Item 7. Management’s Discussion and
Analysis of Financial Condition and Results of Operations
The following discussion and analysis identifies
significant factors that have affected our financial position and operating results during the periods included in the accompanying financial
statements. We encourage you to read this discussion and analysis in conjunction with the financial statements and the related notes and
the other statistical information also included in this Annual Report on Form 10-K.
OVERVIEW
Our business model continues
to be client-focused, utilizing relationship teams to provide our clients with a specific banker contact and support team responsible
for all of their banking needs. The purpose of this structure is to provide a consistent and superior level of professional service, and
we believe it provides us with a distinct competitive advantage. We consider exceptional client service to be a critical part of our culture,
which we refer to as “ClientFIRST.”
At December 31, 2022, we had total assets of $3.69
billion, a 26.2% increase from total assets of $2.93 billion at December 31, 2021. The largest components of our total assets are loans
which were $3.27 billion and $2.49 billion at December 31, 2022 and 2021, respectively. Our liabilities and shareholders’ equity
at December 31, 2022 totaled $3.40 billion and $294.5 million, respectively, compared to liabilities of $2.65 billion and shareholders’
equity of $277.9 million at December 31, 2021. The principal component of our liabilities is deposits which were $3.13 billion and $2.56
billion at December 31, 2022 and 2021, respectively.
Like most community banks, we derive the majority
of our income from interest received on our loans and investments. Our primary source of funds for making these loans and investments
is our deposits, on which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income,
or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing
liabilities, such as deposits and borrowings. Another key measure is the difference between the yield we earn on these interest-earning
assets and the rate we pay on our interest-bearing liabilities, which is called our net interest spread. In addition to earning interest
on our loans and investments, we earn income through fees and other charges to our clients.
Our net income available to common shareholders
for the years ended December 31, 2022 and 2021 was $29.1 million and $46.7 million, or diluted earnings per share (“EPS”)
of $3.61 and $5.85 for the years ended December 31, 2022 and 2021, respectively. The decrease in net income resulted primarily from an
increase in our provision for credit losses, a decrease in noninterest income and an increase in noninterest expenses, partially offset
by an increase in net interest income. In addition, our net income available to shareholders was $18.3 million, or EPS of $2.34 for the
year ended December 31, 2020.
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SELECTED FINANCIAL DATA
The following table sets forth our selected historical
consolidated financial information for the periods and as of the dates indicated. We derived our balance sheet and income statement data
for the years ended December 31, 2022, 2021, and 2020 from our audited consolidated financial statements. You should read this information
together with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our audited
consolidated financial statements and the related notes thereto, which are included elsewhere in this Annual Report on Form 10-K.
Years Ended December 31,
BALANCE SHEET DATA
Preferred stock - - -
SELECTED RESULTS OF OPERATIONS DATA
Preferred stock dividends - - -
PER COMMON SHARE DATA
Weighted average number of common shares outstanding:
SELECTED FINANCIAL RATIOS
Performance Ratios:
Net interest margin, tax equivalent(2) 3.19 % 3.45 % 3.55 %
Asset Quality Ratios:
Nonperforming assets to total loans (1) 0.08 % 0.20 % 0.43 %
Nonperforming assets to total assets 0.07 % 0.17 % 0.37 %
Net charge-offs to average total loans (0.05 %) 0.06 % 0.10 %
Allowance for credit losses to total loans 1.18 % 1.22 % 2.06 %
Holding Company Capital Ratios:
Growth Ratios:
Change in net income to common shareholders -37.67 % 154.86 % -34.21 %
Change in earnings per common share - diluted -38.29 % 150.00 % -34.64 %
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Footnotes to table:
(1) Excludes loans held for sale.
CRITICAL ACCOUNTING ESTIMATES
We have adopted various accounting policies that
govern the application of accounting principles generally accepted in the U.S. and with general practices within the banking industry
in the preparation of our financial statements. Our significant accounting policies are described in Note 1 to our Consolidated Financial
Statements as of December 31, 2022.
Certain accounting policies inherently involve
a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that
could be materially different than originally reported, which could have a material impact on the carrying values of our assets and liabilities
and our results of operations. We consider these accounting policies and estimates to be critical accounting policies. We have identified
the determination of the allowance for credit losses, the fair valuation of financial instruments and income taxes to be the accounting
areas that require the most subjective or complex judgments and, as such, could be most subject to revision as new or additional information
becomes available or circumstances change, including overall changes in the economic climate and/or market interest rates. Therefore,
management has reviewed and approved these critical accounting policies and estimates and has discussed these policies with the Company’s
Audit Committee.
Allowance for Credit Losses
The allowance for credit
losses (“ACL”) is management’s current estimate of expected credit losses that will result from the inability of our
borrowers to make required loan payments, with particular applicability on our balance sheet to loans and unfunded loan commitments. Estimating
the amount of the ACL requires significant judgment and the use of estimates related to historical experience, current conditions, reasonable
and supportable forecasts, and the value of collateral on collateral-dependent loans. Credit losses are charged against the allowance,
while recoveries of amounts previously charged off are credited to the allowance. A provision for credit losses is charged to operations
based on management’s periodic evaluation of the factors previously mentioned, as well as other pertinent factors.
