C&F Financial (CFFI) - 2018 Q4 - Annual Report

PART I Business C&F Financial Corporation operates three financial segments: Retail Banking, Mortgage Banking, and Consumer Finance, providing services in Virginia under extensive competition and regulation General Overview and Business Segments C&F Financial Corporation operates through Retail Banking, Mortgage Banking, and Consumer Finance segments, employing 634 full-time equivalent staff as of December 31, 2018 - The Corporation operates through three main business segments: Retail Banking via C&F Bank, Mortgage Banking via C&F Mortgage Corporation, and Consumer Finance via C&F Finance Company[10] - As of December 31, 2018, the company had 634 full-time equivalent employees[19] Segment Financials (Year-End 2018) | Segment | Total Assets (in billions) | Net Income (in millions) | | :--- | :--- | :--- | | Retail Banking | $1.4 | $10.6 | | Mortgage Banking | $56.1 | $1.9 | | Consumer Finance | $297.6 | $6.7 | Competition The Corporation faces intense competition across all segments, with each business unit employing distinct strategies to compete against diverse financial institutions - The Retail Banking segment competes in the highly competitive Hampton to Charlottesville corridor against large banks by focusing on customer service and relationships with individuals and small-to-medium businesses[20][21][22] - The Mortgage Banking segment faces competition from national and regional banks, credit unions, and internet lenders, navigating a stringent regulatory environment by focusing on operational efficiency, technology, and attracting top talent[24][27] - The Consumer Finance segment operates in a highly competitive non-prime auto finance market, competing against captive finance affiliates and other lenders by providing superior dealer service, building strong relationships, and offering flexible terms[29][31] Regulation and Supervision The Corporation and its subsidiaries are extensively regulated by federal and state authorities, with key reforms from the Dodd-Frank Act and EGRRCPA impacting capital, consumer protection, and operations - The company is subject to extensive federal and state regulation, with significant reforms stemming from the Dodd-Frank Act (2010) and the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA) of 2018[35][36] - Under the Basel III framework, the Bank is required to maintain minimum capital ratios, including a CET1 ratio of 7.0%, Tier 1 ratio of 8.5%, and Total Capital ratio of 10.5%, all inclusive of the fully phased-in capital conservation buffer[46] - Due to the EGRRCPA and a subsequent Federal Reserve interim final rule in August 2018, the Corporation, with assets under $3 billion, is treated as a small bank holding company and is no longer subject to consolidated regulatory capital requirements, though the Bank remains subject to them[51][52] - The Dodd-Frank Act created the Consumer Financial Protection Bureau (CFPB), which centralizes consumer financial protection; while the CFPB directly supervises institutions with over $10 billion in assets, its rules and precedents can influence how regulators apply consumer protection laws to smaller institutions like C&F Bank[56][76] - As of December 31, 2018, C&F Bank was considered "well capitalized" under the Prompt Corrective Action framework[85] Risk Factors The Corporation faces diverse risks including interest rate volatility, credit concentration, competition, secondary mortgage market weakness, cybersecurity threats, and evolving regulatory burdens - The Corporation's profitability is substantially dependent on its net interest margin, which is vulnerable to fluctuations in interest rates; rising short-term rates combined with low long-term rates are expected to continue pressuring the margin[103][104] - A significant portion of the loan portfolio is concentrated in commercial loans (43%) and non-prime consumer finance loans (27%), which carry higher credit risk than residential loans, especially during economic downturns[112][113] - The mortgage banking segment's income is at risk from weakness in the secondary mortgage market, potential repurchase liabilities on sold loans, and reduced origination volume in a rising interest rate environment[117][118][121] - The company is subject to significant operational and security risks, including cyber attacks, which could result in legal claims, regulatory penalties, and reputational damage; it also relies on third-party providers for key applications[133][134][135] - Extensive and changing financial regulations, particularly the Dodd-Frank Act and oversight from the CFPB, impose a significant compliance burden, increase costs, and could limit business opportunities[150][153][155] - The Corporation, as a holding