Item 1A. Risk Factors
An investment in our securities involves risks. Stockholders should carefully consider the risks described below, together with all other information contained in this Annual Report on Form 10-K, before making any purchase or sale decisions regarding our securities. If any of the following risks actually occur, our business, financial condition or operating results may be harmed. In that case, the trading price of our securities may decline, and stockholders may lose part or all of their investment in our securities.
Risks Applicable to Our Business:
The ongoing COVID-19 pandemic and measures intended to prevent its spread could have a material adverse effect on our business,results of operations and financial condition, and such effects will depend on future developments, which are highly uncertain and aredifficult to predict.
Global health concerns relating to the COVID-19 outbreak and its variants and related government actions taken to reduce the spread of the virus have weighed on the macroeconomic environment in our New Jersey/New York metropolitan market trade area, and the outbreak has significantly increased economic uncertainty and reduced economic activity. The outbreak has resulted in authorities implementing numerous measures to try to mitigate the virus, and such measures, even as certain of them have been eased, have impacted consumer and business spending.
In addition, the pandemic has changed consumer and employee behavior, such as through the rise in working from home, in ways that may negatively impact the overall economy of our Metropolitan New York economy and the businesses of our customers. The United States government has taken steps to attempt to mitigate some of the more severe anticipated economic effects of the virus, including the passage of the CARES Act and the Economic Aid Act, but there can be no assurance that such steps will be effective or achieve their desired results in a timely fashion.
The outbreak has adversely impacted and is likely to further adversely impact our workforce and operations and the operations of our borrowers, clients and business partners. In particular, we may experience financial losses due to a number of operational factors impacting us or our borrowers, clients or business partners, including but not limited:
o declines in collateral values;
These factors may remain prevalent for a significant period of time and may continue to adversely affect our business, results of operations and financial condition even after the COVID-19 outbreak has subsided.
The extent to which the coronavirus outbreak impacts our business, results of operations and financial condition will depend on future developments, which are highly uncertain and are difficult to predict, including, but not limited to, the duration and spread of the outbreak, its severity, new variants of the virus and their impact, the actions to contain the virus or treat its impact, and how quickly and to what extent normal economic and operating conditions resume. Even after the COVID-19 outbreak has subsided, we may continue to experience materially adverse impacts to our business as a result of the virus’s global economic impact, including the availability of credit, adverse impacts on our liquidity and any recession that has occurred or may occur in the future.
There are no comparable recent events that provide guidance as to the effect the spread of COVID-19 as a global pandemic may have, and, as a result, the ultimate impact of the outbreak is highly uncertain and subject to change. We do not yet know the full extent of the impacts on our business, our operations or the global economy as a whole. However, the effects could have a material impact on our results of operations and heighten many of our known risks described in this “Risk Factors” section.
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Our growth-oriented business strategy could be adversely affected if we are not able to attract and retain skilled employees or if we lose the services of our senior management team.
We may not be able to successfully manage our business as a result of the strain on our management and operations that may result from growth. Our ability to manage growth will depend upon our ability to continue to attract, hire and retain skilled employees. The loss of members of our senior management team, including those officers named in the summary compensation table of our proxy statement, could have a material adverse effect on our results or operations and ability to execute our strategic goals. Our success will also depend on the ability of our officers and key employees to continue to implement and improve our operational and other systems, to manage multiple, concurrent client relationships and to hire, train and manage our employees.
We may need to raise additional capital to execute our growth-oriented business strategy.
In order to continue our growth, we will be required to maintain our regulatory capital ratios at levels higher than the minimum ratios set by our regulators. We can offer you no assurances that we will be able to raise capital in the future, or that the terms of any such capital will be beneficial to our existing security holders. In the event we are unable to raise capital in the future, we may not be able to continue our growth strategy.
We have a significant concentration in commercial real estate loans.
Our loan portfolio is made up largely of commercial real estate loans. These types of loans generally expose a lender to a higher degree of credit risk of non-payment and loss than do residential mortgage loans because of several factors, including dependence on the successful operation of a business or a project for repayment, and loan terms with a balloon payment rather than full amortization over the loan term. In addition, commercial real estate loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to one-to four-family residential mortgage loans. Underwriting and portfolio management activities cannot completely eliminate all risks related to these loans. Any significant failure to pay on time by our clients or a significant default by our clients would materially and adversely affect us.
As of December 31, 2022, we had $6.2 billion of commercial real estate loans (nonowner-occupied, owner-occupied and multifamily), including construction loans, which represented 76.3% of loans receivable. Concentrations in commercial real estate are monitored by regulatory agencies and subject to scrutiny. Guidance from these regulatory agencies includes all commercial real estate loans, including commercial construction loans, in calculating our commercial real estate concentration, but excludes owner-occupied commercial real estate loans. Based on this regulatory definition, our commercial real estate loans represented 483% of the Bank’s Tier 1 capital plus the allowance for credit losses on loans.
Loans secured by owner-occupied real estate are reliant on the operating businesses to provide cash flow to meet debt service obligations, and as a result may be more susceptible to the general impact on the economic environment affecting those operating companies as well as the real estate.
The impact of the COVID-19 pandemic and the development of remote work or hybrid work models on the metropolitan New York area commercial real estate market is uncertain, causing volatility in rents in certain core urban markets. Many other factors, including the exchange rate for the U.S. dollar, potential international trade tariffs, inflation and changes in federal tax laws affecting the deductibility of state and local taxes and mortgage interest could negatively impact our local economy and real estate market. Accordingly, it may be more difficult for commercial real estate borrowers to repay their loans in a timely manner, as commercial real estate borrowers’ ability to repay their loans frequently depends on the successful development of their properties. The deterioration of one or a few of our commercial real estate loans could cause a material increase in our level of nonperforming loans, which would result in a loss of revenue from these loans and could result in an increase in the provision for credit losses and/or an increase in charge-offs, all of which could have a material adverse impact on our net income. We also may incur losses on commercial real estate loans due to declines in occupancy rates and rental rates, which may decrease property values and may decrease the likelihood that a borrower may find permanent financing alternatives. Any weakening of the commercial real estate market may increase the likelihood of default of these loans, which could negatively impact our loan portfolio’s performance and asset quality. If we are required to liquidate the collateral securing a loan to satisfy the debt during a period of reduced real estate values, we could incur material losses. Any of these events could increase our costs, require management time and attention, and materially and adversely affect us.
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Federal banking agencies have issued guidance regarding high concentrations of commercial real estate loans within bank loan portfolios. The guidance requires financial institutions that exceed certain levels of commercial real estate lending compared with their total capital to maintain heightened risk management practices that address the following key elements: board and management oversight and strategic planning, portfolio management, development of underwriting standards, risk assessment and monitoring through market analysis and stress testing, and maintenance of increased capital levels as needed to support the level of commercial real estate lending. If there is any deterioration in our commercial real estate portfolio or if our regulators conclude that we have not implemented appropriate risk management practices, it could adversely affect our business, and could result in the requirement to maintain increased capital levels. Such capital may not be available at that time and may result in our regulators requiring us to reduce our concentration in commercial real estate loans.
If we are limited in our ability to originate loans secured by commercial real estate, we may face greater risk in our loan portfolio.
If, because of our concentration of commercial real estate loans, or for any other reasons, we are limited in our ability to originate loans secured by commercial real estate, we may incur greater risk in our loan portfolio. For example, we are and may continue to seek to further increase our growth rate in commercial and industrial loans, including both secured and unsecured commercial and industrial loans. Unsecured loans generally involve a higher degree of risk of loss than do secured loans because, without collateral, repayment is wholly dependent upon the success of the borrowers’ businesses and personal guarantees. Secured commercial and industrial loans are generally collateralized by accounts receivable, inventory, equipment or other assets owned by the borrower and typically include a personal guaranty of the business owner. Compared to real estate, that type of collateral is more difficult to monitor, its value is harder to ascertain, it may depreciate more rapidly, and it may not be as readily saleable if repossessed. Therefore, we may be exposed to greater risk of loss on these credits.
The nature and growth rate of our commercial loan portfolio may expose us to increased lending risks.
Given the significant growth in our loan portfolio, many of our commercial real estate loans are unseasoned, meaning that they were originated relatively recently. As of December 31, 2022, we had $5.8 billion in commercial real estate loans outstanding. Approximately 67.4% of the loans, or $3.9 billion, had been originated in the past three years. As a result, it may be difficult to predict the future performance of our loan portfolio. These loans may have delinquency or charge-off levels above our expectations, which could negatively affect our performance.
The small-to medium-sized businesses that the Bank lends to may have fewer resources to weather a downturn in the economy, which may impair a borrower’s ability to repay a loan to the Bank that could materially harm our operating results.
The Bank targets its business development and marketing strategy primarily to serve the banking and financial services needs of small-to medium-sized businesses. These small-to medium-sized businesses frequently have smaller market share than their competition, may be more vulnerable to economic downturns, often need substantial additional capital to expand or compete and may experience significant volatility in operating results. Any one or more of these factors may impair the borrower’s ability to repay a loan. In addition, the success of a small-to medium-sized business often depends on the management talents and efforts of one or two persons or a small group of persons, and the death, disability or resignation of one or more of these persons could have a material adverse impact on the business and its ability to repay a loan. Economic downturns and other events that negatively impact our market areas could cause the Bank to incur substantial credit losses that could negatively affect our results of operations and financial condition.
Our ability to maintain our reputation is critical to the success of our business and the failure to do so may materially adversely affect our performance.
Our reputation is one of the most valuable components of our business. As such, we strive to conduct our business in a manner that enhances our reputation. This is done, in part, by recruiting, hiring and retaining employees who share our core values of being an integral part of the communities we serve, delivering superior service to our clients and caring about our clients and associates. If our reputation is negatively affected, by the actions of our employees or otherwise, our business and, therefore, our operating results may be materially adversely affected.
Anti-takeover provisions in our corporate documents and in New Jersey corporate law may make it difficult and expensive to remove current management.
Anti-takeover provisions in our corporate documents and in New Jersey law may render the removal of our existing board of directors and management more difficult. Consequently, it may be difficult and expensive for our stockholders to remove current management, even if current management is not performing adequately.
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Competition in originating loans and attracting deposits may adversely affect our profitability.
We face substantial competition in originating loans. This competition currently comes principally from other banks, savings institutions, mortgage banking companies, credit unions and other lenders, including online “fintech” companies. Many of our competitors enjoy advantages, including greater financial resources and higher lending limits, a wider geographic presence, more accessible branch office locations, the ability to offer a wider array of services or more favorable pricing alternatives, as well as lower origination and operating costs. This competition could reduce our net income by decreasing the number and size of loans that we originate and the interest rates we may charge on these loans.
In attracting deposits, we face substantial competition from other insured depository institutions such as banks, savings institutions and credit unions, as well as institutions offering uninsured investment alternatives, including money market funds. Many of our competitors enjoy advantages, including greater financial resources, more aggressive marketing campaigns, better brand recognition and more branch locations.
