Document


As confidentially submitted to the Securities and Exchange Commission on July 27, 2018.
This draft registration statement has not been publicly filed with the Securities and Exchange Commission, and all information herein remains strictly confidential.
Registration No. 333- ______
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Confidential Draft Submission No. 3
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
 
CAPITAL BANCORP, INC.
(Exact Name of Registrant as Specified in Its Charter)
 
Maryland
 
6021
 
52-2083046
(State or other jurisdiction of
incorporation or organization)
 
(Primary Standard Industrial
Classification Code Number)
 
(I.R.S. Employer
Identification Number)
 
One Church Street
Rockville, Maryland 20850
(240) 283-0416
(Address, Including Zip Code, of Registrant’s Principal Executive Offices)
Edward F. Barry
Chief Executive Officer
Capital Bancorp, Inc.
One Church Street
Rockville, Maryland 20850
(240) 283-0416
(Name, Address and Telephone Number, Including Area Code, of Agent For Service)
 
Copies to:
Kevin M. Houlihan, Esq.
William H. Levay, Esq.
Holland & Knight LLP
800 17th Street, Suite 1100
Washington, D.C. 20006
(202) 955-3000
 
Frank M. Conner III, Esq.
Michael P. Reed, Esq.
Christopher J. DeCresce, Esq.
Covington & Burling LLP
One City Center
850 Tenth Street, NW
Washington, D.C. 20001
(202) 662-6000
 
Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. o
If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
 Large accelerated filer
o
Accelerated filer
o
Non-accelerated filer
o (Do not check if a smaller reporting company)
Smaller reporting company
x
 
 
Emerging growth company
x
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act. x
 
CALCULATION OF REGISTRATION FEE
Title of each Class of
Security to be Registered
Proposed
Maximum
Aggregate
Offering Price(1)(2)
Amount of
Registration Fee
Common Stock, $0.01 par value per share
 
 
 
 
 
(1)
Includes shares of common stock to be sold by the selling shareholders and shares of common stock that may be purchased by the underwriters pursuant to their option to purchase additional shares in the offering.
(2)
Estimated solely for purposes of calculating the registration fee in accordance with Rule 457(o) under the Securities Act of 1933. This amount represents the proposed maximum aggregate offering price of the securities registered hereunder to be sold by the Registrant.
The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file an amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until this Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.
 



The information in this preliminary prospectus is not complete and may be changed. Neither we nor the selling shareholders may sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.
SUBJECT TO COMPLETION, DATED          , 2018
PRELIMINARY PROSPECTUS
        Shares
[Capital Bancorp Logo]
Common Stock
This prospectus relates to the initial public offering of Capital Bancorp, Inc. We are offering          shares of our common stock. The selling shareholders identified in this prospectus are offering an additional          shares of our common stock. We will not receive any proceeds from sales of shares by the selling shareholders.
Prior to this offering, there has been no established public market for our common stock. We currently estimate that the initial public offering price of our common stock will be between $          and $          per share. We intend to apply to list our common stock on the Nasdaq Global Market under the symbol “CBNK.”
We are an “emerging growth company” as defined under the federal securities laws, and may take advantage of reduced public company reporting and relief from certain other requirements otherwise generally applicable to public companies. See “Implications of Being an Emerging Growth Company.”
Investing in our common stock involves a high degree of risk. See “Risk Factors” beginning on page 21.
 
Per Share
 
Total
Initial public offering price
$
 
$
Underwriting discount(1)
$
 
$
Proceeds to us (before expenses)
$
 
$
Proceeds to the selling shareholders (before expenses)
$
 
$
_______________
(1)
The underwriters will also be reimbursed for certain expenses incurred in this offering. See “Underwriting” for additional information.
We have granted the underwriters an option to purchase up to an additional          shares of our common stock at the initial public offering price, less the underwriting discount, for a period of 30 days after the date of this prospectus.
Neither the Securities and Exchange Commission nor any other regulatory authority has approved or disapproved of these securities or passed upon the adequacy or accuracy of this prospectus. Any representation to the contrary is a criminal offense.
The shares of our common stock that you purchase in this offering are not deposits, savings accounts or other obligations of our bank or non-bank subsidiaries and are not insured or guaranteed by the Federal Deposit Insurance Corporation or any other governmental agency.
The underwriters expect to deliver our common stock to purchasers on or about               , 2018, subject to customary closing conditions.
Keefe, Bruyette & Woods
Stephens Inc.
  A Stifel Company
 
 
 
 
 
The date of this prospectus is               , 2018



TABLE OF CONTENTS
F-1

 
i
 


About This Prospectus
In this prospectus, unless we state otherwise or the context otherwise requires, references to “we,” “our,” “us,” “the Company” and “Capital” refer to Capital Bancorp, Inc. and its wholly owned subsidiaries, Capital Bank, N.A., which we sometimes refer to as “Capital Bank,” “the Bank” or “our Bank,” and Church Street Capital, LLC. “Church Street Capital” or “CSC” refer to our wholly owned subsidiary, Church Street Capital, LLC.
This prospectus describes the specific details regarding this offering and the terms and conditions of our common stock being offered hereby and the risks of investing in our common stock. For additional information, please see the section entitled “Where You Can Find More Information.”
The information contained in this prospectus, or any free writing prospectus prepared by or on behalf of us or to which we have referred you, is accurate only as of its date, regardless of the time of delivery of this prospectus or of any sale of our common stock. Our assets, business, cash flows, condition (financial or otherwise), liquidity, prospects or results of operations may have changed since that date.
You should not interpret the contents of this prospectus, or any free writing prospectus prepared by or on behalf of us or to which we have referred you, to be legal, business, investment or tax advice. You should consult with your own advisors for that type of advice and consult with them about the legal, tax, business, financial and other issues that you should consider before investing in our common stock.
We, the selling shareholders and the underwriters have not authorized anyone to provide any information to you other than that contained in this prospectus or in any free writing prospectus prepared by or on behalf of us or to which we have referred you. We, the selling shareholders and the underwriters take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you.
No action is being taken in any jurisdiction outside the United States to permit a public offering of our securities or possession or distribution of this prospectus in that jurisdiction. Persons who come into possession of this prospectus in jurisdictions outside the United States are required to inform themselves about, and to observe, any restrictions as to the offering and the distribution of this prospectus applicable to those jurisdictions. We, the selling shareholders and the underwriters are not making an offer of these securities in any jurisdiction where such offer is not permitted.
“Capital Bank” and its logos and other trademarks referred to and included in this prospectus belong to us. Solely for convenience, we refer to our trademarks in this prospectus without the ® or the ™ or symbols, but such references are not intended to indicate that we will not assert, to the fullest extent under applicable law, our rights to our trademarks. Other service marks, trademarks and trade names referred to in this prospectus, if any, are the property of their respective owners, although for presentational convenience we may not use the ® or the ™ symbols to identify such trademarks.
Market and Industry Data
This prospectus includes government, industry and trade association data, forecasts and information that we have prepared based, in part, upon data, forecasts and information obtained from independent trade associations, industry publications and surveys, government agencies and other information available to us, which information may be specific to particular markets or geographic locations. Statements as to our market position are based on market data currently available to us. Industry publications and surveys and forecasts generally state that the information contained therein has been obtained from sources believed to be reliable. Although we believe these sources are reliable, we have not independently verified the information. Some data is also based on our good faith estimates, which are derived from management’s knowledge of the industry and independent sources. We believe our internal research is reliable, even though such research has not been verified by any independent sources. While we are not aware of any misstatements regarding our industry data presented herein, our estimates involve risks and uncertainties and are subject to change based on various factors, including those discussed under the heading “Risk Factors” in this prospectus. Forward-looking information obtained from these sources is subject to the same qualifications and the additional uncertainties regarding the other forward-looking statements in this prospectus.

 
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Implications of Being an Emerging Growth Company
As a company with less than $1.07 billion in total annual gross revenue during our last fiscal year, we qualify as an “emerging growth company” under the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. An emerging growth company may take advantage of reduced reporting requirements and is relieved of certain other significant requirements that are otherwise generally applicable to public companies. As an emerging growth company:
we are permitted to present only two years of audited financial statements, in addition to any required interim financial statements, and only two years of related discussion in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”;
we are exempt from the requirement to obtain an attestation from our auditors on management’s assessment of our internal control over financial reporting under the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act;
we are permitted to provide less extensive disclosure about our executive compensation arrangements; and
we are not required to hold non-binding shareholder advisory votes on executive compensation or golden parachute arrangements.
We may take advantage of some or all of these provisions for up to five years or such earlier time as we cease to qualify as an emerging growth company, which will occur if we have more than $1.07 billion in total annual gross revenue, if we issue more than $1.0 billion of non-convertible debt in a three-year period, or if the market value of our common stock held by non-affiliates exceeds $700.0 million as of any June 30, in which case we would no longer be an emerging growth company as of the following December 31. We have taken advantage of certain reduced reporting obligations in this prospectus. Accordingly, the information contained herein may be different than the information you receive from other public companies in which you hold stock.
In addition to reduced disclosure and the other relief described above, the JOBS Act permits us an extended transition period for complying with new or revised accounting standards affecting public companies. However, we have elected not to take advantage of this extended transition period, which means that the financial statements included in this prospectus, as well as any financial statements that we file in the future, will be subject to all new or revised accounting standards generally applicable to public companies. Our election not to take advantage of the extended transition period is irrevocable.

