Edgar Filing: ACNB CORP

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended March 31, 2016

Commission file number 0-11783

ACNB CORPORATION

(Exact name of Registrant as specified in its charter)

Pennsylvania		23-2233457
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

16 Lincoln Square, Gettysburg, Pennsylvania		17325
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (717) 334-3161

Title of each class		Name of each exchange on which registered
Common Stock, $2.50 par value per share		The NASDAQ Stock Market, LLC

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

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). Yes x No o

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 definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o		Accelerated filer x

Non-accelerated filer o		Smaller reporting company o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

The number of shares of the Registrant’s Common Stock outstanding on April 29, 2016, was 6,044,453.

PART I - FINANCIAL INFORMATION

ACNB CORPORATION

ITEM 1 - FINANCIAL STATEMENTS

CONSOLIDATED STATEMENTS OF CONDITION (UNAUDITED)

Dollars in thousands, except per share data	March 31, 2016			March 31, 2015			December 31, 2015

ASSETS

Cash and due from banks	$	12,948		$	12,339		$	13,468
Interest bearing deposits with banks	3,228			15,106			5,289

Total Cash and Cash Equivalents	16,176			27,445			18,757

Securities available for sale	119,412			115,442			125,693
Securities held to maturity, fair value $70,569; $71,746; $71,363	69,686			71,409			71,542
Loans held for sale	859			1,595			1,835
Loans, net of allowance for loan losses $14,540; $15,065; $14,747	852,450			800,145			838,213
Fixed assets held for sale	774			—			—
Premises and equipment	17,681			17,671			18,044
Restricted investment in bank stocks	4,840			4,051			4,414
Investment in bank-owned life insurance	39,910			38,204			39,642
Investments in low-income housing partnerships	3,232			3,682			3,345
Goodwill	6,308			6,308			6,308
Intangible assets	945			1,288			1,033
Foreclosed assets held for resale	564			1,854			580
Other assets	19,517			19,930			18,519

Total Assets	$	1,152,354		$	1,109,024		$	1,147,925

LIABILITIES AND STOCKHOLDERS’ EQUITY

LIABILITIES
Deposits:
Non-interest bearing	$	168,343		$	152,299		$	166,224
Interest bearing	744,472			722,616			746,756

Total Deposits	912,815			874,915			912,980

Short-term borrowings	32,492			34,746			35,202
Long-term borrowings	80,500			78,868			76,500
Other liabilities	9,605			8,848			8,528

Total Liabilities	1,035,412			997,377			1,033,210

STOCKHOLDERS’ EQUITY
Preferred stock, $2.50 par value; 20,000,000 shares authorized; no shares outstanding	—			—			—
Common stock, $2.50 par value; 20,000,000 shares authorized; 6,107,053, 6,082,775 and 6,102,324 shares issued; 6,044,453, 6,020,175 and 6,039,724 shares outstanding	15,268			15,207			15,256
Treasury stock, at cost (62,600 shares)	(728		)	(728		)	(728		)
Additional paid-in capital	10,480			10,029			10,387
Retained earnings	95,865			89,669			94,526
Accumulated other comprehensive loss	(3,943		)	(2,530		)	(4,726		)

Total Stockholders’ Equity	116,942			111,647			114,715

Total Liabilities and Stockholders’ Equity	$	1,152,354		$	1,109,024		$	1,147,925

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

ACNB CORPORATION

CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

	Three Months Ended March 31,
Dollars in thousands, except per share data	2016		2015

INTEREST INCOME
Loans, including fees	$	8,921	$	8,592
Securities:
Taxable	808		809
Tax-exempt	179		231
Dividends	51		165
Other	5		14

Total Interest Income	9,964		9,811

INTEREST EXPENSE
Deposits	558		499
Short-term borrowings	16		17
Long-term borrowings	383		454

Total Interest Expense	957		970

Net Interest Income	9,007		8,841

PROVISION FOR LOAN LOSSES	—		—

Net Interest Income after Provision for Loan Losses	9,007		8,841

OTHER INCOME
Service charges on deposit accounts	528		526
Income from fiduciary activities	394		363
Earnings on investment in bank-owned life insurance	268		262
Service charges on ATM and debit card transactions	355		361
Commissions from insurance sales	1,103		1,053
Other	224		228

Total Other Income	2,872		2,793

OTHER EXPENSES
Salaries and employee benefits	5,425		5,225
Net occupancy	570		603
Equipment	711		708
Other tax	197		161
Professional services	255		245
Supplies and postage	191		149
Marketing and corporate relations	117		78
FDIC and regulatory	177		167
Intangible assets amortization	88		82
Foreclosed real estate expenses	1		27
Other operating	777		779

Total Other Expenses	8,509		8,224

Income before Income Taxes	3,370		3,410

PROVISION FOR INCOME TAXES	823		867

Net Income	$	2,547	$	2,543

PER SHARE DATA
Basic earnings	$	0.42	$	0.42
Cash dividends declared	$	0.20	$	0.20

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

ACNB CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)

