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Table of Contents
UNITED STATES
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
March 31, 2023
☐
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the transition period __________ to __________
Commission File Number:
0-26486
Auburn National Bancorporation, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
63-0885779
(I.R.S. Employer
Identification No.)
100 N. Gay Street
Auburn
,
Alabama
36830
(
334
)
821-9200
(Address and telephone number of principal executive offices)
(Former Name, Former Address and Former Fiscal
Year,
if Changed Since Last Report)
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 and
posted pursuant to Rule 405 of Regulation S-T 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
an
emerging
growth
company.
See
the
definitions
of
“large
accelerated
filer,”
“accelerated
filer,”
“smaller
reporting
company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large Accelerated filer
☐
Accelerated filer
☐
Non-accelerated filer
☒
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 13(a) of the Exchange Act.
☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes
☐
No
☒
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, par value $0.01
AUBN
NASDAQ
Global Market
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
Class
Outstanding at May 4, 2023
Common Stock, $0.01 par value per share
3,500,376
shares
Table of Contents
AUBURN NATIONAL BANCORPORATION, INC. AND
SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION
PAGE
Item 1
Financial Statement
Consolidated Balance Sheets (Unaudited) as of March 31, 2023 and December 31, 2022
3
Consolidated Statements of Earnings (Unaudited) for the quarters ended March 31, 2023 and 2022
4
Consolidated Statements of Comprehensive Income (Loss) (Unaudited) for the quarters ended March
31, 2023 and 2022
5
Consolidated Statements of Stockholders’ Equity (Unaudited) for the quarters ended March 31, 2023
and 2022
6
Consolidated Statements of Cash Flows (Unaudited) for the quarters ended March 31, 2023 and 2022
7
Notes to Consolidated Financial Statements (Unaudited
)
8
Item 2
Management’s Discussion and Analysis of Financial Condition and Results of Operations
27
Table 1 – Explanation of Non -GAAP Financial Measures
46
Table 2 – Selected Quarterly Financial Data
47
Table 3 – Average Balances and Net Interest Income Analysis for the quarters ended March 31, 2023
and 2022
48
Table 4 – Allocation of Allowance for Credit Losses
49
Table 5 – Estimated Uninsured Time Deposits by Maturity
50
Item 3
Quantitative and Qualitative Disclosures About Market Risk
51
Item 4
Controls and Procedures
51
PART II. OTHER INFORMATION
Item 1
Legal Proceedings
51
Item 1A
Risk Factors
51
Item 2
Unregistered Sales of Equity Securities and Use of Proceeds
52
Item 3
Defaults Upon Senior Securities
52
Item 4
Mine Safety Disclosures
52
Item 5
Other Information
52
Item 6
Exhibits
53
Table of Contents
3
PART
1.
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Unaudited)
March 31,
December 31,
(Dollars in thousands, except share data)
2023
2022
Assets:
Cash and due from banks
$
17,083
$
11,608
Federal funds sold
1,951
9,300
Interest-bearing bank deposits
6,822
6,346
Cash and cash equivalents
25,856
27,254
Securities available-for-sale
405,692
405,304
Loans
505,041
504,458
Allowance for credit losses
(6,821)
(5,765)
Loans, net
498,220
498,693
Premises and equipment, net
46,222
46,575
Bank-owned life insurance
19,893
19,952
Other assets
21,863
26,110
Total assets
$
1,017,746
$
1,023,888
Liabilities:
Deposits:
Noninterest-bearing
$
304,164
$
311,371
Interest-bearing
635,026
638,966
Total deposits
939,190
950,337
Federal funds purchased and securities sold under agreements to repurchase
2,457
2,551
Accrued expenses and other liabilities
2,459
2,959
Total liabilities
944,106
955,847
Stockholders' equity:
Preferred stock of $
.01
par value; authorized
200,000
shares;
no shares issued
—
—
Common stock of $
.01
par value; authorized
8,500,000
shares;
issued
3,957,135
shares
39
39
Additional paid-in capital
3,798
3,797
Retained earnings
116,798
116,600
Accumulated other comprehensive loss, net
(35,457)
(40,920)
Less treasury stock, at cost -
456,256
shares and
453,683
at March 31, 2023
and December 31, 2022, respectively
(11,538)
(11,475)
Total stockholders’ equity
73,640
68,041
Total liabilities and stockholders’
equity
$
1,017,746
$
1,023,888
See accompanying notes to consolidated financial statements
Table of Contents
4
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Earnings
(Unaudited)
Quarter ended March 31,
(Dollars in thousands, except share and per share data)
2023
2022
Interest income:
Loans, including fees
$
5,754
$
4,850
Securities
Taxable
1,865
1,336
Tax-exempt
403
419
Federal funds sold and interest bearing bank deposits
213
63
Total interest income
8,235
6,668
Interest expense:
Deposits
1,118
585
Short-term borrowings
8
5
Total interest expense
1,126
590
Net interest income
7,109
6,078
Provision for (recoveries of) credit losses
66
(250)
Net interest income after provision for credit
losses
7,043
6,328
Noninterest income:
Service charges on deposit accounts
154
142
Mortgage lending
93
253
Bank-owned life insurance
156
99
Other
389
414
Total noninterest income
792
908
Noninterest expense:
Salaries and benefits
2,927
2,950
Net occupancy and equipment
799
434
Professional fees
338
230
Other
1,540
1,287
Total noninterest expense
5,604
4,901
Earnings before income taxes
2,231
2,335
Income tax expense
267
254
Net earnings
$
1,964
$
2,081
Net earnings per share:
Basic and diluted
$
0.56
$
0.59
Weighted average shares
outstanding:
Basic and diluted
3,502,143
3,518,657
See accompanying notes to consolidated financial statements
Table of Contents
5
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(Unaudited)
Quarter ended March 31,
(Dollars in thousands)
2023
2022
Net earnings
$
1,964
$
2,081
Other comprehensive income (loss), net of tax:
Unrealized net holding gain (loss) on securities
5,463
(18,346)
Other comprehensive income (loss)
5,463
(18,346)
Comprehensive income (loss)
$
7,427
$
(16,265)
See accompanying notes to consolidated financial statements
Table of Contents
6
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(Unaudited)
Accumulated
Common
Additional
other
Shares
Common
paid-in
Retained
comprehensive
Treasury
(Dollars in thousands, except share data)
Outstanding
Stock
capital
earnings
income (loss)
stock
Total
Quarter ended March 31, 2023
Balance, December 31, 2022
3,503,452
$
39
$
3,797
$
116,600
$
(40,920)
$
(11,475)
$
68,041
Cumulative effect of change in accounting
standard
—
—
—
(821)
—
—
(821)
Net earnings
—
—
—
1,964
—
—
1,964
Other comprehensive income
—
—
—
—
5,463
—
5,463
Cash dividends paid ($
.27
per share)
—
—
—
(945)
—
—
(945)
Stock repurchases
(2,648)
—
—
—
—
(64)
(64)
Sale of treasury stock
75
—
1
—
—
1
2
Balance, March 31, 2023
3,500,879
$
39
$
3,798
$
116,798
$
(35,457)
$
(11,538)
$
73,640
Quarter ended March 31, 2022
Balance, December 31, 2021
3,520,485
$
39
$
3,794
$
109,974
$
891
$
(10,972)
$
103,726
Net earnings
—
—
—
2,081
—
—
2,081
Other comprehensive loss
—
—
—
—
(18,346)
—
(18,346)
Cash dividends paid ($
.265
per share)
—
—
—
(932)
—
—
(932)
Stock repurchases
(3,559)
—
—
—
—
(120)
(120)
Sale of treasury stock
45
—
1
—
—
1
2
Balance, March 31, 2022
3,516,971
$
39
$
3,795
$
111,123
$
(17,455)
$
(11,091)
$
86,411
See accompanying notes to consolidated financial statements
Table of Contents
7
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
Three months ended March 31,
(Dollars in thousands)
2023
2022
Cash flows from operating activities:
Net earnings
$
1,964
$
2,081
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Provision for (reversal of) credit losses
66
(250)
Depreciation and amortization
423
244
Premium amortization and discount accretion, net
612
909
Net gain on sale of loans held for sale
(4)
(229)
Loans originated for sale
—
(5,792)
Proceeds from sale of loans
—
6,366
Increase in cash surrender value of bank-owned life insurance
(104)
(99)
Income recognized from death benefit on bank-owned life insurance
(52)
—
Net decrease (increase) in other assets
4,420
(5,161)
Net (decrease) increase in accrued expenses and other liabilities
(2,434)
3,938
Net cash provided by operating activities
4,891
2,007
Cash flows from investing activities:
Proceeds from prepayments and maturities of securities available-for-sale
6,296
19,523
Purchase of securities available-for-sale
—
(40,498)
(Increase) decrease in loans, net
(586)
29,916
Net purchases of premises and equipment
(5)
(549)
Proceeds from bank-owned life insurance death benefit
215
—
Decrease (increase) in FHLB stock
41
(74)
Net cash provided by investing activities
5,961
8,318
Cash flows from financing activities:
Net decrease in noninterest-bearing deposits
(7,207)
(7,794)
Net (decrease) increase in interest-bearing deposits
(3,940)
31,293
Net (decrease) increase in federal funds purchased and securities sold
under agreements to repurchase
(94)
546
Stock repurchases
(64)
(120)
Dividends paid
(945)
(932)
Net cash (used in) provided by financing activities
(12,250)
22,993
Net change in cash and cash equivalents
(1,398)
33,318
Cash and cash equivalents at beginning of period
27,254
156,259
Cash and cash equivalents at end of period
$
25,856
$
189,577
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest
$
877
$
609
Income taxes
—
—
See accompanying notes to consolidated financial statements
Table of Contents
8
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
General
Auburn National Bancorporation, Inc. (the “Company”) provides a full range of banking services
to individuals and
commercial customers in Lee County,
Alabama and surrounding areas through its wholly owned subsidiary,
AuburnBank
(the “Bank”). The Company does not have any segments other than banking that are considered
material.
Basis of Presentation and Use of Estimates
The unaudited consolidated financial statements in this report have been prepared
in accordance with U.S. generally
accepted accounting principles (“GAAP”) for interim financial information.
Accordingly, these financial statements
do not
include all of the information and footnotes required by U.S. GAAP for complete financial
statements.
The unaudited
consolidated financial statements include, in the opinion of management, all adjustments
necessary to present a fair
statement of the financial position and the results of operations for all periods presented.
All such adjustments are of a
normal recurring nature. The results of operations in the interim statements are not
necessarily indicative of the results of
operations that the Company and its subsidiaries may achieve for future interim periods
or the entire year. For further
information, refer to the consolidated financial statements and footnotes included
in the Company's Annual Report on Form
10-K for the year ended December 31, 2022.
The unaudited consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries.
Significant intercompany transactions and accounts are eliminated in consolidation.
The preparation of financial statements in conformity with U.S. GAAP requires
management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and disclosures
of contingent assets and liabilities as of
the balance sheet date and the reported amounts of revenues and expenses during the reporting period.
Actual results could
differ from those estimates.
Material estimates that are particularly susceptible to significant change in the near term
include the determination of allowance for credit losses investment securities, the
determination of the allowance for credit
losses on loans, fair value of financial instruments, and the valuation of deferred
tax assets and other real estate owned
(“OREO”).
Revenue Recognition
On January 1, 2018, the Company implemented Accounting Standards Update
(“ASU”
or “updates”) 2014-09,
Revenue
from Contracts with Customers
, codified at
Accounting Standards Codification
(“ASC”)
606. The Company adopted ASC
606 using the modified retrospective transition method.
The majority of the Company’s revenue stream
is generated from
interest income on loans and securities which are outside the scope of ASC 606.
The Company’s sources of income that
fall within the scope of ASC 606 include service charges on deposits, interchange
fees and gains and losses on sales of other real estate, all of which are presented as components of
noninterest income. The
following is a summary of the revenue streams that fall within the scope of ASC 606:
●
Service charges on deposits, investment services, ATM
and interchange fees – Fees from these services are either
transaction-based, for which the performance obligations are satisfied
when the individual transaction is processed,
or set periodic service charges, for which the performance obligations are
satisfied over the period the service is
provided. Transaction-based fees are recognized at the time
the transaction is processed, and periodic service
charges are recognized over the service period.
●
Gains on sales of OREO
–
A gain on sale should be recognized when a contract for sale exists and control of the
asset has been transferred to the buyer.
ASC 606 lists several criteria required to conclude that a contract for sale
exists, including a determination that the institution will collect substantially all of the consideration
to which it is
entitled.
In addition to the loan-to-value ratio, the analysis is based on various other factors
,
including the credit
quality of the borrower, the structure of the loan, and any other
factors that we believe may affect collectability.
Table of Contents
9
Subsequent Events
The Company has evaluated the effects of events and transactions through
the date of this filing that have occurred
subsequent to March 31, 2023.
The Company does not believe there were any material subsequent events during this
period that would have required
further recognition or disclosure in the unaudited consolidated financial statements
included in this report except as
reported in Note 8, Subsequent Events.
Reclassifications
Certain amounts reported in prior periods have been reclassified to conform to the current
-period presentation. These
reclassifications had no material effect on the Company’s
previously reported net earnings or total stockholders’ equity.
Accounting Standards Adopted in 2023
On January 1, 2023, the Company adopted ASU 2016-13 Financial Instruments – Credit
Losses (Topic 326):
Measurement
of Credit Losses on Financial Instruments (ASC 326). This standard replaced
the incurred loss methodology with an
expected loss methodology that is referred to as the current expected credit loss (“CECL”)
methodology. CECL requires
an
estimate of credit losses for the remaining estimated life of the financial asset using historical
experience, current
conditions, and reasonable and supportable forecasts and generally applies to
financial assets measured at amortized cost,
including loan receivables and held-to-maturity debt securities, and some off
-balance sheet credit exposures such as
unfunded commitments to extend credit. Financial assets measured at amortized
cost will be presented at the net amount
expected to be collected by using an allowance for credit losses.
In addition, CECL made changes to the accounting for available for sale debt
securities. One such change is to require
credit losses to be presented as an allowance rather than as a write-down on available for sale debt
securities if management
does not intend to sell and does not believe that it is more likely than not, they will be required
to sell.
The Company adopted ASC 326 and all related subsequent amendments thereto
effective January 1, 2023 using the
modified retrospective approach for all financial assets measured at amortized
cost and off-balance sheet credit exposures.
The transition adjustment upon the adoption of CECL on January 1, 2023 included
an increase in the allowance for credit
losses on loans of $
1.0
million, which is presented as a reduction to net loans outstanding, and an increase in the allowance
for credit losses on unfunded loan commitments of $
0.1
million, which is recorded within other liabilities. The Company
recorded a net decrease to retained earnings of $0.8 million as of January 1, 2023
for the cumulative effect of adopting
CECL, which reflects the transition adjustments noted above, net of the applicable deferred
tax assets recorded. Results for
reporting periods beginning after January 1, 2023 are presented under CECL while prior
period amounts continue to be
reported in accordance with previously applicable accounting standards.
The Company adopted ASC 326 using the prospective transition approach for debt
securities for which other-than-
temporary impairment had been recognized prior to January 1, 2023.
As of December 31, 2022, the Company did not have
any other-than-temporarily impaired investment securities. Therefore,
upon adoption of ASC 326, the Company determined
that an allowance for credit losses on available for sale securities was not deemed
material.
The Company elected not to measure an allowance for credit losses for accrued interest receivable
and instead elected to
reverse interest income on loans or securities that are placed on nonaccrual status,
which is generally when the instrument is
90 days past due, or earlier if the Company believes the collection of interest is doubtful. The Company
has concluded that
this policy results in the timely reversal of uncollectible interest.
The Company also adopted ASU 2022-02, “Financial Instruments - Credit Losses (Topic
326): Troubled Debt
Restructurings and Vintage Disclosures”
on January 1, 2023, the effective date of the guidance, on a prospective basis.
ASU 2022-02 eliminated the accounting guidance for TDRs, while enhancing disclosure requirements
for certain loan
refinancings and restructurings by creditors when a borrower is experiencing
financial difficulty.
Specifically, rather than
applying the recognition and measurement guidance for TDRs, an entity
must apply the loan refinancing and restructuring
guidance to determine whether a modification results in a new loan or a continuation of an
existing loan. Additionally,
ASU
2022-02 requires an entity to disclose current-period gross write-offs
by year of origination for financing receivables within
the scope of Subtopic 326-20, Financial Instruments—Credit Losses—Measured at
Amortized Cost. ASU 2022-02 did not
have a material impact on the Company’s consolidated
financial statements.
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10
Loans
Loans that management has the intent and ability to hold for the foreseeable
future or until maturity or payoff are reported
at amortized cost. Amortized cost is the principal balance outstanding, net of purchase premiums
and discounts and
deferred fees and costs. Accrued interest receivable related to loans is recorded
in other assets on the consolidated balance
sheets. Interest income is accrued on the unpaid principal balance. Loan origination fees,
net of certain direct origination
costs, are deferred and recognized in interest income using methods that approximate a
level yield without anticipating
prepayments.