 
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PROSPECTUS SUMMARY
This summary highlights selected information contained elsewhere in this prospectus and does not contain all of the information that you should consider before investing in our common stock. You should carefully read the entire prospectus, including the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” together with our consolidated financial statements and the related notes, before making an investment decision.
Who We Are
We are Capital Bancorp, Inc., a bank holding company and a Maryland corporation, and we operate primarily through our wholly owned subsidiary, Capital Bank, N.A., a commercial-focused community bank based in the Washington, D.C. and Baltimore metropolitan areas. We serve businesses, not-for-profit associations and entrepreneurs throughout the region by partnering with them to design tailored financial solutions supported by customized technology and “client first” advice. Capital Bank is headquartered in Rockville, Maryland and operates a branch-lite model through five commercial bank branches, five mortgage offices, two loan production offices, a limited service branch and three corporate and operations facilities located in key markets throughout our operating area. As of March 31, 2018, we had total assets of $1.0 billion, total loans held for investment of $900.0 million, total deposits of $897.2 million, and total stockholders’ equity of $83.4 million.
Capital Bank has three divisions: Commercial Banking; Church Street Mortgage, our residential mortgage banking arm, which is sometimes referred to herein as CSM; and OpenSky, a fully secured, digitally-driven nationwide credit card platform. Our Commercial Banking division accounted for approximately 95%, or $959.9 million, of Capital Bank’s total assets at March 31, 2018. The Commercial Banking division’s nine commercial loan officers, three commercial real estate loan officers and ten deposit-focused business development officers provide high quality service, customized solutions and tailored advice to commercial clients in Capital Bank’s operating markets.
The Church Street Mortgage division originates conventional and government-guaranteed residential mortgage loans on a nationwide basis for sale into the secondary market and in certain, limited circumstances for the Bank’s loan portfolio. For the three months ended March 31, 2018, the Church Street Mortgage division originated $87.3 million in residential loans for sale into the secondary market. For the year ended December 31, 2017, the Church Street Mortgage division originated more than $435.8 million in residential loans for sale into the secondary market.
The OpenSky division provides fully secured credit cards on a nationwide basis to under-banked populations and those looking to rebuild their credit scores. OpenSky’s secured cards operate on a fully digital and mobile enabled platform with all marketing and application procedures conducted through its website and mobile applications. A deposit equal to the full credit limit of the card is made into a noninterest-bearing demand account with the Bank when the account is opened and the deposit is required to be maintained throughout the life of the card. U sing our proprietary scoring model, which considers credit score and repayment history (typically a minimum of six months of on-time repayments, but ultimately determined on a case-by-case basis) the Bank has recently begun to offer certain customers an unsecured line in excess of their secured line of credit . As of March 31, 2018, OpenSky credit card balances were $28.8 million , of which $27.3 million were fully secured. Total noninterest bearing collateral deposit account balances were $56.3 million as of the same date.
Our Growth and Performance
Over the past five years, we have executed a strategy leading to rapid organic growth and consistent profitability. The following tables highlight our growth in assets, loans, deposits, credit card accounts and certain profitability metrics for the five years ended December 31, 2017, 2016, 2015, 2014 and 2013, for the three months ended March 31, 2018 and, with respect to diluted earnings per share, for the three months ended March 31, 2017.

 
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Loans Held for Investment ($ in millions)
 
Deposits ($ in millions)
CAGR: 20.4
%
 
CAGR: 22.8
%
https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-09a2b5ffcca552b2d2ba01.jpg   https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-996692e6a9ce2f8906aa01.jpg
Return on Average Assets(1)(5)(6)
 
Return on Average Equity(1)(5)(6)
https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-9c15cba825c2dc75d8ba01.jpg   https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-76c91801dc43e7103f5a01.jpg
Net Interest Margin(2)(3)(5)(6)
 
Number of Credit Card Accounts
https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-image4.jpg
 
CAGR: 49.9
%
https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-dd26c076752e63ac886a01.jpg  https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-d1557a0af93b7d3b174a01.jpg

 
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Tangible Book Value Per Share(4)
 
Diluted Earnings Per Share(1)(5)
CAGR: 11.5
%
 
 
https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-6bda5cac105ed277cd1a01.jpg   https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-a1a6f3ac406f0b2d6f7a01.jpg
_______________
(1)
Financial information as of and for the year ended December 31, 2013 excludes the effect of bargain purchase gains.
(2)
Peers include: EGBN, SASR, OLBK, ANCX, SONA, TCFC, JMSB, HBMD and FVCB. Peer data per S&P Global Market Intelligence.
(3)
Net interest margin is a ratio calculated as net interest income divided by average interest earning assets for the same period.
(4)
This financial measure is not recognized under generally accepted accounting principles, or GAAP, and is therefore considered to be a non-GAAP measure. See “—GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures” for a reconciliation of this financial measure to its most comparable GAAP financial measure.
(5)
Presentation of this financial measure as of or for the year ended December 31, 2017 excludes the effects of certain non-recurring expenses incurred with the conversion of our credit card processing systems and the revaluation of our deferred tax assets due to the effects of the recently enacted Pub. L. 115-97, commonly referred to as the Tax Cuts and Jobs Act, or the Tax Act. See “—GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures” for a reconciliation of this financial measure to its most comparable GAAP financial measure.
(6)
March 31, 2018 performance data has been annualized.
Our Competitive Strengths
Behind our success is a core set of operating principles that have guided our decision making and enabled Capital Bank to achieve a combination of high growth and strong profitability, including:
Sales-Focused, Entrepreneurial Culture: We have deliberately designed our management structure to be horizontal, thereby giving our associates the ability to have a voice in the business, make decisions and influence strategy. Our reward and recognition programs encourage assertiveness and our associates embrace the transparency and accountability of our disciplined approach to performance evaluations. Individual sales goals and objectives are regularly re-evaluated and adjusted, and progress toward these goals is regularly assessed to ensure our overall corporate objectives are being met. This deliberate approach to talent management encourages and rewards entrepreneurship and has allowed us to attract highly qualified staff . An example of our entrepreneurial spirit is our establishment of Church Street Capital, a small mezzanine lender wholly owned by Capital Bancorp, Inc., after one of our commercial loan officers identified an opportunity to fill a void in the local market. Church Street Capital has originated more than $25 million of commercial loans since its inception in 2014, of which we have retained approximately $2.1 million for our own portfolio. Further illustrating the success of our approach, in 2017, Ernst & Young recognized our CEO, Edward Barry, as the Entrepreneur of the Year in the Mid-Atlantic region, Financial Services category.
Well-Positioned in Dynamic and Fast-Growing Markets: The Washington, D.C. and Baltimore metropolitan areas comprise one of the most attractive regions in the United States. With the federal government’s location in Washington, D.C., the broader region benefits from consistent population growth and remains well positioned to capitalize on any increase in government spending and infrastructure. According to the U.S. Census Bureau, the Washington, D.C. and Baltimore, Maryland metropolitan statistical areas, or MSAs, include the four wealthiest counties in the United States, as well as five of the 10 wealthiest counties (as measured by median household income). Overall, the Washington, D.C. MSA ranks first out of the largest 20 MSAs (ranked by population) in income levels with a current median household

 
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income of approximately $99,400, which is approximately 63% higher than the national average.
Historically, the Bank’s operations have primarily focused on the Washington, D.C. MSA, where we currently operate four of our five commercial bank locations, a mortgage office, a limited service branch and a loan production office.  We initially expanded into the Baltimore, Maryland MSA with two mortgage offices and recently opened a full service banking location in Columbia, Maryland.  Management views the Baltimore, Maryland MSA as a target market for potential future expansion.  In addition to the Bank’s new full service banking office located in Columbia, Howard County, Maryland, which is one of the five wealthiest counties in the United States, as noted above, we recently opened a full service banking location in Reston, Fairfax County, Virginia, which is also one of the five wealthiest counties in the United States, as noted above.  Although we have less than 1% deposit market share in Howard and Fairfax counties, we believe that we have the ability to continue our historical growth by serving the middle market businesses and their owners in the Washington, D.C. and Baltimore, Maryland MSAs who prefer high quality service and local decision making that is unavailable at larger, out-of-market banking institutions.  We believe we can continue to tap into the growth and wealth of our primary markets to continue strengthening the performance of our franchise.
Strong Board and Management Team with an Ownership Mentality: Our management team brings over 189 years of experience in banking, both locally in the Washington, D.C. and Baltimore metropolitan areas and nationally. Our management team is particularly strong in the areas of data analysis and marketing and technology deployment, consistent with our sales-focused culture, as well as credit analysis and structuring, consistent with our commitment to risk management. We have assembled a team of experts in their respective fields, which has contributed to our growth and consistent profitability while effectively managing risk by combining the local knowledge and customer intimacy of a community bank with the strategic and operational expertise of a larger financial institution. In addition, our management team and our board of directors think and act like owners and place the creation of shareholder value at the center of everything they do. As of March 31, 2018, our directors, directors of the Bank, our named executive officers and their respective family members and affiliated entities beneficially owned approximately 61% of our outstanding shares of common stock. Many of these individuals and families have been shareholders of Capital since its initial recapitalization led by our Chairman Stephen Ashman in 2002.
Differentiation Through the Application of Technology: We embrace technology and believe it offers us significant opportunities to challenge the status quo and improve our responsiveness to customers’ evolving needs. Our value proposition is primarily driven by our consultative approach to deploying technologies that deliver value for customers and we employ a dedicated in-house team of specialists to tailor practical solutions for our customers. We regularly deploy solution specialists on sales calls with our business development officers, particularly those focused on deposit gathering, to demonstrate our ability to customize technology solutions for clients in an effort to facilitate their operations. For example, we designed and implemented a solution that allowed a freight company to remotely scan check payments along with corresponding invoices, thereby enabling greater efficiency through time savings and streamlined workflows, a reduction in disparate systems, and control over our customers’ working capital. In another recent case, we enabled a not-for-profit customer to leverage data being collected from remote deposit capture to create a database of donors that could be electronically parsed between entities and individuals, which allows the customer to mine its database and provides the customer with a better understanding of its primary donors. We constantly seek similar opportunities to add unique value to our customers and deepen our existing relationships.
We have also developed proprietary technology, such as our Apollo customer acquisition system for OpenSky secured credit cards, which improves our customers’ experience with our OpenSky credit cards and increases customer profitability. Our Apollo customer acquisition system is our application processing engine that combines licensed technology with proprietary coding to workflows. The primary decision engine software, which we license, manages the workflow of each application and contacts relevant third-party data services for identity verification and to satisfy other approval criteria. We have customized the licensed software to create a user interface for our customer service group that enables them to check the status of any given application, answer questions for applicants, and manage the application process as contemplated by our policies. Finally, we have built an operational database to process applicant data and analyze performance of our sales pipeline. The implementation of the Apollo system has resulted in 269% new customer growth since its launch in February 2015, with more than 70% of new customers applying and being approved for a credit card through a mobile device.

