What changed in this filing

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Item 1. Financial Statements

2020-11-04 compared with 2020-08-05 · 263 added, 201 removed, 1034 unchanged (31% of the section changed)

2 unchanged sentences

Condensed Consolidated Balance Sheets

As of June 30, 2020 (unaudited) and December 31, 2019*

As of September 30, 2020 (unaudited) and December 31, 2019*

(Dollars in thousands)

September 30,

Cash and due from banks

21 unchanged sentences

Preferred stock, no par value, 1,000,000 authorized, none issued or outstanding

at June 30, 2020 and December 31, 2019

at September 30, 2020 and December 31, 2019

Class A common stock, no par value, 100,000,000 shares authorized, 38,110,451

and 37,401,443 shares issued and outstanding at June 30, 2020 and

and 37,401,443 shares issued and outstanding at September 30, 2020 and

December 31, 2019, respectively

Class B common stock, no par value, 10,000,000 shares authorized, 2,465,531 and

2,915,531 shares issued and outstanding at June 30, 2020 and December 31, 2019,

2,915,531 shares issued and outstanding at September 30, 2020 and

December 31, 2019, respectively

Retained earnings

6 unchanged sentences

Condensed Consolidated Statements of Income

For the three and six months ended June 30, 2020 and 2019 (unaudited)

For the three and nine months ended September 30, 2020 and 2019 (unaudited)

(Dollars in thousands, except per share data)

Three Months Ended

Six Months Ended

September 30,

Nine Months Ended

September 30,

Interest income

12 unchanged sentences

Net gains on sales of loans

Net (loss) gain on loans accounted for under the fair value

Net gain (loss) on loans accounted for under the fair value

Equity method investments income (loss)

18 unchanged sentences

Total noninterest expense

Income (loss) before taxes

Income tax expense (benefit)

Net income (loss)

Basic earnings (loss) per share

Diluted earnings (loss) per share

Income before taxes

Income tax expense

Basic earnings per share

Diluted earnings per share

See Notes to Unaudited Condensed Consolidated Financial Statements

1 unchanged sentence

Condensed Consolidated Statements of Comprehensive Income

For the three and six months ended June 30, 2020 and 2019 (unaudited)

For the three and nine months ended September 30, 2020 and 2019 (unaudited)

(Dollars in thousands)

Three Months Ended

Six Months Ended

Net income (loss)

Other comprehensive income before tax:

September 30,

Nine Months Ended

September 30,

Other comprehensive (loss) income before tax:

Net unrealized gain on investment securities

2 unchanged sentences

securities available-for-sale included in net income

Other comprehensive income before tax

Income tax expense

Other comprehensive income, net of tax

Other comprehensive (loss) income before tax

Income tax benefit (expense)

Other comprehensive (loss) income, net of tax

Total comprehensive income

2 unchanged sentences

Condensed Consolidated Statements of Changes in Shareholders’ Equity

For the three and six months ended June 30, 2020 and 2019 (unaudited)

For the three and nine months ended September 30, 2020 and 2019 (unaudited)

(Dollars in thousands)

1 unchanged sentence

comprehensive

Balance at March 31, 2020

Other comprehensive income

Balance at June 30, 2020

Other comprehensive loss

Issuance of restricted stock

1 unchanged sentence

restricted stock issuance

Employee stock purchase program

Stock option exercises

1 unchanged sentence

Restricted stock expense

Issuance of common stock in connection with

acquisition of wholly-owned subsidiary

Non-voting common stock converted to

voting common stock in private sale

Cash dividends ($ 0.03 per share)

Balance at September 30, 2020

Balance at June 30, 2019

Balance at March 31, 2019

Other comprehensive income

2 unchanged sentences

restricted stock issuance

Employee stock purchase program

Stock option exercises

1 unchanged sentence

Restricted stock expense

Non-voting common stock converted to

voting common stock in private sale

Cash dividends ($ 0.03 per share)

Balance at June 30, 2019

Balance at September 30, 2019

See Notes to Unaudited Condensed Consolidated Financial Statements

1 unchanged sentence

Condensed Consolidated Statements of Changes in Shareholders’ Equity (Continued)

For the three and six months ended June 30, 2020 and 2019 (unaudited)

For the three and nine months ended September 30, 2020 and 2019 (unaudited)

(Dollars in thousands)

Six Months Ended

Nine Months Ended

comprehensive

16 unchanged sentences

Cash dividends ($ 0.09 per share)

Balance at June 30, 2020

Balance at September 30, 2020

Balance at December 31, 2018

7 unchanged sentences

Restricted stock expense

Non-voting common stock converted to

voting common stock in private sale

Cumulative effect of accounting change for

1 unchanged sentence

Cash dividends ($ 0.09 per share)

Balance at June 30, 2019

Balance at September 30, 2019

See Notes to Unaudited Condensed Consolidated Financial Statements

1 unchanged sentence

Condensed Consolidated Statements of Cash Flows

For the six months ended June 30, 2020 and 2019 (unaudited)

For the nine months ended September 30, 2020 and 2019 (unaudited)

(Dollars in thousands)

Six Months Ended

Nine Months Ended

September 30,

Cash flows from operating activities

Net (loss) income

Adjustments to reconcile net (loss) income to net cash used by operating activities:

Adjustments to reconcile net income to net cash used by operating activities:

Depreciation and amortization

1 unchanged sentence

Amortization of premium on securities, net of accretion

Deferred tax benefit

Deferred tax (benefit) expense

Originations of loans held for sale

3 unchanged sentences

Net loss (gain) on loans accounted for under fair value option

Net decrease in servicing assets

Net (increase) decrease in servicing assets

Gain on sale of investment securities available-for-sale, net

1 unchanged sentence

Net loss on disposal of property and equipment

Impairment on premises and equipment, net

Equity method investments (income) loss

16 unchanged sentences

Proceeds from sale of long-lived asset

Proceeds from sale of premises and equipment

Purchases of premises and equipment, net

3 unchanged sentences

Condensed Consolidated Statements of Cash Flows (Continued)