There are many factors
affecting the ACL; some are quantitative while others require qualitative judgment. Although management believes its process for determining
the allowance adequately considers all the potential factors that could potentially result in credit losses, the process includes subjective
elements and is susceptible to significant change. To the extent actual outcomes are worse than management estimates, additional provision
for credit losses could be required that could adversely affect our earnings or financial position in future periods.
See Note 1 – Summary
of Significant Accounting Policies and Activities for further detailed descriptions of our estimation process and methodology related
to the ACL. See also Note 4 – Loans and Allowance for Credit Losses and “Provision for Credit Losses” in this MD&A.
Fair Valuation of Financial Instruments
Certain assets and liabilities are measured at
fair value on a recurring basis, including securities and derivative instruments. Assets and liabilities carried at fair value inherently
include subjectivity and may require the use of significant assumptions, adjustments and judgment including, among others, discount rates,
rates of return on assets, cash flows, default rates, loss rates, terminal values and liquidation values. A significant change in assumptions
may result in a significant change in fair value, which in turn, may result in a higher degree of financial statement volatility and could
result in significant impact on our results of operations, financial condition or disclosures of fair value information.
The fair value hierarchy
requires use of observable inputs first and subsequently unobservable inputs when observable inputs are not available. Our fair value
measurements involve various valuation techniques and models, which involve inputs that are observable (Level 1 or Level 2 in fair value
hierarchy), when available. The level of judgment required to determine fair value is dependent on the methods or techniques used in the
process. Assets and liabilities that are measured at fair value using quoted prices in active markets (Level 1) do not require significant
judgment while the valuation of assets and liabilities when quoted market prices are not available (Levels 2 and 3) may require significant
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judgment to assess whether observable or unobservable inputs for those assets and liabilities provide reasonable determination of fair
value. See Note 14 to the Consolidated Financial Statements for additional information regarding the fair values measured at each level
of the fair value hierarchy, additional discussion regarding fair value measurements, and a brief description of how fair value is determined
for categories that have unobservable inputs.
Income Taxes
The financial statements have been prepared on
the accrual basis. When income and expenses are recognized in different periods for financial reporting purposes versus for the purposes
of computing income taxes currently payable, deferred taxes are provided on such temporary differences. Deferred tax assets and liabilities
are recognized for the expected future tax consequences of events that have been recognized in the consolidated financial statements or
tax returns. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years
in which those temporary differences are expected to be realized or settled.
RESULTS OF OPERATIONS
Net Interest Income and Margin
Our level of net interest income is determined
by the level of earning assets and the management of our net interest margin. For the years ended December 31, 2022, 2021, and 2020, our
net interest income was $97.6 million, $87.7 million, and $79.8 million, respectively. The $9.9 million, or 11.3%, increase in net interest
income during 2022, compared to 2021, was driven by a $525.0 million increase in average earning assets, partially offset by a $401.0
million increase in our average interest-bearing liabilities. The increase in average earning assets was primarily related to an increase
in average loans, while the increase in average interest-bearing liabilities was primarily driven by an increase in interest-bearing deposits.
During 2021, our net interest income increased $7.9 million, or 9.9%, compared to 2020, while average interest-earning assets increased
$249.1 million and average interest-bearing liabilities increased $69.7 million.
Interest income for the years ended December 31,
2022, 2021, and 2020 was $117.7 million, $93.2 million, and $94.8 million, respectively. A significant portion of our interest income
relates to our strategy to maintain a large portion of our assets in higher earning loans compared to lower yielding investments and federal
funds sold. As such, 97.1% of our interest income related to interest on loans during 2022, compared to 98.3% during 2021 and 98.2% during
2020. Also, included in interest income on loans was $1.7 million related to the net amortization of loan fees and capitalized loan origination
costs for the year ended December 31, 2022 and $1.4 million for the years ended December 31, 2021 and 2020.
Interest expense was $20.0 million, $5.4 million,
and $15.0 million for the years ended December 31, 2022, 2021, and 2020, respectively. Interest expense on deposits for 2022 represented
90.3% of total interest expense, compared to 71.9% for 2021, and 87.0% for 2020, while interest expense on borrowings represented 9.7%
of total interest expense for 2022, compared to 28.1% for 2021, and 13.0% for 2020. The increase in interest expense on deposits during
2022 resulted from an increase in the rate paid on deposit balances which relates to the Federal Reserve’s 425 basis point increase
in the federal funds rate.
We have included a number of tables to assist in
our description of various measures of our financial performance. For example, the “Average Balances, Income and Expenses, Yields
and Rates” table shows the average balance of each category of our assets and liabilities as well as the yield we earned or the
rate we paid with respect to each category during 2022, 2021, and 2022. Similarly, the “Rate/Volume Analysis” table demonstrates
the effect of changing interest rates and changing volume of assets and liabilities on our financial condition during the periods shown.
We also track the sensitivity of our various categories of assets and liabilities to changes in interest rates, and we have included tables
to illustrate our interest rate sensitivity with respect to interest-earning and interest-bearing accounts.