These competitors may offer higher interest rates than we do, which could decrease the deposits that we attract or require us to increase our rates to retain existing deposits or attract new deposits.
We have also been active in competing for New York and New Jersey governmental and municipal deposits. As of December 31, 2022, governmental and municipal deposits accounted for approximately $797.6 million in deposits. The governor of New Jersey has proposed that the state form and own a bank in which governmental and municipal entities would deposit their excess funds, with the state-owned bank then financing small businesses and municipal projects in New Jersey. Although this proposal is in the very early stages, should this proposal be adopted and a state-owned bank formed, it could impede our ability to attract and retain governmental and municipal deposits.
Increased deposit competition could adversely affect our ability to generate the funds necessary for lending operations, which may increase our cost of funds.
We also compete with non-bank providers of financial services, such as brokerage firms, consumer finance companies, insurance companies and governmental organizations, which may offer more favorable terms. Some of our non-bank competitors are not subject to the same extensive regulations that govern our operations. As a result, such non-bank competitors may have advantages over us in providing certain products and services. This competition may reduce or limit our margins on banking services, reduce our market share and adversely affect our earnings and financial condition.
In addition, the banking industry in general faces competition for deposit, credit and money management products from non-bank technology firms, or fintech companies, which may offer products independently or through relationships with insured depository institutions.
External factors, many of which we cannot control, may result in liquidity concerns for us.
Liquidity risk is the potential that the Bank may be unable to meet its obligations as they come due, capitalize on growth opportunities as they arise, or pay regular dividends because of an inability to liquidate assets or obtain adequate funding on a timely basis, at a reasonable cost and within acceptable risk tolerances.
Liquidity is required to fund various obligations, including credit commitments to borrowers, mortgage and other loan originations, withdrawals by depositors, repayment of borrowings, operating expenses, capital expenditures and dividend payments to shareholders.
Liquidity is derived primarily from deposit growth and retention; principal and interest payments on loans; prepayment and maturities of loans; principal and interest payments on investment securities; sale, maturity and prepayment of investment securities; net cash provided from operations, and access to other funding sources. In addition, in recent periods we have substantially increased our use of alternate deposit origination channels, such as brokered deposits, including reciprocal deposit services, and internet listing services.
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Our access to funding sources in amounts adequate to finance our activities could be impaired by factors that affect us specifically or the financial services industry in general. Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of our business activity due to market factors or an adverse regulatory action against us. In addition, our ability to use alternate deposit origination channels could be substantially impaired if we fail to remain “well capitalized”. Our ability to borrow could also be impaired by factors that are not specific to us, such as a severe disruption of the financial markets or negative views and expectations about the prospects for the financial services industry as a whole. Furthermore, regional and community banks generally have less access to the capital markets than do the national and super-regional banks because of their smaller size and limited analyst coverage. Any decline in available funding could adversely impact our ability to originate loans, invest in securities, meet our expenses, or fulfill obligations such as meeting deposit withdrawal demands, any of which could have a material adverse impact on our liquidity, business, results of operations and financial condition.
Declines in the value of our investment securities portfolio may adversely impact our results.
As of December 31, 2022, we had approximately $634.9 million in investment securities, available-for-sale. We may be required to record impairment charges on our investment securities if they suffer a decline in value below their amortized cost basis that is considered credit related. Numerous factors, including lack of liquidity for re-sales of certain investment securities, absence of reliable pricing information on investment securities, adverse changes in business climate, adverse actions by regulators, or unanticipated changes in the competitive environment could have a negative effect on our investment portfolio in future periods. If an impairment charge is significant enough, it could affect the ability of the Bank to upstream dividends to the Company, which could have a material adverse effect on our liquidity and our ability to pay dividends to shareholders and could also negatively impact our regulatory capital ratios.
The Bank’s ability to pay dividends is subject to regulatory limitations, which, to the extent that the Company requires such dividends in the future, may affect the Company’s ability to honor its obligations and pay dividends.
As a bank holding company, the Company is a separate legal entity from the Bank and its subsidiaries and does not have significant operations. We currently depend on the Bank’s cash and liquidity to pay our operating expenses and to fund dividends to shareholders. We cannot assure you that in the future the Bank will have the capacity to pay the necessary dividends and that we will not require dividends from the Bank to satisfy our obligations. Various statutes and regulations limit the availability of dividends from the Bank. It is possible, depending upon our and the Bank’s financial condition and other factors, that bank regulators could assert that payment of dividends or other payments by the Bank are an unsafe or unsound practice. In the event that the Bank is unable to pay dividends, we may not be able to service our obligations, as they become due, or pay dividends on our capital stock. Consequently, the inability to receive dividends from the Bank could adversely affect our financial condition, results of operations, cash flows and prospects.
In addition, as described under “Capital Adequacy Guidelines,” banks and bank holding companies are required to maintain a capital conservation buffer on top of minimum risk-weighted asset ratios. The capital conservation buffer is 2.5%. Banking institutions which do not maintain capital in excess of the capital conservation buffer will face constraints on the payment of dividends, equity repurchases, and compensation based on the amount of the shortfall. Accordingly, if the Bank fails to maintain the applicable minimum capital ratios and the capital conservation buffer, distributions to the Company may be prohibited or limited.
We may not be able to pay dividends on our common stock if we have not made required dividend payments on our outstanding, noncumulative preferred stock.
We have a series of outstanding perpetual preferred stock, our 5.25% Fixed-Rate Reset Non-Cumulative Perpetual Preferred Stock, Series A. The rights of the preferred stockholders to receive dividends are senior to the rights of our common holders, although the preferred dividend rights are non-cumulative. Therefore, unless all dividends due on our outstanding preferred stock have been declared and paid for the most recent dividend period provided for under the terms of the preferred stock, we may not pay a dividend on our common stock or repurchase shares of our common stock during that period.
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We may incur impairment to goodwill.
We review our goodwill at least annually. Significant negative industry or economic trends, reduced estimates of future cash flows or disruptions to our business, could indicate that goodwill might be impaired. Our valuation methodology for assessing impairment requires management to make judgments and assumptions based on historical experience and to rely on projections of future operating performance. We operate in a competitive environment and projections of future operating results and cash flows may vary significantly from actual results. Additionally, if our analysis results in an impairment to our goodwill, we would be required to record a non-cash charge to earnings in our financial statements during the period in which such impairment is determined to exist. Any such charge could have a material adverse effect on our results of operations.
We have grown and may continue to grow through acquisitions.
Since January 1, 2019, we have acquired GHB, BoeFly and BNJ. To be successful as a larger institution, we must successfully integrate the operations and retain the clients of acquired institutions, attract and retain the management required to successfully manage larger operations, and control costs.
Future results of operations will depend in large part on our ability to successfully integrate the operations of the acquired institutions and retain the clients of those institutions. If we are unable to successfully manage the integration of the separate cultures, client bases and operating systems of the acquired institutions, and any other institutions that may be acquired in the future, our results of operations may be adversely affected.
In addition, to successfully manage substantial growth, we may need to increase noninterest expenses through additional personnel, leasehold and data processing costs, among others. In order to successfully manage growth, we may need to adopt and effectively implement policies, procedures and controls to maintain credit quality, control costs and oversee our operations. No assurance can be given that we will be successful in this strategy.
We may be challenged to successfully manage our business as a result of the strain on management and operations that may result from growth. The ability to manage growth will depend on our ability to continue to attract, hire and retain skilled employees. Success will also depend on the ability of officers and key employees to continue to implement and improve operational and other systems, to manage multiple, concurrent client relationships and to hire, train and manage employees.
Finally, substantial growth may stress regulatory capital levels, and may require us to raise additional capital. No assurance can be given that we will be able to raise any required capital, or that it will be able to raise capital on terms that are beneficial to stockholders.
Attractive acquisition opportunities may not be available to us in the future.
We expect that other banking and financial service companies, many of which have significantly greater resources than us, will compete with us in acquiring other target companies if we pursue such acquisitions. This competition could increase prices for potential acquisitions that we believe are attractive. Also, acquisitions are subject to various regulatory approvals. If we fail to receive the appropriate regulatory approvals, we will not be able to consummate an acquisition that we believe is in our best interests. Among other things, our regulators will consider our capital, liquidity, profitability, regulatory compliance and levels of goodwill when considering acquisition and expansion proposals. Any acquisition could be dilutive to our earnings and shareholders’ equity per share of our common stock.
Hurricanes or other adverse weather or health related events could negatively affect our local economies or disrupt our operations, which would have an adverse effect on our business or results of operations.
Hurricanes and other weather events can disrupt our operations, result in damage to our properties and negatively affect the local economies in which we operate. In addition, these weather events may result in a decline in value or destruction of properties securing our loans and an increase in delinquencies, foreclosures and credit losses. Finally, health related events, such as a viral pandemic, could adversely affect the business of our clients and our local economies, thereby adversely affecting our results of operations.
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The Company will be subject to heightened regulatory requirements when total assets exceed $10 billion.
The Company’s total assets were $9.6 billion as of December 31, 2022. Banks with assets in excess of $10 billion are subject to requirements imposed by the Dodd-Frank Act and its implementing regulations, including: the examination authority of the Consumer Financial Protection Bureau to assess compliance with Federal consumer financial laws, imposition of higher FDIC premiums, and reduced debit card interchange fees, all of which increase operating costs and reduce earnings.
As the Company approaches $10 billion in total consolidated assets, additional costs have been incurred to prepare for the implementation of these imposed requirements. The Company may be required to invest more significant management attention and resources to evaluate and continue to make any changes necessary to comply with the new statutory and regulatory requirements under the Dodd-Frank Act. Further, Federal financial regulators may require accelerated actions and investments to prepare for compliance before $10 billion in total consolidated assets is exceeded, and may suspend or delay certain regulatory actions, such as approving a proposed merger, if preparations are deemed inadequate. Upon reaching this threshold, the Company faces the risk of failing to meet these requirements, which may negatively impact results of operations and financial condition.
Reforms to and uncertainty regarding LIBOR may adversely affect the business.
In 2017, a committee of private-market derivative participants and their regulators convened by the Federal Reserve, the Alternative Reference Rates Committee, or “ARRC”, was created to identify an alternative reference interest rate to replace LIBOR. The ARRC announced Secured Overnight Financing Rate, or “SOFR”, a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities, as its preferred alternative to LIBOR. The U.S. bank regulatory agencies have directed U.S. insured depository institutions to cease using LIBOR in new loan or other financial agreements effective December 31, 2021. Certain LIBOR maturity rates will no longer be published after December 31, 2021, with publication of the remaining maturity rates ending in 2023.The Federal Reserve Bank commenced publication of SOFR rates on April 2, 2018. The uncertainty as to the nature and effect of such reforms and actions may adversely affect the value of and return on the Company’s financial assets and liabilities that are based on or are linked to LIBOR, the Company’s results of operations or financial condition.
Risks Applicable to the Banking Industry Generally:
Our allowance for credit losses may not be adequate to cover actual losses.