For the six months ended June 30, 2020 and 2019 (unaudited)

For the nine months ended September 30, 2020 and 2019 (unaudited)

(Dollars in thousands)

Six Months Ended

Nine Months Ended

September 30,

Cash flows from financing activities

12 unchanged sentences

Interest paid

Income tax paid (received)

Income tax paid (received), net

Supplemental disclosures of noncash operating, investing, and financing activities

2 unchanged sentences

Net transfers between foreclosed real estate and SBA receivable

Right-of-use assets obtained in exchange for lessee operating lease liabilities

Transfer aircraft from premises and equipment, net to held for sale assets

Transfer of loans held for sale to loans and leases held for investment

Transfer of loans and leases held for investment to loans held for sale

Right-of-use assets obtained in exchange for lessee operating lease liabilities

Accrued premises and equipment additions

Equity method investment commitments

Business combination:

22 unchanged sentences

holds properties foreclosed on by the Bank.

LOCEF provides financing to entities for renewable energy applications and became a wholly owned subsidiary of the Bank during the first quarter of 2019.

Live Oak Private Wealth, LLC and JAM provide high-net-worth individuals and families with strategic wealth and investment management services.

GLS is a management and technology consulting firm that advises and offers solutions and services to participants in the government guaranteed lending sector.

2 unchanged sentences

Live Oak Ventures’ purpose is investing in businesses that align with the Company's strategic initiative to be a leader in financial technology.

LOCEF provides financing to entities for renewable energy applications and became a wholly owned subsidiary of the Bank during the first quarter of 2019.

Live Oak Private Wealth, LLC and JAM provide high-net-worth individuals and families with strategic wealth and investment management services.

Canapi provides investment advisory services to a series of new funds focused on providing venture capital to new and emerging financial technology companies.

3 unchanged sentences

Income from the retention of loans is comprised of interest income.

The Company elects to account for certain loans under the fair value option with interest reported in interest income and changes in fair value reported in the net (loss) gain on loans accounted for under the fair value option line item of the consolidated statements of income.

The Company elects to account for certain loans under the fair value option with interest reported in interest income and changes in fair value reported in the net gain (loss) on loans accounted for under the fair value option line item of the consolidated statements of income.

Income from the sale of loans is comprised of loan servicing revenue and revaluation of related servicing assets along with net gains on sales of loans.

Offsetting these revenues are the cost of funding sources, provision for loan and lease credit losses, any costs related to foreclosed assets and other operating costs such as salaries and employee benefits, travel, professional services, advertising and marketing and tax expense.

The Company also has less routinely generated gains and losses arising from its financial technology investments.

Live Oak Bancshares, Inc.

1 unchanged sentence

In the opinion of management, all adjustments necessary for a fair presentation of the financial position and results of operations for the periods presented have been included, and all intercompany transactions have been eliminated in consolidation.

Results of operations for the six months ended June 30, 2020 are not necessarily indicative of the results of operations that may be expected for the year ending December 31, 2020.

Results of operations for the nine months ended September 30, 2020 are not necessarily indicative of the results of operations that may be expected for the year ending December 31, 2020.

The condensed consolidated balance sheet as of December 31, 2019 has been derived from the audited consolidated financial statements contained in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019, filed with the Securities Exchange Commission on February 27, 2020 (SEC File No.

13 unchanged sentences

Amounts reclassified from the allowance for credit losses on loans and leases to net directly against total loans and leases held for investment was $ 20.0 million, as of December 31, 2019.

In addition, the change in the credit component of the fair value discount was previously reported in the provision for loan and lease credit losses while the change in the liquidity component of the fair value discount was previously reported in the loan servicing asset revaluation in the consolidated statements of income, but both have now been reclassified to net (loss) gain on loans accounted for under the fair value option.

Amounts reclassified from the provision for loan and lease credit losses and the loan servicing asset revaluation to net (loss) gain on loans accounted for under the fair value option were $( 51 ) thousand and $ 2.8 million, respectively, for the three months ended June 30, 2019, and $( 238 ) thousand and $ 4.6 million, respectively for the six months ended June 30, 2019.

In addition, the change in the credit component of the fair value discount was previously reported in the provision for loan and lease credit losses while the change in the liquidity component of the fair value discount was previously reported in the loan servicing asset revaluation in the consolidated statements of income, but both have now been reclassified to net gain (loss) on loans accounted for under the fair value option.

Amounts reclassified from the provision for loan and lease credit losses and the loan servicing asset revaluation to net gain (loss) on loans accounted for under the fair value option were $( 3.2 ) million and $ 4.3 million, respectively, for the three months ended September 30, 2019, and $( 3.0 ) million and $ 8.9 million, respectively for the nine months ended September 30, 2019.

Live Oak Bancshares, Inc.

5 unchanged sentences

Consolidated Statement of Income for the three months ended

June 30, 2019

September 30, 2019

Provision for loan and lease credit losses

1 unchanged sentence

Loan servicing asset revaluation

Net (loss) gain on loans accounted for under the fair value option

Net gain (loss) on loans accounted for under the fair value option

Total noninterest income

Consolidated Statement of Income for the six months ended

June 30, 2019

Consolidated Statement of Income for the nine months ended

September 30, 2019

Provision for loan and lease credit losses

1 unchanged sentence

Loan servicing asset revaluation

Net (loss) gain on loans accounted for under the fair value option

Net gain (loss) on loans accounted for under the fair value option

Total noninterest income

Consolidated Statement of Cash Flows for the six months ended

June 30, 2019

Consolidated Statement of Cash Flows for the nine months ended

September 30, 2019

Provision for loan and lease credit losses

5 unchanged sentences

Net cash used by investing activities

As a result of the increase in number and diversification of the industry verticals that the Company serves, management also made changes to the loan and lease classes used in the credit quality disclosures in Note 5.

As a result of the increase in number and diversification of the industry verticals that the Company serves, management also made changes effective in the second quarter of 2020 to the loan and lease classes used in the credit quality disclosures in Note 5.