 
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Expertise in Structuring Complex Credit: Our loan officers become their customers’ trusted advisors and structure customized credit solutions to assist these customers in achieving their business initiatives. Our lending team, led by the Bank’s President, Scot Browning, collaborates with customers to transform complex credit transactions into creative solutions that address customers’ business and personal needs while remaining highly profitable for the Bank. This approach often enables us to overcome price-led competition as demonstrated by our net interest margin of 4.25% (excluding secured credit card) for the three months ended March 31, 2018. Our limited commercial net charge-offs since the beginning of 2013 and non-performing assets of 0.39% of assets as of March 31, 2018 exemplify the knowledge and analysis we bring to the underwriting process.
Emphasis on Regulatory Compliance and Risk Management: Compliance and risk management are a priority at Capital Bank. Our mortgage business was designed with compliance and risk controls as a centerpiece that has endured as we have continued to scale the business. Our Commercial Banking division has also adopted a proactive approach to risk and frequently reviews our commercial loan portfolios for potentially weakening credits in order to manage them aggressively out of the Bank while they are still “bankable.” When problems arise, issues are diagnosed, expediently addressed and reported to senior management and the board of directors of the Bank or the Company, as applicable, followed by an open dialogue focused on improving our process. We also conduct semi-annual stress tests of our commercial loan portfolio to assess potential losses based on both reductions in cash flow and real estate collateral values. Further, we proactively back-test our construction loan portfolio for realized sales values as compared to estimated values at underwriting down to the sub-market level to test for emerging trends in real estate valuations. Compliance and risk functions are critical tools for our managers, helping them assess and design new initiatives and creative solutions for our clients.
Differentiated Business Model: Operating our branch-lite commercial banking business model in conjunction with our national, scalable consumer lending platforms, we have achieved compound annual growth rates in both assets and loans since December 31, 2013 of 18.8% and 20.4%, respectively, as well as increasing our core deposits 123% between December 31, 2013 and March 31, 2018. Our OpenSky credit card division further supplements our core funding growth, having experienced growth in its noninterest bearing deposit balances from $14.1 million to $56.3 million over the same period, equivalent to a compound annual growth rate of 38.6%. Our Columbia, Maryland branch, which opened in June 2017, was the only branch we added to our network during this time period. We opened our Reston, Virginia branch in June 2018. We have achieved substantial growth while delivering consistent strong profitability. Our capabilities in sales management, marketing, data and analytics create additional opportunities for greater synergies and cross-sales across our divisions. Further, our balance sheet is well positioned to manage rising interest rates given the duration of our assets and heavy emphasis on floating interest rates in our loan portfolio. As of March 31, 2018, approximately 64% of our loan portfolio consisted of floating rate credits. As a result, an increase of 100 basis points in interest rates is estimated to increase our net interest income by 5.5% based on our most recent interest rate risk, or IRR, analysis.
Our Management and Board
Our senior management team is comprised of experienced banking professionals with a diverse mix of backgrounds, having served in executive management roles both locally and nationally with institutions ranging in size from traditional community banks to the largest global banking institutions. Our team combines sales, credit, marketing and analytics and risk management functions bringing the capabilities of a much larger institution to bear in the execution of our strategies. Additionally, our senior executives have frequently been able to recruit high quality members of their teams from prior institutions to add further depth and skill to our management team. Certain biographical information of our senior executives is as follows:
Edward F. Barry. Mr. Barry has served as our Chief Executive Officer since 2012. Since that time, Capital Bank has rapidly expanded throughout the Washington, D.C. and Baltimore metropolitan areas. Under Mr. Barry’s leadership, Capital Bank has consistently been recognized as one of the top performing banks in the U.S. In 2017, he was named an Ernst & Young Entrepreneur of the Year for the Mid-Atlantic region. Prior to joining the Bank, Mr. Barry was Senior Vice President, Product Marketing and Analytics at Capital One Bank where he led the product, analytics and marketing teams for the Small Business and Business Banking divisions. Prior to that he was with Bank of America as a Senior Vice President, serving in a variety of marketing and strategy roles across the consumer and commercial banks. He

 
5
 


also worked at Ernst & Young/Cap Gemini, where he was a consultant in the Strategy and Transformation practice, responsible for creating and implementing initiatives to drive clients’ e-business sales and marketing strategies.
Scot R. Browning. Mr. Browning has served as President of the Bank since its recapitalization by the current ownership group in 2002 and has over 30 years of banking experience, with a concentration in commercial lending. He currently oversees the commercial lending department, which has grown from $13.5 million to over $722.3 million in funded loans, during his tenure. In addition, he manages loan administration and business development. From 1997 to 2002, prior to joining the Bank, he was Senior Vice President, Corporate Lending at United Bank in Bethesda, Maryland and at Century National Bank prior to its acquisition by United Bank.
Alan W. Jackson. Mr. Jackson, a certified public accountant, joined the Company and the Bank as our Chief Financial Officer in late 2017. Mr. Jackson’s over 30 years of prior experience includes consulting to community banks, serving as chief financial officer to several community banks (including two publicly traded banks), and leading the product teams developing community banking software. Prior to joining the Bank, Mr. Jackson was Senior Managing Director in the Consulting Division at FinPro, Inc., from January 2017 to December 2017, where he was responsible for advising bank clients on strategic initiatives to increase profitability and reduce their risk profiles. Prior to that he led product teams with software development efforts at both S&P Global Market Intelligence (formerly SNL Financial LC), from June 2015 to July 2016, and Banker’s Dashboard, LLC from July 2011 to June 2015. For over 20 years of his career, Mr. Jackson served as chief financial officer of three community banks, two of which began as de novo institutions. Throughout his banking career, he has been involved in all facets of community bank management, from inception to growth and including mergers and acquisitions.
Kathy M. Curtis. Ms. Curtis, who joined the Bank in 2002, serves as our Chief Risk/Compliance Officer, Bank Secrecy Act Officer, Chief Information Security Officer and Community Reinvestment Act Officer and has over 30 years of banking experience, including 15 years of experience with the Company. Ms. Curtis is charged with ensuring the Bank’s regulatory compliance, and ensuring that our Bank Secrecy Act and Information Security programs meet all requirements of the Office of the Comptroller of the Currency, or OCC, Federal Financial Institutions Examination Council, or FFIEC, Financial Crimes Enforcement Network, or FinCEN, and other regulatory authorities. Prior to joining the Bank, Ms. Curtis was employed by Century National Bank from 1985 until its acquisition by United Bank in 2001. During her 16 years at Century National Bank, Ms. Curtis held a variety of positions across the loan department before becoming its Compliance Officer and Bank Secrecy Act Officer.
Nick Bryan. Mr. Bryan, who joined the Bank in 2013, serves as our Chief Marketing Officer and as General Manager of the OpenSky credit card division. Mr. Bryan also manages the Bank’s data analytics platforms and works to integrate our data analytics and marketing functions to enhance our operational efficiency. Prior to joining the Company in 2013, Mr. Bryan spent more than eight years in various roles with Capital One, from corporate finance to product marketing and operations. Mr. Bryan also held various roles at Donaldson, Lufkin & Jenrette, including working on the launch of the first internet-based capital markets and alternative investments groups.
Eric M. Suss. Mr. Suss has served as our Chief Human Resources Officer since 2012 and is responsible for attracting top level executives to the Company in a highly competitive market. Mr. Suss has nearly 20 years of experience in human resources ranging from consulting for Arthur Andersen to nearly a decade of international human resources experience for the world’s leading provider of intellectual property outsourced solutions, CPA Global, where he served in multiple human resources positions.
Kathy Yamada. Ms. Yamada, who joined the Bank in 2010, serves as our Chief Credit Officer and has over 25 years of banking experience. She is responsible for the Bank’s credit administration function including credit policy, loan approval process, loan quality, portfolio risk management and special assets. Since joining the Bank in 2010, Ms. Yamada has successfully managed the reduction in the Bank’s criticized, classified and overall non-performing asset levels. Ms. Yamada’s prior banking experience includes a 20 year career with Equitable Bank, headquartered in Wheaton, Maryland, as Senior Vice President, responsible for managing the bank’s loan origination and credit administration functions and managing the residential mortgage loan origination division.

 
6
 


Karl Dicker. Mr. Dicker joined the Bank in 2018 as Chief Operating Officer.  He currently oversees the deposit operations, branch distribution, information technology and product organizations of the Bank. Prior to joining the Bank, Mr. Dicker was Senior Vice President at Capital One Bank where he led Treasury Management Strategy, Marketing & Analytics and served as Head of Enterprise Payments.  Mr. Dicker spent more than 16 years at Capital One in various other positions across consumer, business and commercial business lines in functional roles ranging from corporate strategy to operations to sales enablement to business transformation and analysis.
Our Board is comprised of talented individuals and very experienced bankers, some of whom collaborated previously to successfully operate Capital Bank, NA (established June 18, 1974), which was ultimately sold in 1998 to FCNB Bank. These individuals identified an opportunity to collaborate again at the Company in 2002. Our directors are widely known as leading businessmen and -women and entrepreneurs in the Washington, D.C. and Baltimore metropolitan areas and includes three individuals with prior experience as a director of a publicly traded company. Our directors’ diverse experience spans commercial real estate development, sophisticated accounting and tax matters, operating companies, professional services and not-for-profit associations.
Our Business Strategy
Regulations, technology and competition have fundamentally impacted the economics of the banking sector. We believe that by using technology-enabled strategies and advice-based solutions, we can deliver strong and attractive shareholder returns in excess of our cost of capital. We frequently re-evaluate our underlying assumptions, strategies and tactics and believe we can nimbly change our approaches when market conditions dictate. We have adopted the following strategies that we believe will continue to drive growth while maintaining consistent profitability and enhancing shareholder value:
Deliver premium advice-based solutions that drive organic loan and core deposit growth with corresponding superior net interest margin
Serve as financial partners to our customers, helping them to grow their businesses through advice-based financial solutions;
Endeavor to provide comprehensive loan and deposit solutions to our customers that are tailored to their needs;
Expand expertise in the non-profit, basic industries, fiduciary and community lending groups while building a greater presence in the government contracting sector;
Capitalize on market dislocation from recent in-market acquisitions to continue to attract top sales talent, like our Fiduciary Banking Team and the leader of our Business Banking group, and acquire new commercial banking relationships from local competitors; and
Selectively add banking centers where sales teams have already proved an ability to capture market share and leverage customer relationships.
Leverage technology to improve the customer experience and loyalty and deliver operational efficiencies
Use solution structuring and customized technology implementation as differentiators to add value to clients with complex needs and deepen our relationships within our existing customer base;
Deploy technologies that better support our lending associates and simplify our processes;
Maximize the potential of web-based and mobile banking applications to drive core funding while maintaining our branch-lite business model; and
Enhance cross-selling capabilities among our OpenSky, Church Street Mortgage and Commercial Banking division customers.