The accrual of interest is generally discontinued when a loan becomes 90 days past due and
is not well collateralized and in
the process of collection, or when management believes, after considering economic and
business conditions and collection
efforts, that the principal or interest will not be collectible in the normal course
of business. Past due status is based on
contractual terms of the loan. A loan is considered to be past due when a scheduled payment has
not been received 30 days
after the contractual due date.
All accrued interest is reversed against interest income when a loan is placed on nonaccrual
status. Interest received on such
loans is accounted for using the cost-recovery method, until qualifying for return to accrual.
Under the cost-recovery
method, interest income is not recognized until the loan balance is reduced to
zero. Loans are returned to accrual status
when all the principal and interest amounts contractually due are brought current, there is a
sustained period of repayment
performance, and future payments are reasonably assured.
Allowance for Credit Losses – Loans
The allowance for credit losses is a valuation account that is deducted from the loans' amortized
cost basis to present the net
amount expected to be collected on the loans. Loans are charged
off against the allowance when management believes the
uncollectibility of a loan balance is confirmed. Expected recoveries do not exceed the aggregate
of amounts previously
charged-off and expected to be charged-off.
Accrued interest receivable is excluded from the estimate of credit losses.
The allowance for credit losses represents management’s
estimate of lifetime credit losses inherent in loans as of the
balance sheet date. The allowance for credit losses is estimated by management using relevant
available information, from
both internal and external sources, relating to past events, current conditions, and reasonable and
supportable forecasts.
The Company’s loan loss estimation process includes
procedures to appropriately consider the unique characteristics of
its
loan segments (commercial and industrial, construction and land development,
commercial real estate, multifamily,
residential real estate, and consumer loans).
These segments are further disaggregated into loan classes, the level at which
credit quality is monitored.
See Note 5, Loans and Allowance for Credit Losses for additional information about our loan
portfolio.
Credit loss assumptions are estimated using a discounted cash flow ("DCF") model
for each loan segment,
except consumer
loans.
The weighted average remaining life method is used to estimate credit loss assumptions
for consumer loans.
The DCF model calculates an expected life-of-loan loss percentage by considering the
forecasted probability that a
borrower will default (the “PD”), adjusted for relevant forecasted macroeconomic
factors, and LGD, which is the estimate
of the amount of net loss in the event of default.
This model utilizes historical correlations between default experience and
certain macroeconomic factors as determined through a statistical regression analysis.
The forecasted Alabama
unemployment rate is considered in the model for commercial and industrial,
construction and land development,
commercial real estate,
multifamily, and residential real estate
loans.
In addition, forecasted changes in the Alabama home
price index is considered in the model for construction and land development and residential
real estate loans; forecasted
changes in the national commercial real estate (“CRE”) price index is considered in the
model for commercial real estate
and multifamily loans; and forecasted changes in the Alabama gross state product
is considered in the model for
multifamily loans.
Projections of these macroeconomic factors, obtained from an independent
third party, are utilized to
predict quarterly rates of default based on the statistical PD models.
Expected credit losses are estimated over the contractual term of the loan, adjusted for
expected prepayments and principal
payments (“curtailments”) when appropriate. Management's determination
of the contract term excludes expected
extensions, renewals, and modifications unless the extension or
renewal option is included in the contract at the reporting
date and is not unconditionally cancellable by the Company.
To the extent the lives of the
loans in the portfolio extend
beyond the period for which a reasonable and supportable forecast can be
made (which is 4 quarters for the Company), the
Company reverts, on a straight-line basis back to the historical rates over an 8 quarter
reversion period.
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11
The weighted average remaining life method was deemed most appropriate
for the consumer loan segment because
consumer loans contain many different payment structures,
payment streams and collateral.
The weighted average
remaining life method uses an annual charge-off rate over several vintages
to estimate credit losses.
The average annual
charge-off rate is applied to the contractual term adjusted for prepayments.
Additionally, the allowance
for credit losses calculation includes subjective adjustments for qualitative risk
factors that are
believed likely to cause estimated credit losses to differ from
historical experience. These qualitative adjustments may
increase or reduce reserve levels and include adjustments for lending management experience
and risk tolerance, loan
review and audit results, asset quality and portfolio trends, loan portfolio growth, industry concentrations,
trends in
underlying collateral, external factors and economic conditions not already captured.
Loans that do not share risk characteristics are evaluated on an individual basis. When
management determines that
foreclosure is probable and the borrower is experiencing financial difficulty,
the expected credit losses are based on the
estimated fair value of collateral held at the reporting date, adjusted for selling costs as
appropriate.
Allowance for Credit Losses – Unfunded Commitments
Financial instruments include off-balance sheet credit instruments,
such as commitments to make loans and commercial
letters of credit issued to meet customer financing needs. The Company’s
exposure to credit loss in the event of
nonperformance by the other party to the financial instrument for off-balance sheet
loan commitments is represented by the
contractual amount of those instruments. Such financial instruments are recorded
when they are funded.
The Company records an allowance for credit losses on off-balance
sheet credit exposures, unless the commitments to
extend credit are unconditionally cancelable, through a charge to provision
for credit losses in the Company’s consolidated
statements of earnings.
The allowance for credit losses on off-balance sheet credit exposures
is estimated by loan segment
at each balance sheet date under the current expected credit loss model using the same
methodologies as portfolio loans,
taking into consideration the likelihood that funding will occur as well as any third-party
guarantees. The allowance for
unfunded commitments is included in other liabilities on the Company’s
consolidated balance sheets.
On January 1, 2023, the Company recorded an adjustment for unfunded commitments of $77
thousand for the adoption of
ASC 326. For the quarter ended March 31, 2023, the Company recorded a provision
for credit losses for unfunded
commitments of $
26
thousand. At March 31, 2023, the liability for credit losses on off-balance-sheet
credit exposures
included in other liabilities was $
0.3
million.
NOTE 2: BASIC AND DILUTED NET EARNINGS PER SHARE
Basic net earnings per share is computed by dividing net earnings by the weighted average
common shares outstanding for
the quarters ended March 31, 2023 and 2022, respectively.
Diluted net earnings per share reflect the potential dilution that
could occur upon exercise of securities or other rights for,
or convertible into, shares of the Company’s common
stock.
At
March 31, 2023 and 2022, respectively,
the Company had no such securities or rights issued or outstanding, and
therefore,
no dilutive effect to consider for the diluted net earnings per share calculation.
The basic and diluted net earnings per share computations for the respective periods
are presented below
Quarter ended March 31,
(Dollars in thousands, except share and per share data)
2023
2022
Basic and diluted:
Net earnings
$
1,964
$
2,081
Weighted average common
shares outstanding
3,502,143
3,518,657
Net earnings per share
$
0.56
$
0.59
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12
NOTE 3: VARIABLE
INTEREST ENTITIES
Generally, a variable interest entity (“VIE”)
is a corporation, partnership, trust or other legal structure that does not have
equity investors with substantive or proportional voting rights or has equity investors
that do not provide sufficient financial
resources for the entity to support its activities.
At March 31, 2023, the Company did not have any consolidated VIEs to disclose but did
have one nonconsolidated VIE,
discussed below.
New Markets Tax
Credit Investment
The New Markets Tax Credit
(“NMTC”) program provides federal tax incentives to investors to make investments in
distressed communities and promotes economic improvement through the development
of successful businesses in these
communities.
The NMTC is available to investors over seven years and is subject to recapture if certain events occur
during such period.
At March 31, 2023 and December 31, 2022, respectively,
the Company had one such investment in the
amounts of $2.0 million and $2.1 million, respectively,
which was included in other assets in the consolidated balance
sheets.
The Company’s equity investment in the
NMTC entity meets the definition of a VIE. While the Company’s
investment exceeds 50% of the outstanding equity interests, the Company does not consolidate
the VIE because it does not
meet the characteristics of a primary beneficiary since the Company lacks the power to direct
the activities of the VIE.
(Dollars in thousands)
Maximum
Loss Exposure
Asset Recognized
Classification
Type:
New Markets Tax Credit investment
$
2,006
$
2,006
Other assets
NOTE 4: SECURITIES
At March 31, 2023 and December 31, 2022, respectively,
all securities within the scope of ASC 320,
Investments – Debt
and Equity Securities,
were classified as available-for-sale.
The fair value and amortized cost for securities available-for-
sale by contractual maturity at March 31, 2023 and December 31, 2022,
respectively, are presented below.
1 year
1 to 5
5 to 10
After 10
Fair
Gross Unrealized
Amortized
(Dollars in thousands)
or less
years
years
years
Value
Gains
Losses
Cost
March 31, 2023
Agency obligations (a)
$
5,300
59,997
61,883
—
127,180
—
13,574
$
140,754
Agency MBS (a)
—
6,984
27,601
181,114
215,699
—
29,522
245,221
State and political subdivisions
300
1,032
15,581
45,900
62,813
49
4,300
67,064
Total available-for-sale
$
5,600
68,013
105,065
227,014
405,692
49
47,396
$
453,039
December 31, 2022
Agency obligations (a)
$
4,935
50,746
69,936
—
125,617
—
15,826
$
141,443
Agency MBS (a)
—
7,130
27,153
183,877
218,160
—
33,146
251,306
State and political subdivisions
300
642
15,130
45,455
61,527
11
5,681
67,197
Total available-for-sale
$
5,235
58,518
112,219
229,332
405,304
11
54,653
$
459,946
(a) Includes securities issued by U.S. government agencies or government-sponsored
entities.
Securities with aggregate fair values of $
207.6
million and $
208.3
million at March 31, 2023 and December 31, 2022,
respectively, were pledged to
secure public deposits, securities sold under agreements to repurchase, Federal Home
Loan
Bank of Atlanta (“FHLB of Atlanta”) advances, and for other purposes required
or permitted by law.
Included in other assets on the accompanying consolidated balance sheets are non-marketable
equity investments.
The
carrying amounts of non-marketable equity investments were $
1.2
million at March 31, 2023 and December 31, 2022,
respectively.
Non-marketable equity investments include FHLB of Atlanta Stock, Federal
Reserve Bank of Atlanta
(“FRB”) stock, and stock in a privately held financial institution.
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13
Gross Unrealized Losses and Fair Value
The fair values and gross unrealized losses on securities at March 31, 2023
and December 31, 2022, respectively,
segregated by those securities that have been in an unrealized loss position for
less than 12 months and 12 months or
longer, are presented below.
Less than 12 Months
12 Months or Longer
Total
Fair
Unrealized
Fair
Unrealized
Fair
Unrealized
(Dollars in thousands)
Value
Losses
Value
Losses
Value
Losses
March 31, 2023:
Agency obligations
$
18,263
950
108,917
12,624
$
127,180
13,574
Agency MBS
23,127
1,047
192,572
28,475
215,699
29,522
State and political subdivisions
19,186
278
35,741
4,022
54,927
4,300
Total
$
60,576
2,275
337,230
45,121
$
397,806
47,396
December 31, 2022:
Agency obligations
$
55,931
4,161
69,686
11,665
$
125,617
15,826
Agency MBS
70,293
5,842
147,867
27,304
218,160
33,146
State and political subdivisions
44,777
2,176
13,043
3,505
57,820
5,681
Total
$
171,001
12,179
230,596
42,474
$
401,597
54,653
For the securities in the previous table, the Company assesses whether or not it intends to
sell or is more likely than not that
the Company will be required to sell the securities before recovery of the amortized
cost basis, which may be maturity.
Because the Company currently does not intend to sell those securities that have an
unrealized loss at March 31, 2023 and it
is not more-likely-than-not that the Company will be required
to sell the security before recovery of their amortized cost
bases, which may be maturity,
the Company has determined that no credit loss is necessary.
In addition, the Company
evaluates whether any portion of the decline in fair value of available-for-sale
securities is the result of credit deterioration,
which would require the recognition of a provision to increase the allowance
for credit losses. Such evaluations consider the
extent to which the amortized cost of the security exceeds its fair value, changes in credit ratings
and any other known
adverse conditions related to the specific security.
The unrealized losses associated with available-for-sale
securities at
March 31, 2023 are driven by changes in market interest rates and are not due to the credit quality of the
securities, and
accordingly, no allowance
for credit losses is considered necessary related to available-for-sale
securities at March 31,
2023. These securities will continue to be monitored as a part of the Company's ongoing
evaluation of credit quality.
Management evaluates the financial performance of the issuers on a quarterly basis to determine
if it is probable that the
issuers can make all contractual principal and interest payments.
Realized Gains and Losses
The Company had no realized gains and losses on sale of securities during the quarters ended
March 31, 2023 and 2022,
respectively.
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14
NOTE 5: LOANS AND ALLOWANCE
FOR CREDIT LOSSES
March 31,
December 31,
(Dollars in thousands)
2023
2022
Commercial and industrial
$
59,602
$
66,212
Construction and land development
66,500
66,479
Commercial real estate:
Owner occupied
67,280
61,125
Hotel/motel
32,959
33,378
Multi-family
40,974
41,084
Other
126,749
128,986
Total commercial real estate
267,962
264,573
Residential real estate:
Consumer mortgage
48,513
45,370
Investment property
53,462
52,278
Total residential real estate
101,975
97,648
Consumer installment
9,002
9,546
Total Loans
$
505,041
$
504,458
Loans secured by real estate were approximately
86.4%
of the Company’s total loan portfolio
at March 31, 2023.
At March
31, 2023, the Company’s geographic
loan distribution was concentrated primarily in Lee County,
Alabama, and
surrounding areas.
The loan portfolio segment is defined as the level at which an entity develops and documents a systematic
method for
determining its allowance for credit losses. As part of the Company’s
quarterly assessment of the allowance, the loan
portfolio included the following portfolio segments: commercial and industrial,
construction and land development,
commercial real estate, residential real estate, and consumer installment. Where appropriate,
the Company’s loan portfolio
segments are further disaggregated into classes. A class is generally determined based
on the initial measurement attribute,
risk characteristics of the loan, and an entity’s
method for monitoring and determining credit risk.
The following describes
the risk characteristics relevant to each of the portfolio segments
and classes.
Commercial and industrial (“C&I”) —
includes loans to finance business operations, equipment purchases, or
other needs
for small and medium-sized commercial customers. Also included
in this category are loans to finance agricultural
production.
Generally,
the primary source of repayment is the cash flow from business operations and activities
of the
borrower.
Construction and land development (“C&D”) —
includes both loans and credit lines for the purpose of purchasing,
carrying,
and developing land into commercial developments or residential subdivisions.
Also included are loans and credit
lines for construction of residential, multi-family,
and commercial buildings. Generally,
the primary source of repayment is
dependent upon the sale or refinance of the real estate collateral.
Commercial real estate
(“CRE”) —
includes loans in these classes:
●
Owner occupied
– includes loans secured by business facilities to finance business operations, equipment and
owner-occupied facilities primarily for small and medium-sized
commercial customers.
Generally,
the primary
source of repayment is the cash flow from business operations and activities of the borrower,
who owns the
property.
●
Hotel/motel
– includes loans for hotels and motels.
Generally, the primary source of repayment
is dependent upon
income generated from the hotel/motel securing the loan.
The underwriting of these loans takes into consideration
the occupancy and rental rates, as well as the financial health of the borrower.
●
Multi-family
– primarily includes loans to finance income-producing multi-family properties
.
These include loans
for 5 or more unit residential properties and apartments leased to residents. Generally
,
the primary source of
repayment is dependent upon income generated from the real estate collateral.
The underwriting of these loans
takes into consideration the occupancy and rental rates,
as well as the financial health of the respective borrowers.
Table of Contents
15
●
Other
– primarily includes loans to finance income-producing commercial properties
other than hotels/motels and
multi-family properties, and which
are not owner occupied.
Loans in this class include loans for neighborhood
retail centers, medical and professional offices, single retail stores,
industrial buildings, and warehouses leased to
local and other businesses.
Generally,
the primary source of repayment is dependent upon income generated
from
the real estate collateral. The underwriting of these loans takes into consideration
the occupancy and rental rates,
as well as the financial health of the borrower.
Residential real estate (“RRE”) —
includes loans in these two classes:
●
Consumer mortgage
– primarily includes first or second lien mortgages and home equity lines of credit
to
consumers that are secured by a primary residence or second home. These loans are underwritten
in accordance
with the Bank’s general loan policies and
procedures which require, among other things, proper documentation of
each borrower’s financial condition, satisfactory credit history
,
and property value.
●
Investment property
– primarily includes loans
to finance income-producing 1-4 family residential properties.
Generally,
the primary source of repayment is dependent upon income generated
from leasing the property
securing the loan. The underwriting of these loans takes into consideration the rental rates and
property values, as
well as the financial health of the borrowers.
Consumer installment —
includes loans to individuals,
which may be secured by personal property or are unsecured.
Loans
include personal lines of credit, automobile loans, and other retail loans.
These loans are underwritten in accordance with
the Bank’s general loan policies and procedures
which require, among other things, proper documentation of each
borrower’s financial condition, satisfactory credit history,
and, if applicable, property values.
Table of Contents
16
The following is a summary of current, accruing past due, and nonaccrual loans by portfolio
segment and class as of March
31, 2023 and December 31, 2022.