company, relies almost entirely on dividends from its subsidiary, C&F Bank, for its revenue; regulatory restrictions on the Bank's ability to pay dividends could materially affect the Corporation's ability to service debt and pay dividends to its own shareholders[165][167] Unresolved Staff Comments The Corporation reports that it has no unresolved comments from the staff of the Securities and Exchange Commission (SEC) - The Corporation has no unresolved comments from the SEC staff[168] Properties C&F Bank owns the Corporation's main office, operations center, and 22 retail branches, with additional leased offices for C&F Mortgage and C&F Finance, all deemed adequate for operations - C&F Bank owns its main office in West Point, VA, an 85,000 sq. ft. operations center in Toano, VA, and a 25,000 sq. ft. building in Midlothian, VA housing both a bank branch and C&F Mortgage's main offices[169][170][171] - In addition to its main properties, C&F Bank owns 22 retail branch locations and leases two, while C&F Mortgage leases 14 loan production offices across Virginia, Maryland, North Carolina, South Carolina, and West Virginia[171][172] Legal Proceedings The Corporation and its subsidiaries may be involved in ordinary course litigation, which management believes will not have a material adverse effect - The Corporation states that any litigation it is involved in arises from the ordinary course of business and is not expected to have a material adverse effect[175] Mine Safety Disclosures The Corporation reports that there are no mine safety disclosures applicable to its operations - None[176] PART II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities The Corporation's common stock trades on NASDAQ under 'CFFI'; a $5.0 million share repurchase program was reauthorized in April 2018, with $3.9 million remaining available as of December 31, 2018 - The Corporation's common stock is listed on the NASDAQ Global Select Market under the symbol "CFFI"[178] - A share repurchase program was reauthorized in April 2018 for up to $5.0 million, expiring May 31, 2019; as of December 31, 2018, $3.9 million remained available for repurchase[179] Share Repurchases (Q4 2018) | Period | Total Shares Purchased | Average Price Paid per Share (in USD) | Shares Purchased as Part of Program | | :--- | :--- | :--- | :--- | | Oct 2018 | 0 | N/A | 0 | | Nov 2018 | 14,283 | $52.22 | 14,283 | | Dec 2018 | 10,984 | $50.87 | 6,949 | | Total | 25,267 | $51.63 | 21,232 | Selected Financial Data The Corporation's 2018 net income significantly increased to $18.0 million from $6.6 million in 2017 (impacted by a one-time tax expense), with diluted EPS of $5.15 and strong ROA/ROE Key Financial Data (2017 vs. 2018) | Metric (in thousands, except per share) | 2018 | 2017 | | :--- | :--- | :--- | | Total Assets (in thousands) | $1,521,411 | $1,509,056 | | Total Loans (net) (in thousands) | $1,028,097 | $992,062 | | Total Deposits (in thousands) | $1,181,661 | $1,171,429 | | Net Income (in thousands) | $18,020 | $6,572 | | Earnings Per Share (diluted) (in USD) | $5.15 | $1.88 | | Dividends Per Share (in USD) | $1.41 | $1.33 | Key Performance Ratios (2017 vs. 2018) | Ratio | 2018 | 2017 | | :--- | :--- | :--- | | Net Interest Margin (in %) | 5.80% | 5.99% | | Return on Average Assets (in %) | 1.19% | 0.45% | | Return on Average Equity (in %) | 12.40% | 4.58% | - The 2017 net income was significantly impacted by a one-time remeasurement of the net deferred tax asset due to the Tax Cuts and Jobs Act of 2017, which resulted in an additional income tax expense of $6.6 million[183] Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) This MD&A details the Corporation's 2018 financial condition and results, highlighting a significant net income increase, segment performance, margin trends, asset quality, and a challenging 2019 outlook Overview The Corporation's 2018 net income rose to $18.0 million ($5.15 per share), up from $6.6 million in 2017 (adjusted to $13.2 million), with ROA of 1.19% and ROE of 12.40% Financial Performance Measures (2017 vs. 2018) | Metric | 2018 | 2017 (Reported) | 2017 (Adjusted*) | | :--- | :--- | :--- | :--- | | Net Income (in millions) | $18.0M | $6.6M | $13.2M | | EPS (diluted) (in USD) | $5.15 | $1.88 | $3.79 | | ROE (in %) | 12.40% | 4.58% | 9.20% | | ROA (in %) | 1.19% | 0.45% | 0.90% | - The 2019 outlook anticipates challenges including lower accretion income, potential margin compression in retail banking, margin pressure in mortgage banking due to competition and interest rates, and continued competition and higher borrowing costs in consumer finance[214][216][217] Results of Operations In 2018, net interest income slightly increased to $82.3 million but margin declined to 5.80%; noninterest income decreased by $1.5 million, while noninterest expense rose by $0.9 million, and the effective tax rate dropped to 20.1% - Net interest income (taxable-equivalent) increased to $82.3 million in 2018 from $81.7 million in 2017, but the net interest margin decreased by 19 basis points to 5.80% from 5.99%[245] - Total noninterest income decreased by $1.5 million (5.4%) in 2018, primarily due to lower gains on sales of mortgage loans and the non-recurrence of a $1.3 million gain on assets held in a rabbi trust that was recognized in 2017[267] - Total noninterest expenses increased by $909,000 (1.2%) in 2018, driven by higher operating, data processing, and marketing costs at the retail banking segment, partially offset by lower personnel costs in the mortgage and consumer finance segments[273] - Income tax expense was $4.5 million in 2018 (20.1% effective rate) compared to $11.4 million in 2017 (63.4% effective rate); the 2017 rate was significantly higher due to a one-time $6.6 million expense from remeasuring deferred tax assets following the enactment of the Tax Act[276] Asset Quality The Corporation's asset quality in 2018 showed a decrease in allowance for loan losses to $34.0 million, a significant drop in provision to $11.0 million, and improved nonperforming assets in retail banking to $1.7 million Allowance for Loan Losses Activity (in thousands) | Description | 2018 | 2017 | | :--- | :--- | :--- | | Beginning Balance | $35,726 | $37,066 | | Provision for Loan Losses | $11,006 | $16,435 | | Net Loans Charged Off | ($12,709) | ($17,775) | | Ending Balance | $34,023 | $35,726 | - The consumer finance segment's allowance for loan losses decreased by $1.4 million, and its provision for loan losses decreased by $5.3 million in 2018 compared to 2017, primarily due to purchasing loans with higher credit metrics and lower charge-offs[315] Nonperforming Assets - Retail Banking Segment (in thousands) | Metric | Dec 31, 2018 | Dec 31, 2017 | | :--- | :--- | :--- | | Nonaccrual loans | $1,464 | $5,272 | | OREO | $246 | $168 | | Total Nonperforming Assets | $1,710 | $5,440 | - The decline in nonaccrual loans in the retail banking segment was primarily due to the resolution of a single commercial relationship that had a carrying amount of $3.80 million at year-end 2017[332] - Troubled debt restructurings (TDRs) decreased significantly to $5.45 million at year-end 2018 from $10.90 million at year-end 2017[341][511] Financial Condition As of December 31, 2018, total assets were $1.52 billion, with net loans at $1.03 billion, deposits at $1.18 billion, and shareholders' equity at $152.0 million, reflecting growth driven by commercial and construction lending Balance Sheet Summary (in thousands) | Account | Dec 31, 2018 | Dec 31, 2017 | | :--- | :--- | :--- | | Total Assets | $1,521,411 | $1,509,056 | | Loans, net | $1,028,097 | $992,062 | | Securities (AFS) | $214,910 | $218,976 | | Total Deposits | $1,181,661 | $1,171,429 | | Total Shareholders' Equity | $151,958 | $141,702 | - Loan growth from 2017 to 2018 was primarily driven by commercial and construction lending in the retail banking segment, reflecting additions to the lending team and strong market demand[356] - The Corporation's primary source of funds is deposits, which grew to $1.18 billion, with a notable $23.7 million increase in non-interest bearing demand deposits[406][407] Quantitative and Qualitative Disclosures About Market Risk The Corporation's primary market risk is interest rate volatility, managed through simulation and Economic Value of Equity (EVE) analysis, showing sensitivity to both upward and downward rate shifts - The Corporation's main market risk is interest rate volatility, which it manages through asset/liability strategies and simulation modeling[451][452] Interest Rate Sensitivity Analysis (as of Dec 31, 2018) | Analysis Type | +200 BP Shock | -200 BP Shock | | :--- | :--- | :--- | | 1-Year Net Interest Income (in %) | +5.42% | -8.86% | | Economic Value of Equity (EVE) (in %) | +7.98% | -17.04% | - The company uses interest rate swaps as cash flow hedges to convert variable-rate trust preferred capital notes to fixed rates and also uses back-to-back swaps to offer fixed rates to commercial borrowers while maintaining a floating rate for the bank[464][466] Financial Statements and Supplementary Data This section presents the Corporation's audited consolidated financial statements for the three years ended December 31, 2018, including balance sheets, income statements, and cash flows, with detailed notes on accounting policies, regulatory capital, and segment reporting Consolidated Financial Statements As of December 31, 2018, the Corporation reported total assets of $1.52 billion, net loans of $1.03 billion, total deposits of $1.18 billion, and