FIRST KEYSTONE CORPORATION The purpose of Management's Discussion and Analysis ofFirst Keystone Corporation , a bank holding company (the "Corporation"), and its wholly owned subsidiary,First Keystone Community Bank (the "Bank"), is to assist the reader in reviewing the financial information presented and should be read in conjunction with the consolidated financial statements and other financial data contained herein. Refer to Forward-Looking Statements on page 1 for detailed information. 22 Table of Contents RESULTS OF OPERATIONS
Year Ended
Net income decreased to$14,024,000 for the year endedDecember 31, 2022 , as compared to$14,688,000 for the prior year, a decrease of 4.5%. Earnings per share, both basic and diluted, for 2022 was$2.35 as compared to$2.49 in 2021, a decrease of 5.6%. Dividends per share for 2022 and 2021 were$1.12 . The Corporation's return on average assets was 1.07% in 2022 and 1.15% in 2021. Return on average equity increased to 10.75% in 2022 from 9.93% in 2021. Total interest income in 2022 amounted to$46,413,000 , an increase of$4,365,000 or 10.4% from 2021. The increase in interest income is due to increased interest rates, growth in commercial real estate loans, and increased interest and dividend income earned on securities, offset by a$1,224,000 decrease in PPP loan fees due to the discontinuation of the SBA program. Total interest expense of$8,913,000 increased$3,765,000 or 73.1% from 2021. The majority of this increase is related to an increase in interest paid to depositors resulting from increased interest rates and an increase in interest paid on short-term borrowings.
Selected financial data and performance ratios of the Corporation for the past five years are presented below in Table 1.
Table 1 - Selected Financial Data
(Dollars in thousands,
except per share data) For the Year Ended December 31,
2022 2021 2020 2019 2018
SELECTED FINANCIAL DATA
AT YEAR END:
Total assets $ 1,329,194 $ 1,320,350 $ 1,179,047 $ 1,007,226 $ 1,012,000
Total securities 375,143 439,878 368,357 279,861 317,614
Net loans 850,195 744,161 712,677 640,727 599,647
Total deposits 993,499 1,077,969 937,488 761,628 671,553
Total long-term
borrowings 25,000 35,000 45,000 55,000 45,000
Total stockholders'
equity 120,386 148,555 144,242 128,752 116,756
SELECTED OPERATING DATA:
Interest income $ 46,413 $ 42,048 $ 39,567 $ 38,527 $ 35,573
Interest expense 8,913 5,148 6,360 10,243 8,620
Net interest income 37,500 36,900 33,207 28,284 26,953
(Credit) provision for
loan losses (264) 860 1,200 450 200
Net interest income after
(credit) provision for
loan losses 37,764 36,040 32,007 27,834 26,753
Non-interest income 5,331 7,323 6,012 6,929 5,562
Non-interest expense 26,777 26,354 24,605 23,422 22,645
Income before income tax
expense 16,318 17,009 13,414 11,341 9,670
Income tax expense 2,294 2,321 1,577 1,114 459
Net income $ 14,024 $ 14,688 $ 11,837 $ 10,227 $ 9,211
PER SHARE DATA:
Net income $ 2.35 $ 2.49 $ 2.03 $ 1.77 $ 1.60
Dividends 1.12 1.12 1.08 1.08 1.08
PERFORMANCE RATIOS:
Return on average assets 1.07 % 1.15 % 1.09 % 1.02 % 0.92 %
Return on average equity 10.75 % 9.93 % 8.61 % 8.17 % 8.05 %
Dividend payout 47.70 % 45.05 % 53.29 % 61.08 % 67.26 %
Average equity to average
assets 9.92 % 11.57 % 12.72 % 12.42 % 11.39 %
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Net interest income, as indicated below in Table 2, increased by $600,000 or
1.6% to $37,500,000 for the year ended December 31, 2022 . The Corporation's net
interest income on a fully tax equivalent basis increased by $569,000 , or 1.5%
to $39,369,000 in 2022 as compared to $38,800,000 in 2021.