Loans and leases are now grouped in one of the following classes (also referred to as divisions):

69 unchanged sentences

The repurchase program does not obligate the Company to acquire a specific dollar amount or number of shares and may be extended, modified, or discontinued at any time.

There were no shares repurchased during the three and six months ended June 30, 2020 .

There were no shares repurchased during the three and nine months ended September 30, 2020 .

Business Combination

5 unchanged sentences

Given the impact of the above acquisition was immaterial to the Company and its result of operations, pro forma information has not been included .

Long-Lived Asset Reclassified to Held for Sale

During the third quarter of 2020, the Company determined to sell one of its aircraft as it looks to modify outreach practices while continuing to support origination activities and the needs of an expanding nationwide customer base.

As a result of this determination, the Company began marketing the aircraft for sale and recorded an impairment of $ 1.0 million reflected in the three and nine months ended September 30, 2020 condensed consolidated statements of income in the "Other expense" line item.

The Company expects the aircraft to sell within one year from the time marketing began.

The carrying amount of the aircraft of $ 9.1 million is reflected in the September 30, 2020 condensed consolidated balance sheet in the "Other assets" line item.

Any gain or loss associated with the sale of the aircraft will be recorded at the time of the sale.

Recent Accounting Pronouncements

15 unchanged sentences

The Company adopted the standard on January 1, 2020 with no material effect on its consolidated financial statements.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

In April 2019, the FASB issued ASU No.

3 unchanged sentences

Measurement of Credit Losses on Financial Instruments” and ASU 2017-12 “Derivatives and Hedging (Topic 815) - Targeted Improvements to Accounting for Hedging Activities.” The Company adopted the standard on January 1, 2020 with no material effect on its consolidated financial statements.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

In January 2020, the FASB issued ASU No.

17 unchanged sentences

Three Months Ended

Six Months Ended

Basic earnings (loss) per share:

Net income (loss)

September 30,

Nine Months Ended

September 30,

Basic earnings per share:

Weighted-average basic shares outstanding

Basic earnings (loss) per share

Diluted earnings (loss) per share:

Net income (loss), for diluted earnings (loss) per share

Basic earnings per share

Diluted earnings per share:

Net income, for diluted earnings per share

Total weighted-average basic shares outstanding

1 unchanged sentence

Total weighted-average diluted shares outstanding

Diluted earnings (loss) per share

Diluted earnings per share

Anti-dilutive shares

3 unchanged sentences

The carrying amount of investment securities and their approximate fair values are reflected in the following table:

June 30, 2020

September 30, 2020

Allowance for Credit Losses

US treasury securities

US government agencies

6 unchanged sentences

Municipal bonds

During the three months ended June 30, 2020, one US government agency matured at $ 2.5 million, eleven mortgage-backed securities totaling $ 9.6 million were sold resulting in a net gain of $ 114 thousand, and two municipal bonds totaling $ 5.2 million were sold resulting in a net gain of $ 620 thousand.

There were no sales of securities during the three months ended June 30, 2019.

During the six months ended June 30, 2020, one US government agency matured at $ 2.5 million, thirteen mortgage-backed securities totaling $ 14.2 million were sold resulting in a net gain of $ 35 thousand, and two municipal bonds totaling $ 5.2 million were sold resulting in a net gain of $ 620 thousand.

During the six months ended June 30, 2019, $ 900 thousand of one municipal bond was sold resulting in a net gain of $ 5 thousand.

Accrued interest receivable on available-for-sale securities totaled $ 2.0 million and $ 1.6 million at June 30, 2020 and December 31, 2019, respectively, and is included in other assets in the accompanying condensed consolidated balance sheets.

During the three months ended September 30, 2020, one US government agency matured at $ 2.0 million, one US Treasury note matured at $ 5.0 million, and five mortgage-backed securities totaling $ 10.2 million were sold resulting in a net gain of $ 1.2 million.

During the three months ended September 30, 2019, four US government agencies totaling $ 14.3 million were sold resulting in a net gain of $ 87 thousand.

During the nine months ended September 30, 2020, two US government agency matured at $ 4.5 million, one US Treasury note matured at $ 5.0 million, eighteen mortgage-backed securities totaling $ 24.4 million were sold resulting in a net gain of $ 1.3 million, and two municipal bonds totaling $ 5.2 million were sold resulting in a net gain of $ 620 thousand.

During the nine months ended September 30, 2019, $ 900 thousand of one municipal bond was sold and four US government agencies totaling $ 14.3 million were sold resulting in a net gain of $ 92 thousand .

Accrued interest receivable on available-for-sale securities totaled $ 2.0 million and $ 1.6 million at September 30, 2020 and December 31, 2019, respectively, and is included in other assets in the accompanying condensed consolidated balance sheets.

The following tables show debt securities available-for-sale in an unrealized loss position for which an allowance for credit losses has not been recorded, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position.

1 unchanged sentence

12 Months or More

June 30, 2020

September 30, 2020

Mortgage-backed securities

9 unchanged sentences

The evaluation considers the extent to which the security’s fair value is less than cost, the financial condition and near-term prospects of the issuer, and intent and ability of the Company to retain its investment in the security for a period of time sufficient to allow for any anticipated recovery in fair value.

At June 30, 2020, there were four mortgage-backed securities and one municipal bond in unrealized loss positions for greater than 12 months and five mortgage-backed securities in unrealized loss positions for less than 12 months.

At September 30, 2020, there were three mortgage-backed securities and one municipal bond in unrealized loss positions for greater than 12 months and twenty-four mortgage-backed securities in unrealized loss positions for less than 12 months.

Unrealized losses at December 31, 2019 were comprised of twenty-two mortgage-backed securities and one municipal bond in unrealized loss positions for greater than 12 months and twenty mortgage-backed securities in unrealized loss positions for less than 12 months.

1 unchanged sentence

Since none of the unrealized losses relate to marketability of the securities or the issuer’s ability to honor redemption obligations and the Company has the intent and ability to hold the securities for a sufficient period of time to recover unrealized losses, none of the losses have been recognized in the Company’s consolidated statements of income.