	Three Months Ended March 31,
Dollars in thousands	2016		2015

NET INCOME	$	2,547	$	2,543

OTHER COMPREHENSIVE INCOME

SECURITIES

Unrealized gains arising during the period, net of income taxes of $346 and $57, respectively	670		110

Reclassification adjustment for net gains included in net income, net of income taxes of $0 and $0, respectively (A) (C)	—		—

PENSION

Amortization of pension net loss, transition liability, and prior service cost, net of income taxes of $58 and $43, respectively (B) (C)	113		83

TOTAL OTHER COMPREHENSIVE INCOME	783		193

TOTAL COMPREHENSIVE INCOME	$	3,330	$	2,736

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

(A) Gross amounts are included in net gains on sales or calls of securities on the Consolidated Statements of Income in total other income.

(B) Gross amounts are included in the computation of net periodic benefit cost and are included in salaries and employee benefits on the Consolidated Statements of Income in total other expenses.

ACNB CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)

Three Months Ended March 31, 2016 and 2015

Dollars in thousands	Common Stock		Treasury Stock			Additional Paid-in Capital		Retained Earnings			Accumulated Other Comprehensive Loss			Total Stockholders’ Equity

BALANCE — JANUARY 1, 2015	$	15,196	$	(728	)	$	9,948	$	88,329		$	(2,723	)	$	110,022

Net income	—		—			—		2,543			—			2,543

Other comprehensive income, net of taxes	—		—			—		—			193			193

Common stock shares issued (4,525 shares)	11		—			81		—			—			92

Cash dividends declared	—		—			—		(1,203		)	—			(1,203		)

BALANCE — MARCH 31, 2015	$	15,207	$	(728	)	$	10,029	$	89,669		$	(2,530	)	$	111,647

BALANCE — JANUARY 1, 2016	$	15,256	$	(728	)	$	10,387	$	94,526		$	(4,726	)	$	114,715

Net income	—		—			—		2,547			—			2,547

Other comprehensive income, net of taxes	—		—			—		—			783			783

Common stock shares issued (4,729 shares)	12		—			93		—			—			105

Cash dividends declared	—		—			—		(1,208		)	—			(1,208		)

BALANCE — MARCH 31, 2016	$	15,268	$	(728	)	$	10,480	$	95,865		$	(3,943	)	$	116,942

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

ACNB CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

	Three Months Ended March 31,
Dollars in thousands	2016			2015

CASH FLOWS FROM OPERATING ACTIVITIES
Net income	$	2,547		$	2,543
Adjustments to reconcile net income to net cash provided by operating activities:
Gain on sales of loans originated for sale	(98		)	(106		)
(Gain) loss on sales of foreclosed assets held for resale, including writedowns	(15		)	29
Earnings on investment in bank-owned life insurance	(268		)	(262		)
Depreciation and amortization	453			425
Provision for loan losses	—			—
Net amortization of investment securities premiums	146			181
Decrease (increase) in accrued interest receivable	2			(70		)
Decrease in accrued interest payable	(13		)	(15		)
Mortgage loans originated for sale	(5,022		)	(7,540		)
Proceeds from sales of loans originated for sale	6,096			7,674
(Increase) decrease in other assets	(1,292		)	420
Increase in other liabilities	1,261			715

Net Cash Provided by Operating Activities	3,797			3,994

CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities of investment securities held to maturity	1,778			1,837
Proceeds from maturities of investment securities available for sale	7,229			5,758
Purchase of investment securities available for sale	—			(3,114		)
(Purchase) Redemption of restricted investment in bank stocks	(426		)	165
Net increase in loans	(14,310		)	(16,558		)
Purchase of book of business	—			(174		)
Capital expenditures	(775		)	(289		)
Proceeds from sale of foreclosed real estate	104			247

Net Cash Used in Investing Activities	(6,400		)	(12,128		)

CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in demand deposits	2,119			7,312
Net (decrease) increase in time certificates of deposits and interest bearing deposits	(2,284		)	22,727
Net decrease in short-term borrowings	(2,710		)	(10,953		)
Proceeds from long-term borrowings	9,000			4,000
Repayments on long-term borrowings	(5,000		)	(6,069		)
Dividends paid	(1,208		)	(1,203		)
Common stock issued	105			92

Net Cash Provided by Financing Activities	22			15,906

Net (Decrease) Increase in Cash and Cash Equivalents	(2,581		)	7,772

CASH AND CASH EQUIVALENTS — BEGINNING	18,757			19,673

CASH AND CASH EQUIVALENTS — ENDING	$	16,176		$	27,445

Interest paid	$	970		$	985
Income taxes paid	$	950		$	—
Loans transferred to foreclosed assets held for resale and other foreclosed transactions	$	73		$	513
Premises and equipment transferred to fixed assets held for sale	$	774		$	—

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

ACNB CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Basis of Presentation

ACNB Corporation (the Corporation or ACNB), headquartered in Gettysburg, Pennsylvania, provides banking, insurance, and financial services to businesses and consumers through its wholly-owned subsidiaries, ACNB Bank (Bank) and Russell Insurance Group, Inc. (RIG). The Bank engages in full-service commercial and consumer banking and trust services through its twenty-one retail banking office locations in Adams, Cumberland, Franklin and York Counties, Pennsylvania. There is also a loan production office situated in York County, Pennsylvania.