 
7
 


Increase scale in our consumer fee based platforms through delivery of high value products and services
Utilize our customer acquisition system, Apollo, and leverage our investment in a new core processing system, together with our expertise in data, analytics and marketing, to deliver new products and services and grow our secured credit card business;
Retain OpenSky customers that “graduate” from our secured credit product through the limited use of partially unsecured credit products; and
Expand our purchase-oriented mortgage loan sales both in-market and in adjacent markets through the hiring of high quality mortgage originators and continuing to improve on our direct to consumer marketing channels.
Pursue acquisitions opportunistically
Seek strategic acquisitions in Washington, D.C., Baltimore, Maryland, and surrounding metropolitan areas;
Evaluate specialty finance company opportunities where we can add value through increasing interest and fee income and leveraging our management’s expertise and existing strategic assets; and
Use our management’s and Board’s expertise to structure transactions that minimize integration and execution risk for the Bank.
Summary Demographic and Other Market Data
According to the U.S. Census Bureau, the Washington, D.C. and Baltimore, Maryland MSAs include the four wealthiest counties in the United States, as well as five of the 10 wealthiest counties. Overall, the Washington, D.C. MSA ranks first out of the largest 20 MSAs (ranked by population) in income levels with a current median household income of approximately $99,400, which is approximately 63% higher than the national average. Additionally, the Washington, D.C. MSA is currently the sixth largest MSA in the United States with a total population of more than 6.2 million people (and when combined with the Baltimore, Maryland MSA, the Washington, D.C. and Baltimore metropolitan areas are home to a population of more than 9.0 million). We expect our strategies to benefit from continued growth in population and high income of our market area’s residents.
State
 
Total
Population
2018
(Actual)
 
Population
Change
2010-2018
 
Projected
Population
Change
2018-2023
 
Median
Household
Income
2018
 
HH Income
Change
2011-2018
 
Unemployment Rate
(April 2018)
Washington D.C. MSA
 
6,224,774
 
10.44
%
 
5.19
%
 
$
99,400

 
23.35
%
 
3.1
%
Baltimore, Maryland MSA
 
2,813,526
 
3.8

 
2.51

 
77,704

 
22.98

 
3.9

State of Maryland
 
6,061,065
 
4.98

 
3.02

 
81,294

 
21.21

 
3.9

District of Columbia
 
698,375
 
16.06

 
7.98

 
82,192

 
50.75

 
5.0

Counties of Operation (1)
 
2,341,222
 
10.06

 
5.02

 
100,613

 
26.74

 
3.3

United States
 
326,533,070
 
5.76

 
3.5

 
61,045

 
22.76

 
3.7

_______________
Source: S&P Global Market Intelligence, U.S. Bureau of Labor Statistics
(1)
Data consists of deposit-weighted average using county-level deposits.
The Washington, D.C. MSA has a large and diversified economy, with an annual gross domestic product of nearly $510 billion, according to the Bureau of Economic Analysis. When combined with the Baltimore, Maryland MSA, the Washington, D.C. and Baltimore metropolitan areas in which we operate have a combined gross domestic product of more than $696 billion, and this combined GDP has grown approximately 19% between 2010 and 2016. The Washington, D.C. MSA is a desirable market for a broad range of companies in a variety of industries, including 15 companies from the 2017 Fortune 500 list, and four of the United States’ largest 100 private companies, according to the 2017 Forbes list of largest private companies by revenue. The following table provides an in-depth view of the distribution of employment within the Washington, D.C. MSA.

 
8
 


Washington, D.C. MSA Employment By Sector
https://cdn.kscope.io/9920973aa399abf5f8e14ad84992e695-chart-7808ece997307bf431ca01.jpg
_______________
Source: U.S Bureau of Labor Statistics; Data as of February 2018
Note: Data not seasonally adjusted
As the home of the federal government, the broader Washington, D.C. region benefits from consistent population growth and remains well positioned to capitalize on any increase in government spending and infrastructure. Further, as banks in our market have experienced continued consolidation over the last few years, our opportunities to attract talented employees and capitalize on customer dislocation have increased. With the shrinking number of locally headquartered community banks (seven of the top ten banks in Washington, D.C. MSA by market share are not headquartered in the region), we believe that we have the ability to continue our historical growth by serving the area’s middle market businesses and their owners who prefer a high quality level of service and local decision making that is unavailable at larger, out of market banking institutions.
With its strong demographic characteristics, scale and robust economic activity we believe that the Washington, D.C. and Baltimore metropolitan areas represent a strong geographic market for us to realize our continued growth strategies within our Commercial Banking division.
Corporate Information
Our principal executive offices are located at One Church Street, Rockville, Maryland 20850, and our telephone number at that address is (240) 283-0416. Our website address is www.capitalbankmd.com. The information on, or accessible through, our website or any other website cited in this prospectus is not part of, or incorporated by reference into, this prospectus.

 
9
 


Summary Risk Factors
Our business is subject to a number of substantial risks and uncertainties of which you should be aware before making a decision to invest in our common stock. These risks are discussed more fully in the section entitled “Risk Factors” beginning on page 21. Some of these risks include the following:
credit risks, including risks related to the significance of commercial real estate loans in our portfolio, our ability to manage our credit risk effectively and the potential deterioration of the business and economic conditions in our primary market areas;
liquidity and funding risks, including the risk that we will not be able to meet our obligations due to risks related to our funding sources;
operational, strategic and reputational risks, including the risk that we may not be able to implement our growth strategy and risks related to cybersecurity, the possible loss of key members of our senior leadership team and maintaining our reputation;
legal, accounting and compliance risks, including risks related to the extensive state and federal regulation under which we operate and changes in such regulations;
market and interest rate risks, including risks related to interest rate fluctuations and the monetary policies and regulations of the Board of Governors of the Federal Reserve System, or the Federal Reserve; and
offering and investment risks, including illiquidity and volatility in the trading of our common stock, limitations on our ability to pay dividends and the dilution that investors in this offering will experience.


 
10
 


The Offering
Common stock offered by us
       shares.
 
 
Common stock offered by the selling shareholders
       shares.
 
 
Underwriters’ option to purchase additional shares
We have granted the underwriters an option to purchase up to an additional       shares from us for a period of 30 days after the date of this prospectus.
 
 
Shares of common stock to be outstanding after
this offering
       shares of common stock, assuming the underwriters do not exercise their option to purchase additional shares (       shares if the underwriters exercise in full their option to purchase additional shares).
 
 
Use of proceeds
Assuming an initial public offering price of $       per share, which is the midpoint of the price range set forth on the cover page of this prospectus, we estimate that the net proceeds to us from the sale of our common stock in this offering will be $ million (or $       million if the underwriters exercise in full their option to purchase additional shares from us), after deducting the underwriting discount and estimated offering expenses payable by us. We intend to use the net proceeds to us from this offering to fund the organic growth of our commercial and consumer business lines and for general corporate purposes, which could include future acquisitions and other growth initiatives. We will not receive any proceeds from the sale of shares of our common stock by the selling shareholders. See “Use of Proceeds.”
 
 
Dividend policy
Holders of our common stock are only entitled to receive dividends when, as and if declared by our board of directors out of funds legally available for dividends. We have not paid any cash dividends on our capital stock since inception, and we do not intend to pay dividends for the foreseeable future. Our ability to pay dividends to our shareholders in the future will depend on regulatory restrictions, our liquidity and capital requirements, our earnings and financial condition, the general economic climate, contractual restrictions, our ability to service any equity or debt obligations senior to our common stock and other factors deemed relevant by our board of directors. For additional information, see “Dividend Policy.”
Directed share program
At our request, the underwriters have reserved for sale, at the initial public offering price, up to 5% of the shares of our common stock offered in this offering for sale to certain of our directors, executive officers, employees and other related persons. We will offer these reserved shares to the extent permitted under applicable laws and regulations in the United States through a directed share program. Reserved shares purchased by our directors and executive officers will be subject to the lock-up provisions described in “Underwriting—Lock-Up Agreements.” We do not know if these persons will choose to purchase all or any portion of the reserved shares but the number of shares of our common stock available for sale to the general public will be reduced to the extent these persons purchase the reserved shares. Any reserved shares of our common stock that are not so purchased will be offered by the underwriters to the general public on the same terms as the other shares of our common stock offered by this prospectus. See “Underwriting—Directed Share Program.”
 
 

 
11
 


Securities owned by directors and named
executive officers
As of March 31, 2018, our directors, directors of the Bank, our named executive officers and their respective family members and affiliated entities beneficially owned approximately 61% of our outstanding shares of common stock. Following the completion of this offering, we anticipate that our directors, directors of the Bank, our named executive officers and their respective family members and affiliated entities will beneficially own approximately       % shares of our common stock (or       % if the underwriters exercise in full their option to purchase additional shares from us). See “Principal and Selling Shareholders.”
 
