Pacific Financial Corp 1Q17 Earnings Increase 16% to $1.6 Million, or $0.15 per Share, from 1Q16; 1Q17 Profits Grow 9% from 4Q16

ABERDEEN, Wash., April 20, 2017 (GLOBE NEWSWIRE) — Pacific Financial Corporation (OTCQB:PFLC), the holding company for Bank of the Pacific today reported net income increased 9% to $1.6 million, or $0.15 per share, for the first quarter of 2017, compared to $1.5 million, or $0.14 per share for the fourth quarter of 2016, and grew 16% from $1.4 million, or $0.13 per share, for the first quarter of 2016.  Driving profitability in 2017 was steady loan growth, an expanded net interest margin and improving operating efficiencies.  All results are unaudited.

“After delivering record earnings for 2016, we continued the momentum of achieving sound financial results for the first quarter.  The sustained strength of our core earnings resulted from steady loan growth, expanding net interest margin and improved expense controls.  In addition, revenue from our residential real estate mortgage operation continued to be a solid source of non-interest income, despite recent increases in mortgage interest rates,” remarked Denise Portmann, President & Chief Executive Officer.  “Financing of purchase activity continues to be strong.  Demand for residential housing remains robust, but low supply in several of our markets is inhibiting sales to some degree.  As construction activity accelerates to meet demand for additional housing, our residential mortgage lending group is well situated to generate additional revenue from the anticipated increase in purchase activity.”

“Our asset quality continues to be solid, as delinquent and non-performing loans remain at low levels.  The payoff of a $2.0 million adversely classified loan and sale of our last other-real-estate-owned (OREO) property during the quarter further strengthened our asset quality,” added Portmann.  “Our loan growth over the recent quarters has been moderate as we continue to foster a strong risk management culture by administering our commercial real estate portfolio well within regulatory concentration guidelines.”

First Quarter 2017 Highlights (as of, or for the period ended March 31, 2017, except as noted):

  • Net interest margin (NIM), on a tax equivalent basis, expanded 19 basis point to 4.19%, as compared to 4.00% in the preceding quarter, primarily due to an increase in loan and investment security yields, impacted by recent increases in interest rates.  NIM contracted 8 basis points from 4.27% for the first quarter 2016, which was enhanced by 12 basis points (annualized) due to additional one-time interest income resulting from a loan agreement breach.
  • Total assets declined slightly to $872.8 million, at March 31, 2017, compared to $891.4 million, at December 31, 2016, and grew 5% from $829.5 million, at March 31, 2016.
      
  • Gross loans grew by $9.1 million, or 1%, to $668.4 million, on a linked quarter basis and increased by $23.5 million, or 4%, over the first quarter of 2016.
       
  • Total deposits decreased 2% to $762.0 million, compared to $779.7 million at December 31, 2016, and increased 5% from a year earlier.  Seasonal outflows of deposits normally begin in the winter and extend into spring due to the slowdown of tourism activity in certain core markets.  As a result, non-interest bearing demand deposits declined 2% on a linked quarter basis, but grew 18% over the first quarter of 2016.
  • Nonperforming assets were $1.3 million, or 0.15% of total assets, compared to 0.20% on a linked quarter basis and 0.47% a year ago.  The allowance for loan losses to gross loans stood at 1.38% at March 31, 2017, as compared to 1.39% and 1.33% at December 31, 2016 and March 31, 2016, respectively.
     
  • Net charge-offs totaled $97,000, or 0.06% of average gross loans in the first quarter, compared to net recoveries of $48,000, or 0.03% of average gross loans, in fourth quarter 2016 and net charge-offs of $27,000, or 0.02% of average gross loans, in first quarter 2016.  Loans 30 – 89 days’ delinquent, not in nonaccrual status, were minimal at 0.03% of total loans outstanding.
     
  • Adversely classified loans were $15.0 million, or 2.24% of gross loans, compared to 2.68% and 2.72% at December 31, 2016 and March 31, 2016, respectively.  The recent decrease was primarily due to the payoff of a $2.0 million adversely classified commercial participation loan during the current period.

Operating Results

Total assets were down slightly from the linked quarter, due primarily to expected seasonal declines in deposits.  Growth in loans and loans held for sale was offset by declines in cash equivalents and investment securities.  Total assets were higher year-over-year primarily in loans, investment securities and cash equivalents, funded by increases in core deposits resulting from growth in commercial deposit relationships from both new and existing clients.  Liquidity remains strong, including ample unused borrowing capacity.  Capital ratios continue to exceed the thresholds to be considered “Well-Capitalized” under published regulatory standards.