The following table sets forth information related
to our average balance sheet, average yields on assets, and average costs of liabilities at December 31, 2022, 2021 and 2020. We derived
these yields or costs by dividing income or expense by the average balance of the corresponding assets or liabilities. We derived average
balances from the daily balances throughout the periods indicated. During the same periods, we had no securities purchased with agreements
to resell. All investments were owned at an original maturity of over one year. Nonaccrual loans are included in earning assets in the
following tables. Loan yields have been reduced to reflect the negative impact on our earnings of loans on nonaccrual status. The net
of capitalized loan costs and fees are amortized into interest income on loans.
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Average Balances, Income and Expenses, Yields and
Rates
For the Year Ended December 31,
Interest-earning assets
Interest-bearing liabilities
Less: tax-equivalent adjustment (1) (59 ) (67 ) (48 )
(2) Includes loans held for sale and nonaccrual loans.
Our net interest margin,
on a tax-equivalent basis (TE), was 3.19%, 3.45% and 3.48% for the years ended December 31, 2022, 2021 and 2020, respectively. Our net
interest margin (TE) decreased 26 basis points in 2022, compared to 2021, due to higher costs on our interest-bearing liabilities, partially
offset by an increase in yield on our interest- earning assets. During 2021, our net interest margin decreased three basis points, compared
to 2020, due to the growth in average interest-earning assets at reduced yields being greater than the growth in interest-bearing liabilities
which were also at reduced rates.
Our average interest-earning assets increased by
$525.0 million during the year ended December 31, 2022, compared to 2021, while the related yield on our interest-earning assets increased
by 17 basis points. The increase in average interest-earning assets was driven by a $556.5 million increase in average loan balances,
partially offset by a $35.3 million decrease in federal funds sold and interest-bearing deposits with banks. In addition, the increase
in yield on our interest earning assets was driven by a 144 basis point increase in the yield on our federal funds sold and other interest-bearing
deposits which repriced as the Federal Reserve increased the federal funds rate by 425 basis points during 2022.
During the year ended December 31, 2021, our average
interest-earning assets increased by $249.1 million, compared to 2020, while the yield on our interest-earning assets decreased by 47
basis points. The increase in average interest-earning assets was driven primarily by a $207.7 million increase in average loan balances
combined with an $18.0 million increase in federal funds sold and interest-bearing deposits with banks. In addition, the reduction in
yield on our interest earning assets was driven by a 46 basis point decrease in loan yield as our loan portfolio was impacted by the Federal
Reserve’s aggregate 225 basis point interest rate reduction from July 2019 to March 2020.
Our average interest-bearing liabilities increased
by $401.0 million during 2022 while the cost of our interest-bearing liabilities increased by 64 basis points. The increase in average
interest-bearing liabilities was driven primarily by a $381.9 million increase in average interest-bearing deposits at an average rate
of 0.89%. During 2021, our average interest-bearing liabilities increased by $69.7 million, compared to 2020, while the cost of our interest-bearing
liabilities decreased by 60 basis points.
Our net interest spread
was 2.88% for the year ended December 31, 2022, compared to 3.35% for the same period in 2021 and 3.22% for 2020. The net interest spread
is the difference between the yield we earn on our interest-earning assets and the rate we pay on our interest-bearing liabilities. The
64 basis point increase in the cost of our interest-bearing
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liabilities, partially offset by a 17 basis point increase in yield on our
interest-earning assets resulted in a 47 basis point decrease in our net interest spread for the 2022 period. We anticipate continued
pressure on our net interest spread and net interest margin in future periods as our deposits continue to reprice immediately with increases
in the fed funds rate, compared to our loan portfolio which reprices as loans are originated or renewed.
Rate/Volume Analysis
Net interest income can be analyzed in terms of
the impact of changing interest rates and changing volume. The following tables set forth the effect which the varying levels of interest-earning
assets and interest-bearing liabilities and the applicable rates have had on changes in net interest income for the periods presented.
Years Ended
Increase (Decrease) Due to Change in Increase (Decrease) Due to Change in
Interest income
Interest expense
Net interest income, the largest component of our
income, was $97.6 million for the year ended December 31, 2022, a $9.9 million increase from net interest income of $87.7 million for
the year ended December 31, 2021. The increase in net interest income was driven by a $24.5 million increase in interest income, partially
offset by a $14.6 million increase in interest expense. The $556.5 million increase in average loan balances was the primary driver of
the increase in interest income, while the 65 basis point increase in deposit costs drove the increase in interest expense.
Net interest income was $87.7 million for the year
ended December 31, 2021, a $7.9 million increase from net interest income of $79.8 million for the year ended December 31, 2020. The increase
in net interest income was driven by a $9.6 million decrease in interest expense, partially offset by a $1.7 million decrease in interest
income. Reduced rates on our interest-bearing liabilities was the primary driver of the decrease in interest expense which was partially
offset by a $69.7 million increase in the average balance of those liabilities. Interest income decreased $1.7 million driven by a decrease
in rates on interest earning assets.
Provision for Credit Losses
The provision for credit losses, which includes
a provision for losses on unfunded commitments, is a charge to earnings to maintain the allowance for credit losses and reserve for unfunded
commitments at levels consistent with management’s assessment of expected losses in the loan portfolio at the balance sheet date.