 
Nasdaq Global Market Listing
We intend to apply to list our common stock on the Nasdaq Global Market under the trading symbol “CBNK.”
 
 
Risk factors
Investing in our common stock involves risks. See “Risk Factors,” beginning on page 21, for a discussion of certain factors that you should carefully consider before making a decision to invest in shares of our common stock.
Except as otherwise indicated, references in this prospectus to the number of shares of our common stock outstanding after this offering are based upon 2,898,775 shares of common stock issued and outstanding as of March 31, 2018. Unless expressly indicated or the context otherwise requires, all information in this prospectus:
assumes no exercise by the underwriters of their option to purchase up to an additional       shares of our common stock from us;
assumes that the shares of common stock sold in this offering are sold at $       per share, which is the midpoint of the price range set forth on the cover page of this prospectus;
does not attribute to any director, executive officer or principal shareholder any purchases of shares of our common stock in this offering, including through the directed share program described in “—Underwriting-Directed Share Program;”
excludes 324,953 shares of our common stock issuable upon exercise of stock options outstanding at March 31, 2018 at a weighted average exercise price of $26.03 per share; and
excludes 235,550 shares of our common stock available for issuance under the Capital Bancorp, Inc. 2017 Stock and Incentive Compensation Plan, or the 2017 Plan.

 
12
 


SELECTED HISTORICAL CONSOLIDATED FINANCIAL AND OTHER DATA
You should read the following selected historical consolidated financial and other data in conjunction with our consolidated financial statements and related notes and the sections entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Capitalization” included elsewhere in this prospectus. The following tables set forth selected historical consolidated financial and other data (i) as of and for the three months ended March 31, 2018 and 2017 and (ii) as of and for the years ended December 31, 2017, 2016, 2015, 2014 and 2013. Selected financial data as of and for the years ended December 31, 2017, 2016, and 2015 have been derived from our audited financial statements included elsewhere in this prospectus. We have derived the selected financial data as of and for the years ended December 31, 2014 and 2013 from our audited financial statements not included in this prospectus. Selected financial data as of and for the three months ended March 31, 2018 and for the three months ended March 31, 2017 have been derived from our unaudited financial statements included elsewhere in this prospectus and have not been audited but, in the opinion of our management, contain all adjustments (consisting of only normal or recurring adjustments) necessary to present fairly in all material respects our financial position and results of operations for such periods in accordance with GAAP. We have derived selected balance sheet data as of March 31, 2017 from our unaudited balance sheet not included in this prospectus but, in the opinion of our management, it contains all adjustments (consisting of only normal or recurring adjustments) necessary to present fairly in all material respects our financial position and results of operations for such period in accordance with GAAP. Our historical results are not necessarily indicative of any future period. The performance ratios, asset quality and capital ratios, mortgage metrics and credit card portfolio metrics are unaudited and derived from our audited financial statements and other financial information as of and for the periods presented. Average balances have been calculated using daily averages. The selected historical consolidated financial and other data presented below contains certain financial measures that are not presented in accordance with accounting principles generally accepted in the United States and have not been audited. See “—GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures.”

 
13
 


 
 
Three Months Ended March 31,
 
Years Ended December 31,
(Dollars are in thousands, except per share information)
 
2018
 
2017
 
2017
 
2016
 
2015
 
2014
 
2013
Statement of Income Data:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total interest income
 
$
16,664

 
$
12,773

 
$
56,666

 
$
49,243

 
$
38,254

 
$
32,852

 
$
28,047

Total interest expense
 
2,279

 
1,728

 
7,755

 
6,484

 
4,578

 
3,135

 
2,720

Net interest income
 
14,385

 
11,045

 
48,911

 
42,759

 
33,676

 
29,717

 
25,327

Provision for loan losses
 
515

 
550

 
2,655

 
4,291

 
1,609

 
1,230

 
1,210

Total noninterest income
 
4,078

 
2,882

 
15,149

 
20,473

 
14,929

 
11,442

 
10,171

Total noninterest expense
 
13,600

 
10,355

 
47,306

 
43,380

 
34,817

 
28,821

 
24,836

Income before income taxes
 
4,348

 
3,022

 
14,099

 
15,561

 
12,179

 
11,108

 
9,452

Income tax expense
 
1,358

 
1,164

 
6,990

 
6,120

 
4,687

 
4,315

 
3,671

Bargain purchase gain, net of income taxes
 

 

 

 

 

 

 
1,076

Net income
 
2,990

 
1,858

 
7,109

 
9,441

 
7,492

 
6,793

 
6,857

Pro forma net income (1)
 
2,990

 
1,858

 
11,293

 
9,441

 
7,492

 
6,793

 
6,857

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance Sheet Data:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
 
$
9,571

 
$
4,618

 
$
8,189

 
$
4,827

 
$
4,129

 
$
3,849

 
$
3,340

Investment securities available for sale
 
51,706

 
46,834

 
54,114

 
48,070

 
39,260

 
39,393

 
33,071

Loans held for sale
 
17,353

 
13,026

 
26,344

 
49,167

 
38,878

 
42,659

 
18,465

Loans, net of unearned income
 
900,033

 
793,815

 
887,420

 
763,430

 
639,350

 
506,339

 
408,264

Core deposit intangible
 

 

 

 

 
17

 
39

 
72

Total assets
 
1,017,613

 
897,939

 
1,026,009

 
905,600

 
743,429

 
618,749

 
488,713

Total deposits
 
897,153

 
785,455

 
904,899

 
790,924

 
629,817

 
501,974

 
374,435

FHLB advances and repurchase agreements
 
12,071

 
12,384

 
13,260

 
15,659

 
23,440

 
47,988

 
59,455

Senior promissory note due July 31, 2019
 

 
2,000

 
2,000

 
2,000

 
5,000

 
5,000

 

Subordinated debentures
 
15,369

 
15,336

 
15,361

 
15,327

 
18,629

 
7,062

 
7,062

Total liabilities
 
934,246

 
824,930

 
945,890

 
834,853

 
683,772

 
568,533

 
446,291

Total stockholders’ equity
 
83,366

 
73,009

 
80,119

 
70,748

 
59,657

 
50,216

 
42,421

Tangible common equity(2)
 
83,366

 
73,009

 
80,119

 
70,748

 
59,640

 
50,177

 
42,349


 
14
 


 
 
Three Months Ended March 31,
 
Years Ended December 31,
(Dollars are in thousands, except per share information)
 
2018
 
2017
 
2017
 
2016
 
2015
 
2014
 
2013
Selected Performance Ratios:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Return on average assets (ROAA)(3)(8)
 
1.19
%
 
0.83
 %
 
0.74
%
 
1.13
%
 
1.10
%
 
1.25
%
 
1.23
%
Pro forma return on average assets (ROAA)(1)(3)(8)
 
1.19

 
0.83

 
1.17

 
1.13

 
1.10

 
1.25

 
1.23

Return on average equity (ROAE)(3)(8)
 
14.86

 
10.47

 
9.29

 
14.39

 
13.90

 
14.84

 
15.64

Pro forma return on average equity (ROAE) (1)(3)(8)
 
14.86

 
10.47

 
14.75

 
14.39

 
13.90

 
14.84

 
15.64

Net interest margin (4)(8)
 
5.79

 
5.00

 
5.12

 
5.18

 
5.02

 
5.59

 
5.41

Pro forma net interest margin (1)(4)(8)
 
5.79

 
5.00

 
5.37

 
5.18

 
5.02

 
5.59

 
5.41

Net interest margin, excluding credit card portfolio (4)(8)
 
4.25

 
4.29

 
4.31

 
4.53

 
4.60

 
5.47

 
5.30

Noninterest income / average assets (8)
 
1.63

 
1.29

 
1.57

 
2.46

 
2.20

 
2.11

 
2.16

Noninterest expense / average assets (8)
 
5.43

 
4.65

 
4.90

 
5.21

 
5.12

 
5.32

 
5.27

Net operating expense / average assets (8)
 
3.80

 
3.36

 
3.33

 
2.75

 
2.93

 
3.21

 
3.11

Efficiency ratio (5)(8)
 
73.66

 
74.35

 
73.85

 
68.60

 
71.63

 
70.02

 
69.96

Pro forma efficiency ratio (1)(5)(8)
 
73.66

 
74.35

 
67.79

 
68.60

 
71.63

 
70.02

 
69.96

Loan yield (6)(8)
 
7.27

 
6.33

 
6.44

 
6.45

 
6.18

 
6.74

 
6.84

Loan yield, excluding credit card portfolio (6)(8)
 
5.61

 
5.56

 
5.57

 
5.76

 
5.78

 
6.62

 
6.73

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Per Share Data:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common stock shares issued and outstanding
 
2,898,775

 
2,794,765

 
2,884,299

 
2,786,174

 
2,556,445

 
2,390,705

 
2,335,715

Basic weighted average shares outstanding
 
2,890,894

 
2,790,483

 
2,815,283

 
2,740,783

 
2,405,020

 
2,356,849

 
2,201,858

Diluted weighted average shares outstanding
 
2,991,576

 
2,824,120

 
2,857,000

 
2,822,261

 
2,622,009

 
2,569,887

 
2,341,649

Basic earnings per share before bargain purchase gain
 
$
1.03

 
$
0.67

 
$
2.53

 
$
3.44

 
$
3.12

 
$
2.88

 
$
2.63

Basic earnings per share
 
1.03

 
0.67

 
2.53

 
3.44

 
3.12

 
2.88

 
3.11

Diluted earnings per share before bargain purchase gain
 
1.00

 
0.66

 
2.49

 
3.36

 
2.96

 
2.75

 
2.59

Diluted earnings per share
 
1.00

 
0.66

 
2.49

 
3.36

 
2.96

 
2.75

 
3.05

Pro forma diluted earnings per share (1)
 
1.00

 
0.66

 
3.95

 
3.36

 
2.96

 
2.75

 
3.05

Book value per share
 
28.76

 
26.12

 
27.78

 
25.39

 
23.34

 
21.00

 
18.16

Tangible book value per share(2)
 