Accruing
Accruing
Total
30-89 Days
Greater than
Accruing
Non-
Total
(Dollars in thousands)
Current
Past Due
90 days
Loans
Accrual
Loans
March 31, 2023:
Commercial and industrial
$
59,141
29
—
59,170
432
$
59,602
Construction and land development
66,500
—
—
66,500
—
66,500
Commercial real estate:
Owner occupied
65,177
—
—
65,177
2,103
67,280
Hotel/motel
32,959
—
—
32,959
—
32,959
Multi-family
40,974
—
—
40,974
—
40,974
Other
126,749
—
—
126,749
—
126,749
Total commercial real estate
265,859
—
—
265,859
2,103
267,962
Residential real estate:
Consumer mortgage
48,162
216
—
48,378
135
48,513
Investment property
53,184
278
—
53,462
—
53,462
Total residential real estate
101,346
494
—
101,840
135
101,975
Consumer installment
8,922
70
—
8,992
10
9,002
Total
$
501,768
593
—
502,361
2,680
$
505,041
December 31, 2022:
Commercial and industrial
$
65,764
5
—
65,769
443
$
66,212
Construction and land development
66,479
—
—
66,479
—
66,479
Commercial real estate:
Owner occupied
61,125
—
—
61,125
—
61,125
Hotel/motel
33,378
—
—
33,378
—
33,378
Multi-family
41,084
—
—
41,084
—
41,084
Other
126,870
—
—
126,870
2,116
128,986
Total commercial real estate
262,457
—
—
262,457
2,116
264,573
Residential real estate:
Consumer mortgage
45,160
38
—
45,198
172
45,370
Investment property
52,278
—
—
52,278
—
52,278
Total residential real estate
97,438
38
—
97,476
172
97,648
Consumer installment
9,506
40
—
9,546
—
9,546
Total
$
501,644
83
—
501,727
2,731
$
504,458
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17
Credit Quality Indicators
The credit quality of the loan portfolio is summarized no less frequently than quarterly using categories
similar to the
standard asset classification system used by the federal banking agencies.
The following table presents credit quality
indicators for the loan portfolio segments and classes by year of origination as of March 31,
2023. These categories are
utilized to develop the associated allowance for credit losses using historical losses adjusted
for qualitative and
environmental factors and are defined as follows:
●
Pass – loans which are well protected by the current net worth and paying capacity
of the obligor (or guarantors, if
any) or by the fair value, less cost to acquire and sell, of any underlying collateral.
●
Special Mention – loans with potential weakness that may,
if not reversed or corrected, weaken the credit or
inadequately protect the Company’s position
at some future date. These loans are not adversely classified and do
not expose an institution to sufficient risk to warrant an adverse classification.
●
Substandard Accruing – loans that exhibit a well-defined weakness which presently jeopardizes
debt repayment,
even though they are currently performing. These loans are characterized by the distinct possibility
that the
Company may incur a loss in the future if these weaknesses are not corrected
.
●
Nonaccrual – includes loans where management has determined that full
payment of principal and interest is not
expected.
(Dollars in thousands)
2023
2022
2021
2020
2019
Prior to
2019
Revolving
Loans
Total loans
March 31, 2023:
Commercial and industrial
Pass
$
4,106
10,873
14,985
6,152
7,787
8,630
6,536
$
59,069
Special mention
—
—
—
—
—
—
—
—
Substandard
59
—
28
3
11
—
—
101
Nonaccrual
—
—
—
—
432
—
—
432
Total commercial and industrial
4,165
10,873
15,013
6,155
8,230
8,630
6,536
59,602
Current period gross charge-offs
—
—
—
—
—
—
—
—
Construction and land development
Pass
9,319
51,422
3,226
1,670
151
234
478
66,500
Special mention
—
—
—
—
—
—
—
—
Substandard
—
—
—
—
—
—
—
—
Nonaccrual
—
—
—
—
—
—
—
—
Total construction and land development
9,319
51,422
3,226
1,670
151
234
478
66,500
Current period gross charge-offs
—
—
—
—
—
—
—
—
Commercial real estate:
Owner occupied
Pass
4,294
10,250
19,309
11,652
5,194
11,372
2,711
64,782
Special mention
—
—
235
—
—
—
—
235
Substandard
—
105
—
—
55
—
—
160
Nonaccrual
—
—
—
—
2,103
—
—
2,103
Total owner occupied
4,294
10,355
19,544
11,652
7,352
11,372
2,711
67,280
Current period gross charge-offs
—
—
—
—
—
—
—
—
Hotel/motel
Pass
—
10,191
3,294
1,633
4,090
13,751
—
32,959
Special mention
—
—
—
—
—
—
—
—
Substandard
—
—
—
—
—
—
—
—
Nonaccrual
—
—
—
—
—
—
—
—
Total hotel/motel
—
10,191
3,294
1,633
4,090
13,751
—
32,959
Current period gross charge-offs
—
—
—
—
—
—
—
—
Table of Contents
18
(Dollars in thousands)
2023
2022
2021
2020
2019
Prior to
2019
Revolving
Loans
Total loans
March 31, 2023:
Multifamily
Pass
3,666
19,375
2,009
7,158
3,889
3,299
1,578
40,974
Special mention
—
—
—
—
—
—
—
—
Substandard
—
—
—
—
—
—
—
—
Nonaccrual
—
—
—
—
—
—
—
—
Total multifamily
3,666
19,375
2,009
7,158
3,889
3,299
1,578
40,974
Current period gross charge-offs
—
—
—
—
—
—
—
—
Other
Pass
5,546
38,002
33,006
15,834
11,241
21,706
1,253
126,588
Special mention
—
—
—
—
—
—
—
—
Substandard
—
—
—
161
—
—
—
161
Nonaccrual
—
—
—
—
—
—
—
—
Total other
5,546
38,002
33,006
15,995
11,241
21,706
1,253
126,749
Current period gross charge-offs
—
—
—
—
—
—
—
—
Residential real estate:
Consumer mortgage
Pass
4,375
22,234
2,783
2,874
1,531
13,584
94
47,475
Special mention
—
—
—
—
—
381
—
381
Substandard
—
—
—
—
—
522
—
522
Nonaccrual
—
—
—
—
—
135
—
135
Total consumer mortgage
4,375
22,234
2,783
2,874
1,531
14,622
94
48,513
Current period gross charge-offs
—
—
—
—
—
—
—
—
Investment property
Pass
2,400
15,316
10,569
14,231
6,221
3,561
877
53,175
Special mention
—
—
—
—
—
43
—
43
Substandard
—
—
—
244
—
—
—
244
Nonaccrual
—
—
—
—
—
—
—
—
Total investment property
2,400
15,316
10,569
14,475
6,221
3,604
877
53,462
Current period gross charge-offs
—
—
—
—
—
—
—
—
Consumer installment
Pass
1,216
5,565
1,285
440
196
234
—
8,936
Special mention
—
—
—
5
—
—
—
5
Substandard
15
20
12
—
4
—
—
51
Nonaccrual
—
—
10
—
—
—
—
10
Total consumer installment
1,231
5,585
1,307
445
200
234
—
9,002
Current period gross charge-offs
—
6
5
—
—
—
—
11
Total loans
Pass
34,922
183,228
90,466
61,644
40,300
76,371
13,527
500,458
Special mention
—
—
235
5
—
424
—
664
Substandard
74
125
40
408
70
522
—
1,239
Nonaccrual
—
—
10
—
2,535
135
—
2,680
Total loans
$
34,996
183,353
90,751
62,057
42,905
77,452
13,527
$
505,041
Total current period gross charge-offs
$
—
6
5
—
—
—
—
$
11
Table of Contents
19
(Dollars in thousands)
Pass
Special
Mention
Substandard
Accruing
Nonaccrual
Total loans
December 31, 2022:
Commercial and industrial
$
65,550
7
212
443
$
66,212
Construction and land development
66,479
—
—
—
66,479
Commercial real estate:
Owner occupied
60,726
238
161
—
61,125
Hotel/motel
33,378
—
—
—
33,378
Multi-family
41,084
—
—
—
41,084
Other
126,700
170
—
2,116
128,986
Total commercial real estate
261,888
408
161
2,116
264,573
Residential real estate:
Consumer mortgage
44,172
439
587
172
45,370
Investment property
51,987
43
248
—
52,278
Total residential real estate
96,159
482
835
172
97,648
Consumer installment
9,498
1
47
—
9,546
Total
$
499,574
898
1,255
2,731
$
504,458
The following table is a summary of the Company’s
nonaccrual loans by major categories for the periods indicated.
CECL
Incurred Loss
March 31, 2023
December 31, 2022
Nonaccrual
Nonaccrual
Total
Loans with
Loans with an
Nonaccrual
Nonaccrual
(Dollars in thousands)
No Allowance
Allowance
Loans
Loans
Commercial and industrial
$
194
238
432
$
443
Commercial real estate
837
1,266
2,103
2,116
Residential real estate
135
—
135
172
Consumer
10
—
10
—
Total
$
1,176
1,504
2,680
$
2,731
The following table presents the amortized cost basis of collateral dependent loans,
which are individually evaluated to
determine expected credit losses:
(Dollars in thousands)
Real Estate
Business Assets
Total Loans
March 31, 2023:
Commercial and industrial
$
—
432
$
432
Commercial real estate
2,103
—
2,103
Total
$
2,103
432
$
2,535
Allowance for Credit Losses
The Company adopted ASC 326 on January 1, 2023, which introduced
the CECL methodology for estimating all expected
losses over the life of a financial asset. Under the CECL methodology,
the allowance for credit losses is measured on a
collective basis for pools of loans with similar risk characteristics, and for loans that do
not share similar risk characteristics
with the collectively evaluated pools, evaluations are performed on an individual
basis.
Table of Contents
20
The following table details the changes in the allowance for credit losses by portfolio
segment for the respective periods.
March 31, 2023
(Dollars in thousands)
Commercial and
industrial
Construction
and land
development
Commercial
real estate
Residential
real estate
Consumer
installment
Total
Quarter ended:
Beginning balance, prior to the
adoption of ASC 326
$
747
949
3,109
828
132
$
5,765
Impact from the adoption
of ASC 326
532
(17)
873
(347)
(22)
1,019
Charge-offs
—
—
—
—
(11)
(11)
Recoveries
2
—
—
5
1
8
Net recoveries (charge-offs)
2
—
—
5
(10)
(3)
Provision for credit losses
(49)
89
(16)
11
5
40
Ending balance
$
1,232
1,021
3,966
497
105
$
6,821
March 31, 2022
(Dollars in thousands)
Commercial and
industrial
Construction
and land
development
Commercial
real estate
Residential
real estate
Consumer
installment
Total
Quarter ended:
Beginning balance
$
857
518
2,739
739
86
$
4,939
Charge-offs
—
—
—
—
(48)
(48)
Recoveries
2
—
—
7
8
$
17
Net (charge-offs) recoveries
2
—
—
7
(40)
(31)
Provision for loan losses
(85)
(10)
(203)
(9)
57
(250)
Ending balance
$
774
508
2,536
737
103
$
4,658
The following table presents an analysis of the allowance for loan losses and recorded
investment in loans by portfolio
segment and impairment methodology as of March 31, 2022 as determined, prior
to the adoption of ASC 326.
Collectively evaluated (1)
Individually evaluated (2)
Total
Allowance
Recorded
Allowance
Recorded
Allowance
Recorded
for loan
investment
for loan
investment
for loan
investment
(In thousands)
losses
in loans
losses
in loans
losses
in loans
March 31, 2022:
Commercial and industrial (3)
$
774
73,297
—
—
774
73,297
Construction and land development
508
33,058
—
—
508
33,058
Commercial real estate
2,536
234,880
—
182
2,536
235,062
Residential real estate
737
79,102
—
—
737
79,102
Consumer installment
103
8,412
—
—
103
8,412
Total
$
4,658
428,749
—
182
4,658
428,931
(1)
Represents loans collectively evaluated for impairment,
prior to the adopton of ASC 326, in accordance with ASC
450-20,
Loss
Contingencies, and pursuant to amendments by ASU 2010-20
regarding allowance for non-impaired loans.
(2)
Represents loans individually evaluated for impairment, prior
to the adoption of ASC 326, in accordance with ASC
310-30,
Receivables, and pursuant to amendments by ASU 2010-20 regarding
allowance for impaired loans.
Impaired loans
The following tables present impaired loans at December 31, 2022 as determined under
ASC 310 prior to the adoption of
ASC 326.
Loans that have been fully charged-off are not included in the following
tables. The related allowance generally
represents the following components that correspond to impaired loans:
Table of Contents
21
●
Individually evaluated impaired loans equal to or greater than $500 thousand secured
by real estate (nonaccrual
construction and land development, commercial real estate, and residential real estate
loans).
●
Individually evaluated impaired loans equal to or greater than $250 thousand not secured
by real estate
(nonaccrual commercial and industrial and consumer installment loans).
The following tables set forth certain information regarding the Company’s
impaired loans that were individually evaluated
for impairment at December 31, 2022.
December 31, 2022
(Dollars in thousands)
Unpaid principal
balance (1)
Charge-offs and
payments applied
(2)
Recorded
investment (3)
Related allowance
With no allowance recorded:
Commercial and industrial
$
210
(1)
209
$
—
Commercial real estate:
Owner occupied
858
(3)
855
Total commercial real estate
858
(3)
855
—
Total
1,068
(4)
1,064
—
With allowance recorded:
Commercial and industrial
234
—
234
$
59
Owner occupied
1,261
—
1,261
446
Total commercial real estate
1,261
—
1,261
446
Total
1,495
—
1,495
505
Total
impaired loans
$
2,563
(4)
2,559
$
505
(1) Unpaid principal balance represents the contractual obligation
due from the customer.
(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well
as interest payments that have been
applied against the outstanding principal balance subsequent
to the loans being placed on nonaccrual status.
(3) Recorded investment represents the unpaid principal balance
less charge-offs and payments applied; it is shown before
any related allowance for loan losses.
Table of Contents
22
Pursuant to the adoption of ASU 2022-02, effective January 1, 2023,
the Company prospectively discontinued the
recognition and measurement guidance previously required for
troubled debt restructures.
As of March 31, 2023, the
Company had no loans that would have previously required disclosure as troubled debt
restructures.
The following table provides the average recorded investment in impaired loans, if
any, by portfolio
segment, and the
amount of interest income recognized on impaired loans after impairment by portfolio
segment and class during the quarter
ended March 31, 2022 as determined under ASC 310 prior to the adoption of ASC 326.
Quarter ended March 31, 2022
Average
Total interest
recorded
income
(Dollars in thousands)
investment
recognized
Impaired loans:
Commercial real estate:
Other
236
$
—
Total commercial real estate
236
—
Residential real estate:
Investment property
15
—
Total residential real estate
15
—
Total
251
$
—
NOTE 6: MORTGAGE SERVICING
RIGHTS, NET
Mortgage servicing rights (“MSRs”) are recognized based on the fair value of the
servicing rights on the date the
corresponding mortgage loans are sold.
An estimate of the Company’s MSRs is determined
using assumptions that market
participants would use in estimating future net servicing income, including estimates
of prepayment speeds, discount rate,
default rates, cost to service, escrow account earnings, contractual servicing
fee income, ancillary income, and late fees.
Subsequent to the date of transfer, the Company
has elected to measure its MSRs under the amortization method.
Under
the amortization method, MSRs are amortized in proportion to, and over the period
of, estimated net servicing income.
Increases in market interest rates generally increase the fair value of MSRs by reducing
prepayments and refinancings and
therefore reducing the prepayment speed.
The Company has recorded MSRs related to loans sold to Fannie Mae.
The Company generally sells conforming, fixed-
rate, closed-end, residential mortgages to Fannie Mae.
MSRs are included in other assets on the accompanying
consolidated balance sheets.
The Company evaluates MSRs for impairment on a quarterly basis.
Impairment is determined by stratifying MSRs into
groupings based on predominant risk characteristics, such as interest rate and loan type.
If, by individual stratum, the
carrying amount of the MSRs exceeds fair value, a valuation allowance is established.
The valuation allowance is adjusted
as the fair value changes.
Changes in the valuation allowance are recognized in earnings
as a component of mortgage
lending income.
Table of Contents
23
The change in amortized MSRs and the related valuation allowance for the quarters
ended March 31, 2023 and 2022 are
presented below.
Quarter ended March 31,
(Dollars in thousands)
2023
2022
MSRs, net:
Beginning balance
$
1,151
$
1,309
Additions, net
—
54
Amortization expense
(55)
(78)
Ending balance
$
1,096
$
1,285
Valuation
allowance included in MSRs, net:
Beginning of period
$
—
$
—
End of period
—
—
Fair value of amortized MSRs:
Beginning of period
$
2,369
$
1,908
End of period
2,419
2,277
NOTE 7: FAIR VALUE
Fair Value
Hierarchy
“Fair value” is defined by ASC 820,
Fair Value
Measurements and Disclosures
, as the price that would be received to sell
an asset or paid to transfer a liability in an orderly transaction occurring in the principal market
(or most advantageous
market in the absence of a principal market) for an asset or liability at the measurement date.