RIG is a full-service insurance agency based in Westminster, Maryland, with a second location in Germantown, Maryland. The agency offers a broad range of property and casualty, life, and health insurance to both commercial and individual clients.

The Corporation’s primary source of revenue is interest income on loans and investment securities and fee income on its products and services. Expenses consist of interest expense on deposits and borrowed funds, provisions for loan losses, and other operating expenses.

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly ACNB Corporation’s financial position and the results of operations, comprehensive income, changes in stockholders’ equity, and cash flows. All such adjustments are of a normal recurring nature.

The accounting policies followed by the Corporation are set forth in Note A to the Corporation’s consolidated financial statements in the 2015 ACNB Corporation Annual Report on Form 10-K, filed with the SEC on March 4, 2016. It is suggested that the consolidated financial statements contained herein be read in conjunction with the consolidated financial statements and notes included in the Corporation’s Annual Report on Form 10-K. The results of operations for the three month period ended March 31, 2016, are not necessarily indicative of the results to be expected for the full year. Fixed assets held for sale is measured at the lower of its carrying amount or fair value less cost to sell.

The Corporation has evaluated events and transactions occurring subsequent to the statement of condition date of March 31, 2016, for items that should potentially be recognized or disclosed in the consolidated financial statements. The evaluation was conducted through the date these consolidated financial statements were issued.

2. Earnings Per Share

The Corporation has a simple capital structure. Basic earnings per share of common stock is computed based on 6,040,555 and 6,016,454 weighted average shares of common stock outstanding for the three months ended March 31, 2016 and 2015, respectively. The Corporation does not have dilutive securities outstanding.

3. Retirement Benefits

The components of net periodic benefit expense (income) related to the non-contributory, defined benefit pension plan for the three month periods ended March 31 were as follows:

	Three Months Ended March 31,
In thousands	2016			2015
Service cost	$	199		$	220
Interest cost	284			260
Expected return on plan assets	(608		)	(635		)
Amortization of net loss	171			120
Amortization of prior service cost	—			6

Net Periodic Benefit Expense (Income)	$	46		$	(29	)

The Corporation previously disclosed in its consolidated financial statements for the year ended December 31, 2015, that it had not yet determined the amount the Bank planned on contributing to the defined benefit plan in 2016. As of March 31, 2016, this contribution amount had still not been determined. Effective April 1, 2012, no inactive or former participant in the plan is eligible to again participate in the plan, and no employee hired after March 31, 2012, is eligible to participate in the plan. As of the last annual census, ACNB Bank had a combined 375 active, vested, terminated and retired persons in the plan.

4. Guarantees

The Corporation does not issue any guarantees that would require liability recognition or disclosure, other than its standby letters of credit. Standby letters of credit are written conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Generally, all letters of credit, when issued, have expiration dates within one year. The credit risk involved in issuing letters of credit is essentially the same as those that are involved in extending loan facilities to customers. The Corporation generally holds collateral and/or personal guarantees supporting these commitments. The Corporation had $4,891,000 in standby letters of credit as of March 31, 2016. Management believes that the proceeds obtained through a liquidation of collateral and the enforcement of guarantees would be sufficient to cover the potential amount of future payments required under the corresponding guarantees. The current amount of the liability, as of March 31, 2016, for guarantees under standby letters of credit issued is not material.

5. Accumulated Other Comprehensive (Loss) Income

The components of accumulated other comprehensive (loss) income, net of taxes, are as follows:

In thousands	Unrealized Gains on Securities		Pension Liability			Accumulated Other Comprehensive (Loss) Income
BALANCE — MARCH 31, 2016	$	1,834	$	(5,777	)	$	(3,943	)
BALANCE — DECEMBER 31, 2015	$	1,164	$	(5,890	)	$	(4,726	)
BALANCE — MARCH 31, 2015	$	2,680	$	(5,210	)	$	(2,530	)

6. Segment Reporting

The Corporation has two reporting segments, the Bank and RIG. RIG is managed separately from the banking segment, which includes the Bank and related financial services that the Corporation offers through its banking subsidiary. RIG offers a broad range of property and casualty, life, and health insurance to both commercial and individual clients.

Segment information for the three month periods ended March 31, 2016 and 2015, is as follows:

In thousands	Banking		Insurance		Total
2016
Net interest income and other income from external customers	$	10,776	$	1,103	$	11,879
Income before income taxes	3,219		151		3,370
Total assets	1,142,407		9,947		1,152,354
Capital expenditures	763		12		775

2015
Net interest income and other income from external customers	$	10,576	$	1,058	$	11,634
Income before income taxes	3,300		110		3,410
Total assets	1,098,933		10,091		1,109,024
Capital expenditures	289		—		289

Intangible assets, representing customer lists, are amortized over 10 years on a straight line basis. Goodwill is not amortized, but rather is analyzed annually for impairment. If certain events occur which might indicate goodwill has been impaired, the goodwill is tested for impairment when such events occur. Tax amortization of goodwill and the intangible assets is deductible for tax purposes.