28.76

 
26.12

 
27.78

 
25.39

 
23.33

 
20.99

 
18.13

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-Performing Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-performing loans
 
$
3,712

 
$
5,609

 
$
5,407

 
$
4,518

 
$
5,775

 
$
6,359

 
$
7,451

Troubled debt restructurings
 
3,403

 
1,355

 
3,811

 
941

 
2,422

 
2,768

 
2,793

Foreclosed real estate
 
255

 
90

 
93

 
90

 
203

 
454

 
282

Non-performing assets
 
3,967

 
5,700

 
5,500

 
4,608

 
5,978

 
6,813

 
7,733


 
15
 


 
 
Three Months Ended March 31,
 
Years Ended December 31,
(Dollars are in thousands, except per share information)
 
2018
 
2017
 
2017
 
2016
 
2015
 
2014
 
2013
Asset Quality Ratios:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-performing assets / assets
 
0.39
%
 
0.63
 %
 
0.54
%
 
0.51
%
 
0.80
%
 
1.10
%
 
1.58
%
Non-performing loans / loans (7)
 
0.41

 
0.71

 
0.61

 
0.59

 
0.90

 
1.26

 
1.83

Non-performing assets / loans (7) + foreclosed real estate
 
0.44

 
0.73

 
0.62

 
0.60

 
0.94

 
1.35

 
1.89

Net charge-offs (recoveries) to average loans (7)
 
0.04

 
(0.01
)
 
0.15

 
0.33

 
0.10

 
0.09

 
0.07

Allowance for loan losses to total loans
 
1.13

 
1.14

 
1.13

 
1.13

 
1.03

 
1.09

 
1.16

Allowance for loan losses to non-performing loans
 
273.66

 
161.62

 
185.57

 
190.32

 
113.83

 
86.97

 
63.54

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Bank Capital Ratios:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Tier 1 leverage ratio
 
8.83
%
 
9.18
 %
 
8.55
%
 
8.86
%
 
9.51
%
 
9.44
%
 
8.80
%
Common equity tier 1 capital
 
11.05

 
11.22

 
10.78

 
11.12

 
11.35

 
n/a

 
n/a

Tier 1 risk-based capital
 
11.05

 
11.22

 
10.78

 
11.12

 
11.35

 
11.96

 
11.50

Total risk-based capital ratio
 
12.30

 
12.48

 
12.03

 
12.37

 
12.51

 
13.21

 
13.84

Common equity to total assets
 
8.78

 
9.21

 
8.46

 
8.94

 
9.38

 
8.98

 
8.72

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Composition of Loans Held for Investment:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate
 
$
354,818

 
$
297,212

 
$
342,684

 
$
286,332

 
$
225,185

 
$
157,370

 
$
121,093

Commercial real estate
 
269,357

 
244,117

 
259,853

 
234,869

 
190,776

 
162,697

 
128,945

Construction real estate
 
150,820

 
149,821

 
144,932

 
134,540

 
129,304

 
111,618

 
100,839

Commercial
 
96,927

 
82,098

 
108,982

 
87,563

 
79,003

 
63,750

 
48,615

Credit card
 
28,757

 
21,016

 
31,507

 
20,446

 
13,812

 
9,562

 
7,404

Other consumer
 
1,149

 
1,103

 
1,053

 
1,157

 
2,233

 
1,624

 
1,697

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Mortgage Metrics (CSM only):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Origination of loans held for sale
 
$
87,279

 
$
80,965

 
$
435,822

 
$
853,674

 
$
754,965

 
$
493,273

 
$
752,529

Proceeds from loans held for sale, net of gain
 
96,048

 
116,980

 
459,787

 
844,464

 
759,350

 
470,534

 
793,457

Purchase volume as a % of originations
 
55.41
%
 
37.24
 %
 
52.50
%
 
18.79
%
 
22.51
%
 
29.83
%
 
21.43
%
Gain on sale of loans
 
2,092

 
1,574

 
9,234

 
15,373

 
11,541

 
7,827

 
7,282

Gain on sale as a % of loans sold
 
2.18
%
 
1.35
 %
 
2.01
%
 
1.82
%
 
1.52
%
 
1.66
%
 
0.92
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Credit Card Portfolio Metrics:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total active customer accounts
 
158,362

 
119,744

 
149,226

 
96,404

 
63,398

 
38,922

 
28,347

Total loans
 
$
28,757

 
$
21,016

 
$
31,507

 
$
20,446

 
$
13,812

 
$
9,562

 
$
7,404

Total deposits at the Bank
 
56,333

 
39,183

 
53,625

 
39,062

 
27,849

 
18,415

 
14,071

_______________
(1)
Presentation of this financial measure as of or for the year ended December 31, 2017 excludes the effects of certain non-recurring expenses incurred with the conversion of our credit card processing systems and the revaluation of our deferred tax assets due to the effects of the Tax Act. See “—GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures” for a reconciliation of this financial measure to its most comparable GAAP financial measure.
(2)
This financial measure is not recognized under GAAP and is therefore considered to be a non-GAAP measure. See “—GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures” for a reconciliation of this financial measure to its most comparable GAAP financial measure.
(3)
Financial information as of and for the year ended December 31, 2013 excludes the effect of bargain purchase gains.
(4)
Net interest margin is a ratio calculated as net interest income divided by average interest earning assets for the same period.

 
16
 


(5)
Efficiency ratio is calculated by dividing noninterest expense by net interest income plus noninterest income.
(6)
Includes non-accrual loans and loans 90 days and more past due.
(7)
Loans exclude loans held for sale at each of the dates presented.
(8)
March 31, 2018 and 2017 data has been annualized.
GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures
Our accounting and reporting policies conform to GAAP and the prevailing practices in the banking industry. However, we also evaluate our performance based on certain additional financial measures discussed in this prospectus as being “non-GAAP financial measures.” We classify a financial measure as a non-GAAP financial measure if that financial measure excludes or includes amounts, or is subject to adjustments that have the effect of excluding or including amounts, that are not included or excluded, as the case may be, in the most directly comparable measure calculated and presented in accordance with GAAP as in effect from time to time in the United States in our statements of income, balance sheets or statements of cash flows. Non-GAAP financial measures do not include operating and other statistical measures or ratios that are calculated using exclusively financial measures presented in accordance with GAAP.
This prospectus includes certain non-GAAP financial measures for the year ended December 31, 2017 in order to present our results of operations for that period on a basis consistent with our historical operations. During the fourth quarter of 2017, we undertook a conversion of our credit card portfolio system to further scale our OpenSky credit card division. The one-time expense related to this data processing system conversion was approximately $2.3 million in the fourth quarter of 2017. As a result of the conversion, we refunded or did not charge our OpenSky customers for 60 days of interest and applicable fees on their accounts, which resulted in a loss of revenue of approximately $2.4 million. This forbearance of certain interest and fees on customers accounts was conducted in accordance with the safe harbor provisions of the Truth in Lending Act as implemented by Regulation Z.
The provisions of Regulation Z address, among other areas, open-end credit, such as credit cards or home equity lines, and closed-end credit, such as car loans or mortgages, as well as certain administrative matters such as a change to the payment address. In connection with the conversion of our credit card portfolio system, the address for the payment of principal, interest and fees related to our credit card portfolio was changed and, accordingly, we did not assess certain interest and fees on customers’ accounts for a period of 60 days during the fourth quarter of 2017 in accordance with the safe harbor provisions of Regulation Z.
We believe that these non-GAAP financial measures provide useful information to management and investors that is supplementary to our financial condition, results of operations and cash flows computed in accordance with GAAP. However, non-GAAP financial measures have a number of limitations, are not necessarily comparable to GAAP measures and should not be considered in isolation or viewed as a substitute for the most directly comparable or other financial measures calculated in accordance with GAAP. Moreover, the manner in which we calculate non-GAAP financial measures may differ from that of other companies reporting non-GAAP measures with similar names. You should understand how such other companies calculate their financial measures that may be similar or have names that are similar to the non-GAAP financial measures discussed herein when comparing such non-GAAP financial measures. Our management uses the non-GAAP financial measures set forth below in its analysis of our performance.
Pro forma net interest margin” is a non-GAAP measure herein defined as net interest income, plus non-recurring foregone interest and fees , divided by average interest earning assets.
Pro forma net income” is a non-GAAP measure herein defined as net income plus non-recurring foregone interest and fees, plus non-recurring data processing expense, plus non-recurring deferred tax revaluation and less the tax impact of conversion-related items.
“Pro forma efficiency ratio” is a non-GAAP measure herein defined as total noninterest expense less non-recurring data processing expense, divided by the sum of net interest income, noninterest income and non-recurring foregone interest and fees.
“Pro forma diluted earnings per share” is a non-GAAP measure herein defined as net income plus non-recurring foregone interest and fees, plus non-recurring data processing expense, plus non-recurring deferred tax

 
17
 


revaluation, less the tax impact of conversion-related items, divided by the diluted weighted average shares outstanding.
Pro forma return on average assets” is a non-GAAP measure herein defined as net income plus non-recurring foregone interest and fees, plus non-recurring data processing expense, plus non-recurring deferred tax revaluation, less the tax impact of conversion-related items, divided by average total assets.
Pro forma return on average equity” is a non-GAAP measure herein defined as net income plus non-recurring foregone interest and fees, plus non-recurring data processing expense, plus non-recurring deferred tax revaluation, less the tax impact of conversion-related items, divided by average total equity.
“Tangible common equity” is a non-GAAP measure defined as total stockholders’ equity, less intangible assets.
“Tangible book value per share” is a non-GAAP measure defined as total stockholders’ equity, less intangible assets, divided by shares of common stock outstanding.