Balance Sheet Overview  
(Unaudited)  
                               
    March 31,  2017   Dec 31,  2016   $  Change   %  Change   March 31,  2016   $ Change   % Change  
Assets:    (Dollars in thousands, except per share data)   
Cash and cash equivalents $ 28,230   $ 59,298   $ (31,068 )   -52 % $ 22,961   $ 5,269     23 %  
Other interest earning deposits   2,231     2,231         0 %   2,727     (496 )   -18 %  
Investment securities   109,963     112,155     (2,192 )   -2 %   96,004     13,959     15 %  
Loans held-for-sale   12,309     6,572     5,737     87 %   9,446     2,863     30 %  
Loans, net of deferred fees   666,918     657,803     9,115     1 %   643,377     23,541     4 %  
Allowance for loan losses   (9,217 )   (9,192 )   (25 )   0 %   (8,552 )   (665 )   8 %  
  Net loans   657,701     648,611     9,090     1 %   634,825     22,876     4 %  
Federal Home Loan Bank and Pacific Coast
  Bankers’ Bank stock, at cost
  2,413     2,335     78     3 %   2,339     74     3 %  
Other assets   59,962     60,181     (219 )   0 %   61,205     (1,243 )   -2 %  
  Total assets $ 872,809   $ 891,383   $ (18,574 )   -2 % $ 829,507   $ 43,302     5 %  
                               
Liabilities and Shareholders’ Equity:                              
Total deposits $ 761,951   $ 779,731   $ (17,780 )   -2 % $ 722,736   $ 39,215     5 %  
Borrowings   22,019     22,056     (37 )   0 %   22,169     (150 )   -1 %  
Accrued interest payable and other liabilities   7,008     9,591     (2,583 )   -27 %   6,147     861     14 %  
Shareholders’ equity   81,831     80,005     1,826     2 %   78,455     3,376     4 %  
  Total liabilities and shareholders’ equity $ 872,809   $ 891,383   $ (18,574 )   -2 % $ 829,507   $ 43,302     5 %  
                               
Common Stock Shares Outstanding   10,436,544     10,424,541     12,003     0 %   10,417,868     18,676     0 %  
                               
Book value per common share (1) $ 7.84   $ 7.67   $ 0.17     2 % $ 7.53   $ 0.31     4 %  
Tangible book value per common share (2) $ 6.54   $ 6.38   $ 0.16     3 % $ 6.23   $ 0.31     5 %  
Gross loans to deposits ratio   87.5 %   84.4 %           89.0 %          
                               
(1) Book value per common share is calculated as the total common shareholders’ equity divided by the period ending number of common stock shares
  outstanding.
 
(2) Tangible book value per common share is calculated as the total common shareholders’ equity less total intangible assets and liabilities, divided by the period ending number of common stock shares outstanding.  
                               

Net interest income remained relatively unchanged from the linked quarter, due primarily to a moderation of loan growth and a reduction in investment securities and cash equivalents caused by a seasonal decline in deposits.  Net interest income grew 2% versus the comparable quarter a year ago, reflecting the growth in earning assets over the recent quarters.  Loan balances increased year-over-year due to loan production generated predominately in Western Washington and Oregon.  Interest expense remained virtually unchanged as compared to the linked quarter.

Interest expense grew compared to the corresponding period in 2016, reflecting growth in core deposits and rate increases LIBOR-based junior subordinated debentures.  The continued growth of noninterest bearing deposits mitigated the impact of the addition of longer-term deposits on funding costs.

Pre-tax, pre-credit operating income (non-GAAP) declined 20% to $2.2 million for the first quarter of 2017 from $2.8 million for the fourth quarter of 2016. This decline was primarily due to a decrease of $576,000 in gains on sale of residential real estate loans as a result of typical seasonal slowdown in mortgage activity during the reporting quarter.  Pre-tax, pre-credit operating income (non-GAAP) increased 27%, compared to $1.8 million for the first quarter of 2016, primarily due to growth in net interest income, fee income and reduction in noninterest expense. 

Income Statement Overview                
(Unaudited)                
                                               
       For the Three Months Ended,                 
      March 31,  2017   Dec 31,  2016   $  Change   %  Change   March 31,  2016   $ Change   % Change                
       (Dollars in thousands, except per share data)                 
Interest and dividend income $ 8,678 $ 8,694 $ (16 )   0 % $ 8,529 $ 149     2 %                
Interest expense   620   621   (1 )   0 %   607   13     2 %                
  Net interest income   8,058   8,073   (15 )   0 %   7,922   136     2 %                
Loan loss provision   122   184   (62 )   -34 %   262   (140 )   -53 %                
Noninterest income   2,281   2,571   (290 )   -11 %   2,531   (250 )   -10 %                
Noninterest expense   8,150   8,507   (357 )   -4 %   8,270   (120 )   -1 %                
Income before income taxes   2,067   1,953   114     6 %   1,921   146     8 %                
Income tax expense   476   493   (17 )   -3 %   545   (69 )   -13 %                
  Net Income $ 1,591 $ 1,460 $ 131     9 % $ 1,376 $ 215     16 %                
                                               
Average common shares outstanding – basic    10,430,276   10,422,889   7,387     0 %   10,401,140   29,136     0 %                
Average common shares outstanding – diluted   10,653,999   10,625,295   28,704     0 %   10,547,413   106,586     1 %                
                                               
Income per common share                                            
  Basic $ 0.15 $ 0.14 $ 0.01     7 % $ 0.13 $ 0.02     15 %                
  Diluted $ 0.15 $ 0.14 $ 0.01     7 % $ 0.13 $ 0.02     15 %                
                                               
                                               

The following tables provide the reconciliation of net income to pre-tax, pre-credit operating income (non-GAAP):