7. Securities

Debt securities that management has the positive intent and ability to hold to maturity are classified as “held to maturity” and recorded at amortized cost. Securities not classified as held to maturity or trading, including equity securities with readily determinable fair values, are classified as “available for sale” and recorded at fair value, with unrealized gains and losses excluded from earnings and reported, net of tax, in other comprehensive income (loss).

Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses on debt securities, management considers (1) whether management intends to sell the security, or (2) if it is more likely than not that management will be required to sell the security before recovery, or (3) if management does not expect to recover the entire amortized cost basis. In assessing potential other-than-temporary impairment for equity securities, consideration is given to management’s intention and ability to hold the securities until recovery of unrealized losses. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

Amortized cost and fair value of securities at March 31, 2016, and December 31, 2015, were as follows:

In thousands	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value

SECURITIES AVAILABLE FOR SALE

MARCH 31, 2016
U.S. Government and agencies	$	44,185	$	540	$	—	$	44,725
Mortgage-backed securities, residential	39,008		1,642		—		40,650
State and municipal	24,693		618		1		25,310
Corporate bonds	7,000		14		75		6,939
CRA mutual fund	1,044		23		—		1,067
Stock in other banks	702		55		36		721
	$	116,632	$	2,892	$	112	$	119,412

DECEMBER 31, 2015
U.S. Government and agencies	$	46,218	$	124	$	313	$	46,029
Mortgage-backed securities, residential	41,528		1,336		25		42,839
State and municipal	27,437		642		1		28,078
Corporate bonds	7,000		20		65		6,955
CRA mutual fund	1,044		9		—		1,053
Stock in other banks	702		49		12		739
	$	123,929	$	2,180	$	416	$	125,693

SECURITIES HELD TO MATURITY

MARCH 31, 2016
U.S. Government and agencies	$	31,029	$	190	$	—	$	31,219
Mortgage-backed securities, residential	38,657		695		2		39,350
	$	69,686	$	885	$	2	$	70,569
DECEMBER 31, 2015
U.S. Government and agencies	$	31,044	$	27	$	176	$	30,895
Mortgage-backed securities, residential	40,498		232		262		40,468
	$	71,542	$	259	$	438	$	71,363

The following table shows the Corporation’s investments’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at March 31, 2016, and December 31, 2015:

	Less than 12 Months				12 Months or More				Total
In thousands	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses

SECURITIES AVAILABLE FOR SALE

MARCH 31, 2016
State and municipal	$	218	$	1	$	—	$	—	$	218	$	1
Corporate bond	4,925		75						4,925		75
Stock in other banks	168		36		—		—		168		36
	$	5,311	$	112	$	—	$	—	$	5,311	$	112

DECEMBER 31, 2015
U.S. Government and agencies	$	31,992	$	313	$	—	$	—	$	31,992	$	313
Mortgage-backed securities, residential	4,855		25		—		—		4,855		25
State and municipal	909		1		—		—		909		1
Corporate bond	4,935		65		—		—		4,935		65
Stock in other banks	191		12		—		—		191		12
	$	42,882	$	416	$	—	$	—	$	42,882	$	416

SECURITIES HELD TO MATURITY

MARCH 31, 2016
Mortgage-backed securities, residential	$	—	$	—	$	1,495	$	2	$	1,495	$	2
	$	—	$	—	$	1,495	$	2	$	1,495	$	2

DECEMBER 31, 2015
U.S. Government and agencies	$	18,959	$	83	$	6,907	$	93	$	25,866	$	176
Mortgage-backed securities, residential	3,109		13		15,420		249		18,529		262
	$	22,068	$	96	$	22,327	$	342	$	44,395	$	438

All mortgage-backed security investments are government sponsored enterprise (GSE) pass-through instruments issued by the Federal National Mortgage Association (FNMA), Government National Mortgage Association (GNMA) or Federal Home Loan Mortgage Corporation (FHLMC), which guarantee the timely payment of principal on these investments.

At March 31, 2016, one available for sale state and municipal bond had an unrealized loss that did not exceed 1% of amortized cost. This security has not been in a continuous loss position for 12 months or more. This unrealized loss relates principally to changes in interest rates subsequent to the acquisition of the security.

At March 31, 2016, one available for sale corporate bond had an unrealized loss and has not been in a continuous loss position for 12 months or more. This unrealized loss relates principally to changes in interest rates subsequent to the acquisition of the specific security. This security had an unrealized loss of less than 2% of amortized cost.

At March 31, 2016, one available for sale stock in other banks had an unrealized loss that did not exceed 18% of amortized cost. This security has not been in a continuous loss position for 12 months or more. This unrealized loss relates principally to daily market changes.