All mortgage-backed securities in the Company’s portfolio at June 30, 2020 and December 31, 2019 were backed by U.S.

All mortgage-backed securities in the Company’s portfolio at September 30, 2020 and December 31, 2019 were backed by U.S.

government sponsored enterprises (“GSEs”).

The following is a summary of investment securities by maturity:

June 30, 2020

US treasury securities

Within one year

September 30, 2020

US government agencies

10 unchanged sentences

Actual results will differ as the loans underlying the mortgage-backed securities may repay sooner than scheduled.

There were no securities pledged at June 30, 2020 or December 31, 2019.

There were no securities pledged at September 30, 2020 or December 31, 2019.

Live Oak Bancshares, Inc.

14 unchanged sentences

Total Loans and Leases

June 30, 2020

September 30, 2020

Commercial & Industrial

35 unchanged sentences

Total loans and leases include $ 2.69 billion of U.S.

government guaranteed loans as of June 30, 2020, of which $ 11.1 million is 90 days or more past due, $ 3.5 million is past due 30-89 days and $ 2.46 billion are current.

government guaranteed loans as of September 30, 2020, of which $ 12.3 million is 90 days or more past due, $ 3.3 million is past due 30-89 days and $ 2.68 billion are current.

Total loans and leases include $ 622.6 million of U.S.

10 unchanged sentences

Revolving Loans Converted to Term

June 30, 2020

September 30, 2020

Small Business Banking

4 unchanged sentences

Risk Grades 6 - 8

Payroll Protection Program

Paycheck Protection Program

Risk Grades 1 - 4

8 unchanged sentences

Total loans and leases include $ 2.69 billion of U.S.

government guaranteed loans as of June 30, 2020, segregated by risk grade as follows:

government guaranteed loans as of September 30, 2020, segregated by risk grade as follows:

Risk Grades 1 – 4 = $ 2.58 billion, Risk Grade 5 = $ 84.4 million, Risk Grades 6 – 8 = $ 34.3 million.

3 unchanged sentences

Total loans and leases exclude loans accounted for under the fair value option.

Excludes $ 834.6 million and $ 824.5 million of loans accounted for under the fair value option as of June 30, 2020 and December 31, 2019, respectively.

Excludes $ 845.7 million and $ 824.5 million of loans accounted for under the fair value option as of September 30, 2020 and December 31, 2019, respectively.

Live Oak Bancshares, Inc.

1 unchanged sentence

Nonaccrual Loans and Leases

As of June 30, 2020 and December 31, 2019 there were no loans greater than 90 days past due and still accruing.

There was no interest income recognized on nonaccrual loans and leases during the three and six month periods ended June 30, 2020 or June 30, 2019.

All nonaccrual loans and leases are included in the held for investment portfolio.

Accrued interest receivable on loans totaled $ 27.2 million and $ 19.8 million at June 30, 2020 and December 31, 2019, respectively, and is included in other assets in the accompanying condensed consolidated balance sheets.

Nonaccrual loans and leases as of June 30, 2020 and December 31, 2019 are as follows:

June 30, 2020

As of September 30, 2020 and December 31, 2019 there were no loans greater than 90 days past due and still accruing.

There was no interest income recognized on nonaccrual loans and leases during the three and nine months ended September 30, 2020 and 2019.

Nonaccrual loans and leases are generally included in the held for investment portfolio.

Accrued interest receivable on loans totaled $ 31.6 million and $ 19.8 million at September 30, 2020 and December 31, 2019, respectively, and is included in other assets in the accompanying condensed consolidated balance sheets.

Nonaccrual loans and leases held for investment as of September 30, 2020 and December 31, 2019 are as follows:

September 30, 2020

Unguaranteed Balance

23 unchanged sentences

Notes to Unaudited Condensed Consolidated Financial Statements

The following table presents the amortized cost basis of collateral-dependent loans and leases, which are individually evaluated to determine expected credit losses, as of June 30, 2020:

The following table presents the amortized cost basis of collateral-dependent loans and leases, which are individually evaluated to determine expected credit losses, as of September 30, 2020:

Total Collateral Dependent Loans

Unguaranteed Portion

June 30, 2020

September 30, 2020

Business Assets

3 unchanged sentences

Small Business Banking

Construction & Development

Specialty Lending

13 unchanged sentences

Construction &

June 30, 2020

September 30, 2020

Beginning Balance

Ending Balance

June 30, 2019

September 30, 2019

Beginning Balance

2 unchanged sentences

Notes to Unaudited Condensed Consolidated Financial Statements

Six Months Ended

Nine Months Ended

Construction &

June 30, 2020

September 30, 2020

Beginning Balance, prior to adoption of ASC 326

1 unchanged sentence

Ending Balance

June 30, 2019

September 30, 2019

Beginning Balance

Ending Balance

During the three and six month periods ended June 30, 2020, increases to the ACL were primarily related to the severity of forecasted unemployment rates and ongoing developments as a result of the COVID-19 pandemic.

During the three and nine months ended September 30, 2020, increases to the ACL were primarily related to the severity of forecasted unemployment rates and ongoing developments as a result of the COVID-19 pandemic.

Unemployment rates were forecasted for twelve months followed by a twelve-month straight-line reversion period.

1 unchanged sentence

The following tables represent the types of TDRs that were made during the periods presented:

Three Months Ended June 30, 2020

Three Months Ended September 30, 2020

Extended Amortization

5 unchanged sentences

Small Business Banking

Commercial Land

Specialty Lending

Construction & Development

Small Business Banking

There were no TDRs modified during the three months ended June 30, 2019.

Six Months Ended June 30, 2020

Extended Amortization

Payment Deferral

Commercial Real Estate

Small Business Banking

Specialty Lending

Three Months Ended September 30, 2019

Interest Only

Payment Deferral & Rate Concession

Recorded investment at period end

3 unchanged sentences

Small Business Banking

Specialty Lending

Commercial Real Estate

Small Business Banking

Commercial Land

Small Business Banking

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Six Months Ended June 30, 2019

Nine Months Ended September 30, 2020

Extended Amortization

3 unchanged sentences

Recorded investment at period end

Commercial & Industrial

Small Business Banking

Specialty Lending

Construction & Development

Small Business Banking

Commercial Real Estate

Small Business Banking

Specialty Lending

Commercial Land

Small Business Banking

Nine Months Ended September 30, 2019

Payment Deferral

Interest Only

Payment Deferral & Rate Concession

Recorded investment at period end

Commercial & Industrial

Small Business Banking

Commercial Real Estate

Small Business Banking

Concessions made to improve a loan or lease’s performance have varying degrees of success.