Like all financial institutions, we maintain an allowance for credit losses and to provide for loan defaults and nonperformance. The process for determining the amount of the allowance is critical to our financial results and condition. It requires difficult, subjective and complex judgments about the future, as well as the impact of national and regional economic conditions on the ability of our borrowers to repay their loans. If our judgment proves to be incorrect, our allowance may not be sufficient to cover losses in our loan portfolio. Further, state and federal regulatory agencies, as an integral part of their examination process, review our loans and allowance and may require an increase in our allowance for credit losses. Further increases to the allowance could adversely affect our earnings.
Changes in interest rates, including increases to address inflation, as well as other actions the Federal Reserve may take to address inflation, may adversely affect our earnings and financial condition.
Our net income depends primarily upon our net interest income. Net interest income is the difference between interest income earned on loans, investments and other interest-earning assets and the interest expense incurred on deposits and borrowed funds. The level of net interest income is primarily a function of the average balance of our interest-earning assets, the average balance of our interest-bearing liabilities, and the spread between the yield on such assets and the cost of such liabilities. These factors are influenced by both the pricing and mix of our interest-earning assets and our interest-bearing liabilities which, in turn, are impacted by such external factors as the local economy, competition for loans and deposits, the monetary policy of the Federal Open Market Committee of the Federal Reserve Board of Governors (the “FOMC”), and market interest rates.
A sustained increase in market interest rates, such as has been in effect during the second half of 2022, could adversely affect our earnings if our cost of funds increases more rapidly than our yield on our earning assets and compresses our net interest margin. In addition, the economic value of portfolio equity would decline if interest rates increases.
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Different types of assets and liabilities may react differently, and at different times, to changes in market interest rates. We expect that we will periodically experience gaps in the interest rate sensitivities of our assets and liabilities. That means either our interest-bearing liabilities will be more sensitive to changes in market interest rates than our interest-earning assets, or vice versa. When interest-bearing liabilities mature or re-price more quickly than interest-earning assets, an increase in market rates of interest could reduce our net interest income. Likewise, when interest-earning assets mature or re-price more quickly than interest-bearing liabilities, falling interest rates could reduce our net interest income. We are unable to predict changes in market interest rates, which are affected by many factors beyond our control, including inflation, deflation, recession, unemployment, money supply, domestic and international events and changes in the United States and other financial markets.
We also attempt to manage risk from changes in market interest rates, in part, by controlling the mix of interest rate sensitive assets and interest rate sensitive liabilities. However, interest rate risk management techniques are not exact. A rapid increase or decrease in interest rates could adversely affect our results of operations and financial performance.
In addition to increases in interest rates, the FOMC has also changed its stance on monetary policy as an additional effort to reduce inflation. Beginning in the second half of 2022, the FOMC began reducing its balance sheet, implementing a program of quantitative tightening to reduce the overall money supply. As a result, we may face greater competition for deposits, resulting in a higher cost of funds and a reduced net interest margin, as well as greater liquidity risk to continue to fund our loan originations. We are unable to predict the duration and ultimate impact of the FOMC’s quantitative tightening program. However, if the program significantly tightens the nation’s money supply, it may adversely affect our results of operations and financial performance.
The banking business is subject to significant government regulations.
We are subject to extensive governmental supervision, regulation and control. These laws and regulations are subject to change and may require substantial modifications to our operations or may cause us to incur substantial additional compliance costs. In addition, future legislation and government policy could adversely affect the commercial banking industry and our operations. Such governing laws can be anticipated to continue to be the subject of future modification. Our management cannot predict what effect any such future modifications will have on our operations. In addition, the primary focus of Federal and state banking regulation is the protection of depositors and not the shareholders of the regulated institutions.
For example, implementation of all required regulations under the Dodd-Frank Act may result in substantial new compliance costs. The Dodd-Frank Act was signed into law on July 21, 2010. Generally, the Dodd-Frank Act is effective the day after it was signed into law, but different effective dates apply to specific sections of the law, many of which will not become effective until various Federal regulatory agencies have promulgated rules implementing the statutory provisions. Ultimately, final implementation the Dodd-Frank Act could have a material adverse impact either on the financial services industry as a whole, or on our business, results of operations and financial condition.
In addition, in order to implement Basel III and certain additional capital changes required by the Dodd-Frank Act, on July 9, 2013, the Federal banking agencies, including the FDIC, the Federal Reserve and the Office of the Comptroller of the Currency, approved, as an interim final rule, the regulatory capital requirements for U.S. insured depository institutions and their holding companies. This regulation requires financial institutions to maintain higher capital levels and more equity capital.
These provisions, as well as any other aspects of current or proposed regulatory or legislative changes to laws applicable to the financial industry, may impact the profitability of our business activities and may change certain of our business practices, including the ability to offer new products, obtain financing, attract deposits, make loans, and achieve satisfactory interest spreads, and could expose us to additional costs, including increased compliance costs. These changes also may require us to invest significant management attention and resources to make any necessary changes to operations in order to comply and could therefore also materially and adversely affect our business, financial condition and results of operations.
The ultimate effect of certain of these changes on the financial services industry in general, and us in particular, is uncertain at this time.
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The laws that regulate our operations are designed for the protection of depositors and the public, not our shareholders.
The federal and state laws and regulations applicable to our operations give regulatory authorities extensive discretion in connection with their supervisory and enforcement responsibilities, and generally have been promulgated to protect depositors and the Deposit Insurance Fund and not for the purpose of protecting shareholders. These laws and regulations can materially affect our future business. Laws and regulations now affecting us may be changed at any time, and the interpretation of such laws and regulations by bank regulatory authorities is also subject to change.
We can give no assurance that future changes in laws and regulations or changes in their interpretation will not adversely affect our business. Legislative and regulatory changes may increase our cost of doing business or otherwise adversely affect us and create competitive advantages for non-bank competitors.
The potential impact of changes in monetary policy and interest rates may negatively affect our operations.
Our operating results may be significantly affected (favorably or unfavorably) by market rates of interest that, in turn, are affected by prevailing economic conditions, by the fiscal and monetary policies of the United States government and by the policies of various regulatory agencies. Our earnings will depend significantly upon our interest rate spread (i.e., the difference between the interest rate earned on our loans and investments and the interest raid paid on our deposits and borrowings). Like many financial institutions, we may be subject to the risk of fluctuations in interest rates, which, if significant, may have a material adverse effect on our operations.
We cannot predict how changes in technology will impact our business; increased use of technology may expose us to service interruptions or breaches in security.
The financial services market, including banking services, is increasingly affected by advances in technology, including developments in:
● Telecommunications;
● Data processing;
● Automation;
● Debit cards and so-called “smart cards”;
● Remote deposit capture;
● Artificial Intelligence;
● Cryptocurrency; and
● Use of Blockchain.
Our ability to compete successfully in the future will depend, to a certain extent, on whether we can anticipate and respond to technological changes. We offer electronic banking services for our consumer and business clients via our website, www.cnob.com, including Internet banking and electronic bill payment, as well as mobile banking by phone. We also offer check cards, ATM cards, credit cards, and automatic and ACH transfers. The successful operation and further development of these and other new technologies will likely require additional capital investments in the future. In addition, increased use of electronic banking creates opportunities for interruptions in service or security breaches, which could expose us to claims by clients or other third parties and damage our reputation. We cannot assure you that we will have sufficient resources or access to the necessary proprietary technology to remain competitive in the future, or that we will be able to maintain a secure electronic environment.
Item 1B. Unresolved Staff Comments
None.
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Item 2. Properties
The Bank operates seven banking offices in Bergen County, NJ, in Fort Lee, Englewood Cliffs, Hackensack, Cresskill, Haworth, Ridgewood and Saddle River; four banking offices in Union County, NJ, consisting of two offices in Union Township, and one office each in Springfield Township, and Summit; one banking office in Morristown in Morris County, NJ; one office in Newark in Essex County, NJ; one office in West New York in Hudson County, NJ; one office in Holmdel in Monmouth County, NJ; one banking office in the borough of Manhattan in New York City, one office in Melville, Nassau County on Long Island, one in Astoria, Queens and five branches in the Hudson Valley, including in White Plains and Tarrytown, in Westchester County, NY, Bardonia and Blauvelt, in Rockland County, NY and in Middletown, in Orange County, NY, and one financial center in West Palm Beach in Palm Beach County, FL. The Bank’s principal office is located at 301 Sylvan Avenue, Englewood Cliffs, NJ. The principal office is a three-story leased building constructed in 2008.
The following table sets forth certain information regarding the Bank’s leased operating locations.
Banking Office Location Term
301 Sylvan Avenue, Englewood Cliffs, NJ Term expires November 2028
156 Piermont Rd, Cresskill, NJ Term expires July 2023
142 John Street, Hackensack, NJ Term expires December 2026
171 East Ridgewood Avenue, Ridgewood, NJ Term expires April 2024
71 East Allendale Road, Saddle River, NJ Term expires May 2032
356 Chestnut Street, Union, NJ Term expires May 2027
545 Morris Avenue, Summit, NJ Term expires February 2024
217 Chestnut Street, Newark, NJ Term expires February 2024
5914 Park Avenue, West New York, NJ Term expires September 2023
963 Holmdel Road, Holmdel, NJ Term expires September 2026
551 Madison Avenue, Suite 202, NY, NY Term expires October 2028
48 South Service Rd, 2nd Fl, Melville, NY Term Expires July 2025
36-19 Broadway, Astoria, NY Term Expires August 2028
485 Schutt Rd, Middletown, NY Term Expires October 2025
715 Route 304, Bardonia NY Term Expires August 2028
567 North Broadway, White Plains NY Term Expires September 2028
155 White Plains Rd., Tarrytown NY Term Expires December 2026
170 East Erie St, Blauvelt NY Term Expires February 2028
625 N Flagler Dr Ste 1002, West Palm Beach, FL Term Expires June 2027
Item 3. Legal Proceedings
There are no significant pending legal proceedings involving the Company other than those arising out of routine operations. None of these matters would have a material adverse effect on the Company or its results of operations if decided adversely to the Company.
Item 4. Mine Safety Disclosures
Not applicable.
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PART II
Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Security Market Information
The common stock of the Company is traded on the NASDAQ Global Select Market under the symbol “CNOB”. As of December 31, 2022, the Company had 679 stockholders of record, excluding beneficial owners for whom Cede & Company or others act as nominees.
Share Repurchase Program
Historically, repurchases have been made from time to time as, in the opinion of management, market conditions warranted, in the open market or in privately negotiated transactions.
In March 2019, the Board of Directors of the Company approved a share repurchase program for up to 1,200,000 shares. In September 2021, the Board of Directors had authorized the repurchase of up to an additional 2,000,000 shares. The Company may repurchase shares from time to time in the open market, in privately negotiated share purchases or pursuant to any trading plan that may be adopted in accordance with Rule 10b5-1 of the Securities and Exchange Commission and applicable federal securities laws. The share repurchase plan does not obligate the Company to acquire any particular amount of common stock, and it may be modified or suspended at any time at the Company's discretion. During the year ended December 31, 2022, the Company repurchased a total of 447,108 shares. As of December 31, 2022, shares remaining for repurchase under the program were 1,827,640.
