock option activity for the three months ended March 31, 2012:
As of March 31, 2012, shares available for future option grants to employees and directors under existing plans were 48,183 and 94,579 shares for the 1999 LTIP and 2002 LTIP, respectively. As of March 31, 2012, there was $4 thousand of total unrecognized compensation cost related to nonvested stock options granted under the Plans. The cost is expected to be recognized over a weighted-average period of less than one year. Restricted Stock The plans described above allow for the issuance of restricted stock awards that may not be sold or otherwise transferred until certain restrictions have lapsed. The unearned stock-based compensation related to these awards is being amortized to compensation expense over the period the restrictions lapse. The share-based expense for these awards was determined based on the market price of the Company’s stock at the grant date applied to the total number of shares that were anticipated to fully vest and then amortized over the vesting period. As of March 31, 2012, unearned stock-based compensation associated with these awards totaled $323 thousand. The Company recognized $23 thousand and less than $1 thousand of compensation expense, net of forfeitures, in the first quarter of 2012 and 2011, respectively, related to the amortization of deferred compensation that was included in salaries and benefits in the accompanying consolidated statements of operations. The remaining cost is expected to be recognized over a weighted-average period of 2.80 years. The following table represents restricted stock activity for the period ended March 31, 2012:
The restricted stock awards granted during 2012 vest according to the TARP CPP compensation regulations such that 66% 10 vest after two years and the remainder vest after the third year. Additional transferability restrictions also apply. NOTE 4 – EARNINGS (LOSS) PER SHARE The difference in basic and diluted weighted average shares is due to the assumed conversion of outstanding stock options, restricted stock awards and common stock warrants using the treasury stock method. The Company has issued certain restricted stock awards, which are unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents. These restricted shares are considered participating securities. Accordingly, the Company calculated net income available to common shareholders pursuant to the two-class method, whereby net income is allocated between common shareholders and participating securities. In periods of a net loss, no allocation is made to participating securities as they are not contractually required to fund net losses. The computation of basic and diluted earnings per share is as follows:
Due to the net loss allocated to common shareholders for all periods shown, all stock options, stock warrants, and restricted stock grants are considered anti-dilutive and are not included in the computation of diluted earnings per share. As of March 31, 2012, a total of 250 thousand stock options, stock warrants and restricted stock grants were considered anti-dilutive. All prior periods have been restated to give retroactive effect to the one-for-ten reverse stock split that took effect on September 19, 2011. NOTE 5 – SECURITIES Investment Securities by Type The following table presents the amortized cost and fair value of securities, with gross unrealized gains and losses. 11
There were no sales of securities for the three months ended March 31, 2012, nor were there sales for the three months ended March 31, 2011. At March 31, 2012, December 31, 2011 and March 31, 2011, federal agencies, municipals and mortgage-backed securities with a carrying value of $31,975 thousand, $22,449 thousand and $22,823 thousand, respectively, were pledged to secure public deposits. At March 31, 2012, December 31, 2011 and March 31, 2011, the carrying amount of securities pledged to secure repurchase agreements was $19,523 thousand, $26,635 thousand and $18,581 thousand, respectively. At March 31, 2012, December 31, 2011 and March 31, 2011, securities of $5,945 thousand, $5,678 thousand and $5,762 thousand were pledged to the Federal Reserve Bank of Atlanta to secure the Company’s daytime correspondent transactions. At March 31, 2012, the carrying amount of securities pledged to secure lines of credit with the FHLB totaled $10,119 thousand. At March 31, 2012, pledged and unpledged securities totaled $67,562 thousand and $155,593 thousand, respectively. Maturity of Securities The following table presents the amortized cost and fair value of debt securities by contractual maturity at March 31, 2012. 12
Impairment Analysis The following table shows the gross unrealized losses and fair value of the Company’s investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at March 31, 2012, December 31, 2011 and March 31, 2011.
