FNLC filing — read by section

Item 2. Management’s Discussion and Analysis

Item 2 – Management's Discussion and Analysis of Financial Condition   and Results of Operations 
 The First Bancorp, Inc. and Subsidiary 
 
 Forward-Looking Statements 
 This report contains statements that are "forward-looking statements." We may also make written or oral forward-looking statements in other documents we file with the Securities and Exchange Commission ("SEC"), in our annual reports to shareholders, in press releases and other written materials, and in oral statements made by our officers, directors or employees. You can identify forward-looking statements by the use of the words "believe," "expect," "anticipate," "intend," "estimate," "assume," "outlook," "will," "should," and other expressions that predict or indicate future events and trends and which do not relate to historical matters. You should not rely on forward-looking statements, because they involve known and unknown risks, uncertainties and other factors, some of which are beyond the control of the Company. These risks, uncertainties and other factors may cause the actual results, performance or achievements of the Company to be materially different from the anticipated future results, performance or achievements expressed or implied by the forward-looking statements. 
 Some of the factors that might cause these differences include the following: changes in general national, regional or international economic conditions or conditions affecting the banking or financial services industries or financial capital markets, volatility and disruption in national and international financial markets, government intervention in the U.S. financial system, reductions in net interest income resulting from interest rate volatility as well as changes in the balance and mix of loans and deposits, reductions in the market value of wealth management assets under administration, changes in the value of securities and other assets, reductions in loan demand, changes in loan collectability, default and charge-off rates, changes in the size and nature of the Company's competition, changes in legislation or regulation and accounting principles, policies and guidelines, uncertainties with respect to the duration, nature, and extent of the COVID-19 pandemic and its consequences, and changes in the assumptions used in making such forward-looking statements. In addition, the factors described under "Risk Factors" in Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2019, as filed with the SEC, may result in these differences, as well as the "Risk Factors" in Part II, Item 1A listed below. You should carefully review all of these factors, and you should be aware that there may be other factors that could cause these differences. These forward-looking statements were based on information, plans and estimates at the date of this quarterly report, and we assume no obligation to update any forward-looking statements to reflect changes in underlying assumptions or factors, new information, future events or other changes. 
 Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, actual results may differ materially from the results discussed in these forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company undertakes no obligation to republish revised forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Readers are also urged to carefully review and consider the various disclosures made by the Company, which attempt to advise interested parties of the facts that affect the Company's business. 
 
 Critical Accounting Policies 
 Management's discussion and analysis of the Company's financial condition is based on the consolidated financial statements which are prepared in accordance with GAAP. The preparation of such financial statements requires Management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. On an ongoing basis, Management evaluates its estimates, including those related to the allowance for loan losses, goodwill, the valuation of mortgage servicing rights, and other-than-temporary impairment on securities. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis in making judgments about the carrying values of assets that are not readily apparent from other sources. Actual results could differ from the amount derived from Management's estimates and assumptions under different assumptions or conditions. 
 Allowance for Loan Losses. Management believes the allowance for loan losses requires the most significant estimates and assumptions used in the preparation of the consolidated financial statements. The allowance for loan losses is based on Management's evaluation of the level of the allowance required in relation to the estimated loss exposure in the loan portfolio. Management believes the allowance for loan losses is a significant estimate and therefore regularly evaluates it to determine the appropriate level by taking into consideration factors such as prior loan loss experience, the character and size of the loan portfolio, business and economic conditions and Management's estimation of potential losses. The use of different estimates or assumptions could produce different provisions for loan losses. 
 Goodwill. Management utilizes numerous techniques to estimate the value of various assets held by the Company, including methods to determine the appropriate carrying value of goodwill as required under FASB ASC Topic 350 "Intangibles – Goodwill and Other." In addition, goodwill from a purchase acquisition is subject to ongoing periodic impairment tests, which include an evaluation of the ongoing assets, liabilities and revenues from the acquisition and an estimation of the impact of business conditions. 
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 Mortgage Servicing Rights. The valuation of mortgage servicing rights is a critical accounting policy which requires significant estimates and assumptions. The Bank often sells mortgage loans it originates and retains the ongoing servicing of such loans, receiving a fee for these services, generally 0.25% of the outstanding balance of the loan per annum. Mortgage servicing rights are recognized at fair value when they are acquired through the sale of loans, and are reported in other assets. They are amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets. The rights are subsequently carried at the lower of amortized cost or fair value. Management uses an independent firm which specializes in the valuation of mortgage servicing rights to determine the fair value which is recorded on the balance sheet. The most important assumption is the anticipated loan prepayment rate, and increases in prepayment speed results in lower valuations of mortgage servicing rights. The valuation also includes an evaluation for impairment based upon the fair value of the rights, which can vary depending upon current interest rates and prepayment expectations, as compared to amortized cost. Impairment is determined by stratifying rights by predominant characteristics, such as interest rates and terms. The use of different assumptions could produce a different valuation. All of the assumptions are based on standards the Company believes would be utilized by market participants in valuing mortgage servicing rights and are consistently derived and/or benchmarked against independent public sources. 
 Other-Than-Temporary Impairment on Securities. One of the significant estimates related to investment securities is the evaluation of other-than-temporary impairments. The evaluation of securities for other-than-temporary impairments is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings. The risks and uncertainties include changes in general economic conditions, the issuer's financial condition and/or future prospects, the effects of changes in interest rates or credit spreads and the expected recovery period of unrealized losses. Securities that are in an unrealized loss position are reviewed at least quarterly to determine if other-than-temporary impairment is present based on certain quantitative and qualitative factors and measures. The primary factors considered in evaluating whether a decline in value of securities is other-than-temporary include: (a) the length of time and extent to which the fair value has been less than cost or amortized cost and the expected recovery period of the security, (b) the financial condition, credit rating and future prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments, (d) the volatility of the securities' market price, (e) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery, which may be at maturity and (f) any other information and observable data considered relevant in determining whether other-than-temporary impairment has occurred, including the expectation of receipt of all principal and interest when due. 
 Derivative Financial Instruments. The Bank recognizes all derivatives in the consolidated balance sheets at fair value. On the date the Bank enters into the derivative contract, the Bank designates the derivative as a hedge of either a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow hedge”), a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment (“fair value hedge”), or a held for trading instrument (“trading instrument”). The Bank formally documents relationships between hedging instruments and hedged items, as well as its risk management objectives and strategy for undertaking various hedge transactions. The Bank also assesses, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are effective in offsetting changes in cash flows or fair values of hedged items. Changes in fair value of a derivative that is effective and that qualifies as a cash flow hedge are recorded in other comprehensive income (loss) and are reclassified into earnings when the forecasted transaction or related cash flows affect earnings. Changes in fair value of a derivative that qualifies as a fair value hedge and the change in fair value of the hedged item are both recorded in earnings and offset each other when the transaction is effective. Those derivatives that are classified as trading instruments, including customer loan swaps, are recorded at fair value with changes in fair value recorded in earnings. The Bank discontinues hedge accounting when it determines that the derivative is no longer effective in offsetting changes in the cash flows of the hedged item, that it is unlikely that the forecasted transaction will occur, or that the designation of the derivative as a hedging instrument is no longer appropriate. 
 
 
 
 Use of Non-GAAP Financial Measures 
 Certain information in Management's Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this Report contains financial information determined by methods other than in accordance with GAAP. Management uses these "non-GAAP" measures in its analysis of the Company's performance and believes that these non-GAAP financial measures provide a greater understanding of ongoing operations and enhance comparability of results with prior periods as well as demonstrating the effects of significant gains and charges in the current period. The Company believes that a meaningful analysis of its financial performance requires an understanding of the factors underlying that performance. Management believes that investors may use these non-GAAP financial measures to analyze financial performance without the impact of unusual items that may obscure trends in the Company's underlying performance. These disclosures should not be viewed as a substitute for operating results determined in accordance with GAAP, nor are they necessarily comparable to non-GAAP performance measures that may be presented by other companies. 
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 In several places net interest income is presented on a fully taxable-equivalent basis. Specifically included in interest income was tax-exempt interest income from certain investment securities and loans. An amount equal to the tax benefit derived from this tax exempt income has been added back to the interest income total which, as adjusted, increased net interest income accordingly. Management believes the disclosure of tax-equivalent net interest income information improves the clarity of financial analysis, and is particularly useful to investors in understanding and evaluating the changes and trends in the Company's results of operations. Other financial institutions commonly present net interest income on a tax-equivalent basis. This adjustment is considered helpful in the comparison of one financial institution's net interest income to that of another, as each will have a different proportion of tax-exempt interest from its earning assets. Moreover, net interest income is a component of a second financial measure commonly used by financial institutions, net interest margin, which is the ratio of net interest income to average earning assets. For purposes of this measure as well, other financial institutions generally use tax-equivalent net interest income to provide a better basis of comparison from institution to institution. The Company follows these practices. The following table provides a reconciliation of tax-equivalent financial information to the Company's consolidated financial statements prepared in accordance with GAAP. A Federal Income Tax rate of 21.0% was used in 2020 and 2019. 
 
 For the six months ended June 30, For the quarter ended June 30, 
 Dollars in thousands 
 2020 2019 2020 2019 
 Net interest income as presented $ 29,409 $ 25,849 $ 14,491 $ 12,950 
 Effect of tax-exempt income 1,154 1,151 582 589 
 Net interest income, tax equivalent $ 30,563 $ 27,000 $ 15,073 $ 13,539 

 The Company presents its efficiency ratio using non-GAAP information which is most commonly used by financial institutions. The GAAP-based efficiency ratio is noninterest expenses divided by net interest income plus noninterest income from the Consolidated Statements of Income and Comprehensive Income (Loss). The non-GAAP efficiency ratio excludes securities losses and other-than-temporary impairment charges from noninterest expenses, excludes securities gains from noninterest income, and adds the tax-equivalent adjustment to net interest income. The following table provides a reconciliation between the GAAP and non-GAAP efficiency ratio: 
 
 For the six months ended June 30, For the quarter ended June 30, 
 Dollars in thousands 
 2020 2019 2020 2019 
 Non-interest expense, as presented $ 19,960 $ 17,128 $ 8,917 $ 8,730 
 Net interest income, as presented 29,409 25,849 14,491 12,950 
 Effect of tax-exempt interest income 1,154 1,151 582 589 
 Non-interest income, as presented 8,822 6,749 4,601 3,605 
 Effect of non-interest tax-exempt income 83 83 41 41 
 Net securities gains (1,179) — (427) — 
 Adjusted net interest income plus non-interest income $ 38,289 $ 33,832 $ 19,288 $ 17,185 
 Non-GAAP efficiency ratio 52.13 % 50.63 % 46.23 % 50.80 % 
 GAAP efficiency ratio 52.21 % 52.54 % 46.71 % 52.73 % 

 The Company presents certain information based upon average tangible shareholders' common equity instead of total average shareholders' equity. The difference between these measures is the Company's intangible assets, specifically goodwill from prior acquisitions. Management, banking regulators and many stock analysts use the tangible common equity ratio and the tangible book value per common share in conjunction with more traditional bank capital ratios to compare the capital adequacy of banking organizations with significant amounts of goodwill or other intangible assets, typically stemming from the use of the purchase accounting method in accounting for mergers and acquisitions. 
 
