ITEM 1A. RISK FACTORS
Any of the following risks could harm our business, results of operations and financial condition
and an investment in our
stock.
The risks discussed below also include forward-looking statements, and our
actual results may differ substantially
from those discussed in these forward-looking statements.
Risk Factor Summary
The following summarizes the risks provided after this summary and is qualified
by the more detailed discussion of “Risk
Factors” that follows this Summary,
and which should be read in their entirety.
Our risks include operational risks,
financial risks and legal and regulatory risks, which are related and intertwined
as discussed more fully in the Risk Factors
that follow this summary.
Operational risks are inherent in our business, and include:
●
The effects of local, national and regional market and economic conditions and
cyclicality, including inflation,
interest rates and their effects on borrowers and markets, including real estate
markets
●
The risks and costs of nonperforming assets
●
Our allowance for credit losses is based on estimates and judgments and may prove to be
inadequate to our credit
risks
●
The soundness of other financial institutions and perceptions regarding our industry,
especially when other banks
experience difficulties or fail
●
Our concentrations in commercial real estate loans in our market
●
We operate
in a highly competitive market against a number of larger national and regional
competitors
●
Future acquisitions may disrupt our business, dilute shareholder value and adversely affect
our operating results
and financial condition, among other risks
●
Technological changes affect
our business, and we may have fewer resources than various of our larger
regulated
and unregulated competitors, inside and outside our market area,
which may increase the competition we face
●
Potential gaps in our risk management, including managing the risks to us of data
security and cybersecurity,
including risks to our service providers could affect our results of operations, financial
condition, customer
relationship and reputation
●
Our ability to attract and retain key people
●
Risks of severe weather, natural disasters, climate changes,
epidemics and severe health issues in the population,
wars and acts of terrorism and other events
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Financial risks result in part from our operational risks and the risk of our business, and include:
●
Increases in costs of funds due to inflation, monetary and fiscal policies, changes in
costumer behaviors and
competitive pressures
●
Our results of operations and financial condition, including the values of our assets and liquidity,
may be affected
by changes in interest rates and interest rate levels, the shape of the yield curve and economic conditions
●
Liquidity risks, including the costs and availability of funding, and the liquidity of our assets,
including our
investment securities portfolio, and institutional lending sources
●
Changes in accounting and tax rules
●
The adequacy of our capital and availability of capital, if needed
●
Potentially excessive risk taking by our associates
●
Our ability to pay dividends depends on our earnings, liquidity and regulatory requirements
related to our capital
and our risks
●
A limited trading market exists for our common stock
Legal and regulatory risks include:
●
The Company is a legal entity separate and distinct from the Bank, and transactions
between the Bank and the
Company are limited by law
●
The Company is required to be a source of financial and managerial strength to
the Bank, even where further
investment in the Bank may not be warranted in the circumstances
●
The scope, volume and complexity of regulations and regulatory and legal changes affect
us, increase the time and
costs of compliance and may limit our business and adversely affect our
financial condition and results of
operations
●
Litigation, investigations and other claims by government agencies and private parties and
regulatory actions,
including those related to assertions of compliance failures
●
The amount of and changes in the capital we are required to maintain in respect of our business
and risk, and
regulatory perceptions of us and our industry
●
Liquidity requirements
Operational Risks
Market conditions and economic cyclicality may adversely affect our industry.
We believe the following,
among other things, may affect us in 2024:
●
The COVID-19 pandemic disrupted the economy beginning late in the first quarter of 2020.
Auburn University,
government agencies and businesses were limited to remote work and gatherings
were limited.
Supply chains
continue to be disrupted and labor markets remain tight.
Hotels, motels, restaurants, retail and shopping centers
were especially affected.
COVID-19 continues, but with diminishing direct economic effects
due to population
health, generally.
President Biden has terminated the COVID-19 national emergencies
effective May 11, 2023.
●
Extraordinary monetary and fiscal stimulus in 2020 and in early 2021
offset certain of the pandemic’s adverse
economic effects, but together with supply chain disruptions,
continued consumer demand, Russia’s invasion
of
Ukraine and its effects on energy and food prices, and tight labor
markets, have resulted in inflation.