On January 1, 2022, we adopted the Current Expected Credit Loss (CECL) methodology for estimating credit losses, which resulted in an
increase of $1.5 million in our allowance for credit losses and an increase of $2.0 million in our reserve for unfunded commitments. The
tax-effected impact of these two items amounted to $2.8 million and was recorded as an adjustment to our retained earnings as of January
1, 2022. We review the adequacy of the allowance for credit losses on a quarterly basis. Please see the discussion below under “Results
of Operations – Allowance for Credit Losses” for a description of the factors we consider in determining the amount of the
provision we expense each period to maintain this allowance.
There was a $6.2 million provision for credit losses
for the year ended December 31, 2022, compared to reversal of $12.4 million and an expense of $29.6 million for the years ended December
31, 2021 and 2020, respectively. The $6.2 million provision during 2022, which included a $780,000 provision for unfunded commitments,
was driven primarily by $783.5 million in loan growth during the year, combined with a $259.6 million increase in unfunded commitments.
In addition, to loan growth, the provision for credit losses was impacted by slightly lower expected loss rates due to historically low
charge-offs during the 12 months ended December 31, 2022 while minor adjustments to two internal qualitative factors increased the qualitative
component of the allowance and related provision expense. The $12.4 million reversal of
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provision during 2021 related to a reduction in
qualitative adjustment factors driven by the overall improvement in economic conditions as well as improvement in the credit quality of
our portfolio following the pandemic. The $29.6 million provision recorded during 2020 was driven by an increase to our qualitative environmental
factors related to the uncertain economic and business conditions arising from the pandemic at both the national and regional levels.
Following is a summary of the activity in the allowance
for credit losses.
December 31,
Adjustment for CECL 1,500 - -
As of December 31, 2022, the allowance for credit
losses totaled $38.6 million, or 1.18% of gross loans. In comparison, the allowance for credit losses totaled $30.4 million as of December
31, 2021, or 1.22% of gross loans, and $44.1 million as of December 31, 2020, or 2.06% of gross loans.
During the year ended December 31, 2022, we had
net recoveries of $1.4 million, consisting of $1.8 million of recoveries on loans previously charged-off, partially offset by $485 thousand
of loans charged-off in the current year. In addition, nonperforming assets decreased to 0.07% of total assets while our level of classified
assets decreased to 4.72% at December 31, 2022.
We reported net charge-offs of $1.3 million and
$2.1 million for the years ended December 31, 2021 and 2020, respectively, including recoveries of $825,000 and $1.3 million in 2021 and
2020, respectively. The net charge-offs of $1.3 million and $2.1 million during 2021 and 2020, respectively, represented 0.06% and 0.10%
of the average outstanding loan portfolios for 2021 and 2020, respectively.
Noninterest Income
The following table sets forth information related
to our noninterest income.
Year ended December 31,
Net lender fees on PPP loan sale - 268 2,247
Noninterest income was $9.6 million for the year
ended December 31, 2022, a $7.5 million, or 44.0%, decrease compared to noninterest income of $17.1 million for the year ended December
31, 2021. The decrease in noninterest income during 2022, compared to 2021, resulted primarily from the following:
Offsetting these decreases in noninterest income
were increases in service fees on deposit accounts and ATM and debit card income due to growth in our client base and transaction volume.
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Noninterest income was $17.1 million for the year
ended December 31, 2021, a $10.3 million, or 37.5%, decrease compared to noninterest income of $27.4 million for the year ended December
31, 2020. The decrease in noninterest income during 2021, compared to 2020, resulted primarily from the following:
Offsetting these decreases in noninterest income
was an increase in ATM and debit card income which was driven by additional transaction volume and an increase in bank owned life insurance
as we purchased $7.5 million in additional life insurance.
Noninterest Expenses
The following table sets forth information related
to our noninterest expenses.
Years ended December 31,
Other real estate owned expenses, net - 385 1,223
Noninterest expenses were $62.9 million for the
year ended December 31, 2022, a $6.5 million, or 11.5%, increase from noninterest expense of $56.4 million for 2021.
The increase in total noninterest expenses during
2022, compared to 2021, resulted primarily from the following:
Partially offsetting the above increases were the
following decreases in noninterest expense:
Noninterest expenses were $56.4 million for the
year ended December 31, 2021, a $2.7 million, or 5.0%, increase from noninterest expense of $53.7 million for 2020.
The increase in total noninterest expenses during
2021, compared to 2020, resulted primarily from the following:
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Partially offsetting the above increases were the
following decreases in noninterest expense:
Our efficiency ratio was 58.7% for 2022 compared
to 53.8% for 2021. The efficiency ratio represents the percentage of one dollar of expense required to be incurred to earn a full dollar
of revenue and is computed by dividing noninterest expense by the sum of net interest income and noninterest income. The increase during
the 2022 period relates primarily to the decrease in noninterest income, combined with the increase in noninterest expense compared to
2021.
Income Taxes
Income tax expense was $9.0 million, $14.1 million
and $5.5 million for the years ended December 31, 2022, 2021 and 2020, respectively. Our effective tax rate was 23.6% for the year ended
December 31, 2022, compared to 23.2% for 2021, and 23.1% for 2020. The increase in the effective rate for the 2022 and 2021 periods is
related to the lesser impact of tax-exempt income and equity compensation transactions that occurred during the respective periods.