The following table details share repurchases for the year 2022:
Cumulative Total
Number of Shares Maximum Number
Purchased of Shares
as Part of Publicly that May Yet
Total Number Announced Be Purchased
Shares of Shares Average Price Plans or Under the Plans
Authorized Purchased Paid per Share Programs or Programs
Dividends
Federal laws and regulations contain restrictions on the ability of the Parent Corporation and the Bank to pay dividends. For information regarding restrictions on dividends, see Part I, Item 1, “Business” and Part II, Item 8, “Financial Statements and Supplementary Data”, Note 18 and Note 21 of the Notes to Consolidated Financial Statements.”
Stockholders Return Comparison
Set forth on the following page is a line graph presentation comparing the cumulative stockholder return on the Parent Corporation’s common stock, on a dividend reinvested basis, against the cumulative total returns of the NASDAQ Composite and the KBW Bank Index for the period from December 31, 2017 through December 31, 2022.
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COMPARATIVE SIX-YEAR CUMULATIVE TOTAL RETURN
AMONG CONNECTONE BANCORP INC.
NASDAQ AND KBW BANK INDEX
Assumes $100 Invested on December 31, 2017, with Dividends Reinvested
Year Ended December 31, 2022
COMPARISON OF CUMULATIVE TOTAL RETURN OF ONE OR MORE
COMPANIES, PEER GROUPS, INDUSTRY INDEXES AND/OR BROAD MARKETS
Fiscal Year Ending
Item 6. Selected Financial Data
The following tables set forth selected consolidated financial data as of the dates and for the periods presented. The selected consolidated statement of financial condition data as of December 31, 2022 and 2021 and the selected consolidated summary of income data for the years ended December 31, 2022, 2021 and 2020 have been derived from our audited consolidated financial statements and related notes that we have included elsewhere in this Annual Report. The selected consolidated statement of financial condition data as of December 31, 2020 and the selected consolidated summary of income data have been derived from audited consolidated financial statements that are not presented in this Annual Report.
The selected historical consolidated financial data as of any date and for any period are not necessarily indicative of the results that may be achieved as of any future date or for any future period. You should read the following selected statistical and financial data in conjunction with the more detailed information contained in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes that we have presented elsewhere in this Annual Report.
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SUMMARY OF SELECTED STATISTICAL INFORMATION AND FINANCIAL DATA
As of and for the years ended December 31,
Selected Statement of Financial Condition Data
Common Dividends
Selected Statement of Income Data
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As of and for the years ended December 31,
Per Common Share Data
Selected Performance Ratios
Return on average common stockholders’ equity 11.46 13.32 8.09
Selected Asset Quality Ratios
As a % of Loans Receivable:
Loans 90 days or greater past due and still accruing 0.07 0.20 0.21
Allowance for credit losses - loans 1.12 1.15 1.27
Nonperforming assets(2) to total assets 0.46 % 0.76 % 0.82 %
Allowance for credit losses for loans to nonaccrual loans 203.6 127.7 128.4
Net loan charge-offs to average loans 0.07 0.03 0.00
Company Capital Ratios
Tangible common equity to tangible assets(1) 9.04 10.06 9.50
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Non-GAAP Reconciliation Table ($ in thousands, except per share amounts)
As of December 31,
Tangible common equity and tangible common equity/tangible assets
Tangible book value per common share
Less: goodwill and other intangible assets 5.50 5.49 5.52
Return on average tangible common equity
Return on average common stockholders’ equity 11.46 % 13.32 % 8.09 %
Return on average tangible common stockholders’ equity 14.48 % 17.21 % 10.80 %
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Item 7. Management’s Discussion and Analysis (“MD&A”) of Financial Condition and Results of Operations
The purpose of this analysis is to provide the reader with information relevant to understanding and assessing the Company’s results of operations for each of the past three years and financial condition for each of the past two years. In order to fully appreciate this analysis, the reader is encouraged to review the consolidated financial statements and accompanying notes thereto appearing under Item 8 of this report, and statistical data presented in this document.
Cautionary Statement Concerning Forward-Looking Statements
See Item 1 of this Annual Report on Form 10-K for information regarding forward-looking statements.
Critical Accounting Policies and Estimates
Management’s Discussion and Analysis of Financial Condition and Results of Operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. The Company considers the allowance for credit losses and related provision to be critical to our financial results. For information on our significant accounting policies, see Note 1a in the Notes to Consolidated Financial Statements.
Allowance for Credit Losses and Related Provision
The allowance for credit losses is an estimate of current expected credit losses considering available information relevant to assessing collectability of cash flows over the contractual term of the financial assets necessary to cover lifetime expected credit losses inherent in financial assets at the balance sheet date. The methodology for determining the allowance for credit losses is considered a critical accounting policy by management because of the high degree of judgment involved, the subjectivity of the assumptions used, and the potential for changes in the forecasted economic environment that could result in changes to the amount of the recorded allowance for credit losses. The loan portfolio also represents the largest asset type on the Company’s Consolidated Statements of Condition.
Management believes the following information may enable investors to better understand the changes in our allowance for credit losses for loans. The Company’s allowance for credit losses for loans totaled $90.5 million and $78.8 million as of December 31, 2022 and 2021, respectively. The $11.7 million increase in our allowance for credit losses for loans was primarily driven by our collectively evaluated loans and offset by allowance for credit losses on individually analyzed loans.
The quantitative component of our allowance for credit losses on collectively evaluated loans, which is largely based on a selection of various economic forecasts, increased by $19.4 million as of December 31, 2022 when compared to December 31, 2021. This increase was primarily attributable to both organic growth of $1.4 billion in collectively evaluated loans and deterioration in periodic economic forecasts throughout the year. The qualitative component of our ACL, which is largely based on management’s judgment of qualitative loss factors, was relatively unchanged, on an absolute basis, over the same period-of-time, as qualitative factor trends improved over 2022.
The Company’s allowance for credit losses for collectively evaluated loans totaled $78.0 million as of December 31, 2022, which included $70.1 million of allowance related to commercial and commercial real estate loans. Included in that $70.1 million of allowance related to commercial and commercial real estate loans, $24.7 million was attributable to qualitative loss factors. Changes in managements’ judgement of qualitative loss factors could result in a significant change to the allowance for credit losses for loans. As described in Note 1a, to our financial statements filed as part of this Annual Report on Form 10-K, qualitative loss factors are applied to each portfolio segment with the amounts judgmentally determined by the relative risk to the most severe loss periods identified in the historical loan charge-offs of a peer group of similar-sized regional banks. As of December 31, 2022, on a weighted average basis the most severe historical loss rate for our commercial and commercial real estate loans were 2.20% and 1.85%, respectively.
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The Company’s quantitative component of allowance for credit losses for collectively evaluated loans is calculated with an economic forecast sourced from Moody’s. Management performed a hypothetical sensitivity analysis to understand the impact of changes in the economic forecast as a key input on our allowance for credit losses for collectively evaluated loans. Within the various economic scenarios considered for this hypothetical sensitivity analysis, as of December 31, 2022, the quantitative estimate of the allowance for credit loss for collectively evaluated loans would increase by approximately $40 million under sole consideration of an adverse Moody’s economic forecast. The hypothetical sensitivity calculation reflects the sensitivity of the modeled allowance estimate to macroeconomic forecast data but lacks other qualitative overlays and other qualitative adjustments that are part of the quarterly reserving process. As such, this does not necessarily reflect the nature and extent of future changes in the allowance for reasons including increases or decreases in qualitative adjustments, changes in the risk profile and size of the portfolio, changes in the severity of the macroeconomic scenario and the range of scenarios under management consideration.
Our allowance for credit losses for individually analyzed loans is determined on an individual basis using the present value of expected cash flows discounted using the loan’s effective interest rate or, for collateral-dependent loans, the fair value of the collateral, less estimated selling costs, as applicable. As of December 31, 2022, the Company’s allowance for credit losses on individually analyzed loans decreased $7.7 million from December 31, 2021. This decrease was primarily due to reductions in individually analyzed loans, increases in charge-offs, and increases in the fair value of collateral for collateral-dependent loans, partially offset by increases to the allowance on existing individually analyzed loans.
Overview and Strategy
We serve as a holding company for the Bank, which is our primary asset and only operating subsidiary. We follow a business plan that emphasizes the delivery of customized banking services in our market area to clients who desire a high level of personalized service and responsiveness. The Bank conducts a traditional banking business, making commercial loans, consumer loans and residential and commercial real estate loans. In addition, the Bank offers various non-deposit products through non-proprietary relationships with third party vendors. The Bank relies upon deposits as the primary funding source for its assets. The Bank offers traditional deposit products.
Many of our clients relationships start with referrals from existing clients. We then seek to cross sell our products to clients to grow the client relationship. For example, we will frequently offer an interest rate concession on credit products for clients that maintain a noninterest-bearing deposit account at the Bank. This strategy has helped maintain our funding costs and the growth of our interest expense even as we have substantially increased our total deposits. It has also helped fuel our significant loan growth. We believe that the Bank’s continued growth and profitability demonstrate the need for and success of our brand of banking.
Our results of operations depend primarily on our net interest income, which is the difference between the interest earned on our interest-earning assets and the interest paid on funds borrowed to support those assets, primarily deposits. Net interest margin is the difference between the weighted average rate received on interest-earning assets and the weighted average rate paid to fund those interest-earning assets, which is also affected by the average level of interest-earning assets as compared with that of interest-bearing liabilities. Net income is also affected by the amount of noninterest income and noninterest expenses.
General
The following discussion and analysis present the more significant factors affecting the Company’s financial condition as of December 31, 2022 and 2021 and results of operations for each of the years in the three-year period ended December 31, 2022. The MD&A should be read in conjunction with the consolidated financial statements, notes to consolidated financial statements and other information contained in this report.
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Operating Results Overview
Net income available to common stockholders for the year ended December 31, 2022 was $119.2 million, a decrease of $9.5 million, or 7.4%, compared to net income of $128.6 million for 2021. Diluted earnings per share were $3.01 for 2022, a 6.5% decrease from $3.22 for 2021.
The change in net income from 2021 to 2022 was attributable to the following:
Net income available to common stockholders for the year ended December 31, 2021 was $128.6 million, an increase of $57.3 million, or 80.4%, compared to net income of $71.3 million for 2020. Diluted earnings per share were $3.22 for 2021, a 79.9% increase from $1.79 for 2020.
The change in net income from 2020 to 2021 was attributable to the following:
● Increase in net interest income of $24.9 million.
