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UNITED STATES OF AMERICA

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)
☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2020
OR
☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________

Commission File Number: 000-11486

CONNECTONE BANCORP, INC.

(Exact Name of Registrant as Specified in Its Charter)

New Jersey | 52-1273725
(State or Other Jurisdiction of Incorporation or Organization) | (IRS Employer Identification No.)

301 Sylvan Avenue

Englewood Cliffs, New Jersey 07632

(Address of Principal Executive Offices) (Zip Code)

201-816-8900

(Registrant’s Telephone Number, Including Area Code)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class | Trading symbol | Name of each exchange on which registered
Common stock | CNOB | NASDAQ

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or emerging growth company. See definition of “large accelerated filer”, “accelerated filer” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act (check one):

Large accelerated filer ☒ | Accelerated filer ☐ | Non-accelerated filer ☐ (Do not check if smaller reporting company) | Smaller reporting company ☐ Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Common Stock, no par value: | 39,764,051 shares
(Title of Class) | (Outstanding as of November 6, 2020)

Table of Contents

| Page
PART I – FINANCIAL INFORMATION |
Item 1.Financial Statements | 3
Consolidated Statements of Condition as of September 30, 2020 (unaudited) and December 31, 2019 | 3
Consolidated Statements of Income for the three and nine months ended September 30, 2020 and 2019 (unaudited) | 4
Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2020 and 2019 (unaudited) | 5
Consolidated Statements of Changes in Stockholders’ Equity for the three and nine months ended September 30, 2020 and 2019 (unaudited) | 6
Consolidated Statements of Cash Flows for the nine months ended September 30, 2020 and 2019 (unaudited) | 8
Notes to Consolidated Financial Statements (unaudited) | 10
Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations | 47
Item 3.Qualitative and Quantitative Disclosures about Market Risks | 60
Item 4.Controls and Procedures | 61
PART II – OTHER INFORMATION |
Item 1.Legal Proceedings | 62
Item 1a.Risk Factors | 62
Item 2.Unregistered Sales of Equity Securities and Use of Proceeds | 63
Item 3.Defaults Upon Senior Securities | 63
Item 4.Mine Safety Disclosures | 63
Item 5.Other Information | 63
Item 6.Exhibits | 64
SIGNATURES |

2

Item 1. Financial Statements

ConnectOne Bancorp, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CONDITION

|  | September 30, |  |  | December 31,
(in thousands, except for share data) |  | 2020 |  |  | 2019
|  | (unaudited) |  |  |  |  |
ASSETS |  |  |  |  |  |  |  |
Cash and due from banks |  | $ | 59,422 |  |  | $ | 65,717 |
Interest-bearing deposits with banks |  |  | 196,697 |  |  |  | 135,766 |
Cash and cash equivalents |  |  | 256,119 |  |  |  | 201,483 |
Securities available-for-sale |  |  | 453,015 |  |  |  | 404,701 |
Equity securities |  |  | 13,400 |  |  |  | 11,185 |
Loans held-for-sale |  |  | 8,508 |  |  |  | 33,250 |
Loans receivable |  |  | 6,251,051 |  |  |  | 5,113,527 |
Less: Allowance for loan losses |  |  | 74,267 |  |  |  | 38,293 |
Net loans receivable |  |  | 6,176,784 |  |  |  | 5,075,234 |
Investment in restricted stock, at cost |  |  | 28,713 |  |  |  | 27,397 |
Bank premises and equipment, net |  |  | 29,922 |  |  |  | 19,236 |
Accrued interest receivable |  |  | 34,326 |  |  |  | 20,949 |
Bank owned life insurance |  |  | 165,676 |  |  |  | 137,961 |
Right of use operating lease assets |  |  | 22,830 |  |  |  | 15,137 |
Goodwill |  |  | 208,372 |  |  |  | 162,574 |
Core deposit intangibles |  |  | 11,605 |  |  |  | 5,460 |
Other assets |  |  | 40,289 |  |  |  | 59,465 |
Total assets |  | $ | 7,449,559 |  |  | $ | 6,174,032 |
LIABILITIES |  |  |  |  |  |  |  |
Deposits: |  |  |  |  |  |  |  |
Noninterest-bearing |  | $ | 1,270,021 |  |  | $ | 861,728 |
Interest-bearing |  |  | 4,528,735 |  |  |  | 3,905,814 |
Total deposits |  |  | 5,798,756 |  |  |  | 4,767,542 |
Borrowings |  |  | 506,225 |  |  |  | 500,293 |
Operating lease liabilities |  |  | 26,726 |  |  |  | 16,449 |
Subordinated debentures, net of debt issuance costs |  |  | 202,552 |  |  |  | 128,885 |
Other liabilities |  |  | 24,564 |  |  |  | 29,673 |
Total liabilities |  |  | 6,558,823 |  |  |  | 5,442,842 |
COMMITMENTS AND CONTINGENCIES |  |  |  |  |  |  |  |
STOCKHOLDERS’ EQUITY |  |  |  |  |  |  |  |
Preferred Stock: |  |  |  |  |  |  |  |
Authorized 5,000,000 shares |  |  | - |  |  |  | - |
Common stock, no par value: |  |  |  |  |  |  |  |
Authorized 50,000,000 shares; issued 42,412,684 shares as of September 30, 2020 and 37,676,006 shares as of December 31, 2019; outstanding 39,754,051 shares as of September 30, 2020 and 35,072,067 as of December 31, 2019 |  |  | 586,946 |  |  |  | 468,571 |
Additional paid-in capital |  |  | 22,867 |  |  |  | 21,344 |
Retained earnings |  |  | 309,893 |  |  |  | 271,782 |
Treasury stock, at cost 2,658,633 common shares as of September 30, 2020 and 2,603,940 as of December 31, 2019 |  |  | (30,271 | ) |  |  | (29,360 | )
Accumulated other comprehensive income (loss) |  |  | 1,301 |  |  |  | (1,147 | )
Total stockholders’ equity |  |  | 890,736 |  |  |  | 731,190 |
Total liabilities and stockholders’ equity |  | $ | 7,449,559 |  |  | $ | 6,174,032 |

See accompanying notes to unaudited consolidated financial statements.

3

ConnectOne Bancorp, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF INCOME

(unaudited)

|  | Three Months Ended September 30, |  | Nine Months Ended September 30,
(in thousands, except for per share data) |  | 2020 |  | 2019 |  | 2020 |  | 2019
Interest income |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Interest and fees on loans |  | $ | 74,755 |  |  | $ | 66,796 |  |  | $ | 223,488 |  |  | $ | 190,646 |
Interest and dividends on investment securities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Taxable |  |  | 1,305 |  |  |  | 1,916 |  |  |  | 5,083 |  |  |  | 7,431 |
Tax-exempt |  |  | 688 |  |  |  | 897 |  |  |  | 2,148 |  |  |  | 3,105 |
Dividends |  |  | 426 |  |  |  | 502 |  |  |  | 1,268 |  |  |  | 1,369 |
Interest on federal funds sold and other short-term investments |  |  | 47 |  |  |  | 278 |  |  |  | 625 |  |  |  | 925 |
Total interest income |  |  | 77,221 |  |  |  | 70,389 |  |  |  | 232,612 |  |  |  | 203,476 |
Interest expense |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Deposits |  |  | 11,947 |  |  |  | 17,351 |  |  |  | 42,756 |  |  |  | 49,298 |
Borrowings |  |  | 4,725 |  |  |  | 4,632 |  |  |  | 13,236 |  |  |  | 15,290 |
Total interest expense |  |  | 16,672 |  |  |  | 21,983 |  |  |  | 55,992 |  |  |  | 64,588 |
Net interest income |  |  | 60,549 |  |  |  | 48,406 |  |  |  | 176,620 |  |  |  | 138,888 |
Provision for loan losses |  |  | 5,000 |  |  |  | 2,000 |  |  |  | 36,000 |  |  |  | 7,600 |
Net interest income after provision for loan losses |  |  | 55,549 |  |  |  | 46,406 |  |  |  | 140,620 |  |  |  | 131,288 |
Noninterest income |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Income on bank owned life insurance |  |  | 1,598 |  |  |  | 915 |  |  |  | 3,693 |  |  |  | 2,570 |
Net gains on sale of loans held-for-sale |  |  | 614 |  |  |  | 278 |  |  |  | 1,244 |  |  |  | 343 |
Deposit, loan and other income |  |  | 1,278 |  |  |  | 1,116 |  |  |  | 5,777 |  |  |  | 2,816 |
Net (losses) gains on equity securities |  |  | (7 | ) |  |  | 79 |  |  |  | 215 |  |  |  | 340 |
Net (losses) gains on sales of securities available-for-sale |  |  | - |  |  |  | (279 | ) |  |  | 29 |  |  |  | (280 | )
Total noninterest income |  |  | 3,483 |  |  |  | 2,109 |  |  |  | 10,958 |  |  |  | 5,789 |
Noninterest expenses |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Salaries and employee benefits |  |  | 15,144 |  |  |  | 12,420 |  |  |  | 44,266 |  |  |  | 36,168 |
Occupancy and equipment |  |  | 3,566 |  |  |  | 2,480 |  |  |  | 10,193 |  |  |  | 7,332 |
FDIC insurance |  |  | 1,105 |  |  |  | (364 | ) |  |  | 3,054 |  |  |  | 1,216 |
Professional and consulting |  |  | 1,926 |  |  |  | 1,499 |  |  |  | 5,173 |  |  |  | 4,078 |
Marketing and advertising |  |  | 214 |  |  |  | 473 |  |  |  | 944 |  |  |  | 1,080 |
Data processing |  |  | 1,470 |  |  |  | 1,058 |  |  |  | 4,529 |  |  |  | 3,352 |
Merger and restructuring expenses |  |  | - |  |  |  | 191 |  |  |  | 14,640 |  |  |  | 8,084 |
Loss on extinguishment of debt |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 1,047 |
Amortization of core deposit intangibles |  |  | 627 |  |  |  | 340 |  |  |  | 1,931 |  |  |  | 1,068 |
Increase in value of acquisition price |  |  | - |  |  |  | - |  |  |  | 2,333 |  |  |  | - |
Other components of net periodic pension (income) expense |  |  | (30 | ) |  |  | 29 |  |  |  | (89 | ) |  |  | 86 |
Other expenses |  |  | 2,456 |  |  |  | 2,253 |  |  |  | 7,625 |  |  |  | 6,520 |
Total noninterest expenses |  |  | 26,478 |  |  |  | 20,379 |  |  |  | 94,599 |  |  |  | 70,031 |
Income before income tax expense |  |  | 32,554 |  |  |  | 28,136 |  |  |  | 56,979 |  |  |  | 67,046 |
Income tax expense |  |  | 7,768 |  |  |  | 6,440 |  |  |  | 11,331 |  |  |  | 14,434 |
Net income |  | $ | 24,786 |  |  | $ | 21,696 |  |  | $ | 45,648 |  |  | $ | 52,612 |
Earnings per common share: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Basic |  | $ | 0.62 |  |  | $ | 0.61 |  |  | $ | 1.15 |  |  | $ | 1.49 |
Diluted |  |  | 0.62 |  |  |  | 0.61 |  |  |  | 1.15 |  |  |  | 1.48 |

See accompanying notes to unaudited consolidated financial statements.

4

ConnectOne Bancorp, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(unaudited)

|  | Three Months Ended |  | Nine Months Ended
|  | September 30, |  | September 30,
(in thousands) |  | 2020 |  | 2019 |  | 2020 |  | 2019
Net income |  | $ | 24,786 |  |  | $ | 21,696 |  |  | $ | 45,648 |  |  | $ | 52,612 |
Other comprehensive income (loss): |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Unrealized gains and losses: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Unrealized holding gains on available-for-sale securities arising during the period |  |  | 703 |  |  |  | 2,236 |  |  |  | 5,532 |  |  |  | 11,821 |
Tax effect |  |  | (160 | ) |  |  | (584 | ) |  |  | (1,459 | ) |  |  | (3,061 | )
Net of tax |  |  | 543 |  |  |  | 1,652 |  |  |  | 4,073 |  |  |  | 8,760 |
Reclassification adjustment for realized losses (gains) included in net income |  |  | - |  |  |  | 279 |  |  |  | (29 | ) |  |  | 280 |
Tax effect |  |  | - |  |  |  | (62 | ) |  |  | 6 |  |  |  | (62 | )
Net of tax |  |  | - |  |  |  | 217 |  |  |  | (23 | ) |  |  | 218 |
Unrealized losses on cash flow hedges |  |  | (82 | ) |  |  | (49 | ) |  |  | (3,397 | ) |  |  | (977 | )
Tax effect |  |  | 42 |  |  |  | 27 |  |  |  | 955 |  |  |  | 309 |
Net of tax |  |  | (40 | ) |  |  | (22 | ) |  |  | (2,442 | ) |  |  | (668 | )
Reclassification adjustment for realized losses (gains) included in net income |  |  | 631 |  |  |  | (204 | ) |  |  | 942 |  |  |  | (563 | )
Tax effect |  |  | (196 | ) |  |  | 46 |  |  |  | (265 | ) |  |  | 125 |
Net of tax |  |  | 435 |  |  |  | (158 | ) |  |  | 677 |  |  |  | (438 | )
Unrealized pension plan gains and losses: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Unrealized pension plan losses before reclassifications |  |  | - |  |  |  | - |  |  |  | - |  |  |  | (562 | )
Tax effect |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 158 |
Net of tax |  |  | - |  |  |  | - |  |  |  | - |  |  |  | (404 | )
Reclassification adjustment for amortization included in net income |  |  | 75 |  |  |  | 90 |  |  |  | 226 |  |  |  | 269 |
Tax effect |  |  | (21 | ) |  |  | (26 | ) |  |  | (63 | ) |  |  | (76 | )
Net of tax |  |  | 54 |  |  |  | 64 |  |  |  | 163 |  |  |  | 193 |
Total other comprehensive income |  |  | 992 |  |  |  | 1,753 |  |  |  | 2,448 |  |  |  | 7,661 |
Total comprehensive income |  | $ | 25,778 |  |  | $ | 23,449 |  |  | $ | 48,096 |  |  | $ | 60,273 |

See accompanying notes to unaudited consolidated financial statements.

5

ConnectOne Bancorp, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(unaudited)

|  | Nine Months Ended September 30, 2020
(dollars in thousands, except for per share data) |  | Preferred Stock |  | Common Stock |  | Additional Paid-In Capital |  | Retained Earnings |  | Treasury Stock |  | Accumulated Other Comprehensive (Loss) Income |  | Total Stockholders’ Equity
Balance as of December 31, 2019 |  | $ | - |  | $ | 468,571 |  | $ | 21,344 |  | $ | 271,782 |  |  | $ | (29,360 | ) |  | $ | (1,147 | ) |  | $ | 731,190 |
Net income |  |  | - |  |  | - |  |  | - |  |  | 45,648 |  |  |  | - |  |  |  | - |  |  |  | 45,648 |
Other comprehensive income,  net of tax |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | 2,448 |  |  |  | 2,448 |
Cash dividends declared on common stock  ($0.18 per share) |  |  | - |  |  | - |  |  | - |  |  | (7,537 | ) |  |  | - |  |  |  | - |  |  |  | (7,537 | )
Exercise of stock options  (25,413 shares) |  |  | - |  |  | - |  |  | 163 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 163 |
Restricted stock grants, net of forfeitures (68,531 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Stock grants issued (1,340 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Net shares issued in satisfaction of restricted stock units earned  (16,541 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Net shares issued in satisfaction of performance units earned  (22,402 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Share redemption for tax withholdings on performance units and restricted stock units earned |  |  | - |  |  | - |  |  | (639 | ) |  | - |  |  |  | - |  |  |  | - |  |  |  | (639 | )
Repurchase of treasury stock (54,693 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | (911 | ) |  |  | - |  |  |  | (911 | )
Stock issued (4,602,450 shares) in acquisition of Bancorp of New Jersey |  |  | - |  |  | 118,375 |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 118,375 |
Stock-based compensation |  |  | - |  |  | - |  |  | 1,999 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 1,999 |
Balance as of September 30, 2020 |  | $ | - |  | $ | 586,946 |  | $ | 22,867 |  | $ | 309,893 |  |  | $ | (30,271 | ) |  | $ | 1,301 |  |  | $ | 890,736 |

|  | Three Months Ended September 30, 2020
(dollars in thousands, except for per share data) |  | Preferred Stock |  | Common Stock |  | Additional Paid-In Capital |  | Retained Earnings |  | Treasury Stock |  | Accumulated Other (Loss) Income |  | Total Stockholders’ Equity |
Balance as of June 30, 2020 |  | $ | - |  | $ | 586,946 |  | $ | 22,069 |  |  | $ | 288,688 |  |  | $ | (30,271 | ) |  | $ | 309 |  |  | $ | 867,741 |  |
Net income |  |  | - |  |  | - |  |  | - |  |  |  | 24,786 |  |  |  | - |  |  |  | - |  |  |  | 24,786 |  |
Other comprehensive income, net of tax |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 992 |  |  |  | 992 |  |
Cash dividends declared on common stock ($0.09 per share) |  |  | - |  |  | - |  |  | - |  |  |  | (3,581 | ) |  |  | - |  |  |  | - |  |  |  | (3,581 | ) |
Restricted stock grants, net of forfeitures (1,018 shares) |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |  |
Stock-based compensation |  |  | - |  |  | - |  |  | 798 |  |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 798 |  |
Balance as of September 30, 2020 |  | $ | - |  | $ | 586,946 |  | $ | 22,867 |  |  | $ | 309,893 |  |  | $ | (30,271 | ) |  | $ | 1,301 |  |  | $ | 890,736 |  |

6

(continued)

|  | Nine Months Ended September 30, 2019
(dollars in thousands, except for per share data) |  | Preferred Stock |  | Common Stock |  | Additional Paid-In Capital |  | Retained Earnings |  | Treasury Stock |  | Accumulated Other Comprehensive (Loss) Income |  | Total Stockholders’ Equity
Balance as of December 31, 2018 |  | $ | - |  | $ | 412,546 |  | $ | 15,542 |  | $ | 211,345 |  |  | $ | (16,717 | ) |  | $ | (8,789 | ) |  | $ | 613,927 |
Net income |  |  | - |  |  | - |  |  | - |  |  | 52,612 |  |  |  | - |  |  |  | - |  |  |  | 52,612 |
Other comprehensive income,  net of tax |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | 7,661 |  |  |  | 7,661 |
Cash dividends declared on common stock  ($0.27 per share) |  |  | - |  |  | - |  |  | - |  |  | (9,798 | ) |  |  | - |  |  |  | - |  |  |  | (9,798 | )
Exercise of stock options  (28,937 shares) |  |  | - |  |  | - |  |  | 265 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 265 |
Restricted stock grants  (64,459 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Net shares issued in satisfaction of restricted stock units earned  (4,904 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Repurchase of stock  (240,018 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | (5,175 | ) |  |  | - |  |  |  | (5,175 | )
Net shares issued in satisfaction of performance units earned  (26,517 shares) |  |  | - |  |  | - |  |  | 196 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 196 |
Stock issued (3,032,496 shares) in acquisition of Greater Hudson Bank |  |  | - |  |  | 56,025 |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 56,025 |
Restricted stock issued (119,008 shares) in acquisition of BoeFly, LLC |  |  | - |  |  | - |  |  | 2,500 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 2,500 |
Stock-based compensation |  |  | - |  |  | - |  |  | 1,947 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 1,947 |
Balance as of September 30, 2019 |  | $ | - |  | $ | 468,571 |  | $ | 20,450 |  | $ | 254,159 |  |  | $ | (21,892 | ) |  | $ | (1,128 | ) |  | $ | 720,160 |

|  | Three Months Ended September 30, 2019
(dollars in thousands, except for per share data) |  | Preferred Stock |  | Common Stock |  | Additional Paid-In Capital |  | Retained Earnings |  | Treasury Stock |  | Accumulated Other Comprehensive (Loss) Income |  | Total Stockholders’ Equity
Balance as of June 30, 2019 |  | $ | - |  | $ | 468,571 |  | $ | 19,777 |  | $ | 235,649 |  |  | $ | (21,892 | ) |  | $ | (2,881 | ) |  | $ | 699,224 |
Net income |  |  | - |  |  | - |  |  | - |  |  | 21,696 |  |  |  | - |  |  |  | - |  |  |  | 21,696 |
Other comprehensive income,  net of tax |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | 1,753 |  |  |  | 1,753 |
Cash dividends declared on common stock ($0.09 per share) |  |  | - |  |  | - |  |  | - |  |  | (3,186 | ) |  |  | - |  |  |  | - |  |  |  | (3,186 | )
Restricted stock grants  (11,979 shares) |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  |  | - |
Stock-based compensation expense |  |  | - |  |  | - |  |  | 673 |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 673 |
Balance as of September 30, 2019 |  | $ | - |  | $ | 468,571 |  | $ | 20,450 |  | $ | 254,159 |  |  | $ | (21,892 | ) |  | $ | (1,128 | ) |  | $ | 720,160 |

See accompanying notes to unaudited consolidated financial statements.

7

CONNECTONE BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

|  | Nine Months Ended
|  | September 30,
(dollars in thousands) |  | 2020 |  | 2019
Cash flows from operating activities |  |  |  |  |  |  |  |
Net income |  | $ | 45,648 |  |  | $ | 52,612 |
Adjustments to reconcile net income to net cash provided by operating activities: |  |  |  |  |  |  |  |
Depreciation and amortization of premises and equipment |  |  | 3,102 |  |  |  | 2,333 |
Provision for loan losses |  |  | 36,000 |  |  |  | 7,600 |
Amortization of intangibles |  |  | 1,931 |  |  |  | 1,068 |
Net accretion of loans |  |  | (5,225 | ) |  |  | (3,790 | )
Accretion on bank premises |  |  | (68 | ) |  |  | (65 | )
Accretion on deposits |  |  | (3,568 | ) |  |  | (917 | )
(Accretion) amortization on borrowings, net |  |  | (139 | ) |  |  | 166 |
Stock-based compensation |  |  | 1,999 |  |  |  | 2,143 |
(Gains) losses on sales of securities available-for-sale, net |  |  | (29 | ) |  |  | 280 |
Gains on equity securities, net |  |  | (215 | ) |  |  | (340 | )
Gains on sales of loans held-for-sale, net |  |  | (1,244 | ) |  |  | (343 | )
Loans originated for resale |  |  | (34,328 | ) |  |  | (11,807 | )
Proceeds from sale of loans held-for sale |  |  | 51,367 |  |  |  | 10,552 |
Loss on extinguishment of debt |  |  | - |  |  |  | 1,047 |
Increase in cash surrender value of bank owned life insurance |  |  | (3,693 | ) |  |  | (2,570 | )
Amortization of premiums and accretion of discounts on securities available-for-sale, net |  |  | 4,000 |  |  |  | 3,069 |
Amortization of subordinated debentures issuance costs |  |  | 247 |  |  |  | 246 |
Increase in accrued interest receivable |  |  | (10,467 | ) |  |  | (376 | )
Net change in operating leases |  |  | 2,071 |  |  |  | 1,359 |
Decrease in other assets |  |  | 18,117 |  |  |  | 2,483 |
Decrease in other liabilities |  |  | (5,750 | ) |  |  | (1,396 | )
Net cash provided by operating activities |  |  | 99,756 |  |  |  | 63,354 |
Cash flows from investing activities |  |  |  |  |  |  |  |
Investment securities available-for-sale: |  |  |  |  |  |  |  |
Purchases |  |  | (222,062 | ) |  |  | (203,494 | )
Sales |  |  | 19,624 |  |  |  | 183,728 |
Maturities, calls and principal repayments |  |  | 175,729 |  |  |  | 136,375 |
Purchases of equity securities |  |  | (2,000 | ) |  |  | - |
Sales of equity securities |  |  | - |  |  |  | 569 |
Net redemptions (purchases) of restricted investment in bank stocks |  |  | 1,748 |  |  |  | 3,190 |
Payments on loans held-for-sale |  |  | 204 |  |  |  | - |
Net increase in loans |  |  | (348,861 | ) |  |  | (239,012 | )
Purchases of bank owned life insurance |  |  | (25,000 | ) |  |  | (10,000 | )
Purchases of premises and equipment |  |  | (894 | ) |  |  | (1,336 | )
Proceeds from life insurance death benefits |  |  | 978 |  |  |  | - |
Proceeds from sale of OREO |  |  | 992 |  |  |  | - |
Cash and cash equivalents acquired in acquisition |  |  | 111,368 |  |  |  | 13,741 |
Cash consideration paid in acquisition |  |  | (23,977 | ) |  |  | (2,530 | )
Net cash used in investing activities |  |  | (312,151 | ) |  |  | (118,769 | )
Cash flows from financing activities |  |  |  |  |  |  |  |
Net increase in deposits |  |  | 249,404 |  |  |  | 243,949 |
Increase in subordinated debentures |  |  | 73,420 |  |  |  | - |
Advances of borrowings |  |  | 1,476,489 |  |  |  | 1,576,000 |
Repayments of borrowings |  |  | (1,520,160 | ) |  |  | (1,728,944 | )
Repurchase of treasury stock |  |  | (911 | ) |  |  | (5,175 | )
Cash dividends paid on common stock |  |  | (10,735 | ) |  |  | (9,037 | )
Proceeds from exercise of stock options |  |  | 163 |  |  |  | 265 |
Share redemption for tax withholdings on performance units and restricted stock units earned |  |  | (639 | ) |  |  | - |
Net cash provided by financing activities |  |  | 267,031 |  |  |  | 77,058 |
Net change in cash and cash equivalents |  |  | 54,636 |  |  |  | 21,643 |
Cash and cash equivalents at beginning of period |  |  | 201,483 |  |  |  | 172,366 |
Cash and cash equivalents at end of period |  | $ | 256,119 |  |  | $ | 194,009 |

8

(continued)

Supplemental disclosures of cash flow information |  |  |  |  |  |  |  |
Cash payments for: |  |  |  |  |  |  |  |
Interest paid on deposits and borrowings |  | $ | 59,231 |  |  | $ | 67,443 |
Income taxes |  |  | 19,117 |  |  |  | 13,199 |
Supplemental disclosures of noncash activities |  |  |  |  |  |  |  |
Investing: |  |  |  |  |  |  |  |
Transfer of loans to other real estate owned |  | $ | - |  |  | $ | 907 |
Transfer of loans from held-for-investment to held-for-sale |  |  | 10,995 |  |  |  | 31,647 |
Transfer of loans from held-for-sale to held-for-investment |  |  | 19,738 |  |  |  | - |
Business combinations: |  |  |  |  |  |  |  |
Fair value of assets acquired |  | $ | 949,282 |  |  | $ | 534,146 |
Fair value of liabilities assumed |  |  | 852,729 |  |  |  | 488,475 |

See accompanying notes to unaudited consolidated financial statements.

9

CONNECTONE BANCORP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

Note 1a. Nature of Operations, Principles of Consolidation and Risk and Uncertainties

Nature of Operations

ConnectOne Bancorp, Inc. (the “Parent Corporation”) is incorporated under the laws of the State of New Jersey and is a registered bank holding company. The Parent Corporation’s business currently consists of the operation of its wholly-owned subsidiary, ConnectOne Bank (the “Bank” and, collectively with the Parent Corporation and the Parent Corporation’s subsidiaries, the “Company”). The Bank’s subsidiaries include Union Investment Co. (a New Jersey investment company), Twin Bridge Investment Co. (a New Jersey investment company), ConnectOne Preferred Funding Corp. (a New Jersey real estate investment trust), Center Financial Group, LLC (a New Jersey financial services company), Center Advertising, Inc. (a New Jersey advertising company), Morris Property Company, LLC, (a New Jersey limited liability company), Volosin Holdings, LLC, (a New Jersey limited liability company), NJCB Spec-1, LLC (a New Jersey limited liability company) and BoeFly, Inc. (a New Jersey online business lending marketplace).

The Bank is a community-based, full-service New Jersey-chartered commercial bank that was founded in 2005. The Bank operates from its headquarters located at 301 Sylvan Avenue in the Borough of Englewood Cliffs, Bergen County, New Jersey and through its twenty-seven other banking offices. Substantially all loans are secured with various types of collateral, including business assets, consumer assets and commercial/residential real estate. Each borrower’s ability to repay its loans is dependent on the conversion of assets, cash flows generated from the borrowers’ business, real estate rental and consumer wages.

The preceding unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X, and, accordingly, do not include all of the information and footnotes required by GAAP for complete financial statements. However, in the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2020 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2020, or for any other interim period. The Company’s 2019 Annual Report on Form 10-K should be read in conjunction with these consolidated financial statements.

Principals of Consolidation

The consolidated financial statements have been prepared in conformity with GAAP. Some items in the prior year consolidated financial statements were reclassified to conform to current presentation. Reclassifications had no effect on prior year net income or stockholders’ equity.

Use of Estimates

In preparing the consolidated financial statements, management has made estimates and assumptions that affect the reported amounts of assets and liabilities as of the dates of the consolidated statements of condition and that affect the results of operations for the periods presented. Actual results could differ significantly from those estimates.

Risks and Uncertainties

As previously disclosed on March 11, 2020, the World Health Organization declared the outbreak of COVID-19 as a global pandemic, which continues to spread throughout the United States and around the world. On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) was enacted to, among other things, provide emergency assistance for individuals, families and businesses affected by the COVID-19 pandemic. The COVID-19 pandemic has adversely affected, and continues to adversely affect economic activity globally, nationally and locally. Actions taken around the world to help mitigate the spread of COVID-19 include restrictions on travel, quarantines in certain areas, and forced closures for certain types of public places and businesses. COVID-19 and actions taken to mitigate the spread of it have had and are expected to continue to have an adverse impact on the economies and financial markets of many countries, including the New Jersey/New York metropolitan area in which the Company primarily operates. Although the Company has been able to continue operations while taking steps to ensure the safety of employees and customers, COVID-19 could also potentially create widespread business continuity issues for the Company.

Federal Reserve reductions in interest rates and other effects of the COVID-19 pandemic may adversely affect the Company's financial condition and results of operations in future periods. It is unknown how long the adverse conditions associated with the COVID-19 pandemic will last and what the complete financial effect will be to the Company. It is reasonably possible that estimates made in the financial statements could be materially and adversely impacted in the near term as a result of these conditions, including the determination of the allowance for loan losses, fair value of financial instruments, impairment of goodwill and other intangible assets and income taxes.

10

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 1b. Authoritative Accounting Guidance

Adoption of New Accounting Standards in 2020

ASU No. 2017-04, “Intangibles – Goodwill and Other (Topic 350).” ASU 2017-04 aims to simplify the subsequent measurement of goodwill. Under these amendments, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. Additionally, an entity should consider income tax effects from any tax-deductible goodwill on the carrying amount of the reporting unit when measuring the goodwill impairment loss, if applicable. The Board also eliminated the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment. An entity is required to disclose the amount of goodwill allocated to each reporting unit with a zero or negative carrying amount of net assets and still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. ASU 2017-04 was effective for the Company on January 1, 2020 and did not have a material impact on the Company’s financial statement disclosures.

ASU No. 2017-08, “Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities.” ASU No. 2017-08 shortens the amortization period for certain callable debt securities held at a premium. Specifically, the amendments require the premium to be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. ASU 2017-08 was effective for the Company on January 1, 2020 and did not have a material impact on the Company’s financial statement disclosures.

ASU 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement.” The amendments in this update modify disclosure requirements on fair value measurements by removing, modifying and adding certain disclosure requirements. The amendments primarily pertain to Level 3 fair value measurements and depending on the amendment are applied either prospectively or retrospectively. ASU 2018-03 was effective for the Company on January 1, 2020 and did not have a material impact on the Company’s financial statement disclosures.

ASU 2018-15, “Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.” These amendments align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected by these amendments. ASU 2018-15 was effective for the Company on January 1, 2020 and did not have a material impact on the Company’s financial statement disclosures.

Newly Issued, But Not Yet Effective Accounting Standards

In June 2016, the FASB issued guidance related to credit losses on financial instruments. This update, commonly referred to as the current expected credit losses methodology (“CECL”), will change the accounting for credit losses on loans and debt securities. Under the new guidance, the Company’s measurement of expected credit losses is to be based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. For loans, this measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the “incurred loss” model previously required, but still permitted, under GAAP, which delays recognition until it is probable a loss has been incurred. ASU 2016-13 was effective, subject to optional delay discussed below, for the Company on January 1, 2020.

In accordance with the accounting relief provisions of the CARES Act, as it currently stands, the Company elected to delay the adoption of FASB’s new standard covering the CECL until the earlier of the termination date of the national emergency declared by President Trump on March 13, 2020 under the National Emergencies Act, related to the outbreak of COVID-19, and December 31, 2020. Management reached this decision due to the complexities of CECL loan loss forecasting exacerbated by the quickly changing economic environment resulting from the COVID-19 pandemic. Once the delay provision has been terminated, adoption will be retroactive to January 1, 2020. During 2019, the Company implemented the CECL methodology and ran it concurrently with the historical incurred method. While the Company has not finalized the impact of implementing CECL, the Company expects to recognize a one-time cumulative effect adjustment to the allowance and beginning retained earnings, net of tax, upon adoption. The future impact of CECL on the Company’s allowance for credit losses and provision expense subsequent to the initial adoption will depend on changes in the loan portfolio, economic conditions and refinements to key assumptions including forecasting and qualitative factors. The Company measured its allowance under its current incurred loan loss model as of September 30, 2020.

11

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 1b. Authoritative Accounting Guidance – (continued)

ASU 2018-14, “Compensation—Retirement Benefits—Defined Benefit Plans—General (Subtopic 715-20): Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans.” These amendments modify the disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. ASU 2018-14 is effective for fiscal years ending after December 15, 2020. We believe the adoption of this standard will not have a significant impact on our consolidated financial statements.

Note 2. Business Combination

Bancorp of New Jersey, Inc.

On January 2, 2020, Bancorp of New Jersey, Inc. (“BNJ”) merged with and into the Company, with the Company as the surviving entity. As a result of the merger, the Company acquired nine branch offices all located in Bergen County, New Jersey. Subject to the allocation and proration procedures set forth in the merger agreement, holders of BNJ common stock had the right to elect, with respect to each share of BNJ common stock, to receive either (i) $16.25 in cash or (ii) 0.780 of a share of Company common stock (plus cash in lieu of any fractional shares of Company common stock to which such holder would otherwise be entitled). The allocation and proration procedures set forth in the merger agreement required that approximately 20% of the shares of BNJ common stock be converted into cash and the remaining approximately 80% of BNJ common shares be converted into shares of the Company’s common stock.

The acquisition of BNJ was accounted for using the acquisition method of accounting and, accordingly, assets acquired, liabilities assumed and consideration paid were recorded at their estimated fair values as of the acquisition date. The application of the acquisition method of accounting resulted in the recognition of goodwill of $45.8 million and a core deposit intangible of $8.1 million. The assets acquired and liabilities assumed and consideration paid in the acquisition of BNJ were recorded at their estimated fair values based on management’s best estimates using information available at the date of the acquisition and are subject to adjustment for up to one year after the closing date of the acquisition. While the fair values are not expected to be materially different from the estimates, accounting guidance provides that an acquirer must recognize adjustments to provisional amounts that are identified during the measurement period, which runs through January 2, 2021, in the measurement period in which the adjustment amounts are determined. The acquirer must record in the financial statements, the effect on earnings of changes in depreciation, amortization or other income effects, if any, as a result of the changes to the provisional amounts, calculated as if the accounting had been completed at the acquisition date. The items most susceptible to adjustment are the credit fair value adjustments on loans, core deposit intangible and the deferred income tax assets resulting from the acquisition. As of September 30, 2020 there were no material changes to the provisional fair value adjustments recorded on January 2, 2020.

12

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 2. Business Combinations – (continued)

In connection with the acquisition, the consideration paid and the fair value of identifiable assets acquired and liabilities assumed as of the date of acquisition are summarized in the following table:

|  | Estimated Fair
|  | Value at
|  | January 2, 2020
|  | (in thousands)
Consideration paid: |  |  |
Common stock issued in acquisition |  | $ | 118,375
Cash paid in acquisition |  |  | 23,977
Total consideration paid: |  |  | 142,352
Assets acquired: |  |  |
Cash and cash equivalents |  |  | 111,368
Securities available-for-sale |  |  | 20,073
Loans, net |  |  | 774,720
Premises and equipment, net |  |  | 12,826
Accrued interest receivable |  |  | 2,910
Core deposit intangibles |  |  | 8,076
Other assets |  |  | 19,309
Total assets acquired |  |  | 949,282
Liabilities assumed: |  |  |
Deposits |  |  | 785,378
Borrowings |  |  | 49,742
Other liabilities |  |  | 17,609
Total liabilities assumed |  |  | 852,729
Net assets acquired |  |  | 96,553
Goodwill recorded in acquisition |  | $ | 45,799

The amount of goodwill recorded represents the excess purchase price over the estimated fair value of the net assets acquired by the Company and reflects the economies of scale, increased market share and lending capabilities, greater access to best-in-class banking technology, and related synergies that are expected to result from the acquisition.

Loans acquired in the BNJ acquisition were recorded at fair value, and there was no carryover related allowance for loan losses. The fair values of loans acquired from BNJ were estimated based on the value of the expected cash flows, which were projected based on the contractual terms of the loans, including both maturity and contractual amortization. The monthly principal and interest cash flows were adjusted for expected losses and prepayments, where appropriate. Projected cash flows were then discounted to present value using a discount rate developed based on the relative risk of the cash flows, considering the loan type, liquidity risk, the maturity of the loans, servicing costs and a required return on capital.

The following is a summary of the loans accounted for in accordance with ASC 310-30 that were acquired in the BNJ acquisition as of the Merger date:

|  | Estimated Fair |
|  | Value at |
|  | January 2, 2020 |
|  | (in thousands) |
Contractually required principal and interest acquisition |  | $ | 14,416 |  |
Contractual cash flows not expected to be collected (non-accretable discount) |  |  | (2,111 | ) |
Expected cash flows at acquisition |  |  | 12,305 |  |
Interest component of expected cash flows (accretable discount) |  |  | (605 | ) |
Fair value of acquired loans |  | $ | 11,700 |  |

13

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 2. Business Combinations – (continued)

Goodwill related to BNJ is not amortized for book purposes; however, it is reviewed at least annually for impairment and is not deductible for tax purposes.

The fair value of retail demand and interest-bearing deposit accounts was assumed to approximate the carrying value as those accounts have no stated maturity and are payable on demand. The fair value of time deposits was estimated by discounting the contractual future cash flows using market rates offered for time deposits of similar remaining maturities. The fair value of borrowed funds was estimated by discounting the future cash flows using market rates for similar borrowings.

Direct acquisition and integration costs of the BNJ acquisition were expensed as incurred. These items were recorded as merger expenses on the consolidated statement of income. During the three and nine months ended September 30, 2020, merger expenses related to the BNJ acquisition were $-0- and $11.6 million, respectively.

Note 3. Earnings per Common Share

Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) No. 260-10-45 addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing earnings per share (“EPS”). The restricted stock awards granted by the Company contain non-forfeitable rights to dividends and therefore are considered participating securities. The two-class method for calculating basic EPS excludes dividends paid to participating securities and any undistributed earnings attributable to participating securities.

Earnings per common share have been computed based on the following:

| Three Months Ended September 30, |  | Nine Months Ended September 30,
| (in thousands, except for per share data)
| 2020 |  | 2019 |  | 2020 |  | 2019
Net income | $ | 24,786 |  |  | $ | 21,696 |  |  | $ | 45,648 |  |  | $ | 52,612 |
Earnings allocated to participating securities |  | (133 | ) |  |  | (117 | ) |  |  | (218 | ) |  |  | (176 | )
Income attributable to common stock | $ | 24,653 |  |  | $ | 21,579 |  |  | $ | 45,430 |  |  | $ | 52,436 |
Weighted average common shares outstanding, including participating securities |  | 39,656 |  |  |  | 35,307 |  |  |  | 39,624 |  |  |  | 35,317 |
Weighted average participating securities |  | (119 | ) |  |  | (141 | ) |  |  | (125 | ) |  |  | (65 | )
Weighted average common shares outstanding |  | 39,537 |  |  |  | 35,166 |  |  |  | 39,499 |  |  |  | 35,252 |
Incremental shares from assumed conversions of options, |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
performance units and non-participating restricted shares |  | 117 |  |  |  | 97 |  |  |  | 111 |  |  |  | 82 |
Weighted average common and equivalent shares outstanding |  | 39,654 |  |  |  | 35,263 |  |  |  | 39,610 |  |  |  | 35,334 |
Earnings per common share: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Basic | $ | 0.62 |  |  | $ | 0.61 |  |  | $ | 1.15 |  |  | $ | 1.49 |
Diluted |  | 0.62 |  |  |  | 0.61 |  |  |  | 1.15 |  |  |  | 1.48 |

There were no antidilutive share equivalents as of September 30, 2020 and September 30, 2019.

14

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 4. Securities Available-for-Sale

The Company’s investment securities are all classified as available-for-sale as of September 30, 2020 and December 31, 2019. Investment securities available-for-sale are reported at fair value with unrealized gains or losses included in stockholders’ equity, net of tax. Accordingly, the carrying value of such securities reflects their fair value as of September 30, 2020 and December 31, 2019. Fair value is based upon either quoted market prices, or in certain cases where there is limited activity in the market for a particular instrument, assumptions are made to determine their fair value. See Note 7 of the Notes to Consolidated Financial Statements for a further discussion.

The following tables present information related to the Company’s portfolio of securities available-for-sale as of September 30, 2020 and December 31, 2019.

|  |  |  |  | Gross |  | Gross |  |  |
|  | Amortized |  | Unrealized |  | Unrealized |  | Fair
|  | Cost |  | Gains |  | Losses |  | Value
September 30, 2020 |  | (dollars in thousands)
Securities available-for-sale |  |  |  |  |  |  |  |  |  |  |  |  |
Federal agency obligations |  | $ | 44,431 |  | $ | 1,768 |  | $ | (54 | ) |  | $ | 46,145
Residential mortgage pass-through  securities |  |  | 238,193 |  |  | 4,166 |  |  | (135 | ) |  |  | 242,224
Commercial mortgage pass-through  securities |  |  | 6,176 |  |  | 213 |  |  | (142 | ) |  |  | 6,247
Obligations of U.S. states and political subdivisions |  |  | 124,790 |  |  | 3,649 |  |  | (43 | ) |  |  | 128,396
Corporate bonds and notes |  |  | 24,916 |  |  | 256 |  |  | (369 | ) |  |  | 24,803
Asset-backed securities |  |  | 5,023 |  |  | - |  |  | (155 | ) |  |  | 4,868
Certificates of deposit |  |  | 149 |  |  | 2 |  |  | - |  |  |  | 151
Other securities |  |  | 181 |  |  | - |  |  | - |  |  |  | 181
Total securities available-for-sale |  | $ | 443,859 |  | $ | 10,054 |  | $ | (898 | ) |  | $ | 453,015

|  |  |  |  | Gross |  | Gross |  |  |
|  | Amortized |  | Unrealized |  | Unrealized |  | Fair
|  | Cost |  | Gains |  | Losses |  | Value
December 31, 2019 |  | (dollars in thousands)
Securities available-for-sale |  |  |  |  |  |  |  |  |  |  |  |  |
Federal agency obligations |  | $ | 27,667 |  | $ | 612 |  | $ | (42 | ) |  | $ | 28,237
Residential mortgage pass-through  securities |  |  | 199,611 |  |  | 1,528 |  |  | (643 | ) |  |  | 200,496
Commercial mortgage pass-through  securities |  |  | 4,995 |  |  | 37 |  |  | (35 | ) |  |  | 4,997
Obligations of U.S. states and political subdivisions |  |  | 134,500 |  |  | 2,411 |  |  | (392 | ) |  |  | 136,519
Corporate bonds and notes |  |  | 28,142 |  |  | 285 |  |  | (45 | ) |  |  | 28,382
Asset-backed securities |  |  | 5,845 |  |  | - |  |  | (65 | ) |  |  | 5,780
Certificates of deposit |  |  | 148 |  |  | 2 |  |  | - |  |  |  | 150
Other securities |  |  | 140 |  |  | - |  |  | - |  |  |  | 140
Total securities available-for-sale |  | $ | 401,048 |  | $ | 4,875 |  | $ | (1,222 | ) |  | $ | 404,701

15

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 4. Securities Available-for-Sale – (continued)

Investment securities available-for-sale having a carrying value of approximately $107.1 million and $111.5 million as of September 30, 2020 and December 31, 2019, respectively, were pledged to secure public deposits, borrowings, repurchase agreements, Federal Reserve Discount Window borrowings and Federal Home Loan Bank advances and for other purposes required or permitted by law. As of September 30, 2020 and December 31, 2019, there were no holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of stockholders’ equity.

The following table presents information for investments in securities available-for-sale as of September 30, 2020, based on scheduled maturities. Actual maturities can be expected to differ from scheduled maturities due to prepayment or early call options of the issuer. Securities not due at a single maturity date are shown separately.

|  | September 30, 2020
|  | Amortized |  | Fair
|  | Cost |  | Value
|  | (dollars in thousands)
Securities available-for-sale: |  |  |  |  |  |
Due in one year or less |  | $ | 5,947 |  | $ | 5,982
Due after one year through five years |  |  | 23,657 |  |  | 23,651
Due after five years through ten years |  |  | 21,837 |  |  | 22,345
Due after ten years |  |  | 147,868 |  |  | 152,385
Residential mortgage pass-through securities |  |  | 238,193 |  |  | 242,224
Commercial mortgage pass-through securities |  |  | 6,176 |  |  | 6,247
Other securities |  |  | 181 |  |  | 181
Total securities available-for-sale |  | $ | 443,859 |  | $ | 453,015

Gross gains and losses from the sales of securities for periods presented were as follows:

|  | Three Months Ended September 30, |  |  | Nine Months Ended September 30, |
|  |  | (dollars in thousands) |
|  | 2020 |  | 2019 |  |  | 2020 |  | 2019 |
Proceeds |  | $ | - |  |  | $ | 33,432 |  |  | $ | 19,624 |  |  | $ | 183,728 |
Gross gains on sales of securities |  |  | - |  |  |  | 1 |  |  |  | 29 |  |  |  | 401 |
Gross losses on sales of securities |  |  | - |  |  |  | (280 | ) |  |  | - |  |  |  | (681 | )
Net losses on sales of securities |  |  | - |  |  |  | (279 | ) |  |  | 29 |  |  |  | (280 | )
Less: tax provision on net losses |  |  | - |  |  |  | 62 |  |  |  | (6 | ) |  |  | 62 |
Net losses on sales of securities, after tax |  | $ | - |  |  | $ | (217 | ) |  | $ | 23 |  |  | $ | (218 | )

16

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 4. Securities Available-for-Sale – (continued)

Other-than-Temporarily Impaired Investments

The Company reviews all securities for potential recognition of other-than-temporary impairment. The Company maintains a watch list for the identification and monitoring of securities experiencing problems that require a heightened level of review. This could include credit rating downgrades.

The Company’s assessment of whether an impairment in the portfolio is other-than temporary includes factors such as whether the issuer has defaulted on scheduled payments, announced a restructuring and/or filed for bankruptcy, has disclosed severe liquidity problems that cannot be resolved, disclosed deteriorating financial condition or sustained significant losses.

Temporarily Impaired Investments

The Company does not believe that any of the unrealized losses, which were comprised of 32 and 53 securities as of September 30, 2020 and December 31, 2019, respectively, represent an other-than-temporary impairment (“OTTI”). The gross unrealized losses associated with U.S. Treasury and agency securities, federal agency obligations, mortgage-backed securities, corporate bonds, tax-exempt securities, and asset-backed securities are not considered to be other-than-temporary because these unrealized losses are related to changes in interest rates and credit spreads and do not affect the expected cash flows of the underlying collateral or issuer.

Factors which may contribute to unrealized losses include credit risk, market risk, changes in interest rates, economic cycles, and liquidity risk. The magnitude of any unrealized loss may be affected by the relative concentration of the Company’s investment in any one issuer or industry. The Company has established policies to reduce exposure through diversification of the securities portfolio including limits on concentrations to any one issuer. The Company believes the securities portfolio is prudently diversified.

The unrealized losses included in the tables below are primarily related to changes in interest rates and credit spreads. All of the Company’s securities are performing and are expected to continue to perform in accordance with their respective contractual terms and conditions. These are largely intermediate duration holdings and, in certain cases, monthly principal payments can further reduce loss exposure resulting from an increase in rates.

In determining whether or not securities are OTTI, the Company must exercise considerable judgment. Accordingly, there can be no assurance that the actual results will not differ from the Company’s judgments and that such differences may not require the future recognition of OTTI charges that could have a material effect on the Company’s financial position and results of operations. In addition, the value of, and the realization of any loss on, a security is subject to numerous risks as cited above.

17

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 4. Securities Available-for-Sale – (continued)

The following tables indicate gross unrealized losses not recognized in income and fair value, aggregated by investment category and the length of time individual securities have been in a continuous unrealized loss position as of September 30, 2020 and December 31, 2019.

| September 30, 2020
| Total |  | Less than 12 Months |  | 12 Months or Longer
| Fair |  | Unrealized |  | Fair |  | Unrealized |  | Fair |  | Unrealized
| Value |  | Losses |  | Value |  | Losses |  | Value |  | Losses
| (dollars in thousands)
Investment Securities |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Available-for-Sale: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Federal agency obligation | $ | 13,305 |  | $ | (54 | ) |  | $ | 13,299 |  | $ | (54 | ) |  | $ | 6 |  | $ | - |
Residential mortgage pass-through securities |  | 70,465 |  |  | (135 | ) |  |  | 70,455 |  |  | (135 | ) |  |  | 10 |  |  | - |
Commercial mortgage pass-through securities |  | 4,016 |  |  | (142 | ) |  |  | 4,016 |  |  | (142 | ) |  |  | - |  |  | - |
Obligations of U.S. states and political subdivisions |  | 8,468 |  |  | (43 | ) |  |  | 8,468 |  |  | (43 | ) |  |  | - |  |  | - |
Corporate bonds and notes |  | 5,610 |  |  | (369 | ) |  |  | 5,610 |  |  | (369 | ) |  |  | - |  |  | - |
Asset-backed securities |  | 4,868 |  |  | (155 | ) |  |  | 1,288 |  |  | (38 | ) |  |  | 3,580 |  |  | (117 | )
Total temporarily impaired securities | $ | 106,732 |  | $ | (898 | ) |  | $ | 103,136 |  | $ | (781 | ) |  | $ | 3,596 |  | $ | (117 | )

| December 31, 2019
| Total |  | Less than 12 Months |  | 12 Months or Longer
| Fair |  | Unrealized |  | Fair |  | Unrealized |  | Fair |  | Unrealized
| Value |  | Losses |  | Value |  | Losses |  | Value |  | Losses
| (dollars in thousands)
Investment Securities |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Available-for-Sale: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Federal agency obligation | $ | 6,512 |  | $ | (42 | ) |  | $ | 6,498 |  | $ | (42 | ) |  | $ | 14 |  | $ | - |
Residential mortgage pass-through securities |  | 94,980 |  |  | (643 | ) |  |  | 49,154 |  |  | (179 | ) |  |  | 45,826 |  |  | (464 | )
Commercial mortgage pass-through securities |  | 2,006 |  |  | (35 | ) |  |  | 2,006 |  |  | (35 | ) |  |  | - |  |  | - |
Obligations of U.S. states and political subdivisions |  | 34,775 |  |  | (392 | ) |  |  | 10,306 |  |  | (8 | ) |  |  | 24,469 |  |  | (384 | )
Corporate bonds and notes |  | 5,437 |  |  | (45 | ) |  |  | 2,478 |  |  | (23 | ) |  |  | 2,959 |  |  | (22 | )
Asset-backed securities |  | 5,718 |  |  | (65 | ) |  |  | 2,268 |  |  | (22 | ) |  |  | 3,450 |  |  | (43 | )
Total Temporarily Impaired Securities | $ | 149,428 |  | $ | (1,222 | ) |  | $ | 72,710 |  | $ | (309 | ) |  | $ | 76,718 |  | $ | (913 | )

Note 5. Derivatives

The Company utilizes interest rate swap agreements as part of its asset liability management strategy to help manage its interest rate risk position. The notional amount of the interest rate swap does not represent amounts exchanged by the parties. The amount exchanged is determined by reference to the notional amount and the other terms of the individual interest rate swap agreements. Interest rate swaps were entered into on April 13, 2017, January 27, 2020 and March 3, 2020 each with a respective notional amount of $25.0 million and were designated as a cash flow hedge of a Federal Home Loan Bank (“FHLB”) advance. In addition, interest rate swaps were entered into on June 4, 2019 and August 6, 2019, each with a respective notional amount of $50.0 million and were designated as a cash flow hedge of a Federal Home Loan Bank advance. The swaps were determined to be fully effective during the period presented and therefore no amount of ineffectiveness has been included in net income. Therefore, the aggregate fair value of the swaps is recorded in other assets (liabilities) with changes in fair value recorded in other comprehensive income (loss). The amount included in accumulated other comprehensive income (loss) would be reclassified to current earnings should the hedges no longer be considered effective. The Company expects the hedges to remain fully effective during the remaining term of the swaps.

18

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 5. Derivatives – (continued)

Summary information about the interest rate swaps designated as cash flow hedges as of September 30, 2020, December 31, 2019 and September 30, 2019 are presented in the following table.

|  | September 30, |  | December 31, |  | September 30,
|  | 2020 |  | 2019 |  | 2019
|  | (dollars in thousands)
Notional amount |  | $ | 175,000 |  |  | $ | 150,000 |  |  | $ | 175,000 |
Weighted average pay rates |  |  | 1.69 | % |  |  | 1.82 | % |  |  | 1.83 | %
Weighted average receive rates |  |  | 1.03 | % |  |  | 2.37 | % |  |  | 2.53 | %
Weighted average maturity |  |  | 1.1 years |  |  |  | 1.5 years |  |  |  | 1.5 years |
Fair value |  | $ | (2,728 | ) |  | $ | (273 | ) |  | $ | (380 | )

Interest expense recorded on these swap transactions totaled approximately $631 thousand and $942 thousand during the three and nine months ended September 30, 2020, respectively, compared to $(204) thousand and $(563) thousand during the three and nine months ended September 30, 2019, respectively, and is reported as a component of interest expense on FHLB Advances.

Cash Flow Hedge

The following table presents the net losses recorded in other comprehensive income and the Consolidated Statements of Income relating to the cash flow derivative instruments for the following periods:

|  | Nine Months Ended September 30, 2020
|  | Amount of gain |  | Amount of (gain) |  | Amount of gain
|  | (loss) recognized |  | loss reclassified |  | recognized in other
|  | in OCI (Effective |  | from OCI to |  | Noninterest income
|  | Portion) |  | interest income |  | (Ineffective Portion)
|  | (dollars in thousands)
Interest rate contracts |  | $ | (3,397 | ) |  | $ | 942 |  |  | $ | -

|  | Nine Months Ended September 30, 2019
|  | Amount of gain |  | Amount of gain |  | Amount of gain
|  | (loss) recognized |  | (loss) reclassified |  | recognized in other
|  | in OCI (Effective |  | from OCI to |  | Noninterest income
|  | Portion) |  | interest income |  | (Ineffective Portion)
|  | (dollars in thousands)
Interest rate contracts |  | $ | (976 | ) |  | $ | (563 | ) |  | $ | -

The following table reflects the cash flow hedges included in the consolidated statements of condition as of September 30, 2020 and December 31, 2019:

|  | September 30, 2020 |  | December 31, 2019
|  | Notional |  |  |  | Notional |  |
|  | Amount |  | Fair Value |  | Amount |  | Fair Value
|  | (dollars in thousands)
Interest rate swaps related to FHLB advances included in assets |  | $ | 175,000 |  | $ | (2,728 | ) | $ | 150,000 |  | $ | (273)

19

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses

Loans Receivable - The following table sets forth the composition of the Company’s loan portfolio segments, including net deferred fees, as of September 30, 2020 and December 31, 2019:

|  | September 30, |  | December 31,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Commercial(1) |  | $ | 1,631,434 |  |  | $ | 1,129,661 |
Commercial real estate |  |  | 3,672,462 |  |  |  | 3,041,959 |
Commercial construction |  |  | 614,112 |  |  |  | 623,326 |
Residential real estate |  |  | 343,376 |  |  |  | 320,020 |
Consumer |  |  | 1,876 |  |  |  | 3,328 |
Gross loans |  |  | 6,263,260 |  |  |  | 5,118,294 |
Net deferred loan fees |  |  | (12,209 | ) |  |  | (4,767 | )
Total loans receivable |  | $ | 6,251,051 |  |  | $ | 5,113,527 |

| (1) | Includes Paycheck Protection Program ("PPP") loans of $474 million as of September 30, 2020.

As of September 30, 2020 and December 31, 2019, loan balances of approximately $2.7 billion and $2.5 billion, respectively, were pledged to secure borrowings from the FHLB of New York.

Loans held-for-sale - The following table sets forth the composition of the Company’s loans held-for-sale portfolio as of September 30, 2020 and December 31, 2019:

|  | September 30, |  | December 31,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Commercial |  | $ | - |  | $ | 2,285
Commercial real estate |  |  | 6,460 |  |  | 30,965
Residential real estate |  |  | 2,048 |  |  | -
Total carrying amount |  | $ | 8,508 |  | $ | 33,250

Purchased Credit-Impaired Loans - The Company holds purchased loans for which there was, at their acquisition date, evidence of deterioration of credit quality since their origination and it was probable, at acquisition, that all contractually required payments would not be collected. The recorded investment of those loans is as follows as of September 30, 2020 and December 31, 2019.

|  | September 30, |  | December 31,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Commercial |  | $ | 3,868 |  | $ | 5,452
Commercial real estate |  |  | 5,525 |  |  | 1,101
Commercial construction |  |  | 4,127 |  |  | -
|  | $ | 13,520 |  | $ | 6,553

For those purchased loans disclosed above, the Company did not increase the allowance for loan losses during either the three months and nine months ended September 30, 2020 or September 30, 2019. There were no reversals from the allowance for loan losses during the three and nine months ended September 30, 2020 or September 30, 2019.

20

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

The following table presents the accretable yield, or income expected to be collected, on the purchased credit-impaired loans for the three and nine months ended September 30, 2020 and September 30, 2019:

|  | Three Months |  | Three Months
|  | Ended |  | Ended
|  | September 30, |  | September 30,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Balance at June 30 |  | $ | 1,325 |  |  | $ | 2,213 |
Accretion of income |  |  | (124 | ) |  |  | (575 | )
Balance as of September 30 |  | $ | 1,201 |  |  | $ | 1,638 |

|  | Nine Months |  | Nine Months
|  | Ended |  | Ended
|  | September 30, |  | September 30,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Balance as of December 31 |  | $ | 1,301 |  |  | $ | 1,134 |
New loans acquired |  |  | 605 |  |  |  | 1,286 |
Accretion of income |  |  | (705 | ) |  |  | (782 | )
Balance as of September 30 |  | $ | 1,201 |  |  | $ | 1,638 |

Loans Receivable on Nonaccrual Status - The following tables present nonaccrual loans included in loans receivable by loan class as of September 30, 2020 and December 31, 2019:

|  | September 30, |  | December 31,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Commercial |  | $ | 33,108 |  | $ | 31,455
Commercial real estate |  |  | 9,378 |  |  | 8,338
Commercial construction |  |  | 17,727 |  |  | 6,773
Residential real estate |  |  | 5,281 |  |  | 2,915
Total nonaccrual loans |  | $ | 65,494 |  | $ | 49,481

Nonaccrual loans and loans 90 days or greater past due and still accruing included both smaller balance homogeneous loans that are collectively evaluated for impairment and loans individually evaluated for impairment.

21

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

Credit Quality Indicators - The Company continuously monitors the credit quality of its loans receivable. In addition to its internal monitoring, the Company utilizes the services of a third-party loan review firm to periodically validate the credit quality of its loans receivable on a sample basis. Credit quality is monitored by reviewing certain credit quality indicators. Assets classified “Pass” are deemed to possess average to superior credit quality, requiring no more than normal attention. Assets classified as “Special Mention” have generally acceptable credit quality yet possess higher risk characteristics/circumstances than satisfactory assets. Such conditions include strained liquidity, slow pay, stale financial statements, or other conditions that require more stringent attention from the lending staff. These conditions, if not corrected, may weaken the loan quality or inadequately protect the Company’s credit position at some future date. Assets are classified “Substandard” if the asset has a well-defined weakness that requires management’s attention to a greater degree than for loans classified special mention. Such weakness, if left uncorrected, could possibly result in the compromised ability of the loan to perform to contractual requirements. An asset is classified as “Doubtful” if it is inadequately protected by the net worth and/or paying capacity of the obligor or of the collateral, if any, that secures the obligation. Assets classified as doubtful include assets for which there is a “distinct possibility” that a degree of loss will occur if the inadequacies are not corrected. All loans past due 90 days or greater and all impaired loans are included in the appropriate category below. The following table presents information about the loan credit quality by loan class of gross loans (which exclude net deferred fees) as of September 30, 2020 and December 31, 2019:

|  | September 30, 2020
|  |  |  |  | Special |  |  |  |  |  |  |  |  |
|  | Pass |  | Mention |  | Substandard |  | Doubtful |  | Total
|  | (dollars in thousands)
Commercial |  | $ | 1,566,486 |  | $ | 20,608 |  | $ | 44,340 |  | $ | - |  | $ | 1,631,434
Commercial real estate |  |  | 3,637,852 |  |  | 13,419 |  |  | 21,191 |  |  | - |  |  | 3,672,462
Commercial construction |  |  | 583,749 |  |  | - |  |  | 30,363 |  |  | - |  |  | 614,112
Residential real estate |  |  | 332,686 |  |  | - |  |  | 10,690 |  |  | - |  |  | 343,376
Consumer |  |  | 1,874 |  |  | - |  |  | 2 |  |  | - |  |  | 1,876
Gross loans |  | $ | 6,121,647 |  | $ | 34,027 |  | $ | 106,586 |  | $ | - |  | $ | 6,263,260

|  | December 31, 2019
|  |  |  |  | Special |  |  |  |  |  |  |  |  |
|  | Pass |  | Mention |  | Substandard |  | Doubtful |  | Total
|  | (dollars in thousands)
Commercial |  | $ | 1,059,852 |  | $ | 22,159 |  | $ | 47,650 |  | $ | - |  | $ | 1,129,661
Commercial real estate |  |  | 3,014,956 |  |  | 10,301 |  |  | 16,702 |  |  | - |  |  | 3,041,959
Commercial construction |  |  | 604,298 |  |  | 4,609 |  |  | 14,419 |  |  | - |  |  | 623,326
Residential real estate |  |  | 316,476 |  |  | - |  |  | 3,544 |  |  | - |  |  | 320,020
Consumer |  |  | 3,328 |  |  | - |  |  | - |  |  | - |  |  | 3,328
Gross loans |  | $ | 4,998,910 |  | $ | 37,069 |  | $ | 82,315 |  | $ | - |  | $ | 5,118,294

22

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

The following table provides an analysis of the impaired loans by class as of September 30, 2020 and December 31, 2019.

|  | September 30, 2020
|  |  |  |  | Unpaid |  |  |
|  | Recorded |  | Principal |  | Related
|  | Investment |  | Balance |  | Allowance
No related allowance recorded |  | (dollars in thousands)
Commercial |  | $ | 12,185 |  | $ | 12,588 |  |  |
Commercial real estate |  |  | 12,400 |  |  | 12,696 |  |  |
Commercial construction |  |  | 21,019 |  |  | 21,490 |  |  |
Residential real estate |  |  | 3,981 |  |  | 4,311 |  |  |
Total (no related allowance) |  | $ | 49,585 |  | $ | 51,085 |  |  |
With an allowance recorded |  |  |  |  |  |  |  |  |
Commercial |  |  | 23,024 |  |  | 68,406 |  | $ | 10,000
Commercial real estate |  |  | 2,722 |  |  | 2,722 |  |  | 1,000
Commercial construction |  |  | 2,934 |  |  | 2,934 |  |  | 302
Residential real estate |  |  | 261 |  |  | 261 |  |  | 47
Total (with allowance) |  | $ | 28,941 |  | $ | 74,323 |  | $ | 11,349
Total |  |  |  |  |  |  |  |  |
Commercial |  | $ | 35,209 |  | $ | 80,994 |  | $ | 10,000
Commercial real estate |  |  | 15,122 |  |  | 15,418 |  |  | 1,000
Commercial construction |  |  | 23,953 |  |  | 24,424 |  |  | 302
Residential real estate |  |  | 4,242 |  |  | 4,572 |  |  | 47
Total |  | $ | 78,526 |  | $ | 125,408 |  | $ | 11,349

|  | December 31, 2019
|  |  |  |  | Unpaid |  |  |
|  | Recorded |  | Principal |  | Related
|  | Investment |  | Balance |  | Allowance
No related allowance recorded |  | (dollars in thousands)
Commercial |  | $ | 37,984 |  | $ | 83,225 |  |  |
Commercial real estate |  |  | 15,249 |  |  | 15,467 |  |  |
Commercial construction |  |  | 8,649 |  |  | 8,649 |  |  |
Residential real estate |  |  | 1,311 |  |  | 1,463 |  |  |
Consumer |  |  | - |  |  | - |  |  |
Total (no related allowance) |  | $ | 63,193 |  | $ | 108,804 |  |  |
With an allowance recorded |  |  |  |  |  |  |  |  |
Commercial construction |  | $ | 3,530 |  | $ | 3,530 |  | $ | 1,244
Residential real estate |  |  | 263 |  |  | 263 |  |  | 23
Total (with allowance) |  | $ | 3,793 |  | $ | 3,793 |  | $ | 1,267
Total |  |  |  |  |  |  |  |  |
Commercial |  | $ | 37,984 |  | $ | 83,225 |  | $ | -
Commercial real estate |  |  | 15,249 |  |  | 15,467 |  |  | -
Commercial construction |  |  | 12,179 |  |  | 12,179 |  |  | 1,244
Residential real estate |  |  | 1,574 |  |  | 1,726 |  |  | 23
Consumer |  |  | - |  |  | - |  |  | -
Total |  | $ | 66,986 |  | $ | 112,597 |  | $ | 1,267

23

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

The following table provides an analysis related to the average recorded investment and interest income recognized on impaired loans by segment as of and for the three and nine months ended September 30, 2020 and 2019:

| Three Months Ended September 30, |  | Nine Months Ended September 30, |
| 2020 |  | 2019 |  | 2020 |  | 2019 |
| Average Recorded Investment |  | Interest Income Recognized |  | Average Recorded Investment |  | Interest Income Recognized |  | Average Recorded Investment |  | Interest Income Recognized |  | Average Recorded Investment |  | Interest Income Recognized |
|  | (dollars in thousands) |
Impaired loans (no allowance) |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Commercial | $ | 12,266 |  | $ | 50 |  | $ | 41,332 |  | $ | 570 |  | $ | 12,100 |  | $ | 150 |  | $ | 41,731 |  | $ | 733 |
Commercial real estate |  | 12,460 |  |  | 74 |  |  | 12,178 |  |  | 79 |  |  | 12,415 |  |  | 229 |  |  | 12,213 |  |  | 221 |
Commercial construction |  | 21,297 |  |  | 91 |  |  | 6,044 |  |  | 58 |  |  | 21,149 |  |  | 262 |  |  | 6,047 |  |  | 138 |
Residential real estate |  | 4,011 |  |  | 16 |  |  | 1,552 |  |  | - |  |  | 3,761 |  |  | 16 |  |  | 1,579 |  |  | 19 |
Total | $ | 50,034 |  | $ | 231 |  | $ | 61,106 |  | $ | 707 |  | $ | 49,425 |  | $ | 657 |  | $ | 61,570 |  | $ | 1,111 |
Impaired loans (allowance): |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Commercial | $ | 23,024 |  | $ | - |  | $ | 392 |  | $ | - |  | $ | 23,195 |  | $ | - |  | $ | 393 |  | $ | - |
Commercial real estate |  | 2,722 |  |  | - |  |  | 392 |  |  | - |  |  | 2,722 |  |  | - |  |  | 393 |  |  | - |
Commercial construction |  | 2,934 |  |  | - |  |  | 6,439 |  |  | 220 |  |  | 2,934 |  |  | - |  |  | 6,378 |  |  | 220 |
Residential real estate |  | 261 |  |  | 5 |  |  | 252 |  |  | 9 |  |  | 262 |  |  | 5 |  |  | 255 |  |  | 9 |
Total | $ | 28,941 |  | $ | 5 |  | $ | 7,083 |  | $ | 936 |  | $ | 29,113 |  | $ | 5 |  | $ | 7,026 |  | $ | 229 |
Total impaired loans: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Commercial | $ | 35,290 |  | $ | 50 |  | $ | 41,332 |  | $ | 570 |  | $ | 35,295 |  | $ | 150 |  | $ | 41,731 |  | $ | 733 |
Commercial real estate |  | 15,182 |  |  | 74 |  |  | 12,570 |  |  | 79 |  |  | 15,137 |  |  | 229 |  |  | 12,606 |  |  | 221 |
Commercial construction |  | 24,231 |  |  | 91 |  |  | 12,483 |  |  | 278 |  |  | 24,083 |  |  | 262 |  |  | 12,425 |  |  | 358 |
Residential real estate |  | 4,272 |  |  | 21 |  |  | 1,804 |  |  | 9 |  |  | 4,023 |  |  | 21 |  |  | 1,834 |  |  | 28 |
Total | $ | 78,975 |  | $ | 236 |  | $ | 68,189 |  | $ | 936 |  | $ | 78,538 |  | $ | 662 |  | $ | 68,596 |  | $ | 1,340 |

Included in impaired loans as of September 30, 2020 and December 31, 2019 are loans that are deemed troubled debt restructurings. The recorded investment in loans include accrued interest receivable and other capitalized costs such as real estate taxes paid on behalf of the borrower and loan origination fees, net, when applicable. Cash basis interest and interest income recognized on accrual basis approximate each other.

24

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

Aging Analysis - The following table provides an analysis of the aging of the loans by class, excluding net deferred fees, that are past due as of September 30, 2020 and December 31, 2019:

|  | September 30, 2020
|  | 30-59 Days Past Due |  | 60-89 Days Past Due |  | 90 Days or Greater Past Due and Still Accruing |  | Nonaccrual |  | Total Past Due and Nonaccrual |  | Current |  | Gross Loans
|  | (dollars in thousands)
Commercial |  | $ | 119 |  | $ | 403 |  | $ | 3,156 |  | $ | 33,108 |  | $ | 36,786 |  | $ | 1,594,648 |  | $ | 1,631,434
Commercial real estate |  |  | - |  |  | 3,927 |  |  | 5,525 |  |  | 9,378 |  |  | 18,830 |  |  | 3,653,632 |  |  | 3,672,462
Commercial construction |  |  | 338 |  |  | 1,265 |  |  | - |  |  | 17,727 |  |  | 19,330 |  |  | 594,782 |  |  | 614,112
Residential real estate |  |  | 1,434 |  |  | 227 |  |  | 4,127 |  |  | 5,281 |  |  | 11,069 |  |  | 332,307 |  |  | 343,376
Consumer |  |  | - |  |  | - |  |  | - |  |  | - |  |  | - |  |  | 1,876 |  |  | 1,876
Total |  | $ | 1,891 |  | $ | 5,822 |  | $ | 12,808 |  | $ | 65,494 |  | $ | 86,015 |  | $ | 6,177,245 |  | $ | 6,263,260

Included in the 90 days or greater past due and still accruing category as of September 30, 2020 are purchased credit-impaired loans, net of fair value marks, which accrete income per the valuation at date of acquisition.

|  | December 31, 2019
|  | 30-59 Days Past Due |  | 60-89 Days Past Due |  | 90 Days or Greater Past Due and Still Accruing |  | Nonaccrual |  | Total Past Due and Nonaccrual |  | Current |  | Total Loans Receivable
Commercial |  | $ | 239 |  | $ | - |  | $ | 3,107 |  | $ | 31,455 |  | $ | 34,801 |  | $ | 1,094,860 |  | $ | 1,129,661
Commercial real estate |  |  | 1,980 |  |  | 490 |  |  | - |  |  | 8,338 |  |  | 10,808 |  |  | 3,031,151 |  |  | 3,041,959
Commercial construction |  |  | - |  |  | - |  |  | - |  |  | 6,773 |  |  | 6,773 |  |  | 616,553 |  |  | 623,326
Residential real estate |  |  | 3,357 |  |  | 143 |  |  | - |  |  | 2,915 |  |  | 6,415 |  |  | 313,605 |  |  | 320,020
Consumer |  |  | - |  |  | - |  |  | - |  |  | - |  |  | - |  |  | 3,328 |  |  | 3,328
Total |  | $ | 5,576 |  | $ | 633 |  | $ | 3,107 |  | $ | 49,481 |  | $ | 58,797 |  | $ | 5,059,497 |  | $ | 5,118,294

Included in the 90 days or greater past due and still accruing category as of December 31, 2019 are purchased credit-impaired loans, net of fair value marks, which accrete income per the valuation at date of acquisition.

25

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

The following tables detail, at the period-end presented, the amount of gross loans (excluding loans held-for-sale) that are evaluated individually, and collectively, for impairment, those acquired with deteriorated quality, and the related portion of the allowance for loan losses that are allocated to each loan portfolio segment:

|  | September 30, 2020
|  |  |  | Commercial |  | Commercial |  | Residential |  |  |  |  |  |  |  |  |
|  | Commercial |  | real estate |  | construction |  | real estate |  | Consumer |  | Unallocated |  | Total
|  | (dollars in thousands)
ALLL |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Individually evaluated for impairment |  | $ | 10,000 |  | $ | 1,000 |  | $ | 302 |  | $ | 47 |  | $ | - |  |  |  |  | $ | 11,349
Collectively evaluated for impairment |  |  | 14,158 |  |  | 37,519 |  |  | 6,389 |  |  | 1,811 |  |  | 3 |  |  |  |  |  | 59,880
Acquired portfolio |  |  | - |  |  | 1,559 |  |  | 291 |  |  | 642 |  |  | - |  |  |  |  |  | 2,492
Acquired with deteriorated credit quality |  |  | - |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  |  |  | -
Unallocated |  |  | - |  |  | - |  |  | - |  |  | - |  |  | - |  |  | 546 |  |  | 546
Total |  | $ | 24,158 |  | $ | 40,078 |  | $ | 6,982 |  | $ | 2,500 |  | $ | 3 |  | $ | 546 |  | $ | 74,267
Gross loans |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Individually evaluated for impairment |  | $ | 35,209 |  | $ | 15,122 |  | $ | 23,953 |  | $ | 4,242 |  | $ | - |  |  |  |  | $ | 78,526
Collectively evaluated for impairment |  |  | 1,509,236 |  |  | 2,790,162 |  |  | 559,665 |  |  | 252,418 |  |  | 1,564 |  |  |  |  |  | 5,113,045
Acquired portfolio |  |  | 83,121 |  |  | 861,653 |  |  | 30,494 |  |  | 82,589 |  |  | 312 |  |  |  |  |  | 1,058,169
Acquired with deteriorated credit quality |  |  | 3,868 |  |  | 5,525 |  |  | - |  |  | 4,127 |  |  | - |  |  |  |  |  | 13,520
Total |  | $ | 1,631,434 |  | $ | 3,672,462 |  | $ | 614,112 |  | $ | 343,376 |  | $ | 1,876 |  |  |  |  | $ | 6,263,260

|  | December 31, 2019
|  |  |  | Commercial |  | Commercial |  | Residential |  |  |  |  |  |  |  |  |
|  | Commercial |  | real estate |  | construction |  | real estate |  | Consumer |  | Unallocated |  | Total
|  | (dollars in thousands)
Allowance for loan losses |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Individually evaluated for impairment |  | $ | - |  | $ | - |  | $ | 1,244 |  | $ | 23 |  | $ | - |  |  |  |  | $ | 1,267
Collectively evaluated for impairment |  |  | 8,309 |  |  | 19,967 |  |  | 5,744 |  |  | 1,662 |  |  | 3 |  |  |  |  |  | 35,685
Acquired portfolio |  |  | 40 |  |  | 886 |  |  | 316 |  |  | - |  |  | - |  |  |  |  |  | 1,242
Acquired with deteriorated credit quality |  |  | - |  |  | - |  |  | - |  |  | - |  |  | - |  |  |  |  |  | -
Unallocated |  |  | - |  |  | - |  |  | - |  |  | - |  |  | - |  |  | 99 |  |  | 99
Total |  | $ | 8,349 |  | $ | 20,853 |  | $ | 7,304 |  | $ | 1,685 |  | $ | 3 |  | $ | 99 |  | $ | 38,293
Gross loans |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Individually evaluated for impairment |  | $ | 37,984 |  | $ | 15,249 |  | $ | 12,179 |  | $ | 1,574 |  | $ | - |  |  |  |  | $ | 66,986
Collectively evaluated for impairment |  |  | 1,011,708 |  |  | 2,669,999 |  |  | 578,620 |  |  | 276,177 |  |  | 3,064 |  |  |  |  |  | 4,539,568
Acquired portfolio |  |  | 74,517 |  |  | 355,610 |  |  | 32,527 |  |  | 42,269 |  |  | 264 |  |  |  |  |  | 505,187
Acquired with deteriorated credit quality |  |  | 5,452 |  |  | 1,101 |  |  | - |  |  | - |  |  | - |  |  |  |  |  | 6,553
|  | $ | 1,129,661 |  | $ | 3,041,959 |  | $ | 623,326 |  | $ | 320,020 |  | $ | 3,328 |  |  |  |  | $ | 5,118,294
Total |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

26

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

The Company’s allowance for loan losses is analyzed quarterly. Many factors are considered, including growth in the portfolio, delinquencies, nonaccrual loan levels, and other factors inherent in the extension of credit.

A summary of the activity in the allowance for loan losses by loan segment is as follows:

|  | Three Months Ended September 30, 2020
|  |  |  |  |  | Commercial |  | Commercial |  | Residential |  |  |  |  |  |  |  |  |  |  |
|  | Commercial |  | real estate |  | construction |  | real estate |  | Consumer |  | Unallocated |  | Total
|  | (dollars in thousands)
Balance as of June 30, 2020 |  | $ | 9,345 |  |  | $ | 22,655 |  |  | $ | 8,026 |  | $ | 1,690 |  |  | $ | 5 |  |  | $ | 27,003 |  | $ | 68,724 |
Charge-offs |  |  | (48 | ) |  |  | - |  |  |  | - |  |  | (209 | ) |  |  | - |  |  |  | - |  |  | (257 | )
Recoveries |  |  | - |  |  |  | 800 |  |  |  | - |  |  | - |  |  |  | - |  |  |  | - |  |  | 800 |
Provision |  |  | 14,861 |  |  |  | 16,623 |  |  |  | (1,044 | ) |  | 1,019 |  |  |  | (2 | ) |  |  | (26,457 | ) |  | 5,000 |
Balance as of September 30, 2020 |  | $ | 24,158 |  |  | $ | 40,078 |  |  | $ | 6,982 |  | $ | 2,500 |  |  | $ | 3 |  |  | $ | 546 |  | $ | 74,267 |

|  | Three Months Ended September 30, 2019
|  |  |  |  |  | Commercial |  | Commercial |  | Residential |  |  |  |  |  |  |  |  |  |  |
|  | Commercial |  | real estate |  | construction |  | real estate |  | Consumer |  | Unallocated |  | Total
|  | (dollars in thousands)
Balance as of June 30, 2019 |  | $ | 8,721 |  |  | $ | 21,485 |  |  | $ | 5,542 |  | $ | 1,208 |  |  | $ | 2 |  |  | $ | 740 |  | $ | 37,698 |
Charge-offs |  |  | - |  |  |  | (387 | ) |  |  | - |  |  | (557 | ) |  |  | (20 | ) |  |  | - |  |  | (964 | )
Recoveries |  |  | 28 |  |  |  | - |  |  |  | - |  |  | - |  |  |  | 9 |  |  |  | - |  |  | 37 |
Provision |  |  | (424 | ) |  |  | (88 | ) |  |  | 1,633 |  |  | 1,110 |  |  |  | 13 |  |  |  | (244 | ) |  | 2,000 |
Balance as of September 30, 2019 |  | $ | 8,325 |  |  | $ | 21,010 |  |  | $ | 7,175 |  | $ | 1,761 |  |  | $ | 4 |  |  | $ | 496 |  | $ | 38,771 |

27

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

|  | Nine Months Ended September 30, 2020
|  |  |  |  |  | Commercial |  | Commercial |  | Residential |  |  |  |  |  |  |  |  |  |  |
|  | Commercial |  | real estate |  | construction |  | real estate |  | Consumer |  | Unallocated |  | Total
|  | (dollars in thousands)
Balance as of December 31, 2019 |  | $ | 8,349 |  |  | $ | 20,853 |  |  | $ | 7,304 |  | $ | 1,685 |  |  | $ | 3 |  |  | $ | 99 |  | $ | 38,293 |
Charge-offs |  |  | (552 | ) |  |  | - |  |  |  | - |  |  | (278 | ) |  |  | (3 | ) |  |  | - |  |  | (833 | )
Recoveries |  |  | 2 |  |  |  | 802 |  |  |  | - |  |  | - |  |  |  | 3 |  |  |  | - |  |  | 807 |
Provision |  |  | 16,359 |  |  |  | 18,423 |  |  |  | (322 | ) |  | 1,093 |  |  |  | - |  |  |  | 447 |  |  | 36,000 |
Balance as of September 30, 2020 |  | $ | 24,158 |  |  | $ | 40,078 |  |  | $ | 6,982 |  | $ | 2,500 |  |  | $ | 3 |  |  | $ | 546 |  | $ | 74,267 |

|  | Nine Months Ended September 30, 2019
|  |  |  |  |  | Commercial |  | Commercial |  | Residential |  |  |  |  |  |  |  |  |  |  |
|  | Commercial |  | real estate |  | construction |  | real estate |  | Consumer |  | Unallocated |  | Total
|  | (dollars in thousands)
Balance as of December 31, 2018 |  | $ | 9,875 |  |  | $ | 18,847 |  |  | $ | 4,519 |  | $ | 1,266 |  |  | $ | 2 |  |  | $ | 445 |  | $ | 34,954 |
Charge-offs |  |  | - |  |  |  | (3,469 | ) |  |  | - |  |  | (557 | ) |  |  | (20 | ) |  |  | - |  |  | (4,046 | )
Recoveries |  |  | 214 |  |  |  | 30 |  |  |  | - |  |  | 3 |  |  |  | 16 |  |  |  | - |  |  | 263 |
Provision |  |  | (1,764 | ) |  |  | 5,602 |  |  |  | 2,656 |  |  | 1,049 |  |  |  | 6 |  |  |  | 51 |  |  | 7,600 |
Balance as of September 30, 2019 |  | $ | 8,325 |  |  | $ | 21,010 |  |  | $ | 7,175 |  | $ | 1,761 |  |  | $ | 4 |  |  | $ | 496 |  | $ | 38,771 |

28

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

Troubled Debt Restructurings

Loans are considered to have been modified in a troubled debt restructuring (“TDRs”) when, except as discussed below, due to a borrower’s financial difficulties, the Company makes certain concessions to the borrower that it would not otherwise consider. Modifications may include interest rate reductions, principal or interest forgiveness, forbearance, and other actions intended to minimize economic loss and to avoid foreclosure or repossession of collateral. Generally, a nonaccrual loan that has been modified in a troubled debt restructuring remains on nonaccrual status for a period of six months to demonstrate that the borrower is able to meet the terms of the modified loan. However, performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual status at the time of loan modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains on nonaccrual status.

As of September 30, 2020, there were no commitments to lend additional funds to borrowers whose loans were on nonaccrual status or were contractually past due 90 days or greater and still accruing interest, or whose terms have been modified in troubled debt restructurings.

As of September 30, 2020, TDRs totaled $47.8 million, of which $29.5 million were on nonaccrual status and $18.3 million were performing under their restructured terms. As of December 31, 2019, TDRs totaled $52.0 million, of which $30.6 million were on nonaccrual status and $21.4 million were performing under their restructured terms. The Company has allocated $4.4 million and $23 thousand of specific allowance as of September 30, 2020 and December 31, 2019, respectively for its TDRs.

The following table presents loans by class modified as TDRs that occurred during the nine months ended September 30, 2020:

| Number of Loans |  | Pre-Modification Outstanding Recorded Investment |  | Post-Modification Outstanding Recorded Investment
Troubled debt restructurings: | (dollars in thousands)
Commercial | 1 |  | $ | 191 |  | $ | 191
Commercial real estate | 1 |  |  | 97 |  |  | 97
Total | 2 |  | $ | 288 |  | $ | 288

The two loan modifications during the nine months ended September 30, 2020 were maturity extensions.

There were no TDRs for which there was a payment default within twelve months following the modification during the three and nine months ended September 30, 2020.

The following table presents loans by class modified as TDRs that occurred during the nine months ended September 30, 2019:

| Number of Loans |  | Pre-Modification Outstanding Recorded Investment |  | Post-Modification Outstanding Recorded Investment
Troubled debt restructurings: | (dollars in thousands)
Commercial | 8 |  | $ | 13,753 |  | $ | 13,753
Commercial real estate | 2 |  |  | 2,635 |  |  | 2,635
Commercial construction | 3 |  |  | 5,630 |  |  | 5,630
Total | 13 |  | $ | 22,018 |  | $ | 22,018

The 13 loan modifications during the nine months ended September 30, 2019 were maturity extensions.

There were no TDRs for which there was a payment default within twelve months following the modification during the three and nine months ended September 30, 2019.

29

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 6. Loans and the Allowance for Loan Losses – (continued)

In March 2020, various regulatory agencies, including the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation, (“the agencies”) issued an interagency statement on loan modifications and reporting for financial institutions working with customers affected by COVID-19. The interagency statement was effective immediately and impacted accounting for loan modifications. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not to be considered TDRs. This includes short-term (e.g., three to six months) modifications such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. Provisions of the CARES Act largely mirrored the provisions of the interagency statement, providing that modified loans would not be considered TDR’s if they were performing at year-end 2019, and the other conditions set forth in the interagency statement were met. Borrowers considered current are those that are less than 30 days past due on their contractual payments at the time a modification program is implemented or at year-end 2019. As of September 30, 2020, the Bank had 199 deferred loans totaling approximately $355.2 million. The majority of these loans were deferred between 90 and 120 days.

The following table sets forth the composition of these loans by loan segments as of September 30, 2020:

|  |  |  | Unpaid
|  | Number of |  | Principal
|  | Loans |  | Balance
|  | (dollars in thousands)
Commercial |  |  | 77 |  |  | $ | 51,594 |
Commercial real estate |  |  | 105 |  |  |  | 281,636 |
Commercial construction |  |  | 6 |  |  |  | 20 |
Residential real estate |  |  | 11 |  |  |  | 5,284 |
Total |  |  | 199 |  |  | $ | 355,167 |

30

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

Level 2: Quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (for example, supported with little or no market activity).

An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The following information should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only provided for a limited portion of the Company’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Company’s disclosures and those of other companies may not be meaningful.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following methods and assumptions were used to estimate the fair values of the Company’s assets measured at fair value on a recurring basis as of September 30, 2020 and December 31, 2019:

Securities Available-for-Sale and Equity Securities: Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 inputs include securities that have quoted prices in active markets for identical assets. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flows. Examples of instruments which would generally be classified within Level 2 of the valuation hierarchy include municipal bonds and certain agency collateralized mortgage obligations. In certain cases where there is limited activity in the market for a particular instrument, assumptions must be made to determine the fair value of the instruments and these are classified as Level 3. When measuring fair value, the valuation techniques available under the market approach, income approach and/or cost approach are used. The Company’s evaluations are based on market data and the Company employs combinations of these approaches for its valuation methods depending on the asset class.

Derivatives: The fair value of derivatives is based on valuation models using observable market data as of the measurement date (level 2). Our derivatives are traded in an over-the-counter market where quoted market prices are not always available. Therefore, the fair values of derivatives are determined using quantitative models that utilize multiple market inputs. The inputs will vary based on the type of derivative, but could include interest rates, prices and indices to generate continuous yield or pricing curves, prepayment rate, and volatility factors to value the position. The majority of market inputs are actively quoted and can be validated through external sources, including brokers, market transactions and third-party pricing services.

31

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

For financial assets and liabilities measured at fair value on a recurring basis, the fair value measurements by level within the fair value hierarchy used as of September 30, 2020 and December 31, 2019 are as follows:

|  |  |  |  | September 30, 2020
|  |  |  |  | Fair Value Measurements at Reporting Date Using
|  | Total Fair Value |  | Quoted Prices in Active Markets for Identical Assets (Level 1) |  | Significant Other Observable Inputs (Level 2) |  | Significant Unobservable Inputs (Level 3)
(dollars in thousands) |  |  |  |  |  |  |  |  |  |  |  |
Recurring fair value measurements: |  |  |  |  |  |  |  |  |  |  |  |
Assets |  |  |  |  |  |  |  |  |  |  |  |
Investment securities: |  |  |  |  |  |  |  |  |  |  |  |
Available-for-sale: |  |  |  |  |  |  |  |  |  |  |  |
Federal agency obligations |  | $ | 46,145 |  | $ | - |  | $ | 46,145 |  | $ | -
Residential mortgage pass-through securities |  |  | 242,224 |  |  | - |  |  | 242,224 |  |  | -
Commercial mortgage pass-through securities |  |  | 6,247 |  |  | - |  |  | 6,247 |  |  | -
Obligations of U.S. states and political subdivision |  |  | 128,396 |  |  | - |  |  | 119,484 |  |  | 8,912
Corporate bonds and notes |  |  | 24,803 |  |  | - |  |  | 24,803 |  |  | -
Asset-backed securities |  |  | 4,868 |  |  | - |  |  | 4,868 |  |  | -
Certificates of deposit |  |  | 151 |  |  | - |  |  | 151 |  |  | -
Other securities |  |  | 181 |  |  | 181 |  |  | - |  |  | -
Total available-for-sale |  | $ | 453,015 |  | $ | 181 |  | $ | 443,922 |  | $ | 8,912
Equity securities |  |  | 13,400 |  |  | 11,440 |  |  | 1,960 |  |  | -
Total assets |  | $ | 466,415 |  | $ | 11,621 |  | $ | 445,882 |  | $ | 8,912
Liabilities |  |  |  |  |  |  |  |  |  |  |  |
Derivatives |  | $ | (2,728 | ) | $ | - |  | $ | (2,728 | ) | $ | -
Total liabilities |  | $ | (2,728 | ) | $ | - |  | $ | (2,728 | ) | $ | -

32

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

|  |  |  |  | December 31, 2019
|  |  |  |  | Fair Value Measurements at Reporting Date Using
|  | Total Fair Value |  | Quoted Prices in Active Markets for Identical Assets (Level 1) |  | Significant Other Observable Inputs (Level 2) |  | Significant Unobservable Inputs (Level 3)
(dollars in thousands) |  |  |  |  |  |  |  |  |  |  |  |
Recurring fair value measurements: |  |  |  |  |  |  |  |  |  |  |  |
Assets |  |  |  |  |  |  |  |  |  |  |  |
Investment securities: |  |  |  |  |  |  |  |  |  |  |  |
Available-for-sale: |  |  |  |  |  |  |  |  |  |  |  |
Federal agency obligations |  | $ | 28,237 |  | $ | - |  | $ | 28,237 |  | $ | -
Residential mortgage pass-through securities |  |  | 200,496 |  |  | - |  |  | 200,496 |  |  | -
Commercial mortgage pass-through securities |  |  | 4,997 |  |  | - |  |  | 4,997 |  |  | -
Obligations of U.S. states and political subdivision |  |  | 136,519 |  |  | - |  |  | 127,405 |  |  | 9,114
Corporate bonds and notes |  |  | 28,382 |  |  | - |  |  | 28,382 |  |  | -
Asset-backed securities |  |  | 5,780 |  |  | - |  |  | 5,780 |  |  | -
Certificates of deposit |  |  | 150 |  |  | - |  |  | 150 |  |  | -
Other securities |  |  | 140 |  |  | 140 |  |  | - |  |  | -
Total available-for-sale |  |  | 404,701 |  |  | 140 |  |  | 395,447 |  |  | 9,114
Equity securities |  |  | 11,185 |  |  | 11,185 |  |  | - |  |  | -
Total assets |  | $ | 415,886 |  | $ | 11,325 |  | $ | 395,447 |  | $ | 9,114
Liabilities |  |  |  |  |  |  |  |  |  |  |  |
Derivatives |  | $ | (273) |  | $ | - |  | $ | (273) |  | $ | -
Total liabilities |  | $ | (273) |  |  | - |  | $ | (273) |  | $ | -

There were no transfers between Level 1 and Level 2 during the nine months ended September 30, 2020 and during the year ended December 31, 2019.

Assets Measured at Fair Value on a Nonrecurring Basis

The Company may be required periodically to measure certain assets at fair value on a nonrecurring basis in accordance with GAAP. These adjustments to fair value usually result from the application of lower of cost or fair value accounting or impairment write-downs of individual assets. The following methods and assumptions were used to estimate the fair values of the Company’s assets measured at fair value on a nonrecurring basis as of September 30, 2020 and December 31, 2019.

Loans Held-for-Sale: Residential mortgage loans, originated and intended for sale in the secondary market, are carried at the lower of aggregate cost or estimated fair value as determined by outstanding commitments from investors. For these loans originated and intended for sale, gains and losses on loan sales (sale proceeds minus carrying value) are recorded in other income and direct loan origination costs and fees are deferred at origination of the loan and are recognized in other income upon sale of the loan. Management obtains quotes or bids on all or parts of these loans directly from the purchasing financial institutions (Level 2).

Other loans held-for-sale are carried at the lower of aggregate cost or estimated fair value. Fair value of these loans is determined based on the terms of the loan, such as interest rate, maturity date, reset term, as well as sales of similar assets (Level 3).

33

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

Impaired Loans: The Company may record adjustments to the carrying value of loans based on fair value measurements, generally as partial charge-offs of the uncollectible portions of these loans. These adjustments also include certain impairment amounts for collateral dependent loans calculated in accordance with GAAP. Impairment amounts are generally based on the fair value of the underlying collateral supporting the loan and, as a result, the carrying value of the loan less the calculated impairment amount applicable to that loan does not necessarily represent the fair value of the loan. Real estate collateral is valued using independent appraisals or other indications of value based on recent comparable sales of similar properties or assumptions generally observable by market participants. However, due to the substantial judgment applied and limited volume of activity as compared to other assets, fair value is based on Level 3 inputs. Estimates of fair value used for collateral supporting commercial loans generally are based on assumptions not observable in the marketplace and are also based on Level 3 inputs.

For assets measured at fair value on a nonrecurring basis, the fair value measurements as of September 30, 2020 and December 31, 2019 are as follows:

|  |  |  |  | Fair Value Measurements at Reporting Date Using
|  |  |  |  | Quoted |  |  |  |  |  |
|  |  |  |  | Prices |  |  |  |  |  |
|  |  |  |  | in Active |  | Significant |  |  |
|  |  |  | Markets for |  | Other |  | Significant
|  |  |  | Identical |  | Observable |  | Unobservable
Assets measured at fair value on a nonrecurring |  | September 30, |  | Assets |  | Inputs |  | Inputs
basis: |  | 2020 |  | (Level 1) |  | (Level 2) |  | (Level 3)
Impaired loans: |  |  |  |  | (dollars in thousands)
Commercial |  | $ | 13,024 |  | $ | - |  | $ | - |  | $ | 13,024
Commercial real estate |  |  | 1,722 |  |  | - |  |  | - |  |  | 1,722
Commercial construction |  |  | 2,632 |  |  | - |  |  | - |  |  | 2,632
Residential real estate |  |  | 214 |  |  | - |  |  | - |  |  | 214

|  |  |  |  | Fair Value Measurements at Reporting Date Using
|  |  |  |  | Quoted |  |  |  |  |  |
|  |  |  |  | Prices |  |  |  |  |
|  |  |  |  | in Active |  | Significant |  |
|  |  |  |  | Markets for |  | Other |  | Significant
|  |  |  |  | Identical |  | Observable |  | Unobservable
Assets measured at fair value on a nonrecurring |  | December 31, |  | Assets |  | Inputs |  | Inputs
basis: |  | 2019 |  | (Level 1) |  | (Level 2) |  | (Level 3)
Impaired loans: |  |  |  |  | (dollars in thousands)
Commercial construction |  | $ | 2,286 |  | $ | - |  | $ | - |  | $ | 2,286
Residential |  |  | 240 |  |  | - |  |  | - |  |  | 240

Impaired loans – Collateral dependent impaired loans as of September 30, 2020 that required a valuation allowance were $28.9 million with a related valuation allowance of $11.3 million compared to $3.8 million with a related valuation allowance of $1.3 million as of December 31, 2019.

34

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

Assets Measured With Significant Unobservable Level 3 Inputs

Recurring basis

The tables below present a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the nine months ended September 30, 2020 and for the year ended December 31, 2019:

|  | Municipal |
|  | Securities |
|  | (dollars in thousands) |
Balance as of December 31, 2019 |  | $ | 9,114 |  |
Principal paydowns |  |  | (202 | ) |
Balance as of September 30, 2020 |  | $ | 8,912 |  |

|  | Municipal |
|  | Securities |
|  | (dollars in thousands) |
Balance as of December 31, 2018 |  | $ | 9,377 |  |
Principal paydowns |  |  | (263 | ) |
Balance as of December 31, 2019 |  | $ | 9,114 |  |

The following methods and assumptions were used to estimate the fair values of the Company’s assets measured at fair value on a recurring basis as of September 30, 2020 and December 31, 2019. The table below provides quantitative information about significant unobservable inputs used in fair value measurements within Level 3 hierarchy.

September 30, 2020 |  |  |  |  |  |  |  |  |  |
|  |  |  |  | Valuation |  | Unobservable |  |  |
|  | Fair Value |  | Techniques |  | Input |  | Rate
Securities available-for-sale: |  |  |  |  | (dollars in thousands) |  |  |
Municipal securities |  | $ | 8,912 |  | Discounted cash flows |  | Discount rate |  | 2.9 | %

December 31, 2019 |  |  |  |  |  |  |  |  |  |
|  |  |  |  | Valuation |  | Unobservable |  |  |
|  | Fair Value |  | Techniques |  | Input |  | Rate
Securities available-for-sale: |  |  |  |  | (dollars in thousands) |  |  |
Municipal securities |  | $ | 9,114 |  | Discounted cash flows |  | Discount rate |  | 2.9 | %

35

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

Nonrecurring basis: The following methods and assumptions were used to estimate the fair values of the Company’s assets measured at fair value on a nonrecurring basis for the periods presented. The tables below provide quantitative information about significant unobservable inputs used in fair value measurements within Level 3 hierarchy.

September 30, 2020

|  |  |  |  | Valuation |  | Unobservable |  |
(dollars in thousands) |  | Fair Value |  | Techniques |  | Input |  | Range (weighed average)
Impaired loans: |  |  |  |  |  |  |  |  |
Commercial |  | $ | 13,024 |  | Market approach (100%) |  | Average transfer price as a price to unpaid principal balance |  | 62 - 68 (63)
Commercial real estate |  | $ | 1,722 |  | Appraisals of collateral value |  | Adjustment for comparable sales |  | -25% to 20% (-8%)
Commercial Construction |  | $ | 2,632 |  | Appraisals of collateral value |  | Adjustment for comparable sales |  | -13% to +6% (-3%)
Residential |  | $ | 214 |  | Appraisals of collateral value |  | Adjustment for comparable sales |  | -3% to +11% (0%)

December 31, 2019

|  |  |  |  | Valuation |  | Unobservable |  |
(dollars in thousands) |  | Fair Value |  | Techniques |  | Input |  | Range (weighed average)
Impaired loans: |  |  |  |  |  |  |  |  |
Commercial construction |  | $ | 2,286 |  | Appraisals of collateral value |  | Comparable sales |  | 0% - 5% (3%)
Residential |  | $ | 240 |  | Appraisals of collateral value |  | Comparable sales |  | 2% - 14% (9%)

36

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

As of September 30, 2020 the fair value measurements presented are consistent with Topic 820, Fair Value Measurement, in which fair value represents exit price. The following presents the carrying amount, fair value, and placement in the fair value hierarchy of the Company’s financial instruments as of September 30, 2020 and December 31, 2019:

|  |  |  |  |  |  |  | Fair Value Measurements
|  |  |  |  |  |  |  | Quoted |  |  |  |  |  |
|  |  |  |  |  |  |  | Prices in |  |  |  |  |  |
|  |  |  |  |  |  |  | Active |  | Significant |  |  |
|  |  |  |  |  |  |  | Markets for |  | Other |  | Significant
|  |  |  |  |  |  |  | Identical |  | Observable |  | Unobservable
|  | Carrying |  | Fair |  | Assets |  | Inputs |  | Inputs
|  | Amount |  | Value |  | (Level 1) |  | (Level 2) |  | (Level 3)
|  | (dollars in thousands)
September 30, 2020 |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Financial assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Cash and due from banks |  | $ | 256,119 |  | $ | 256,119 |  | $ | 256,119 |  | $ | - |  | $ | -
Securities available-for-sale |  |  | 453,015 |  |  | 453,015 |  |  | 181 |  |  | 443,992 |  |  | 8,912
Investment in restricted stocks |  |  | 28,713 |  |  | n/a |  |  | n/a |  |  | n/a |  |  | n/a
Equity securities |  |  | 13,400 |  |  | 13,400 |  |  | 11,440 |  |  | 1,960 |  |  | -
Net loans |  |  | 6,176,784 |  |  | 6,270,322 |  |  | - |  |  | - |  |  | 6,270,322
Accrued interest receivable |  |  | 34,326 |  |  | 34,326 |  |  | - |  |  | 1,788 |  |  | 32,538
Financial liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Noninterest-bearing deposits |  |  | 1,270,021 |  |  | 1,270,021 |  |  | 1,270,021 |  |  | - |  |  | -
Interest-bearing deposits |  |  | 4,528,735 |  |  | 4,547,338 |  |  | 2,909,126 |  |  | 1,638,212 |  |  | -
Borrowings |  |  | 506,225 |  |  | 510,736 |  |  | - |  |  | 510,736 |  |  | -
Subordinated debentures |  |  | 202,552 |  |  | 209,328 |  |  | - |  |  | 209,328 |  |  | -
Derivatives |  |  | 2,728 |  |  | 2,728 |  |  | - |  |  | 2,728 |  |  | -
Accrued interest payable |  |  | 4,240 |  |  | 4,240 |  |  | - |  |  | 4,240 |  |  | -
December 31, 2019 |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Financial assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Cash and due from banks |  | $ | 201,483 |  | $ | 201,483 |  | $ | 201,483 |  | $ | - |  | $ | -
Investment securities available-for-sale |  |  | 404,701 |  |  | 404,701 |  |  | 140 |  |  | 395,447 |  |  | 9,114
Restricted investment in bank stocks |  |  | 27,397 |  |  | n/a |  |  | n/a |  |  | n/a |  |  | n/a
Equity securities |  |  | 11,185 |  |  | 11,185 |  |  | 11,185 |  |  | - |  |  | -
Net loans |  |  | 5,075,234 |  |  | 5,096,669 |  |  | - |  |  | - |  |  | 5,096,669
Accrued interest receivable |  |  | 20,949 |  |  | 20,949 |  |  | - |  |  | 2,187 |  |  | 18,762
Financial liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Noninterest-bearing deposits |  |  | 861,728 |  |  | 861,728 |  |  | 861,728 |  |  | - |  |  | -
Interest-bearing deposits |  |  | 3,905,814 |  |  | 3,917,405 |  |  | 2,352,093 |  |  | 1,565,312 |  |  | -
Borrowings |  |  | 500,293 |  |  | 502,026 |  |  | - |  |  | 502,026 |  |  | -
Subordinated debentures |  |  | 128,885 |  |  | 134,973 |  |  | - |  |  | 134,973 |  |  | -
Derivatives |  |  | 273 |  |  | 273 |  |  | - |  |  | 273 |  |  | -
Accrued interest payable |  |  | 4,018 |  |  | 4,018 |  |  | - |  |  | 4,018 |  |  | -

37

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 7. Fair Value Measurements and Fair Value of Financial Instruments – (continued)

The fair value of commitments to originate loans is estimated using the fees currently charged to enter into similar agreements, considering the remaining terms of the agreements and the present creditworthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair values of letters of credit and lines of credit are based on fees currently charged for similar agreements or on the estimated cost to terminate or otherwise settle the obligations with the counterparties at the reporting date. The fair value of commitments to originate loans is immaterial and not included in the tables above.

Changes in assumptions or estimation methodologies may have a material effect on these estimated fair values.

Fair value estimates are based on existing balance sheet financial instruments, without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. For example, there are certain significant assets and liabilities that are not considered financial assets or liabilities, such as deferred taxes, premises and equipment, and goodwill. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

Management believes that reasonable comparability between financial institutions may not be likely, due to the wide range of permitted valuation techniques and numerous estimates which must be made, given the absence of active secondary markets for many of the financial instruments. This lack of uniform valuation methodologies also introduces a greater degree of subjectivity to these estimated fair values.

Note 8. Comprehensive Income

Total comprehensive income includes all changes in equity during a period from transactions and other events and circumstances from non-owner sources. The Company’s other comprehensive income is comprised of unrealized holding gains and losses on securities available-for-sale, unrealized gains (losses) on cash flow hedges, obligations for defined benefit pension plan and an adjustment to reflect the curtailment of the Company’s defined benefit pension plan, each net of taxes.

The following table represents the reclassification out of accumulated other comprehensive (loss) income for the periods presented:

Details about Accumulated Other Comprehensive Loss Components |  | Amounts Reclassified from Accumulated Other Comprehensive Income |  | Affected Line item in the Statement Where Net Income is Presented
|  | Three Months Ended |  | Nine Months Ended |  |
|  | September 30, |  | September 30, |  |
|  | 2020 |  | 2019 |  | 2020 |  | 2019 |  |
|  | (dollars in thousands) |  |
Sale of investment securities |  | $ | - |  |  | $ | (279 | ) |  | $ | 29 |  |  | $ | (280 | ) |  | Net (losses) gains on sale of securities available-for-sale
available for sale |  |  | - |  |  |  | 62 |  |  |  | (6 | ) |  |  | 62 |  |  | Income tax expense
|  |  | - |  |  |  | (217 | ) |  |  | 23 |  |  |  | (218 | ) |  |
Net interest income on swaps |  | $ | (631 | ) |  |  | 204 |  |  | $ | (942 | ) |  |  | 563 |  |  | Interest expense
|  |  | 196 |  |  |  | (46 | ) |  |  | 265 |  |  |  | (125 | ) |  | Income tax expense
|  |  | (435 | ) |  |  | 158 |  |  |  | (677 | ) |  |  | 438 |  |  |
Amortization of pension plan net |  |  | (75 | ) |  |  | (90 | ) |  |  | (226 | ) |  |  | (269 | ) |  | Other components of net periodic pension expense
actuarial losses |  |  | 21 |  |  |  | 26 |  |  |  | 63 |  |  |  | 76 |  |  | Income tax expense
|  |  | (54 | ) |  |  | (64 | ) |  |  | (163 | ) |  |  | (193 | ) |  |
Total reclassification |  | $ | (489 | ) |  | $ | (123 | ) |  | $ | (817 | ) |  | $ | (27 | ) |  |

38

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 8. Comprehensive Income – (continued)

Accumulated other comprehensive income (loss) as of September 30, 2020 and December 31, 2019 consisted of the following:

|  | September 30, |  | December 31,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Investment securities available-for-sale, net of tax |  | $ | 6,774 |  |  | $ | 2,724 |
Cash flow hedge, net of tax |  |  | (1,958 | ) |  |  | (193 | )
Defined benefit pension and post-retirement plans, net of tax |  |  | (3,515 | ) |  |  | (3,678 | )
Total |  | $ | 1,301 |  |  | $ | (1,147 | )

Note 9. Stock Based Compensation

The Company’s stockholders approved the 2017 Equity Compensation Plan (“the Plan”) on May 23, 2017. The Plan eliminates all remaining issuable shares under previous plans and is the only outstanding plan as of September 30, 2020. The maximum number of shares of common stock or equivalents which may be issued under the Plan, is 750,000. Grants under the Plan can be in the form of stock options (qualified or non-qualified), restricted shares, restricted share units or performance units. Shares available for grant and issuance under the Plan as of September 30, 2020 are approximately 313,054. The Company intends to issue all shares under the Plan in the form of newly issued shares.

Restricted stock, options and restricted stock units typically have a three-year vesting period starting one year after the date of grant with one-third vesting each year. The options generally expire ten years from the date of grant. Restricted stock granted to new employees and board members may be granted with shorter vesting periods. Grants of performance units typically have a cliff vesting after three years or upon a change of control. All issuances are subject to forfeiture if the recipient leaves or is terminated prior to the awards vesting. Restricted shares have the same dividend and voting rights as common stock, while options, performance units and restricted stock units do not.

All awards are issued at the fair value of the underlying shares at the grant date. The Company expenses the cost of the awards, which is determined to be the fair market value of the awards at the date of grant, ratably over the vesting period. Forfeiture rates are not estimated but are recorded as incurred. Stock-based compensation expense for the three months and nine months ended September 30, 2020 and September 30, 2019 were $0.8 million and $2.0 million, respectively.

Activity under the Company’s options for the nine months ended September 30, 2020 was as follows:

| Number of Stock Options |  | Weighted- Average Exercise Price |  | Weighted- Average Remaining Contractual Term (in years) |  | Aggregate Intrinsic Value |
Outstanding as of December 31, 2019 | 73,426 |  |  | $ | 8.19 |  |  |  |  |  |
Granted | - |  |  |  | - |  |  |  |  |  |
Exercised | (25,413 | ) |  |  | 7.39 |  |  |  |  |  |
Forfeited/cancelled/expired | - |  |  |  | - |  |  |  |  |  |
Outstanding as of September 30, 2020 | 48,013 |  |  | $ | 8.61 |  | 1.5 |  | $ | 262,366 |
Exercisable as of September 30, 2020 | 48,013 |  |  | $ | 8.61 |  | 1.5 |  | $ | 262,366 |

The aggregate intrinsic value of outstanding and exercisable options above represents the total pre-tax intrinsic value (the difference between the Company’s closing stock price on September 30, 2020 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on September 30, 2020. This amount changes based on the fair market value of the Company’s stock.

39

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 9. Stock Based Compensation – (continued)

Activity under the Company’s restricted shares for the nine months ended September 30, 2020 was as follows:

|  |  |  | Weighted-
|  |  |  | Average
|  | Nonvested |  | Grant Date
|  | Shares |  | Fair Value
Nonvested as of December 31, 2019 |  | 75,351 |  |  | $ | 21.61
Granted |  | 68,853 |  |  |  | 17.42
Vested |  | (51,292 | ) |  |  | 21.33
Forfeited/cancelled/expired |  | (322 | ) |  |  | 23.65
Nonvested September 30, 2020 |  | 92,590 |  |  | $ | 18.64

As of September 30, 2020, there was approximately $1.2 million of total unrecognized compensation cost related to nonvested restricted shares granted. The cost is expected to be recognized over a weighted average period of 1.1 years.

A summary of the status of unearned performance unit awards and the change during the period is presented in the table below:

|  |  |  |  |  | Weighted |
|  |  |  |  |  | Average Grant |
|  | Units |  | Units |  | Date Fair |
|  | (expected) |  | (maximum) |  | Value |
Unearned as of December 31, 2019 |  | 90,097 |  |  |  |  | $ | 23.85 |
Awarded |  | 82,579 |  |  |  |  |  | 10.77 |
Change in estimate |  | 2,490 |  |  |  |  |  | 22.75 |
Vested shares |  | (37,337 | ) |  |  |  |  | 22.75 |
Unearned as of September 30, 2020 |  | 137,829 |  |  | 206,744 |  | $ | 16.29 |

As of September 30, 2020, the specific number of shares related to performance units that were expected to vest was 137,829, determined by actual performance in consideration of the established range of the performance targets, which is consistent with the level of expense currently being recognized over the vesting period. Should this expectation change, additional compensation expense could be recorded in future periods or previously recognized expense could be reversed. As of September 30, 2020 the maximum number of shares related to performance units that ultimately could vest if performance targets were exceeded is 206,744. During the nine months ended September 30, 2020, 37,337 shares vested. A total of 14,935 shares were netted from the vested shares to satisfy employee tax obligations. The net shares issued from vesting of performance units during the nine months ended September 30, 2020 were 22,402 shares. As of September 30, 2020, compensation cost of approximately $1.1 million related to non-vested performance units not yet recognized is expected to be recognized over a weighted-average period of 1.9 years.

A summary of the status of unearned restricted stock units and the changes in restricted stock units during the period is presented in the table below:

|  |  |  |  | Weighted |
|  |  |  |  | Average Grant |
|  | Units |  | Date Fair |
|  | (expected) |  | Value |
Unearned as of December 31, 2019 |  | 73,069 |  |  | $ | 23.62 |
Awarded |  | 123,870 |  |  |  | 10.77 |
Vested shares |  | (27,626 | ) |  |  | 24.53 |
Unearned as of September 30, 2020 |  | 169,313 |  |  | $ | 14.07 |

Any forfeitures would result in previously recognized expense being reversed. A portion of the shares that vest will be netted out to satisfy the tax obligations of the recipient. During the nine months ended September 30, 2020, 27,626 shares vested. A total of 11,085 shares were netted from the vested shares to satisfy employee tax obligations. The net shares issued from vesting of restricted stock units during the nine months ended September 30, 2020 were 16,541 shares. As of September 30, 2020, compensation cost of approximately $1.8 million related to non-vested restricted stock units, not yet recognized, is expected to be recognized over a weighted-average period of 2.0 years.

40

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 10. Components of Net Periodic Pension Cost

The Company maintained a non-contributory defined benefit pension plan for substantially all of its employees until June 30, 2007, at which time the Company froze the plan. The following table sets forth the net periodic pension cost of the Company’s pension plan for the periods indicated.

|  | Three Months |  | Three Months
|  | Ended |  | Ended
|  | September 30, 2020 |  | September 30, 2019
|  | (dollars in thousands)
Service cost |  | $ | - |  |  | $ | - |
Interest cost |  |  | 91 |  |  |  | 113 |
Expected return on plan assets |  |  | (196 | ) |  |  | (174 | )
Net amortization |  |  | 75 |  |  |  | 90 |
Total periodic pension (income) cost |  | $ | (30 | ) |  | $ | 29 |

|  | Nine Months |  | Nine Months
|  | Ended |  | Ended
|  | September 30, 2020 |  | September 30, 2019
|  | (dollars in thousands)
Service cost |  | $ | - |  |  | $ | - |
Interest cost |  |  | 273 |  |  |  | 339 |
Expected return on plan assets |  |  | (588 | ) |  |  | (522 | )
Net amortization |  |  | 226 |  |  |  | 269 |
Total periodic pension (income) cost |  | $ | (89) |  |  | $ | 86 |

Contributions

The Company did not contribute to the Pension Trust during the nine months ended September 30, 2020, and does not plan on contributing any amounts for the remainder of 2020. The trust is established to provide retirement and other benefits for eligible employees and their beneficiaries. No part of the trust assets may be applied to any purpose other than providing benefits under the plan and for defraying expenses of administering the plan and the trust.

41

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 11. FHLB Borrowings

The Company’s borrowings and weighted average interest rates are summarized below:

|  | September 30, 2020 |  | December 31, 2019 |  |
|  | Amount |  | Rate |  | Amount |  | Rate |  |
|  | (dollars in thousands) |  |
Total FHLB borrowings |  | $ | 506,225 |  |  | 1.09 | % |  | $ | 500,293 |  | 1.96 | % |  |
By remaining period to maturity: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Less than 1 year |  | $ | 352,758 |  |  | 0.82 | % |  | $ | 400,000 |  | 1.84 | % |  |
1 year through less than 2 years |  |  | 93,277 |  |  | 1.52 | % |  |  | 62,000 |  | 2.26 | % |  |
2 years through less than 3 years |  |  | 57,391 |  |  | 1.93 | % |  |  | 10,737 |  | 2.45 | % |  |
3 years through less than 4 years |  |  | - |  |  | - |  |  |  | 25,000 |  | 2.92 | % |  |
4 years through 5 years |  |  | - |  |  | - |  |  |  | - |  | - |  |  |
After 5 years |  |  | 2,839 |  |  | 2.42 | % |  |  | 2,882 |  | 2.43 | % |  |
Total FHLB borrowings |  |  | 506,265 |  |  | 1.09 | % |  |  | 500,619 |  | 1.96 | % |  |
Fair value premium (discount) |  |  | (40 | ) |  |  |  |  |  | (326 | ) |  |  |  |
Total borrowings |  | $ | 506,225 |  |  |  |  |  | $ | 500,293 |  |  |  |  |

The FHLB borrowings are secured by pledges of certain collateral including, but not limited to, U.S. government and agency mortgage-backed securities and a blanket assignment of qualifying first lien mortgage loans, consisting of both residential mortgages and commercial real estate loans.

Advances are payable at stated maturity, with a prepayment penalty for fixed rate advances. All FHLB advances are fixed rates. The advances as of September 30, 2020 were primarily collateralized by approximately $2.0 billion of commercial mortgage loans, net of required over collateralization amounts, under a blanket lien arrangement. As of September 30, 2020 the Company had remaining borrowing capacity of approximately $1.1 billion at FHLB.

Note 12. Subordinated Debentures

During 2003, the Company formed a statutory business trust, which exists for the exclusive purpose of (i) issuing Trust Securities representing undivided beneficial interests in the assets of the Trust; (ii) investing the gross proceeds of the Trust securities in junior subordinated deferrable interest debentures (subordinated debentures) of the Company; and (iii) engaging in only those activities necessary or incidental thereto. On December 19, 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 capital securities presently qualify as Tier I capital. 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 in part prior to maturity. The floating interest rate on the subordinate debentures is three-month LIBOR plus 2.85% and reprices quarterly. The rate as of September 30, 2020 was 3.19%. These subordinated debentures and the related income effects are not eliminated in the consolidated financial statements as the statutory business trust is not consolidated in accordance with FASB ASC 810-10. Distributions on the subordinated debentures owned by the subsidiary trust have been classified as interest expense in the Consolidated Statements of Income.

42

CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 12. Subordinated Debentures – (continued)

The following table summarizes the mandatory redeemable trust preferred securities of the Company’s Statutory Trust II as of September 30, 2020 and December 31, 2019.

| Issuance Date |  | Securities Issued |  | Liquidation Value |  | Coupon Rate |  | Maturity |  | Redeemable by Issuer Beginning |
| 12/19/2003 |  | $ 5,000,000 |  | $1,000 per Capital Security |  | Floating 3-month LIBOR + 285 Basis Points |  | 01/23/2034 |  | 01/23/2009 |

During June 2015, the Parent Corporation issued $50 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “2015 Notes”). The 2015 Notes may now be redeemed by the Company, have a stated maturity of July 1, 2025, and bear 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 September 30, 2020 the variable interest rate was 4.23% and all costs related to 2015 issuance have been amortized. Management currently anticipates that these notes will be redeemed, in full, during the first half of 2021.

On January 11, 2018, the Parent Corporation issued $75 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “2018 Notes”). The 2018 Notes bear interest at 5.20% annually from, and including, the date of initial issuance to, but excluding, February 1, 2023, payable semi-annually in arrears. From and including February 1, 2023 through maturity or earlier redemption, the interest rate shall reset quarterly to an interest rate per annum equal to the then current three-month LIBOR rate plus 284 basis points (2.84%) payable quarterly in arrears. If three-month LIBOR is not available for any reason, then the rate for that interest period will be determined by such alternate method as provided in the Supplemental Indenture. Interest on the 2018 Notes will be paid on February 1, and August 1, commencing August 1, 2018 to but not including February 1, 2023, and from and including February 1, 2023, on February 1, May 1, August 1, and November 1, of each year to but excluding the stated maturity date, unless in any case previously redeemed. As of September 30, 2020, unamortized costs related to this debt issuance were approximately $1.1 million.

On June 10, 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, June 15, 2025 or the date of earlier redemption, payable semi-annually in arrears on June 15 and December 15 of each year, commencing December 15, 2020. From and including June 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. As of September 30, 2020, unamortized costs related to this debt issuance were approximately $1.5 million.

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CONNECTONE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 13. Offsetting Assets and Liabilities

Certain financial instrument-related assets and liabilities may, under GAAP, be offset on the consolidated statements of condition because they are subject to master netting agreements or similar agreements, although the Company has elected to disclose such arrangements on a gross basis on its consolidated financial statements. The Company enters into interest rate swap agreements with financial institution counterparties. For additional detail regarding interest rate swap agreements refer to Note 5 within this section. In the event of default on, or termination of, any one contract, both parties have the right to net settle multiple contracts. Also, certain interest rate swap agreements may require the Company to receive or pledge cash or financial instrument collateral based on the contract provisions. The following table presents information about financial instruments that are eligible for offset as of September 30, 2020 and December 31, 2019:

|  |  |  |  |  |  |  |  |  |  |  |  | Gross Amounts Not Offset |
|  | Gross Amounts Recognized |  |  | Gross Amounts Offset in the Statement of Financial Condition |  | Net Amounts of Assets Presented in the Statement of Financial Condition |  |  | Financial Instruments Recognized |  | Cash or Financial Instrument Collateral |  |  | Net Amount |
|  | (dollars in thousands) |
September 30, 2020 |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Interest rate swaps |  | $ | - |  |  | $ | - |  | $ | - |  |  | $ | - |  | $ | - |  |  | $ | - |
Liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Interest rate swaps |  | $ | (2,728 | ) |  | $ | - |  | $ | (2,728 | ) |  | $ | - |  | $ | (2,728 | ) |  | $ | - |
December 31, 2019 |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Interest rate swaps |  | $ | - |  |  | $ | - |  | $ | - |  |  | $ | - |  | $ | - |  |  | $ | - |
Liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Interest rate swaps |  | $ | (273 | ) |  | $ | - |  | $ | (273 | ) |  | $ | - |  | $ | - |  |  | $ | (273 | )

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Note 14. Goodwill

In accordance with ASC 350, the Company performs goodwill impairment test at least annually, or more frequently if triggering event occurs. In the second quarter of 2020, the impact of COVID-19, prompted the Company to quantitatively evaluate goodwill for impairment. The Company engaged an independent third-party to evaluate the fair value of the Company compared to its carrying value. To estimate the fair value of the Company, the third-party relied on a weighted discounted cash flow method, guideline public company method, and transaction method. The results concluded that the fair value of the Company exceeded its current carrying value and goodwill impairment did not exist. As of September 30, 2020 the Company reassessed the prior quarter’s conclusion and, finding no material changes to our previous methodology, assumptions or results, concluded there was no impairment. As of September 30, 2020 and December 31, 2019, goodwill was $208.4 million and $162.6 million, respectively.

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Note 15. Subsequent Event

On October 26, 2020, the Company announced it had entered into a purchase and assumption agreement to sell two of the Bank’s leased branch offices in Warwick, NY and Monroe, NY and the deposit accounts associated with the two branches. Under the terms of the purchase and assumption agreement, the acquiring bank will assume the remaining lease and deposit obligations held at each branch. The total right of use asset and lease liability as of September 30, 2020 for both branches was $0.2 million and $0.2 million, respectively.

Additionally, under the terms of the purchase and assumption agreement, a portion of the deposits at each branch will be acquired at a set premium, while the remaining deposits will be acquired at no premium or discount. We anticipate the gain on the deposits with a premium will not have a material impact on our financial statements. The transaction is expected to close in the first quarter of 2021, subject to regulatory approvals and satisfaction of customary closing conditions.

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Item 2. Management’s Discussion and Analysis 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 the periods presented herein and financial condition as of September 30, 2020 and December 31, 2019. In order to fully understand this analysis, the reader is encouraged to review the consolidated financial statements and accompanying notes thereto appearing elsewhere in this report.

Cautionary Statement Concerning Forward-Looking Statements

This report includes forward-looking statements within the meaning of Sections 27A of the Securities Act of 1933, as amended, and 21E of the Securities Exchange Act of 1934, as amended, that involve inherent risks and uncertainties. This report contains certain forward-looking statements with respect to the financial condition, results of operations, plans, objectives, future performance and business of ConnectOne Bancorp Inc. and its subsidiaries, including statements preceded by, followed by or that include words or phrases such as “believes,” “expects,” “anticipates,” “plans,” “trend,” “objective,” “continue,” “remain,” “pattern” or similar expressions or future or conditional verbs such as “will,” “would,” “should,” “could,” “might,” “can,” “may” or similar expressions. There are a number of important factors that could cause future results to differ materially from historical performance and these forward-looking statements. Factors that might cause such a difference include, but are not limited to: (1) competitive pressures among depository institutions may increase significantly; (2) changes in the interest rate environment may reduce interest margins; (3) prepayment speeds, loan origination and sale volumes, charge-offs and loan loss provisions may vary substantially from period to period; (4) general economic conditions may be less favorable than expected; (5) political developments, sovereign debt problems, wars or other hostilities may disrupt or increase volatility in securities markets or other economic conditions; (6) legislative or regulatory changes or actions may adversely affect the businesses in which ConnectOne Bancorp is engaged; (7) changes and trends in the securities markets may adversely impact ConnectOne Bancorp; (8) a delayed or incomplete resolution of regulatory issues could adversely impact planning by ConnectOne Bancorp; (9) the impact on reputation risk created by the developments discussed herein on such matters as business generation and retention, funding and liquidity could be significant; (10) the outcome of regulatory and legal investigations and proceedings may not be anticipated, (11) the risk that the businesses of BNJ and ConnectOne Bancorp will not be integrated successfully or such integration may be more difficult, time-consuming or costly than expected; expected revenue synergies and cost savings from the acquisition of BNJ may not be fully realized within the expected timeframe; revenues following the acquisition of BNJ may be lower than expected; and customer and employee relationships and business operations may be disrupted by the acquisition of BNJ; and (12) the impact of the COVID-19 pandemic on our employees and operations, and those of our customers. Further information on other factors that could affect the financial results of ConnectOne Bancorp is included in Item 1a. of ConnectOne Bancorp’s Annual Report on Form 10-K as amended and updated in ConnectOne Bancorp’s other filings with the Securities and Exchange Commission. These documents are available free of charge at the Commission’s website at http://www.sec.gov and/or from ConnectOne Bancorp, Inc.

Critical Accounting Policies and Estimates

The accounting and reporting policies followed by ConnectOne Bancorp, Inc. and its subsidiaries (collectively, the “Company”) conform, in all material respects, to GAAP. In preparing the consolidated financial statements, management has made estimates, judgments and assumptions that affect the reported amounts of assets and liabilities as of the dates of the consolidated statements of condition and for the periods indicated in the consolidated statements of income. Actual results could differ significantly from those estimates.

The Company’s accounting policies are fundamental to understanding Management’s Discussion and Analysis (“MD&A”) of financial condition and results of operations. The Company has identified the determination of the allowance for loan losses, the other-than-temporary impairment evaluation of securities, the evaluation of the impairment of goodwill and the evaluation of deferred tax assets to be critical because management must make subjective and/or complex judgments about matters that are inherently uncertain and could be most subject to revision as new information becomes available. Additional information on these policies is provided below.

Allowance for Loan Losses and Related Provision: The allowance for loan losses (“ALLL”) represents management’s estimate of probable incurred credit losses inherent in the loan portfolio. Determining the amount of the ALLL is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, individual credit situation and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the consolidated statements of condition.

The evaluation of the adequacy of the ALLL includes, among other factors, an analysis of historical loss rates by loan segment applied to current loan totals. However, actual loan losses may be higher or lower than historical trends, which vary. Actual losses on specified problem loans, which also are provided for in the evaluation, may vary from estimated loss percentages, which are established based upon a limited number of potential loss classifications.

The ALLL is established through a provision for loan losses charged to expense. Management believes that the current ALLL will be adequate to absorb loan losses on existing loans that may become uncollectible based on the evaluation of known and inherent risks in the loan portfolio. The evaluation takes into consideration such factors as changes in the nature and size of the portfolio, overall portfolio quality, and specific problem loans and current economic conditions which may affect the borrowers’ ability to pay. The evaluation also details historical losses by loan segment and the resulting loan loss rates which are projected for current loan total amounts. Loss estimates for specified problem

47

loans are also detailed. All of the factors considered in the analysis of the adequacy of the ALLL may be subject to change. To the extent actual outcomes differ from management estimates, additional provisions for loan losses may be required that could materially adversely impact earnings in future periods. Additional information can be found in Note 6 of the Notes to Consolidated Financial Statements.

Business Combinations: We account for business combinations under the acquisition method of accounting. Using this method, assets acquired, liabilities assumed and consideration paid are recorded at their estimated fair values as of the acquisition date. The application of this method of accounting requires the use of significant estimates and assumptions. The application of the acquisition method of accounting usually results in the recognition of goodwill and a core deposit intangible (if the acquiree has deposits). The amount of goodwill recorded represents the excess purchase price over the estimated fair value of the net assets acquired, including any identifiable intangibles, if applicable. Goodwill is not amortized for book purposes; however, it is reviewed at least annually for impairment and is usually not deductible for tax purposes.

The assets acquired and liabilities assumed and consideration paid in the acquisition are recorded at their estimated fair values based on management’s best estimates using information available at the date of the acquisition and are subject to adjustment for up to one year after the closing date of the acquisition. Our estimates are based upon assumptions that we believe to be reasonable and the Company may use an outside service provider to assist with the valuations.

Goodwill: The Company adopted the provisions of FASB ASC 350-10, which requires that goodwill be reported separate from other intangible assets in the Consolidated Statements of Condition and not be amortized but rather tested for impairment annually or more frequently if impairment indicators arise. The Company performs an annual goodwill impairment test in the fourth quarter of each year, or more often if events or circumstances warrant. We will continue to monitor and evaluate the impact of COVID-19 and its impact on our market capitalization, overall economic conditions and any other potential triggering events that may indicate an impairment of goodwill in the future. In the event we conclude that all or a portion of our goodwill is impaired, a non-cash charge for the amount of such impairment would be recorded to earnings. Such a charge would have no impact on tangible capital or our regulatory capital ratios.

Income Taxes: The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity’s financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in the Company’s consolidated financial statements or tax returns.

Fluctuations in the actual outcome of these future tax consequences could impact the Company’s consolidated financial condition or results of operations. Note 12 of the Notes to Consolidated Financial Statements included in the Company’s Form 10-K for the year ended December 31, 2019 includes additional discussion on the accounting for income taxes.

Impact of COVID-19

COVID-19 continues to impact the Company’s operations and financial results, as well as those of our customers. More specifically, the impact of COVID-19 resulted in a significant increase to loan loss reserves. In response to the COVID-19 pandemic, the Company has temporarily closed certain branch locations and is directing those branch customers affected to drive-thru windows and online banking services. The Company has also offered temporary relief to effected customers, deferring either their full loan payment, the principal component or the interest component of their loan payment for an initial period of time ranging from 30 to 120 days. As of September 30, 2020, the Company has 199 deferred loans with a total outstanding loan balance of $355.2 million. As provided for under the CARES act, these short-term deferrals are not considered troubled debt restructurings, provided that the modification is related to COVID-19, executed on a loan that was not more than 30 days past due as of December 31, 2019 and executed between March 1, 2020 through December 31, 2020.

With the passage of the Paycheck Protection Program (“PPP”), administered by the Small Business Administration (“SBA”), the Company was an active participant in assisting its customers with applications for resources through the program. PPP loans originated prior to June 5, 2020 have a two-year term, which may be extended to five years with the consent of the Company, and those originated on or after June 5, 2020 have a five year term, and the loans bear interest at 1%, along with an origination fee payable from the SBA to the Company. The Company believes that the majority of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program. As of September 30, 2020, PPP loans were $474.4 million. It is the Company’s understanding that loans funded through the PPP program are fully guaranteed by the U.S. government and, as such, the Company has not included the PPP loans in calculation of the allowance for loan losses as of September 30, 2020. Should those circumstances change, the Company could be required to establish an additional allowance for loan loss through additional provisions for loan loss expense charged to earnings. Additionally, management has elected to participate in the Federal Reserve Bank’s PPP Lending Facility ("PPPLF") and as of June 30, 2020 had funded $206.6 million in PPP loans via the PPPLF. During the third quarter of 2020, the Company elected to pay off the entire PPPLF balance which was previously outstanding as of June 30, 2020.

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Operating Results Overview

Net income for the three months ended September 30, 2020 was $24.8 million compared to $21.7 million for the comparable three-month period ended September 30, 2019. The Company’s diluted earnings per share were $0.62 for the three months ended September 30, 2020 as compared with diluted earnings per share of $0.61 for the comparable three-month period ended September 30, 2019. The increase in net income and diluted earnings per share was primarily attributable to an increase net interest income and noninterest income, offset by increases in provision for loan losses and noninterest expenses. The increase in net interest income, was primarily attributable to an increase in interest and fees on loans, due to the acquisition of Bancorp of NJ (“BNJ”) and a decrease in interest expense largely due to reductions in interest rates related to deposits. The increase in provision for loan losses was primarily attributable to provisioning related to the economic uncertainties surrounding COVID-19 for the three months ended September 30, 2020.

Net income for the nine months ended September 30, 2020 was $45.6 million compared to $52.6 million for the comparable nine-month period ended September 30, 2019. The Company’s diluted earnings per share were $1.15 for the nine months ended September 30, 2020 as compared with diluted earnings per share of $1.48 for the comparable nine-month period ended September 30, 2019. The decrease in net income and diluted earnings per share was primarily attributable to an increase in provision for loan losses and noninterest expenses, partially offset by an increase in net interest income, an increase in noninterest income and a decrease in income tax expense. The increase in provision for loan losses was primarily attributable to provisioning related to the economic uncertainties surrounding COVID-19 for the nine months ended September 30, 2020. The increase in net interest income was primarily attributable to an increase in interest and fees on loans, due to the acquisition of BNJ, and decreases in interest expense largely due to reductions in interest rates related to deposits.

Net Interest Income and Margin

Net interest income is the difference between the interest earned on the portfolio of earning assets (principally loans and investments) and the interest paid for deposits and borrowings, which support these assets. Net interest income is presented on a tax-equivalent basis by adjusting tax-exempt income (primarily interest earned on obligations of state and political subdivisions) by the amount of income tax which would have been paid had the assets been invested in taxable issues. Net interest margin is defined as net interest income on a tax-equivalent basis as a percentage of total average interest-earning assets.

Fully taxable equivalent net interest income for the three months ended September 30, 2020 increased by $12.1 million, or 24.7%, from the comparable three-month period ended September 30, 2019, resulting from an increase in average interest-earning assets of 23.3%, primarily resulting from the BNJ acquisition, and a widening of the net interest margin of 5 basis-points to 3.49% from 3.44%. The widening of the net interest margin resulted from a 59 basis-points reduction in the cost of funding interest-earning assets, partially offset by a 54 basis-point reduction in the rate of average interest-earning assets.

Fully taxable equivalent net interest income for the nine months ended September 30, 2020 increased by $37.5 million, or 26.7%, from the comparable nine-month period ended September 30, 2019, resulting from an increase in average interest-earning assets of 26.1%, primarily resulting from the BNJ acquisition, and a widening of the net interest margin of 8 basis-points to 3.44% from 3.36%. The widening of the net interest margin resulted primarily from the favorable impact the Fed’s first quarter 2020 interest rate reductions had on our funding costs, which more than offset declines in our interest-earning asset yields. Included in interest income in the nine months ended September 30, 2020 was PPP fee income of approximately $7.2 million. The benefit to the nine months ended September 30, 2020 net interest margin attributable to the PPP was offset by additional liquidity on the Bank’s balance sheet.

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The following tables, “Average Statements of Condition with Interest and Average Rates”, present for the three and nine months ended September 30, 2020 and 2019, the Company’s average assets, liabilities and stockholders’ equity. The Company’s net interest income, net interest spread and net interest margin are also reflected.

Average Statements of Condition with Interest and Average Rates

|  | Three Months Ended September 30, |
|  | 2020 |  |  | 2019 |
|  |  |  |  |  | Interest |  |  |  |  |  |  |  |  |  | Interest |  |  |  |
|  | Average |  | Income/ |  | Average |  |  | Average |  | Income/ |  | Average |
|  | Balance |  | Expense |  | Rate (7) |  |  | Balance |  | Expense |  | Rate (7) |
|  | (dollars in thousands) |
Interest-earning assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Investment securities (1) (2) |  | $ | 420,362 |  |  | $ | 2,176 |  |  |  | 2.06 | % |  | $ | 445,492 |  |  | $ | 3,053 |  |  |  | 2.72 | %
Total loans (2) (3) (4) |  |  | 6,288,443 |  |  |  | 75,028 |  |  |  | 4.75 |  |  |  | 5,127,365 |  |  |  | 67,068 |  |  |  | 5.19 |
Federal funds sold and interest-bearing deposits with banks |  |  | 227,617 |  |  |  | 47 |  |  |  | 0.08 |  |  |  | 50,289 |  |  |  | 278 |  |  |  | 2.19 |
Restricted investment in bank stocks |  |  | 26,077 |  |  |  | 426 |  |  |  | 6.50 |  |  |  | 25,912 |  |  |  | 502 |  |  |  | 7.69 |
Total interest-earning assets |  |  | 6,962,499 |  |  |  | 77,677 |  |  |  | 4.44 |  |  |  | 5,649,058 |  |  |  | 70,901 |  |  |  | 4.98 |
Noninterest-earning assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Allowance for loan losses |  |  | (69,381) |  |  |  |  |  |  |  |  |  |  |  | (37,704) |  |  |  |  |  |  |  |  |
Other noninterest-earning assets |  |  | 580,884 |  |  |  |  |  |  |  |  |  |  |  | 448,059 |  |  |  |  |  |  |  |  |
Total assets |  | $ | 7,474,002 |  |  |  |  |  |  |  |  |  |  | $ | 6,059,413 |  |  |  |  |  |  |  |  |
Interest-bearing liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Time deposits |  | $ | 1,728,129 |  |  | $ | 8,174 |  |  |  | 1.88 |  |  | $ | 1,598,378 |  |  | $ | 9,934 |  |  |  | 2.47 |
Other interest-bearing deposits |  |  | 2,881,592 |  |  |  | 3,773 |  |  |  | 0.52 |  |  |  | 2,300,886 |  |  |  | 7,416 |  |  |  | 1.28 |
Total interest-bearing deposits |  |  | 4,609,721 |  |  |  | 11,947 |  |  |  | 1.03 |  |  |  | 3,899,264 |  |  |  | 17,350 |  |  |  | 1.77 |
Borrowings |  |  | 467,399 |  |  |  | 1,992 |  |  |  | 1.70 |  |  |  | 467,230 |  |  |  | 2,754 |  |  |  | 2.34 |
Subordinated debentures, net of debt issuance costs |  |  | 202,502 |  |  |  | 2,700 |  |  |  | 5.30 |  |  |  | 128,747 |  |  |  | 1,843 |  |  |  | 5.68 |
Capital lease obligation |  |  | 2,211 |  |  |  | 33 |  |  |  | 5.94 |  |  |  | 2,393 |  |  |  | 36 |  |  |  | 5.97 |
Total interest-bearing liabilities |  |  | 5,281,833 |  |  |  | 16,672 |  |  |  | 1.26 |  |  |  | 4,497,634 |  |  |  | 21,983 |  |  |  | 1.94 |
Noninterest-bearing demand deposits |  |  | 1,253,235 |  |  |  |  |  |  |  |  |  |  |  | 810,247 |  |  |  |  |  |  |  |  |
Other liabilities |  |  | 55,570 |  |  |  |  |  |  |  |  |  |  |  | 37,530 |  |  |  |  |  |  |  |  |
Total noninterest-bearing liabilities |  |  | 1,308,805 |  |  |  |  |  |  |  |  |  |  |  | 847,777 |  |  |  |  |  |  |  |  |
Stockholders’ equity |  |  | 883,364 |  |  |  |  |  |  |  |  |  |  |  | 714,002 |  |  |  |  |  |  |  |  |
Total liabilities and stockholders’ equity |  | $ | 7,474,002 |  |  |  |  |  |  |  |  |  |  | $ | 6,059,413 |  |  |  |  |  |  |  |  |
Net interest income (tax-equivalent basis) |  |  |  |  |  |  | 61,005 |  |  |  |  |  |  |  |  |  |  |  | 48,918 |  |  |  |  |
Net interest spread (5) |  |  |  |  |  |  |  |  |  |  | 3.18 | % |  |  |  |  |  |  |  |  |  |  | 3.04 | %
Net interest margin (6) |  |  |  |  |  |  |  |  |  |  | 3.49 | % |  |  |  |  |  |  |  |  |  |  | 3.44 | %
Tax-equivalent adjustment |  |  |  |  |  |  | (456) |  |  |  |  |  |  |  |  |  |  |  | (512) |  |  |  |  |
Net interest income |  |  |  |  |  | $ | 60,549 |  |  |  |  |  |  |  |  |  |  | $ | 48,406 |  |  |  |  |

(1) | Average balances are based on amortized cost and include equity securities.
(2) | Interest income is presented on a tax-equivalent basis using 21%.
(3) | Includes loan fee income.
(4) | Total loans includes loans held-for-sale and nonaccrual loans.
(5) | Represents difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities and is presented on a tax- equivalent basis.
(6) | Represents net interest income on a tax-equivalent basis divided by average total interest-earning assets.
(7) | Rates are annualized.

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Average Statements of Condition with Interest and Average Rates

|  | Nine Months Ended September 30, |
|  | 2020 |  |  | 2019 |
|  |  |  |  |  | Interest |  |  |  |  |  |  |  |  |  | Interest |  |  |  |
|  | Average |  | Income/ |  | Average |  |  | Average |  | Income/ |  | Average |
|  | Balance |  | Expense |  | Rate (7) |  |  | Balance |  | Expense |  | Rate (7) |
|  | (dollars in thousands) |
Interest-earning assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Securities (1) (2) |  | $ | 438,563 |  |  | $ | 7,802 |  |  |  | 2.38 | % |  | $ | 496,886 |  |  | $ | 11,361 |  |  |  | 3.06 | %
Total loans (2) (3) (4) |  |  | 6,192,822 |  |  |  | 224,336 |  |  |  | 4.84 |  |  |  | 5,014,324 |  |  |  | 191,466 |  |  |  | 5.11 |
Federal funds sold and interest-bearing with banks |  |  | 244,539 |  |  |  | 625 |  |  |  | 0.34 |  |  |  | 54,172 |  |  |  | 925 |  |  |  | 2.28 |
Restricted investment in bank stocks |  |  | 28,124 |  |  |  | 1,268 |  |  |  | 6.02 |  |  |  | 28,106 |  |  |  | 1,369 |  |  |  | 6.51 |
Total interest-earning assets |  |  | 6,904,048 |  |  |  | 234,031 |  |  |  | 4.53 |  |  |  | 5,593,488 |  |  |  | 205,121 |  |  |  | 4.90 |
Noninterest-earning assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Allowance for loan losses |  |  | (54,009) |  |  |  |  |  |  |  |  |  |  |  | (36,873) |  |  |  |  |  |  |  |  |
Other noninterest-earning assets |  |  | 571,628 |  |  |  |  |  |  |  |  |  |  |  | 433,900 |  |  |  |  |  |  |  |  |
Total assets |  | $ | 7,421,667 |  |  |  |  |  |  |  |  |  |  | $ | 5,990,515 |  |  |  |  |  |  |  |  |
Interest-bearing liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Time deposits |  | $ | 1,864,835 |  |  | $ | 28,130 |  |  |  | 2.01 |  |  | $ | 1,555,185 |  |  | $ | 27,603 |  |  |  | 2.37 |
Other interest-bearing deposits |  |  | 2,727,696 |  |  |  | 14,625 |  |  |  | 0.72 |  |  |  | 2,240,535 |  |  |  | 21,695 |  |  |  | 1.29 |
Total interest-bearing deposits |  |  | 4,592,531 |  |  |  | 42,755 |  |  |  | 1.24 |  |  |  | 3,795,720 |  |  |  | 49,298 |  |  |  | 1.74 |
Borrowings |  |  | 580,641 |  |  |  | 6,580 |  |  |  | 1.51 |  |  |  | 518,988 |  |  |  | 9,647 |  |  |  | 2.49 |
Subordinated debentures, net of debt issuance costs |  |  | 157,936 |  |  |  | 6,555 |  |  |  | 5.54 |  |  |  | 128,667 |  |  |  | 5,533 |  |  |  | 5.75 |
Capital lease |  |  | 2,257 |  |  |  | 101 |  |  |  | 5.98 |  |  |  | 2,436 |  |  |  | 110 |  |  |  | 6.02 |
Total interest-bearing liabilities |  |  | 5,333,365 |  |  |  | 55,991 |  |  |  | 1.40 |  |  |  | 4,445,811 |  |  |  | 64,588 |  |  |  | 1.94 |
Noninterest-bearing demand deposits |  |  | 1,162,340 |  |  |  |  |  |  |  |  |  |  |  | 811,689 |  |  |  |  |  |  |  |  |
Other liabilities |  |  | 53,788 |  |  |  |  |  |  |  |  |  |  |  | 36,508 |  |  |  |  |  |  |  |  |
Total noninterest-bearing liabilities |  |  | 1,216,129 |  |  |  |  |  |  |  |  |  |  |  | 848,197 |  |  |  |  |  |  |  |  |
Stockholders’ equity |  |  | 872,173 |  |  |  |  |  |  |  |  |  |  |  | 696,507 |  |  |  |  |  |  |  |  |
Total liabilities and stockholders’ equity |  | $ | 7,421,667 |  |  |  |  |  |  |  |  |  |  | $ | 5,990,515 |  |  |  |  |  |  |  |  |
Net interest income (tax-equivalent basis) |  |  |  |  |  |  | 178,040 |  |  |  |  |  |  |  |  |  |  |  | 140,533 |  |  |  |  |
Net interest spread (5) |  |  |  |  |  |  |  |  |  |  | 3.13 | % |  |  |  |  |  |  |  |  |  |  | 2.96 | %
Net interest margin (6) |  |  |  |  |  |  |  |  |  |  | 3.44 | % |  |  |  |  |  |  |  |  |  |  | 3.36 | %
Tax-equivalent adjustment |  |  |  |  |  |  | (1,419) |  |  |  |  |  |  |  |  |  |  |  | (1,645) |  |  |  |  |
Net interest income |  |  |  |  |  | $ | 176,621 |  |  |  |  |  |  |  |  |  |  | $ | 138,888 |  |  |  |  |

(1) | Average balances are based on amortized cost and include equity securities.
(2) | Interest income is presented on a tax-equivalent basis using 21%.
(3) | Includes loan fee income.
(4) | Total loans include loans held-for-sale and nonaccrual loans.
(5) | Represents difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities and is presented on a tax- equivalent basis.
(6) | Represents net interest income on a tax-equivalent basis divided by average total interest-earning assets.
(7) | Rates are annualized.

51

Noninterest Income

Noninterest income totaled $3.5 million for the three months ended September 30, 2020, compared with $2.1 million for the three months ended September 30, 2019. The increase in noninterest income of $1.4 million from the three months ended September 30, 2019 was primarily attributable to increases in income on bank owned life insurance of $0.7 million, mainly resulting from a death benefit of $0.5 million, net gains on sale of loans held-for-sale, primarily commercial real estate, of $0.3 million and net gains on sale of securities available-for-sale of $0.3 million.

Noninterest income totaled $11.0 million for the nine months ended September 30, 2020, compared with $5.8 million for the nine months ended September 30, 2019. The increase in noninterest income of $5.2 million from the nine months ended September 30, 2019 was primarily attributed to increases in deposit, loan and other income of $3.0 million, which included $2.3 million of loan referral fee income generated by BoeFly as a result of its participation in the PPP program. Additional increases were in income on bank owned life insurance of $1.1 million and net gains on sale of loans held-for-sale of $0.9 million. The increases in net gains on sale of loans held-for-sale was attributable to sales of commercial real estate loans originated for sale during the first and third quarters of 2020.

Noninterest Expenses

Noninterest expenses totaled $26.5 million for the three months ended September 30, 2020, compared with $21.4 million for the three months ended September 30, 2019. Noninterest expenses increased by $6.1 million from the three months ended September 30, 2019, primarily attributable to increases in salaries and employee benefits of $2.7 million, FDIC insurance of $1.5 million, occupancy and equipment expenses of $1.1 million, and increases in data processing of $0.4 million. The increases in salaries and employee expenses, occupancy and equipment expenses and data processing were mainly attributable to the acquisition of BNJ. The increase in FDIC insurance expense was primarily the result of a third-quarter 2019 non-recurring FDIC assessment credit of $1.3 million.

Noninterest expenses totaled $94.6 million for the nine months ended September 30, 2020, compared with $70.0 million for the nine months ended September 30, 2019. Included in noninterest expenses were merger and restructuring expense charges totaling $14.6 million and $8.1 million during the nine months ended September 30, 2020 and 2019, respectively. Excluding merger and restructuring expense charges, noninterest expenses increased by $18.0 million from the nine months ended June 30, 2019, primarily attributable to increases in salaries and employee benefits of $8.1 million, occupancy and equipment of $2.9 million, FDIC insurance of $1.8 million, data processing of $1.2 million, professional and consulting of $1.1 million, other expenses of $1.1 million, partially offset by a $1.0 million loss on extinguishment of debt that took place during the second quarter of 2019. There was no extinguishment of debt in the current period. Also contributing to the increase was an additional $2.3 million in expenses related to the BoeFly acquisition. The increases in salaries and employee expenses, occupancy and equipment, data processing, professional and consulting and other expenses are mainly attributable to the acquisition of BNJ. The increase in FDIC insurance was primarily the result of the aforementioned FDIC assessment credit of $1.3 million in 2019.

Income Taxes

Income tax expense was $7.8 million for the three months ended September 30, 2020, compared to $6.4 million for the three months ended September 30, 2019. The increase in income tax expense was the result of an increase in taxable income. The effective tax rate for the three months ended September 30, 2020 and September 30, 2019 was 23.9% and 22.7%, respectively.

Income tax expense was $11.3 million for the nine months ended September 30, 2020, compared to $14.4 million for the nine months ended September 30, 2019. The effective tax rate for the nine months ended September 30, 2019 was 19.9% versus 21.5% for the comparable prior-year period.

52

Financial Condition

Loan Portfolio

The following table sets forth the composition of our loan portfolio, excluding loans held-for-sale and unearned net origination fees and costs, by loan segment at the periods indicated.

|  |  |  |  |  |  |  |  |  |  |  |  |  | Amount
|  | September 30, 2020 |  | December 31, 2019 |  | Increase/
|  | Amount |  | % |  | Amount |  | % |  | (Decrease)
|  | (dollars in thousands)
Commercial (1) |  | $ | 1,631,434 |  | 26.1 | % |  | $ | 1,129,661 |  | 22.1 | % |  | $ | 501,773
Commercial real estate |  |  | 3,672,462 |  | 58.6 |  |  |  | 3,041,959 |  | 59.4 |  |  |  | 630,503
Commercial construction |  |  | 614,112 |  | 9.8 |  |  |  | 623,326 |  | 12.2 |  |  |  | (9,214)
Residential real estate |  |  | 343,376 |  | 5.5 |  |  |  | 320,020 |  | 6.2 |  |  |  | 23,356
Consumer |  |  | 1,876 |  | 0.0 |  |  |  | 3,328 |  | 0.1 |  |  |  | (1,452)
Gross loans |  | $ | 6,263,260 |  | 100.0 | % |  | $ | 5,118,294 |  | 100.0 | % |  | $ | 1,144,966

| (1) | Includes PPP loans of $474 million as of September 30, 2020.

As of September 30, 2020, gross loans totaled $6.3 billion, an increase of $1.1 billion, or 22.4%, as compared to December 31, 2019. Net loan growth was primarily attributable to the BNJ acquisition and the origination of PPP loans.

As of September 30, 2020, acquired loans within the loan portfolio totaled $1.1 billion, compared to $0.5 billion as of December 31, 2019. The increase was attributable to the BNJ acquisition.

Allowance for Loan Losses and Related Provision

In accordance with the accounting relief provisions of the CARES Act and regulatory guidance, the Company has postponed the adoption of the current expected credit losses (“CECL”) accounting standards. Management reached this decision due to the complexities of CECL loan loss forecasting exacerbated by the quickly changing economic environment resulting from the COVID-19 pandemic. The Company measured its allowance under its current incurred loan loss model as of September 30, 2020.

As of September 30, 2020, the ALLL was $74.3 million as compared to $38.3 million as of December 31, 2019. The provision for loan losses for the three and nine months ended September 30, 2020 was $5.0 million and $36.0 million, respectively, compared to $2.0 million and $7.6 million for the three and nine months ended September 30, 2019, respectively. The increase in the provision for loan losses was for both the three and nine months ended September 30, 2020 was primarily attributable to the economic uncertainties caused by the COVID-19 pandemic.

There were $(0.5) million and $-0- in net (recoveries) charge-offs for the three and nine months ended September 30, 2020, compared with $0.9 million and $3.8 million in net charge-offs for the three and nine months ended September 30, 2019, respectively. During the third quarter of 2020, the Bank received a $0.8 million recovery on a previously charged-off commercial real estate credit. The ALLL as a percentage of loans receivable amounted to 1.19% as of September 30, 2020 compared to 0.75% as of December 31, 2019 and 0.76 % as of September 30, 2019. Excluding the impact of PPP loans in the calculation of the ALLL as a percentage of loans receivable, the ratio increases to 1.29% as of September 30, 2020. PPP loans do not have allowance for loan losses attributable to them, as they are fully guaranteed by the SBA.

53

The level of the allowance for the respective periods of 2020 and 2019 reflects the credit quality within the loan portfolio, loan growth, the changing composition of the commercial and residential real estate loan portfolios and other related factors. Additionally, the higher allowance for loan losses for 2020 is a result of the impact of the COVID-19 pandemic.

In management’s view, the level of the ALLL as of September 30, 2020 is adequate to cover losses inherent in the loan portfolio. Management’s judgment regarding the adequacy of the allowance constitutes a “Forward-Looking Statement” under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from management’s analysis, based principally upon the factors considered by management in establishing the allowance. Changes in the ALLL are presented in the following table for the periods indicated.

|  | Three Months Ended
|  | September 30,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Average loans receivable at end of period |  | $ | 6,277,671 |  |  | $ | 5,126,374 |
Average loans held-for-sale at end of period |  |  | 10,772 |  |  |  | 991 |
Average total loans at end of period |  | $ | 6,288,443 |  |  | $ | 5,127,365 |
Analysis of the ALLL: |  |  |  |  |  |  |  |
Balance - beginning of quarter |  |  | 68,724 |  |  |  | 37,698 |
Charge-offs: |  |  |  |  |  |  |  |
Commercial |  |  | (48 | ) |  |  | - |
Commercial real estate |  |  | - |  |  |  | (387 | )
Residential real estate |  |  | (209 | ) |  |  | (557 | )
Consumer |  |  | - |  |  |  | (20 | )
Total charge-offs |  |  | (257 | ) |  |  | (964 | )
Recoveries: |  |  |  |  |  |  |  |
Commercial |  |  | - |  |  |  | 28 |
Commercial real estate |  |  | 800 |  |  |  | - |
Consumer |  |  | - |  |  |  | 9 |
Total recoveries |  |  | 800 |  |  |  | 37 |
Net recoveries (charge-offs) |  |  | 543 |  |  |  | (927 | )
Provision for loan and losses |  |  | 5,000 |  |  |  | 2,000 |
Balance - end of period |  | $ | 74,267 |  |  | $ | 38,771 |
Ratio of annualized net charge-offs during the period to average loans receivable during the  period |  |  | (0.03 | )% |  |  | 0.07 | %
Loans receivable |  | $ | 6,251,051 |  |  | $ | 5,110,471 |
ALLL as a percentage of loans receivable |  |  | 1.19 | % |  |  | 0.76 | %

|  | Nine Months Ended
|  | September 30,
|  | 2020 |  | 2019
|  | (dollars in thousands)
Average loans at end of period |  | $ | 6,167,623 |  |  | $ | 5,013,874 |
Average loans held-for-sale at end of period |  |  | 25,199 |  |  |  | 450 |
Average total loans at end of period |  |  | 6,192,822 |  |  |  | 5,014,324 |
Analysis of the ALLL: |  |  |  |  |  |  |  |
Balance - beginning of quarter |  | $ | 38,293 |  |  | $ | 34,954 |
Charge-offs: |  |  |  |  |  |  |  |
Commercial |  |  | (552 | ) |  |  | - |
Commercial real estate |  |  | - |  |  |  | (3,469 | )
Residential real estate |  |  | (278 | ) |  |  | (557 | )
Consumer |  |  | (3 | ) |  |  | (20 | )
Total charge-offs |  |  | (833 | ) |  |  | (4,046 | )
Recoveries: |  |  |  |  |  |  |  |
Commercial |  |  | 2 |  |  |  | 214 |
Commercial real estate |  |  | 802 |  |  |  | 30 |
Residential real estate |  |  | - |  |  |  | 3 |
Consumer |  |  | 3 |  |  |  | 16 |
Total recoveries |  |  | 807 |  |  |  | 263 |
Net charge-offs |  |  | (26 | ) |  |  | (3,783 | )
Provision for loan and losses |  |  | 36,000 |  |  |  | 7,600 |
Balance - end of period |  | $ | 74,267 |  |  | $ | 38,771 |
Ratio of annualized net charge-offs during the period to average loans during the period |  |  | 0.00 | % |  |  | 0.10 | %
Loans receivable |  | $ | 6,251,051 |  |  | $ | 5,110,474 |
ALLL as a percentage of loans receivable |  |  | 1.19 | % |  |  | 0.76 | %

54

Asset Quality

The Company manages asset quality and credit risk by maintaining diversification in its loan portfolio and through review processes that include analysis of credit requests and ongoing examination of outstanding loans, delinquencies, and potential problem loans, with particular attention to portfolio dynamics and mix. The Company strives to identify loans experiencing difficulty early enough to correct the problems, to record charge-offs promptly based on realistic assessments of current collateral values and cash flows, and to maintain an adequate allowance for loan losses at all times.

It is generally the Company’s policy to discontinue interest accruals once a loan is past due as to interest or principal payments for a period of ninety days. When a loan is placed on nonaccrual status, interest accruals cease and uncollected accrued interest is reversed and charged against current income. Payments received on nonaccrual loans are generally applied against principal. A loan may be restored to an accruing basis when all past due amounts have been collected. Loans past due 90 days or more which are both well-secured and in the process of collection may remain on an accrual basis.

Nonperforming assets include nonaccrual loans and other real estate owned. Nonaccrual loans represent loans on which interest accruals have been suspended. In general, it is the policy of management to consider the charge-off of uncollectible amounts of loans at the point they become past due 90 days. Performing troubled debt restructured loans represent loans to borrowers experiencing financial difficulties on which a concession was granted, such as a reduction in interest rate below the current market rate for new debt with similar risks or modified repayment terms, and are performing under the restructured terms.

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:

|  | September 30, |  |  | December 31, |
|  | 2020 |  |  | 2019 |
|  | (dollars in thousands) |
Nonaccrual loans |  | $ | 65,494 |  |  | $ | 49,481 |
OREO |  |  | - |  |  |  | - |
Total nonperforming assets (1) |  | $ | 65,494 |  |  | $ | 49,481 |
Performing TDRs |  | $ | 18,241 |  |  | $ | 21,410 |
Loans 90 days or greater past due and still accruing (non-PCI) |  | $ | - |  |  | $ | - |
Loans 90 days or greater past due and still accruing (PCI) |  | $ | 12,808 |  |  | $ | 3,107 |

| (1) | Nonperforming assets are defined as nonaccrual loans and OREO.

Nonaccrual loans to loans receivable |  |  | 1.05 | % |  |  | 0.97 | %
Nonperforming assets to total assets |  |  | 0.88 | % |  |  | 0.80 | %
Nonperforming assets, performing TDRs, and loans 90 days or greater past due and still accruing to loans receivable |  |  | 1.54 | % |  |  | 1.44 | %

The above table does not include deferred loans, which totaled approximately $355.2 million as of September 30, 2020. These deferred loans could migrate to nonperforming loans sometime in the future but have not as of September 30, 2020.

Investment Securities

As of September 30, 2020, the principal components of the securities portfolio were federal agency obligations, mortgage-backed securities, obligations of U.S. states and political subdivisions, corporate bonds and notes, asset-backed securities and equity securities. For the three months ended September 30, 2020, average securities decreased $25.1 million to approximately $420.4 million, or 6.0% of average total interest-earning assets, from approximately $445.5 million, or 7.9% of average interest-earning assets, for the comparable period in 2019.

As of September 30, 2020, net unrealized gains on securities available-for-sale, which are carried as a component of accumulated other comprehensive income and included in stockholders’ equity, net of tax, amounted to $6.8 million as compared with net unrealized gains of $2.7 million as of December 31, 2019. The increase in unrealized gains is predominately attributable to changes in market conditions and interest rates. The gross unrealized losses associated with agency securities and federal agency obligations, mortgage-backed securities, corporate bonds and tax-exempt securities are not considered to be other-than-temporary because their unrealized losses are related to changes in interest rates and credit spreads and do not affect the expected cash flows of the underlying collateral or issuer.

55

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 (“NII”) simulation and economic value of equity (“EVE”) models to measure the potential impact to the Bank of future changes in interest rates. As of September 30, 2020 and December 31, 2019, 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 the 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 September 30, 2020, 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 1.13%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 4.48%. As of December 31, 2019, 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 1.55%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 1.71%.

Based on our model, which was run as of September 30, 2020, 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 3.60%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 7.37%. As of December 31, 2019, 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 2.86%, while a 100 basis-point instantaneous decrease in interest rates would decrease net interest income by 4.86%

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 September 30, 2020, would decline by 9.97% with an instantaneous rate shock of up 200 basis points, and increase by 7.50% with an instantaneous rate shock of down 100 basis points. Our EVE as of December 31, 2019, would decline by 7.2% with an instantaneous rate shock of up 200 basis points, and increase by 3.69% with an instantaneous rate shock of down 100 basis points.

The following table illustrates the most recent results for EVE and one-year NII sensitivity as of September 30, 2020.

Interest Rates |  | Estimated |  | Estimated Change in EVE |  | Interest Rates |  | Estimated |  | Estimated Change in NII
(basis points) |  | EVE |  | Amount |  | % |  | (basis points) |  | NII |  | Amount |  | %
+300 |  | $ | 805,210 |  | $ | (119,771 | ) |  | (12.95 | ) |  | +300 |  | $ | 236,413 |  | $ | 5,403 |  |  | 2.34 |
+200 |  |  | 832,798 |  |  | (92,183 | ) |  | (9.97 | ) |  | +200 |  |  | 233,628 |  |  | 2,618 |  |  | 1.13 |
+100 |  |  | 868,816 |  |  | (56,165 | ) |  | (6.07 | ) |  | +100 |  |  | 231,742 |  |  | 732 |  |  | 0.32 |
0 |  |  | 924,981 |  |  | - |  |  | 0.0 |  |  | 0 |  |  | 231,010 |  |  | - |  |  | 0.0 |
-100 |  |  | 994,391 |  |  | 69,410 |  |  | 7.50 |  |  | -100 |  |  | 220,656 |  |  | (10,354 | ) |  | (4.48) |

Estimates of Fair Value

The estimation of fair value is significant to a number of the Company’s assets, including loans held-for-sale and securities available-for-sale. 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, discount rates, or market interest rates. Fair values for most available-for-sale 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. 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.

56

Impact of Inflation and Changing Prices

The consolidated financial statements and notes thereto presented elsewhere herein have been prepared in accordance with GAAP, which requires 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 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 September 30, 2020, 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 September 30, 2020, liquid assets (cash and due from banks, interest-bearing deposits with banks and unencumbered investment securities) were $615.3 million, which represented 8.3% of total assets and 9.8% of total deposits and borrowings, compared to $506 million as of December 31, 2019, which represented 8.2% of total assets and 9.6% of total deposits and borrowings.

The Bank is a member of the Federal Home Loan Bank of New York and, based on available qualified collateral as of September 30, 2020, had the ability to borrow $2.0 billion. In addition, as of September 30, 2020, the Bank had in place borrowing capacity of $25 million through correspondent banks. The Bank also has a credit facility established with the Federal Reserve Bank of New York for direct discount window borrowings with capacity based on pledged collateral of $5.3 million. As of September 30, 2020, the Bank had aggregate available and unused credit of approximately $1.0 billion, which represents the aforementioned facilities totaling $2.0 billion net of $1.0 billion in outstanding borrowings and letters of credit. As of September 30, 2020, outstanding commitments for the Bank to extend credit were approximately $0.9 billion.

Cash and cash equivalents totaled $256.1 million as of September 30, 2020, increasing by $54.6 million from $201.5 million as of December 31, 2019. Operating activities provided $99.8 million in net cash. Investing activities used $312.2 million in net cash, primarily reflecting an increase in loans, securities purchases, cash flows acquired from BNJ, and cash consideration for the BNJ acquisition. Financing activities provided $267.0 million in net cash, primarily reflecting a net increase in deposits of $249.4 million and an increase in subordinated debentures of $73.4 million, partially offset by net borrowings of $43.7 million.

Deposits

The following table sets forth the composition of our deposit base by the periods indicated.

|  |  |  |  |  |  |  |  |  |  |  |  |  | Amount
|  |  |  |  |  |  |  |  |  |  |  |  |  | Increase/
|  | September 30, 2020 |  | December 31, 2019 |  | (Decrease)
|  | Amount |  | % |  | Amount |  | % |  | 2020 vs. 2019
| (dollars in thousands)
Demand, noninterest-bearing |  | $ | 1,270,021 |  | 21.9 | % |  | $ | 861,728 |  | 18.1 | % |  | $ | 408,293
Demand, interest-bearing |  |  | 1,345,847 |  | 23.2 |  |  |  | 1,079,621 |  | 22.6 |  |  |  | 266,226
Money market |  |  | 1,328,907 |  | 22.9 |  |  |  | 1,108,983 |  | 23.3 |  |  |  | 219,924
Savings |  |  | 234,372 |  | 4.1 |  |  |  | 163,489 |  | 3.4 |  |  |  | 70,883
Time |  |  | 1,619,609 |  | 27.9 |  |  |  | 1,553,721 |  | 32.6 |  |  |  | 65,888
Total deposits |  | $ | 5,798,756 |  | 100.0 | % |  | $ | 4,767,542 |  | 100.0 | % |  | $ | 1,031,214

Total deposits increased by $1.0 billion, or 21.6%, to $5.8 billion as of September 30, 2020 from December 31, 2019. The increase was primarily attributable the acquisition of BNJ.

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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 prior to maturity. The floating interest rate on the subordinated debentures is three-month LIBOR plus 2.85% and re-prices quarterly. The rate as of September 30, 2020 was 3.19%.

During June 2015, the Parent Corporation issued $50 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “Notes”) to certain institutional accredited investors. The net proceeds from the sale of the Notes were used by the Parent Corporation to contribute $35.0 million of common equity to the Bank and to repay $11.25 million of SBLF preferred stock issued to the U.S. Treasury on March 11, 2016. Remaining funds were used for general corporate purposes. The Notes may now be redeemed by the Company, have a stated maturity of July 1, 2025, and bear interest until the maturity date or early redemption date at a variable rate of interest, which will reset quarterly, equal to the then current three-month LIBOR rate plus 393 basis points. As of September 30, 2020 the variable interest rate was 4.23% and all costs related to 2015 issuance have been amortized. Management currently anticipates that these notes will be redeemed, in full, during the first half of 2021.

During January 2018, the Parent Corporation issued $75 million in aggregate principal amount of fixed-to-floating rate subordinated notes (the “2018 Notes”) to certain accredited investors. The net proceeds from the sale of the 2018 Notes were used 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 in the first quarter of 2018. The 2018 Notes are non-callable for five years, have a stated maturity of February 1, 2028 and bear interest at a fixed rate of 5.20% per year, from and including January 17, 2018 to, but excluding February 1, 2023. From and including February 1, 2023 to, but excluding the maturity date, or early redemption date, the interest rate will reset quarterly to a level equal to the then current three-month LIBOR rate plus 284 basis points.

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, June 15, 2025 or the date of earlier redemption, payable semi-annually in arrears on June 15 and December 15 of each year, commencing December 15, 2020. From and including June 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.

Stockholders’ Equity

The Company’s stockholders’ equity was $891 million as of September 30, 2020, an increase of $160 million from December 31, 2019. The increase in stockholders’ equity was primarily attributable to the acquisition of BNJ, which increased capital by $118 million and retained earnings, which increased capital $38 million. As of September 30, 2020, the Company’s tangible common equity ratio and tangible book value per share were 9.28% and $16.87, respectively. As of December 31, 2019, the tangible common equity ratio and tangible book value per share were 9.38% and $16.06, respectively. Total goodwill and other intangible assets were approximately $220 million as of September 30, 2020 and $168 million as of December 31, 2019. The following table shows the reconciliation of common equity to tangible common equity and the tangible common equity ratio.

|  | September 30, |  | December 31,
|  | 2020 |  | 2019
|  | (dollars in thousands, except for share and
|  | per share data)
Common equity |  | $ | 890,736 |  | $ | 731,190
Less: intangible assets |  |  | (219,977) |  |  | (168,034)
Tangible common stockholders’ equity |  | $ | 670,759 |  | $ | 563,156
Total assets |  | $ | 7,449,559 |  | $ | 6,174,032
Less: intangible assets |  |  | (219,977) |  |  | (168,034)
Tangible assets |  | $ | 7,229,582 |  | $ | 6,005,998
Common stock outstanding at period end |  |  | 39,754,051 |  |  | 35,072,067
Tangible common equity ratio (1) |  |  | 9.28% |  |  | 9.38%
Book value per common share |  | $ | 22.41 |  | $ | 20.85
Less: intangible assets |  |  | 5.54 |  |  | 4.79
Tangible book value per common share |  | $ | 16.87 |  | $ | 16.06

(1) Tangible common equity is a non-GAAP measure.

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Regulatory Capital and Capital Adequacy

The maintenance of a solid capital foundation is a primary goal for the Company. Accordingly, capital plans, stock repurchases and dividend policies are monitored on an ongoing basis. The Company’s objective with respect to the capital planning process is to effectively balance the retention of capital to support future growth with the goal of providing stockholders with an attractive long-term return on their investment.

The Company and the Bank are subject to regulatory guidelines establishing minimum capital standards that involve quantitative measures of assets, and certain off-balance sheet items, as risk-adjusted assets under regulatory accounting practices.

The following is a summary of the Bank’s and the Parent Corporation’s actual capital amounts and ratios as of September 30, 2020, compared to the FRB and FDIC minimum capital adequacy requirements and the FDIC requirements for classification as a well-capitalized institution.

|  |  |  |  |  |  |  |  |  |  |  |  |  | For Classification Under Corrective
|  |  |  |  |  |  |  | Minimum |  | Action Plan
|  |  |  | Capital Adequacy |  | as Well Capitalized
The Bank |  | Amount |  | Ratio |  | Amount |  | Ratio |  | Amount |  | Ratio
At September 30, 2020 |  |  |  |  |  |  |  | (dollars in thousands) |  |  |  |  |  |  |
Leverage (Tier 1) capital |  | $ | 751,226 |  | 10.41 | % |  | $ | 288,731 |  | 4.00 | % |  | $ | 360,913 |  | 5.00 | %
Risk-based Capital: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Common Equity Tier 1 |  | $ | 751,226 |  | 12.00 | % |  | $ | 281,805 |  | 4.50 | % |  | $ | 407,052 |  | 6.50 | %
Tier 1 |  |  | 751,226 |  | 12.00 | % |  |  | 375,740 |  | 6.00 | % |  |  | 500,987 |  | 8.00 | %
Total |  |  | 857,743 |  | 13.70 | % |  |  | 500,987 |  | 8.00 | % |  |  | 626,234 |  | 10.00 | %
The Company |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
At September 30, 2020 |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Leverage (Tier 1) capital |  | $ | 671,188 |  | 9.30 | % |  | $ | 288,834 |  | 4.00 | % |  | $ | N/A |  | N/A |
Risk-based Capital: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Common Equity Tier 1 |  | $ | 666,033 |  | 10.63 | % |  | $ | 281,827 |  | 4.50 | % |  | $ | N/A |  | N/A |
Tier 1 |  |  | 671,188 |  | 10.72 | % |  |  | 375,769 |  | 6.00 | % |  |  | N/A |  | N/A |
Total |  |  | 935,455 |  | 14.94 | % |  |  | 501,025 |  | 8.00 | % |  |  | N/A |  | N/A |

As of September 30, 2020, management believes that each of the Bank and the Company meet all capital adequacy requirements to which they are subject. Basel III rules require a “capital conservation buffer” for both the Company and the Bank. Beginning January 1, 2019, the Company and the Bank were required to maintain a 2.5% capital conservation buffer, above and beyond the capital levels otherwise required under applicable regulation. Under this guidance banking institutions with a Common Equity Tier 1 Capital Ratio, Tier 1 Capital Ratio and Total Risk-based Capital Ratio above the minimum regulatory adequate capital ratios but below the capital conservation buffer will face constraints on their ability to pay dividends, repurchase equity and pay discretionary bonuses to executive officers, based on the amount of the shortfall.

As of September 30, 2020, both the Company and Bank satisfy the capital conservation buffer requirements applicable to them. The lowest ratio at the Company is the Tier 1 Risk Based Ratio which was 2.22% above the minimum buffer ratio and, at the Bank, the lowest ratio was the Total Risk Based Capital Ratio which was 3.20% above the minimum buffer ratio.

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Item 3. Qualitative and Quantitative Disclosures about Market Risks

Market Risk

Interest rate risk management is our primary market risk. See "Item 2- Management's Discussion and Analysis of Financial Condition and Results of Operations - Interest Rate Sensitivity Analysis" herein for a discussion of our management of our interest rate risk.

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Item 4. Controls and Procedures

a) Disclosure controls and procedures. As of the end of the Company’s most recently completed fiscal quarter covered by this report, the Company carried out an evaluation, with the participation of the Company’s management, including the Company’s chief executive officer and chief financial officer, of the effectiveness of the Company’s disclosure controls and procedures pursuant to Securities Exchange Act Rule 13a-15. Based upon that evaluation, the Company’s chief executive officer and chief financial officer concluded that the Company’s disclosure controls and procedures are effective in ensuring that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms and are operating in an effective manner and that such information is accumulated and communicated to management, including the Company’s chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

b) Changes in internal controls over financial reporting. There have been no changes in the Company’s internal controls over financial reporting that occurred during the Company’s last fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART II - OTHER INFORMATION

Item 1. Legal Proceedings

The Company is not subject to any legal proceedings, which could have a materially adverse impact on its results of operations and financial condition.

Item 1a. Risk Factors

There have been no material changes to the risks inherent in our business from those described under Item 1A – Risk Factors of our Annual Report on Form 10-K for the year ended December 31, 2019, with the exception of:

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 are difficult to predict.

Global health concerns relating to the COVID-19 outbreak and related government actions taken to reduce the spread of the virus, including the initial closure of non-essential business and stay at home orders, and continuing restrictions on certain businesses, such as bars restaurants and gyms, have been weighing 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 contain the virus, such as travel bans and restrictions, quarantines, shelter in place or total lock-down orders and business limitations and shutdowns. Such measures, even as certain of them have been eased, have significantly contributed to rising unemployment and negatively impacted consumer and business spending. 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, 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, customers and business partners. In particular, we may experience financial losses due to a number of operational factors impacting us or our borrowers, customers or business partners, including but not limited to:

•

credit losses resulting from financial stress being experienced by our borrowers as a result of the outbreak and related governmental actions, particularly in the hospitality, energy, retail and restaurant industries, but across other industries as well. As of June 30, 2020, we had agreed to short-term payment deferrals of approximately $937 million in outstanding loans for customers facing financial stress due to the COVID-19 pandemic;

•

declines in collateral values;

•

third party disruptions, including outages at network providers and other suppliers;

•

increased cyber and payment fraud risk, as cybercriminals attempt to profit from the disruption, given increased online and remote activity; and

•

operational failures due to changes in our normal business practices necessitated by the outbreak and related governmental actions.

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 spread of COVID-19 has caused us to modify our business practices (including restricting employee travel, and developing work from home and social distancing plans for our employees), and we may take further actions as may be required by government authorities or as we determine are in the best interests of our employees, customers and business partners. There is no certainty that such measures will be sufficient to mitigate the risks posed by the virus or will otherwise be satisfactory to government authorities.

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, the actions to contain the virus or treat its impact, and how quickly and to what extent normal economic and operating conditions can 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 the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2019.

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Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

See “Item 2- Management’s Discussion and Analysis of Financial Condition and Results of Operations – Shareholders’ Equity”

Item 3. Defaults Upon Senior Securities

Not applicable

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

Not applicable

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Item 6. Exhibits

Exhibit No. |  | Description
10.1 |  | Second Supplemental Indenture, dated as of June 15, 2020, between the Company and U.S. Bank National Association, as Trustee.(1).
31.1 |  | Certification of the Chief Executive Officer of the Parent Corporation Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 |  | Certification of the Chief Financial Officer of the Parent Corporation Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 |  | Certification of the Chief Executive Officer of the Parent Corporation Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 |  | Certification of the Chief Financial Officer of the Parent Corporation Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS |  | XBRL Instance Document
101.SCH |  | XBRL Taxonomy Extension Schema Document
101.CAL |  | XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF |  | Definition Taxonomy Extension Linkbase Document
101.LAB |  | XBRL Taxonomy Extension Label Linkbase Document
101.PRE |  | XBRL Taxonomy Extension Presentation Linkbase Document
104 |  | Cover Page Interactive Data File – the cover page interactive data file does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.

(1) Incorporated by reference from Exhibit 4.2 of the Registrant's Current Report on Form 8-K filed June 15, 2020.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf, by the undersigned, thereunto duly authorized.

CONNECTONE BANCORP, INC.

(Registrant)

By: | /s/ Frank Sorrentino III |  | By: | /s/ William S. Burns
| Frank Sorrentino III |  |  | William S. Burns
| Chairman and Chief Executive Officer |  |  | Executive Vice President and Chief Financial Officer
| Date: November 6, 2020 |  |  | Date: November 6, 2020

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