 
 
 
 
 
 
 
 
 
 
 
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 The following table provides a reconciliation of average tangible shareholders' common equity to the Company's consolidated financial statements, which have been prepared in accordance with GAAP: 
 
 For the six months ended June 30, For the quarter ended June 30, 
 Dollars in thousands 
 2020 2019 2020 2019 
 Average shareholders' equity as presented $ 217,661 $ 198,411 $ 218,191 $ 201,384 
 
 Less average intangible assets (29,925) (29,968) (29,934) (29,978) 
 Average tangible shareholders' common equity $ 187,736 $ 168,443 $ 188,257 $ 171,406 

 
 
 
 Executive Summary 
 Net income for the six months ended June 30, 2020 was $13.1 million, up $513,000 or 4.1% from the same period in 2019. Earnings per common share on a fully diluted basis were $1.20 for the six months ended June 30, 2020, up $0.05 or 4.3% from the $1.15 posted for the same period in 2019. For the quarter ended June 30, 2020, net income was $6.6 million, up $174,000 or 2.7% from the same period in 2019. Earnings per common share on a fully diluted basis were $0.60 for the quarter ended June 30, 2020, up $0.01 or 1.7% from the $0.59 posted in 2019. Compared to the first quarter of 2020, net income was up 74,000 or 1.1% and earnings per common share on a fully diluted basis were level with the prior quarter. 
 Despite the ongoing operational and business climate challenges brought about by the coronavirus disease (COVID-19), the Company posted strong operating results during the second quarter of 2020. Net income of $6.6 million was achieved by successes across all business lines. Growth in earning assets combined with stable interest rate margins led to a $1.5 million, or 11.9%, increase in net interest income before loan loss provision. Non-interest revenue increased, year-over-year, driven largely by a surge in mortgage refinance activity. Also of note was further asset quality improvement. Based upon the strength of the Company's earnings, a dividend of 31 cents per share was declared in the second quarter, representing a payout to our shareholders of 50.83% of net income for the period. 
 Net interest income on a tax-equivalent basis was up $3.6 million or 13.2% in the six months ended June 30, 2020 compared to the same period in 2019. This increase is attributable to growth in earning assets, stable interest rate margins and the recovery of interest on resolved problem loans during the first quarter of 2020. The tax equivalent net interest margin as of June 30, 2020, was 2.99%, up from 2.90% for the same period in 2019. For the quarter ended June 30, 2020, net interest income on a tax-equivalent basis increased $1.5 million or 11.3% compared to the same period in 2019, with the net interest margin down a modest two basis points to 2.86%. 
 Non-interest income for the six months ended June 30, 2020 was $8.8 million, up $2.1 million or 30.7%, from the six months ended June 30, 2019. Strong refinance volume led to mortgage banking revenue increasing $1.2 million or 190.0%. Revenue at First National Wealth Management increased $166,000 and net gains on securities added $1.2 million, while service charge income and other income were both negatively impacted by lower transaction volume related to COVID-19. 
 Non-interest expense for the six months ended June 30, 2020 was $20.0 million, up $2.8 million or 16.5% from the six months ended June 30, 2019. The year-to-year change was impacted by charges taken during the first quarter of 2020, to restructure interest rate swap positions, as well as increases in employee expenses and furniture and equipment expense. 
 Asset quality continued to trend positively in the second quarter. Non-performing assets stood at 0.41% of total assets as of June 30, 2020 - down from 0.83% of total assets as of June 30, 2019 and 0.82% as of December 31, 2019. Total past-due loans were 0.66% of total loans as of June 30, 2020, down from 1.16% of total loans as of December 31, 2019 and 0.98% as of June 30, 2019. 
 The provision for loan losses for the first six months of 2020 was $2.8 million, up from the $625,000 provisioned in the same period in 2019. Despite continued improvement in non-performing asset levels, continued positive charge-off metrics, and lower levels of past due loans, the uncertainties resulting from COVID-19 led management to substantially increase the second quarter provision based upon the potential impact of current economic conditions to borrowers. Net loan chargeoffs for the six months ended June 30, 2020 were $278,000 or 0.04% of average loans on an annualized basis. This was down from net chargeoffs of $386,000 or 0.06% of average loans on an annualized basis for the six months ended June 30, 2019. The allowance for loan losses increased $2.5 million between December 31, 2019 and June 30, 2020, and now stands at 0.97% of loans outstanding as of June 30, 2020, up from 0.90% and 0.92% of loans outstanding at December 31, 2019 and June 30, 2019, respectively. 
 The Company's balance sheet continued to expand in the first six months of 2020 as total assets increased $198.3 million or 9.6% year-to-date. The loan portfolio increased $154.5 million or 11.9% in the six months ended June 30, 2020 and $202.5 million or 16.2% from a year ago. Loan growth in the second quarter of 2020 was centered in the commercial loan portfolio, which was up $107.4 million due primarily to Payroll Protection Program (PPP) loan originations, with over $95 million in loans granted to Maine small businesses. Second quarter loan growth outside of PPP was tempered by COVID-19 which caused a slowdown of the local and national economy.The investment portfolio has increased $12.9 million year-to-date and increased $29.9 million or 4.7% from a year ago. On the liability side of the balance sheet, low-cost deposits have increased $114.0 
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 million or 14.3% year-to-date, with much of the growth attributable to various economic stimulus programs, including proceeds of PPP loans, being deposited back to the Bank. Year-over-year, low-cost deposits increased $165.7 million or 22.2%. Local certificates of deposit ("CDs") decreased $12.6 million and wholesale CDs decreased $20.7 million year-to-date. 
 Remaining well capitalized remains a top priority for The First Bancorp, Inc. The Company's total risk-based capital ratio was 15.03% as of June 30, 2020, well above the well-capitalized threshold of 10.0% set by the Federal Deposit Insurance Corporation, the Federal Reserve Board, and the Office of the Comptroller of the Currency. 
 The Company's operating ratios remain good, with a return on average tangible common equity of 13.99% for the six months ended June 30, 2020 compared to 15.03% for the same period in 2019. Based upon March 31, 2020 data, our return on average tangible common equity was in the top 12% of all banks in the UBPR peer group, which had an average return on equity of 8.78%. Our efficiency ratio continues to be an important component in our overall performance and stood at 52.13% for the six months ended June 30, 2020 compared to 50.63% for the same period in 2019. The Company's efficiency ratio was elevated in the first quarter of 2020 due to charges taken to restructure several interest rate swap positions. In the absence of these charges, the non-GAAP efficiency ratio for the first six months of 2020 would have been 47.35%. 
 
 Net Interest Income 
 Total interest income of $39.5 million for the six months ended June 30, 2020 was an increase of $390,000 or 1.0% compared to total interest income of $39.1 million for the same period of 2019. Total interest expense of $10.1 million for the six months ended June 30, 2020 was a decrease of $3.2 million or 23.9% compared to total interest expense for the six months ended June 30, 2019. As a result, net interest income of $29.4 million for the six months ended June 30, 2020 was an increase of $3.6 million or 13.8% compared to net interest income of $25.8 million for the same period ended June 30, 2019. This increase is attributable to growth in earning assets, stable margins, and the recovery of interest on resolved problem loans during the first quarter of 2020. The Company's net interest margin on a tax-equivalent basis for the six months ended June 30, 2020 was 2.99%, up from 2.90% for the first six months of 2019. Tax-exempt interest income amounted to $4.3 million for the six months ended June 30, 2020 and 2019. 
 The following tables present the amount of interest earned or paid, as well as the average yield or rate on an annualized basis, for each major category of assets or liabilities for the six months ended June 30, 2020 and 2019. Tax-exempt income is calculated on a tax-equivalent basis, using a 21.0% Federal Income Tax rate. 
 
 For the six months ended 
 June 30, 2020 June 30, 2019 
 Dollars in thousands 
 Amount of 
interest Average 
Yield/Rate Amount of interest Average 
Yield/Rate 
 Interest on earning assets 
 Interest-bearing deposits $ 79 0.68 % $ 97 2.49 % 
 Investments 10,378 3.17 % 10,500 3.45 % 
 Loans held for sale 24 3.13 % 4 3.79 % 
 Loans 30,153 4.42 % 29,640 4.77 % 
 Total interest income 40,634 3.97 % 40,241 4.33 % 
 Interest expense 
 Deposits 8,747 1.17 % 11,756 1.65 % 
 Other borrowings 1,324 1.08 % 1,485 1.58 % 
 Total interest expense 10,071 1.16 % 13,241 1.64 % 
 Net interest income $ 30,563 $ 27,000 
 Interest rate spread 2.81 % 2.69 % 
 Net interest margin 2.99 % 2.90 % 

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 For the quarters ended 
 June 30, 2020 June 30, 2019 
 Dollars in thousands 
 Amount of 
interest Average 
Yield/Rate Amount of 
interest Average 
Yield/Rate 
 Interest on earning assets 
 Interest-bearing deposits $ 5 0.08 % $ 29 2.30 % 
 Investments 5,125 3.09 % 5,390 3.44 % 
 Loans held for sale 19 2.78 % 2 3.41 % 
 Loans 14,219 4.02 % 14,990 4.79 % 
 Total interest-earning assets 19,368 3.68 % 20,411 4.34 % 
 Interest expense 
 Deposits 3,561 0.96 % 6,179 1.70 % 
 Other borrowings 734 0.98 % 693 1.55 % 
 Total interest expense 4,295 0.96 % 6,872 1.68 % 
 Net interest income $ 15,073 $ 13,539 
 Interest rate spread 2.72 % 2.66 % 
 Net interest margin 2.86 % 2.88 % 

 
 
 Interest income in the second quarter of 2020 included a net $356,000 in origination fees recognized on PPP loans; as of June 30, 2020 net unrecognized PPP origination fees totaled $3.1 million. No such fees were recognized in 2019 or in the first quarter of 2020. 
 
 
 The following tables present changes in interest income and expense attributable to changes in interest rates and volume for interest-earning assets and liabilities for the six months and quarters ended June 30, 2020 compared to 2019. Tax-exempt income is calculated on a tax-equivalent basis, using a 21% Federal Income Tax rate. 
 
 For the six months ended June 30, 2020 compared to 2019 
 
 Dollars in thousands 
 Volume Rate Rate/Volume 1 
 Total 
 Interest on earning assets 
 Interest-bearing deposits $ 193 $ (71) $ (140) $ (18) 
 Investment securities 755 (818) (59) (122) 
 Loans held for sale 25 (1) (4) 20 
 Loans 2,819 (2,106) (200) 513 
 Change in interest income 3,792 (2,996) (403) 393 
 Interest expense 
 Deposits 578 (3,419) (168) (3,009) 
 Other borrowings 450 (469) (142) (161) 
 Change in interest expense 1,028 (3,888) (310) (3,170) 
 Change in net interest income $ 2,764 $ 892 $ (93) $ 3,563 

 1 Represents the change attributable to a combination of change in rate and change in volume. 
 
 
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 For the quarter ended June 30, 2020 compared to 2019 
 
 Dollars in thousands 
 Volume Rate Rate/Volume 1 
 Total 
 Interest on earning assets 
 Interest-bearing deposits $ 115 $ (28) $ (111) $ (24) 
 Investment securities 326 (557) (34) (265) 
 Loans held for sale 21 — (4) 17 
 Loans 1,998 (2,443) (326) (771) 
 Change in interest income 2,460 (3,028) (475) (1,043) 
 Interest expense 
 Deposits 150 (2,702) (66) (2,618) 
 Other borrowings 470 (256) (173) 41 
 Change in interest expense 620 (2,958) (239) (2,577) 
 Change in net interest income $ 1,840 $ (70) $ (236) $ 1,534 

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 Average Daily Balance Sheets 
 The following table shows the Company's average daily balance sheets for the six months and quarters ended June 30, 2020 and 2019. 
 