Net Interest Income
Fully taxable equivalent net interest income for 2022 totaled $304.6 million, an increase of $39.9 million, or 15.1%, from 2021. The increase in net interest income was due to an increase in average interest-earning assets, which grew by 14.3% to $8.3 billion and a widening of 3 basis-points in the net interest margin. The widening of the net interest margin was mainly attributable to higher yields on loans and securities and lower average cash balances, offset by a higher cost of funds. Average total loans, which includes loans held-for-sale, increased by 15.0% to $7.4 billion in 2022 from $6.4 billion in 2021. The increase in average total loans is primarily attributable to higher loan originations.
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Fully taxable equivalent net interest income for 2021 totaled $264.7 million, an increase of $24.8 million, or 10.3%, from 2020. The increase in net interest income was due to an increase in average interest-earning assets, which grew by 4.2% to $7.2 billion and a widening of 20 basis-points in the net interest margin. The widening of the net interest margin was mainly attributable to lower cost of funds, offset by higher average cash balances and lower yields on loans and securities. Average total loans, which includes loans held-for-sale, increased by 3.6% to $6.4 billion in 2021 from $6.2 billion in 2020. The increase in average total loans is primarily attributable to higher, non PPP, loan originations.
Average Balance Sheets
The following table sets forth certain information relating to our average assets and liabilities for the years ended December 31, 2022, 2021 and 2020 and reflects the average yield on assets and average cost of liabilities for the periods indicated. Such yields are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown.
Years Ended December 31,
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
(dollars in thousands)
ASSETS
Interest-earning assets:
Noninterest-earning assets:
LIABILITIES & STOCKHOLDERS’ EQUITY
(1) Average balances are based on amortized cost.
(3) Includes loan fee income and accretion of purchase accounting adjustments.
(4) Loans include nonaccrual loans.
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Rate/Volume Analysis
The following table presents, by category, the major factors that contributed to the changes in net interest income. Changes due to both volume and rate have been allocated in proportion to the relationship of the dollar amount change in each.
Increase (Decrease) Increase (Decrease)
Due to Change in: Due to Change in:
Average Average Net Average Average Net
Volume Rate Change Volume Rate Change
(dollars in thousands)
Interest income:
Interest expense:
Provision for (Reversal of) Credit Losses
In determining the provision for credit losses, management considers national and local economic trends and conditions; trends in the portfolio including orientation to specific loan types or industries; experience, ability and depth of lending management in relation to the complexity of the portfolio; effects of changes in lending policies, trends in volume and terms of loans; levels and trends in delinquencies, impaired loans and net charge-offs and the results of independent third party loan review.
The Bank adopted CECL beginning on January 1, 2021. Provision expense may therefore become more volatile due to changes in CECL model assumptions of credit quality, macroeconomic factors and conditions, and loan composition, which drive the allowance for credit losses balance. See Note 1b to our audited financial statements included herein.
For the year ended December 31, 2022, the provision for (reversal of) credit losses was $17.8 million, an increase of $23.3 million, compared to the provision for (reversal of) credit losses of ($5.5) million for the year ended December 31, 2021. The increase in provision for credit losses for the year ended December 31, 2022 reflected strong organic loan growth and changes in forecasted macroeconomic conditions.
For the year ended December 31, 2021, the provision for (reversal of) credit losses was ($5.5) million, a decrease of $46.5 million, compared to the provision for (reversal of) loan losses of $41.0 million for the year ended December 31, 2020. The elevated provision for loan losses for the year ended December 31, 2020 was due to the economic uncertainties of the COVID-19 pandemic, including consideration of related borrower payment deferrals requested and or/ granted. The release of allowance for credit losses during the year ended December 31, 2021 was the result of the continually improving macro-economic outlook during the course of 2021.
Noninterest Income
Noninterest income for the full-year 2022 decreased by $2.4 million, or 15.6%, to $13.2 million from $15.7 million in 2021. The decrease was primarily due to decreases in net gains on loans held for sale of $2.1 million, gains on sale of branches of $0.7 million, net gains on sale/redemption of investment securities of $0.2 million and an increase in net losses on equity securities of $1.1 million, partially offset by increases in deposit, loan and other income of $0.9 million and income on bank owned life insurance of $0.8 million.
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Noninterest income for the full-year 2021 increased by $1.3 million, or 9.0%, to $15.7 million from $14.4 million in 2020. The increase was primarily due to increases in net gains on loans held for sale of $1.7 million, gain on sale of branches of $0.7 million and net gains on sale/redemption of investment securities of $0.2 million, partially offset by decreases in deposit, loan and other income of $0.5 million, income on bank owned life insurance of $0.2 million and net gains on equity securities of $0.6 million. The increase in net gains on loans held-for-sale resulted from mortgage loan sales, SBA loan sales and elevated commercial loan sales. The increase in gain on sale of branches was the result of the Bank selling two branches during the first quarter of 2021 related to the BNJ acquisition.
Noninterest Expense
Noninterest expenses for the full-year 2022 increased by $17.4 million, or 15.9%, to $126.4 million from $109.0 million in 2021. The increase was primarily due to increases in salaries and employee benefits of $16.9 million, change in value of acquisition price of $1.5 million , other expenses of $1.1 million, marketing and advertising $0.4 million and FDIC insurance of $0.2 million, partially offset by decreases in occupancy and equipment of $1.8 million, amortization of core deposit intangible of $0.3 million, information technology and communication of $0.2 million, professional and consulting of $0.2 million and other components of net periodic pension income of $0.3 million. The increase in salaries and employee benefits was attributable to increased staff in both revenue and back-office areas of the Bank, base salary increases, and incentive compensation accruals.
Noninterest expenses for the full-year 2021 decreased by $12.0 million, or 9.9%, to $109.0 million from $121.0 million in 2020. The decrease was primarily due to decreases in merger expenses of $14.6 million, change in value of acquisition price of $2.3 million, occupancy and equipment of $2.2 million, and FDIC insurance of $1.3 million, partially offset by increases in salaries and employee benefits of $5.5 million, other expenses of $2.6 million and professional and consulting of $0.9 million. Excluding the impact on expenses related to mergers costs, expense increases were mainly attributable to increased levels of business.
Income Taxes
Income tax expense was $46.0 million for 2022 compared to $44.7 million for 2021 and $19.1 million for 2020. The increase in income tax expense in 2022 when compared to 2021 was primarily the result of higher taxable income. The increase in income tax expense in 2021 when compared to 2020 was also primarily the result of higher taxable income. The effective tax rates were 26.9% in 2022, 25.5% in 2021 and 21.1% for 2020. The higher effective tax rate during 2022 when compared to 2021 and 2020, was the result of a higher percentage of income being derived from taxable sources. The Company expects its effective tax rate to increase in 2023, as a result of the Company’s revenue growth in existing and new markets.
For a more detailed description of income taxes see Note 10 of the Notes to Consolidated Financial Statements.
Financial Condition Overview
As of December 31, 2022, the Company’s total assets were $9.6 billion, an increase of $1.5 billion from December 31, 2021. Total loans (including loans held-for-sale) were $8.1 billion, an increase of $1.3 billion from December 31, 2021. Deposits were $7.4 billion, an increase of $1.0 billion from December 31, 2021.
As of December 31, 2021, the Company’s total assets were $8.1 billion, an increase of $0.6 billion from December 31, 2020. Total loans (including loans held-for-sale) were $6.8 billion, an increase of $0.6 billion from December 31, 2020. Deposits were $6.3 billion, an increase of $0.4 billion from December 31, 2020.
Loan Portfolio
The Bank’s lending activities are generally oriented to small-to-medium sized businesses, high net worth individuals, professional practices and consumer and retail clients living and working in the Bank’s metropolitan, New York market area, consisting of Bergen, Union, Morris, Essex, Hudson, Mercer and Monmouth counties, New Jersey, as well as NYC’s five boroughs, Nassau, Rockland, Orange and Westchester counties, in New York and businesses and individuals living and working in the communities served by the Bank's West Palm Beach, Florida office. The Bank has not made loans to borrowers outside of the United States. The Bank believes that its strategy of high-quality client service, competitive rate structures and selective marketing have enabled it to gain market share.
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Commercial loans are loans made for business purposes and are primarily secured by collateral such as cash balances with the Bank, marketable securities held by or under the control of the Bank, business assets including accounts receivable, inventory and equipment and liens on commercial and residential real estate. Commercial construction loans are loans to finance the construction of commercial or residential properties secured by first liens on such properties. Commercial real estate loans include loans secured by first liens on completed commercial properties, including multi-family properties, to purchase or refinance such properties. Residential mortgages include loans secured by first liens on residential real estate and are generally made to existing clients of the Bank to purchase or refinance primary and secondary residences. Home equity loans and lines of credit include loans secured by first or second liens on residential real estate for primary or secondary residences. Consumer loans are made to individuals who qualify for auto loans, cash reserve, credit cards and installment loans.
Gross loans as of December 31, 2022 totaled $8.1 billion, an increase of $1.3 billion, or 18.6%, over gross loans as of December 31, 2021 of $6.8 billion.
The largest component of the gross loan portfolio as of December 31, 2022 and December 31, 2021 was commercial real estate loans. Commercial real estate loans as of December 31, 2022 totaled $5.8 billion, an increase of $1.1 million, or 22.2%, compared to commercial real estate loans as of December 31, 2021 of $4.7 billion. The main component contributing to the increase in commercial real estate loans is an increase in the multifamily loans. Commercial loans totaled $1.5 billion as of December 31, 2022, an increase of $173.3 million, or 13.3%, compared to commercial loans as of December 31, 2021 of $1.3 billion. Included in commercial loans were PPP loans of $11.4 million as of December 31, 2022 and $93.1 million as of December 31, 2021. Commercial construction loans as of December 31, 2022 totaled $574.1 million, an increase of $34.0 million, or 6.3%, compared to commercial construction loans as of December 31, 2021 of $540.2 million.
Residential real estate loans totaled $264.7 million as of December 31, 2022, an increase of $9.5 million, or 3.7%, compared to residential real estate loans as of December 31, 2021 of $255.3 million. Consumer loans as of December 31, 2022 totaled $2.3 million compared to $1.9 million as of December 31, 2021.
The following table sets forth the classification of our loans by loan portfolio segment for the periods presented.
December 31, December 31, December 31,
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The following table sets forth the classification of our gross loans by loan portfolio segment and by fixed and adjustable rate loans as of December 31, 2022 by remaining contractual maturity.
As of December 31, 2022 Maturing:
After After
In One Year Five Years
One Year through through After
or Less Five Years Fifteen Years Fifteen Years Total
Loans with:
For additional information regarding loans, see Note 4 of the Notes to the Consolidated Financial Statements
Asset Quality
General. One of our key objectives is to maintain a high level of asset quality. When a borrower fails to make a scheduled payment, we attempt to cure the deficiency by sending late notices, as well as making personal contact with the borrower. Typically, late notices are sent approximately 10 days after the date the payment is due, followed up by direct contact with the borrower approximately 15 days after payment is due. In most cases, deficiencies are promptly resolved. If the delinquency continues, late charges are assessed, and additional efforts are made to collect the deficiency. Total loans delinquent 30 days or more are reported to the board of directors of the Bank on a monthly basis.