Reconciliation of Non-GAAP Measure  
(Unaudited)  
                               
     For the Three Months Ended,   
    March 31,  2017   Dec 31,  2016   $  Change   %  Change   March 31,  2016   $ Change   % Change  
Non-GAAP Operating Income    (Dollars in thousands)   
Net Income $ 1,591 $ 1,460 $ 131     9 % $ 1,376   $ 215     16 %  
Loan loss provision   122   184   (62 )   -34 %   262     (140 )   -53 %  
Loss on sale of other real estate owned, net   52   328   (276 )   -84 %   (420 )   472     -112 %  
Loss on real estate owned, net     324   (324 )   100 %           0 %  
Income tax expense   476   493   (17 )   -3 %   545     (69 )   -13 %  
Pre-tax, pre-credit operating income $ 2,241 $ 2,789 $ (548 )   -20 % $ 1,763   $ 478     27 %  
                               
                               

Noninterest Income

Noninterest income was down versus the linked quarter, primarily due to a decline in gross revenue from the sale of residential mortgage loans, primarily due to seasonal decreases in residential sales activity typical for the first quarter.  Also, recent increases in mortgage rates have moderated demand for refinancing.  However, demand for purchase financing remains strong, with robust demand for new homes chasing a limited supply of new houses in several of our Western Washington and Oregon markets. Indicative of these trends, Realtor.com recently ranked Seattle, WA and Portland, OR as the #1 and #8 cities, respectively, for housing shortages in the country.  Supply constraints have also resulted from increased governmental regulations governing real estate development promulgated over the past several years.    

Loss on sale of OREO during the current period declined as compared to the linked quarter, with the disposal of the Bank’s last OREO property.  Noninterest income also declined, compared to the year-over-year quarter, primarily as a result of a $351,000 gain on the sale of a $1.2 million OREO property in the first quarter of 2016.  In addition, fee income from ATM/debit card activity increased on a linked quarter basis and year-over-year, mainly due to the impacts of recent promotional activities and growth in debit card usage. 

Noninterest Income
(Unaudited)
      For the Three Months Ended,
      March 31,  2017   Dec 31,  2016   $  Change   %  Change   March 31,  2016   $ Change   % Change
      (Dollars in thousands)
Service charges on deposits $ 460   $ 465   $ (5 )   -1 % $ 449 $ 11     2 %
Net loss on sale of other real estate owned, net   (52 )   (328 )   276     100 %   420   (472 )   -112 %
Gain on sale of loans, net   1,020     1,596     (576 )   -36 %   1,032   (12 )   -1 %
Gain on sale of securities available for sale, net   79         79     0 %     79     100 %
Earnings on bank owned life insurance   110     114     (4 )   -4 %   121   (11 )   -9 %
Other noninterest income                            
  Fee income   609     616     (7 )   -1 %   443   166     37 %
  Other   55     108     (53 )   -49 %   66   (11 )   -17 %
Total noninterest income $ 2,281   $ 2,571   $ (290 )   -11 % $ 2,531 $ (250 )   -10 %
                               
                               

Noninterest Expense

Noninterest expense decreased from the immediate prior quarter, primarily due to a write-down of $324,000 taken in the fourth quarter of 2016 to reduce the carrying value of a former branch property, now held for sale, to reflect its current fair value.  In addition, compensation expenses declined on a linked quarter basis due to a drop in commissions paid associated with a reduction in residential real estate mortgage activity during the current period.  Noninterest expense was also down compared to the year-over-year quarter, primarily related to $348,000 in OREO operating expense incurred in the first quarter of 2016 to prepare a $1.2 million OREO property for its eventual sale.  Executive recruitment expenses of $49,000 were also incurred in the current period to engage a firm to conduct a search to replace the Bank’s Chief Credit Officer who retired as of April 1, 2017. 

Noninterest Expense  
(Unaudited)  
                               
    For the Three Months Ended,  
    March 31,  2017   Dec 31,  2016   $  Change   %  Change   March 31,  2016   $ Change   % Change  
    (Dollars in thousands)  
Salaries and employee benefits $ 5,147 $ 5,341 $ (194 )   -4 % $ 5,057 $ 90     2 %  
Occupancy   502   537   (35 )   -7 %   495   7     1 %  
Equipment   282   266   16     6 %   259   23     9 %  
Data processing   539   532   7     1 %   491   48     10 %  
Professional services   217   170   47     28 %   151   66     44 %  
Other real estate owned write-downs           0 %         0 %  
Other real estate owned operating costs   11   26   (15 )   -58 %   417   (406 )   -97 %  
State and local taxes   130   87   43     49 %   121   9     7 %  
FDIC and State assessments   106   78   28     36 %   134   (28 )   -21 %  
Other noninterest expense:                              
Director fees   51   71   (20 )   -28 %   72   (21 )   -29 %  
Communication   88   77   11     14 %   64   24     38 %  
Advertising   81   85   (4 )   -5 %   71   10     14 %  
Professional liability insurance   47   47       0 %   48   (1 )   -2 %  
Amortization   62   62       0 %   57   5     9 %  
Loss on real estate owned, net     324   (324 )   100 %         0 %  
Other   887   804   83     10 %   833   54     6 %  
Total noninterest expense $ 8,150 $ 8,507 $ (357 )   -4 % $ 8,270 $ (120 )   -1 %  