Inflation is
running at levels unseen in decades and well above the Federal Reserve’s
long term inflation goal of 2.0%
annually.
Beginning in March 2022, the Federal Reserve has been raising target
federal funds interest rates and
reducing its securities holdings in an effort to reduce inflation.
The nature and timing of any future changes in
monetary and fiscal policies and their effect on us cannot be predicted.
At the end of 2023, many believed that the
Federal Reserve would loosen its monetary policy in response to inflation,
which was declining, but remained
above the Fed’s 2% long term target
level.
Strong economic data and inflation reports since then appear to have
reduced expectations as to the number, timing and size of
any reductions in the target federal funds rate in the near
term.
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●
Market developments, including unemployment, price levels, stock and
bond market volatility, and changes,
including those resulting from Russia’s
invasion of Ukraine affect consumer confidence levels, economic
activity
and inflation.
Increases in market interest rates, inflation and consumer and business confidence
may cause
changes in customers’ savings and payment behaviors, including potential increases in
loan delinquencies and
default rates.
These could affect our earnings and credit quality.
●
Our ability to assess the creditworthiness of our customers and those we do business
with, and the values of our
assets and loan collateral may be adversely affected and less
predictable as a result of inflation and higher market
interest rates
We adopted
CECL on January 1, 2023 as required by generally accepted accounting principles
(“GAAP”).
CECL changed the loss model to take into account current expected credit losses in place
of the
incurred loss method used historically under GAAP.
This changes the process we use to estimate losses inherent
in our credit exposures.
The process for estimating expected losses requires difficult,
subjective, and complex
judgments, including forecasts of economic conditions and how those economic predictions
might affect the
ability of our borrowers to repay their loans or the value of assets.
Changes in economic conditions and factors
used in our CECL models may increase the variability of our provisions for loan losses and
our earnings.
Nonperforming and similar assets take significant time to resolve
and may adversely affect our results of operations
and
financial condition.
Our nonperforming loans were 0.16% of total loans as of December
31, 2023, and we had no other real estate owned as
result of foreclosures or otherwise in full or partial payments in respect of loans (“OREO”).
Non-performing assets may
adversely affect our net income in various ways.
We do
not record interest income on nonaccrual loans or OREO and these
assets require higher loan administration and other costs, thereby adversely affecting
our income.
Decreases in the value of
these assets, or the underlying collateral, or in the related borrowers’ performance or financial
condition, whether or not due
to economic and market conditions beyond our control, could adversely affect
our business, results of operations and
financial condition.
In addition, the resolution of nonperforming assets requires commitments of time
from management,
which can be detrimental to the performance of their other responsibilities. Our non-performing
assets may be adversely
affected by loan deferrals and modifications made in response
to the pandemic and the moratoria on foreclosures and
evictions.
There can be no assurance that we will not experience increases in nonperforming
loans in the future, much of
which is affected by the economy and the levels of interest rates, generally.
Our allowance for loan losses may prove inadequate
or we may be negatively affected by credit risk exposures.
We periodically review our
allowance for loan losses for adequacy considering economic conditions and trends,
collateral
values and credit quality indicators, including past charge-off experience and
levels of past due loans and nonperforming
assets.
We cannot be
certain that our allowance for loan losses will be adequate over time to cover
credit losses in our
portfolio because of unanticipated adverse changes in the economy,
including the continuing effects of the pandemic and
fiscal and monetary response to COVID-19 and the shift beginning in March 2022
from an extraordinarily expansionary
monetary policies to a tightening monetary policy to fight inflation,
market conditions or events adversely affecting specific
customers, industries or markets, including disruptions of supply chains and the
war in Ukraine, and changes in borrower
behaviors.
Certain borrowers and their businesses and real estate and commercial projects
and businesses may be adversely
affected by inflation and higher interest rates, and economic slowdowns
arising from tighter monetary policies, and may
request or need loan modifications and deferrals.
Various
businesses will be unable to fully pass on increased costs due to
inflation, and their profits may shrink.
If the credit quality of our customer base materially decreases, if the risk profile
of
the market, industry or group of customers changes materially or weaknesses in the real estate
markets worsen, borrower
payment behaviors change, or if our allowance for loan losses is not adequate, our business,
financial condition, including
our liquidity and capital, and results of operations could be materially adversely affected.