On loans where the collection of principal or interest payments is doubtful, the accrual of interest income ceases (“nonaccrual” loans). Except for loans that are well-secured and in the process of collection, it is our policy to discontinue accruing additional interest and reverse any interest accrued on any loan that is 90 days or greater past due. On occasion, this action may be taken earlier if the financial condition of the borrower raises significant concern with regard to the borrower’s ability to service the debt in accordance with the terms of the loan agreement. Interest income is not accrued on these loans until the borrower’s financial condition and payment record demonstrate an ability to service the debt. Typically, a nonaccrual loan may return to accrual status if the borrower makes the loan current, and then makes six consecutive payments as scheduled.
Real estate acquired as a result of foreclosure is classified as other real estate owned (“OREO”) until sold. OREO is recorded at the lower of cost or fair value less estimated selling costs. Costs associated with acquiring and improving a foreclosed property are usually capitalized to the extent that the carrying value does not exceed fair value less estimated selling costs. Holding costs are charged to expense. Gains and losses on the sale of OREO are charged to operations, as incurred.
The Company evaluates individual instruments for expected credit losses when those instruments do not share similar risk characteristics with instruments evaluated using a collective (pooled) basis. The Company evaluates the pooling methodology at least annually. Loans transition from defined segments for individual analysis when credit characteristics, or risk traits, change in a material manner. A loan is considered for individual analysis when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by the Company in determining individual analysis include payment status and the probability of collecting scheduled principal and interest payments when due. Loans for which the terms have been modified as a concession to the borrower due to the borrower experiencing financial difficulties are troubled debt restructurings (“TDR”) and are individually analyzed if carrying value is $250,000 or higher. Additionally, nonaccrual loans that are $250,000 or higher are also individually analyzed. All purchased credit-deteriorated (PCD) loans are individually analyzed. For loans designated as TDR or nonaccrual with balances less than $250,000, these loans are collectively evaluated, and, accordingly, are not separately identified for analysis or disclosures. Instruments will not be included in both collective and individual analysis. Individual analysis will establish a specific reserve for instruments in scope.
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Asset Classification. Federal regulations and our policies require that we utilize an internal asset classification system as a means of reporting problem and potential problem assets. We have incorporated an internal asset classification system, substantially consistent with Federal banking regulations, as a part of our credit monitoring system. Federal banking regulations set forth a classification scheme for problem and potential problem assets as “substandard,” “doubtful” or “loss” assets. An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. Assets which do not currently expose the insured institution to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are required to be designated “special mention.”
When an insured institution classifies one or more assets, or portions thereof, as “substandard” or “doubtful,” it is required that a general valuation allowance for credit losses must be established in an amount deemed prudent by management. General valuation allowances represent loss allowances which have been established to recognize the inherent losses associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When an insured institution classifies one or more assets, or portions thereof, as “loss,” it is required either to establish a specific allowance for losses equal to 100% of the amount of the asset so classified or to charge off such amount.
A bank’s determination as to the classification of its assets and the amount of its valuation allowances is subject to review by Federal bank regulators which can order the establishment of additional general or specific loss allowances. The Federal banking agencies have adopted an interagency policy statement on the allowance for credit losses. The policy statement provides guidance for financial institutions on both the responsibilities of management for the assessment and establishment of allowances and guidance for banking agency examiners to use in determining the adequacy of general valuation guidelines. Generally, the policy statement recommends that institutions have effective systems and controls to identify, monitor and address asset quality problems; that management analyze all significant factors that affect the collectability of the portfolio in a reasonable manner; and that management establish acceptable allowance evaluation processes that meet the objectives set forth in the policy statement. Our management believes that, based on information currently available, our allowance for credit losses is maintained at a level which covers all known and probable incurred losses in the portfolio at each reporting date. However, actual losses are dependent upon future events and, as such, further additions to the level of allowances for credit losses may become necessary.
The table below sets forth information on our classified loans and loans designated as special mention (excluding loans held-for-sale) as of the dates presented:
(dollars in thousands)
Classified Loans:
Doubtful - -
Loss - -
Total classified and special mention loans $ 182,435 $ 229,720
During the year ended December 31, 2022, “substandard” loans and “doubtful” loans, which include lower credit quality loans which possess higher risk characteristics than “special mention” loans, decreased to $120.3 million, or 1.5% of loans receivable, as of December 31, 2022 from $157.4 million, or 2.3% of loans receivable, as of December 31, 2021. During the year ended December 31, 2022, “special mention” loans were $62.1 million, or 0.8% of loans receivable, while “special mention” loans as of December 31, 2021 were $72.3 million, or 1.0% of loans receivable.
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Nonaccrual Loans, Performing Troubled Debt Restructurings, OREO and Loans 90 Days or Greater Past Due and Still Accruing
Nonperforming assets include nonaccrual loans and OREO. Nonaccrual loans represent loans on which interest accruals have been suspended. OREO represents property acquired through foreclosure in partial or full satisfaction of loans. The Company considers charging off loans, or a portion thereof, when they become contractually past due ninety days or more as to interest or principal payments or when other internal or external factors indicate that collection of principal or interest is doubtful. Performing troubled debt restructurings represent loans on which a concession was granted to a borrower, such as a reduction in interest rate to a rate lower than the current market rate for new debt with similar risks, and which are currently performing in accordance with the modified terms. Loans 90 days or greater past due and still accruing represents purchased credit-deteriorated loans, net of fair value marks, which accrete income per the valuation at date of acquisition. For additional information regarding loans, see Note 4 of the Notes to the Consolidated Financial Statements.
The following table sets forth, as of the dates indicated, the amount of the Company’s nonaccrual loans, other real estate owned (“OREO”), performing troubled debt restructurings (“TDRs”) and loans past due 90 days or greater and still accruing:
December 31, December 31, December 31,
Nonaccrual loans to loans receivable 0.55 % 0.90 % 0.99 %
Nonperforming assets to total assets 0.46 % 0.76 % 0.82 %
Allowance for Credit Losses and Related Provision
The allowance for credit losses is a reserve established through charges to earnings in the form of a provision for credit losses. We maintain an allowance for credit losses at a level considered adequate to provide for all known and probable incurred losses in the portfolio. The level of the allowance is based on management’s evaluation of estimated losses in the portfolio, after consideration of risk characteristics of the loans and prevailing and anticipated economic conditions. Loan charge-offs (i.e., loans judged to be uncollectible) are charged against the reserve and any subsequent recovery is credited. Our officers analyze risks within the loan portfolio on a continuous basis and through an external independent loan review function, and the results of the loan review function are also reviewed by our Audit Committee. A risk system, consisting of multiple grading categories for each portfolio class, is utilized as an analytical tool to assess risk and appropriate reserves. In addition to the risk system, management further evaluates risk characteristics of the loan portfolio under current and anticipated economic conditions and considers such factors as the financial condition of the borrower, past and expected loss experience, and other factors which management feels deserve recognition in establishing an appropriate reserve. These estimates are reviewed at least quarterly and, as adjustments become necessary, they are recognized in the periods in which they become known. Although management strives to maintain an allowance it deems adequate, future economic changes, deterioration of borrowers’ creditworthiness, and the impact of examinations by regulatory agencies all could cause changes to our allowance for credit losses.
As of December 31, 2022, the allowance for credit losses for loans was $90.5 million, an increase of $11.7 million, or 14.9%, from $78.8 million as of December 31, 2021. The increase in the allowance for credit losses was primarily driven by an increase in general reserves, resulting primarily from organic loan growth and changes in forecasted macroeconomic conditions, primarily offset by releases in specific reserves. As a result of the adoption, the Bank recorded a “Day 1” CECL adjustment on January 1, 2021 of $6.5 million that increased the allowance for credit losses for loans. This increase was offset by a release of provision for credit losses of $5.5 million as well as $2.0 million in net charge-offs during the year ended December 31, 2021. The $5.5 million release of provision for credit losses during the year ended December 31, 2021 was the result of a continued improvement in the macroeconomic outlook during 2021. Included in the $2.0 million net charge-offs for the year ended December 31, 2021 was a $1.4 million charge-off of a commercial real estate loan that previously had a specific credit reserve.
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The allowance for credit losses for loans as a percentage of loans receivable was 1.12% as of December 31, 2022 and 1.15% as of December 31, 2021.
Three-Year Statistical Allowance for Credit Losses for Loans
The following table reflects the relationship of loan volume, the provision and allowance for credit losses for loans and net charge-offs for the periods presented.
December 31, December 31, December 31,
CECL Day 1 Adjustment - 6,557 -
Charge-offs:
Consumer 3 - 7
Recoveries:
Commercial real estate - 85 802
Residential real estate 63 20 23
Provision for (reversal of) credit losses for loans 17,066 (5,018 ) 41,000
For additional information regarding loans, see Note 4 of the Notes to the Consolidated Financial Statements.
Implicit in the lending function is the fact that credit losses will be experienced and that the risk of loss will vary with the type of loan being made, the creditworthiness of the borrower and prevailing economic conditions. The allowance for credit losses has been allocated in the table below according to the estimated amount deemed to be reasonably and supportably necessary to provide for the possibility of either lifetime expected losses or losses being incurred within the following categories of loans as of December 31, for each of the past three years.
The table below shows, for three types of loans, the amounts of the allowance allocable to such loans and the percentage of such loans to gross loans, along with the amount of the unallocated allowance. Commercial loan type shown below includes commercial, commercial real estate and commercial construction loans.
Commercial Residential Real Estate Consumer Unallocated
Amount of % of Total Amount of % of Total Amount of % of Total Amount of Total
Allowance Allowance Allowance Allowance Allowance Allowance Allowance Allowance
(dollars in thousands)
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Investments
For the year ended December 31, 2022, the average volume of investment securities, including equity securities, increased by $196.4 million to approximately $660.8 million or 8.0% of average earning assets, from $464.3 million, or 6.4% of average earning assets, for the year ended December 31, 2021. As of December 31, 2022, the principal components of the investment portfolio are U.S. Treasury and Government Agency Obligations, Federal Agency Obligations including mortgage-backed securities, Obligations of U.S. States and Political Subdivisions, Corporate Bonds and other debt and equity securities.
During the year ended December 31, 2022, rate related factors increased investment revenue by $4.9 million and volume related factors increased investment revenue by $5.2 million. The tax-equivalent yield on investments increased by 106 basis points to 2.67% from a yield of 1.61% during the year ended December 31, 2021.
Securities available-for-sale are a part of the Company’s interest rate risk management strategy and may be sold in response to changes in interest rates, changes in prepayment risk, liquidity management and other factors. The Company continues to reposition the investment portfolio as part of an overall corporate-wide strategy to produce reasonable and consistent margins where feasible, while attempting to limit risks inherent in the Company’s Consolidated Statement of Condition.