 
18
 


The following reconciliation table provides a more detailed analysis of these non-GAAP financial measures:
 
 
Three Months Ended March 31,
 
Years Ended December 31,
(Dollars are in thousands, except per share information)
 
2018
 
2017
 
2017
 
2016
 
2015
 
2014
 
2013
Pro Forma Net Interest Margin:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net interest income
 
$
14,385

 
$
11,045

 
$
48,911

 
$
42,759

 
$
33,676

 
$
29,717

 
$
25,327

Add: Non-recurring foregone interest and fees
 

 

 
2,370

 

 

 

 

Adjusted net interest income
 
14,385

 
11,045

 
51,281

 
42,759

 
33,676

 
29,717

 
25,327

Divide by average interest earning assets
 
1,007,631

 
895,666

 
955,479

 
825,676

 
671,275

 
531,505

 
467,772

Pro forma net interest margin
 
5.79
%
 
5.00
%
 
5.37
%
 
5.18
%
 
5.02
%
 
5.59
%
 
5.41
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro Forma Net Income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income
 
$
2,990

 
$
1,858

 
$
7,109

 
$
9,441

 
$
7,492

 
$
6,793

 
$
6,857

Add: Non-recurring foregone interest and fees
 

 

 
2,370

 

 

 

 

Add: Non-recurring data processing expenses
 

 

 
2,275

 

 

 

 

Add: Non-recurring deferred tax revaluation
 

 

 
1,386

 

 

 

 

Less: Tax impact of conversion related items (1)
 

 

 
(1,847
)
 

 

 

 

Pro forma net income
 
$
2,990

 
$
1,858

 
$
11,293

 
$
9,441

 
$
7,492

 
$
6,793

 
$
6,857

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro Forma Efficiency Ratio:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total noninterest expense
 
$
13,600

 
$
10,355

 
$
47,306

 
$
43,380

 
$
34,817

 
$
28,821

 
$
24,836

Less: Non-recurring data processing expenses
 

 

 
2,275

 

 

 

 

Adjusted noninterest expense
 
13,600

 
10,355

 
45,031

 
43,380

 
34,817

 
28,821

 
24,836

Net interest income
 
14,385

 
11,045

 
48,911

 
42,759

 
33,676

 
29,717

 
25,326

Add: Noninterest income
 
4,078

 
2,882

 
15,149

 
20,473

 
14,929

 
11,442

 
10,171

Add: Non-recurring foregone interest and fees
 

 

 
2,370

 

 

 

 

Adjusted revenue
 
18,463

 
13,927

 
66,430

 
63,232

 
48,605

 
41,159

 
35,497

Pro forma efficiency ratio
 
73.66
%
 
74.35
%
 
67.79
%
 
68.60
%
 
71.63
%
 
70.02
%
 
69.97
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro Forma Diluted Earnings per Share:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro forma net income
 
$
2,990

 
$
1,858

 
$
11,293

 
$
9,441

 
$
7,492

 
$
6,793

 
$
6,857

Diluted weighted average shares outstanding
 
2,991,576

 
2,824,120

 
2,857,000

 
2,822,261

 
2,622,009

 
2,569,887

 
2,341,649

Pro forma diluted earnings per share
 
$
1.00

 
$
0.66

 
$
3.95

 
$
3.36

 
$
2.96

 
$
2.75

 
$
3.05

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro Forma Return on Average Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro forma net income
 
$
2,990

 
$
1,858

 
$
11,293

 
$
9,441

 
$
7,492

 
$
6,793

 
$
6,857

Average total assets
 
1,015,917

 
902,680

 
964,946

 
832,619

 
679,595

 
541,934

 
471,400

Pro forma return on average assets
 
1.19
%
 
0.83
%
 
1.17
%
 
1.13
%
 
1.10
%
 
1.25
%
 
1.45
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro Forma Return on Average Equity:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pro forma net income
 
$
2,990

 
$
1,858

 
$
11,293

 
$
9,441

 
$
7,492

 
$
6,793

 
$
6,857


 
19
 


 
 
Three Months Ended March 31,
 
Years Ended December 31,
(Dollars are in thousands, except per share information)
 
2018
 
2017
 
2017
 
2016
 
2015
 
2014
 
2013
Average total equity
 
81,619

 
71,928

 
76,543

 
65,590

 
53,883

 
45,775

 
36,965

Pro forma return on average equity
 
14.86
%
 
10.47
%
 
14.75
%
 
14.39
%
 
13.90
%
 
14.84
%
 
18.55
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Tangible Common Equity:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total stockholders’ equity
 
$
83,366

 
$
73,009

 
$
80,119

 
$
70,748

 
$
59,657

 
$
50,216

 
$
42,421

Less: intangible assets
 

 

 

 

 
17

 
39

 
72

Tangible common equity
 
$
83,366

 
$
73,009

 
$
80,119

 
$
70,748

 
$
59,640

 
$
50,177

 
$
42,349

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Tangible Book Value per Share:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total stockholders’ equity
 
$
83,366

 
$
73,009

 
$
80,119

 
$
70,748

 
$
59,657

 
$
50,216

 
$
42,421

Less: intangible assets
 

 

 

 

 
17

 
39

 
72

Tangible common equity
 
$
83,366

 
$
73,009

 
$
80,119

 
$
70,748


$
59,640


$
50,177


$
42,349

Shares of common stock outstanding
 
2,898,775

 
2,794,765

 
2,884,299

 
2,786,174

 
2,556,445

 
2,390,705

 
2,335,715

Tangible book value per share
 
$
28.76

 
$
26.12

 
$
27.78

 
$
25.39

 
$
23.33

 
$
20.99

 
$
18.13

_______________
(1)
Assumes a pro forma income tax rate of 39.75% for the year ended December 31, 2017, which is tax expense exclusive of the effect of the deferred tax revaluation.

 
20
 


RISK FACTORS
Investing in our common stock involves a significant degree of risk. You should carefully consider the following risk factors, in addition to the other information contained in this prospectus, including our consolidated financial statements and related notes, before deciding to invest in our common stock. Any of the following risks, as well as risks that we do not know or that we currently deem immaterial, could have an adverse effect on our business, financial condition, results of operations and future prospects. As a result, the trading price of our common stock could decline, and you could lose all or part of your investment.
Risks Related to Our Business
As a business operating in the financial services industry, our business and operations may be adversely affected in numerous and complex ways by weak economic conditions.
Our business and operations, which primarily consist of lending money to clients in the form of loans, borrowing money from clients in the form of deposits and investing in securities, are sensitive to general business and economic conditions in the United States. If the U.S. economy weakens, our growth and profitability from our lending, deposit and investment operations could be constrained. Uncertainty about the federal fiscal policymaking process, the medium- and long-term fiscal outlook of the federal government and future tax rates is a concern for businesses, consumers and investors in the United States. In recent years there has been a gradual improvement in the U.S. economy as evidenced by a rebound in the housing market, lower unemployment and higher equity capital markets; however, economic growth has been uneven and opinions vary on the strength and direction of the economy. Uncertainties also have arisen regarding the potential for a reversal or renegotiation of international trade agreements, the effects of the Tax Act and the impact such actions and other policies the current administration may have on economic and market conditions.
Weak economic conditions are characterized by numerous factors, including deflation, fluctuations in debt and equity capital markets, a lack of liquidity and depressed prices in the secondary market for mortgage loans, increased delinquencies on mortgage, consumer and commercial loans, residential and commercial real estate price declines and lower home sales and commercial activity. The current economic environment is characterized by interest rates at near historically low levels, which impacts our ability to attract deposits and to generate attractive earnings through our loan and investment portfolios. All of these factors can individually or in the aggregate be detrimental to our business, and the interplay between these factors can be complex and unpredictable. Adverse economic conditions could have a material adverse effect on our business, financial condition and results of operations.
Our commercial business and operations are concentrated in the Washington, D.C. and Baltimore metropolitan areas and we are more sensitive than our more geographically diversified competitors to adverse changes in the local economy.
Unlike many of our larger competitors that maintain significant operations located outside our market area, substantially all of our commercial business clients are located and doing business in the Washington, D.C. and Baltimore metropolitan areas. As of March 31, 2018, approximately 94% of our loans held for investment (measured by dollar amount) were made to borrowers who live or conduct business in the Washington, D.C. and Baltimore metropolitan areas. Therefore, our success depends upon the general economic conditions in this area, which we cannot predict with certainty. As a result, our operations and profitability may be more adversely affected by a local economic downturn in the Washington, D.C. and Baltimore metropolitan areas than those of larger, more geographically diverse competitors. A downturn in the local economy generally could make it more difficult for our borrowers to repay their loans and may lead to loan losses that are not offset by operations in other markets; it may also reduce the ability of our depositors to make or maintain deposits with us. For these reasons, any regional or local economic downturn that affects the Washington, D.C. and Baltimore metropolitan areas, or existing or prospective borrowers or depositors in the Washington, D.C. and Baltimore metropolitan areas could have a material adverse effect on our business, financial condition and results of operations. From time to time, our Bank may provide financing to clients who live or have companies or properties located outside our core markets. In such cases, we would face similar local market risk in those communities for these clients.