Investment Securities
At December 31, 2022 and 2021, our investment securities
portfolio was $104.2 million and $124.3 million, respectively, and represented approximately 2.8% and 4.2% of our total assets, respectively.
Our available for sale investment portfolio included Corporate bonds, US treasuries, US agency securities, SBA securities, state and political
subdivisions, asset-backed securities, and mortgage-backed securities with a fair value of $93.3 million and amortized cost of $110.3
million for an unrealized loss of $17.0 million at December 31, 2022 compared to a fair value of $120.3 million and amortized cost of
$121.2 million for an unrealized loss of $937,000 at December 31, 2021.
The amortized costs and the fair value of our investments
are as follows.
December 31,
Amortized Fair Amortized Fair Amortized Fair
(dollars in thousands) Cost Value Cost Value Cost Value
Available for Sale
Contractual maturities and yields on our investments
are shown in the following table. Expected maturities may differ from contractual maturities because issuers may have the right to call
or prepay obligations with or without call or prepayment penalties.
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Less Than One Year One to Five Years Five to Ten Years Over Ten Years Total
Available for Sale
Other investments are comprised of the following
and are recorded at cost which approximates fair value.
December 31,
Federal Home Loan Bank stock $ 9,250 1,241
Investment in Trust Preferred subsidiaries 403 403
Loans
Since loans typically provide higher interest yields
than other types of interest-earning assets, a substantial percentage of our earning assets are invested in our loan portfolio. Average
loans for the years ended December 31, 2022 and 2021 were $2.87 billion and $2.31 billion, respectively. Before allowance for credit losses,
total loans outstanding at December 31, 2022 and 2021 were $3.27 billion and $2.49 billion, respectively.
The principal component of our loan portfolio is
loans secured by real estate mortgages. As of December 31, 2022, our loan portfolio included $2.78 billion, or 84.8%, of real estate loans,
compared to $2.13 billion, or 85.5%, as of December 31, 2021. Most of our real estate loans are secured by residential or commercial property.
We obtain a security interest in real estate, in addition to any other available collateral, in order to increase the likelihood of the
ultimate repayment of the loan. Generally, we limit the loan-to-value ratio on loans to coincide with the appropriate regulatory guidelines.
We attempt to maintain a relatively diversified loan portfolio to help reduce the risk inherent in concentration in certain types of collateral
and business types. In addition to traditional residential mortgage loans, we issue second mortgage residential real estate loans and
home equity lines of credit. Home equity lines of credit totaled $179.3 million as of December 31, 2022, of which approximately 48% were
in a first lien position, while the remaining balance was second liens, compared to $154.8 million as of December 31, 2021, of which approximately
49% were in first lien positions and the remaining balance was in second liens. The average home equity loan had a balance of approximately
$84,000 and a loan to value of approximately 73% as of December 31, 2022, compared to an average loan balance of $81,000 and a loan to
value of approximately 62% as of December 31, 2021. Further, 0.6% and 1.0% of our total home equity lines of credit were over 30 days
past due as of December 31, 2022 and 2021, respectively.
Following is a summary of our loan composition
for each of the last three years ended December 31, 2022. Of the $783.5 million in loan growth in 2022, $500.0 million of growth was in
commercial related loans, while $283.4 million of growth was in consumer related loans, specifically consumer real estate mortgages which
grew by $236.9 million during 2022. The increase in consumer real estate loans is related to our focus to continue to originate high quality
1-4 family consumer real estate loans. Our average consumer real estate loan currently has a principal balance of $468,000, a term of
22 years, and an average rate of 3.71%.
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December 31,
(dollars in thousands) Amount % of Total Amount % of Total Amount % of Total
Commercial
Consumer
Maturities and Sensitivity of Loans to Changes
in Interest Rates
The information in the following table is based
on the contractual maturities of individual loans, including loans which may be subject to renewal at their contractual maturity. Renewal
of such loans is subject to review and credit approval, as well as modification of terms upon maturity. Actual repayments of loans may
differ from the maturities reflected below because borrowers have the right to prepay obligations with or without prepayment penalties.
The following table summarizes the composition
and maturities of the loan portfolio.
Commercial
Consumer
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The following table summarizes the loans due after
one year by category.
Interest Rate
(dollars in thousands) Fixed Floating or Adjustable
Commercial
Consumer
Nonperforming Assets
Nonperforming assets include real estate acquired
through foreclosure or deed taken in lieu of foreclosure and loans on nonaccrual status. The following table shows the nonperforming assets
and the related percentage of nonperforming assets to total assets and gross loans for the five years ended December 31, 2022. Generally,
a loan is placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when we believe, after considering
economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the
loan is doubtful. A payment of interest on a loan that is classified as nonaccrual is recognized as a reduction in principal when received.
Our policy with respect to nonperforming loans requires the borrower to make a minimum of six consecutive payments in accordance with
the loan terms before that loan can be placed back on accrual status. Further, the borrower must show capacity to continue performing
into the future prior to restoration of accrual status.