 For the six months ended For the quarters ended 
 Dollars in thousands 
 June 30,
2020 June 30,
2019 June 30,
2020 June 30,
2019 
 Assets 
 Cash and cash equivalents $ 18,318 $ 15,516 $ 20,214 $ 15,634 
 Interest-bearing deposits in other banks 23,456 7,850 25,153 5,063 
 Securities available for sale 323,731 324,017 310,366 325,757 
 Securities to be held to maturity 324,522 280,600 345,604 294,322 
 Restricted equity securities, at cost 10,104 9,569 11,112 8,982 
 Loans held for sale 1,540 213 2,745 235 
 Loans 1,372,445 1,253,234 1,421,277 1,254,105 
 Allowance for loan losses (11,989) (11,415) (12,231) (11,526) 
 Net loans 1,360,456 1,241,819 1,409,046 1,242,579 
 Accrued interest receivable 8,738 8,190 9,533 8,785 
 Premises and equipment 21,153 21,810 21,026 21,637 
 Other real estate owned 366 545 422 507 
 Goodwill 29,805 29,805 29,805 29,805 
 Other assets 50,648 45,275 53,399 45,579 
 Total Assets $ 2,172,837 $ 1,985,209 $ 2,238,425 $ 1,998,885 
 
 Liabilities & Shareholders' Equity 
 Demand deposits $ 180,170 $ 148,755 $ 199,037 $ 146,399 
 NOW deposits 402,438 366,217 422,726 363,169 
 Money market deposits 165,213 137,617 165,442 131,296 
 Savings deposits 244,049 236,476 252,421 235,133 
 Certificates of deposit 693,418 694,277 652,324 728,025 
 Total deposits 1,685,288 1,583,342 1,691,950 1,604,022 
 Borrowed funds – short term 192,248 179,561 246,366 169,383 
 Borrowed funds – long term 54,854 10,109 54,854 10,109 
 Dividends payable 795 1,136 800 1,116 
 Other liabilities 21,991 12,650 26,264 12,871 
 Total Liabilities 1,955,176 1,786,798 2,020,234 1,797,501 
 Shareholders' Equity: 
 
 Common stock 109 109 109 109 
 Additional paid-in capital 64,233 62,997 64,385 63,139 
 Retained earnings 150,066 137,147 151,707 138,643 
 Net unrealized gain (loss) on securities available for sale 6,686 (2,594) 7,620 (819) 
 Net unrealized loss on securities transferred from available for sale to held to maturity (174) (194) (168) (193) 
 Net unrealized gain (loss) on cash flow hedging derivative instruments (3,283) 909 (5,486) 468 
 Net unrealized gain on postretirement benefit costs 24 37 24 37 
 Total Shareholders' Equity 217,661 198,411 218,191 201,384 
 Total Liabilities & Shareholders' Equity $ 2,172,837 $ 1,985,209 $ 2,238,425 $ 1,998,885 

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 Non-Interest Income 
 Non-interest income of $8.8 million for the six months ended June 30, 2020 is an increase of $2.1 million compared to the same period in 2019. Strong refinance volume led to mortgage banking revenue increasing $1.2 million or 190.0%. Revenue at First National Wealth Management increased $166,000 and net gains on securities added $1.2 million, while service charge income and other income were both negatively impacted by lower transaction volume related to COVID-19. Non-interest income of $4.6 million for the quarter ended June 30, 2020 is an increase of $996,000 compared to the same period in 2019, due to the reasons mentioned above. 
 
 Non-Interest Expense 
 Non-interest expense of $20.0 million for the six months ended June 30, 2020 is an increase of 16.5% or $2.8 million compared to non-interest expense of $17.1 million for the same period in 2019. The year-to-year change was impacted by charges taken during the first quarter of 2020 to restructure interest rate swap positions, as well as increases in employee expenses and furniture and equipment expense. The Company's non-GAAP efficiency ratio stood at 52.13% for the six months ended June 30, 2020, up from 50.63% for the same period in 2019. The ratio was elevated in the first quarter of 2020 due to charges taken to restructure several interest rate swap positions. In the absence of these charges, the non-GAAP efficiency ratio for the first six months of 2020 would have been 47.35%. Non-interest expense of $8.9 million for the quarter ended June 30, 2020 is an increase of 2.1% compared to non-interest expense of $8.7 million for the same period in 2019 due to the reasons mentioned above. 
 
 Income Taxes 
 Income taxes on operating earnings were $2.5 million for the six months ended June 30, 2020, up $163,000 from the same period in 2019. 
 
 Investments 
 The Company's investment portfolio increased by $12.9 million between December 31, 2019 and June 30, 2020. As of June 30, 2020, mortgage-backed securities had a carrying value of $326.5 million and a fair value of $327.5 million. Of this total, securities with a fair value of $142.3 million or 43.4% of the mortgage-backed portfolio were issued by the Government National Mortgage Association and securities with a fair value of $185.3 million or 56.6% of the mortgage-backed portfolio were issued by the Federal Home Loan Mortgage Corporation ("Freddie Mac") and the Federal National Mortgage Association ("Fannie Mae"). 
 The Company's investment securities are classified into two categories: securities available for sale and securities to be held to maturity. Securities available for sale consist primarily of debt securities which Management intends to hold for indefinite periods of time. They may be used as part of the Company's funds management strategy, and may be sold in response to changes in interest rates, prepayment risk and liquidity needs, to increase capital ratios, or for other similar reasons. Securities to be held to maturity consist primarily of debt securities that the Company has acquired solely for long-term investment purposes, rather than potential future sale. For securities to be categorized as held to maturity, Management must have the intent and the Company must have the ability to hold such investments until their respective maturity dates. The Company does not hold trading account securities. 
 All investment securities are managed in accordance with a written investment policy adopted by the Board of Directors. It is the Company's general policy that investments for either portfolio be limited to government debt obligations, time deposits, and corporate bonds or commercial paper with one of the three highest ratings given by a nationally recognized rating agency. The portfolio is currently invested primarily in U.S. Government agency securities and tax-exempt obligations of states and political subdivisions. The individual securities have been selected to enhance the portfolio's overall yield while not materially adding to the Company's level of interest rate risk. 
 During the third quarter of 2014, the Company transferred securities with a total amortized cost of $89,780,000 and a corresponding fair value of $89,757,000 from available for sale to held to maturity. The net unrealized loss, net of taxes, on these securities at the date of the transfer was $15,000. The net unrealized holding loss at the time of transfer continues to be reported in accumulated other comprehensive income (loss), net of tax and is amortized over the remaining lives of the securities as an adjustment of the yield. The amortization of the net unrealized loss reported in accumulated other comprehensive income (loss) will offset the effect on interest income of the discount for the transferred securities. The remaining unamortized balance of the net unrealized losses for the securities transferred from available for sale to held to maturity was $146,000 at June 30, 2020. This compares to $182,000 and $190,000, net of taxes, at December 31, 2019 and June 30, 2019, respectively. These securities were transferred as a part of the Company's overall investment and balance sheet strategies. 
 
 
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 The following table sets forth the Company's investment securities at their carrying amounts as of June 30, 2020 and 2019 and December 31, 2019. 
 
 Dollars in thousands 
 June 30,
2020 December 31,
2019 June 30,
2019 
 Securities available for sale 
 U.S. Government-sponsored agencies $ 15,556 $ 7,398 $ 5,012 
 Mortgage-backed securities 275,491 326,617 312,625 
 State and political subdivisions 20,453 26,505 4,933 
 
 $ 311,500 $ 360,520 $ 322,570 
 Securities to be held to maturity 
 U.S. Government-sponsored agencies $ 31,144 $ 32,840 $ 35,995 
 Mortgage-backed securities 50,983 14,431 16,569 
 State and political subdivisions 245,085 219,585 236,213 
 Corporate securities 14,750 14,750 13,750 
 $ 341,962 $ 281,606 $ 302,527 
 Restricted equity securities 
 Federal Home Loan Bank Stock $ 9,508 $ 7,945 $ 7,945 
 Federal Reserve Bank Stock 1,037 1,037 1,037 
 $ 10,545 $ 8,982 $ 8,982 
 Total securities $ 664,007 $ 651,108 $ 634,079 

 
 
 
 
 
 
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 The following table sets forth yields and contractual maturities of the Company's investment securities as of June 30, 2020. Yields on tax-exempt securities have been computed on a tax-equivalent basis using a tax rate of 21%. Mortgage-backed securities are presented according to their final contractual maturity date, while the calculated yield takes into effect the intermediate cash flows from repayment of principal which results in a much shorter average life. 
 
 Available For Sale Held to Maturity 
 Dollars in thousands 
 Fair
Value Yield to maturity Amortized Cost Yield to maturity 
 U.S. Government-Sponsored Agencies 
 Due in 1 year or less $ — 0.00 % $ — 0.00 % 
 Due in 1 to 5 years — 0.00 % — 0.00 % 
 Due in 5 to 10 years — 0.00 % 23,146 2.75 % 
 Due after 10 years 15,556 2.48 % 7,998 2.88 % 
 Total 15,556 2.48 % 31,144 2.79 % 
 Mortgage-Backed Securities 
 Due in 1 year or less 573 0.80 % 8 43.28 % 
 Due in 1 to 5 years 27,310 2.79 % 5,681 2.51 % 
 Due in 5 to 10 years 54,134 2.57 % 15,343 2.78 % 
 Due after 10 years 193,474 2.54 % 29,951 2.66 % 
 Total 275,491 2.57 % 50,983 2.69 % 
 State & Political Subdivisions 
 Due in 1 year or less — 0.00 % 1,102 5.51 % 
 Due in 1 to 5 years — 0.00 % 16,622 5.57 % 
 Due in 5 to 10 years 11,441 4.87 % 137,388 4.55 % 
 Due after 10 years 9,012 5.39 % 89,973 4.08 % 
 Total 20,453 5.10 % 245,085 4.45 % 
 Corporate Securities 
 Due in 1 year or less — 0.00 % 750 1.75 % 
 Due in 1 to 5 years — 0.00 % 10,000 5.43 % 
 Due in 5 to 10 years — 0.00 % 4,000 4.72 % 
 Due after 10 years — 0.00 % — 0.00 % 
 Total — 0.00 % 14,750 5.05 % 
 
 $ 311,500 2.73 % $ 341,962 4.06 % 

 
 
