The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the financial statements. Under certain adequacy guidelines and the regulatory framework for prompt corrective action, specific capital guidelines that involve quantitative measures of the assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices must be met. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of Total and Tier 1 Capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 Capital (as defined) to average assets (as defined).
Management believes, as of December 31, 2012 and 2011, that the Company and the Bank exceed all capital adequacy requirements to which they are subject.
As of December 31, 2012, the most recent notification from the Federal Deposit Insurance Corporation categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Bank’s category. Prompt corrective action provisions are not applicable to bank holding companies.
In addition to the foregoing regulatory capital requirements, in light of current market conditions and the Bank’s current risk profile, the Bank has determined that it must achieve and maintain a minimum ratio of total capital to risk-weighted assets of 12% and a minimum leverage ratio of 8% to be considered well capitalized.
The actual capital amounts and ratios are also presented in the table below.
Consolidated $44,257,266 18.84% $18,796,922 8.00 %
CBC National Bank $45,134,779 19.21% $18,797,440 8.00 % $ 23,496,800 10.00 % Tier I Capital to Risk Weighted Assets
Consolidated $41,273,266 17.57% $ 9,398,461 4.00 % ---N/A---
CBC National Bank $42,150,779 17.94% $ 9,398,720 4.00 % $14,098,080 6.00 % Tier I Capital to Average Assets
Consolidated $41,273,266 9.79% $16,861,597 4.00 %
CBC National Bank $42,150,779 10.00% $16,861,636 4.00 % $ 21,077,045 5.00 %
Consolidated $41,591,729 16.47% $20,197,195 8.00 %
CBC National Bank $41,256,827 16.34% $20,198,400 8.00 % $ 25,248,000 10.00 % Tier I Capital to Risk Weighted Assets
Consolidated $38,400,646 15.21% $10,098,597 4.00 % ---N/A---
CBC National Bank $38,065,744 15.08% $10,099,200 4.00 % $15,148,800 6.00 % Tier I Capital to Average Assets
Consolidated $38,400,646 8.46% $18,152,380 4.00 %
CBC National Bank $38,065,744 8.39% $18,152,920 4.00 % $ 22,691,150 5.00 %
There are no current plans to initiate payment of common stock cash dividends and future dividend policy will depend on the Bank’s and the Company’s earnings, capital requirements, financial condition and other factors considered relevant by the Company’s Board of Directors. Furthermore, pursuant to the terms of the MOU entered into with the Federal Reserve Board, the Company is prohibited from paying dividends on its capital stock, including its common stock and TARP preferred stock, absent prior regulatory approval. Additionally, the Bank is restricted in its ability to pay dividends under national banking laws and regulations of the OCC. Generally, these restrictions require the Bank to pay dividends derived solely from net profits. The OCC’s prior approval is also required if dividends declared by the Bank in any calendar year exceed the Bank’s net profit for that year combined with its retained net profits for the preceding two years.
On December 5, 2008, Coastal issued and sold 9,950 preferred shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series A (the “TARP preferred stock”), along with a Warrant to purchase common stock to the United States Department of the Treasury (the “Treasury”) as part of the Capital Purchase Program (“CPP”). The Treasury’s investment in Coastal is part of the government’s program to provide capital to the healthy financial institutions that are the core of the nation’s economy in order to increase the flow of credit to consumers and businesses and provide additional assistance to distressed homeowners facing foreclosure. The TARP preferred stock has an annual 5%
cumulative preferred dividend rate, payable quarterly. The dividend rate increases to 9% after February 14, 2014.
Dividends compound if they accrue in arrears.
The Board has approved and Coastal paid all dividends on the TARP preferred through November 15, 2010.
However, pursuant to the MOU entered into with the Federal Reserve Board, the Company is prohibited from paying dividends on its TARP preferred stock without prior regulatory approval. As a result of the Federal Reserve Board objection, the eight quarterly dividends due since November 15, 2010 through the end of 2012 have been deferred. Subsequent to December 31, 2012 the Federal Reserve Board issued a non-objection to the payment of three TARP preferred stock dividends on February 15, 2013. The Board approved and Coastal paid three TARP preferred dividends totaling $373,125 on February 15, 2013, the current TARP dividend due on that date and two of the eight previously deferred TARP dividends together with interest accrued on all previously deferred dividends.