GAAP establishes a fair
value hierarchy for valuation inputs that gives the highest priority to quoted prices
in active markets for identical assets or
liabilities and the lowest priority to unobservable inputs.
The fair value hierarchy is as follows:
Level 1—inputs to the valuation methodology are quoted prices, unadjusted, for identical
assets or liabilities in active
markets.
Level 2—inputs to the valuation methodology include quoted prices for similar assets and
liabilities in active markets,
quoted prices for identical or similar assets or liabilities in markets that are not active, or
inputs that are observable for the
asset or liability, either directly or
indirectly.
Level 3—inputs to the valuation methodology are unobservable and reflect the
Company’s own assumptions about the
inputs market participants would use in pricing the asset or liability.
Level changes in fair value measurements
Transfers between levels of the fair value hierarchy are generally
recognized at the end of each reporting period.
The
Company monitors the valuation techniques utilized for each category of
financial assets and liabilities to ascertain when
transfers between levels have been affected.
The nature of the Company’s financial assets
and liabilities generally is such
that transfers in and out of any level are expected to be infrequent. For the three months ended
March 31, 2023, there were
no transfers between levels and no changes in valuation techniques for the Company’s
financial assets and liabilities.
Table of Contents
24
Assets and liabilities measured at fair value on a recurring
basis
Securities available-for-sale
Fair values of securities available for sale were primarily measured using
Level 2 inputs.
For these securities, the Company
obtains pricing data from third party pricing services.
These third party pricing services consider observable data that
may
include broker/dealer quotes, market spreads, cash flows, benchmark yields, reported
trades for similar securities, market
consensus prepayment speeds, credit information, and the securities’ terms and
conditions.
On a quarterly basis,
management reviews the pricing data received from the third party pricing services
for reasonableness given current market
conditions.
As part of its review, management
may obtain non-binding third party broker/dealer quotes to validate the fair
value measurements.
In addition, management will periodically submit pricing information
provided by the third party
pricing services to another independent valuation firm on a sample basis.
This independent valuation firm will compare the
prices
provided by the third party pricing service with its own prices
and will review the significant assumptions and
valuation methodologies used with management.
The following table presents the balances of the assets and liabilities measured at fair value
on a recurring basis as of March
31, 2023 and December 31, 2022, respectively,
by caption, on the accompanying consolidated balance sheets by
ASC 820
valuation hierarchy (as described above).
Quoted Prices in
Significant
Active Markets
Other
Significant
for
Observable
Unobservable
Identical Assets
Inputs
Inputs
(Dollars in thousands)
Amount
(Level 1)
(Level 2)
(Level 3)
March 31, 2023:
Securities available-for-sale:
Agency obligations
$
127,180
—
127,180
—
Agency MBS
215,699
—
215,699
—
State and political subdivisions
62,813
—
62,813
—
Total securities available-for-sale
405,692
—
405,692
—
Total
assets at fair value
$
405,692
—
405,692
—
December 31, 2022:
Securities available-for-sale:
Agency obligations
$
125,617
—
125,617
—
Agency MBS
218,160
—
218,160
—
State and political subdivisions
61,527
—
61,527
—
Total securities available-for-sale
405,304
—
405,304
—
Total
assets at fair value
$
405,304
—
405,304
—
Assets and liabilities measured at fair value on a nonrecurring
basis
Collateral Dependent Loans
Collateral dependent loans are measured at the fair value of the collateral securing the loan
less estimated selling costs. The
fair value of real estate collateral is determined based on real estate appraisals
which are generally based on recent sales of
comparable properties which are then adjusted for property specific factors.
Non real estate collateral is valued based on
various sources, including third party asset valuations and internally determined
values based on cost adjusted for
depreciation and other judgmentally determined discount factors. Collateral dependent
loans are classified within Level 3 of
the hierarchy due to the unobservable inputs used in determining their fair value such as collateral
values and the borrower's
underlying financial condition.
Table of Contents
25
Mortgage servicing rights, net
MSRs, net, included in other assets on the accompanying consolidated balance
sheets, are carried at the lower of cost or
estimated fair value.
MSRs do not trade in an active market with readily observable prices.
To determine the fair
value of
MSRs, the Company engages an independent third party.
The independent third party’s
valuation model calculates the
present value of estimated future net servicing income using assumptions that
market participants would use in estimating
future net servicing income, including estimates of prepayment speeds, discount
rates, default rates, cost to service, escrow
account earnings, contractual servicing fee income, ancillary income, and late
fees.
Periodically, the Company
will review
broker surveys and other market research to validate significant assumptions used
in the model.
The significant
unobservable inputs include prepayment speeds or the constant prepayment rate (“CPR”)
and the weighted average
discount rate.
Because the valuation of MSRs requires the use of significant unobservable
inputs, all of the Company’s
MSRs are classified within Level 3 of the valuation hierarchy.
The following table presents the balances of the assets and liabilities measured at fair value
on a nonrecurring basis as of
March 31, 2023 and December 31, 2022, respectively,
by caption, on the accompanying consolidated balance sheets and by
FASB ASC 820 valuation
hierarchy (as described above):
Quoted Prices in
Active Markets
Other
Significant
for
Observable
Unobservable
Carrying
Identical Assets
Inputs
Inputs
(Dollars in thousands)
Amount
(Level 1)
(Level 2)
(Level 3)
March 31, 2023:
Loans, net
(1)
2,021
—
—
2,021
Other assets
(2)
1,096
—
—
1,096
Total assets at fair value
$
3,117
—
—
3,117
December 31, 2022:
Loans, net
(3)
2,054
—
—
2,054
Other assets
(2)
1,151
—
—
1,151
Total assets at fair value
$
3,205
—
-
3,205
(1)
Loans considered collateral dependent under ASC 326.
(2)
Represents MSRs, net, carried at lower of cost or
estimated fair value.
(3)
Loans considered impaired under ASC 310-10-35 Receivables,
prior to the adoption of ASC 326.
This amount reflects the recorded
investment in impaired loans, net of any related allowance
for loan losses.
Quantitative Disclosures for Level 3 Fair Value
Measurements
At March 31, 2023 and December 31, 2022, the Company had no Level 3 assets measured
at fair value on a recurring basis.
For Level 3 assets measured at fair value on a non-recurring basis at March 31, 2023
and and December 31, 2022, the
significant unobservable inputs used in the fair value measurements and
the range of such inputs with respect to such assets
are presented below.
Range of
Weighted
Carrying
Significant
Unobservable
Average
(Dollars in thousands)
Amount
Valuation Technique
Unobservable Input
Inputs
of Input
March 31, 2023:
Collateral dependent loans
$
2,021
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Mortgage servicing rights, net
1,096
Discounted cash flow
Prepayment speed or CPR
7.2
-
30.1
7.6
Discount rate
9.5
-
11.5
9.5
December 31, 2022:
Impaired loans
$
2,054
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Mortgage servicing rights, net
1,151
Discounted cash flow
Prepayment speed or CPR
5.2
-
18.6
7.5
Discount rate
9.5
-
11.5
9.5
Table of Contents
26
Fair Value
of Financial Instruments
ASC 825,
Financial Instruments
, requires disclosure of fair value information about financial instruments,
whether or not
recognized on the face of the balance sheet, for which it is practicable to estimate that
value. The assumptions used in the
estimation of the fair value of the Company’s
financial instruments are explained below.
Where quoted market prices are
not available, fair values are based on estimates using discounted cash flow analyses.
Discounted cash flows can be
significantly affected by the assumptions used, including the discount rate
and estimates of future cash flows. The
following fair value estimates cannot be substantiated by comparison to independent
markets and should not be considered
representative of the liquidation value of the Company’s
financial instruments, but rather are good-faith estimates
of the fair
value of financial instruments held by the Company.
ASC 825 excludes certain financial instruments and all nonfinancial
instruments from its disclosure requirements.
The following methods and assumptions were used by the Company in estimating the fair
value of its financial instruments:
Loans, net
Fair values for loans were calculated using discounted cash flows. The discount rates reflected
current rates at which similar
loans would be made for the same remaining maturities. Expected
future cash flows were projected based on contractual
cash flows, adjusted for estimated prepayments.
The fair value of loans was measured using an exit price notion.
Time Deposits
Fair values for time deposits were estimated using discounted cash flows. The
discount rates were based on rates currently
offered for deposits with similar remaining maturities.
The carrying value,
related estimated fair value, and placement in the fair value hierarchy of the Company’s
financial
instruments at March 31, 2023 and December 31, 2022 are presented below.
This table excludes financial instruments for
which the carrying amount approximates fair value.
Financial assets for which fair value approximates carrying
value
included cash and cash equivalents.
Financial liabilities for which fair value approximates carrying value
included
noninterest-bearing demand deposits,
interest-bearing demand deposits, and savings deposits.
Fair value approximates
carrying value in these financial liabilities due to these products having no stated
maturity.
Additionally, financial
liabilities for which fair value approximates carrying value included overnight
borrowings such as federal funds purchased
and securities sold under agreements to repurchase.
Fair Value Hierarchy
Carrying
Estimated
Level 1
Level 2
Level 3
(Dollars in thousands)
amount
fair value
inputs
inputs
Inputs
March 31, 2023:
Financial Assets:
Loans, net (1)
$
498,220
$
482,454
$
—
$
—
$
482,454
Financial Liabilities:
Time Deposits
$
161,104
$
157,919
$
—
$
157,919
$
—
December 31, 2022:
Financial Assets:
Loans, net (1)
$
498,693
$
484,007
$
—
$
—
$
484,007
Financial Liabilities:
Time Deposits
$
150,375
$
150,146
$
—
$
150,146
$
—
(1) Represents loans, net of allowance for credit losses.
The fair value of loans was measured using an
exit price notion.
NOTE 8: SUBSEQUENT EVENTS
Subsequent to March 31, 2023, one of the Company’s
collateral dependent loans, with a recorded investment of $
1.3
million and a corresponding valuation allowance of $
0.5
million, at March 31, 2023, was paid in full
.
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27
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS
OF
OPERATIONS
The following discussion and analysis is designed to provide a better understanding of
various factors related to the results
of operations and financial condition of the Company and the Bank.
This discussion is intended to supplement and
highlight information contained in the accompanying unaudited condensed consolidated
financial statements and related
notes for the quarters ended March 31, 2023 and 2022, as well as the information contained
in our Annual Report on Form
10-K for the year ended December 31, 2022.
Special Cautionary Notice Regarding Forward-Looking Statements
Various
of the statements made herein under the captions “Management’s
Discussion and Analysis of Financial Condition
and Results of Operations”, “Quantitative and Qualitative Disclosures about Market
Risk”, “Risk Factors” “Description of
Property” and elsewhere, are “forward-looking statements” within the
meaning and protections of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934,
as amended (the “Exchange Act”).
Forward-looking statements include statements with respect to our beliefs, plans, objectives,
goals, expectations,
anticipations, assumptions, estimates, intentions and future performance, and involve
known and unknown risks,
uncertainties and other factors, which may be beyond our control, and
which may cause the actual results, performance,
achievements or financial condition of the Company to be materially different
from future results, performance,
achievements or financial condition expressed or implied by such forward-looking
statements.
You
should not expect us to
update any forward-looking statements.
All statements other than statements of historical fact are statements that could be
forward-looking statements.
You
can
identify these forward-looking statements through our use of words such as “may,”
“will,” “anticipate,” “assume,”
“should,” “indicate,” “would,” “believe,” “contemplate,” “expect,”
“estimate,” “continue,” “designed”, “plan,” “point to,”
“project,” “could,” “intend,” “seeks,” “model,” “simulations,” “target” and
other similar words and expressions of the
future.
These forward-looking statements may not be realized due to a variety of factors,
including, without limitation:
●
the effects of future economic, business and market conditions and
changes, foreign, domestic and local, including
inflation, seasonality, natural
disasters or climate change, such as rising sea and water levels, hurricanes and
tornados, COVID-19 or other epidemics or pandemics including supply chain disruptions,
inventory volatility, and
changes in consumer behaviors;
●
the effects of war or other conflicts, acts of terrorism, trade restrictions, sanctions or
other events that may affect
general economic conditions;
●
governmental monetary and fiscal policies, including the continuing effects
of fiscal and monetary stimuli in
response to the COVID-19 crisis, followed by changes in monetary policies beginning
in March 2022 in response
to inflation, including increases in the Federal Reserve’s
target federal funds rate and reductions in the Federal
Reserve’s holdings of securities;
●
legislative and regulatory changes, including changes in banking, securities and tax laws,
regulations and rules and
their application by our regulators, including capital and liquidity requirements, and changes
in the scope and cost
of FDIC insurance, including changes being considered in light of two regional bank
failures in California and
New York in
March 2023;
●
the failure of assumptions and estimates, as well as differences in, and changes to,
economic, market and credit
conditions, including changes in borrowers’ credit risks and payment behaviors from
those used in our loan
portfolio reviews;
●
the risks of inflation, changes in market interest rates and the shape of the yield curve on the levels, composition
and costs of deposits and borrowings, the values of our securities and loans, loan demand
and mortgage loan
originations, and the values and liquidity of loan collateral, securities, and interest-sensitive
assets and liabilities,
and the risks and uncertainty of the amounts realizable on collateral;
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28
●
the risks of further increases in market interest rates creating unrealized losses on our
securities available for sale,
which adversely affect our stockholders’ equity (including tangible stockholders’
equity) for financial reporting
purposes;
●
changes in borrower liquidity and credit risks, and savings, deposit and payment behaviors;
●
changes in the availability and cost of credit and capital in the financial markets, and the types
of instruments that
may be included as capital for regulatory purposes;
●
changes in the prices, values and sales volumes of residential and commercial real estate;
●
the effects of competition from a wide variety of local, regional, national
and other providers of financial,
investment and insurance services, including the disruptive effects of
financial technology and other competitors
who are not subject to the same regulations as the Company and the Bank and credit unions,
which are not subject
to federal income taxation;
●
the failure of assumptions and estimates underlying the establishment of allowances
for credit losses, including
asset impairments, losses valuations of assets and liabilities and other
estimates;
●
the timing and amount of rental income from third parties following the June 2022
opening of our new
headquarters;
●
the risks of mergers, acquisitions and divestitures, including,
without limitation, the related time and costs of
implementing such transactions, integrating operations as part of these transactions and
possible failures to achieve
expected gains, revenue growth and/or expense savings from such transactions;
●
changes in technology or products that may be more difficult, costly,
or less effective than anticipated;
●
cyber-attacks and data breaches that may compromise our systems, our
vendors’ systems or customers’
information;
●
the risks that our deferred tax assets (“DTAs”)
included in “other assets” on our consolidated balance sheets, if
any, could be reduced if estimates of future
taxable income from our operations and tax planning strategies are less
than currently estimated, and sales of our capital stock could trigger a reduction in the amount of
net operating loss
carry-forwards that we may be able to utilize for income tax purposes; and
●
other factors and risks described under “Risk Factors” herein and in any of our subsequent
reports that we make
with the Securities and Exchange Commission (the “Commission” or “SEC”)
under the Exchange Act.
All written or oral forward-looking statements that are we make or are
attributable to us are expressly qualified in their
entirety by this cautionary notice.
We have no obligation and
do not undertake to update, revise or correct any of the
forward-looking statements after the date of this report, or after the respective dates on which such
statements otherwise are
made.
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29
Summary of Results of Operations
Quarter ended March 31,
(Dollars in thousands, except per share data)
2023
2022
Net interest income (a)
$
7,217
$
6,190
Less: tax-equivalent adjustment
108
112
Net interest income (GAAP)
7,109
6,078
Noninterest income
792
908
Total revenue
7,901
6,986
Provision for credit losses
66
(250)
Noninterest expense
5,604
4,901
Income tax expense
267
254
Net earnings
$
1,964
$
2,081
Basic and diluted earnings per share
$
0.56
$
0.59
(a) Tax-equivalent.
See "Table 1 - Explanation of Non-GAAP
Financial Measures."
Financial Summary
The Company’s net earnings were $2.0
million for the first quarter of 2023, compared to $2.1 million for the first quarter of
2022.
Basic and diluted earnings per share were $0.56 per share for the first quarter of 2023,
compared to $0.59 per share
for the first quarter of 2022.
Net interest income (tax-equivalent) was $7.2 million for the first quarter of 2023,
a 17% increase
compared to $6.2 million
for the first quarter of 2022.
This increase was primarily due to improvements in the Company’s
net interest margin.
The
Company’s net interest margin
(tax-equivalent) was 3.17% in the first quarter of 2023 compared to 2.43%
in the first
quarter of 2022.
This increase was primarily due to a more favorable asset mix and higher yields on interest
earning assets.
These higher yields on interest earning assets were partially offset by increased
cost of funds.
The cost of funds increased
to 71 basis points, compared to 34 basis points in the first quarter of 2022,
which also reflected higher market interest rates.
Average loans for the first quarter
of 2023 were $502.2 million, a 14% increase from the first quarter of 2022.
At March 31, 2023, the Company’s allowance
for credit losses was $6.8 million, or 1.35% of total loans, compared to $5.8
million, or 1.14% of total loans, at December 31, 2022, and $4.7
million, or 1.09% of total loans, at March 31, 2022.