 
 Held To Maturity Sales 
 During the second quarter of 2020, 28 municipal securities were sold that had been designated as Held to Maturity. Proceeds from these sales totaled $8.6 million against a cumulative book value of $8.3 million resulting in a net realized gain of $268,000. The potential economic impact of COVID-19 is considered to be an isolated and unusual event that could not be reasonably anticipated as outlined in ASC Section 320-10-25. Management conducted a review of its municipal bond portfolio in conjunction with risk mitigation efforts related to the onset of the COVID-19 virus; the intent of the review was to identify investment exposures with lower relative credit ratings, locales with perceived above average economic risk, municipal entities with reliance upon sales tax or income tax revenue, or any combination of these factors. Each of the sold positions met one or more of the criteria. 
 Impaired Securities 
 The securities portfolio contains certain securities where the amortized cost of which exceeds fair value, which at June 30, 2020 amounted to $347,000, or 0.06% of the amortized cost of the total securities portfolio. At December 31, 2019, this amount was $1.1 million, or 0.18% of the amortized cost of total securities portfolio. As a part of the Company's ongoing security monitoring process, the Company identifies securities in an unrealized loss position that could potentially be other-than-temporarily impaired. If a decline in the fair value of a debt security is judged to be other-than-temporary, the decline related to credit loss is recorded in net realized securities losses while the decline attributable to other factors is recorded in other comprehensive income or loss. 
 The Company's evaluation of securities for impairment is a quantitative and qualitative process intended to determine whether declines in the fair value of investment securities should be recognized in current period earnings. The primary factors 
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 considered in evaluating whether a decline in the fair value of securities is other-than-temporary include: (a) the length of time and extent to which the fair value has been less than cost or amortized cost and the expected recovery period of the security, (b) the financial condition, credit rating and future prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments, (d) the volatility of the securities market price, (e) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery, which may be at maturity, and (f) any other information and observable data considered relevant in determining whether other-than-temporary impairment has occurred. 
 The Company's best estimate of cash flows uses severe economic recession assumptions due to market uncertainty. The Company's assumptions include but are not limited to delinquencies, foreclosure levels and constant default rates on the underlying collateral, loss severity ratios, and constant prepayment rates. If the Company does not expect to receive 100% of future contractual principal and interest, an other-than-temporary impairment charge is recognized. Estimating future cash flows is a quantitative and qualitative process that incorporates information received from third party sources along with certain internal assumptions and judgments regarding the future performance of the underlying collateral. 
 As of June 30, 2020, the Company had temporarily impaired securities with a fair value of $48.5 million and unrealized losses of $347,000, as identified in the table below. Securities in a continuous unrealized loss position more than twelve months amounted to $4.8 million as of June 30, 2020, compared with $19.0 million at December 31, 2019. The Company has concluded that these securities were not other-than-temporarily impaired. This conclusion was based on the issuer's continued satisfaction of the securities obligations in accordance with their contractual terms and the expectation that the issuer will continue to do so, Management's intent and ability to hold these securities for a period of time sufficient to allow for any anticipated recovery in fair value which may be at maturity, the expectation that the Company will receive 100% of future contractual cash flows, as well as the evaluation of the fundamentals of the issuer's financial condition and other objective evidence. The following table summarizes temporarily impaired securities and their approximate fair values at June 30, 2020: 
 
 Less than 12 months 12 months or more Total 
 Dollars in thousands 
 Fair 
Value (Estimated) Unrealized 
Losses Fair 
Value (Estimated) Unrealized 
Losses Fair 
Value (Estimated) Unrealized 
Losses 
 U.S. Government-sponsored agencies $ 7,988 $ (12) $ — $ — $ 7,988 $ (12) 
 Mortgage-backed securities 28,116 (160) 4,771 (143) 32,887 (303) 
 State and political subdivisions 7,623 (32) — — 7,623 (32) 
 
 
 $ 43,727 $ (204) $ 4,771 $ (143) $ 48,498 $ (347) 

 
 
 For securities with unrealized losses, the following information was considered in determining that the securities were not other-than-temporarily impaired: 
 Securities issued by U.S. Government-sponsored agencies and enterprises. As of June 30, 2020, there were $12,000 unrealized losses on these securities compared to $128,000 unrealized losses as of December 31, 2019. All of these securities were credit rated "AAA" or "AA+" by the major credit rating agencies. Management believes that securities issued by U.S. Government-sponsored agencies and enterprises have minimal credit risk, as these agencies and enterprises play a vital role in the nation's financial markets and does not consider these securities to be other-than-temporarily impaired at June 30, 2020. 
 Mortgage-backed securities issued by U.S. Government agencies and U.S. Government-sponsored enterprises. As of June 30, 2020, there were $303,000 of unrealized losses on these securities compared with $849,000 at December 31, 2019. All of these securities were credit rated "AAA" or "AA+" by the major credit rating agencies. Management believes that securities issued by U.S. Government agencies bear no credit risk because they are backed by the full faith and credit of the United States and that securities issued by U.S. Government-sponsored enterprises have minimal credit risk, as these agencies and enterprises play a vital role in the nation's financial markets. Management believes that the unrealized losses at June 30, 2020 were attributable to changes in current market yields and spreads since the date the underlying securities were purchased, and does not consider these securities to be other-than-temporarily impaired at June 30, 2020. The Company also has the ability and intent to hold these securities until a recovery of their amortized cost, which may be at maturity. 
 Obligations of state and political subdivisions. As of June 30, 2020, there were $32,000 of unrealized losses on these securities compared to $109,000 at December 31, 2019. Municipal securities are supported by the general taxing authority of the municipality and, in the cases of school districts, are generally supported by state aid. At June 30, 2020, all municipal bond issuers were current on contractually obligated interest and principal payments. The Company attributes the unrealized losses at June 30, 2020 to changes in prevailing market yields and pricing spreads since the date the underlying securities were purchased, combined with current market liquidity conditions and the disruption in the financial markets in general. Accordingly, the Company does not consider these municipal securities to be other-than-temporarily impaired at June 30, 2020. 
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 Corporate securities. As of June 30, 2020 and December 31, 2019, there were no unrealized losses on these securities. Corporate securities are dependent on the operating performance of the issuers. At June 30, 2020, all corporate bond issuers were current on contractually obligated interest and principal payments. 
 
 
 
 Federal Home Loan Bank Stock 
 The Bank is a member of the Federal Home Loan Bank ("FHLB") of Boston, a cooperatively owned wholesale bank for housing and finance in the six New England States. As a requirement of membership in the FHLB, the Bank must own a minimum required amount of FHLB stock, calculated periodically based primarily on its level of borrowings from the FHLB. The Bank uses the FHLB for much of its wholesale funding needs. As of June 30, 2020, the Bank's investment in FHLB stock totaled $9.5 million. This compares to $7.9 million as of December 31, 2019 and June 30, 2019. FHLB stock is a non-marketable equity security and therefore is reported at cost, subject to adjustments for any observable market transactions on the same or similar instruments of the investee. No impairment losses have been recorded through June 30, 2020. The Company will continue to monitor its investment in FHLB stock. 
 
 Loans Held for Sale 
 Loans held for sale are carried at the lower of cost or market value. As of June 30, 2020, the Bank had $5.0 million in loans held for sale. This compares to $154,000 loans held for sale at December 31, 2019 and no loans held for sale at June 30, 2019. The Bank participates in FHLB's Mortgage Partnership Finance Program ("MPF"), selling loans with recourse. The volume of loans sold to date through the MPF program is de minimis; therefore, there was minimum impact on the reserve. 
 Loans 
 The loan portfolio increased during the first six months of 2020, with total loans at $1.45 billion at June 30, 2020, up $154.5 million or 11.9% from total loans of $1.30 billion at December 31, 2019. Commercial loans increased $142.6 million or 22.7% between December 31, 2019 and June 30, 2020, municipal loans increased $8.4 million or 20.2%, residential term loans increased $7.2 million and home equity lines of credit decreased $5.3 million. Loans made under the U.S. Small Business Adminstration's Payroll Protection Program (PPP) added $96.0 million to commercial loans in the second quarter of 2020. 
 Commercial loans are comprised of three major classes: commercial real estate loans, commercial construction loans and other commercial loans. 
 Commercial real estate loans consist of mortgage loans to finance investments in real property such as multi-family residential, commercial/retail, office, industrial, hotels, educational and other specific or mixed use properties. Commercial real estate loans are typically written with amortizing payment structures. Collateral values are determined based on appraisals and evaluations in accordance with established policy and regulatory guidelines. Commercial real estate loans typically have a loan-to-value ratio of up to 80% based upon current valuation information at the time the loan is made. Commercial real estate loans are primarily paid by the cash flow generated from the real property, such as operating leases, rents, or other operating cash flows from the borrower. 
 Commercial construction loans consist of loans to finance construction in a mix of owner- and non-owner occupied commercial real estate properties. Commercial construction loans typically have a construction phase of less than two years, followed by a repayment phase. Payment structures during the construction period are typically on an interest only basis, although principal payments may be established depending on the type of construction project being financed. During the construction phase, commercial construction loans are primarily paid by cash flow generated from the construction project or other operating cash flows from the borrower or guarantors, if applicable. At the end of the construction period, loan repayment typically comes from a third party source in the event that the Company will not be providing permanent term financing. Collateral valuation and loan-to-value guidelines follow those for commercial real estate loans. 
 Other commercial loans consist of revolving and term loan obligations extended to business and corporate enterprises for the purpose of financing working capital and or capital investment. Collateral generally consists of pledges of business assets including, but not limited to, accounts receivable, inventory, plant and equipment, and/or real estate, if applicable. Commercial loans are primarily paid by the operating cash flow of the borrower. Commercial loans may be secured or unsecured. 
 Municipal loans are comprised of loans to municipalities in Maine for capitalized expenditures, construction projects or tax-anticipation notes. All municipal loans are considered general obligations of the municipality and are collateralized by the taxing ability of the municipality for repayment of debt. 
 Residential loans are comprised of two classes: term loans and construction loans. 
 Residential term loans consist of residential real estate loans held in the Company's loan portfolio made to borrowers who demonstrate the ability to make scheduled payments with full consideration to underwriting factors. Borrower qualifications include favorable credit history combined with supportive income requirements and loan-to-value ratios within established policy and regulatory guidelines. Collateral values are determined based on appraisals and evaluations in accordance with established policy and regulatory guidelines. Residential loans typically have a loan-to-value ratio of up to 80% based on appraisal information at the time the loan is made. Collateral consists of mortgage liens on one- to four-family residential properties. Loans are offered with fixed or adjustable rates with amortization terms of up to thirty years. 
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 Residential construction loans typically consist of loans for the purpose of constructing single family residences to be owned and occupied by the borrower. Borrower qualifications include favorable credit history combined with supportive income requirements and loan-to-value ratios within established policy and regulatory guidelines. Residential construction loans normally have construction terms of one year or less and payment during the construction term is typically on an interest only basis from sources including interest reserves, borrower liquidity and/or income. Residential construction loans will typically convert to permanent financing from the Company or have another financing commitment in place from an acceptable mortgage lender. Collateral valuation and loan-to-value guidelines are consistent with those for residential term loans. 
 Home equity lines of credit are made to qualified individuals and are secured by senior or junior mortgage liens on owner-occupied one- to four-family homes, condominiums, or vacation homes. The home equity line of credit typically has a variable interest rate and is billed as interest-only payments during the draw period. At the end of the draw period, the home equity line of credit is billed as a percentage of the principal balance plus all accrued interest. Loan maturities are normally 300 months. Borrower qualifications include favorable credit history combined with supportive income requirements and combined loan-to-value ratios usually not exceeding 80% inclusive of priority liens. Collateral valuation guidelines follow those for residential real estate loans. 
 Consumer loan products including personal lines of credit and amortizing loans made to qualified individuals for various purposes such as auto, recreational vehicles, debt consolidation, personal expenses or overdraft protection. Borrower qualifications include favorable credit history combined with supportive income and collateral requirements within established policy guidelines. Consumer loans may be secured or unsecured. 
 Construction loans, both commercial and residential, at 31.1% of capital are well under the regulatory guidance of 100.0% of capital at June 30, 2020. Construction loans and non-owner-occupied commercial real estate loans are at 125.8% of total capital, well under the regulatory guidance of 300.0% of capital at June 30, 2020. 
 The following table summarizes the loan portfolio, by class, at June 30, 2020 and 2019 and December 31, 2019. 
 