At March 31, 2016, one held to maturity residential mortgage-backed security had an unrealized loss that individually did not exceed 1% of amortized cost. This security has been in a continuous loss position for 12 months or more. The unrealized loss relates principally to changes in interest rates subsequent to the acquisition of the specific securities.

In analyzing the issuer’s financial condition, management considers industry analysts’ reports, financial performance, and projected target prices of investment analysts within a one-year time frame. Based on the above information, management has determined that none of these investments are other-than-temporarily impaired.

The fair values of securities available for sale (carried at fair value) and held to maturity (carried at amortized cost) are determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2) which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the security’s relationship to other benchmark quoted prices. The Corporation uses independent service providers to provide matrix pricing.

Management routinely sells securities from its available for sale portfolio in an effort to manage and allocate the portfolio. At March 31, 2016, management had not identified any securities with an unrealized loss that it intends to sell or will be required to sell. In estimating other-than-temporary impairment losses on debt securities, management considers (1) whether management intends to sell the security, or (2) if it is more likely than not that management will be required to sell the security before recovery, or (3) if management does not expect to recover the entire amortized cost basis. In assessing potential other-than-temporary impairment for equity securities, consideration is given to management’s intention and ability to hold the securities until recovery of unrealized losses.

Amortized cost and fair value at March 31, 2016, by contractual maturity, where applicable, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay with or without penalties.

Available for Sale

Held to Maturity

In thousands

Amortized
Cost

Fair
Value

Amortized
Cost

Fair
Value

1 year or less

11,769

11,857

—

Over 1 year through 5 years

43,679

44,416

31,029

31,219

Over 5 years through 10 years

20,265

20,536

—

Over 10 years

165

—

Mortgage-backed securities, residential

39,008

40,650

38,657

39,350

CRA mutual fund

1,044

1,067

—

Stock in other banks

702

721

—

116,632

119,412

69,686

70,569

The Corporation did not sell any securities available for sale during the first quarter of 2016 or 2015.

At March 31, 2016, and December 31, 2015, securities with a carrying value of $115,976,000 and $117,646,000, respectively, were pledged as collateral as required by law on public and trust deposits, repurchase agreements, and for other purposes.

8. Loans

The Corporation grants commercial, residential, and consumer loans to customers. A substantial portion of the loan portfolio is represented by mortgage loans throughout southcentral Pennsylvania and northern Maryland. The ability of the Corporation’s debtors to honor their contracts is dependent upon the real estate values and general economic conditions in this area.

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off generally are reported at their outstanding unpaid principal balances adjusted for charge-offs, the allowance for loan losses, and any deferred fees or costs on originated loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the interest method.

The loans receivable portfolio is segmented into commercial, residential mortgage, home equity lines of credit, and consumer loans. Commercial loans consist of the following classes: commercial and industrial, commercial real estate, and commercial real estate construction.

The accrual of interest on residential mortgage and commercial loans is discontinued at the time the loan is 90 days past due unless the credit is well-secured and in process of collection. Consumer loans (consisting of home equity lines of credit and consumer loan classes) are typically charged off no later than 120 days past due. Past due status is based on the contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful.

All interest accrued, but not collected, for loans that are placed on nonaccrual or charged off is reversed against interest income. The interest on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

Allowance for Credit Losses

The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded lending commitments. The allowance for loan losses (the “allowance”) is established as losses are estimated to occur through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The reserve for unfunded lending commitments represents management’s estimate of losses inherent in its unfunded loan commitments and is recorded in other liabilities on the consolidated statement of condition. The amount of the reserve for unfunded lending commitments is not material to the consolidated financial statements.

The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as either doubtful, substandard, or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers pools of loans by loan class including commercial loans not considered impaired, as well as smaller balance homogeneous loans, such as residential real estate, home equity, and other consumer loans. These pools of loans are evaluated for loss exposure based upon historical loss rates for the previous

twelve quarters for each of these categories of loans, adjusted for qualitative risk factors. These qualitative risk factors include:

· lending policies and procedures, including underwriting standards and collection, charge-off and recovery practices;

· national, regional and local economic and business conditions, as well as the condition of various market segments, including the impact on the value of underlying collateral for collateral dependent loans;

· the nature and volume of the portfolio and terms of loans;

· the experience, ability and depth of lending management and staff;

· the volume and severity of past due, classified and nonaccrual loans, as well as other loan modifications; and,

· the existence and effect of any concentrations of credit and changes in the level of such concentrations.

Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation. Adjustments to the factors are supported through documentation of changes in conditions in a narrative accompanying the allowance for loan loss calculation.

The unallocated component of the allowance is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. It covers risks that are inherently difficult to quantify including, but not limited to, collateral risk, information risk, and historical charge-off risk.

A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal and/or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and/or interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial and commercial construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

A specific allocation within the allowance for loan losses is established for an impaired loan if its carrying value exceeds its estimated fair value. The estimated fair values of the Corporation’s impaired loans are measured based on the estimated fair value of the loan’s collateral or the discounted cash flows method.