One TDR was modified within the twelve months ended June 30, 2020 and subsequently defaulted during the three and six months ended June 30, 2020.

The TDR that defaulted was a Commercial & Industrial Small Business Banking loan that had been previously modified for payment deferral and had a recorded investment of $ 39 thousand at June 30, 2020.

No TDRs that were modified within the twelve months ended June 30, 2019 subsequently defaulted during the three and six months ended June 30, 2019.

No TDRs that were modified within the twelve months ended September 30, 2020 subsequently defaulted during the three and nine months ended September 30, 2020.

One TDR was modified within the twelve months ended September 30, 2019 and subsequently defaulted during the three and nine months ended September 30, 2019.

The TDR that defaulted was a Commercial Real Estate Small Business Banking loan that had been previously modified for payment deferral and had a recorded investment of $ 1.8 million at September 30, 2019.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

The following tables detail the recorded allowance for loan and lease losses and the investment in loans and leases related to each portfolio segment, disaggregated on the basis of impairment evaluation methodology:

1 unchanged sentence

Construction &

Allowance for loan and lease losses:

Allowance for credit losses on loans and leases:

Loans and leases individually evaluated for

Loans and leases collectively evaluated for

Total allowance for loan and lease losses

Total allowance for credit losses on loans and leases

Loans and leases receivable:

5 unchanged sentences

Loans and leases receivable exclude $ 824.5 million of loans accounted for under the fair value option.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Loans and leases classified as impaired as of the dates presented are summarized in the following tables.

10 unchanged sentences

Small Business Banking

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

The following table presents evaluated balances of loans and leases classified as impaired at the dates presented that carried an associated reserve as compared to those with no reserve.

13 unchanged sentences

Total Impaired Loans and Leases

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

The following table presents the average recorded investment of impaired loans and leases for each period presented and interest income recognized during the period in which the loans and leases were considered impaired.

Three Months Ended

June 30, 2019

September 30, 2019

Commercial & Industrial

1 unchanged sentence

Specialty Lending

Construction & Development

Small Business Banking

Commercial Real Estate

3 unchanged sentences

Small Business Banking

Six Months Ended

June 30, 2019

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Nine Months Ended

September 30, 2019

Commercial & Industrial

1 unchanged sentence

Specialty Lending

Construction & Development

Small Business Banking

Commercial Real Estate

14 unchanged sentences

The gross lease payments receivable and the net investment included in accounts receivable for such leases are as follows:

June 30, 2020

September 30, 2020

December 31, 2019

3 unchanged sentences

Future minimum lease payments under finance leases are as follows:

As of June 30, 2020

Interest income of $ 212 thousand and $ 267 thousand was recognized in the three months ended June 30, 2020 and 2019, respectively.

Interest income of $ 445 thousand and $ 501 thousand was recognized in the six months ended June 30, 2020 and 2019, respectively.

As of September 30, 2020

Interest income of $ 199 thousand and $ 244 thousand was recognized in the three months ended September 30, 2020 and 2019, respectively.

Interest income of $ 644 thousand and $ 745 thousand was recognized in the nine months ended September 30, 2020 and 2019, respectively.

Operating Leases

11 unchanged sentences

Notes to Unaudited Condensed Consolidated Financial Statements

As of June 30, 2020 and December 31, 2019, the Company had a net investment of $ 139.4 million and $ 144.3 million, respectively, in assets included in premises and equipment that are subject to operating leases.

Of the net investment, the gross balance of the assets was $ 164.3 million as of June 30, 2020 and December 31, 2019 and accumulated depreciation was $ 24.9 million and $ 20.0 million as of June 30, 2020 and December 31, 2019, respectively.

Depreciation expense recognized on these assets for the three months ended June 30, 2020 and 2019 was $ 2.4 million.

Depreciation expense recognized on these assets for the six months ended June 30, 2020 and 2019 was $ 4.9 million and $ 4.8 million, respectively.

Lease income of $ 2.4 million was recognized in the three months ended June 30, 2020 and 2019.

Lease income of $ 4.8 million and $ 4.7 million was recognized in the six months ended June 30, 2020 and 2019, respectively.

As of September 30, 2020 and December 31, 2019, the Company had a net investment of $ 136.9 million and $ 144.3 million, respectively, in assets included in premises and equipment that are subject to operating leases.

Of the net investment, the gross balance of the assets was $ 164.3 million as of September 30, 2020 and December 31, 2019 and accumulated depreciation was $ 27.3 million and $ 20.0 million as of September 30, 2020 and December 31, 2019, respectively.

Depreciation expense recognized on these assets for the three months ended September 30, 2020 and 2019 was $ 2.4 million.

Depreciation expense recognized on these assets for the nine months ended September 30, 2020 and 2019 was $ 7.3 million and $ 7.2 million, respectively.

Lease income of $ 2.4 million was recognized in the three months ended September 30, 2020 and 2019, respectively.

Lease income of $ 7.1 million and $ 7.0 million was recognized in the nine months ended September 30, 2020 and 2019, respectively.

A maturity analysis of future minimum lease payments under non-cancelable operating leases is as follows:

As of June 30, 2020

As of September 30, 2020

Servicing Assets

Loans serviced for others are not included in the accompanying condensed consolidated balance sheets.

The unpaid principal balances of loans serviced for others requiring recognition of a servicing asset were $ 2.25 billion and $ 2.26 billion at June 30, 2020 and December 31, 2019, respectively.

The unpaid principal balance for all loans serviced for others was $ 3.07 billion and $ 2.97 billion at June 30, 2020 and December 31, 2019, respectively.