 Dollars in thousands 
 June 30, 2020 December 31, 2019 June 30, 2019 
 Commercial 
 Real estate $ 397,155 27.4 % $ 372,810 28.7 % $ 359,581 28.8 % 
 Construction 47,169 3.2 % 38,084 3.0 % 32,785 2.6 % 
 Other 327,967 22.6 % 218,773 16.9 % 205,910 16.5 % 
 Municipal 49,644 3.4 % 41,288 3.2 % 36,113 2.9 % 
 Residential 
 Term 499,693 34.4 % 492,455 37.9 % 481,349 38.5 % 
 Construction 14,707 1.1 % 14,813 1.2 % 13,239 1.1 % 
 Home equity line of credit 87,019 6.0 % 92,349 7.1 % 94,763 7.6 % 
 Consumer 28,269 1.9 % 26,503 2.0 % 25,392 2.0 % 
 Total loans $ 1,451,623 100.0 % $ 1,297,075 100.0 % $ 1,249,132 100.0 % 

 
 
 The following table sets forth certain information regarding the contractual maturities of the Bank's loan portfolio as of June 30, 2020. 
 
 Dollars in thousands 
 < 1 Year 1 - 5 Years 5 - 10 Years > 10 Years Total 
 Commercial 
 Real estate $ 151 $ 24,289 $ 37,894 $ 334,821 $ 397,155 
 Construction 202 7,814 2,670 36,483 47,169 
 Other 864 187,033 74,370 65,700 327,967 
 Municipal 3,250 24,970 10,621 10,803 49,644 
 Residential 
 Term — 9,105 39,427 451,161 499,693 
 Construction — 614 — 14,093 14,707 
 Home equity line of credit — 624 522 85,873 87,019 
 Consumer 7,783 6,418 7,478 6,590 28,269 
 Total loans $ 12,250 $ 260,867 $ 172,982 $ 1,005,524 $ 1,451,623 

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 The following table provides a listing of loans by class, between variable and fixed rates as of June 30, 2020. 
 
 Fixed-Rate Adjustable-Rate Total 
 Dollars in thousands 
 Amount % of total Amount % of total Amount % of total 
 Commercial 
 Real estate $ 266,387 18.4 % $ 130,768 9.0 % $ 397,155 27.4 % 
 Construction 42,808 2.9 % 4,361 0.3 % 47,169 3.2 % 
 Other 273,163 18.8 % 54,804 3.8 % 327,967 22.6 % 
 Municipal 48,729 3.3 % 915 0.1 % 49,644 3.4 % 
 Residential 
 Term 416,256 28.7 % 83,437 5.7 % 499,693 34.4 % 
 Construction 14,707 1.0 % — 0.1 % 14,707 1.1 % 
 Home equity line of credit 1,657 0.1 % 85,362 5.9 % 87,019 6.0 % 
 Consumer 20,854 1.4 % 7,415 0.5 % 28,269 1.9 % 
 Total loans $ 1,084,561 74.7 % $ 367,062 25.4 % $ 1,451,623 100.0 % 

 
 
 Loan Concentrations 
 As of June 30, 2020, the Bank did not have any concentration of loans in one particular industry that exceeded 10% of its total loan portfolio. 
 
 
 
 Credit Risk Management and Allowance for Loan Losses 
 Credit risk is the risk of loss arising from the inability of a borrower to meet its obligations. We manage credit risk by evaluating the risk profile of the borrower, repayment sources, the nature of the underlying collateral, and other support given current events, conditions, and expectations. We attempt to manage the risk characteristics of our loan portfolio through various control processes, such as credit evaluation of borrowers, establishment of lending limits, and application of lending procedures, including the holding of adequate collateral and the maintenance of compensating balances. However, we seek to rely primarily on the cash flow of our borrowers as the principal source of repayment. Although credit policies and evaluation processes are designed to minimize our risk, Management recognizes that loan losses will occur and the amount of these losses will fluctuate depending on the risk characteristics of our loan portfolio, as well as general and regional economic conditions. 
 We provide for loan losses through the establishment of an allowance for loan losses which represents an estimated reserve for existing losses in the loan portfolio. We deploy a systematic methodology for determining our allowance that includes a quarterly review process, risk rating, and adjustment to our allowance. We classify our portfolios as either commercial or residential and consumer and monitor credit risk separately as discussed below. We evaluate the appropriateness of our allowance continually based on a review of all significant loans, with a particular emphasis on nonaccruing, past due, and other loans that we believe require special attention. 
 The allowance consists of four elements: (1) specific reserves for loans evaluated individually for impairment; (2) general reserves for types or portfolios of loans based on historical loan loss experience; (3) qualitative reserves judgmentally adjusted for local and national economic conditions, concentrations, portfolio composition, volume and severity of delinquencies and nonaccrual loans, trends of criticized and classified loans, changes in credit policies, and underwriting standards, credit administration practices, and other factors as applicable; and (4) unallocated reserves. All outstanding loans are considered in evaluating the appropriateness of the allowance. 
 Appropriateness of the allowance for loan losses is determined using a consistent, systematic methodology, which analyzes the risk inherent in the loan portfolio. In addition to evaluating the collectibility of specific loans when determining the appropriateness of the allowance for loan losses, Management also takes into consideration other factors such as changes in the mix and size of the loan portfolio, historic loss experience, the amount of delinquencies and loans adversely classified, economic trends, changes in credit policies, and experience, ability and depth of lending management. The appropriateness of the allowance for loan losses is assessed by an allocation process whereby specific reserve allocations are made against certain adversely classified loans, and general reserve allocations are made against segments of the loan portfolio which have similar attributes. The Company's historical loss experience, industry trends, and the impact of the local and regional economy on the Company's borrowers, are considered by Management in determining the appropriateness of the allowance for loan losses. 
 The allowance for loan losses is increased by provisions charged against current earnings. Loan losses are charged against the allowance when Management believes that the collectibility of the loan principal is unlikely. Recoveries on loans previously charged off are credited to the allowance. While Management uses available information to assess possible losses on loans, future additions to the allowance may be necessary based on increases in non-performing loans, changes in economic 
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 conditions, growth in loan portfolios, or for other reasons. Any future additions to the allowance would be recognized in the period in which they were determined to be necessary. In addition, various regulatory agencies periodically review the Company's allowance for loan losses as an integral part of their examination process. Such agencies may require the Company to record additions to the allowance based on judgments different from those of Management. 
 
 
 Commercial 
 Our commercial portfolio includes all secured and unsecured loans to borrowers for commercial purposes, including commercial lines of credit and commercial real estate. Our process for evaluating commercial loans includes performing updates on loans that we have rated for credit risk. Our non-performing commercial loans are generally reviewed individually to determine impairment, accrual status, and the need for specific reserves. Our methodology incorporates a variety of risk considerations, both qualitative and quantitative. Quantitative factors include our historical loss experience by loan type, collateral values, financial condition of borrowers, and other factors. Qualitative factors applied to the portfolio or segments of the portfolio may include judgments concerning general economic conditions that may affect credit quality, credit concentrations, the pace of portfolio growth, the direction of risk rating movements, policy exception levels, and delinquency levels; these qualitative factors are also considered in connection with the unallocated portion of our allowance for loan losses. 
 The process of establishing the allowance with respect to the commercial loan portfolio begins when a Loan Officer or Senior Officer (or designate) initially assigns each loan a risk rating, using established credit criteria. Approximately 60% of a trailing four quarter average gross commercial portfolio is subject to review and validation annually by an independent consulting firm. Additionally, commercial loan relationships with exposure greater than or equal to $500,000 are subject to review annually by the Company's internal credit review function. Our methodology employs Management's judgment as to the level of losses on existing loans based on our internal review of the loan portfolio, including an analysis of the borrowers' current financial position, and the consideration of current and anticipated economic conditions and their potential effects on specific borrowers and or lines of business. In determining our ability to collect certain loans, we also consider the fair value of any underlying collateral. We also evaluate credit risk concentrations, including trends in large dollar exposures to related borrowers, industry and geographic concentrations, and economic and environmental factors. 
 
 
 Residential, Home Equity and Consumer 
 Consumer, home equity and residential mortgage loans are generally segregated into homogeneous pools with similar risk characteristics. Trends and current conditions in these pools are analyzed and historical loss experience is adjusted accordingly. Quantitative and qualitative adjustment factors for the consumer, home equity and residential mortgage portfolios are consistent with those for the commercial portfolios. Certain loans in the consumer and residential portfolios identified as having the potential for further deterioration are analyzed individually to confirm the appropriate risk status and accrual status, and to determine the need for a specific reserve. Consumer loans that are greater than 120 days past due are generally charged off. Residential loans and home equity lines of credit that are greater than 90 days past due are evaluated for collateral adequacy and if deficient are placed on non-accrual status. 
 
 
 Unallocated 
 The unallocated portion of the allowance is intended to provide for losses that are not identified when establishing the specific and general portions of the allowance and is based upon Management's evaluation of various conditions that are not directly measured in the determination of the portfolio and loan specific allowances. Such conditions may include general economic and business conditions affecting our lending area, credit quality trends (including trends in delinquencies and nonperforming loans expected to result from existing conditions), loan volumes and concentrations, duration of the current business cycle, bank regulatory examination results, findings of external loan review examiners, and Management's judgment with respect to various other conditions including loan administration and management and the quality of risk identification systems. Management reviews these conditions quarterly. We have risk management practices designed to ensure timely identification of changes in loan risk profiles; however, undetected losses may exist inherently within the loan portfolio. In response to the consequences of COVID-19, we have increased the rigor and frequency of our loan portfolio monitoring and borrower contact, particularly within those industry groups thought to be most vulnerable, including the lodging, restaurant and hospitality sectors; as additional information becomes available, an increase to our Allowance for Loan Losses is likely. The judgmental aspects involved in applying the risk grading criteria, analyzing the quality of individual loans, and assessing collateral values can also contribute to undetected, but probable, losses. Consequently, there maybe underlying credit risks that have not yet surfaced in the loan- specific or qualitative metrics the Company uses to estimate its allowance for loan losses. 
 
 
 The allowance for loan losses includes reserve amounts assigned to individual loans on the basis of loan impairment. Certain loans are evaluated individually and are judged to be impaired when Management believes it is probable that the Company will not collect all of the contractual interest and principal payments as scheduled in the loan agreement. Under this method, loans are selected for evaluation based on non-accrual and/or troubled debt restructure status. A specific reserve is allocated to an individual loan when that loan has been deemed impaired and when the amount of a probable loss is estimable 
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 on the basis of its collateral value, the present value of anticipated future cash flows, or its net realizable value. At June 30, 2020, impaired loans with specific reserves totaled $4.7 million and the amount of such reserves was $917,000. This compares to impaired loans with specific reserves of $11.1 million at December 31, 2019 and the amount of such reserves was $2.2 million. Several impaired loans at December 31, 2019 were paid off or otherwise resolved in the six months ended June 30, 2020, accounting for the $9.3 million decrease in impaired loans and the $1.3 million reduction in specific reserves. 
 All of these analyses are reviewed and discussed by the Directors' Loan Committee, and recommendations from these processes provide Management and the Board of Directors with independent information on loan portfolio condition. Our total allowance at June 30, 2020 is considered by Management to be appropriate to address the credit losses inherent in the loan portfolio at that date. However, our determination of the appropriate allowance level is based upon a number of assumptions we make about future events, which we believe are reasonable, but which may or may not prove valid. Thus, there can be no assurance that our charge-offs in future periods will not exceed our allowance for loan losses or that we will not need to make additional increases in our allowance for loan losses. 
 The following table summarizes our allocation of allowance by loan class as of June 30, 2020 and 2019 and December 31, 2019. The percentages are the portion of each loan class to total loans. 
 