 
21
 


Our customers and businesses in the Washington, D.C. metropolitan area may be adversely impacted as a result of changes in government spending.
The Washington, D.C. metropolitan area is characterized by a significant number of businesses that are federal government contractors or subcontractors, or which depend on such businesses for a significant portion of their revenues. While the Company does not have a significant level of loans to federal government contractors or their subcontractors, the impact of a decline in federal government spending, a reallocation of government spending to different industries or different areas of the country or a delay in payments to such contractors, could have a ripple effect. Temporary layoffs, staffing freezes, salary reductions or furloughs of government employees or government contractors could have adverse impacts on other businesses in the Company’s market and the general economy of the greater Washington, D.C. metropolitan area, and may indirectly lead to a loss of revenues by the Company’s customers, including vendors and lessors to the federal government and government contractors or to their employees, as well as a wide variety of commercial and retail businesses. Accordingly, such potential federal government activities could lead to increases in past due loans, nonperforming loans, loan loss reserves and charge-offs, and to a corresponding decline in liquidity.
We may not be able to implement aspects of our growth strategy, which may adversely affect our ability to maintain our historical growth and earnings trends.
We have grown rapidly over the last several years, primarily through organic growth. We may not be able to execute on aspects of our expansion strategy, which may impair our ability to sustain our historical rate of growth or prevent us from growing at all. More specifically, we may not be able to generate sufficient new loans and deposits within acceptable risk and expense tolerances or obtain the personnel or funding necessary for additional growth. Various factors, such as economic conditions and competition with other financial institutions, may impede or prohibit the growth of our operations. Further, we may be unable to attract and retain experienced bankers, which could adversely affect our growth. The success of our strategy also depends on our ability to manage our growth effectively, which depends on a number of factors, including our ability to adapt our credit, operational, technology and governance infrastructure to accommodate expanded operations. If we are successful in continuing our growth, we cannot assure you that further growth would offer the same levels of potential profitability, or that we would be successful in controlling costs and maintaining asset quality in the face of that growth. Accordingly, an inability to maintain growth, or an inability to effectively manage growth, could have an adverse effect on our business, financial condition and results of operations.
We may not be able to measure and limit our credit risk adequately, which could lead to unexpected losses.
The primary component of our business involves making loans to customers. The business of lending is inherently risky, including risks that the principal of or interest on any loan will not be repaid in a timely manner or at all or that the value of any collateral supporting the loan will be insufficient to cover our outstanding exposure. These risks may be affected by the strength of the borrower’s business sector and local, regional and national market and economic conditions. Many of our loans are made to small- to medium-sized businesses that may be less able to withstand competitive, economic and financial pressures than larger borrowers. Our risk management practices, such as monitoring the concentration of our loans within specific industries, and our credit approval practices may not adequately reduce credit risk. Further, our credit administration personnel, policies and procedures may not adequately adapt to changes in economic or any other conditions affecting customers and the quality of the loan portfolio. A failure to measure and limit the credit risk associated with our loan portfolio effectively could lead to unexpected losses and have an adverse effect on our business, financial condition and results of operations.
Our allowance for loan losses may prove to be insufficient to absorb potential losses in our loan portfolio.
We maintain an allowance for loan losses that represents management’s judgment of probable losses and risks inherent in our loan portfolio. As of March 31, 2018, our allowance for loan losses totaled $10.2 million, which represents approximately 1.13% of our total loans held for investment. The level of the allowance reflects management’s continuing evaluation of general economic conditions, diversification and seasoning of the loan portfolio, historic loss experience, identified credit problems, delinquency levels and adequacy of collateral. The determination of the appropriate level of our allowance for loan losses is inherently highly subjective and requires management to make significant estimates

 
22
 


of and assumptions regarding current credit risks and future trends, all of which may undergo material changes. Inaccurate management assumptions, deterioration of economic conditions affecting borrowers, new information regarding existing loans, identification or deterioration of additional problem loans, acquisition of problem loans and other factors (including third-party review and analysis), both within and outside of our control, may require us to increase our allowance for loan losses. In addition, our regulators, as an integral part of their periodic examination, review our methodology for calculating, and the adequacy of, our allowance for loan losses and may direct us to make additions to the allowance based on their judgments about information available to them at the time of their examination. Further, if actual charge-offs in future periods exceed the amounts allocated to our allowance for loan losses, we may need additional provisions for loan losses to restore the adequacy of our allowance for loan losses. Finally, the measure of our allowance for loan losses depends on the adoption and interpretation of accounting standards. The Financial Accounting Standards Board, or FASB, has recently issued a new credit impairment model, the Current Expected Credit Loss, or CECL model, which will become applicable to us on January 1, 2020, though we may choose to adopt CECL on January 1, 2019, or could be encouraged by our regulators to do so. CECL will require financial institutions to estimate and develop a provision for credit losses over the lifetime of the loan at origination, as opposed to reserving for incurred or probable losses up to the balance sheet date. Under the CECL model, credit deterioration would be reflected in the income statement in the period of origination or acquisition of the loan, with changes in expected credit losses due to further credit deterioration or improvement reflected in the periods in which the expectation changes. Accordingly, the CECL model could require financial institutions like the Bank to increase their allowances for loan losses. Moreover, the CECL model may create more volatility in our level of allowance for loan losses. If we are required to materially increase our level of allowance for loan losses for any reason, such increase could adversely affect our business, financial condition and results of operations.
The small- to medium-sized businesses that we lend to may have fewer resources to weather adverse business developments, which may impair our borrowers’ ability to repay loans.
As of March 31, 2018, we had approximately $96.9 million of commercial and industrial loans to businesses, which represents approximately 11% of our total loan portfolio held for investment. Small- to medium-sized businesses frequently have smaller market shares than their competition, may be more vulnerable to economic downturns, often need substantial additional capital to expand or compete and may experience substantial volatility in operating results, any of which may impair a borrower’s ability to repay a loan. In addition, the success of a small- and medium-sized business often depends on the management skills, talents and efforts of a small group of people, and the death, disability or resignation of one or more of these people could have an adverse effect on the business and its ability to repay its loan. If our borrowers are unable to repay their loans, our business, financial condition and results of operations could be adversely affected.
Our commercial real estate and real estate construction loan portfolio exposes us to credit risks that may be greater than the risks related to other types of loans.
As of March 31, 2018, approximately $269.4 million, or 30%, of our total loans held for investment were nonresidential real estate loans (including owner-occupied commercial real estate loans) and approximately $150.8 million, or 17%, of our total loans held for investment were construction loans. Further, as of March 31, 2018, our commercial real estate loans (excluding owner-occupied commercial real estate loans) totaled 130% and our construction loans totaled 157% of our total risk based capital, respectively. These loans typically involve repayment that depends upon income generated, or expected to be generated, by the property securing the loan in amounts sufficient to cover operating expenses and debt service. The availability of such income for repayment may be adversely affected by changes in the economy or local market conditions. These loans expose a lender to the risk of liquidating the collateral securing these loans in times where there may be significant fluctuation of commercial real estate values. Additionally, commercial real estate loans generally involve relatively large balances to single borrowers or related groups of borrowers. Unexpected deterioration in the credit quality of our commercial real estate loan portfolio could require us to increase our allowance for loan losses, which would reduce our profitability and could have an adverse effect on our business, financial condition and results of operations.
Construction loans also involve risks because loan funds are secured by a project under construction and the project is of uncertain value prior to its completion. It can be difficult to accurately evaluate the total funds required to complete

 
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a project, and construction lending often involves the disbursement of substantial funds with repayment dependent, in part, on the success of the ultimate project rather than the ability of a borrower or guarantor to repay the loan. If we are forced to foreclose on a project prior to completion, we may be unable to recover the entire unpaid portion of the loan. In addition, we may be required to fund additional amounts to complete a project, incur taxes, maintenance and compliance costs for a foreclosed property and may have to hold the property for an indeterminate period of time, any of which could adversely affect our business, financial condition and results of operations.
Because a significant portion of our loan portfolio held for investment is comprised of real estate loans, negative changes in the economy affecting real estate values and liquidity could impair the value of collateral securing our real estate loans and result in loan and other losses.
As of March 31, 2018, approximately $775.0 million, or 86%, of our total loans held for investment were loans with real estate as a primary or secondary component of collateral. The market value of real estate can fluctuate significantly in a short period of time. As a result, adverse developments affecting real estate values and the liquidity of real estate in our primary markets could increase the credit risk associated with our loan portfolio, and could result in losses that adversely affect credit quality, financial condition and results of operations. Negative changes in the economy affecting real estate values and liquidity in our market areas could significantly impair the value of property pledged as collateral on loans and affect our ability to sell the collateral upon foreclosure without a loss or additional losses. Collateral may have to be sold for less than the outstanding balance of the loan, which could result in losses on such loans. Such declines and losses would have an adverse effect on our business, financial condition and results of operations. If real estate values decline, it is also more likely that we would be required to increase our allowance for loan losses, which would adversely affect our business, financial condition and results of operations.
A portion of our loan portfolio is comprised of commercial loans secured by receivables, inventory, equipment or other commercial collateral, the deterioration in value of which could expose us to credit losses.
As of March 31, 2018, approximately $96.9 million, or 11%, of our total loans held for investment were commercial loans to businesses. In general, these loans are collateralized by general business assets, including, among other things, accounts receivable, inventory and equipment, and most are backed by a personal guaranty of the borrower or principal. These commercial loans are typically larger in amount than loans to individuals and, therefore, have the potential for larger losses on a single loan basis. Additionally, the repayment of commercial loans is subject to the ongoing business operations of the borrower. The collateral securing such loans generally includes movable property such as equipment and inventory, which may decline in value more rapidly than we anticipate exposing us to increased credit risk. Significant adverse changes in the economy or local market conditions in which our commercial lending customers operate could cause rapid declines in loan collectability and the values associated with general business assets resulting in inadequate collateral coverage that may expose us to credit losses and could adversely affect our business, financial condition and results of operations.
Our concentration of large loans to a limited number of borrowers may increase our credit risk.
Our growth over the last several years has been partially attributable to our ability to originate and retain large loans. In addition to regulatory limits to which the Bank is subject, we have established an internal policy limiting loans to one borrower, principal or guarantor based on “total exposure,” which represents the aggregate exposure of economically related borrowers for approval purposes; loans in excess of our internal limit require acknowledgment by the Loan Committee of the Bank’s board of directors. Many of these loans have been made to a small number of borrowers, resulting in a concentration of large loans to certain borrowers. As of March 31, 2018, our 10 largest borrowing relationships accounted for approximately 9% of our total loan portfolio held for investment. Along with other risks inherent in these loans, such as the deterioration of the underlying businesses or property securing these loans, this high concentration of borrowers presents a risk to our lending operations. If any one of these borrowers becomes unable to repay its loan obligations as a result of economic or market conditions, or personal circumstances, such as divorce or death, our non-accrual loans and our allowance for loan and lease losses could increase significantly, which could have a material adverse effect on our assets, business, cash flow, condition (financial or otherwise), liquidity, prospects and results of operations.

 
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Appraisals and other valuation techniques we use in evaluating and monitoring loans secured by real property, other real estate owned and repossessed personal property may not accurately describe the net value of the asset.
In considering whether to make a loan secured by real property, we generally require an appraisal of the property. However, an appraisal is only an estimate of the value of the pr