shareholders' equity of $152.0 million, with net income of $18.0 million Consolidated Balance Sheet Highlights (Dec 31, 2018) | Account (in thousands) | Amount | | :--- | :--- | | Total Assets | $1,521,411 | | Loans, net | $1,028,097 | | Total Deposits | $1,181,661 | | Total Liabilities | $1,369,453 | | Total Shareholders' Equity | $151,958 | Consolidated Income Statement Highlights (Year Ended Dec 31, 2018) | Account (in thousands) | Amount | | :--- | :--- | | Net Interest Income | $81,521 | | Provision for Loan Losses | $11,006 | | Noninterest Income | $25,758 | | Noninterest Expenses | $73,732 | | Net Income | $18,020 | Notes to Consolidated Financial Statements The notes provide detailed disclosures on significant accounting policies, loan portfolio, securities, deposits, borrowings, derivatives, employee benefits, regulatory capital (Bank 'well capitalized'), and segment financial results - Note 1 outlines significant accounting policies, including the methodologies for the allowance for loan losses, impairment of securities, goodwill, and accounting for acquired loans[488] - Note 15 details regulatory capital requirements; as of December 31, 2018, C&F Bank was categorized as "well capitalized"; the Corporation itself is no longer subject to consolidated capital requirements as it qualifies as a small bank holding company[650][651] - Note 18 provides a breakdown of financial results by business segment, showing revenues, expenses, and net income for Retail Banking, Mortgage Banking, and Consumer Finance[701][703] Changes in and Disagreements with Accountants on Accounting and Financial Disclosure The Corporation reports no changes in or disagreements with its accountants on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure - None[728] Controls and Procedures Management concluded the Corporation's disclosure controls and internal control over financial reporting were effective as of December 31, 2018, with an unqualified audit opinion from Yount, Hyde & Barbour, P.C - Management concluded that the Corporation's disclosure controls and procedures were effective as of December 31, 2018[729] - Based on the COSO 2013 framework, management assessed and concluded that the Corporation's internal control over financial reporting was effective as of December 31, 2018; this assessment was audited by Yount, Hyde & Barbour, P.C., who issued an unqualified opinion[731][732] Other Information The Corporation reports no other information for this item - None[741] PART III Directors, Executive Officers and Corporate Governance Information regarding the Corporation's directors, executive officers, Section 16(a) compliance, and the Audit Committee is incorporated by reference from the 2019 Proxy Statement - Information for this item, including details on directors, executive officers, and corporate governance, is incorporated by reference from the definitive 2019 Proxy Statement[743] Executive Compensation Information regarding executive and director compensation, as well as the Compensation Committee Report, is incorporated by reference from the 2019 Proxy Statement - Information regarding executive compensation is incorporated by reference from the 2019 Proxy Statement[746] Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Information regarding security ownership by certain beneficial owners and management, as well as details on equity compensation plans, is incorporated by reference from the 2019 Proxy Statement - Information regarding security ownership and equity compensation plans is incorporated by reference from the 2019 Proxy Statement[747] Certain Relationships and Related Transactions, and Director Independence Information regarding related party transactions and director independence is incorporated by reference from the 2019 Proxy Statement - Information regarding certain relationships, related transactions, and director independence is incorporated by reference from the 2019 Proxy Statement[749] Principal Accountant Fees and Services Information regarding fees paid to the principal accountant and the Audit Committee's pre-approval policy is incorporated by reference from the 2019 Proxy Statement - Information regarding principal accountant fees and services is incorporated by reference from the 2019 Proxy Statement[750] PART IV Exhibits, Financial Statement Schedules This section lists all exhibits filed with the Form 10-K, including corporate governance documents, material contracts, subsidiary lists, auditor consent, and CEO/CFO certifications - This section provides a list of all exhibits filed with the Form 10-K, including corporate governance documents, material contracts, and required certifications[753] Form 10-K Summary This item is not applicable to the report - Not applicable[757]