It is the policy of the Corporation to order an updated valuation on all real estate secured loans when the loan becomes 90 days past due and there has not been an updated valuation completed within the previous 12 months. In addition, the Corporation orders third-party valuations on all impaired real estate collateralized loans within 30 days of the loan being classified as impaired. Until the valuations are completed, the Corporation utilizes the most recent independent third-party real estate valuation to estimate the need for a specific allocation to be assigned to the loan. These existing valuations are discounted downward to account for such things as the age of the existing collateral valuation, change in the condition of the real estate, change in local market and economic conditions, and other specific factors involving the collateral. Once the updated valuation is completed, the collateral value is updated accordingly.

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

The Corporation actively monitors the values of collateral as well as the age of the valuation of impaired loans. Management believes that the Corporation’s market area is not as volatile as other areas throughout the United States, therefore valuations are ordered at least every 18 months, or more frequently if management believes that there is an indication that the fair value has declined.

For impaired loans secured by collateral other than real estate, the Corporation considers the net book value of the collateral, as recorded in the most recent financial statements of the borrower, and determines fair value based on estimates made by management.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Corporation does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are the subject of a troubled debt restructure.

Loans whose terms are modified are classified as troubled debt restructured loans if the Corporation grants such borrowers concessions that it would not otherwise consider and it is deemed that those borrowers are experiencing financial difficulty. Concessions granted under a troubled debt restructuring generally involve a temporary reduction in interest rate, a below market interest rate given the risk associated with the loan, or an extension of a loan’s stated maturity date. Nonaccrual troubled debt restructurings may be restored to accrual status if principal and interest payments, under the modified terms, are current for a sustained period of time and, based on a well-documented credit evaluation of the borrower’s financial condition, there is reasonable assurance of repayment. Loans classified as troubled debt restructurings are generally designated as impaired.

The allowance calculation methodology includes further segregation of loan classes into credit quality rating categories. The borrower’s overall financial condition, repayment sources, guarantors, and value of collateral, if appropriate, are generally evaluated annually for commercial loans or when credit deficiencies arise, such as delinquent loan payments.

Credit quality risk ratings include regulatory classifications of special mention, substandard, doubtful, and loss. Loans classified special mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects. Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans classified as a loss are considered uncollectible and are charged to the allowance for loan losses. Loans not classified are rated pass.

In addition, federal and state regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses and may require the Corporation to recognize additions to the allowance based on their judgments about information available to them at the time of their examination, which may not be currently available to management. Based on management’s comprehensive analysis of the loan portfolio and economic conditions, management believes the current level of the allowance for loan losses is adequate.

Commercial and Industrial Lending — The Corporation originates commercial and industrial loans primarily to businesses located in its primary market area and surrounding areas. These loans are used for various business purposes which include short-term loans and lines of credit to finance machinery and equipment purchases, inventory, and accounts receivable.

Generally, the maximum term for loans extended on machinery and equipment is based on the projected useful life of such machinery and equipment. Most business lines of credit are written on demand and may be renewed annually.

Commercial and industrial loans are generally secured with short-term assets; however, in many cases, additional collateral such as real estate is provided as additional security for the loan. Loan-to-value maximum values have been established by the Corporation and are specific to the type of collateral. Collateral values may be determined using invoices, inventory reports, accounts receivable aging reports, collateral appraisals, etc.

In underwriting commercial and industrial loans, an analysis is performed to evaluate the borrower’s character and capacity to repay the loan, the adequacy of the borrower’s capital and collateral, as well as the conditions affecting the borrower. Evaluation of the borrower’s past, present and future cash flows is also an important aspect of the Corporation’s analysis.

Commercial loans generally present a higher level of risk than other types of loans due primarily to the effect of general economic conditions.

Commercial Real Estate Lending — The Corporation engages in commercial real estate lending in its primary market area and surrounding areas. The Corporation’s commercial loan portfolio is secured primarily by commercial retail space, office buildings, and hotels. Generally, commercial real estate loans have terms that do not exceed 20 years, have loan-to-value ratios of up to 80% of the appraised value of the property, and are typically secured by personal guarantees of the borrowers.

In underwriting these loans, the Corporation performs a thorough analysis of the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the property securing the loan. Appraisals on properties securing commercial real estate loans originated by the Corporation are performed by independent appraisers.

Commercial real estate loans generally present a higher level of risk than other types of loans due primarily to the effect of general economic conditions and the complexities involved in valuing the underlying collateral.

Commercial Real Estate Construction Lending — The Corporation engages in commercial real estate construction lending in its primary market area and surrounding areas. The Corporation’s commercial real estate construction lending consists of commercial and residential site development loans, as well as commercial building construction and residential housing construction loans.

The Corporation’s commercial real estate construction loans are generally secured with the subject property. Terms of construction loans depend on the specifics of the project, such as estimated absorption rates, estimated time to complete, etc.

In underwriting commercial real estate construction loans, the Corporation performs a thorough analysis of the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the project using feasibility studies, market data, etc. Appraisals on properties securing commercial real estate construction loans originated by the Corporation are performed by independent appraisers.

Commercial real estate construction loans generally present a higher level of risk than other types of loans due primarily to the effect of general economic conditions and the uncertainties surrounding total construction costs.

Residential Mortgage Lending — One-to-four family residential mortgage loan originations, including home equity closed-end loans, are generated by the Corporation’s marketing efforts, its present customers, walk-in customers, and referrals.

These loans originate primarily within the Corporation’s market area or with customers primarily from the market area.

The Corporation offers fixed-rate and adjustable-rate mortgage loans with terms up to a maximum of 30 years for both permanent structures and those under construction. The Corporation’s one-to-four family residential mortgage originations are secured primarily by properties located in its primary market area and surrounding areas. The majority of the Corporation’s residential mortgage loans originate with a loan-to-value of 80% or less. Loans in excess of 80% are required to have private mortgage insurance.

In underwriting one-to-four family residential real estate loans, the Corporation evaluates both the borrower’s financial ability to repay the loan as agreed and the value of the property securing the loan. Properties securing real estate loans made by the Corporation are appraised by independent appraisers. The Corporation generally requires borrowers to obtain an attorney’s title opinion or title insurance, as well as fire and property insurance (including flood insurance, if necessary) in an amount not less than the amount of the loan. The Corporation has not engaged in subprime residential mortgage originations.

Residential mortgage loans present a moderate level of risk due primarily to general economic conditions, as well as a continued weak housing market.

Home Equity Lines of Credit Lending — The Corporation originates home equity lines of credit primarily within the Corporation’s market area or with customers primarily from the market area. Home equity lines of credit are generated by the Corporation’s marketing efforts, its present customers, walk-in customers, and referrals.

Home equity lines of credit are secured by the borrower’s primary residence with a maximum loan-to-value of 90% and a maximum term of 20 years. In underwriting home equity lines of credit, the Corporation evaluates both the value of the property securing the loan and the borrower’s financial ability to repay the loan as agreed. The ability to repay is determined by the borrower’s employment history, current financial condition, and credit background.

Home equity lines of credit generally present a moderate level of risk due primarily to general economic conditions, as well as a continued weak housing market.

Junior liens inherently have more credit risk by virtue of the fact that another financial institution may have a higher security position in the case of foreclosure liquidation of collateral to extinguish the debt. Generally, foreclosure actions could become more prevalent if the real estate market continues to be weak and property values deteriorate.

Consumer Lending — The Corporation offers a variety of secured and unsecured consumer loans, including those for vehicles and mobile homes and loans secured by savings deposits. These loans originate primarily within the Corporation’s market area or with customers primarily from the market area.

Consumer loan terms vary according to the type and value of collateral and the creditworthiness of the borrower. In underwriting consumer loans, a thorough analysis of the borrower’s financial ability to repay the loan as agreed is performed. The ability to repay is determined by the borrower’s employment history, current financial condition, and credit background.

Consumer loans may entail greater credit risk than residential mortgage loans or home equity lines of credit, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets such as automobiles or recreational equipment. In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation. In addition, consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including

bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.

The following table presents the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard, and doubtful within the Corporation’s internal risk rating system as of March 31, 2016, and December 31, 2015:

In thousands	Pass		Special Mention		Substandard		Doubtful		Total
MARCH 31, 2016
Commercial and industrial	$	121,294	$	3,941	$	2,341	$	—	$	127,576
Commercial real estate	264,280		17,510		15,265		—		297,055
Commercial real estate construction	13,241		2,081		374		—		15,696
Residential mortgage	345,633		5,316		1,095		—		352,044
Home equity lines of credit	59,033		1,110		129		—		60,272
Consumer	14,347		—		—		—		14,347
	$	817,828	$	29,958	$	19,204	$	—	$	866,990

DECEMBER 31, 2015
Commercial and industrial	$	112,037	$	3,744	$	1,911	$	—	$	117,692
Commercial real estate	252,071		23,421		14,407		—		289,899
Commercial real estate construction	11,087		1,968		374		—		13,429
Residential mortgage	350,537		5,548		1,143		—		357,228
Home equity lines of credit	58,856		1,138		130		—		60,124
Consumer	14,588		—		—		—		14,588
	$	799,176	$	35,819	$	17,965	$	—	$	852,960

The following table summarizes information relative to impaired loans by loan portfolio class as of March 31, 2016, and December 31, 2015:

	Impaired Loans with Allowance						Impaired Loans with No Allowance
In thousands	Recorded Investment		Unpaid Principal Balance		Related Allowance		Recorded Investment		Unpaid Principal Balance
MARCH 31, 2016
Commercial and industrial	$	—	$	—	$	—	$	1,407	$	1,407
Commercial real estate	—		—		—		8,622		8,832
Commercial real estate construction	—		—		—		475		749
Residential mortgage	—		—		—		349		349
	$	—	$	—	$	—	$	10,853	$	11,337