The
implementation of CECL required pursuant to Accounting Standards (“ASC”)
326, was effective January 1, 2023,
increased our allowance for credit losses by $1.0 million, or 0.20% of total loans, as a day one
transition adjustment.
At
March 31, 2023 and December 31, 2022, the Company’s
recorded investment in loans individually evaluated was $2.6
million with a corresponding valuation allowance (included in the allowance
for credit losses) of $0.5 million, compared to
a recorded investment in loans individually evaluated of $0.2 million with no corresponding
valuation allowance at March
31, 2022.
The Company recorded a provision for credit losses during the first quarter of 2023
of $0.1 million, compared to a negative
provision for credit losses of $0.3 million during the first quarter of 2022.
The provision for credit losses under CECL is
reflective of the Company’s credit risk profile
and the future economic outlook and forecasts.
Our CECL model is largely
influenced by economic factors including, most notably,
the anticipated unemployment rate.
The negative provision for
credit losses during the first quarter of 2022 was primarily related to a decrease in total loans, excluding PPP,
during the
first quarter of 2022.
Noninterest income was $0.8 million in the first quarter of 2023,
compared to $0.9 million in the first quarter of 2022.
The
decrease in noninterest income was primarily due to a decrease in mortgage lending income
of $0.2 million as a result of
higher mortgage market interest rates.
Noninterest expense was $5.6 million in the first quarter of 2023,
compared
to $4.9 million for the first quarter of 2022.
The increase in noninterest expense was primarily due to an increase in net occupancy and
equipment expense of $0.3
million related to the Company’s new headquarters,
which opened in June 2022, professional fees expense of $0.1 million,
and other noninterest expenses of $0.3 million.
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30
Income tax expense was $0.3 million for the first quarter of 2023 and 2022,
respectively.
The Company's effective tax rate
for the first quarter of 2023 was 11.97%,
compared to 10.88% in the first quarter of 2022.
The Company’s effective
income tax rate is principally affected by tax-exempt earnings from the Company’s
investment in municipal securities,
bank-owned life insurance (“BOLI”), and New Markets Tax
Credits (“NMTCs”).
The Company paid cash dividends of $0.27 per share in the first quarter of 2023, an increase of 2%
from the same period of
2022.
The Company repurchased
2,648 shares for $0.1
million during the first quarter of 2023.
At March 31, 2023, the
Bank’s regulatory capital ratios
were well above the minimum amounts required to be “well capitalized” under current
regulatory standards with a total risk-based capital ratio of 16.48%,
a tier 1 leverage ratio of 10.07% and a common equity
tier 1 (“CET1”) ratio of 15.45% at March 31, 2023.
At March 31,
2023, the Company’s equity to total assets ratio
was
7.24%, compared to 6.65% at December 31, 2022, and 7.79% at March 31,
2022.
CRITICAL ACCOUNTING POLICIES
The accounting and financial reporting policies of the Company conform with U.S. generally accepted
accounting
principles and with general practices within the banking industry.
In connection with the application of those principles, we
have made judgments and estimates which, in the case of the determination of our allowance
for credit losses for loans, our
determination of credit losses for investment securities,
recurring and non-recurring fair value measurements, the valuation
of other real estate owned, and the valuation of deferred tax assets, were critical to the determination
of our financial
position and results of operations. Other policies also require subjective judgment and
assumptions and may accordingly
impact our financial position and results of operations.
Accounting Standards Adopted in 2023
On January 1, 2023, the Company adopted ASC 326 as described more fully in our
unaudited financial statements in Part I
of this Quarterly report,
especially Note 1, Accounting Standards Adopted in 2023 and Note 5, Loans and Allowance
for
Credit Losses.
This standard replaced the incurred loss methodology with an expected loss
methodology that is referred to
as the current expected credit loss (“CECL”) methodology.
CECL requires an estimate of credit losses for the remaining
estimated life of the financial asset using historical experience, current conditions,
and reasonable and supportable forecasts
and generally applies to financial assets measured at amortized cost, including loan
receivables and held-to-maturity debt
securities, and some off-balance sheet credit exposures such as unfunded
commitments to extend credit. Financial assets
measured at amortized cost will be presented at the net amount expected to be collected
by using an allowance for credit
losses.
In addition, CECL made changes to the accounting for available for sale
debt securities. One such change is to require
credit losses to be presented as an allowance rather than as a write-down on available for sale debt
securities if management
does not intend to sell and does not believe that it is more likely than not, they will be required
to sell.
The Company adopted ASC 326 and all related subsequent amendments thereto
effective January 1, 2023 using the
modified retrospective approach for all financial assets measured
at amortized cost and off-balance sheet credit exposures.
The transition adjustment upon the adoption of CECL on January 1, 2023 included an increase
in the allowance for credit
losses on loans of $1.0 million, which is presented as a reduction to net loans outstanding,
and an increase in the allowance
for credit losses on unfunded loan commitments of $0.1 million, which is recorded
within other liabilities. The Company
recorded a net decrease to retained earnings of $0.8 million as of January 1, 2023
for the cumulative effect of adopting
CECL, which reflects the transition adjustments noted above, net of the applicable deferred
tax assets recorded. Results for
reporting periods beginning after January 1, 2023 are presented under CECL
while prior period amounts continue to be
reported in accordance with previously applicable accounting standards.
The Company adopted ASC 326 using the prospective transition approach
for debt securities for which other-than-
temporary impairment had been recognized prior to January 1, 2023.
As of December 31, 2022, the Company did not have
any other-than-temporarily impaired investment securities. Therefore,
upon adoption of ASC 326, the Company determined
that an allowance for credit losses on available for sale securities was not deemed
material.
The Company elected not to measure an allowance for credit losses for accrued interest receivable
and instead elected to
reverse interest income on loans or securities that are placed on nonaccrual status,
which is generally when the instrument is
90 days past due, or earlier if the Company believes the collection of interest is doubtful.
The Company has concluded that
this policy results in the timely reversal of uncollectible interest.
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The Company also adopted ASU 2022-02, “Financial Instruments - Credit Losses (Topic
326): Troubled Debt
Restructurings and Vintage Disclosures”
on January 1, 2023, the effective date of the guidance, on a prospective basis.
ASU 2022-02 eliminated the accounting guidance for TDRs, while enhancing disclosure
requirements for certain loan
refinancings and restructurings by creditors when a borrower is experiencing
financial difficulty.
Specifically, rather than
applying the recognition and measurement guidance for TDRs, an entity
must apply the loan refinancing and restructuring
guidance to determine whether a modification results in a new loan or a continuation of an
existing loan. Additionally,
ASU
2022-02 requires an entity to disclose current-period gross write-offs
by year of origination for financing receivables within
the scope of Subtopic 326-20, Financial Instruments—Credit Losses—Measured at
Amortized Cost. ASU 2022-02 did not
have a material impact on the Company’s consolidated
financial statements.
Loans
Loans that management has the intent and ability to hold for the foreseeable
future or until maturity or payoff are reported
at amortized cost. Amortized cost is the principal balance outstanding, net of purchase premiums
and discounts and
deferred fees and costs. Accrued interest receivable related to loans is recorded
in other assets on the consolidated balance
sheets. Interest income is accrued on the unpaid principal balance. Loan origination
fees, net of certain direct origination
costs, are deferred and recognized in interest income using methods that approximate a
level yield without anticipating
prepayments.
The accrual of interest is generally discontinued when a loan becomes 90 days past due and
is not well collateralized and in
the process of collection, or when management believes, after considering economic and
business conditions and collection
efforts, that the principal or interest will not be collectible in the normal course
of business. Past due status is based on
contractual terms of the loan. A loan is considered to be past due when a scheduled payment has
not been received 30 days
after the contractual due date.
All accrued interest is reversed against interest income when a loan is placed on nonaccrual
status. Interest received on such
loans is accounted for using the cost-recovery method, until qualifying for return to accrual.
Under the cost-recovery
method, interest income is not recognized until the loan balance is reduced to zero.
Loans are returned to accrual status
when all the principal and interest amounts contractually due are brought current, there
is a sustained period of repayment
performance, and future payments are reasonably assured.
Allowance for Credit Losses – Loans
The allowance for credit losses is a valuation account that is deducted from the loans' amortized
cost basis to present the net
amount expected to be collected on the loans. Loans are charged
off against the allowance when management believes the
uncollectibility of a loan balance is confirmed. Expected recoveries do not exceed the aggregate
of amounts previously
charged-off and expected to be charged-off
.
Accrued interest receivable is excluded from the estimate of credit losses.
The allowance for credit losses represents management’s
estimate of lifetime credit losses inherent in loans as of the
balance sheet date. The allowance for credit losses is estimated by management using relevant
available information, from
both internal and external sources, relating to past events, current conditions, and reasonable
and supportable forecasts.
The Company’s loan loss estimation process includes
procedures to appropriately consider the unique characteristics of
its
loan segments (commercial and industrial, construction and land development, commercial
real estate, multifamily,
residential real estate, and consumer loans).
These segments are further disaggregated into loan classes, the level at which
credit quality is monitored.
See Note 5, Loans and Allowance for Credit Losses for additional information about our loan
portfolio.
Credit loss assumptions are estimated using a discounted cash flow ("DCF") model
for each loan segment, except consumer
loans.
The weighted average remaining life method is used to estimate credit loss assumptions
for consumer loans.
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The DCF model calculates an expected life-of-loan loss percentage by considering the
forecasted probability that a
borrower will default (the “PD”), adjusted for relevant forecasted macroeconomic
factors, and LGD, which is the estimate
of the amount of net loss in the event of default.
This model utilizes historical correlations between default experience and
certain macroeconomic factors as determined through a statistical regression analysis.
The forecasted Alabama
unemployment rate is considered in the model for commercial and industrial, construction
and land development,
commercial real estate, multifamily,
and residential real estate loans.
In addition, forecasted changes in the Alabama home
price index is considered in the model for construction and land development and residential
real estate loans; forecasted
changes in the national commercial real estate (“CRE”) price index is considered in the
model for commercial real estate
and multifamily loans; and forecasted changes in the Alabama gross state product
is considered in the model for
multifamily loans.
Projections of these macroeconomic factors, obtained from an independent
third party, are utilized to
predict quarterly rates of default
based on the statistical PD models.
Expected credit losses are estimated over the contractual term of the loan, adjusted for
expected prepayments and principal
payments (“curtailments”) when appropriate. Management's determination of the
contract term excludes expected
extensions, renewals, and modifications unless the extension or
renewal option is included in the contract at the reporting
date and is not unconditionally cancellable by the Company.
To the extent the lives of the
loans in the portfolio extend
beyond the period for which a reasonable and supportable forecast can be
made (which is 4 quarters for the Company), the
Company reverts, on a straight-line basis back to the historical rates over an 8 quarter
reversion period.
The weighted average remaining life method was deemed most appropriate
for the consumer loan segment because
consumer loans contain many different payment structures,
payment streams and collateral.
The weighted average
remaining life method uses an annual charge-off rate over several vintages
to estimate credit losses.
The average annual
charge-off rate is applied to the contractual term adjusted for prepayments.
Additionally, the allowance
for credit losses calculation includes subjective adjustments for qualitative risk
factors that are
believed likely to cause estimated credit losses to differ from historical experience.
These qualitative adjustments may
increase or reduce reserve levels and include adjustments for lending management experience
and risk tolerance, loan
review and audit results, asset quality and portfolio trends, loan portfolio growth, industry concentrations,
trends in
underlying collateral, external factors and economic conditions not already captured.
Loans that do not share risk characteristics are evaluated on an individual basis. When
management determines that
foreclosure is probable and the borrower is experiencing financial difficulty,
the expected credit losses are based on the
estimated fair value of collateral held at the reporting date, adjusted for selling costs as appropriate.
Allowance for Credit Losses – Unfunded Commitments
Financial instruments include off-balance sheet credit instruments,
such as commitments to make loans and commercial
letters of credit issued to meet customer financing needs. The Company’s
exposure to credit loss in the event of
nonperformance by the other party to the financial instrument for off-balance sheet
loan commitments is represented by the
contractual amount of those instruments. Such financial instruments are recorded
when they are funded.
The Company records an allowance for credit losses on off-balance
sheet credit exposures, unless the commitments to
extend credit are unconditionally cancelable, through a charge to provision
for credit losses in the Company’s consolidated
statements of earnings. The allowance for credit losses on off-balance sheet credit
exposures is estimated by loan segment
at each balance sheet date under the current expected credit loss model using the same
methodologies as portfolio loans,
taking into consideration the likelihood that funding will occur as well as any third-party
guarantees. The allowance for
unfunded commitments is included in other liabilities on the Company’s
consolidated balance sheets.
On January 1, 2023, the Company recorded an adjustment for unfunded commitments of $77
thousand for the adoption of
ASC 326. For the three months ended March 31, 2023, the Company recorded a provision
for credit losses for unfunded
commitments of $26 thousand. At March 31, 2023, the liability for credit losses on off
-balance-sheet credit exposures
included in other liabilities was $0.3 million.
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Assessment for Allowance for Credit Losses – Available
-for-Sale Securities
For any securities classified as available-for-sale that are in an unrealized
loss position at the balance sheet date, the
Company assesses whether or not it intends to sell the security,
or more likely than not will be required to sell the security,
before recovery of its amortized cost basis.
If either criteria is met, the security's amortized cost basis is written down to
fair value through net income.
If neither criteria is met, the Company evaluates whether any portion of the decline in
fair
value is the result of credit deterioration.
Such evaluations consider the extent to which the amortized cost of the security
exceeds its fair value, changes in credit ratings and any other known adverse conditions related
to the specific security.
If
the evaluation indicates that a credit loss exists, an allowance for credit losses is recorded
for the amount by which the
amortized cost basis of the security exceeds the present value of cash flows expected
to be collected, limited by the amount
by which the amortized cost exceeds fair value.
Any impairment not recognized in the allowance for credit losses is
recognized in other comprehensive income.
The Company is required to own certain stock as a condition of membership, such as the
FHLB of Atlanta and Federal
Reserve Bank of Atlanta (“FRB”).
These non-marketable equity securities are accounted for at cost which equals par
or
redemption value.
These securities do not have a readily determinable fair value as their ownership is restricted and
there is
no market for these securities.
The Company records these non-marketable equity securities as a component
of other
assets, which are periodically evaluated for impairment. Management considers
these non-marketable equity securities to
be long-term investments. Accordingly,
when evaluating these securities for impairment, management considers
the
ultimate recoverability of the par value rather than by recognizing temporary declines in value.
Fair Value
Determination
U.S. GAAP requires management to value and disclose certain of the Company’s
assets and liabilities at fair value,
including investments classified as available-for-sale and derivatives.
ASC 820,
Fair Value
Measurements and Disclosures
,
which defines fair value, establishes a framework for measuring fair value in accordance
with U.S. GAAP and expands
disclosures about fair value measurements.
For more information regarding fair value measurements and disclosures,
please refer to Note 7, Fair Value,
of the unaudited consolidated financial statements that accompany this report.
Fair values are based on active market prices of identical assets or liabilities when available.
Comparable assets or
liabilities or a composite of comparable assets in active markets are used when identical assets
or liabilities do not have
readily available active market pricing.
However, some of the Company’s
assets or liabilities lack an available or
comparable trading market characterized by frequent transactions between
willing buyers and sellers. In these cases, fair
value is estimated using pricing models that use discounted cash flows and
other pricing techniques. Pricing models and
their underlying assumptions are based upon management’s
best estimates for appropriate discount rates, default rates,
prepayments,
market volatility and other factors, taking into account current observable market data and
experience.
These assumptions may have a significant effect on the reported
fair values of assets and liabilities and the related income
and expense. As such, the use of different models and assumptions, as
well as changes in market conditions, could result in
materially different net earnings and retained earnings results.
Other Real Estate Owned
Other real estate owned or OREO, consists of properties obtained through foreclosure or otherwise
in satisfaction of loans
and is reported at the lower of cost or fair value, less estimated costs to sell at the date acquired
with any loss recognized as
a charge-off through the allowance for credit losses.
Additional OREO losses for subsequent valuation adjustments are
determined on a specific property basis and are included as a component of other noninterest
expense along with holding
costs. Any gains or losses on disposal of OREO are also reflected in noninterest expense.
Significant judgments and
complex estimates are required in estimating the fair value of OREO, and the period of time
within which such estimates
can be considered current is significantly shortened during periods of
market volatility. As a result, the net proceeds
realized from sales transactions could differ significantly from appraisals,
comparable sales, and other estimates used to
determine the fair value of OREO.
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34
Deferred Tax
Asset Valuation
A valuation allowance is recognized for a deferred tax asset if, based on the weight of available
evidence, it is more-likely-
than-not that some portion or the entire deferred tax asset will not be realized. The ultimate
realization of deferred tax assets
is dependent upon the generation of future taxable income during the periods
in which those temporary differences become
deductible. Management considers the scheduled reversal of deferred
tax liabilities, projected future taxable income and tax
planning strategies in making this assessment. At March 31, 2023
we had total deferred tax assets of $12.2 million included
as “other assets”, including $11.9 million resulting from
unrealized losses in our securities portfolio.