As of December 31, 2022, net unrealized losses on securities available-for-sale, which are carried as a component of accumulated other comprehensive loss and included in stockholders’ equity, net of tax, amounted to $61.8 million as compared with net unrealized losses of $0.5 million as of December 31, 2021. The increase in unrealized losses is predominately attributable to changes in market conditions and interest rates. Unrealized losses have not been recognized into income because the issuers are of high credit quality, we do not intend to sell, and it is likely that we will not be required to sell the securities prior to their anticipated recovery. The decline in fair value is largely due to changes in interest rates and other market conditions. This also resulted in a $25.1 million increase in deferred tax assets, attributable to the decline in fair value on securities available-for-sale since December 31, 2021. The issuers continue to make timely principal and interest payments on the securities. Any impairment that has not been recorded through an allowance for credit losses is recognized in other comprehensive income, net of applicable taxes. For additional information regarding the Company’s investment portfolio, see Note 3, Note 15 and Note 20 of the Notes to the Consolidated Financial Statements.
During 2022 and 2021, there were no sales from the Company’s available-for-sale portfolio. During 2020, there were $19.6 million in sales from the Company’s available-for-sale portfolio. The Company had a $195 thousand gain on the redemption of available-for-sale securities during 2021. The gross realized gains on securities sold, called or matured amounted to $29 thousand in 2020. The Company had no impairment charges in 2022, 2021 and 2020. The table below illustrates the maturity distribution and weighted average yield on a tax-equivalent basis for amortized cost of our investment securities, excluding equity securities, as of December 31, 2022, on a contractual maturity basis.
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Due after 1 year Due after 5 years
Due in 1 year or less through 5 years through 10 years Due after 10 years Total
Weighted Weighted Weighted Weighted Weighted
Cost Yield Cost Yield Cost Yield Cost Yield Cost Yield Value
(dollars in thousands)
Investment Securities Available-for-Sale
For information regarding the carrying value of the investment portfolio, see Note 3, Note 15 and Note 20 of the Notes to the Consolidated Financial Statements.
The securities listed in the table above are either rated investment grade by Moody’s and/or Standard and Poor’s or have shadow credit ratings from a credit agency supporting an investment grade and conform to the Company’s investment policy guidelines. There were no municipal securities, or corporate securities, of any single issuer exceeding 10% of stockholders’ equity as of December 31, 2022. Other securities do not have a contractual maturity and are included in the “Due in 1 year or less” maturity in the table above.
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The following table sets forth the carrying value of the Company’s investment securities, as of December 31 for each of the last three years.
(dollars in thousands)
Investment Securities Available-for-Sale:
Certificates of deposit - 150 151
For other information regarding the Company’s investment securities portfolio, see Note 3, Note 15 and Note 20 of the Notes to the Consolidated Financial Statements.
Interest Rate Sensitivity Analysis
The principal objective of our asset and liability management function is to evaluate the interest-rate risk included in certain balance sheet accounts; determine the level of risk appropriate given our business focus, operating environment, and capital and liquidity requirements; establish prudent asset concentration guidelines; and manage the risk consistent with Board approved guidelines. We seek to reduce the vulnerability of our operations to changes in interest rates, and actions in this regard are taken under the guidance of the Bank’s Asset Liability Committee (the “ALCO”). The ALCO generally reviews our liquidity, cash flow needs, maturities of investments, deposits and borrowings, and current market conditions and interest rates.
We currently utilize net interest income simulation and economic value of equity (“EVE”) models to measure the potential impact to the Bank of future changes in interest rates. As of December 31, 2022, and December 31, 2021, the results of the models were within guidelines prescribed by our Board of Directors. If model results were to fall outside prescribed ranges, action, including additional monitoring and reporting to the Board, would be required by the ALCO and Bank’s management.
The net interest income simulation model attempts to measure the change in net interest income over the next one-year period, and over the next three-year period on a cumulative basis, assuming certain changes in the general level of interest rates.
Based on our model, which was run as of December 31, 2022, we estimated that over the next one-year period a 200 basis-point instantaneous increase in the general level of interest rates would decrease our net interest income by 2.22%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 2.01%. As of December 31, 2021, we estimated that over the next one-year period a 200 basis-point instantaneous increase in the general level of interest rates would increase our net interest income by 3.35%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 5.64%.
Based on our model, which was run as of December 31, 2022, we estimated that over the next three years, on a cumulative basis, a 200 basis-point instantaneous increase in the general level of interest rates would decrease our net interest income by 2.66%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 3.99%. As of December 31, 2021, we estimated that over the next three years, on a cumulative basis, a 200 basis-point instantaneous increase in the general level of interest rates would increase our net interest income by 9.77%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 10.41%.
An EVE analysis is also used to dynamically model the present value of asset and liability cash flows with instantaneous rate shocks of up 200 basis points and down 100 basis points. The economic value of equity is likely to be different as interest rates change. Our EVE as of December 31, 2022, would decrease by 10.51% with an instantaneous rate shock of up 200 basis points, and decrease by 1.13% with an instantaneous rate shock of down 100 basis points. Our EVE as of December 31, 2021, would increase by 0.24% with an instantaneous rate shock of up 200 basis points, and decline by 5.20% with an instantaneous rate shock of down 100 basis points.
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The following table illustrates the most recent results for EVE and NII as of December 31, 2022.
(basis points) EVE Amount % (basis points) NII Amount %
Estimates of Fair Value
The estimation of fair value is significant to certain assets of the Company, including available-for-sale investment securities. These are all recorded at either fair value or the lower of cost or fair value. Fair values are volatile and may be influenced by a number of factors. Circumstances that could cause estimates of the fair value of certain assets and liabilities to change include a change in prepayment speeds, expected cash flows, credit quality, discount rates, or market interest rates. Fair values for most available-for-sale investment securities are based on quoted market prices. If quoted market prices are not available, fair values are based on judgments regarding future expected loss experience, current economic condition risk characteristics of various financial instruments, and other factors. See Note 20 of the Notes to Consolidated Financial Statements for additional discussion.
These estimates are subjective in nature, involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Impact of Inflation and Changing Prices
The financial statements and notes thereto presented elsewhere herein have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of the operations; unlike most industrial companies, nearly all of the Company’s assets and liabilities are monetary. As a result, interest rates have a greater impact on performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.
Liquidity
Liquidity is a measure of a bank’s ability to fund loans, withdrawals or maturities of deposits, and other cash outflows in a cost-effective manner. Our principal sources of funds are deposits, scheduled amortization and prepayments of loan principal, maturities of investment securities, and funds provided by operations. While scheduled loan payments and maturing investments are relatively predictable sources of funds, deposit flow and loan prepayments are greatly influenced by general interest rates, economic conditions and competition.
As of December 31, 2022, the amount of liquid assets remained at a level management deemed adequate to ensure that, on a short and long-term basis, contractual liabilities, depositors’ withdrawal requirements, and other operational and client credit needs could be satisfied. As of December 31, 2022, liquid assets (cash and due from banks, interest-bearing deposits with banks and unencumbered investment securities) were $760.0 million, which represented 7.9% of total assets and 9.3% of total deposits and borrowings, compared to $742.1 million as of December 31, 2021, which represented 9.1% of total assets and 10.9% of total deposits and borrowings on such date.
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The Bank is a member of the Federal Home Loan Bank of New York and, based on available qualified collateral as of December 31, 2022, had the ability to borrow $2.0 billion. In addition, as of December 31, 2022, the Bank had borrowing capacity of $450 million through correspondent banks. As of December 31, 2022, the Bank had aggregate available and unused credit of approximately $949 million, which represents the aforementioned facilities totaling $2.4 billion net of $1.5 billion in outstanding borrowings and letters of credit. As of December 31, 2022, outstanding commitments for the Bank to extend credit were $1.2 billion.
Cash and cash equivalents totaled $268.3 million as of December 31, 2022, increasing by $2.8 million from $265.5 million as of December 31, 2021. Operating activities provided $176.8 million in net cash. Investing activities used $1.5 billion in net cash, primarily reflecting an increase in loans. Financing activities provided $1.4 billion in net cash, primarily reflecting a net increase in deposits of $1.0 billion and an increase in net borrowings of $389.4 million.
Deposits
Deposits are our primary source of funds. Average total deposits increased by $0.6 million, or 9.0%, to $6.8 billion in 2022 from $6.2 billion in 2021 and increased $0.4 million, or 6.9%, to $6.2 billion in 2021 from $5.8 billion in 2020. The increase in total average deposits in 2022 and 2021 was attributable to organic growth. The following table sets forth the year-to-date average balances and weighted average rates for various types of deposits for 2022, 2021 and 2020.
Balance Rate Balance Rate Balance Rate
(dollars in thousands)
The following table sets forth the distribution of total deposit accounts, by account types for each of the dates indicated.
Amount % of total Amount % of total
(dollars in thousands)
As of December 31, 2022, we held $591.8 million of time deposits that exceed the Federal Deposit Insurance Corporation (“FDIC”) insurance limit, which was an increase of $341.3 million from $250.5 million as of December 31, 2021. The following table provides information on the maturity distribution of the time deposits exceeding the FDIC insurance limit as of December 31, 2022 and 2021:
December 31, December 31,
(dollars in thousands)
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Federal Home Loan Bank Advances
Federal Home Loan Bank advances are secured, under the terms of a blanket collateral agreement, primarily by commercial mortgage loans. As of December 31, 2022, the Company had a gross carrying value of $857.6 million, excluding a net fair value discount of $80 thousand, in notes outstanding at a weighted average interest rate of 4.32%. As of December 31, 2021, the Company had a gross carrying value of $468.3 million, excluding a net fair value discount of $120 thousand, in notes outstanding at a weighted average interest rate of 0.73%.
Contractual Obligations and Other Commitments
The following table summarizes contractual obligations as of December 31, 2022 and the effect such obligations are expected to have on liquidity and cash flows in future periods.
Over 5
Total Less than 1 year 1 – 3 years 4 – 5 years years
(dollars in thousands)
Contractual obligations:
Other contractual obligations:
Subordinated debentures, net of debt issuance costs 153,255 - - - 153,255
Other commercial commitments – off-balance sheet:
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Capital
The maintenance of a solid capital foundation continues to be a primary goal for the Company. Accordingly, capital plans, stock repurchases, and dividend policies are monitored on an ongoing basis. The most important objective of the capital planning process is to balance effectively the retention of capital to support future growth and the goal of providing stockholders with an attractive long-term return on their investment.
The Company’s Tier 1 leverage capital (defined as tangible stockholders’ equity for common stock and Trust Preferred Capital Securities) as of December 31, 2022 amounted to $1.0 billion or 10.7% of average total assets. As of December 31, 2021, the Company’s Tier 1 leverage capital amounted to $909.6 million or 11.7% of average total assets. The increase in Tier 1 capital reflects the Company’s retained earnings during 2022.