As of March 31, 2012, the Company performed an impairment assessment of the securities in its portfolio that had an unrealized loss to determine whether the decline in the fair value of these securities below their cost was other-than-temporary. Under authoritative accounting guidance, impairment is considered other-than-temporary if any of the following conditions exists: (1) the Company intends to sell the security, (2) it is more likely than not that the Company will be required to sell the security before recovery of its amortized costs basis or (3) the Company does not expect to recover the security’s entire amortized cost basis, even if the Company does not intend to sell. Additionally, accounting guidance requires that for impaired securities that the Company does not intend to sell and/or that it is not more-likely-than-not that the Company will have to sell prior to recovery but for which credit losses exist, the other-than-temporary impairment should be separated between the total 13 impairment related to credit losses, which should be recognized in current earnings, and the amount of impairment related to all other factors, which should be recognized in other comprehensive income. If a decline is determined to be other-than-temporary due to credit losses, the cost basis of the individual security is written down to fair value, which then becomes the new cost basis. The new cost basis would not be adjusted in future periods for subsequent recoveries in fair value, if any. In evaluating the recovery of the entire amortized cost basis, the Company considers factors such as (1) the length of time and the extent to which the market value has been less than cost, (2) the financial condition and near-term prospects of the issuer, including events specific to the issuer or industry, (3) defaults or deferrals of scheduled interest, principal or dividend payments and (4) external credit ratings and recent downgrades. As of March 31, 2012, gross unrealized losses in the Company’s portfolio totaled $279 thousand, compared to $220 thousand as of December 31, 2011 and $446 thousand as of March 31, 2011. The unrealized losses in mortgage-backed securities (consisting of eleven securities) are primarily due to widening credit spreads and changes in interest rates subsequent to purchase. The unrealized losses in other securities are two pooled trust preferred securities. The unrealized losses in the pooled trust preferred securities are primarily due to widening credit spreads subsequent to purchase and a lack of demand for trust preferred securities. The Company does not intend to sell the investments with unrealized losses and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity. Based on results of the Company’s impairment assessment, the unrealized losses at March 31, 2012 are considered temporary. NOTE 6 – LOANS AND ALLOWANCE FOR LOAN AND LEASE LOSSES Loans by type are summarized as follows:
The allowance for loan and lease losses is composed of two primary components: (1) specific impairments for substandard/nonaccrual loans and leases and (2) general allocations for classified loan pools, including special mention and substandard/accrual loans, as well as all remaining pools of loans. The Company accumulates pools based on the underlying classification of the collateral. Each pool is assigned a loss severity rate based on historical loss experience and various qualitative and environmental factors, including, but not limited to, credit quality and economic conditions. The Company determines the allowance on a quarterly basis. Because of uncertainties inherent in the estimation process, management’s estimate of credit losses in the loan portfolio and the related allowance may materially change in the near term. However, the amount of the change that is reasonably possible cannot be estimated. The following table presents an analysis of the activity in the allowance for loan and lease losses for the three months ended March 31, 2012 and March 31, 2011. The provisions for loan and lease losses in the table below do not include the Company’s provision accrual for unfunded commitments of $6 thousand and $6 thousand for the three month periods ended March 31, 2012 and March 31, 2011, respectively. The reserve for unfunded commitments is included in other liabilities in the consolidated balance sheets and totaled $255 thousand and $253 thousand at March 31, 2012 and 2011, respectively. 14 Allowance for Loan and Lease Losses For the Three Months Ended March 31, 2012
Allowance for Loan and Lease Losses For the Three Months Ended March 31, 2011
15 The following table presents an analysis of the end of period balance of the allowance for loan and lease losses as of March 31, 2012. As of March 31, 2012
The following table presents an analysis of the end of period balance of the allowance for loan and lease losses as of December 31, 2011. As of December 31, 2011
16 The Company utilizes a risk rating system to evaluate the credit risk of its loan portfolio. The Company classifies loans as: pass, special mention, substandard, doubtful or loss. The Company assigns a pass rating to loans that are performing as contractually agreed and do not exhibit the characteristics of heightened credit risk. The Company assigns a special mention risk rating to loans that have certain potential weaknesses but not considered to present as severe of credit risk as a classified loan. Special mention loans generally contain one or more potential weaknesses, which if not corrected, could result in an unacceptable increase in the credit risk at some future date. The Company assigns a substandard risk rating to loans that have specifically identified weaknesses and deficiencies typically resulting from severe adverse trends of a financial, economic or managerial nature and may require nonaccrual status. Substandard loans have a greater likelihood of loss than “pass” or special mention loans. The Company assigns a doubtful risk rating to loans that the collection or liquidation in full of principal and/or interest is highly questionable or improbable. Any loans that are assigned a risk rating of loss are fully charged-off in the period of the downgrade. The Company segregates substandard loans into two classifications based on the Company’s allowance methodology for impaired loans. The Company defines an impaired loan as a substandard loan relationship in excess of $500 thousand that is also on nonaccrual status. The Company individually reviews these relationships on a quarterly basis to determine the required allowance or loss, as applicable. For the allowance analysis, the Company’s primary categories are: pass, special mention, substandard – non-impaired, and substandard – impaired. Loans in the substandard and doubtful loan categories are combined and impaired loans are segregated from non-impaired loans. The following table presents the Company’s internal risk rating by loan classification as utilized in the allowance analysis as of March 31, 2012: As of March 31, 2012
17 The following table presents the Company’s internal risk rating by loan classification as utilized in the allowance analysis as of December 31, 2011: As of December 31, 2011
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