The unpaid principal balances of loans serviced for others requiring recognition of a servicing asset were $ 2.27 billion and $ 2.26 billion at September 30, 2020 and December 31, 2019, respectively.

The unpaid principal balance for all loans serviced for others was $ 3.14 billion and $ 2.97 billion at September 30, 2020 and December 31, 2019, respectively.

The following summarizes the activity pertaining to servicing rights:

Three Months Ended

Six Months Ended

September 30,

Nine Months Ended

September 30,

Balance at beginning of period

4 unchanged sentences

Balance at end of period

The fair value of servicing rights was determined using a weighted average discount rate of 13.4 % on June 30, 2020 and 2019.

The fair value of servicing rights was determined using a weighted average prepayment speed of 18.7 % on June 30, 2020 and 14.1 % on June 30, 2019, depending on the stratification of the specific right.

The fair value of servicing rights was determined using a weighted average discount rate of 9.1 % on September 30, 2020 and 14.1 % on September 30, 2019.

The fair value of servicing rights was determined using a weighted average prepayment speed of 19.1 % on September 30, 2020 and 15.7 % on September 30, 2019, depending on the stratification of the specific right.

Changes to fair value are reported in loan servicing asset revaluation within the consolidated statements of income.

6 unchanged sentences

Total outstanding borrowings consisted of the following:

In 2019, the Company renewed a revolving line of credit issued in 2017.

September 30,

In September 2020, the Company renewed a revolving line of credit originally issued in 2017.

The line of credit is unsecured and accrues interest at 30-day LIBOR plus 1.15 % for a term of 13 months.

2 unchanged sentences

The $ 50.0 million line of credit was fully advanced at March 31, 2020.

The Company made a principal paydown of $ 45.0 million on May 28, 2020 and there is $ 45.0 million of available credit at June 30, 2020.

The Company made a principal paydown of $ 45.0 million on May 28, 2020 and $ 12 thousand on September 20, 2020 and there is $ 45.0 million of available credit at September 30, 2020.

In April 2020, the Company entered into the Federal Reserve Bank's Paycheck Protection Program Liquidity Facility ("PPPLF").

3 unchanged sentences

On the maturity date of each advance, the Company shall repay the advance plus accrued interest.

This $ 1.72 billion borrowing was fully advanced at June 30, 2020.

This $ 1.74 billion borrowing was fully advanced at September 30, 2020.

In October 2017, the Company entered into a financing lease of $ 19 thousand with an unaffiliated equipment lease company, secured by fitness equipment which is included in other assets on the consolidated balance sheet.

3 unchanged sentences

Total borrowings

The Company may purchase federal funds through unsecured federal funds lines of credit with various correspondent banks, which totaled $ 72.5 million as of June 30, 2020 and December 31, 2019.

The Company may purchase federal funds through unsecured federal funds lines of credit with various correspondent banks, which totaled $ 72.5 million as of September 30, 2020 and December 31, 2019.

These lines are intended for short-term borrowings and are subject to restrictions limiting the frequency and terms of advances.

These lines of credit are payable on demand and bear interest based upon the daily federal funds rate.

The Company had no outstanding balances on the lines of credit as of June 30, 2020 and December 31, 2019.

The Company has entered into a repurchase agreement with a third party for $ 5.0 million as of June 30, 2020 and December 31, 2019.

The Company had no outstanding balances on the lines of credit as of September 30, 2020 and December 31, 2019.

The Company has entered into a repurchase agreement with a third party for $ 5.0 million as of September 30, 2020 and December 31, 2019.

At the time the Company enters into a transaction with the third party, the Company must transfer securities or other assets against the funds received.

The terms of the agreement are set at market conditions at the time the Company enters into such transaction.

The Company had no outstanding balance on the repurchase agreement as of June 30, 2020 and December 31, 2019.

The Company had no outstanding balance on the repurchase agreement as of September 30, 2020 and December 31, 2019.

On June 18, 2018, the Company entered into a borrowing agreement with the Federal Home Loan Bank of Atlanta.

These borrowings must be secured with eligible collateral approved by the Federal Home Loan Bank of Atlanta.

At June 30, 2020 and December 31, 2019, the Company had approximately $ 1.30 billion and $ 1.14 billion, respectively, in borrowing capacity available under these agreements.

There is no collateral pledged and no advances outstanding as of June 30, 2020 and December 31, 2019.

The Company may borrow funds through the Federal Reserve Bank’s discount window.

These borrowings are secured by a blanket floating lien on qualifying loans with a balance of $ 1.40 billion and $ 526.8 million as of June 30, 2020 and December 31, 2019, respectively.

At June 30, 2020 and December 31, 2019, the Company had approximately $ 1.03 billion and $ 294.5 million, respectively, in borrowing capacity available under these arrangements with no outstanding balance as of June 30, 2020 and December 31, 2019.

At September 30, 2020 and December 31, 2019, the Company had approximately $ 2.05 billion and $ 1.14 billion, respectively, in borrowing capacity available under these agreements.

There is no collateral pledged and no advances outstanding as of September 30, 2020 and December 31, 2019.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

The Company may borrow funds through the Federal Reserve Bank’s discount window.

These borrowings are secured by a blanket floating lien on qualifying loans with a balance of $ 1.83 billion and $ 526.8 million as of September 30, 2020 and December 31, 2019, respectively.

At September 30, 2020 and December 31, 2019, the Company had approximately $ 1.43 billion and $ 294.5 million, respectively, in borrowing capacity available under these arrangements with no outstanding balance as of September 30, 2020 and December 31, 2019.

Fair Value of Financial Instruments

39 unchanged sentences

The tables below present the recorded amount of assets and liabilities measured at fair value on a recurring basis.

June 30, 2020

September 30, 2020

Investment securities available-for-sale

US treasury securities

US government agencies

17 unchanged sentences

Total assets at fair value

During the three and six months ended June 30, 2020, the Company recorded a fair value adjustment gain of $ 1 thousand and $ 2 thousand, respectively.