 Dollars in thousands 
 June 30, 2020 December 31, 2019 June 30, 2019 
 Commercial 
 Real estate $ 4,511 27.4 % $ 3,742 28.7 % $ 3,609 28.8 % 
 Construction 524 3.2 % 365 3.0 % 309 2.6 % 
 Other 3,689 22.6 % 3,329 16.9 % 3,281 16.5 % 
 Municipal 110 3.4 % 27 3.2 % 25 2.9 % 
 Residential 
 Term 2,261 34.4 % 1,024 37.9 % 1,106 38.5 % 
 Construction 64 1.1 % 25 1.2 % 23 1.1 % 
 Home equity line of credit 1,284 6.0 % 1,078 7.1 % 633 7.6 % 
 Consumer 658 1.9 % 867 2.0 % 649 2.0 % 
 Unallocated 1,009 — % 1,182 — % 1,836 — % 
 Total $ 14,110 100.0 % $ 11,639 100.0 % $ 11,471 100.0 % 

 
 
 The allowance for loan losses totaled $14.1 million at June 30, 2020, compared to $11.6 million as of December 31, 2019 and $11.5 million as of June 30, 2019. Management's ongoing application of methodologies to establish the allowance include an evaluation of impaired loans for specific reserves. These specific reserves decreased $1.3 million in the first six months of 2020 from $2.2 million at December 31, 2019 to $917,000 at June 30, 2020. The specific loans that make up those categories change from period to period. Impairment on those loans, which would be reflected in the allowance for loan losses, might or might not exist, depending on the specific circumstances of each loan. The portion of the reserve based upon homogeneous pools of loans decreased by $169,000 in the first six months of 2020. The portion of the reserve based on qualitative factors increased $4.1 million in the first six months of 2020 due to a mix of factors. These included initial impacts of the COVID-19 pandemic on various macroeconomic measures used in the qualitative model, as well as top down and unit level analysis of the loan portfolio for factors such as COVID-19 related modifications and industry segments particularly vulnerable to social distancing. Unallocated reserves of $1.2 million, or 10.2% of the total reserve at December 31, 2019, decreased to $1.0 million, or 7.2% as of June 30, 2020. After consideration of the shifts in specific, pooled and qualitative reserves, Management determined that the unallocated portion of the reserve at June 30, 2020 adequately addresses general imprecision related to loan portfolio growth, along with other underlying credit risks not yet captured in loan specific or qualitative metrics the Company uses to estimate its allowance. 
 
 
 
 
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 A breakdown of the allowance for loan losses as of June 30, 2020, by loan class and allowance element, is presented in the following table: 
 
 Dollars in thousands 
 Specific Reserves on Loans Evaluated Individually for Impairment General Reserves on Loans Based on Historical Loss Experience Reserves for Qualitative Factors Unallocated
Reserves Total Reserves 
 Commercial 
 Real estate $ 199 $ 631 $ 3,681 $ — $ 4,511 
 Construction 20 74 430 — 524 
 Other 132 521 3,036 — 3,689 
 Municipal — — 110 — 110 
 Residential 
 Term 269 285 1,707 — 2,261 
 Construction — 9 55 — 64 
 Home equity line of credit 292 99 893 — 1,284 
 Consumer 5 195 458 — 658 
 Unallocated — — — 1,009 1,009 
 $ 917 $ 1,814 $ 10,370 $ 1,009 $ 14,110 

 Based upon Management's evaluation, provisions are made to maintain the allowance as a best estimate of inherent losses within the portfolio. The provision for loan losses to maintain the allowance was $2.8 million for the first six months of 2020 and $625,000 the first six months of 2019. Net chargeoffs were $279,000 in the first six months of 2020, down from $386,000 in the first six months of 2019. Our allowance as a percentage of outstanding loans was 0.97% as of June 30, 2020, up from 0.90% as of December 31, 2019, and 0.92% as of June 30, 2019. 
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 The following table summarizes the activities in our allowance for loan losses for the six months ended June 30, 2020 and 2019 and for the year ended December 31, 2019: 
 
 Dollars in thousands 
 June 30, 2020 December 31, 2019 June 30, 2019 
 Balance at the beginning of year $ 11,639 $ 11,232 $ 11,232 
 Loans charged off: 
 Commercial 
 Real estate — 89 53 
 Construction — — — 
 Other 17 179 109 
 Municipal — — — 
 Residential 
 Term 46 445 93 
 Construction — — — 
 Home equity line of credit 153 69 38 
 Consumer 201 338 187 
 Total 417 1,120 480 
 Recoveries on loans previously charged off 
 Commercial 
 Real estate — 15 13 
 Construction — — — 
 Other 20 73 2 
 Municipal — — — 
 Residential 
 Term 26 57 6 
 Construction — — — 
 Home equity line of credit 19 4 2 
 Consumer 73 128 71 
 Total 138 277 94 
 Net loans charged off 279 843 386 
 Provision for loan losses 2,750 1,250 625 
 Balance at end of period $ 14,110 $ 11,639 $ 11,471 
 Ratio of net loans charged off to average loans outstanding 1 
 0.04 % 0.07 % 0.06 % 
 Ratio of allowance for loan losses to total loans outstanding 0.97 % 0.90 % 0.92 % 

 1 Annualized using a 366-day basis for 2020 and a 365-day basis for 2019. 
 In Management's opinion, the level of the provision for loan losses is directionally consistent with the overall credit quality of our loan portfolio and corresponding levels of nonperforming loans, as well as with the performance of the national and local economies, including effects of the COVID-19 pandemic. 
 
 
 
 COVID-19 Impact on Loan Portfolio 
 The Company is actively working with borrowers impacted by the COVID-19 outbreak. As of June 30, 2020, a total of 867 loan modification requests have been completed in conformance with the Interagency Statement on Loan Modifications and Reporting issued March 23, 2020 and/or Section 4013 of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, representing $239.5 million in loan balances, or approximately 16.5% of the overall loan portfolio. None of these modifications are classified as Troubled Debt Restructures, are not included in past due loan totals so long as modified terms are met, and continue to accrue interest. 
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 First National Bank is a designated SBA preferred lender and had processed 1,618 Paycheck Protection Program loan requests totaling $96.0 million in funds disbursed to qualified small businesses as of June 30, 2020. 
 The ultimate impact of the consequences of COVID-19 upon borrowers and ultimately the Company's loan portfolio metrics remains difficult to estimate or ascertain. The State of Maine, where most of the Bank's customers reside and/or operate has gradually re-opened its economy, however, quarantines for visitors from most states and limits on the size of public gatherings remain in place. 
 As of June 30, 2020 approximately 8.7% of the Company’s loan portfolio consisted of hospitality or restaurant industry borrowers, considered amongst the most impacted by COVID-19. As of June 30, 2020, 83 COVID-19 related loan modifications have been completed within the hospitality and restaurant segments representing $64.8 million in loan balances, or 51.5% of total hospitality and restaurant industry loans. 
 The Company regularly monitors activity on open credit lines and to date credit line utilization has not increased as a result of COVID-19's impact on the economy. Commercial credit line balances decreased in the second quarter of 2020 with an average utilization rate of 51.0%, down from an average utilization rate of 61.5% in the first quarter of 2020 and down from an average of 56.8% in the second quarter of 2019. Home equity line of credit balances also decreased in the second quarter of 2020 resulting in an average utilization rate for the quarter of 51.1%, down slightly from 51.6% in the first quarter of 2020 and down from 52.2% in the second quarter of 2020. 
 Nonperforming Loans 
 Nonperforming loans are comprised of loans, for which based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement or when principal and interest is 90 days or more past due unless the loan is both well secured and in the process of collection (in which case the loan may continue to accrue interest in spite of its past due status). A loan is "well secured" if it is secured (1) by collateral in the form of liens on or pledges of real or personal property, including securities, that have a realizable value sufficient to discharge the debt including accrued interest) in full, or (2) by the guarantee of a financially responsible party. A loan is "in the process of collection" if collection of the loan is proceeding in due course either (1) through legal action, including judgment enforcement procedures, or, (2) in appropriate circumstances, through collection efforts not involving legal action which are reasonably expected to result in repayment of the debt or in its restoration to a current status in the near future. 
 Generally, when a loan becomes 90 days past due it is evaluated for collateral dependency based upon the most recent appraisal or other evaluation method. If the collateral value is lower than the outstanding loan balance plus accrued interest and estimated selling costs, the loan is placed on non-accrual status, all accrued interest is reversed from interest income, and a specific reserve is established for the difference between the loan balance and the collateral value less selling costs, or, in certain situations, the difference between the loan balance and the collateral value less selling costs is written off. Concurrently, a new appraisal or valuation may be ordered, depending on collateral type, currency of the most recent valuation, the size of the loan, and other factors appropriate to the loan. Upon receipt and acceptance of the new valuation, the loan may have an additional specific reserve or write down based on the updated collateral value. On an ongoing basis, appraisals or valuations may be done periodically on collateral dependent nonperforming loans and an additional specific reserve or write down will be made, if appropriate, based on the new collateral value. 
 Once a loan is placed on nonaccrual, it remains in nonaccrual status until the loan is current as to payment of both principal and interest and the borrower demonstrates the ability to pay and remain current. All payments made on nonaccrual loans are applied to the principal balance of the loan. 
 Nonperforming loans, expressed as a percentage of total loans, totaled 0.57% at June 30, 2020 compared to 1.28% at December 31, 2019 and 1.23% at June 30, 2019. The following table shows the distribution of nonperforming loans by class as of June 30, 2020 and 2019 and December 31, 2019: 
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 Dollars in thousands 
 June 30,
2020 December 31,
2019 June 30,
2019 
 Commercial 
 Real estate $ 1,245 $ 1,784 $ 1,532 
 Construction 232 256 261 
 Other 323 6,534 7,014 
 Municipal — — — 
 Residential 
 Term 4,685 5,899 5,892 
 Construction — — — 
 Home equity line of credit 1,854 2,171 694 
 Consumer 5 5 — 
 Total nonperforming loans $ 8,344 $ 16,649 $ 15,393 

 The amounts shown for total nonperforming loans do not include loans 90 or more days past due and still accruing interest. These are loans for which we expect to collect all amounts due, including past-due interest. As of June 30, 2020, loans 90 or more days past due and still accruing interest totaled $1.5 million, compared to $1.6 million at December 31, 2019 and $672,000 at June 30, 2019. 
 