Financial Performance Overview  
(Unaudited)  
                       
    For the Three Months Ended  
    March 31,  2017   Dec 31,  2016   Change   March 31,  2016   Change  
Performance Ratios                    
Return on average assets, annualized 0.75 %   0.65 %     0.10     0.67 %     0.08    
Return on average equity, annualized 7.92 %   6.94 %     0.98     7.11 %     0.81    
Efficiency ratio (1) 78.83 %   79.92 %     (1.09 )   79.12 %     (0.29 )  
                       
(1) Non-interest expense divided by net interest income plus noninterest income.              
                       

LIQUIDITY

Cash and Cash Equivalents and Investment Securities  
(Unaudited)  
        March 31,  2017    % of Total   Dec 31,  2016    % of Total   $  Change   %  Change   March 31,  2016    Total   $  Change   %  Change  
        (Dollars in thousands)  
Cash on hand and in banks $ 16,057   11 % $ 15,707   9 % $ 350     2 % $ 13,868   12 % $ 2,189     16 %  
Interest bearing deposits   12,173   9 %   43,591   25 %   (31,418 )   -72 %   9,093   7 %   3,080     34 %  
Other interest earning deposits   2,231   2 %   2,231   1 %       0 %   2,727   2 %   (496 )   -18 %  
Total cash equivalents and interest earning deposits   30,461   22 %   61,529   35 %   (31,068 )   -50 %   25,688   21 %   4,773     19 %  
                                               
Investment securities:                                          
 Collateralized mortgage obligations: agency issued   40,079   29 %   35,514   20 %   4,565     13 %   35,020   29 %   5,059     14 %  
 Collateralized mortgage obligations: non-agency    305   0 %   331   0 %   (26 )   -8 %   483   0 %   (178 )   -37 %  
 Mortgage-backed securities: agency issued   14,645   10 %   14,166   8 %   479     3 %   10,920   9 %   3,725     34 %  
 U.S. Government and agency securities   2,617   2 %   8,716   5 %   (6,099 )   -70 %   9,929   8 %   (7,312 )   -74 %  
 State and municipal securities   52,317   37 %   53,428   31 %   (1,111 )   -2 %   39,652   33 %   12,665     32 %  
 Total investment securities   109,963   78 %   112,155   65 %   (2,192 )   -2 %   96,004   79 %   13,959     15 %  
Total cash equivalents and investment securities $ 140,424   100 % $ 173,684   100 % $ (33,260 )   -19 % $ 121,692   100 % $ 18,732     15 %  
                                               
Total cash equivalents and investment securities as a percent of total assets       16 %       19 %               15 %          
                                               
                                               

Liquidity remains strong based on existing levels of combined cash equivalents, investment securities and unused borrowing capacity.  “During the current quarter, we redeployed some of our cash equivalents to fund continued loan growth and anticipated seasonal deposit outflows,” said Douglas N. Biddle, EVP and Chief Financial Officer. “Our investment securities include a large component of fully amortized U.S. agency collateralized mortgage and mortgage-backed securities, for which we expect to have limited extension risk.” The securities portfolio also contains municipal securities rated A or better. The expected modified duration (adjusted for calls, consensus pre-payment speeds and rate adjustment dates) of the investment portfolio was 4.0 years at March 31, 2017, 3.9 years at December 31, 2016, and 3.3 years at March 31, 2016.

The Bank had $8.6 million in outstanding borrowings against its $241.8 million in established borrowing capacity with the Federal Home Loan Bank of Des Moines (FHLB) at March 31, 2017.  The Bank had $8.7 million and $8.8 million in outstanding borrowings with the FHLB at December 31, 2016 and March 31, 2016, respectively.  The Bank’s borrowing facility with the FHLB is subject to collateral and stock ownership requirements. The Bank also has available a discount window primary credit line with the Federal Reserve Bank of San Francisco of approximately $61.3 million, subject to collateral requirements, and $16.0 million from correspondent banks, with no balance outstanding on any of these facilities.

LOANS

  Loans by Category
  (unaudited)
                                             
        March 31,  2017   % of Gross Loans   Dec 31,  2016   % of Gross Loans   $  Change    %  Change    March 31,  2016   % of Gross Loans   $  Change    %  Change 
        (Dollars in thousands)
  Commercial and agricultural $ 133,533     20 % $ 134,318     20 % $ (785 )   -1 % $ 134,540     21 % $ (1,007 )   -1 %
  Real estate:                                        
  Construction and development   46,049     7 %   41,983     6 %   4,066     10 %   34,469     5 %   11,580     34 %
  Residential 1-4 family   91,924     14 %   91,686     14 %   238     0 %   93,826     15 %   (1,902 )   -2 %
  Multi-family   28,619     4 %   29,747     5 %   (1,128 )   -4 %   27,505     4 %   1,114     4 %
  Commercial real estate — owner occupied   131,507     20 %   132,449     20 %   (942 )   -1 %   135,704     21 %   (4,197 )   -3 %
  Commercial real estate — non owner occupied   143,578     21 %   138,078     21 %   5,500     4 %   141,203     22 %   2,375     2 %
  Farmland   27,850     4 %   25,588     4 %   2,262     9 %   22,182     3 %   5,668     26 %
  Consumer   65,306     10 %   65,442     10 %   (136 )   0 %   55,427     9 %   9,879     18 %
   Gross loans   668,366     100 %   659,291     100 %   9,075     1 %   644,856     100 %   23,510     4 %
  Less:  allowance for loan losses   (9,217 )       (9,192 )       (25 )       (8,552 )       (665 )    
  Less:  deferred fees   (1,448 )       (1,488 )       40         (1,479 )       31      
   Loans, net $ 657,701       $ 648,611       $ 9,090       $ 634,825       $ 22,876      
                                             