Cash dividends on the TARP preferred stock are cumulative and accrue and compound on each subsequent payment date. At December 31, 2012, we had deferred TARP preferred stock dividends payments of $995,000, plus interest on the deferred dividends of $51,279. If we defer six or more quarterly dividend payments on the TARP preferred stock, whether or not consecutive, the Treasury will have the right to appoint two directors to Coastal’s board of directors until all accrued but unpaid dividends have been paid. The Treasury has made no indication to the Company of its desire or intent to exercise this right and appoint directors to the board.
The TARP preferred stock has a liquidation preference of $1,000 per share plus accrued dividends. The TARP preferred stock has no redemption date and is not subject to any sinking fund. The TARP preferred stock carries certain restrictions. The TARP preferred stock ranks senior to our common stock and also provides certain limitations on compensation arrangements of executive officers. During the first three years, Coastal may not reinstate a cash dividend on its common shares nor purchase equity shares without the approval of the U.S.
Treasury, subject to certain limited exceptions. Coastal may not reinstate a cash dividend on its common shares to the extent preferred dividends remain unpaid. Generally, the TARP preferred stock is non-voting. However, should Coastal fail to pay six quarterly dividends, the holder may elect two directors to the Company’s Board of Directors until such dividends are paid. In connection with the issuance of the TARP preferred stock, a Warrant to purchase 205,579 common shares was issued with an exercise price of $7.26 per share, which was calculated based upon the average closing prices of our common stock on the 20 trading days ending on the last trading day prior to the date that our application was approved to participate in the TARP Capital Purchase Program. The Warrant is immediately exercisable and expires in ten years. The Warrant is subject to a proportionate anti-dilution adjustment in the event of stock dividends or splits, among other events.
The fair value of the warrant grant was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions. Expected volatilities are based on historical volatility of the Company’s stock. The Company has not and does not expect to pay a dividend to common shareholders in the near future. The risk-free rate for periods within the contractual life of the option was based on the U.S. Treasury yield curve in effect at the time of grant.
2008
Fair value of warrants $ 1.90
Assumptions used to estimate fair value:
Risk-free interest rate 2.20 %
Dividend yield 0 %
Expected volatility 27 %
Expected life 10 years
The TARP preferred stock and Warrant qualify as Tier 1 capital and are presented in permanent equity on the Consolidated Statement of Condition in the amounts of $9,725,775 and $501,475, respectively. Proceeds were allocated between TARP preferred stock and Warrants based on the proportional fair value of each. The fair value of the TARP preferred stock was calculated using a discounted cash flow model assuming a five year life, a 5%
dividend rate and a comparable discount interest rate of 12%. The Preferred Share discount is being amortized over five years.
On August 26, 2009, the Bank entered into a formal agreement with the OCC (the “Agreement”). The Agreement contains certain operational and financial restrictions, which address the concerns identified in the Bank’s report of examination. Under the terms of the Agreement, the Bank has prepared and provided written plans and/or reports on the following items: reducing the high level of credit risk in the Bank; taking immediate and continuing action to protect the Bank’s interest in criticized assets; ensuring the Bank’s adherence to its written profit plan to improve and sustain earnings; limiting brokered deposits, excluding reciprocal CDARS, that would cause the Bank’s level of brokered deposits to be in excess of ten percent of total deposits; and establishing a Compliance Committee to monitor the Bank’s adherence to the Agreement.
On January 27, 2010, pursuant to a request by the Federal Reserve Bank of Richmond, the board of directors of Coastal Banking Company, Inc. adopted a resolution, which provided that the Company must obtain prior approval of the Federal Reserve Board before incurring additional debt, purchasing or redeeming its capital stock, or declaring or paying dividends, excluding dividends on preferred stock related to our participation in the TARP CPP.
On November 17, 2010, the Company entered into a Memorandum of Understanding, an informal enforcement action, with the Federal Reserve Bank of Richmond in lieu of the board resolution adopted on January 27, 2010. The terms of the MOU are substantially similar to those of the board resolution and require the Company to obtain prior approval of the Federal Reserve Board before incurring additional debt, purchasing or redeeming its capital stock, or declaring or paying cash dividends, including dividends on its TARP preferred stock, and paying interest on its trust preferred securities. Additionally, the MOU requires the Company to comply with banking regulations that prohibit certain indemnification and severance payments and require prior approval of any appointment of new directors or the hiring or change in position of any senior executive officers of the Company. The MOU also requires the submission of quarterly progress reports.
Note 19. Fair Value