December 31,
Commercial
Construction - - 139
Consumer
Nonaccruing troubled debt restructurings (TDRs) 1,796 2,952 3,509
Total nonaccrual loans, including nonaccruing TDRs 2,627 4,864 8,069
Other real estate owned - - 1,169
Asset Quality Ratios:
Nonperforming assets/total assets 0.07 % 0.17 % 0.37 %
Nonaccrual loans/gross loans 0.08 % 0.20 % 0.38 %
Loans over 90 days past due and still accruing - - -
(1) Loans over 90 days are included in nonaccrual loans
At December 31, 2022, nonperforming assets were
$2.6 million, or 0.07% of total assets and 0.08% of gross loans, compared to $4.9 million, or 0.17% of total assets and 0.20% of gross
loans at December 31, 2021. Nonaccrual loans decreased $2.2 million to $2.6 million at December 31, 2022 from $4.9 million at December
31, 2021. During 2022, we added seven new loans totaling $1.3 million to nonaccrual, while two loans totaling $1.4 million paid off, eight
loans totaling $1.7 million were returned to accruing status and one loan totaling $171,000 was charged off. The amount of foregone
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interest
income on the nonaccrual loans as of December 31, 2022 and 2021 was approximately $28,000 and $55,000, respectively, for the twelve-month
periods.
A significant portion, or 93.1%, of nonaccrual
loans at December 31, 2022 were secured by real estate. We have evaluated the underlying collateral on these loans and believe that the
collateral on these loans is sufficient to minimize future losses. As a result of this level of coverage on nonaccrual loans, we believe
the allowance for credit losses of $38.6 million for the year ended December 31, 2022 is adequate.
As a general practice, most of our commercial loans
and a portion of our consumer loans are originated with relatively short maturities of less than ten years. As a result, when a loan reaches
its maturity we frequently renew the loan and thus extend its maturity using similar credit standards as those used when the loan was
first originated. Due to these loan practices, we may, at times, renew loans which are classified as nonaccrual after evaluating the loan’s
collateral value and financial strength of its guarantors. Nonaccrual loans are renewed at terms generally consistent with the ultimate
source of repayment and rarely at reduced rates. In these cases, we will generally seek additional credit enhancements, such as additional
collateral or additional guarantees to further protect the loan. When a loan is no longer performing in accordance with its stated terms,
we will typically seek performance under the guarantee.
In addition, approximately 85% of our loans are
collateralized by real estate and approximately 82% of our individually evaluated loans are secured by real estate. We use third party
appraisers to determine the fair value of collateral dependent loans. Our current loan and appraisal policies require us to review individually
evaluated loans at least annually and determine whether it is necessary to obtain an updated appraisal, either through a new external
appraisal or an internal appraisal evaluation. We individually review our individually evaluated loans on a quarterly basis to determine
the level of impairment. As of December 31, 2022, we do not have any individually evaluated loans carried at a value in excess of the
appraised value. We typically charge-off a portion or create a specific reserve for individually evaluated loans when we do not expect
repayment to occur as agreed upon under the original terms of the loan agreement.
At December 31, 2022, individually evaluated loans
totaled approximately $7.1 million for which $6.8 million of these loans have a reserve of approximately $1.3 million allocated in the
allowance. During 2022, the average recorded investment in individually evaluated loans was approximately $7.6 million. At December 31,
2021, impaired loans totaled approximately $8.2 million for which $2.9 million of these loans had a reserve of approximately $836,000
allocated in the allowance. During 2021, the average recorded investment in impaired loans was approximately $12.5 million.
We consider a loan to
be a TDR when the debtor experiences financial difficulties and we provide concessions such that we will not collect all principal and
interest in accordance with the original terms of the loan agreement. Concessions can relate to the contractual interest rate, maturity
date, or payment structure of the note. As part of our workout plan for individual loan relationships, we may restructure loan terms to
assist borrowers facing challenges in the current economic environment. As of December 31, 2022 and 2021, we had $6.3 million in loans
that we considered TDRs. As permitted by the CARES Act, we do not consider loan modifications to borrowers affected by COVID-19 to be
TDRs unless the borrower was 30 days or more past due as of December 31, 2019, (ii) the modifications were related to COVID-19, and (iii)
the modification occurred between March 1, 2020 and January 1, 2022. See Notes 1 and 5 to the Consolidated Financial Statements for additional
information on TDRs.
Allowance for Credit Losses
At December 31, 2022 and December 31, 2021, the
allowance for credit losses was $38.6 million and $30.4 million, respectively, or 1.18% and 1.22% of outstanding loans, respectively.
The allowance for credit losses as a percentage of our outstanding loan portfolio decreased from the prior year primarily to historically
low loan charge-offs which factors into the expected loss rate on our current loan portfolio. In addition, the credit quality of our loan
portfolio improved with our nonperforming assets decreasing to 0.07% compared to 0.17%, as a percentage of total assets, at December 31,
2022 and 2021, respectively. However, our classified assets decreased to 4.72% of capital as of December 31, 2022, compared to 12.6% of
capital as of December 31, 2021 due to the five hotel loans that were downgraded during the first quarter of 2021. See Note 4 to the Consolidated
Financial Statements for more information on our allowance for credit losses.
The negative provision during 2021 was driven by
a reduction in qualitative adjustment factors related to the overall improvement in economic conditions at both the national and regional
levels as well as improvement in the credit quality of our loan portfolio.
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The following table summarizes the net charge-off
detail as a percentage of average loans by loan composition for the three years ended December 31, 2022.