                                             
           
  Loan Concentration        
  (unaudited)        
        March 31,  2017   % of Risk Based Capital   Dec 31,  2016   % of Risk Based Capital   Change   March 31,  2016   % of Risk Based Capital   Change        
        (Dollars in thousands)        
  Commercial and agricultural $ 133,533     148 % $ 134,318     149 %   -1 % $ 134,540     157 %   -9 %        
  Real estate:                                        
  Construction and development   46,049     51 %   41,983     47 %   4 %   34,469     40 %   11 %        
  Residential 1-4 family   91,924     102 %   91,686     102 %   0 %   93,826     109 %   -7 %        
  Multi-family   28,619     32 %   29,747     33 %   -1 %   27,505     32 %   0 %        
  Commercial real estate — owner occupied   131,507     145 %   132,449     147 %   -2 %   135,704     158 %   -13 %        
  Commercial real estate — non owner occupied   143,578     159 %   138,078     153 %   6 %   141,203     165 %   -6 %        
  Farmland   27,850     31 %   25,588     28 %   3 %   22,182     26 %   5 %        
  Consumer   65,306     72 %   65,442     73 %   -1 %   55,427     65 %   7 %        
  Gross loans $ 668,366       $ 659,291           $ 644,856                  
  Regulatory Commercial Real Estate $ 208,604     231 % $ 200,010     222 %   9 % $ 199,148     232 %   -1 %        
  Total Risk Based Capital* $ 90,420       $ 89,999           $ 85,814                  
                                             
  *Bank of the Pacific                                        
                                           

The loan portfolio continues to be well-diversified with balances in most lending categories originating predominately within the Western Washington and Oregon markets.  Increases in loans were generated in most categories during the current quarter.  The portfolio includes $34.5 million in lower-yielding LIBOR-based floating rate commercial real estate loans. The portfolio also includes $19.8 million in purchased government-guaranteed commercial and commercial real estate loans. In addition, the portfolio contains $54.3 million in indirect consumer loans to finance luxury and classic cars as a part of a strategy to diversify the loan portfolio.  These loans have been made to individuals with high credit scores and have exhibited a very low loss experience to date.  The Company manages new loan origination volume using concentration limits that establish maximum exposure levels by designated industry segment, real estate product types, geography and single borrower limits.  While the Bank’s recent loan growth does include commercial real estate, the amount of such exposure continues to be managed within regulatory guidelines. 

DEPOSITS

                                           
Deposits by Category  
(Unaudited)  
                                           
    March 31,  2017   % of Total   Dec 31,  2016   % of Total   $  Change   %  Change   March 31,  2016   % of Total   $  Change   %  Change  
    (Dollars in thousands)  
Interest-bearing demand and money market $ 323,471     43 % $ 332,779   42 % $ (9,308 )   -3 % $ 295,056     41 % $ 28,415     10 %  
Savings   86,151     11 %   84,146   11 %   2,005     2 %   94,734     13 %   (8,583 )   -9 %  
Time deposits (CDs)   122,813     16 %   129,175   17 %   (6,362 )   -5 %   138,277     19 %   (15,464 )   -11 %  
  Total interest-bearing deposits   532,435     70 %   546,100   70 %   (13,665 )   -3 %   528,067     73 %   4,368     1 %  
Non-interest bearing demand   229,516     30 %   233,631   30 %   (4,115 )   -2 %   194,669     27 %   34,847     18 %  
  Total deposits $ 761,951     100 % $ 779,731   100 % $ (17,780 )   -2 % $ 722,736     100 % $ 39,215     5 %  
                                           

Total deposits declined during the current quarter, primarily due to seasonal outflows that normally begin in the winter and extend into spring due to the slowdown of tourism activity in certain core markets.  Time deposits continue to decline as a component of funding due to the increasing propensity of retail depositors to not lock in relatively low interest rates for an extended period.  The proportion of noninterest bearing deposits to total deposits remained unchanged despite the seasonal outflows referenced above.

Total brokered deposits were $52.1 million, which included $2.9 million via reciprocal deposit arrangements, up from $50.3 million at December 31, 2016 and $53.7 million at March 31, 2016.  The brokered deposits were acquired during the latter part of 2015 with fixed rates with terms ranging from 2 to 5 years.  “These deposits were obtained to lock in historically low rates to enhance the Bank’s interest rate risk mitigation strategies,” explained Biddle. 