Based upon the level
of taxable income over the last three years and projections for future taxable income over
the periods in which the deferred
tax assets are deductible, management believes it is more likely than not that
we will realize the benefits of these deductible
differences at March 31, 2023. The amount of the deferred tax assets considered
realizable, however, could be reduced if
estimates of future taxable income are reduced.
RESULTS
OF OPERATIONS
Average Balance
Sheet and Interest Rates
Quarter ended March 31,
2023
2022
Average
Yield/
Average
Yield/
(Dollars in thousands)
Balance
Rate
Balance
Rate
Loans and loans held for sale
$
502,158
4.65%
$
440,608
4.46%
Securities - taxable
344,884
2.19%
374,825
1.45%
Securities - tax-exempt
57,800
3.59%
60,272
3.57%
Total securities
402,684
2.39%
435,097
1.74%
Federal funds sold
7,314
4.71%
73,575
0.17%
Interest bearing bank deposits
11,607
4.47%
83,161
0.16%
Total interest-earning assets
923,763
3.66%
1,032,441
2.66%
Deposits:
NOW
187,566
0.54%
200,907
0.12%
Savings and money market
300,657
0.39%
345,549
0.20%
Time Deposits
155,676
1.51%
159,785
0.90%
Total interest-bearing deposits
643,899
0.70%
706,241
0.34%
Short-term borrowings
3,046
1.11%
3,943
0.50%
Total interest-bearing liabilities
646,945
0.71%
710,184
0.34%
Net interest income and margin (tax-equivalent)
$
7,217
3.17%
$
6,190
2.43%
Net Interest Income and Margin
Net interest income (tax-equivalent) was $7.2 million for the first quarter of 2023,
a 17% increase compared to $6.2 million
for the first quarter of 2022.
This increase was primarily due to improvements in the Company’s
net interest margin (tax-
equivalent).
The Company’s net interest
margin (tax-equivalent) was 3.17% in the first quarter of 2023
compared to 2.43%
in the first quarter of 2022.
This increase was primarily due to a more favorable asset mix and higher yields on interest
earning assets.
Since March of 2022, the Federal Reserve increased the target
federal funds range from 0 – 0.25% to 4.75 –
5.00%.
The target rate was increased another 25 basis points on May 3, 2023,
and further increases in the target federal
funds rate appear likely if inflation remains elevated.
The tax-equivalent yield on total interest-earning assets increased by 100
basis points to 3.66%
in the first quarter of 2023
compared to 2.66% in the first quarter of 2022.
This increase was primarily due to changes in our asset mix and higher
market interest rates on interest earning assets.
The cost of total interest-bearing liabilities increased by 37 basis points to
0.71% in the first quarter of 2023 compared to
0.34% in the first quarter of 2022.
Our deposit costs may continue to increase as the Federal Reserve increases its target
federal funds rate, market interest rates increase, and as customer behaviors change
as a result of inflation and higher
market interest rates on deposits and other alternative investments.
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35
The Company continues to deploy various asset liability management strategies
to manage its risks from interest rate
fluctuations. Deposit and loan pricing remain competitive in our
markets.
We believe this challenging
rate environment
will continue throughout 2023.
Our ability to compete and manage our deposit costs until our interest-earning assets
reprice will be important to maintaining or potentially increasing our net interest
margin during the monetary tightening
cycle that we believe will continue throughout 2023.
Provision for Credit Losses
On January 1, 2023, we adopted ASC 326, which introduces the current expected credit
losses (CECL) methodology and
requires us to estimate all expected credit losses over the remaining life of our loans.
Accordingly, the provision for credit
losses represents a charge to earnings necessary to establish an allowance
for credit losses that, in management's evaluation,
is adequate to provide coverage for all expected credit losses. The Company recorded
a provision for credit losses during
the first quarter of 2023 of $0.1 million, compared to a negative provision for credit
losses of $0.3 million during the first
quarter of 2022.
Provision expense is affected by organic loan growth in our loan
portfolio, our internal assessment of the
credit quality of the loan portfolio, our expectations about future economic conditions and
net charge-offs.
Our CECL
model is largely influenced by economic factors including,
most notably, the anticipated
unemployment rate, which may be
affected by monetary policy.
The negative provision for credit losses during the first quarter of 2022
was primarily related
to a decrease in total loans, excluding federally-guaranteed PPP loans,
during the first quarter of 2022.
Our allowance for credit losses reflects an amount we believe appropriate,
based on our allowance assessment
methodology, to adequately cover
all expected future losses as of the date the allowance is determined. At March 31,
2023,
the Company’s allowance for credit
losses was $6.8 million, or 1.35% of total loans, compared to $5.8 million, or 1.14% of
total loans, at December 31, 2022, and $4.7 million, or 1.09% of total loans, at March 31, 2022.
The implementation of
CECL, as of January 1, 2023, increased our allowance for credit losses by $1.0
million, or 0.20% of total loans, as a day
one transition adjustment to ASC 326.
At March 31, 2023 and December 31, 2022, the Company’s
recorded investment in
loans individually evaluated was $2.6 million with a corresponding valuation allowance
(included in the allowance for
credit losses) of $0.5 million, compared to a recorded investment in loans individually
evaluated of $0.2 million with no
corresponding valuation allowance at March 31, 2022.
One of the downgraded loans, with a recorded investment of $1.3
million and a corresponding valuation allowance of $0.5 million at March 31,
2023, was paid in full subsequent to March
31, 2023.
Noninterest Income
Quarter ended March 31,
(Dollars in thousands)
2023
2022
Service charges on deposit accounts
$
154
$
142
Mortgage lending income
93
253
Bank-owned life insurance
156
99
Other
389
414
Total noninterest income
$
792
$
908
The Company’s income from mortgage lending
was primarily attributable to the (1) origination and sale of mortgage loans
and (2) servicing of mortgage loans. Origination income, net, is comprised of gains or losses
from the sale of the mortgage
loans originated, origination fees, underwriting fees, and other fees associated
with the origination of loans, which are
netted against the commission expense associated with these originations. The
Company’s normal practice is to originate
mortgage loans for sale in the secondary market and to either sell or retain the associated
MSRs when the loan is sold.
MSRs are recognized based on the fair value of the servicing right on the date
the corresponding mortgage loan is sold.
Subsequent to the date of transfer, the Company
has elected to measure its MSRs under the amortization method.
Servicing
fee income is reported net of any related amortization expense.
The Company evaluates MSRs for impairment on a quarterly basis.
Impairment is determined by grouping MSRs by
common predominant characteristics, such as interest rate and loan type.
If the aggregate carrying amount of a particular
group of MSRs exceeds the group’s aggregate fair
value, a valuation allowance for that group is established.
The valuation
allowance is adjusted as the fair value changes.
An increase in mortgage interest rates typically results in an increase in the
fair value of the MSRs while a decrease in mortgage interest rates typically results in a decrease
in the fair value of MSRs.
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36
The following table presents a breakdown of the Company’s
mortgage lending income.
Quarter ended March 31,
(Dollars in thousands)
2023
2022
Origination income, net
$
4
$
229
Servicing fees, net
89
24
Total mortgage lending income
$
93
$
253
The Company’s income from mortgage lending
typically fluctuates as mortgage interest rates change and is primarily
attributable to the origination and sale of mortgage loans. Origination income decreased
as market interest rates on
mortgage loans increased.
The decrease in origination income was partially offset by an increase
in servicing fees, net of
related amortization expense as prepayment speeds slowed, resulting in decreased
amortization expense.
Noninterest Expense
Quarter ended March 31,
(Dollars in thousands)
2023
2022
Salaries and benefits
$
2,927
$
2,950
Net occupancy and equipment
799
434
Professional fees
338
230
Other
1,540
1,287
Total noninterest expense
$
5,604
$
4,901
The increase in net occupancy and equipment expense was primarily due to increased
expenses related to the Company’s
new headquarters in downtown Auburn.
This amount includes depreciation expense and other costs associated
with
operating the new headquarters.
The Company relocated its main office branch and bank operations into its
newly
constructed headquarters during June 2022.
The increase in other noninterest expense was due to a variety of miscellaneous items
including increased information
technology and systems expenses, losses on New Markets Tax
Credits investments and other miscellaneous operating
expenses.
Income Tax
Expense
Income tax expense was $0.3 million for the first quarter of 2023
and 2022, respectively.
The Company’s effective income
tax rate for the first quarter of 2023 was 11.97%, compared
to 10.88% in the first quarter of 2022.
The Company’s
effective income tax rate is principally impacted by tax-exempt earnings
from the Company’s investments
in municipal
securities, bank-owned life insurance, and New Markets Tax
Credits.
BALANCE SHEET ANALYSIS
Securities
Securities available-for-sale were $405.7
million at March 31, 2023 compared to $405.3 million at December 31, 2022.
This increase reflects a $7.3 million increase in the fair value of securities available
-for-sale, offset by a decrease in the
amortized cost basis of securities available-for-sale of $6.9 million.
The average annualized tax-equivalent yields earned
on total securities were 2.39%
in the first quarter of 2023 and 1.74% in the first quarter of 2022.
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37
Loans
2023
2022
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Commercial and industrial
$
59,602
66,212
70,715
70,117
73,327
Construction and land development
66,500
66,479
54,773
38,654
33,058
Commercial real estate
267,962
264,576
249,527
239,873
234,637
Residential real estate
101,975
97,648
91,469
85,106
78,983
Consumer installment
9,002
9,546
7,551
7,122
8,412
Total loans
$
505,041
504,461
474,035
440,872
428,417
Total loans
were $505.0 million at March 31, 2023, compared to $504.5 million at December
31, 2022.
Four loan
categories represented the majority of the loan portfolio at March 31, 2023:
commercial real estate (53%), residential real
estate (20%), commercial and industrial (12%) and construction and land development
(13%).
Approximately 25% of the
Company’s commercial real estate loans
were classified as owner-occupied at March 31, 2023.
Within the residential real estate portfolio segment, the
Company had junior lien mortgages of approximately $7.6
million,
or 2%, and $7.4 million, or 1%, of total loans at March 31, 2023 and December 31, 2022, respectively.
For residential real
estate mortgage loans with a consumer purpose, the Company had no loans that required
interest only payments at March
31, 2023 and December 31, 2022. The Company’s
residential real estate mortgage portfolio does not include any option
or
hybrid ARM loans, subprime loans, or any material amount of other consumer
mortgage products which are generally
viewed as high risk.
The average yield earned on loans and loans held for sale was 4.65% in the first quarter of
2023 and 4.46% in the first
quarter of 2022.
The specific economic and credit risks associated with our loan portfolio include, but are
not limited to, the effects of
current economic conditions, including inflation and the continuing increases in
market interest rates, remaining COVID-19
pandemic effects including supply chain disruptions, commercial
office occupancy levels, housing supply shortages and
inflation, on our borrowers’ cash flows, real estate market sales volumes and liquidity,
valuations used in making loans and
evaluating collateral, availability and cost of financing properties, real
estate industry concentrations, competitive pressures
from a wide range of other lenders, deterioration in certain credits, interest rate fluctuations,
reduced collateral values or
non-existent collateral, title defects, inaccurate appraisals, financial deteriora
tion of borrowers, fraud, and any violation of
applicable laws and regulations. Various
projects financed earlier that were based on lower interest rate assumptions
than
currently in effect may not be as profitable or successful at higher interest rate
currently in effect and currently expected in
the future.
The Company attempts to reduce these economic and credit risks through its loan-to-value
guidelines for collateralized
loans, investigating the creditworthiness of borrowers and monitoring borrowers’ financial
position. Also, we have
established and periodically review,
lending policies and procedures. Banking regulations limit a bank’s
credit exposure by
prohibiting unsecured loan relationships that exceed 10% of its capital; or 20%
of capital, if loans in excess of 10% of
capital are fully secured. Under these regulations, we are prohibited from having secured
loan relationships in excess of
approximately $22.8 million.
Furthermore, we have an internal limit for aggregate credit exposure (loans outstanding
plus
unfunded commitments) to a single borrower of $20.6 million. Our loan policy requires that
the Loan Committee of the
Board of Directors approve any loan relationships that exceed this internal limit.
At March 31, 2023, the Bank had no
relationships exceeding these limits.
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38
We periodically analyze
our commercial and industrial and commercial real estate loan portfolios to
determine if a
concentration of credit risk exists in any one or more industries. We
use classification systems broadly accepted by the
financial services industry in order to categorize our commercial borrowers.
Loan concentrations to borrowers in the
following classes exceeded 25% of the Bank’s total risk
-based capital at March 31, 2023 and December 31, 2022.
March 31,
December 31,
(Dollars in thousands)
2023
2022
Lessors of 1-4 family residential properties
$
53,467
$
52,278
Multi-family residential properties
40,974
41,084
Hotel/motel
32,959
33,378
Allowance for Credit Losses
The Company maintains the allowance for credit losses at a level that management believes
appropriate to adequately cover
the Company’s estimate of expected
losses in the loan portfolio. The allowance for credit losses was $6.8 million at March
31, 2023 compared to $5.8 million at December 31, 2022,
which management believed to be adequate at each of the
respective dates. The judgments and estimates associated with the determination of the
allowance for credit losses are
described under “Critical Accounting Policies.”
On January 1, 2023, we adopted ASC 326,
which introduces the current expected credit losses (CECL) methodology and
requires us to estimate all expected credit losses over the remaining life of our loan portfolio.
Accordingly, beginning in
2023, the allowance for credit losses represents an amount that, in management's evaluation,
is adequate to provide
coverage for all expected future credit losses on outstanding loans. As of March 31,
2023 and December 31, 2022, our
allowance for credit losses was approximately $6.8 million and $5.8
million, respectively, which our
management believes
to be adequate at each of the respective dates. Our allowance for credit losses as a percentage of total
loans was 1.35% at
March 31, 2023, up from 1.14%
at December 31, 2022.
The increase in the allowance for credit losses is largely the result of the implementation
of ASC
326 on January 1, 2023,
which resulted in an adjustment to the opening balance of the allowance for credit losses of
$1.0 million. Our CECL models
rely largely on projections of macroeconomic conditions to estimate
future credit losses. Macroeconomic factors used in the
model include the Alabama unemployment rate, the Alabama home price index, the
national commercial real estate price
index and the Alabama gross state product. Projections of these
macroeconomic factors, obtained from an independent third
party, are utilized to predict
quarterly rates of default.
Under the CECL methodology the allowance for credit losses is measured
on a collective basis for pools of loans with
similar risk characteristics, and for loans that do not share similar risk characteristics
with the collectively evaluated pools,
evaluations are performed on an individual basis. Losses are predicted over
a period of time determined to be reasonable
and supportable, and at the end of the reasonable and supportable period
losses are reverted to long term historical averages.
At March 31, 2023, reasonable and supportable periods of 12 months were utilized
followed by a 24 month straight line
reversion period to long term averages.
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39
A summary of the changes in the allowance for credit losses and certain asset
quality ratios for the first quarter of 2023 and
the previous four quarters is presented below.
2023
2022
First
Fourth
Third
Second
First
(Dollars in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Balance at beginning of period
$
5,765
4,966
4,716
4,658
4,939
Impact of adopting ASC 326
1,019
Charge-offs:
Commercial and industrial
—
(205)
(13)
(4)
—
Consumer installment
(11)
(3)
(3)
(16)
(48)
Total charge
-offs
(11)
(208)
(16)
(20)
(48)
Recoveries
8
7
16
78
17
Net (charge-offs) recoveries
(3)
(201)
—
58
(31)
Provision for credit losses
40
1,000
250
—
(250)
Ending balance
$
6,821
5,765
4,966
4,716
4,658
as a % of loans
1.35
%
1.14
1.05
1.07
1.09
as a % of nonperforming loans
255
%
211
1,431
1,314
1,256
Net charge-offs (recoveries) as % of average loans (a)
—
%
0.04
—
(0.05)
0.03
(a) Net charge-offs (recoveries) are annualized.
Nonperforming Assets
At March 31, 2023 and December 31, 2022 the Company had $2.7 million in nonperforming assets,
respectively.
The table below provides information concerning total nonperforming assets
and certain asset quality ratios for the first
quarter of 2023 and the previous four quarters.
2023
2022
First
Fourth
Third
Second
First
(Dollars in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Nonperforming assets:
Nonaccrual loans
$
2,680
2,731
347
359
371
Other real estate owned
—
—
—
—
374
Total nonperforming assets
$
2,680
2,731
347
359
745
as a % of loans and other real estate owned
0.53
%
0.54
0.07
0.08
0.17
as a % of total assets
0.26
%
0.27
0.03
0.03
0.07
Nonperforming loans as a % of total loans
0.53
%
0.54
0.07
0.08
0.09
The table below provides information concerning the composition of nonaccrual
loans for the first quarter of 2023 and the
previous four quarters.