Year ended December 31,
(dollars in thousands) Amount % Amount % Amount %
Net charge-offs:
Commercial
Consumer
Net loan (charge-offs) recoveries $ 1,356 $ (1,341 ) $ (2,093 )
Net loan (charge-offs) recoveries as a % of average loans (0.05 %) 0.06 % 0.10 %
The following
table summarizes the allocation of the allowance for credit losses among the various loan categories.
Year ended December 31,
(dollars in thousands) Amount %(1) Amount %(1)
Commercial
Consumer
(1) Percentage of loans in each category to total loans
Deposits and Other Interest-Bearing Liabilities
Our primary source of funds for loans and investments
is our deposits and advances from the FHLB. In the past, we have chosen to obtain a portion of our certificates of deposits from areas
outside of our market in order to obtain longer term deposits than are readily available in our local market. Our internal guidelines
regarding the use of brokered CDs limit our brokered CDs to 20% of total deposits. In addition, we do not obtain time deposits of $100,000
or more through the Internet. These guidelines allow us to take advantage of the attractive terms that wholesale funding can offer while
mitigating the related inherent risk.
Our retail deposits represented $2.90 billion,
or 92.5% of total deposits at December 31, 2022. At December 31, 2021, retail deposits represented $2.56 billion, or 100.0% of our total
deposits at December 31, 2021. Brokered deposits were $236.2 million, representing 7.5% of our total deposits at December 31, 2022. Our
loan-to-deposit ratio was 104%, 97%, and 100% at December 31, 2022, 2021, and 2020, respectively.
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The following table shows the average balance
amounts and the average rates paid on deposits held by us.
December 31,
(dollars in thousands) Amount Rate Amount Rate Amount Rate
During the 12 months ended December 31, 2022,
our average transaction account balances increased by $374.2 million, or 17.4%, while our average time deposit balances increased by $125.6
million, or 71.2%. Core deposits exclude out-of-market deposits and time deposits of $250,000 or more and provide a relatively stable
funding source for our loan portfolio and other earning assets. Our core deposits were $2.76 billion, $2.48 billion, and $2.01 billion
at December 31, 2022, 2021 and 2020, respectively.
All of our time deposits are certificates of deposits.
The maturity distribution of our time deposits of $250,000 or more is as follows:
December 31,
Time deposits that meet or exceed the FDIC insurance
limit of $250,000 at December 31, 2022 and December 31, 2021 were $374.8 million and $84.4 million, respectively, including wholesale
deposits.
At December 31, 2022
and 2021, the Company estimates that it has approximately $1.4 billion and $1.2 billion, respectively, in uninsured deposits including
related interest accrued and unpaid. Since it is not reasonably practicable to provide a precise measure of uninsured deposits, the amounts
above are estimates and are based on the same methodologies and assumptions used for the bank’s regulatory reporting requirements
by the FDIC for the Call Report.
Liquidity and Capital Resources
Liquidity represents the ability of a company
to convert assets into cash or cash equivalents without significant loss, and the ability to raise additional funds by increasing liabilities.
Liquidity management involves monitoring our sources and uses of funds in order to meet our day-to-day cash flow requirements while maximizing
profits. Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management
control. For example, the timing of maturities of our investment portfolio is fairly predictable and subject to a high degree of control
at the time investment decisions are made. However, net deposit inflows and outflows are far less predictable and are not subject to the
same degree of control.
At December 31, 2022 and 2021, our cash and cash
equivalents amounted to $170.9 million and $167.2 million, or 4.6% and 5.7% of total assets, respectively. Our investment securities at
December 31, 2022 and 2021 amounted to $104.2 million and $124.3 million, or 2.8% and 4.2% of total assets, respectively. Investment securities
traditionally provide a secondary source of liquidity since they can be converted into cash in a timely manner.
Our ability to maintain and expand our deposit
base and borrowing capabilities serves as our primary source of liquidity. We plan to meet our future cash needs through the liquidation
of temporary investments, the generation of deposits, and from additional borrowings. In addition, we will receive cash upon the maturity
and sale of loans and the maturity of investment securities. We maintain five federal funds purchased lines of credit with correspondent
banks totaling $118.5 million to meet short-term liquidity needs. There were no borrowings against the lines at December 31, 2022.
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We are also a member of the FHLB of Atlanta, from
which applications for borrowings can be made. The FHLB requires that securities, qualifying mortgage loans, and stock of the FHLB owned
by the Bank be pledged to secure any advances from the FHLB. The unused borrowing capacity currently available from the FHLB at December
31, 2022 was $515.8 million, based on the Bank’s $9.3 million investment in FHLB stock, as well as qualifying mortgages available
to secure any future borrowings. However, we are able to pledge additional securities to the FHLB in order to increase our available borrowing
capacity. In addition, at December 31, 2022 we had $341.5 million of letters of credit outstanding with the FHLB to secure client deposits.
We also have a line of credit with another financial
institution for $15.0 million, which was unused at December 31, 2022. The line of credit was renewed on December 21, 2021 at an interest
rate of One Month CME Term SOFR plus 3.5% and a maturity date of December 20, 2023.