CAPITAL

Pacific Financial Corporation (“Company”), and its subsidiary Bank of the Pacific (“Bank”), met the thresholds to be considered “Well-Capitalized” under regulatory standards for total risk-based capital, Tier 1 risk-based capital, Common equity Tier 1 and Tier 1 leverage capital.  The current period leverage and risk-weighted ratios have increased as compared to the linked quarter, due to the seasonal decline in total assets, as referenced above.  Ratios declined as compared to the like quarter a year ago primarily due to the successful execution of the Company’s growth strategy.  However, a shift in balance sheet mix to lower risk-weighted investment securities in the current quarter as compared to the year-over-year quarter partially mitigated the decline in risk-weighted capital ratios between the periods. 

The Federal Deposit Insurance Corporation (“FDIC”) has established minimum requirements for capital adequacy for banks under the Basel III capital framework.  On April 9, 2015, The Board of Governors of the Federal Reserve System (“Federal Reserve”) issued a final rule to amend the Small Bank Holding Company Policy Statement.  With this amendment, small bank holding companies, including Pacific Financial Corporation, are not being subject to Basel III capital rules. For illustrative purposes, Basel III framework capital ratios are displayed below for both the Company and the Bank. 

The total risk-based capital ratios of the Company include $13.4 million of junior subordinated debentures, all of which qualified as Tier 1 capital under guidance issued by the Federal Reserve. As provided in the Dodd-Frank Act, the Company expects to continue to rely on these junior subordinated debentures as part of its regulatory capital.

The following table summarizes the capital measures of the Company and the Bank respectively, at the dates listed below.

  Capital Measures  
  (unaudited)  
    March 31,  2017   Dec 31,  2016   Change   March 31,  2016   Change     To be Well
Capitalized
Under Prompt
Correction Action
Regulations*
 
  Pacific Financial Corporation                          
  Total risk-based capital ratio 12.72 %   12.56 %     0.16   12.73 %     (0.01 )     N/A    
  Tier 1 risk-based capital ratio 11.46 %   11.31 %     0.15   11.48 %     (0.02 )     N/A    
  Common equity tier 1 ratio 9.65 %   9.49 %     0.16   9.57 %     0.08       N/A    
  Leverage ratio 9.66 %   9.25 %     0.41   9.58 %     0.08       N/A    
                               
  Tangible common equity ratio 8.03 %   7.63 %     0.40   7.95 %     0.08       N/A    
                             
  Bank of the Pacific                          
  Total risk-based capital ratio 12.60 %   12.47 %     0.13   12.66 %     (0.06 )     10.5 %  
  Tier 1 risk-based capital ratio 11.35 %   11.22 %     0.13   11.41 %     (0.06 )     8.5 %  
  Common equity tier 1 ratio 11.35 %   11.22 %     0.13   11.41 %     (0.06 )     7.0 %  
  Leverage ratio 12.60 %   9.18 %     3.42   9.50 %     3.10       7.5 %  
                             
  *Includes Basel III 2019 Capital Conservation Buffer                      
                             

Net Interest Margin

Net interest margin expanded compared to the linked quarter primarily due to an increase in loan and investment securities yields, impacted by recent increases in interest rates recently initiated by the Federal Reserve.  Net interest margin contracted in the current period compared to first quarter of 2016 due to additional one-time interest income assessed for a breach in loan agreement.  As a result, net interest margin was enhanced by 12 basis points on an annualized basis during first quarter 2016.           

Cost of deposits remained relatively unchanged in the current quarter, compared to the linked and year-over-year quarter.  The increase in the proportion of deposits coming from non-interest bearing deposits favorably impacted funding costs during these respective periods.  Improvement in loan and investment security yields offset increases in the cost of LIBOR-based junior subordinated debentures experienced in the current quarter as compared to the linked and year-over-year quarters.

The following tables set forth information with regard to average balances of interest-earning assets and interest-bearing liabilities and the resultant yields or cost, and the net interest margin on a tax equivalent basis.  Loans held for sale and non-accrual loans are included in total loans.

Net Interest Margin  
(Unaudited)  
(Annualized, tax-equivalent basis)  
                                 
      For the Three Months Ended,  
                                 
      March 31,  2017   Dec 31,  2016   $  Change   %  Change   March 31,  2016   $  Change   % Change  
Average Balances   (Dollars in thousands)  
Gross loans $ 665,281   $ 651,985   $ 13,296     2 % $ 637,187   $ 28,094     4 %  
Loans held for sale $ 5,058   $ 10,690   $ (5,632 )   -53 % $ 9,957   $ (4,899 )   -49 %  
Investment securities $ 130,594   $ 158,255   $ (27,661 )   -17 % $ 115,892   $ 14,702     13 %  
Total interest-earning assets $ 800,933   $ 820,930   $ (19,997 )   -2 % $ 763,036   $ 37,897     5 %  
Non-interest bearing demand deposits $ 225,494   $ 231,457   $ (5,963 )   -3 % $ 181,777   $ 43,717     24 %  
Interest bearing deposits $ 529,367   $ 540,687   $ (11,320 )   -2 % $ 522,327   $ 7,040     1 %  
Borrowings $ 22,076   $ 22,070   $ 6     0 % $ 37,238   $ (15,162 )   -41 %  
Total interest-bearing liabilities $ 551,443   $ 562,757   $ (11,314 )   -2 % $ 559,565   $ (8,122 )   -1 %  
Total Equity $ 81,438   $ 83,428   $ (1,990 )   -2 % $ 77,853   $ 3,585     5 %  
                                 