United States bank regulators have issued guidelines establishing minimum capital standards related to the level of assets and off balance-sheet exposures adjusted for credit risk. Specifically, these guidelines categorize assets and off balance-sheet items into risk-weightings and require banking institutions to maintain a minimum ratio of capital to risk-weighted assets. As of December 31, 2022, the Company’s CET 1, Tier 1 and total risk-based capital ratios were 10.30%, 11.66% and 14.45%, respectively. For information on risk-based capital and regulatory guidelines for the Parent Corporation and its bank subsidiary, see Note 15 to the Consolidated Financial Statements.
The foregoing capital ratios are based in part on specific quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by the bank regulators regarding capital components, risk weightings, and other factors.
Subordinated Debentures
During December 2003, Center Bancorp Statutory Trust II, a statutory business trust and wholly owned subsidiary of the Parent Corporation issued $5.0 million of MMCapS capital securities to investors due on January 23, 2034. The trust loaned the proceeds of this offering to the Company and received in exchange $5.2 million of the Parent Corporation’s subordinated debentures. The subordinated debentures are redeemable in whole or part. The floating interest rate on the subordinated debentures is three-month LIBOR plus 2.85% and re-prices quarterly. The rate as of December 31, 2022 was 7.26%.
During June 2020, the Parent Corporation issued $75 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “2020 Notes”). The 2020 Notes bear interest at 5.75% annually from, and including, the date of initial issuance to, but excluding, September 15, 2025 or the date of earlier redemption, payable semi-annually in arrears on September 15 and December 15 of each year, commencing December 15, 2020. From and including September 15, 2025 through maturity or earlier redemption, the interest rate shall reset quarterly to an interest rate per annum equal to a benchmark rate, which is expected to be Three-Month Term SOFR (as defined in the Second Supplemental Indenture), plus 560.5 basis points, payable quarterly in arrears on March 15, June 15, September 15 and December 15 of each year, commencing on September 15, 2025. Notwithstanding the foregoing, if the benchmark rate is less than zero, then the benchmark rate shall be deemed to be zero.
During January 2018, the Parent Corporation issued $75 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “Notes”) to certain accredited investors. The net proceeds from the sale of the Notes were used in the first quarter of 2018 for general corporate purposes, which included the Parent Corporation contributing $65 million of the net proceeds to the Bank in the form of debt and common equity. The Notes were non-callable for five years, have a stated maturity of February 1, 2028 and bear interest at a rate that resets quarterly to then current three-month LIBOR rate plus 284 basis points. The 2018 Notes were redeemed in full on February 1, 2023.
During June 2015, the Parent Corporation issued $50 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “2015 Notes”). As of December 31, 2020, the 2015 Notes had a stated maturity of July 1, 2025, and bore interest until the maturity date or early redemption date at a variable rate equal to the then current three-month LIBOR rate plus 393 basis points. As of December 31, 2020, the variable interest rate was 4.16%, all costs related to 2015 issuance had been amortized and the 2015 Notes were redeemed in full on January 1, 2021.
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Preferred Stock
On August 19, 2021, the Company completed an underwritten public offering of 115,000 shares, or $115 million in aggregate liquidation preference, of its depositary shares, each representing a 1/40th interest in a share of the Company’s 5.25% Fixed-Rate Non-Cumulative Perpetual Preferred Stock, Series A, no par value, with a liquidation preference of $1,000 per share. The net proceeds received from the issuance of preferred stock at the time of closing were $110.9 million.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Interest Sensitivity
Market Risk
Interest rate risk management is our primary market risk. See “Item 7- Management’s Discussion and Analysis of Financial Condition and Results of Operation- Interest Rate Sensitivity Analysis” herein for a discussion of our management of our interest rate risk.
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PART II
Item 8. Financial Statements and Supplementary Data
All Financial Statements:
The following financial statements are filed as part of this report under Item 8 - “Financial Statements and Supplementary Data.”
Page
Report of Independent Registered Public Accounting Firm 49
Consolidated Statements of Financial Condition 52
Consolidated Statements of Income 53
Consolidated Statements of Comprehensive Income 54
Consolidated Statements of Changes in Stockholders’ Equity 55
Consolidated Statements of Cash Flows 56
Notes to Consolidated Financial Statements 57
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM (PCAOB ID 173)
Shareholders and the Board of Directors of
ConnectOne Bancorp, Inc. and Subsidiaries
Englewood Cliffs, New Jersey
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated statements of financial condition of ConnectOne Bancorp, Inc. and Subsidiaries (the "Company") as of December 31, 2022 and 2021, the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2022, and the related notes (collectively referred to as the "financial statements"). We also have audited the Company’s internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control – Integrated Framework: (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2022 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control – Integrated Framework: (2013) issued by COSO.
Explanatory Paragraph – Change in Accounting Principle
As discussed in Note 1a to the consolidated financial statements, the Company has changed its method of accounting for credit losses effective January 1, 2021 due to the adoption of ASC 326, Financial Instruments – Credit Losses.
Basis for Opinions
The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
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Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Allowance for Credit Losses – Qualitative Loss Factors on Commercial and Commercial Real Estate Loans
As described in Note 1a to the consolidated financial statements, the Company accounts for credit losses under ASC 326, Financial Instruments – Credit Losses. ASC 326 requires the measurement of expected lifetime credit losses for financial assets measured at amortized cost at the reporting date. As of December 31, 2022, the allowance for credit losses (“ACL”) on loans was $90,513,000.
Management employs a process and methodology to estimate the ACL on pooled loans that evaluates both quantitative and qualitative factors. The methodology for evaluating quantitative factors includes pooling loans into portfolio segments for loan that share similar characteristics. Pooled loan portfolio segments include commercial, commercial real estate, commercial construction, residential real estate, and consumer loans.
For pooled loans, the Company utilizes a discounted cash flow (”DCF”) methodology to estimate credit losses over the expected life of the loan. The DCF methodology combines probability of default, the loss given default, and prepayment speed assumptions to estimate a reserve for each loan. The quantitative loss rates are adjusted by macroeconomic scenarios and reverts, on a straight-line basis, to average historical losses after the forecasted periods. The sum of all the loan level reserves is aggregated for each portfolio segment and a quantitative loss factor is derived. The quantitative factors are also supplemented by certain qualitative loss factors reflecting management’s view of how losses may vary from those represented by quantitative loss rates. Qualitative loss factors, for each loan segment within the portfolio, incorporate consideration for a minimum to maximum range for qualitative loss factor derived from either the Company’s historical loss experience or peer group historical loss experience. Changes in these assumptions could have a material effect on the Company’s financial results.
We identified auditing the qualitative component of the ACL on pooled loans in the commercial and commercial real estate loan segments as a critical audit matter because the methodology to determine the estimate of credit losses uses subjective judgments by management and is subject to material variability.
Performing audit procedures to evaluate the qualitative loss factors on the commercial and commercial real estate loan segments involved a high degree of auditor judgment and required significant effort, including the need to involve more experienced audit personnel including the use of internal specialists.
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The primary procedures we performed to address this critical audit matter included:
o Methodology and accounting policies.
o Information technology general controls and application controls.
o Management’s evaluation of qualitative loss factors.
o Testing the mathematical accuracy of the calculation.
/s/ Crowe LLP
We have served as the Company's auditor since 2014.
Livingston, New Jersey
February 24, 2023
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CONNECTONE BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31,
(in thousands, except share data)
ASSETS
Less: Allowance for credit losses - loans 90,513 78,773
Investment in restricted stock, at cost 46,604 27,826
Other real estate owned 264 -
LIABILITIES
Deposits:
Subordinated debentures, net of debt issuance costs 153,255 152,951
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS’ EQUITY
Preferred Stock, no par value;
Common stock, no par value:
Accumulated other comprehensive loss (32,364 ) (1,404 )
See the accompanying notes to the consolidated financial statements.
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CONNECTONE BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31,
(dollars in thousands, except for per share data)
Interest income:
Interest and dividends on investment securities:
Interest on federal funds sold and other short-term investments 2,493 405 694
Interest expense:
Noninterest income:
Gain on sale of branches - 674 -
Net (losses) gains on equity securities (1,521 ) (373 ) 202
Net gains on sale/redemption of investment securities - 195 29
Noninterest expense:
Merger expenses - - 14,640
Net periodic pension income (572 ) (269 ) (119 )
Increase in value of acquisition price 1,516 - 2,333
Earnings per common share:
See the accompanying notes to the consolidated financial statements.
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CONNECTONE BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years Ended December 31,
(dollars in thousands)
Other comprehensive income:
Unrealized gains and losses:
Tax effect - 48 6
Unrealized gains (losses) on cash flow hedges 46,181 3,593 (3,423 )
Unrealized pension plan gains (losses):
Unrealized pension plan gains (losses) before reclassifications 343 - (112 )
Tax effect (12 ) - 31
See the accompanying notes to the consolidated financial statements.
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CONNECTONE BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
Accumulated
Other Total
Additional Paid Retained Comprehensive Stockholders’
(in thousands, except share and per share data)
Other comprehensive income, net of tax - - - - - 3,944 3,944
Repurchase of stock (54,693 shares) - - - - (911 ) - (911 )
Exercise of stock options (35,413 shares) - - 233 - - - 233
Restricted stock grants, net of forfeitures (89,879 shares) - - - - - - -
Stock grants issued (1,340 shares) - - - - - - -
Stock-based compensation expense - - 2,949 - - - 2,949
Other comprehensive loss, net of tax - - - - - (4,201 ) (4,201 )
Exercise of stock options (14,247 shares) - - 106 - - - 106
Restricted stock grants, net of forfeitures (44,836 shares) - - - - - - -
Stock grants (4,981 shares) - - - - - - -
Stock-based compensation expense - - 4,536 - - - 4,536
Other comprehensive loss, net of tax - - - - - (30,960 ) (30,960 )
Exercise of stock options (15,086 shares) - - 124 - - - 124
Restricted stock grants, net of forfeitures (53,169 shares) - - - - - - -
Stock grants (153 shares) - - - - - - -
Stock-based compensation expense - - 4,889 - - - 4,889
See the accompanying notes to the consolidated financial statements.
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CONNECTONE BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
. Years Ended December 31,
Cash flows from operating activities
Depreciation and amortization of premises and equipment 3,863 3,757 4,244
Accretion on bank premises (49 ) (73 ) (90 )
Amortization (accretion) on borrowings 40 (36 ) (183 )
Net deferred income tax (benefit) expense (403 ) 16 (7,495 )
Gains on sales/redemptions of investment securities, net - (195 ) (29 )
Change in fair value of equity securities, net 1,521 373 (202 )
Gain on sale of loans held-for-sale, net (1,695 ) (3,807 ) (2,085 )
Gain on sale of branches - (674 ) -
Net losses on disposition of other fixed assets 22 65 -
Gain (loss) on sale of other real estate owned 6 (18 ) -
Amortization of subordinated debt issuance costs 304 303 323
(Increase) decrease in accrued interest receivable (11,910 ) 1,165 (11,458 )
Net change in operating leases (182 ) (769 ) 41
Cash flows from investing activities