CECL, a new accounting
standard for estimating expected future loan losses, is effective for
the Company beginning January 1, 2023, and its effects
upon the Company in the current environment have not yet been determined
fully due to its short existence.
The CECL
model incorporates various economic condition elements, where changes
in fiscal and monetary policy, as
well as market
interest rates, could result in more volatility in our provisions for loan losses
under CECL, which could adversely affect our
net income.
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Changes in the real estate markets, including the
secondary market for residential mortgage loans, may continue
to
adversely affect us.
Beginning in March 2022, inflation and the Federal monetary policies to increase interest rates
to fight inflation have
caused mortgage rates to increase significantly.
Higher interest rates and the increased level of housing costs as a result
of
the COVID-19 pandemic, have caused housing starts and sales to slow.
Inventories of existing homes for sale have
remained generally low, and
many believe that higher mortgage rates are adversely affecting potential
sellers from selling
their existing houses and incurring higher mortgage interest rates on their replacement
home.
These conditions have
adversely affected housing affordability and increased
monthly mortgage payments.
House prices have begun to decline in
certain markets from their earlier highs.
This adversely affects our mortgage loan productions and the value of residential
mortgage collateral.
Commercial real estate projects’ economic assumptions may be adversely affected,
and certain
projects with short term and/or unhedged variable rate debt may be especially affected
by increased interest rates and a
slower economy.
The CFPB’s mortgage and servicing rules, including
TRID rules for closed end credit transactions, enforcement actions,
reviews and settlements, affect the mortgage markets and our mortgage operations.
The CFPB requires that lenders
determine whether a consumer has the ability to repay a mortgage loan have limited the
secondary market for and liquidity
of many mortgage loans that are not “qualified mortgages.”
Recently adopted changes to the CFPB’s
qualified mortgage
rules are reportedly being reconsidered.
The Tax Cuts and Jobs
Act’s (the “2017 Tax
Act”) limitations on the deductibility of residential mortgage interest and state
and local property and other taxes and federal moratoria on single-family
foreclosures and rental evictions could adversely
affect consumer behaviors and the volumes of housing sales,
mortgage and home equity loan originations, as well as the
value and liquidity of residential property held as collateral by lenders such as the Bank, and
the secondary markets for
single and multi-family loans.
Acquisition, construction and development loans for residential development
may be
similarly adversely affected.
Fannie Mae and Freddie Mac (“GSEs”) have been in conservatorship since September
2008.
Since Fannie Mae and
Freddie Mac dominate the residential mortgage markets, any changes in their operations
and requirements, as well as their
respective restructurings and capital, could adversely affect the
primary and secondary mortgage markets, and our
residential mortgage businesses, our results of operations and the returns on capital deployed
in these businesses.
The
timing and effects of resolution of these government sponsored enterprises
cannot be predicted.
We may be contractually
obligated to repurchase
mortgage loans we sold to third parties on terms unfavorable
to us.
As part of its routine business, the Company originates mortgage loans that it subsequently
sells in the secondary market,
generally to Fannie Mae, a GSE.
In connection with the sale of these loans, the Company makes customary representations
and warranties, the breach of which may result in the Company being required to
repurchase the loan or loans.
Furthermore, the amount paid may be greater than the fair value of the loan or loans at the time of the
repurchase.
Although mortgage loan repurchase requests made to us have been limited, if these increased,
we may have to establish
reserves for possible repurchases and adversely affect our results of operation
and financial condition.
Mortgage servicing rights requirements
may change and require
us to incur additional costs and risks.
The CFPB’s residential mortgage servicing
standards may adversely affect our costs to service residential
mortgage loans.
The effects of reduced housing starts and mortgage activity due to
higher market interest rates, have decreased our
generation of new mortgage loans and related MSRs.
This may be offset partially by decreases in mortgage prepayments
and refinancings, and corresponding increases in the duration of our existing MSRs
and their values.
This net effect could
reduce our aggregate income from servicing these types of loans and make it more difficult
and costly to timely realize the
value of collateral securing such loans upon a borrower default.
The Basel III Rules relating to MSRs may also increase the
potential capital required as a result of MSRs, when considered with other capital rule adjustments
and deductions.
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The soundness of other financial institutions could adversely affect us.
We routinely execute
transactions with counterparties in the financial services industry,
including brokers and dealers,
central clearinghouses, banks, including our correspondent banks and other
financial institutions.
Our ability to engage in
routine investment and banking transactions, as well as the quality and values of our investments in
holdings of other
obligations of other financial institutions such as the FHLB-Atlanta, could be adversely
affected by the actions, financial
condition, and profitability of such other financial institutions, including the FHLB-Atlanta
and our correspondent banks.
Financial services institutions are interrelated as a result of shared credits,
trading, clearing, counterparty and other
relationships.
Most LIBOR reference interest rates used by many financial institutions to
price extensions of credit stopped
being quoted June 30, 2023 and their use has been strongly discouraged by regulatory agencies.
Most banks did not adopt
CECL until January 1, 2023.
The failures of Silicon Valley
Bank, Signature Bank and First Republic Bank in 2023 due to concentrations of deposits and
depositors holding large amounts of deposits in excess of FDIC insurance limits,
as well as flawed business models and
management, adversely affected the financial system and public confidence.
These have resulted in increased regulatory
scrutiny of bank liquidity, funding and
capital, depressed bank stock values generally,
and higher FDIC deposit insurance
premiums on the largest banks, as well as regulatory proposals to increase large
banks’ capital and expand enhanced
prudential standards starting at $100 billion of assets instead of $250 billion.
The federal bank regulators have been advocating more use of the Federal Reserve discount
window to improve bank
liquidity.
At the same time, these bank failures, together with the failure of the very small
Heartland State bank in Kansas
due to apparent embezzlement by its president due to losses from his personal crypto trading,
have also led to calls to
reduce Federal Home Loan Bank lending to banks.
Traditionally,
the Federal Home Loan Banks have been stable sources
of liquidity and funding for banks. The Federal Housing Finance Agency (“FHFA)
regulates the Federal Home Loan
Banks.
The FHFA’s
FHLBank System at 100: Focusing on the Future
(Nov. 2023) suggest less traditional Federal
Home
Loan Bank lending to banks, especially banks experiencing financial stress.
These changes, together with any exposures other institutions may have
to crypto or digital assets, or cybersecurity and data
breaches, could cause disruption and unexpected changes in the industry.
Any losses, defaults by, or failures of, the
institutions we do business with could adversely affect our holdings of
the equity in such other institutions, our
participation interests in loans originated by other institutions, and our business,
including our liquidity,
financial condition
and earnings.
Failures of several banks earlier in 2023
and in early 2024 have resulted in increased
market volatility for financial service
companies’
securities
and
in
changes
in
regulatory
views
and
emphases
that
may
adversely
affect
us
and
may
not
be
disclosable under law.
The failures of
Silicon Valley
Bank, Signature Bank,
First Republic
and Heartland
Tri-State Bank
in 2023 have
resulted in
significant
market
volatility
for
bank
stocks,
and
have
caused
uncertainty
in
the
investor
community
and
among
bank
customers, generally,
greater bank regulatory scrutiny
of banking organizations,
especially those experiencing
rapid growth
and
regional
banks
with
$100
billion
or
more
in
assets.
Similarly
concerns
about
credit
quality
and
capital
adequacy
at
New York
Community Bank following
two acquisitions raised
market concerns and led to
replacement of management and
a dilutive equity capital raise.
Changes
in
regulations
have
been
proposed
as part
of
the Basel
III
endgame
to
the capital,
liquidity,
long
term
debt
and
resolution planning
of banking
organizations
with over
$100 billion
in assets.
These failures
also have
resulted in
market
volatility in
financial services
securities.
Regulators have
focused supervisory
activities, generally,
at all
sizes of
banking
organizations
on
various
risks,
especially
capital
adequacy
and
liquidity
in
light
of
growth,
asset,
liability
and
customer
concentrations
and
risks;
CRE,
levels
of
uninsured
deposits;
crypto
businesses
and
customers;
strategic,
capital
and
liquidity
plans
and
contingency
plans;
and
risk
management.
Such
enhanced
scrutiny
is
often
applied
as
part
of
the
regulatory examination
processes, as
well as