 
 Troubled Debt Restructured 
 A troubled debt restructured ("TDR") constitutes a restructuring of debt if the Company, for economic or legal reasons related to the borrower's financial difficulties, grants a concession to the borrower that it would not otherwise consider. To determine whether or not a loan should be classified as a TDR, Management evaluates a loan based upon the following criteria: 
 • The borrower demonstrates financial difficulty; common indicators include past due status with bank obligations, substandard credit bureau reports, or an inability to refinance with another lender, and 
 • The Company has granted a concession; common concession types include maturity date extension, interest rate adjustments to below market pricing, and deferment of payments. 
 As of June 30, 2020, we had 78 loans with a balance of $14.0 million that have been restructured. This compares to 81 loans with a balance of $21.4 million and 83 loans with a balance of $24.5 million classified as TDRs as of December 31, 2019 and June 30, 2019, respectively. 
 The following table shows the activity in loans classified as TDRs between December 31, 2019 and June 30, 2020: 
 
 Balance in Thousands of Dollars Number of Loans Aggregate Balance 
 Total at December 31, 2019 81 $ 21,424 
 Added in 2020 2 190 
 Principal reduction on loans added in 2020 (2) 
 Net added in 2020 188 
 Loans paid off in 2020 (5) (6,234) 
 Repayments in 2020 — (1,365) 
 Total at June 30, 2020 78 $ 14,013 

 
 
 As of June 30, 2020, 53 loans with an aggregate balance of $11.3 million were performing under the modified terms, two loans with an aggregate balance of $334,000 were more than 30 days past due and accruing and 23 loans with an aggregate balance of $2.3 million were on nonaccrual. As a percentage of aggregate outstanding balance, 80.9% were performing under the modified terms, 2.4% were more than 30 days past due and accruing and 16.7% were on nonaccrual. The performance status of all TDRs as of June 30, 2020, as well as the associated specific reserve in the allowance for loan losses, is summarized by type of loan in the following table. 
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 In thousands of dollars 
 Performing 
As Modified 30+ Days Past Due 
and Accruing On
Nonaccrual All
TDRs 
 Commercial 
 Real estate $ 4,504 $ — $ 81 $ 4,585 
 Construction 701 — — 701 
 Other 530 — 247 777 
 Municipal — — — — 
 Residential 
 Term 5,292 334 1,851 7,477 
 Construction — — — — 
 Home equity line of credit 307 — 166 473 
 Consumer — — — — 
 $ 11,334 $ 334 $ 2,345 $ 14,013 
 Percent of balance 80.9 % 2.4 % 16.7 % 100.0 % 
 Number of loans 53 2 23 78 
 Associated specific reserve $ 318 $ — $ 225 $ 543 

 
 
 Residential TDRs (including home equity lines of credit) as of June 30, 2020 included 54 loans with an aggregate balance of $8.0 million, and the modifications granted fell into five major categories. Loans totaling $5.3 million had an extension of term, allowing the borrower to repay over an extended number of years and lowering the monthly payment to a level the borrower can afford. Loans totaling $2.9 million had interest capitalized, allowing the borrower to become current after unpaid interest was added to the balance of the loan and re-amortized over the remaining life of the loan. Loans with an aggregate balance of $491,000 were converted from interest-only to regular principal-and-interest payments based on the borrowers' ability to service the higher payment amount. Rate concessions were granted on loans totaling $1.6 million. Loans with an aggregate balance of $868,000 were involved in bankruptcy. Certain residential TDRs had more than one modification. 
 Commercial TDRs as of June 30, 2020 were comprised of 24 loans with a balance of $6.0 million. Of this total, six loans with an aggregate balance of $1.3 million had an extended period of interest-only payments, deferring the start of principal repayment. Three loans with an aggregate balance of $1.6 million had an extension of term, allowing the borrower to repay over an extended number of years and lowering the monthly payment to a level the borrower can afford. Eight loans with an aggregate balance of $1.1 million had a deferral of payment. The remaining seven loans with an aggregate balance of $2.0 million had several different modifications. 
 In each case when a loan was modified, Management determined it was in the Bank's best interest to work with the borrower with modified terms rather than to proceed to foreclosure. Once a loan is classified as a TDR it remains classified as such until the balance is fully repaid, despite whether the loan is performing under the modified terms. As of June 30, 2020, Management is aware of nine loans classified as TDRs that are involved in bankruptcy with an outstanding balance of $1.0 million. There were also 23 loans with an outstanding balance of $2.3 million that were classified as TDRs and on non-accrual status, of which two loans with an outstanding balance of $431,000 were in the process of foreclosure. 
 
 
 
 Impaired Loans 
 Impaired loans include restructured loans and loans placed on non-accrual status. These loans are measured at the present value of expected future cash flows discounted at the loan's effective interest rate or at the fair value of the collateral less estimated selling costs if the loan is collateral dependent. If the measure of an impaired loan is lower than the recorded investment in the loan, a specific reserve is established for the difference. Impaired loans totaled $20.0 million at June 30, 2020, and have decreased $9.3 million from December 31, 2019. There were 143 impaired loans at June 30, 2020 down from 150 loans at December 31, 2019. Impaired commercial loans decreased $6.8 million between December 31, 2019 and June 30, 2020. The specific allowance for impaired commercial loans decreased from $1.5 million at December 31, 2019 to $351,000 as of June 30, 2020, which represented the fair value deficiencies for loans where the fair value of the collateral or net present value of expected cash flows was estimated at less than our carrying amount of the loan. From December 31, 2019 to June 30, 2020, impaired residential loans decreased $2.1 million and impaired home equity lines of credit decreased $327,000. 
 
 
 
 
 
 
 
 
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 The following table sets forth impaired loans as of June 30, 2020 and 2019 and December 31, 2019: 
 
 Dollars in thousands 
 June 30,
2020 December 31,
2019 June 30,
2019 
 Commercial 
 Real estate $ 5,749 $ 6,309 $ 8,961 
 Construction 934 958 982 
 Other 853 7,075 7,582 
 Municipal — — — 
 Residential 
 Term 10,311 12,439 12,636 
 Construction — — — 
 Home equity line of credit 2,161 2,488 1,019 
 Consumer 5 5 — 
 Total $ 20,013 $ 29,274 $ 31,180 

 
 
 
 Past Due Loans 
 The Bank's overall loan delinquency ratio was 0.66% at June 30, 2020 compared to 1.16% at December 31, 2019 and 0.98% at June 30, 2019. Loans 90 days delinquent and accruing decreased from $1.6 million at December 31, 2019 to $1.5 million as of June 30, 2020. The following table sets forth loan delinquencies as of June 30, 2020 and 2019 and December 31, 2019: 
 
 Dollars in thousands 
 June 30,
2020 December 31,
2019 June 30,
2019 
 Commercial 
 Real estate $ 1,258 $ 1,774 $ 1,068 
 Construction — 271 15 
 Other 1,924 5,028 2,295 
 Municipal — — — 
 Residential 
 Term 3,533 4,640 7,279 
 Construction — — — 
 Home equity line of credit 2,581 2,957 1,242 
 Consumer 261 347 375 
 Total $ 9,557 $ 15,017 $ 12,274 
 Loans 30-89 days past due to total loans 0.23 % 0.63 % 0.55 % 
 Loans 90+ days past due and accruing to total loans 0.10 % 0.12 % 0.05 % 
 Loans 90+ days past due on non-accrual to total loans 0.33 % 0.40 % 0.37 % 
 Total past due loans to total loans 0.66 % 1.16 % 0.98 % 

 
 
 
 Potential Problem Loans and Loans in Process of Foreclosure 
 Potential problem loans consist of classified, accruing commercial and commercial real estate loans that were between 30 and 89 days past due. Such loans are characterized by weaknesses in the financial condition of borrowers or collateral deficiencies. Based on historical experience, the credit quality of some of these loans may improve due to improvements in the economy as well as changes in collateral values or the financial condition of the borrowers, while the credit quality of other loans may deteriorate, resulting in some amount of loss. At June 30, 2020, there were two potential problem loans with a balance of $61,000 or 0.004% of total loans. This compares to nine loans with a balance of $1.3 million or 0.10% of total loans at December 31, 2019. 
 As of June 30, 2020, there were 17 loans in the process of foreclosure with a total balance of $2.5 million. The Bank's residential foreclosure process begins when a loan becomes 75 days past due at which time a Demand/Breach Letter is sent to the borrower. If the loan becomes 120 days past due, copies of the promissory note and mortgage deed are forwarded to the Bank's attorney for review and a complaint for foreclosure is then prepared. An authorized Bank officer signs the affidavit 
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 certifying the validity of the documents and verification of the past due amount which is then forwarded to the court. Once a Motion for Summary Judgment is granted, a Period of Redemption (POR) begins which gives the customer 90 days to cure the default. A foreclosure auction date is then set 30 days from the POR expiration date if the default is not cured. 
 The Bank's commercial foreclosure process begins when a loan becomes 60 days past due, at which time a default letter is issued. At expiration of the period to cure default, which lasts 12 days after the issuing of the default letter, copies of the promissory note and mortgage deed are forwarded to the Bank's attorney for review. A Notice of Statutory Power of Sale is then prepared. This notice must be published for three consecutive weeks in a newspaper located in the county in which the property is located. A notice also must be issued to the mortgagor and all parties of interest 21 days prior to the sale. The foreclosure auction occurs and the Affidavit of Sale is recorded within the appropriate county within 30 days of the sale. 
 The Bank’s written policies and procedures for foreclosures, along with implementation of same, are subject to annual review by its internal audit provider. The scope of this review includes loans held in portfolio and loans serviced for others. There were no issues requiring management attention in the most recent review. Servicing for others includes loans sold to Freddie Mac, Fannie Mae, and the Federal Home Loan Bank of Boston through its Mortgage Partnership Finance (MPF) program. The Bank follows the published guidelines of each investor. Loans serviced for Freddie Mac and Fannie Mae have been sold without recourse, and the Bank has no liability for these loans in the event of foreclosure. A de minimis volume of loans has been sold to and serviced for MPF to date. The Bank retains a second loss layer credit enhancement obligation; no losses have been recorded on this credit enhancement obligation since the Bank started selling loans to MPF in 2013. 
 
 
 
 Other Real Estate Owned 
 Other real estate owned and repossessed assets ("OREO") are comprised of properties or other assets acquired through a foreclosure proceeding, or acceptance of a deed or title in lieu of foreclosure. Real estate acquired through foreclosure is carried at the lower of fair value less estimated cost to sell or the cost of the asset and is not included as part of the allowance for loan loss totals. At June 30, 2020 there were five properties owned with an OREO balance of $851,000, compared to December 31, 2019 when there were two properties owned with an OREO balance of $279,000 and June 30, 2019 when there were three properties owned with an OREO balance of $289,000. There were no allowance losses in any period. 
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 The following table presents the composition of other real estate owned: 
 
 Dollars in thousands 
 June 30,
2020 December 31,
2019 June 30,
2019 
 Carrying Value 
 Commercial 
 Real estate $ 221 $ — $ — 
 Construction — — — 
 Other — — — 
 Municipal — — — 
 Residential 
 Term 630 279 289 
 Construction — — — 
 Home equity line of credit — — — 
 Consumer — — — 
 Total $ 851 $ 279 $ 289 
 Related Allowance 
 Commercial 
 Real estate $ — $ — $ — 
 Construction — — — 
 Other — — — 
 Municipal — — — 
 Residential 
 Term — — — 
 Construction — — — 
 Home equity line of credit — — — 
 Consumer — — — 
 Total $ — $ — $ — 
 Net Value 
 Commercial 
 Real estate $ 221 $ — $ — 
 Construction — — — 
 Other — — — 
 Municipal — — — 
 Residential 
 Term 630 279 289 
 Construction — — — 
 Home equity line of credit — — — 
 Consumer — — — 
 Total $ 851 $ 279 $ 289 

 
 