We believe that our existing stable base of core
deposits, federal funds purchased lines of credit with correspondent banks, and borrowings from the FHLB will enable us to successfully
meet our long-term liquidity needs. However, as short-term liquidity needs arise, we have the ability to sell a portion of our investment
securities portfolio should we be required to meet those needs.
Total shareholders’ equity was $294.5 million
at December 31, 2022 and $277.9 million at December 31, 2021. The $16.6 million increase during 2022 is due primarily to net income to
common shareholders of $29.1 million, stock option exercises and expenses of $2.9 million and $12.7 million loss in other comprehensive
income. We also recorded a $2.8 million adjustment for the adoption of ASU 2016-13.
The following table shows the return on average
assets (net income divided by average total assets), return on average equity (net income divided by average equity), equity to assets
ratio (average equity divided by average assets), and tangible common equity ratio (total equity less preferred stock divided by total
assets) for the three years ended December 31, 2022. Since our inception, we have not paid cash dividends.
December 31,
Average equity to average assets ratio 8.85 % 9.39 % 9.01 %
Tangible common equity to assets ratio 7.98 % 9.50 % 9.20 %
Under the capital adequacy guidelines, regulatory
capital is classified into two tiers. These guidelines require an institution to maintain a certain level of Tier 1 and Tier 2 capital
to risk-weighted assets. Tier 1 capital consists of common shareholders’ equity, excluding the unrealized gain or loss on securities
available for sale, minus certain intangible assets. In determining the amount of risk-weighted assets, all assets, including certain
off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 100% based on the risks believed to be inherent in the type
of asset. Tier 2 capital consists of Tier 1 capital plus the general reserve for credit losses, subject to certain limitations. We are
also required to maintain capital at a minimum level based on total average assets, which is known as the Tier 1 leverage ratio.
Regulatory capital rules, which we refer to Basel
III, impose minimum capital requirements for bank holding companies and banks. The Basel III rules apply to all national and state banks
and savings associations regardless of size and bank holding companies and savings and loan holding companies other than “small
bank holding companies,” generally holding companies with consolidated assets of less than $3 billion. In order to avoid restrictions
on capital distributions or discretionary bonus payments to executives, a covered banking organization must maintain a “capital
conservation buffer” on top of our minimum risk-based capital requirements. This buffer must consist solely of common equity Tier
1, but the buffer applies to all three measurements (common equity Tier 1, Tier 1 capital and total capital). The capital conservation
buffer consists of an additional amount of CET1 equal to 2.5% of risk-weighted assets.
To be considered “well-capitalized”
for purposes of certain rules and prompt corrective action requirements, the Bank must maintain a minimum total risked-based capital ratio
of at least 10%, a total Tier 1 capital ratio of at least 8%, a common equity Tier 1 capital ratio of at least 6.5%, and a leverage ratio
of at least 5%. As of December 31, 2022, our capital ratios exceed these ratios and we remain “well capitalized.”
The following table summarizes the capital amounts
and ratios of the Bank and the regulatory minimum requirements. See Note 23 to the Consolidated Financial Statements for ratios of the
Company.
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(dollars in thousands) Amount Ratio Amount Ratio Amount Ratio
(1) Ratios do not include the capital conservation buffer of 2.5%.
On September
30, 2019, the Company sold and issued $23.0 million in aggregate principal amount of its 4.75% Fixed-to-Floating Rate Subordinated Notes
due 2029 to eligible purchasers in a private offering. The Company intends to use the proceeds from the offering, which were approximately
$22.5 million, for general corporate purposes, including providing capital to the Bank and supporting organic growth. The Notes rank junior
in right to payment to the Company’s current and future senior indebtedness. The Notes are intended to qualify as Tier 2 capital
for regulatory capital purposes for the Company.
The ability
of the Company to pay cash dividends is dependent upon receiving cash in the form of dividends from the Bank. The dividends that may be
paid by the Bank to the Company are subject to legal limitations and regulatory capital requirements.
Effect of
Inflation and Changing Prices
The effect of relative purchasing power over time
due to inflation has not been taken into account in our consolidated financial statements. Rather, our financial statements have been
prepared on an historical cost basis in accordance with generally accepted accounting principles.
Unlike most industrial companies, our assets and
liabilities are primarily monetary in nature. Therefore, the effect of changes in interest rates will have a more significant impact on
our performance than will the effect of changing prices and inflation in general. In addition, interest rates may generally increase as
the rate of inflation increases, although not necessarily in the same magnitude. As discussed previously, we seek to manage the relationships
between interest sensitive assets and liabilities in order to protect against wide rate fluctuations, including those resulting from inflation.
Off-Balance
Sheet Risk
Commitments to extend credit are agreements to
lend to a client as long as the client has not violated any material condition established in the contract. Commitments generally have
fixed expiration dates or other termination clauses and may require the payment of a fee. At December 31, 2022, unfunded commitments
to extend credit were approximately $878.3 million, of which $318.9 million were at fixed rates and $559.4 million were at variable rates.
At December 31, 2021, unfunded commitments to extend credit were $618.7 million, of which approximately $205.4 million were at fixed
rates and $413.3 million were at variable rates. A majority of the unfunded commitments related to commercial business lines of credit
and home equity lines of credit. Based on historical experience, we anticipate that a significant portion of these lines of credit will
not be funded. We evaluate each client’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed