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LOANS, ALLOWANCE FOR CREDIT LOSSES, AND CREDIT QUALITY

9 Months Ended

Sep. 30, 2023

LOANS, ALLOWANCE FOR CREDIT LOSSES, AND CREDIT QUALITY

LOANS, ALLOWANCE FOR LOAN LOSSES, AND CREDIT QUALITY

NOTE 5 – LOANS, ALLOWANCE FOR CREDIT LOSSES, AND CREDIT QUALITY

The following table presents total loans by portfolio segment and class of loan as of September 30, 2023 and December 31, 2022:


	2023		2022
Commercial/industrial	$	531,906	$	492,563
Commercial real estate - owner occupied		898,141		717,401
Commercial real estate - non-owner occupied		785,400		681,783
Construction and development		197,927		200,022
Residential 1‑4 family		878,860		739,339
Consumer		50,527		44,796
Other		14,821		18,905
Subtotals		3,357,582		2,894,809
ACL - Loans		(43,404)		(22,680)
Loans, net of ACL - Loans		3,314,178		2,872,129
Deferred loan fees, net		(2,033)		(831)
Loans, net	$	3,312,145	$	2,871,298

The ACL - Loans is based on the Company’s evaluation of historical default and loss experience, current and projected economic conditions, asset quality trends, known and inherent risks in the portfolio, adverse situations that may affect the borrowers’ ability to repay a loan, the estimated value of any underlying collateral, composition of the loan portfolio and other relevant factors. Loans with similar risk characteristics are evaluated in pools and, depending on the nature of each identified pool, the Company utilizes a discounted cash flow (“DCF”), probability of default / loss given default (“PD/LGD”) or remaining life method. The historical loss experience estimate by pool is then adjusted by forecast factors that are quantitatively related to the Company’s historical credit loss experience, such as national unemployment rates, gross domestic product and indexes which are indicative of the value of underlying collateral. Losses are forecasted over the expected life of the loan, first by predicting over a period of time determined to be reasonable and supportable (currently four calendar quarters), and at the end of the reasonable and supportable period reverting to long term historical averages. The reasonable and supportable period and reversion period are re-evaluated each quarter by the Company and are dependent on the current economic environment among other factors. The expected credit losses for each loan pool are then adjusted for changes in qualitative factors not inherently considered in the quantitative analyses. The qualitative adjustments either increase or decrease the quantitative model estimation. The Company considers factors that are relevant within the qualitative framework which include the following: lending policy, changes in nature and volume of loans, staff experience, changes in volume and trends of problem loans, concentration risk, trends in underlying collateral values, external factors, quality of loan review system and other economic conditions. Expected credit losses for loans that no longer share similar risk characteristics with the collectively evaluated pools are excluded from the collective evaluation and estimated on an individual basis. Individual evaluations are performed for nonaccrual loans, loans rated substandard, and modified loans (previously classified as TDRs). Specific allocations of the ACL for credit losses on individually evaluated loans are estimated on one of several methods, including the estimated fair value of the underlying collateral, observable market value of similar debt or the present value of expected cash flows.

A summary of the activity in the ACL - Loans by loan type for the nine-months ended September 30, 2023 is summarized as follows:


			Commercial		Commercial
			Real Estate -		Real Estate -		Construction
	Commercial /		Owner		Non - Owner		and		Residential
	Industrial		Occupied		Occupied		Development		1-4 Family		Consumer		Other		Total
ACL - Loans - January 1, 2023	$	4,071	$	5,204	$	5,405	$	1,592	$	5,944	$	314	$	150	$	22,680
Adoption of CECL		1,859		1,982		1,914		2,063		2,567		620		(33)		10,972
ACL - Loans on PCD loans acquired		1,082		4,424		—		—		28		—		—		5,534
Charge-offs		—		—		—		—		—		(1)		(69)		(70)
Recoveries		5		70		—		—		104		4		13		196
Provision		538		(220)		1,245		(87)		2,509		70		37		4,092
ACL - Loans - September 30, 2023	$	7,555	$	11,460	$	8,564	$	3,568	$	11,152	$	1,007	$	98	$	43,404

A summary of the activity in the allowance for loan losses (“ALL”) by loan type for the nine-months ended September 30, 2022 is as follows:


			Commercial		Commercial
			Real Estate -		Real Estate -		Construction
	Commercial /		Owner		Non - Owner		and		Residential
	Industrial		Occupied		Occupied		Development		1-4 Family		Consumer		Other		Total
ALL - January 1, 2022	$	3,699	$	5,633	$	5,151	$	984	$	4,445	$	224	$	179	$	20,315
Charge-offs		—		—		—		—		(39)		(17)		(27)		(83)
Recoveries		455		74		360		152		6		2		64		1,113
Provision		134		(643)		365		507		1,312		90		(65)		1,700
ALL September 30, 2022		4,288		5,064		5,876		1,643		5,724		299		151		23,045
ALL ending balance individually evaluated for impairment		150		—		775		—		—		—		—		925
ALL ending balance collectively evaluated for impairment	$	4,138	$	5,064	$	5,101	$	1,643	$	5,724	$	299	$	151	$	22,120
Loans outstanding - September 30, 2022	$	486,839	$	723,964	$	668,505	$	209,619	$	706,794	$	43,953	$	19,178	$	2,858,852
Loans ending balance individually evaluated for impairment		487		2,541		1,396		—		211		—		—		4,635
Loans ending balance collectively evaluated for impairment	$	486,352	$	721,423	$	667,109	$	209,619	$	706,583	$	43,953	$	19,178	$	2,854,217

In addition to the ACL-Loans, the Company has established an ACL-Unfunded Commitments, classified in other liabilities on the consolidated balance sheets. This allowance is maintained to absorb losses arising from unfunded loan commitments, and is determined quarterly based on methodology similar to the methodology for determining the ACL-Loans. The ACL - Unfunded Commitments was $3.5 million at September 30, 2023. See Note 10 for further information on commitments.

The provision for credit losses is determined by the Company as the amount to be added to the ACL loss accounts for various types of financial instruments including loans, investment securities, and off-balance sheet credit exposures after net charge-offs have been deducted to bring the ACL to a level that, in management’s judgment, is necessary to absorb expected credit losses over the lives of the respective financial instruments. The following table presents the components of the provision for credit losses.


	Nine Months Ended				Year Ended
	September 30, 2023		September 30, 2022		December 31, 2022
Provision for credit losses on:
Loans	$	4,092	$	1,700	$	2,200
Unfunded Commitments		90		—		—
Total provision for credit losses	$	4,182	$	1,700	$	2,200

The Company’s past due and non-accrual loans as of September 30, 2023 is summarized as follows:


			90 Days						Non-Accrual
	30-89 Days		or more						with no
	Past Due		Past Due		Non-				specifically
	Accruing		and Accruing		Accrual		Total		allocated ACL
Commercial/industrial	$	78	$	18	$	531	$	627	$	47
Commercial real estate - owner occupied		180		250		1,958		2,388		1,958
Commercial real estate - non-owner occupied		—		—		—		—		—
Construction and development		—		—		—		—		—
Residential 1‑4 family		843		151		444		1,438		445
Consumer		76		27		13		116		13
Other		—		—		—		—		—
	$	1,177	$	446	$	2,946	$	4,569	$	2,463

The Company’s past due and non-accrual loans as of December 31, 2022 is summarized as follows:


			90 Days
	30-89 Days		or more
	Past Due		Past Due
	Accruing		and Accruing		Non-Accrual		Total
Commercial/industrial	$	192	$	—	$	418	$	610
Commercial real estate - owner occupied		1,301		—		2,688		3,989
Commercial real estate - non-owner occupied		—		—		—		—
Construction and development		237		—		17		254
Residential 1‑4 family		774		268		505		1,547
Consumer		19		5		—		24
Other		—		—		—		—
	$	2,523	$	273	$	3,628	$	6,424

Interest recognized on non-accrual loans is considered immaterial to the consolidated financial statements for the nine months ended September 30, 2023 and 2022.

A loan is considered to be collateral dependent when, based upon management’s assessment, the borrower is experiencing financial

difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. For collateral dependent loans, expected credit losses are based on the estimated fair value of the collateral at the balance sheet date, with consideration for estimated selling costs if satisfaction of the loan depends on the sale of the collateral. The following table presents collateral dependent loans by portfolio segment and collateral type, including those loans with and without a related allowance allocation. A significant portion of the loan balances in this table and essentially all of the allowance allocations relate to PCD loans which were acquired from Hometown. Real estate collateral primarily consists of operating facilities of the underlying borrowers. Other business assets collateral primarily consists of receivables and inventory of the underlying borrowers.


	Collateral Type
As of September 30, 2023			Other				Without an		With an		Allowance
	Real Estate		Business Assets		Total		Allowance		Allowance		Allocation
Commercial/industrial	$	—	$	5,719	$	5,719	$	47	$	5,672	$	1,919
Commercial real estate - owner occupied		9,699		—		9,699		1,590		8,109		2,854
Commercial real estate - non-owner occupied		—		—		—		—		—		—
Construction and development		—		—		—		—		—		—
Residential 1‑4 family		35		—		35		35		—		—
Consumer		—		—		—		—		—		—
Other		—		—		—		—		—		—
Total Loans	$	9,734	$	5,719	$	15,453	$	1,672	$	13,781	$	4,773

Prior to the adoption of ASU 2016-13, the allowance included specific reserves for certain individually evaluated impaired loans. Specific reserves reflected estimated losses on impaired loans from management’s analysis developed through specific credit allocations. The following table shows a summary of impaired loans individually evaluated as of December 31, 2022:


			Commercial		Commercial
			Real Estate -		Real Estate -		Construction
	Commercial/		Owner		Non - Owner		and		Residential
	Industrial		Occupied		Occupied		Development		1‑4 Family		Consumer		Other		Total
With an allowance recorded:
Recorded investment	$	—	$	—	$	18	$	—	$	—	$	—	$	—	$	18
Unpaid principal balance		—		—		18		—		—		—		—		18
Related allowance		—		—		8		—		—		—		—		8

With no related allowance recorded:
Recorded investment	$	284	$	2,487	$	497	$	—	$	200	$	—	$	—	$	3,468
Unpaid principal balance		284		2,487		497		—		200		—		—		3,468
Related allowance		—		—		—		—		—		—		—		—

Total:
Recorded investment	$	284	$	2,487	$	515	$	—	$	200	$	—	$	—	$	3,486
Unpaid principal balance		284		2,487		515		—		200		—		—		3,486
Related allowance		—		—		8		—		—		—		—		8

Average recorded investment	$	361	$	3,726	$	1,017	$	—	$	237	$	—	$	—	$	5,341

The Company utilizes a numerical risk rating system for commercial relationships. All other types of relationships (ex: residential, consumer, other) are assigned a “Pass” rating, unless they have fallen 90 days past due or more, at which time they receive a rating of 7. The Company uses split ratings for government guaranties on loans. The portion of a loan that is supported by a government guaranty is included with other Pass credits.

The determination of a commercial loan risk rating begins with completion of a matrix, which assigns scores based on the strength of the borrower’s debt service coverage, collateral coverage, balance sheet leverage, industry outlook, and customer concentration. A weighted average is taken of these individual scores to arrive at the overall rating. This rating is subject to adjustment by the loan officer based on facts and circumstances pertaining to the borrower. Risk ratings are subject to independent review.

Commercial borrowers with ratings between 1 and 5 are considered Pass credits, with 1 being most acceptable and 5 being just above the minimum level of acceptance. Commercial borrowers rated 6 have potential weaknesses which may jeopardize repayment ability. Borrowers rated 7 have a well-defined weakness or weaknesses such as the inability to demonstrate significant cash flow for debt service based on analysis of the company’s financial information. These loans remain on accrual status provided full collection of principal and interest is reasonably expected. Otherwise they are deemed impaired and placed on nonaccrual status. Borrowers rated 8 are the same as 7 rated credits with one exception: collection or liquidation in full is not probable.

The following table presents total loans by risk ratings and year of origination. Loans acquired from other previously acquired institutions have been included in the table based upon the actual origination date.


	Amortized Cost Basis by Origination Year
As of September 30, 2023																Revolving
		2023		2022		2021		2020		2019		Prior		Revolving		to Term		Total
Commercial/industrial
Grades 1-4	$	61,115	$	139,591	$	67,111	$	60,218	$	11,767	$	23,074	$	101,456	$	-	$	464,332
Grade 5		5,069		4,649		13,299		4,484		2,652		3,441		21,456		-		55,050
Grade 6		-		203		725		-		-		-		921		-		1,849
Grade 7		39		163		5,887		804		51		1,133		2,598		-		10,675
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	66,223	$	144,606	$	87,022	$	65,506	$	14,470	$	27,648	$	126,431	$	-	$	531,906
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-
Commercial real estate - owner occupied
Grades 1-4	$	45,784	$	105,640	$	177,796	$	125,287	$	55,462	$	204,060	$	52,566	$	-	$	766,595
Grade 5		4,881		18,569		13,968		8,694		7,043		23,604		7,619		-		84,378
Grade 6		-		137		1,098		117		965		427		489		-		3,233
Grade 7		1,589		8,142		3,906		4,127		10,524		13,370		2,277		-		43,935
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	52,254	$	132,488	$	196,768	$	138,225	$	73,994	$	241,461	$	62,951	$	-	$	898,141
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-
Commercial real estate - non-owner occupied
Grades 1-4	$	48,018	$	102,690	$	233,310	$	127,811	$	73,184	$	153,717	$	11,382	$	-	$	750,112
Grade 5		1,042		3,878		13,610		3,720		107		6,125		-		-		28,482
Grade 6		-		-		-		-		-		-		-		-		-
Grade 7		-		-		65		369		5,818		554		-		-		6,806
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	49,060	$	106,568	$	246,985	$	131,900	$	79,109	$	160,396	$	11,382	$	-	$	785,400
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-
Construction and development
Grades 1-4	$	37,716	$	71,328	$	43,618	$	5,250	$	1,872	$	4,203	$	1,207	$	-	$	165,194
Grade 5		10,313		16,548		3,434		772		26		194		464		-		31,751
Grade 6		-		-		-		-		-		-		-		-		-
Grade 7		10		-		-		175		-		797		-		-		982
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	48,039	$	87,876	$	47,052	$	6,197	$	1,898	$	5,194	$	1,671	$	-	$	197,927
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-
Residential 1‑4 family
Grades 1-4	$	88,804	$	205,155	$	204,165	$	163,959	$	44,299	$	82,398	$	77,274	$	-	$	866,054
Grade 5		1,535		2,918		767		78		378		2,060		332		-		8,068
Grade 6		160		-		83		-		-		181		63		-		487
Grade 7		32		394		35		1,035		102		2,481		172		-		4,251
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	90,531	$	208,467	$	205,050	$	165,072	$	44,779	$	87,120	$	77,841	$	-	$	878,860
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	-
Consumer
Grades 1-4	$	20,383	$	13,897	$	7,264	$	5,157	$	1,434	$	1,360	$	1,017	$	-	$	50,512
Grade 5		-		-		-		-		-		-		-		-		-
Grade 6		-		-		-		-		-		-		-		-		-
Grade 7		-		-		-		-		-		15		-		-		15
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	20,383	$	13,897	$	7,264	$	5,157	$	1,434	$	1,375	$	1,017	$	-	$	50,527
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	1	$	-	$	1
Other
Grades 1-4	$	347	$	800	$	581	$	1,199	$	40	$	9,873	$	1,891	$	-	$	14,731
Grade 5		-		-		-		-		-		-		90		-		90
Grade 6		-		-		-		-		-		-		-		-		-
Grade 7		-		-		-		-		-		-		-		-		-
Grade 8		-		-		-		-		-		-		-		-		-
Total	$	347	$	800	$	581	$	1,199	$	40	$	9,873	$	1,981	$	-	$	14,821
Current-period gross charge-offs	$	-	$	-	$	-	$	-	$	-	$	-	$	69	$	-	$	69

Total Loans	$	326,837	$	694,702	$	790,722	$	513,256	$	215,724	$	533,067	$	283,274	$	-	$	3,357,582

The breakdown of loans by risk rating as of December 31, 2022 is as follows:


	Pass (1-5)		6		7		8		Total
Commercial/industrial	$	474,586	$	3,708	$	14,156	$	—	$	492,450
Commercial real estate - owner occupied		665,986		8,031		42,946		—		716,963
Commercial real estate - non-owner occupied		677,303		—		4,317		—		681,620
Construction and development		198,581		—		1,127		—		199,708
Residential 1‑4 family		736,146		151		3,217		—		739,514
Consumer		44,961		—		2		—		44,963
Other		18,760		—		—		—		18,760
	$	2,816,323	$	11,890	$	65,765	$	—	$	2,893,978

On January 1, 2023, the Company adopted ASU 2022-02, which eliminated the accounting guidance for TDRs by creditors and enhanced the disclosure requirements for certain loan modifications to borrowers experiencing financial difficulty. Loans that were both experiencing financial difficulty and were modified during the nine months ended September 30, 2023, were insignificant to these consolidated financial statements. The Company also had no new TDRs during the nine months ended September 30, 2022.

The following tables present loans acquired with deteriorated credit quality and the change in the accretable and non-accretable components of the related discounts prior to the adoption of ASU 2016-13.


	December 31, 2022
			Unpaid
	Recorded		Principal
	Investment		Balance
Commercial & Industrial	$	712	$	1,091
Commercial real estate - owner occupied		2,539		2,843
Commercial real estate - non-owner occupied		—		—
Construction and development		—		—
Residential 1‑4 family		824		1,045
Consumer		—		—
Other		—		—
	$	4,075	$	4,979


	September 30, 2022				December 31, 2022
	Accretable		Non-accretable		Accretable		Non-accretable
	discount		discount		discount		discount
Balance at beginning of period	$	813	$	149	$	813	$	149
Acquired balance, net		292		211		292		211
Reclassifications between accretable and non-accretable		61		(61)		135		(135)
Accretion to loan interest income		(476)		—		(561)		—
Balance at end of period	$	690	$	299	$	679	$	225