 
 Liquidity Management 
 As of June 30, 2020, the Bank had primary sources of liquidity of $889.7 million. It is Management's opinion this is sufficient to meet liquidity needs under a broad range of scenarios. The Bank has an additional $344.8 million in contingent sources of liquidity, including the Federal Reserve Borrower in Custody program, municipal and corporate securities, and correspondent bank lines of credit. The Asset/Liability Committee ("ALCO") establishes guidelines for liquidity in its Asset/Liability policy and monitors internal liquidity measures to manage liquidity exposure. Based on its assessment of the liquidity considerations described above, Management believes the Company's sources of funding will meet anticipated funding needs. 
 Liquidity is the ability of a financial institution to meet maturing liability obligations and customer loan demand. The Bank's primary source of liquidity is deposits, which funded 77.6% of total average assets in the first six months of 2020. While the generally preferred funding strategy is to attract and retain low-cost deposits, the ability to do so is affected by competitive 
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 interest rates and terms in the marketplace. Other sources of funding include discretionary use of purchased liabilities (e.g., FHLB term advances and other borrowings), cash flows from the securities portfolios and loan repayments. Securities designated as available for sale may also be sold in response to short-term or long-term liquidity needs although Management has no intention to do so at this time. 
 The Bank has a detailed liquidity funding policy and a contingency funding plan that provide for the prompt and comprehensive response to unexpected demands for liquidity. Management has developed quantitative models to estimate needs for contingent funding that could result from unexpected outflows of funds in excess of "business as usual" cash flows. In Management's estimation, risks are concentrated in two major categories: runoff of in-market deposit balances and the inability to renew wholesale sources of funding. Of the two categories, potential runoff of deposit balances would have the most significant impact on contingent liquidity. Our modeling attempts to quantify deposits at risk over selected time horizons. In addition to these unexpected outflow risks, several other "business as usual" factors enter into the calculation of the adequacy of contingent liquidity including payment proceeds from loans and investment securities, maturing debt obligations and maturing time deposits. The Bank has established collateralized borrowing capacity with the Federal Reserve Bank of Boston and also maintains additional collateralized borrowing capacity with the FHLB in excess of levels used in the ordinary course of business as well as Fed Funds lines with two correspondent banks and availability through the Federal Reserve Bank Borrower in Custody program. In the second quarter of 2020 the Bank enrolled in the Paycheck Protection Program Liquidity Facility (PPPLF) offered by the Federal Reserve Bank of Boston. PPPLF offers the ability to obtain advances dollar for dollar against the value of pledged PPP loans. The facility will be available to draw upon until December 31, 2020; no PPPLF advances have been taken to date. 
 
 Deposits 
 During the first six months of 2020, total deposits increased by $89.7 million or 5.4% from December 31, 2019 levels. Low-cost deposits (demand, NOW, and savings accounts) increased by $114.0 million or 14.3% in the first six months of 2020, money market deposits increased $9.0 million or 5.6%, and certificates of deposit decreased $33.3 million or 4.8%. Between June 30, 2019 and June 30, 2020, total deposits increased by $147.2 million or 9.2%. Low-cost deposits increased by $165.7 million or 22.2%, money market accounts increased $41.8 million or 32.6%, and certificates of deposit decreased $60.4 million or 8.4%. The increase in low-cost deposits and further utilization of borrowed funds allowed for a decrease in higher cost Certificates of Deposit. 
 
 Borrowed Funds 
 The Company uses funding from the Federal Home Loan Bank of Boston (FHLB), the Federal Reserve Bank of Boston (FRB) and repurchase agreements enabling it to grow its balance sheet and its revenues. This funding may also be used to balance seasonal deposit flows or to carry out interest rate risk management strategies, and may be used to replace or supplement other sources of funding, including core deposits and certificates of deposit. During the six months ended June 30, 2020, borrowed funds increased $93.9 million or 50.7% from December 31, 2019. Between June 30, 2019 and June 30, 2020, borrowed funds increased by $96.9 million or 53.3%. Factors in the year-to-date and year-to-year increases include a $50 million short term advance from the FRB Discount Window in the first quarter of 2020, subsequently renewed, and an increase of $24 million in repurchase agreement balances in the second quarter of 2020. 
 
 Shareholders' Equity 
 Shareholders' equity as of June 30, 2020 was $216.6 million, compared to $212.5 million as of December 31, 2019 and $204.6 million as of June 30, 2019. The Company's earnings in the first six months of 2020, net of dividends declared, added to shareholders' equity. The net unrealized gain on available-for-sale securities, presented in accordance with FASB ASC Topic 320 "Investments – Debt and Equity Securities" now stands at $7.1 million as of June 30, 2020 compared to $3.7 million as of December 31, 2019. The net unrealized loss on cash flow hedging derivative instruments now stands at $6.2 million, compared to the $97,000 gain as of December 31, 2019. 
 A cash dividend of $0.31 per share was declared in the second quarter of 2020. The dividend payout ratio, which is calculated by dividing dividends declared per share by diluted earnings per share, was 50.83% for the first six months of 2020 compared to 50.86% for the same period in 2019. In determining future dividend payout levels, the Board of Directors carefully analyzes capital requirements and earnings retention, as set forth in the Company's Dividend Policy. The ability of the Company to pay cash dividends to its shareholders depends on receipt of dividends from its subsidiary, the Bank. The subsidiary may pay dividends to its parent out of so much of its net profits as the Bank's directors deem appropriate, subject to the limitation that the total of all dividends declared by the Bank in any calendar year may not exceed the total of its net profits of that year combined with its retained net profits of the preceding two years. The amount available for dividends in 2020 is this year's net income plus $26.1 million. 
 Financial institution regulators have established guidelines for minimum capital ratios for banks and bank holding companies. The net unrealized gain or loss on available-for-sale securities is generally not included in computing regulatory capital. During the first quarter of 2015, the Company adopted the new Basel III regulatory capital framework as approved by the federal banking agencies. The adoption of this new framework modified the calculation of the various capital ratios, added a 
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 new ratio, common equity tier 1, and revised the adequately and well capitalized thresholds. Additionally, under the new rule, in order to avoid limitations on capital distributions, including dividend payments, the Company must hold a capital conservation buffer above the adequately capitalized risk-based capital ratios. The capital conservation buffer was phased in from 0.0% for 2015 to 2.50% in 2019. The amounts shown below as the adequately capitalized ratio plus capital conservation buffer include the fully phased-in 2.50% buffer. 
 The Company met each of the well-capitalized ratio guidelines at June 30, 2020. The following tables indicate the capital ratios for the Bank and the Company at June 30, 2020 and December 31, 2019. 
 
 As of June 30, 2020 Leverage Tier 1 Common Equity Tier 1 Total Risk-Based 
 Bank 8.38 % 13.86 % 13.86 % 14.93 % 
 Company 8.42 % 13.96 % 13.96 % 15.03 % 
 Adequately capitalized ratio 4.00 % 6.00 % 4.50 % 8.00 % 
 Adequately capitalized ratio plus capital conservation buffer 4.00 % 8.50 % 7.00 % 10.50 % 
 Well capitalized ratio (Bank only) 5.00 % 8.00 % 6.50 % 10.00 % 

 
 As of December 31, 2019 Leverage Tier 1 Common Equity Tier 1 Total Risk-Based 
 Bank 8.84 % 14.25 % 14.25 % 15.19 % 
 Company 8.88 % 14.34 % 14.34 % 15.27 % 
 Adequately capitalized ratio 4.00 % 6.00 % 4.50 % 8.00 % 
 Adequately capitalized ratio plus capital conservation buffer 4.00 % 8.50 % 7.00 % 10.50 % 
 Well capitalized ratio (Bank only) 5.00 % 8.00 % 6.50 % 10.00 % 

 
 
 The Bank maintains and annually updates a capital plan over a five year horizon; the capital plan was updated in the second quarter of 2020. Based upon reasonable assumptions of growth and operating performance, the base capital plan model projects that the Bank will be well capitalized throughout the five year period. The base model is also stress tested for interest rate risk from increasing and decreasing rates, credit risk in normal, elevated and severe loss scenarios, and combinations of interest rate and credit risk. In each stress scenario, the Bank maintained well capitalized status. To further validate its internal results, the Bank engaged a third party consultant during the second quarter of 2020 to conduct credit stress tests on its loan portfolio under six scenarios. Three of the scenarios emulated the Federal Reserve's Dodd Frank Act Stress Tests (DFAST), two were pandemic scenarios developed in response to COVID-19 by a leading forecasting firm, and a final severe Coronavirus pandemic scenario developed by the consultant. The consultant's report applied projected credit losses over a thirteen quarter horizon to the Bank's capital position with immediate effect. In each of the six scenarios the Bank remained well capitalized. 
 
 
 
 Off-Balance Sheet Financial Instruments and Contractual Obligations 
 
 
 Derivative Financial Instruments Designated as Hedges 
 As part of its overall asset and liability management strategy, the Bank periodically uses derivative instruments to minimize significant unplanned fluctuations in earnings and cash flows caused by interest rate volatility. The Bank's interest rate risk management strategy involves modifying the re-pricing characteristics of certain assets and/or liabilities so that change in interest rates does not have a significant adverse effect on net interest income. Derivative instruments that Management periodically uses as part of its interest rate risk management strategy may include interest rate swap agreements, interest rate floor agreements, and interest rate cap agreements. 
 During the first quarter of 2020, the Bank took advantage of market opportunities to restructure several interest rate swap positions and extend funding at favorable interest rates. At June 30, 2020, the Bank had 11 outstanding off-balance sheet, derivative instruments designated as cash flow hedges. These derivative instruments were interest rate swap agreements, with notional principal amounts totaling $260.0 million and an unrealized loss of $6.2 million, net of taxes. The notional amounts and net unrealized gain (loss) of the financial derivative instruments do not represent exposure to credit loss. The Bank is exposed to credit loss only to the extent the counter-party defaults in its responsibility to pay interest under the terms of the agreements. The credit risk in derivative instruments is mitigated by entering into transactions with highly-rated counterparties that Management believes to be creditworthy and by limiting the amount of exposure to each counter-party. At June 30, 2020, 
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 the Bank's derivative instrument counterparties were credit rated “A” by the major credit rating agencies. The interest rate swap agreements were entered into by the Bank to limit its exposure to rising interest rates. 
 
 
 The Bank also enters into swap arrangements with qualified loan customers as a means to provide these customers with access to long-term fixed interest rates for borrowings, and simultaneously enters into a swap contract with an approved third- party financial institution. The terms of the three contracts are designed to offset one another resulting in their being neither a net gain or a loss. The notional amounts of the financial derivative instruments do not represent exposure to credit loss. The Bank is exposed to credit loss only to the extent that either counter-party defaults in its responsibility to pay interest under the terms of the agreements. Credit risk is mitigated by prudent underwriting of the loan customer and financial institution counterparties. As of June 30, 2020, the Bank had customer loan swap contracts in place with a total notional value of $49.8 million. 
 
 
 Contractual Obligations 
 The following table sets forth the contractual obligations of the Company as of June 30, 2020: 
 
 Dollars in thousands 
 Total Less than 1 year 1-3 years 3-5 years More than 5 years 
 Borrowed funds $ 278,805 $ 223,703 $ — $ 55,102 $ — 
 Operating leases 63 16 33 14 — 
 Certificates of deposit 656,633 457,379 161,688 37,566 — 
 Total $ 935,501 $ 681,098 $ 161,721 $ 92,682 $ — 
 Total loan commitments and unused lines of credit $ 219,397 $ 219,397 $ — $ — $ — 

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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.
First Bancorp, Inc /ME/ 10-Q

Item 2. Management’s Discussion and Analysis