      For the Three Months Ended,          
      March 31,  2017   Dec 31,  2016   Change   March 31,  2016   Change          
Yield on average gross loans (1)   4.92 %   4.86 %     0.06     5.01 %     (0.09 )          
Yield on average investment securities (1)   2.34 %   1.94 %     0.40     2.26 %     0.08            
Cost of average interest bearing deposits   0.37 %   0.36 %     0.01     0.36 %     0.01            
Cost of average borrowings   2.52 %   2.43 %     0.09     1.51 %     1.01            
Cost of average total deposits and borrowings   0.32 %   0.31 %     0.01     0.33 %     (0.01 )          
                                 
Yield on average interest-earning assets   4.50 %   4.30 %     0.20     4.59 %     (0.09 )          
Cost of average interest-bearing liabilities   0.46 %   0.44 %     0.02     0.44 %     0.02            
Net interest spread   4.04 %   3.86 %     0.18     4.15 %     (0.11 )          
                                 
Net interest margin (1)   4.19 %   4.00 %     0.19     4.27 %     (0.08 )          
                                 
(1) Tax-exempt income has been adjusted to a tax equivalent basis at a 34% rate.                      
                                 
                                 

ASSET QUALITY

Adversely classified loans decreased compared to the preceding quarter, primarily due to the payoff of a $2.0 million adversely classified commercial loan participation.  Total 30-89 day delinquencies remained below 0.50%, a positive leading indicator of future credit quality.  

                                     
  Adversely Classified Loans and Securities      
  (Unaudited)      
                                     
      March 31,  2017   Dec 31,  2016   $  Change   % Change   March 31,  2016   $  Change   % Change      
      (Dollars in thousands)      
  Rated substandard or worse, but not impaired $ 13,434   $ 16,086   $ (2,652 )   -16 % $ 15,597   $ (2,163 )   -14 %      
  Impaired   1,537     1,615     (78 )   -5 %   1,915     (378 )   -20 %      
  Total adversely classified loans¹ $ 14,971   $ 17,701   $ (2,730 )   -15 % $ 17,512   $ (2,541 )   -15 %      
                                     
  Total adversely classified investment securities² $   $   $       –    $ 165   $ (165 )   -100 %      
                                     
                                     
  Gross loans (excluding deferred loan fees) $ 668,366   $ 659,291   $ 9,075     1 % $ 644,856   $ 23,510     4 %      
  Adversely classified loans to gross loans   2.24 %   2.68 %           2.72 %              
  Allowance for loan losses $ 9,217   $ 9,192   $ 25     0 % $ 8,552   $ 665     8 %      
  Allowance for loan losses as a percentage of adversely classified loans   61.57 %   51.93 %           48.84 %              
  Allowance for loan losses to total impaired loans   599.67 %   569.16 %           446.58 %              
  Adversely classified loans and securities to total assets   1.72 %   1.99 %           2.13 %              
  Delinquent loans to gross loans, not in nonaccrual status   0.03 %   0.03 %           0.31 %              
                                     
   ¹Adversely classified loans are defined as loans having a well-defined weakness or weaknesses related to the borrower’s financial capacity or to pledged collateral that may jeopardize the repayment of the debt. They are characterized by the possibility that the Bank may sustain some loss if the deficiencies giving rise to the substandard classification are not corrected. Note that any loans internally rated worse than substandard are included in the impaired loan totals.      
                                     
   ²Adversely classified investment securities consist of one private label collateralized mortgage obligation (CMO) as of March 31, 2016.       

Nonperforming assets decreased on a linked quarter basis, primarily due to the sale of a $400,000 commercial real estate OREO asset during the period.  In addition, nonperforming assets declined as compared to the year-over year quarter due to the sale of a $1.9 million commercial real estate OREO asset and several nonaccrual loans totaling $208,000 were paid off during the fourth quarter of 2016.  As a result, nonperforming assets declined, as a percentage of total assets, on a linked quarter basis and year-over-year quarter. 

Nonperforming Assets  
(Unaudited)  
                               
    March 31,  2017   Dec 31,  2016   $  Change    %  Change    March 31,  2016   $  Change    % Change   
    (Dollars in thousands)  
Loans on nonaccrual status $ 1,154   $ 1,229   $ (75 )   -6 % $ 1,373   $ (219 )   -16 %  
Total nonaccrual loans   1,154     1,229     (75 )   -6 %   1,373     (219 )   -16 %  
                               
Other real estate owned and foreclosed assets   144     549     (405 )   -74 %   2,557     (2,413 )   -94 %  
Total nonperforming assets $ 1,298   $ 1,778   $ (480 )   -27 % $ 3,930   $ (2,632 )   -67 %  
                               
                               
Restructured performing loans $ 383   $ 386   $ (3 )   -1 % $ 542   $ (159 )   -29 %  
Accruing loans past due 90 days or more $   $   $     0 % $   $     0 %  
Percentage of nonperforming assets to total assets   0.15 %   0.20 %           0.47 %          
Nonperforming loans to total loans   0.17 %   0.19 %           0.21 %          
                               

The remaining nonperforming assets consist of a commercial sea vessel and a repossessed automobile with book values of $105,000 and $39,000, respectively.