2023
2022
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Nonaccrual loans:
Commercial and industrial
$
432
443
—
—
—
Commercial real estate
2,103
2,116
170
176
182
Residential real estate
136
172
177
183
189
Consumer installment
10
—
—
—
—
Total nonaccrual loans
$
2,681
2,731
347
359
371
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40
The Company discontinues the accrual of interest income when (1) there is a significant
deterioration in the financial
condition of the borrower and full repayment of principal and interest is not expected or
(2) the principal or interest is
90 days or more past due, unless the loan is both well-secured and in the process of collection
.
The Company had $2.7
million in loans on nonaccrual status at March 31, 2023 and December 31,
2022, respectively.
The Company had no loans 90 days or more past due and still accruing at March 31,
2023 and December 31, 2022,
respectively.
The table below provides information concerning the composition of OREO
for the third quarter of 2023 and the previous
four quarters.
2023
2022
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Other real estate owned:
Commercial real estate
$
—
—
—
—
374
Total other real estate owned
$
—
—
—
—
374
Deposits
Total deposits decreased
$11.1 million, or 1%, to $939.2 million at March 31, 202
3, compared to $950.3 million at
December 31, 2022. This decrease reflects net outflows to higher yield investment
alternatives in a rising interest rate
environment and a decline in balances in existing accounts due to increased customer
spending.
Noninterest-bearing
deposits were $304.2 million, or 32% of total deposits, at March 31, 2023,
compared to $311.4 million, or 33% of total
deposits at December 31, 2022.
We had no brokered
deposits on March 31, 2023
or at December 31, 2022.
Estimated uninsured deposits totaled $368.6 million and $381.7 million at March 31,
2023 and December 31, 2022,
respectively.
Uninsured amounts are estimated based on the portion of account balances in excess of
FDIC insurance
limits.
The average rate paid on total interest-bearing deposits was 0.70% in the first quarter of 2023
compared to 0.34% in the
first quarter of 2022.
Other Borrowings
Other borrowings consist of short-term borrowings and long-term debt. Short-term
borrowings generally consist of federal
funds purchased and securities sold under agreements to repurchase
with an original maturity of one year or less.
The Bank
had available federal funds lines totaling $61.0 million with none outstanding
at March 31, 2023, and December 31, 2022,
respectively. Securities sold
under agreements to repurchase totaled $2.5 million and $2.6 million at March 31,
2023 and
December 31, 2022, respectively.
At March 31, 2023 and December 31, 2022, the Bank had no borrowings from the
Federal Reserve discount window and no borrowings under the Federal Reserve’s
new Bank Term Facility Program
(“BTFP”), which opened March 12, 2023.
The average rate paid on short-term borrowings was 1.11
%
in the first quarter of 2023 and 2022,
respectively.
The Company had no long-term debt at March 31, 2023 and December 31, 2022.
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41
CAPITAL ADEQUACY
The Company’s consolidated
stockholders’ equity was $73.6 million and $68.0 million as of March 31,
2023 and
December 31, 2022, respectively.
The increase from December 31, 2022 was primarily driven by other comprehensive
income due to the change in unrealized gains/losses on securities available-for-sale,
net of tax of $5.5 million.
These
unrealized losses do not affect the Bank’s
capital for regulatory capital purposes.
The Company’s consolidated
stockholders’ equity was also increased by net earnings of $2.0 million.
These increases in the Company’s consolidated
stockholders’ equity were partially offset by cash dividends
paid of $0.9 million, the cumulative effect of adopting the
CECL accounting standard of $0.8 million, and repurchases of the Company’s
stock of $0.1
million.
The Company paid cash dividends of $0.27 per share in the first quarter of 2023, an increase of 2%
from the same period in
2022. The Company’s share repurchases of $0.
1
million since December 31, 2022 resulted in 2,648 fewer outstanding
common shares at March 31, 2023.
These shares were repurchased at an average cost per share of $24.11
.
On January 1, 2015, the Company and Bank became subject to the rules of the Basel III regulatory
capital framework and
related Dodd-Frank Wall
Street Reform and Consumer Protection Act changes.
The rules included the implementation of a
capital conservation buffer that is added to the minimum requirements
for capital adequacy purposes.
The capital
conservation buffer was subject to a three year phase-in period
that began on January 1, 2016 and was fully phased-in on
January 1, 2019 at 2.5%.
A banking organization with a conservation buffer of less than the
required amount will be
subject to limitations on capital distributions, including dividend payments and certain discretionary
bonus payments to
executive officers.
At March 31, 2023, the Bank’s ratio
was sufficient to meet the fully phased-in conservation buffer.
Effective March 20, 2020, the Federal Reserve and the other federal
banking regulators adopted an interim final rule that
amended the capital conservation buffer.
The interim final rule was adopted as a final rule on August 26, 2020.
The new
rule revises the definition of “eligible retained income” for purposes of the maximum payout
ratio to allow banking
organizations to more freely use their capital buffers to promote
lending and other financial intermediation activities, by
making the limitations on capital distributions more gradual.
The eligible retained income is now the greater of (i) net
income for the four preceding quarters, net of distributions and associated
tax effects not reflected in net income; and (ii)
the average of all net income over the preceding four quarters.
This rule only affects the capital buffers, and banking
organizations were encouraged to make prudent capital distribution decisions.
The Federal Reserve has treated us as a “small bank holding company’ under the Federal
Reserve’s Small Bank Holding
Company Policy.
Accordingly, our capital adequacy is evaluated
at the Bank level, and not for the Company and its
consolidated subsidiaries.
The Bank’s tier 1 leverage ratio
was 10.07%, CET1 risk-based capital ratio was 15.45%, tier 1
risk-based capital ratio was 15.45%, and total risk-based capital ratio was 16.48% at
March 31, 2023. These ratios exceed
the minimum regulatory capital percentages of 5.0% for tier 1 leverage ratio, 6.5%
for CET1 risk-based capital ratio, 8.0%
for tier 1 risk-based capital ratio, and 10.0% for total risk-based capital ratio
to be considered “well capitalized.”
The
Bank’s capital conservation buffer
was 8.48% at March 31, 2023.
MARKET AND LIQUIDITY RISK MANAGEMENT
Management’s objective is to manage assets and
liabilities to provide a satisfactory,
consistent level of profitability within
the framework of established liquidity,
loan, investment, borrowing, and capital policies. The Bank’s
Asset Liability
Management Committee (“ALCO”) is charged with the responsibility
of monitoring these policies, which are designed to
ensure an acceptable asset/liability composition. Two
critical areas of focus for ALCO are interest rate risk and liquidity
risk management.
Interest Rate Risk Management
In the normal course of business, the Company is exposed to market risk arising from fluctuations
in interest rates. ALCO
measures and evaluates interest rate risk so that the Bank can meet customer demands for
various types of loans and
deposits. Measurements used to help manage interest rate sensitivity include an earnings simulation
model and an economic
value of equity (“EVE”) model.
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42
Earnings simulation
. Management believes that interest rate risk is best estimated by our earnings simulation
modeling.
Forecasted levels of earning assets, interest-bearing liabilities, and off
-balance sheet financial instruments are combined
with ALCO forecasts of market interest rates for the next 12 months and other
factors in order to produce various earnings
simulations and estimates. To
help limit interest rate risk, we have guidelines for earnings at risk which seek to limit the
variance of net interest income from gradual changes in interest rates.
For changes up or down in rates from management’s
flat interest rate forecast over the next 12 months, policy limits for net interest income
variances are as follows:
●
+/- 20% for a gradual change of 400 basis points
●
+/- 15% for a gradual change of 300 basis points
●
+/- 10% for a gradual change of 200 basis points
●
+/- 5% for a gradual change of 100 basis points
While a gradual change in interest rates was used in the above analysis to provide an estimate
of exposure under these
scenarios, our modeling under both a gradual and instantaneous change in interest rates indicates
our balance sheet is asset
sensitive.
At March 31, 2023, our earnings simulation model indicated that we were in compliance
with the policy guidelines noted
above.
Economic Value
of Equity
. EVE measures the extent that the estimated economic values of our assets, liabilities, and off-
balance sheet items will change as a result of interest rate changes. Economic values
are estimated by discounting expected
cash flows from assets, liabilities, and off-balance sheet items,
which establishes a base case EVE. In contrast with our
earnings simulation model, which evaluates interest rate risk over a 12 month timeframe,
EVE uses a terminal horizon
which allows for the re-pricing of all assets, liabilities, and off-balance sheet items.
Further, EVE is measured using values
as of a point in time and does not reflect any actions that ALCO might take in responding to
or anticipating changes in
interest rates, or market and competitive conditions.
To help limit interest rate risk,
we have stated policy guidelines for an
instantaneous basis point change in interest rates, such that our EVE should not decrease from our
base case by more than
the following:
●
45% for an instantaneous change of +/- 400 basis points
●
35% for an instantaneous change of +/- 300 basis points
●
25% for an instantaneous change of +/- 200 basis points
●
15% for an instantaneous change of +/- 100 basis points
At March 31, 2023, our EVE model indicated that we were in compliance
with our policy guidelines.
Each of the above analyses may not, on its own, be an accurate indicator of how our net interest
income will be affected by
changes in interest rates. Income associated with interest-earning assets and costs associated
with interest-bearing liabilities
may not be affected uniformly by changes in interest rates. In addition,
the magnitude and duration of changes in interest
rates may have a significant impact on net interest income. For example, although certain
assets and liabilities may have
similar maturities or periods of repricing, they may react in different
degrees to changes in market interest rates, and other
economic and market factors, including market perceptions.
Interest rates on certain types of assets and liabilities fluctuate
in advance of changes in general market rates, while interest rates on other types of assets
and liabilities may lag behind
changes in general market rates. In addition, certain assets, such as adjustable rate
mortgage loans, have features (generally
referred to as “interest rate caps and floors”) which limit changes in interest rates.
Prepayments
and early withdrawal levels
also could deviate significantly from those assumed in calculating the maturity of certain instruments.
The ability of many
borrowers to service their debts also may decrease during periods of rising interest rates or economic
stress, which may
differ across industries and economic sectors. ALCO reviews each of the
above interest rate sensitivity analyses along with
several different interest rate scenarios in seeking satisfactory,
consistent levels of profitability within the framework of the
Company’s established liquidity,
loan, investment, borrowing, and capital policies.
The Company may also use derivative financial instruments to improve the balance betw
een interest-sensitive assets and
interest-sensitive liabilities, and as a tool to manage interest rate sensitivity
while continuing to meet the credit and deposit
needs of our customers. From time to time, the Company also may enter into back-to-back
interest rate swaps to facilitate
customer transactions and meet their financing needs. These interest rate swaps qualify
as derivatives, but are not
designated as hedging instruments. At March 31, 2023 and December 31,
2022, the Company had no derivative contracts
designated as part of a hedging relationship to assist in managing its interest rate sensitivity.
Table of Contents
43
Liquidity Risk Management
Liquidity is the Company’s ability to convert
assets into cash equivalents in order to meet daily cash flow requirements,
primarily for deposit withdrawals, loan demand and maturing obligations.
The Company seeks to manage its liquidity to
manage or reduce its costs of funds by maintaining liquidity believed adequate
to meet its anticipated funding needs, while
balancing against excessive liquidity that likely would reduce earnings due to the
cost of foregoing alternative higher-
yielding assets.
Liquidity is managed at two levels. The first is the liquidity of the Company.
The second is the liquidity of the Bank. The
management of liquidity at both levels is essential, because the Company and the Bank are
separate and distinct legal
entities with different funding needs and sources, and each are subject
to regulatory guidelines and requirements.
The
Company depends upon dividends from the Bank for liquidity to pay its operating expenses,
debt obligations and
dividends.
The Bank’s payment of dividends depends
on its earnings, liquidity, capital
and the absence of regulatory
restrictions on such dividends.
The primary source of funding and liquidity for the Company has been dividends received
from the Bank.
If needed, the
Company could also borrow money,
or issue common stock or other securities.
Primary uses of funds by the Company
include dividends paid to stockholders, Company stock repurchases, and payment of
Company expenses.
Primary sources of funding for the Bank include customer deposits, other borrowings,
interest payments on earning assets,
repayment and maturity of securities and loans, sales of securities, and the
sale of loans,
particularly residential mortgage
loans. The Bank has access to federal funds lines from various banks and borrowings
from the Federal Reserve discount
window and the Federal Reserve’s recent
BTFP borrowing facility.
In addition to these sources, the Bank may participate in
the FHLB’s advance program
to obtain funding for its growth. Advances include both fixed and variable terms and
may be
taken out with varying maturities. At March 31, 2023, the Bank had a remaining available
line of credit with the FHLB of
$307.0 million. At March 31, 2023, the Bank also had $61.0
million of available federal funds lines with no borrowings
outstanding. Primary uses of funds include repayment of maturing obligations and
growing the loan portfolio.
The Bank
has no brokered deposits on March 31, 2023 or at December 31, 2022.
Management believes that the Company and the Bank have adequate sources of liquidity
to meet all their respective known
contractual obligations and unfunded commitments, including loan commitments
and reasonably
rexpected borrower,
depositor, and creditor requirements over the next twelve
months.
Off-Balance Sheet Arrangements, Commitments, Contingencies and Contractual
Obligations
At March 31, 2023, the Bank had outstanding standby letters of credit of $0.8 million and
unfunded loan commitments
outstanding of $91.1 million.
Because these commitments generally have fixed expiration dates and
many will expire
without being drawn upon, the total commitment level does not necessarily represent future
cash requirements. If needed to
fund these outstanding commitments,
the Bank could liquidate federal funds sold or a portion of our securities available-
for-sale, or draw on its available credit facilities or raise deposits.
Mortgage lending activities
We generally sell residential
mortgage loans in the secondary market to Fannie Mae while retaining the servicing
of these
loans. The sale agreements for these residential mortgage loans with Fannie Mae and other
investors include various
representations and warranties regarding the origination and characteristics of the
residential mortgage loans.
Although the
representations and warranties vary among investors, they typically cover ownership
of the loan, validity of the lien
securing the loan, the absence of delinquent taxes or liens against the property securing the
loan, compliance with loan
criteria set forth in the applicable agreement, compliance with applicable federal,
state, and local laws, among other
matters.
Table of Contents
44
As of March 31, 2023, the unpaid principal balance of residential mortgage loans,
which we have originated and sold, but
retained the servicing rights, was $226.7 million.
Although these loans are generally sold on a non-recourse basis, we may
be obligated to repurchase residential mortgage loans or reimburse investors
for losses incurred (make whole requests) if a
loan review reveals a potential breach of seller representations and warranties.
Upon receipt of a repurchase or make whole
request, we work with investors to arrive at a mutually agreeable resolution. Repurchase
and make whole requests are
typically reviewed on an individual loan by loan basis to validate the claims made by the investor
and to determine if a
contractually required repurchase or make whole event has occurred. We
seek to reduce and manage the risks of potential
repurchases, make whole requests, or other claims by mortgage loan investors
through our underwriting and quality
assurance practices and by servicing mortgage loans to meet investor and secondary
market standards.
The Company was not required to repurchase any loans during the first quarter of 2023
as a result of representation and
warranty provisions contained in the Company’s
sale agreements with Fannie Mae, and had no pending repurchase or
make-whole requests at March 31, 2023.
We service all residential
mortgage loans originated and sold by us to Fannie Mae.
As servicer, our primary duties are to:
(1) collect payments due from borrowers;
(2) advance certain delinquent payments of principal and interest;
(3) maintain
and administer any hazard, title, or primary mortgage insurance policies relating to the
mortgage loans;
(4) maintain any
required escrow accounts for payment of taxes and insurance and administer escrow payments;
and (5) foreclose on
defaulted mortgage loans or take other actions to mitigate the potential losses to investors
consistent with the agreements
governing our rights and duties as servicer.
The agreement under which we act as servicer generally specifies standard
s
of responsibility for actions taken by us in such
capacity and provides protection against expenses and liabilities incurred by us when acting
in compliance with the
respective servicing agreements.
However, if we commit a material breach of our obligations
as servicer, we may be
subject to termination if the breach is not cured within a specified period following notice.
The standards governing
servicing and the possible remedies for violations of such standards are determined
by servicing guides issued by Fannie
Mae as well as the contract provisions established between Fannie Mae and the Bank.
Remedies could include repurchase
of an affected loan.
Although repurchase and make whole requests related to representation and
warranty provisions and servicing activities
have been limited to date, it is possible that requests to repurchase mortgage loans or reimburse
investors for losses incurred
(make whole requests) may increase in frequency if investors more aggressively
pursue all means of recovering losses on
their purchased loans.
As of March 31, 2023, we do not believe that this exposure is material due to the historical level
of
repurchase requests and loss trends, in addition to the fact that 99% of our residential
mortgage loans serviced for Fannie
Mae were current as of such date.
We maintain ongoing communications
with our investors and will continue to evaluate
this exposure by monitoring the level and number of repurchase requests as well as the delinquency
rates in our investor
portfolios.
The Bank sells mortgage loans to Fannie Mae and services these on an actual/actual basis.
As a result, the Bank is not
obligated to make any advances to Fannie Mae on principal and interest on such mortgage
loans where the borrower is
entitled to forbearance.