During the six months ended June 30, 2019, the Company sold $ 900 thousand of a municipal bond to a third party and recorded a fair value adjustment loss of $ 7 thousand.

During the three months ended June 30, 2019, the Company recorded no fair value adjustment.

During the three and nine months ended September 30, 2020, the Company recorded a fair value adjustment gain of $ 1 thousand and $ 3 thousand, respectively.

During the nine months ended September 30, 2019, the Company sold $ 900 thousand of a municipal bond to a third party and recorded a fair value adjustment loss of $ 9 thousand.

During the three months ended September 30, 2019, the Company recorded a fair value adjustment loss of $ 2 thousand.

See Note 7 for a rollforward of recurring Level 3 fair values for servicing assets.

During the six months ended June 30 ,2020, the Company entered into equity warrant assets with a fair value of $ 179 thousand at the time of issuance and recorded net gains on derivative instruments of $ 106 thousand.

During the three months ended June 30, 2020, the Company entered into equity warrant assets with a fair value of $ 15 thousand at the time of issuance and recorded net gains on derivative instruments of $ 138 thousand.

During the six months ended June 30, 2019, the Company recorded net gains on derivative instruments of $ 193 thousand.

During the three months ended June 30, 2019, the Company recorded net losses on derivative instruments of $ 62 thousand.

During the nine months ended September 30 ,2020, the Company entered into equity warrant assets with a fair value of $ 179 thousand at the time of issuance and recorded net gains on derivative instruments of $ 120 thousand.

During the three months ended September 30, 2020, the Company recorded net gains on derivative instruments of $ 14 thousand.

During the nine months ended September 30, 2019, the Company recorded net gains on derivative instruments of $ 161 thousand.

During the three months ended September 30, 2019, the Company recorded net losses on derivative instruments of $ 32 thousand.

Live Oak Bancshares, Inc.

3 unchanged sentences

Interest income on loans accounted for under the fair value option is recognized in loans and fees on loans on the Company’s consolidated statements of income.

There were no loans accounted for under the fair value option that were 90 days or more past due and still accruing interest at June 30, 2020 or December 31, 2019.

The unpaid principal balance of unguaranteed exposure for nonaccruals was $ 8.5 million and $ 10.7 million at June 30, 2020 and December 31, 2019, respectively.

The following tables provide more information about the fair value carrying amount and the unpaid principal outstanding of loans accounted for under the fair value option at June 30, 2020 and December 31, 2019.

June 30, 2020

There were no loans accounted for under the fair value option that were 90 days or more past due and still accruing interest at September 30, 2020 or December 31, 2019.

The unpaid principal balance of unguaranteed exposure for nonaccruals was $ 10.0 million and $ 10.7 million at September 30, 2020 and December 31, 2019, respectively.

The following tables provide more information about the fair value carrying amount and the unpaid principal outstanding of loans accounted for under the fair value option at September 30, 2020 and December 31, 2019.

September 30, 2020

90 Days or More Past Due

20 unchanged sentences

The following table presents the net gains (losses) from changes in fair value.

Three Months Ended June 30,

Six Months Ended June 30,

Three Months Ended September 30,

Nine Months Ended September 30,

Gains (Losses) on Loans Accounted for under the Fair Value

1 unchanged sentence

Loans held for investment

Losses related to borrower-specific credit risk were $ 913 thousand and $ 1.8 million for the three and six months ended June 30, 2020, respectively, and $ 1.1 million and $ 1.7 million for the three and six months ended June 30, 2019, respectively.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Losses related to borrower-specific credit risk were $ 1.5 million and $ 3.3 million for the three and nine months ended September 30, 2020, respectively, and $ 2.6 million and $ 4.3 million for the three and nine months ended September 30, 2019, respectively.

The following tables summarize the activity pertaining to loans accounted for under the fair value option.

Three Months Ended June 30,

Six Months Ended June 30,

Three Months Ended September 30,

Nine Months Ended September 30,

Loans held for sale

2 unchanged sentences

Balance at end of period

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Three Months Ended June 30,

Six Months Ended June 30,

Three Months Ended September 30,

Nine Months Ended September 30,

Loans held for investment

9 unchanged sentences

Collateral dependent loans are generally classified as Level 3 based on management’s judgment and estimation.

Loans with agreed upon sales prices are classified as Level 1.

Foreclosed assets:

3 unchanged sentences

Given the lack of observable market prices for identical properties and market discounts applied to appraised values, the Company generally classifies foreclosed assets as nonrecurring Level 3.

Equity security investment with a non-readily determinable fair value:

The following equity security investment is measured at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for an identical or similar investment of the same issuer.

When an observable price change in an orderly transaction occurs, the investment is classified as nonrecurring Level 1 within the valuation hierarchy.

Long-lived asset held for sale:

Long-lived assets held for sale are carried at the lower of carrying value or fair value less selling costs.

Fair value is based upon an independent market valuation of the property.

Given the lack of observable market prices for identical assets and market discounts applied to market prices, the Company generally classifies long-lived assets held for sale as nonrecurring Level 3.

Equity security investments with a non-readily determinable fair value:

Equity security investments are measured at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for an identical or similar investment of the same issuer.

When an observable price change in an orderly transaction occurs for an identical investment of the same issuer, the investment is generally classified as nonrecurring Level 1 within the valuation hierarchy.

When an observable price change in an orderly transaction occurs for a similar investment of the same issuer, the investment is generally classified as nonrecurring Level 2 within the valuation hierarchy.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

The tables below present the recorded amount of assets and liabilities measured at fair value on a non-recurring basis.