ALLOWANCE FOR LOAN LOSSES

The allowance for loan losses has increased in concert with recent loan growth.  With changes in the loan portfolio composition over the past several years and overall improvement in credit quality, loss factors used in estimates to establish reserve levels have declined commensurately.     

For the first quarter 2017, there was a charge-off of $121,000 related to the payoff of the $2.0 million adversely classified commercial loan participation, as noted above.  This compares to a net recovery in the linked quarter due to the collection of a $88,000 judgement on a previously charged off loan.  Negligible net charge-offs were recorded in the year-over-year quarter.  “The low level of charge-offs and ratio of net loan charge-offs to average gross loans are indicative of the solid credit quality of the portfolio,” said Biddle.  The overall risk profile of the loan portfolio continues to be modest, illustrative of the solid credit risk management framework in place.  However, the trend of future provisions for loan losses will depend primarily on economic conditions, growth in the loan portfolio, level of adversely-classified assets, and changes in collateral values.

Allowance for Loan Losses  
(Unaudited)  
                               
    For the Three Months Ended,  
    March 31,  2017   Dec 31,  2016   $  Change    % Change    March 31,  2016   $  Change    % Change   
    (Dollars in thousands)  
Gross loans outstanding at end of period $ 668,366   $ 659,291   $ 9,075     1 % $ 644,856   $ 23,510     4 %  
Average loans outstanding, gross $ 665,281   $ 651,985   $ 13,296     2 % $ 637,187   $ 28,094     4 %  
Allowance for loan losses, beginning of period $ 9,192   $ 8,960   $ 232     3 % $ 8,317   $ 875     11 %  
Commercial   (131 )       (131 )   100 %       (131 )   100 %  
Commercial Real Estate               0 %           0 %  
Residential Real Estate       (15 )   15     100 %   (16 )   16     -100 %  
Consumer   (16 )   (41 )   25     -61 %   (26 )   10     -38 %  
Total charge-offs   (147 )   (56 )   (91 )   163 %   (42 )   (105 )   N/M    
Commercial   40     5     35     N/M     1     39     N/M    
Commercial Real Estate       2     (2 )   -100 %   2     (2 )   -100 %  
Residential Real Estate   8     96     (88 )   -92 %   11     (3 )   -27 %  
Consumer   2     1     1     100 %   1     1     100 %  
Total recoveries   50     104     (54 )   -52 %   15     35     N/M    
Net recoveries/(charge-offs)    (97 )   48     (145 )   N/M     (27 )   (70 )   N/M    
Provision charged to income   122     184     (62 )   -34 %   262     (140 )   -53 %  
Allowance for loan losses, end of period $ 9,217   $ 9,192   $ 25     0 % $ 8,552   $ 665     8 %  
Ratio of net loans charged-off to average                              
gross loans outstanding, annualized   0.06 %   -0.03 %   0.09 %   N/M     0.02 %   0.04 %   200 %  
Ratio of allowance for loan losses to                               
gross loans outstanding   1.38 %   1.39 %   -0.01 %   -1 %   1.33 %   0.05 %   4 %  
                               

ABOUT PACIFIC FINANCIAL CORPORATION

Pacific Financial Corporation of Aberdeen, Washington, is the bank holding company for Bank of the Pacific, a state chartered and federally insured commercial bank.  Bank of the Pacific offers banking products and services to small-to-medium sized businesses and professionals in western Washington and Oregon.  At March 31, 2017, the Company had total assets of $873 million and operated fifteen branches in the communities of Grays Harbor, Pacific, Whatcom, Skagit, Clark and Wahkiakum counties in the State of Washington, and three branches in Clatsop County, Oregon.  The Company also operated loan production offices in the communities of DuPont and Burlington in Washington and Salem, Oregon.  Visit the Company’s website at www.bankofthepacific.com.  Member FDIC.

Cautions Concerning Forward-Looking Statements

This press release contains statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other laws, including all statements in this release that are not historical facts or that relate to future plans or events or projected results of Pacific Financial Corporation and its wholly-owned subsidiary, Bank of the Pacific.  These forward-looking statements are subject to risks and uncertainties that could cause actual events or results to differ materially from those projected, anticipated or implied.  These risks and uncertainties include various risks associated with growing the Bank and expanding the services it provides, successfully completing and integrating the acquisition of new branches and development of new business lines and markets, competition in the marketplace, general economic conditions, changes in interest rates, extensive and evolving regulation of the banking industry, and many other risks.  We undertake no obligation to update or revise any forward-looking statement.  Readers of this release are cautioned not to put undue reliance on forward-looking statements.

CONTACT: CONTACTS:
DENISE PORTMANN, PRESIDENT & CEO
DOUGLAS BIDDLE, EVP & CFO
360.533.8873

The Cereghino Group
IR CONTACT: 206-388-5785