Effects of Inflation and Changing Prices
The consolidated financial statements and related consolidated financial data presented
herein have been prepared in
accordance with GAAP and practices within the banking industry which require
the measurement of financial position and
operating results in terms of historical dollars without considering the changes in
the relative purchasing power of money
over time due to inflation. Unlike most industrial companies, virtually all the assets and liabilities
of a financial institution
are monetary in nature. As a result, interest rates have a more significant impact on a
financial institution’s performance
than the effects of general levels of inflation.
Inflation can affect our noninterest expenses. It also can affect
the interest rates we have to pay on our deposits and other
borrowings, and the interest rates we earn on our earning assets.
The difference between our interest expense and interest
income is also affected by the shape of the yield curve and the speed
at which our assets and liabilities reprice in response
to interest rate changes.
The yield curve was inverted on March 2023, which means shorter
term interest rates are higher
than longer interest rates.
This results in a lower spread between our costs of funds and our interest income.
In addition,
net interest income could be affected by asymmetrical changes in the different
interest rate indexes, given that not all of our
assets or liabilities are priced with the same index. Higher market interest rates and sales
of securities held by the Federal
Reserve to reduce inflation generally reduce economic activity and may reduce loan
demand and growth.
Table of Contents
45
Inflation is running at levels unseen in decades and well above the Federal Reserve’s
long term inflation goal of 2.0%
annually.
Beginning in March 2022, the Federal Reserve has been raising target
federal funds interest rates and reducing its
securities holdings in an effort to reduce inflation During 2022,
the Federal Reserve increased the target federal funds range
from 0 – 0.25% to 4.25 – 4.50%.
The target rate was increased another 25 basis points on each of January 31,
March 7 and
May 3, 2023 to 5.00-5.25%, and further increases in the target federal
funds rate appear likely if inflation remains elevated.
Our deposit costs may increase as the Federal Reserve increases its target
federal funds rate, market interest rates increase,
and as customer savings behaviors change as a result of inflation and seek higher market interest
rates on deposits and other
alternative investments.
Monetary efforts to control inflation may also affect
unemployment which is an important
component in our CECL model used to estimate our allowance for credit losses.
CURRENT ACCOUNTING DEVELOPMENTS
The following ASU has been issued by the FASB
but is not yet effective.
●
ASU 2023-02,
Investments – Equity Method and Joint Ventures
(Topic 323):
Accounting for Investments in Tax
Credit Structures Using
the Proportional Amortization Method
Information about this pronouncement is described in more detail below.
ASU 2023-02,
Investments – Equity Method and Joint Ventures
(Topic 323):
Accounting for Investments in Tax
Credit
Structures Using the Proportional
Amortization Method
, The amendments in this Update permit reporting entities to elect
to account for their tax equity investments, regardless of the tax credit program from which
the income tax credits are
received, using the proportional amortization method if certain conditions are
met. The new standard is effective for fiscal
years, and interim periods within those fiscal years, beginning after December 15,
2023.
The Company is currently
evaluating the impact of the new standard on the Company’s
consolidated financial statements.
Table of Contents
46
Table 1
– Explanation of Non-GAAP Financial Measures
In addition to results presented in accordance with U.S. generally accepted accounting principles
(GAAP), this quarterly
report on Form 10-Q includes certain designated net interest income amounts
presented on a tax-equivalent basis, a non-
GAAP financial measure, including the presentation and calculation of the efficiency
ratio.
The Company believes the presentation of net interest income on a tax-equivalent
basis provides comparability of net
interest income from both taxable and tax-exempt sources and facilitates comparability
within the industry. Although the
Company believes these non-GAAP financial measures enhance investors’
understanding of its business and performance,
these non-GAAP financial measures should not be considered an alternative to
GAAP.
The reconciliations
of these non-
GAAP financial measures to their most directly comparable GAAP financial
measures are presented below.
2023
2022
First
Fourth
Third
Second
First
(in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Net interest income (GAAP)
$
7,109
7,471
7,243
6,374
6,078
Tax-equivalent adjustment
108
117
117
110
112
Net interest income (Tax
-equivalent)
$
7,217
7,588
7,360
6,484
6,190
Table of Contents
47
Table 2
- Selected Quarterly Financial Data
2023
2022
First
Fourth
Third
Second
First
(Dollars in thousands, except per share amounts)
Quarter
Quarter
Quarter
Quarter
Quarter
Results of Operations
Net interest income (a)
$
7,217
7,588
7,360
6,484
6,190
Less: tax-equivalent adjustment
108
117
117
110
112
Net interest income (GAAP)
7,109
7,471
7,243
6,374
6,078
Noninterest income
792
3,898
852
848
908
Total revenue
7,901
11,369
8,095
7,222
6,986
Provision for credit losses
66
1,000
250
—
(250)
Noninterest expense
5,604
4,449
5,415
5,058
4,901
Income tax expense
267
1,454
432
363
254
Net earnings
$
1,964
4,466
1,998
1,801
2,081
Per share data:
Basic and diluted net earnings
$
0.56
1.27
0.57
0.51
0.59
Cash dividends declared
0.27
0.265
0.265
0.265
0.265
Weighted average shares outstanding:
Basic and diluted
3,502,143
3,504,344
3,507,318
3,513,353
3,518,657
Shares outstanding, at period end
3,500,879
3,503,452
3,505,355
3,509,940
3,516,971
Book value
$
21.03
19.42
17.06
21.68
24.57
Common stock price
High
$
24.50
24.71
29.02
33.57
34.49
Low
22.55
22.07
23.02
27.04
31.75
Period end:
22.66
23.00
23.02
27.04
33.21
To earnings ratio
7.79
7.82
10.46
12.52
14.44
To book value
108
%
118
135
125
135
Performance ratios:
Return on average equity
11.44
%
28.23
10.35
8.26
7.97
Return on average assets
0.77
%
1.75
0.75
0.66
0.75
Dividend payout ratio
48.21
%
20.87
46.49
51.96
44.92
Asset Quality:
Allowance for credit losses as a % of:
Loans
1.35
%
1.14
1.05
1.07
1.09
Nonperforming loans
255
%
211
1,431
1,314
1,256
Nonperforming assets as a % of:
Loans and other real estate owned
0.53
%
0.54
0.07
0.08
0.17
Total assets
0.26
%
0.27
0.03
0.03
0.07
Nonperforming loans as a % of total loans
0.53
%
0.54
0.07
0.08
0.09
Annualized net charge-offs (recoveries) as % of average loans
-
%
0.16
-
(0.05)
0.03
Capital Adequacy: (c)
CET 1 risk-based capital ratio
15.45
%
15.39
15.39
16.59
17.26
Tier 1 risk-based capital ratio
15.45
%
15.39
15.39
16.59
17.26
Total risk-based capital ratio
16.48
%
16.25
16.16
17.38
18.08
Tier 1 leverage ratio
10.07
%
10.01
9.29
9.16
9.09
Other financial data:
Net interest margin (a)
3.17
%
3.27
3.00
2.60
2.43
Effective income tax rate
11.97
%
24.56
17.78
16.77
10.88
Efficiency ratio (b)
69.97
%
38.73
65.94
68.99
69.05
Selected average balances:
Securities available-for-sale
$
402,684
407,792
432,393
427,426
435,097
Loans
502,158
490,163
457,722
428,612
439,713
Total assets
1,022,938
1,022,863
1,069,973
1,092,759
1,114,407
Total deposits
948,393
951,122
987,614
999,867
1,003,394
Total stockholders’ equity
68,655
63,283
77,191
87,247
104,493
Selected period end balances:
Securities available-for-sale
$
405,692
405,304
411,538
429,220
417,459
Loans
505,041
504,458
474,035
440,872
428,417
Allowance for credit losses
6,821
5,765
4,966
4,716
4,658
Total assets
1,017,746
1,023,888
1,042,559
1,084,251
1,109,664
Total deposits
939,190
950,337
977,938
1,002,698
1,017,742
Total stockholders’ equity
73,640
68,041
59,793
76,107
86,411
(a) Tax-equivalent. See "Table 1 - Explanation of Non-GAAP Financial Measures."
(b) Efficiency ratio is the result of noninterest expense divided by
the sum of noninterest income and tax-equivalent net interest
income.
(c) Regulatory capital ratios presented are for the Company's
wholly-owned subsidiary, AuburnBank.
Table of Contents
48
Table 3
- Average Balances
and Net Interest Income Analysis
Quarter ended March 31,
2023
2022
Interest
Interest
Average
Income/
Yield/
Average
Income/
Yield/
(Dollars in thousands)
Balance
Expense
Rate
Balance
Expense
Rate
Interest-earning assets:
Loans and loans held for sale (1)
$
502,158
$
5,754
4.65%
$
440,608
$
4,850
4.46%
Securities - taxable
344,884
1,865
2.19%
374,825
1,336
1.45%
Securities - tax-exempt (2)
57,800
511
3.59%
60,272
531
3.57%
Total securities
402,684
2,376
2.39%
435,097
1,867
1.74%
Federal funds sold
7,314
85
4.71%
73,575
31
0.17%
Interest bearing bank deposits
11,607
128
4.47%
83,161
32
0.16%
Total interest-earning assets
923,763
$
8,343
3.66%
1,032,441
$
6,780
2.66%
Cash and due from banks
15,527
15,105
Other assets
83,648
66,861
Total assets
$
1,022,938
$
1,114,407
Interest-bearing liabilities:
Deposits:
NOW
$
187,566
$
248
0.54%
$
200,907
$
57
0.12%
Savings and money market
300,657
290
0.39%
345,549
172
0.20%
Time deposits
155,676
580
1.51%
159,785
356
0.90%
Total interest-bearing deposits
643,899
1,118
0.70%
706,241
585
0.34%
Short-term borrowings
3,046
8
1.11%
3,943
5
0.50%
Total interest-bearing liabilities
646,945
$
1,126
0.71%
710,184
$
590
0.34%
Noninterest-bearing deposits
304,494
297,153
Other liabilities
2,844
2,577
Stockholders' equity
68,655
104,493
Total liabilities and stockholders' equity
$
1,022,938
$
1,114,407
Net interest income and margin (tax-equivalent)
$
7,217
3.17%
$
6,190
2.43%
(1) Loans on nonaccrual status have been included in the computation of average balances.
(2) Yields on tax-exempt securities have been computed on a tax-equivalent basis using a federal income
tax rate of 21%.
Table of Contents
49
Table 4
- Allocation of Allowance for Credit Losses
2023
2022
First Quarter
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
(Dollars in thousands)
Amount
%*
Amount
%*
Amount
%*
Amount
%*
Amount
%*
Commercial and industrial
$
1,232
11.8
$
747
13.1
$
732
14.9
$
761
15.9
$
774
17.1
Construction and land
development
1,021
13.2
949
13.2
789
11.6
576
8.8
508
7.7
Commercial real estate
3,966
53.0
3,109
52.4
2,561
52.6
2,523
54.4
2,536
54.8
Residential real estate
497
20.2
828
19.4
783
19.3
753
19.3
737
18.4
Consumer installment
105
1.8
132
1.9
101
1.6
103
1.6
103
2.0
Total allowance for credit
losses
$
6,821
$
5,765
$
4,966
$
4,716
$
4,658
* Loan balance in each category expressed as a percentage of total loans.
Table of Contents
50
Table 5
– Estimated Uninsured Time Deposits by Maturity
(Dollars in thousands)
March 31, 2023
Maturity of:
3 months or less
$
175
Over 3 months through 6 months
12,975
Over 6 months through 12 months
16,969
Over 12 months
14,321
Total estimated uninsured
time deposits
$
44,440
Table of Contents
51
ITEM 3.
QUANTITATIVE
AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The information called for by ITEM 3 is set forth in ITEM 2 under the caption
“MARKET AND LIQUIDITY RISK
MANAGEMENT” and is incorporated herein by reference.
ITEM 4. CONTROLS AND PROCEDURES
The Company, with the participation
of its management, including its Chief Executive Officer and
Chief Financial Officer,
carried out an evaluation of the effectiveness of the design and operation
of its disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended)
as of the end of the
period covered by this report. Based upon that evaluation and as of the end of the period covered by this report,
the
Company’s Chief Executive Officer
and Chief Financial Officer concluded that the Company’s
disclosure controls and
procedures were effective to allow timely decisions regarding disclosure
in its reports that the Company files or submits to
the Securities and Exchange Commission under the Securities Exchange Act of 1934,
as amended. There have been no
changes in the Company’s internal control
over financial reporting that occurred during the period covered by this report
that have materially affected, or are reasonably likely to materially
affect, the Company’s
internal control over financial
reporting.
PART
II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In the normal course of its business, the Company and the Bank are, from time to time, involved
in legal proceedings. The
Company’s and Bank’s
management believe there are no pending or threatened legal, governmental, or regulatory
proceedings that, upon resolution, are expected to have a material adverse effect
upon the Company’s or the Bank’s
financial condition or results of operations. See also, Part I, Item 3 of the Company’s
Annual Report on Form 10-K for the
year ended December 31, 2022.
ITEM 1A. RISK FACTORS
In addition to the other information set forth in this report, you should carefully consider the
factors discussed in Part I,
Item 1A. “RISK FACTORS”
in the Company’s Annual Report
on Form 10-K for the year ended December 31, 2022,
which could materially affect our business, financial condition
or future results. The risks described in our annual report on
Form 10-K are not the only the risks facing our Company.
Increases in inflation and the resulting tightening of Federal
Reserve monetary policy by increased target interest rates and
reductions in the Federal Reserve’s securities portfolio,
have
and is expected to continue to affect mortgage originations and income and
the market values of our securities and loans
available for sale portfolio.
These could also affect our deposit, costs and mixes, and change consumer savings
and
payment behaviors.
Additional risks and uncertainties not currently known to us or that we currently deem
to be immaterial
also may materially adversely affect our business, financial condition,
and/or operating results in the future.
Table of Contents
52
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The Company’s repurchases of its common stock
during the first quarter of 2023 were as follows:
Period
Total Number of
Shares Purchased
Average Price
Paid per Share
Total Number of
Shares Purchased as
Part of Publicly
Announced Plans or
Programs
Approximate Dollar
Value
of Shares that
May Yet Be
Purchased Under the
Plans or Programs
January 1 - January 31, 2023
—
—
—
4,614,989
February 1 - February 28, 2023
2,648
24.11
2,648
4,551,116
March 1 - March 31, 2023
—
—
—
4,551,116
Total
2,648
24.11
2,648
4,551,116
On April 12, 2022, the Board of Directors of Auburn National Bancorporation, Inc. (the "Company") announced that its Board of Directors
had approved a new stock repurchase program to replace the repurchase program that expired on March 31, 2022. The new program
authorized the repurchase, from time to time, of up to $5 million of the Company’s issued and outstanding common stock through the
earliest of (i) the expenditure of $5 million on Share repurchases, (ii) the termination or replacement of the Repurchase Plan
and
(iii) April 15, 2024. The stock repurchases may be open-market or private purchases, negotiated transactions, block purchases,
and otherwise.
ITEM 3.
DEFAULTS
UPON SENIOR SECURITIES
Not applicable.
ITEM 4.
MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5.
OTHER INFORMATION
Not applicable.
Table of Contents
53
ITEM 6.
EXHIBITS
Exhibit
Number
Description
3.1
Certificate of Incorporation of Auburn National Bancorporation, Inc. and all amendments thereto.*
3.2
Amended and Restated Bylaws of Auburn National Bancorporation, Inc., adopted as of November 13, 2007. **
31.1
Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, As Adopted Pursuant To
Section 302 of the Sarbanes-Oxley Act of 2002, by David A. Hedges, President and Chief Executive Officer.
31.2
Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, As Adopted Pursuant To
Section 302 of the Sarbanes-Oxley Act of 2002, by W. James Walker, IV, Senior Vice President and Chief
Financial Officer.
32.1
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of the Sarbanes-Oxley
Act of 2002, by David A. Hedges, President and Chief Executive Officer.***
32.2
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of the Sarbanes-Oxley
Act of 2002, by W. James Walker, IV, Senior Vice President and Chief Financial Officer.***
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension
Schema Document
101.CAL
XBRL Taxonomy Extension
Calculation Linkbase Document
101.LAB
XBRL Taxonomy Extension
Label Linkbase Document
101.PRE
XBRL Taxonomy Extension
Presentation Linkbase Document
101.DEF
XBRL Taxonomy Extension
Definition Linkbase Document
104
Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101)
*
Incorporated by reference from Registrant’s
Form 10-Q dated June 30, 2002.
**
Incorporated by reference from Registrant’s
Form 10-K dated March 31, 2008.
***
The certifications attached as exhibits 32.1 and 32.2 to this quarterly report on Form 10-Q
are “furnished” to the
Securities and Exchange Commission pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 and shall not be
deemed “filed” by the Company for purposes of Section 18 of the Securities Exchange
Act of 1934, as amended.
Table of Contents
54
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.
AUBURN NATIONAL
BANCORPORATION,
INC.
(Registrant)
Date:
May 5, 2023
By:
/s/ David A. Hedges
David A. Hedges
President and CEO
Date:
May 5, 2023
By:
/s/
W.
James Walker,
IV
W.
James Walker,
IV
Senior Vice President and Chief Financial
Officer