June 30, 2020

September 30, 2020

Collateral dependent loans

Foreclosed assets

Long-lived asset held for sale

Equity security investments with a non-readily

determinable fair value

Total assets at fair value

5 unchanged sentences

Total assets at fair value

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Level 3 Analysis

For Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of June 30, 2020 and December 31, 2019 the significant unobservable inputs used in the fair value measurements were as follows:

June 30, 2020

For Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of September 30, 2020 and December 31, 2019 the significant unobservable inputs used in the fair value measurements were as follows:

September 30, 2020

Level 3 Assets with Significant

19 unchanged sentences

0.7 % to 16.9 %

10.0 % to 60.0 %

Equity warrant assets

4 unchanged sentences

26.0 % to 87.3 %

0.28 % to 0.69 %

Non-recurring fair value

7 unchanged sentences

4.0 % to 20.0 %

Long-lived asset held

Discounted independent market valuation

Independent market valuation adjustments

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

December 31, 2019

37 unchanged sentences

Appraisals may be adjusted by management for customized discounting criteria, estimated sales costs, and proprietary qualitative adjustments.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

Estimated Fair Value of Other Financial Instruments

1 unchanged sentence

The carrying amounts and estimated fair values of the Company’s financial instruments not measured at fair value on a recurring or non-recurring basis are as follows:

June 30, 2020

September 30, 2020

Identical Assets

7 unchanged sentences

Financial liabilities

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

December 31, 2019

15 unchanged sentences

These instruments involve, to varying degrees, credit risk in excess of the amount recognized in the balance sheet.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments.

1 unchanged sentence

A summary of the Company’s commitments is as follows:

September 30,

Commitments to extend credit

13 unchanged sentences

Collateral held varies as specified above and is required in instances which the Company deems necessary.

As of June 30, 2020 and December 31, 2019, the Company had unfunded commitments to provide capital contributions for on-balance-sheet investments in the amount of $ 16.8 million and $ 16.9 million, respectively.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

As of September 30, 2020 and December 31, 2019, the Company had unfunded commitments to provide capital contributions for on-balance-sheet investments in the amount of $ 14.7 million and $ 16.9 million, respectively.

Concentrations of Credit Risk

5 unchanged sentences

The Company from time-to-time may have cash and cash equivalents on deposit with financial institutions that exceed federally-insured limits.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

On March 20, 2015, the Company adopted the 2015 Omnibus Stock Incentive Plan which replaced the previously existing Amended Incentive Stock Option Plan and Nonstatutory Stock Option Plan.

7 unchanged sentences

Stock Options

There were no stock options granted during the three and six months ended June 30, 2020.

At June 30, 2020, unrecognized compensation costs relating to stock options amounted to $ 3.2 million which will be recognized over a weighted average period of 2.11 years.

There were no stock options granted during the three and nine months ended September 30, 2020.

At September 30, 2020, unrecognized compensation costs relating to stock options amounted to $ 2.8 million which will be recognized over a weighted average period of 1.87 years.

Restricted Stock

2 unchanged sentences

The fair value of the RSUs is based on the closing price on the date of the grant.

Market RSUs also have a restriction based on the passage of time and non-market-related performance criteria, but also have a restriction based on market price criteria related to the Company’s share price closing at or above a specified price ranging from $ 34.00 to $ 55.00 per share for at least twenty (20) consecutive trading days at any time prior to expiration date.

Market RSUs have a restriction based on the passage of time and non-market-related performance criteria, but also have a restriction based on market price criteria related to the Company’s share price closing at or above a specified price ranging from $ 34.00 to $ 55.00 per share for at least twenty (20) consecutive trading days at any time prior to expiration date.

The amount of Market RSUs earned will not exceed 100 % of the Market RSUs awarded.

The fair value of the Market RSUs and the implied service period is calculated using the Monte Carlo simulation method.

For the three months ended June 30, 2020, 58,348 RSUs were granted with a weighted average grant date fair value of $ 12.52 .

For the six months ended June 30, 2020, 541,679 RSUs were granted with a weighted average grant date fair value of $ 17.39 .

Of the RSUs granted in the six month period, 447,273 were awarded in connection with annual long term incentive stock compensation.

At June 30, 2020, unrecognized compensation costs relating to RSUs amounted to $ 15.9 million which will be recognized over a weighted average period of 4.61 years.

There were no Market RSUs granted during the three and six months ended June 30, 2020.

At June 30, 2020, unrecognized compensation costs relating to Market RSUs amounted to $ 8.0 million which will be recognized over a weighted average period of 2.91 years.

Live Oak Bancshares, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

For the three months ended September 30, 2020, 39,999 RSUs were granted with a weighted average grant date fair value of $ 19.99 .

For the nine months ended September 30, 2020, 581,678 RSUs were granted with a weighted average grant date fair value of $ 17.57 .

Of the RSUs granted in the nine month period, 447,273 were awarded in connection with annual long term incentive stock compensation.

At September 30, 2020, unrecognized compensation costs relating to RSUs amounted to $ 15.6 million which will be recognized over a weighted average period of 4.39 years.

There were no Market RSUs granted during the three and nine months ended September 30, 2020.

At September 30, 2020, unrecognized compensation costs relating to Market RSUs amounted to $ 8.8 million which will be recognized over a weighted average period of 2.92 years.

Significant Equity Method Investments

2 unchanged sentences

Rule 10-01(b)(1) of Regulation S-X requires summarized financial information in a quarterly report if any of the two tests exceeds 20%.

Under the income test, the Company’s proportionate share of its equity method investees' aggregated net losses exceeded the applicable threshold of 20% and is accordingly required to provide summarized financial information for these investees for all periods presented in this Form 10-Q.

The following table provides summarized balance sheet information for the Company’s equity method investments as of June 30, 2020 and December 31, 2019.

The following table provides summarized balance sheet information for the Company’s equity method investments as of September 30, 2020 and December 31, 2019.

The Company’s equity method investments are included in the other assets line on the condensed consolidated balance sheets and are largely concentrated in new or emerging financial service technology companies.

June 30, 2020

September 30, 2020

December 31, 2019

7 unchanged sentences

Total liabilities and equity

The following table provides summarized income statement information for the Company’s equity method investments for the three and six months ended June 30, 2020 and 2019.

Three Months Ended June 30,

Six Months Ended June 30,

The following table provides summarized income statement information for the Company’s equity method investments for the three and nine months ended September 30, 2020 and 2019.

Three Months Ended September 30,

Nine Months Ended September 30,

Summary of operations

1 unchanged sentence

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 1. Financial Statements