DECEMBER 31, 2015
Commercial and industrial	$	—	$	—	$	—	$	1,471	$	1,471
Commercial real estate	—		—		—		8,185		8,396
Commercial real estate construction	—		—		—		374		648
Residential mortgage	—		—		—		461		461
	$	—	$	—	$	—	$	10,491	$	10,976

The following table summarizes information in regards to the average of impaired loans and related interest income by loan portfolio class for the three months ended March 31, 2016 and 2015:

	Impaired Loans with Allowance				Impaired Loans with No Allowance
In thousands	Average Recorded Investment		Interest Income		Average Recorded Investment		Interest Income
MARCH 31, 2016
Commercial and industrial	$	—	$	—	$	1,439	$	—
Commercial real estate	—		—		8,404		118
Commercial real estate construction	—		—		374		—
Residential mortgage	—		—		455		5
	$	—	$	—	$	10,672	$	123

MARCH 31, 2015
Commercial and industrial	$	—	$	—	$	1,694	$	—
Commercial real estate	—		—		9,941		57
Commercial real estate construction	—		—		347		—
Residential mortgage	694		—		570		5
	$	694	$	—	$	12,552	$	62

No additional funds are committed to be advanced in connection with impaired loans.

The following table presents nonaccrual loans by loan portfolio class as of March 31, 2016, and December 31, 2015:

In thousands	March 31, 2016		December 31, 2015
Commercial and industrial	$	1,407	$	1,471
Commercial real estate	2,155		1,676
Commercial real estate construction	374		374
Residential mortgage	170		178
	$	4,106	$	3,699

The following table summarizes information relative to troubled debt restructurings by loan portfolio class as of March 31, 2016, and December 31, 2015:

In thousands	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Recorded Investment at Period End
MARCH 31, 2016
Nonaccruing troubled debt restructurings:
Commercial real estate	$	1,021	$	1,021	$	439
Commercial real estate construction	1,548		1,541		74
Total nonaccruing troubled debt restructurings	2,569		2,562		513
Accruing troubled debt restructurings:
Commercial real estate	7,118		7,170		6,467
Residential mortgage	336		336		280
Total accruing troubled debt restructurings	7,454		7,506		6,747
Total Troubled Debt Restructurings	$	10,023	$	10,068	$	7,260

DECEMBER 31, 2015
Nonaccruing troubled debt restructurings:
Commercial real estate	$	1,021	$	1,021	$	460
Commercial real estate construction	1,548		1,541		74
Total nonaccruing troubled debt restructurings	2,569		2,562		534
Accruing troubled debt restructurings:
Commercial real estate	7,118		7,170		6,509
Residential mortgage	336		336		283
Total accruing troubled debt restructurings	7,454		7,506		6,792
Total Troubled Debt Restructurings	$	10,023	$	10,068	$	7,326

All of the Corporation’s troubled debt restructured loans are also impaired loans, of which some have resulted in a specific allocation and, subsequently, a charge-off as appropriate. As of March 31, 2016, there was no specific allocation on any of the troubled debt restructured loans. As of March 31, 2016 and 2015, there were no defaulted troubled debt restructured loans. There were no charge-offs on troubled debt restructured loans for the three months ended March 31, 2016 and 2015. One troubled debt restructured loan paid off during the second quarter of 2015. All other troubled debt restructured loans were current as of March 31, 2016, with respect to their associated forbearance agreement, except for one loan which has had periodic late payments. One forbearance agreement was negotiated during 2009 and modified during 2011, one was negotiated during 2010, three were negotiated during 2012, and one was negotiated during 2013.

There are forbearance agreements on all loans currently classified as troubled debt restructurings, however two of the forbearance agreements have expired but all of the loans remain classified as troubled debt restructured loans. All of these troubled debt restructured loans have resulted in additional principal repayment. The terms of these troubled debt restructured loans vary whereby principal payments have been decreased, interest rates have been reduced, and/or the loan will be repaid as collateral is sold.

There were no loans whose terms have been modified resulting in troubled debt restructurings during the three months ended March 31, 2016 and 2015.

Consumer mortgage loans secured by residential real estate properties for which formal foreclosure proceedings are in process at March 31, 2016 and December 31, 2015, totaled $791,000 and $583,000, respectively.

The performance and credit quality of the loan portfolio is also monitored by analyzing the age of the loans receivable as determined by the length of time a recorded payment is past due.

The following table presents the classes of the loan portfolio summarized by the past due status as of March 31, 2016, and December 31, 2015:

In thousands

30-59 Days
Past Due

60-89 Days
Past Due

>90 Days
Past Due

Total Past
Due

Current

Total Loans
Receivable

Loans
Receivable
>90 Days
and
Accruing

MARCH 31, 2016

Commercial and industrial

—

1,407

1,419

126,157

127,576

—

Commercial real estate

613

1,271

1,896

295,159

297,055

—

Commercial real estate construction

—

374

15,322

15,696

—

Residential mortgage

2,664

183

1,425

4,272

347,772

352,044

1,265

Home equity lines of credit

448

—

200

648

59,624

60,272

200

Consumer

14,316

14,347

3,154

804

4,682

8,640

858,350

866,990

1,470