Table 2 - Reconciliation of Taxable Equivalent Net Interest Income
(Dollars in thousands)
2022/2021
Increase/(Decrease)
2022 Amount % 2021
Interest Income $ 46,413 $ 4,365 10.4 $ 42,048
Interest Expense 8,913 3,765 73.1 5,148
Net Interest Income 37,500 600 1.6 36,900
Tax Equivalent Adjustment 1,869 (31) (1.6) 1,900
Net Interest Income (fully tax equivalent)
$ 38,800 24 Table of Contents
Table 3 - Average Balances, Rates and Interest Income and Expense
(Dollars in thousands)
2022 2021
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
Interest Earning Assets:
Loans:
Commercial, net1,2,4 $ 85,022 $ 3,047 3.58 % $ 94,377 $ 2,681 2.84 %
Real Estate1,2 716,896 30,868 4.31 % 637,461 27,427 4.30 %
Consumer, net1,4 5,251 416 7.93 %
5,001 395 7.91 %
Fees on Loans - 1,269 - % - 2,545 - %
Total Loans5 807,169 35,600 4.41 % 736,839 33,048 4.49 %
Securities:
Taxable 297,471 7,449 2.50 % 281,742 5,640 2.00 %
Tax-Exempt1,3 117,414 4,953 4.22 % 129,870 5,084 3.91 %Total Investment Securities 414,885 12,402 2.99 % 411,612 10,724 2.61 %Restricted Investment in Bank Stocks 4,279 264 6.17 % 2,193 96 4.38 % Interest-Bearing Deposits in Other Banks 8,476 16 0.19 % 53,622 80 0.15 % Total Other Interest Earning Assets 12,755 280 2.19 % 55,815 176 0.32 % Total Interest Earning Assets 1,234,809 48,282 3.91 %
1,204,266 43,948 3.65 %
Non-Interest Earning Assets: Cash and Due From Banks 9,528 9,218 Allowance for Loan Losses (9,077) (8,144) Premises and Equipment 19,296 19,448 Other Assets 61,294 53,569
Total Non-Interest Earning Assets 81,041
74,091
Total Assets $ 1,315,850 $ 1,278,357
Interest Bearing Liabilities:
Savings, NOW, Money Markets and
Interest Checking $ 631,217 $ 4,040 0.64 % $ 626,511 $ 1,454 0.23 %
Time Deposits 163,525 1,219 0.75 % 181,459 1,689 0.93 %
Securities Sold U/A to Repurchase 26,825 225 0.84 %
26,352 92 0.35 %
Short-Term Borrowings 60,735 1,710 2.82 % 553 2 0.34 %
Long-Term Borrowings 28,890 628 2.17 % 38,013 817 2.15 %
Subordinated Debentures 25,000 1,091 4.36 % 25,000 1,094 4.38 %Total Interest Bearing Liabilities 936,192 8,913 0.95 %
897,888 5,148 0.57 %
Non-Interest Bearing Liabilities: Demand Deposits 242,010 220,615 Other Liabilities 7,162 11,888 Stockholders' Equity 130,486 147,966 Total Liabilities/Stockholders' Equity$ 1,315,850
Net Interest Income Tax Equivalent$ 39,369
$ 38,800 Net Interest Spread 2.96 % 3.08 % Net Interest Margin 3.19 % 3.22 %
1Tax-exempt income has been adjusted to a tax equivalent basis using an incremental rate of 21% and statutory interest expense disallowance.
2Includes tax equivalent adjustments on tax-free municipal loans of
3Includes tax equivalent adjustments on tax-free municipal securities of
4Installment loans are stated net of unearned interest.
5Average loan balances include non-accrual loans. Interest income on non-accrual
loans is not included.
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NET INTEREST INCOME
The major source of operating income for the Corporation is net interest income.
Net interest income is the difference between interest income on earning assets,
such as loans and securities, and the interest expense on liabilities used to
fund those assets, including deposits and other borrowings. The amount of
interest income is dependent upon both the volume of earning assets and the
level of interest rates. In addition, the volume of non-performing loans affects
interest income. The amount of interest expense varies with the amount of funds
needed to support earning assets, interest rates paid on deposits and borrowed
funds, and finally, the level of interest free deposits.
Table 3 on the preceding page provides a summary of average outstanding balances
of earning assets and interest bearing liabilities with the associated interest
income and interest expense as well as average tax equivalent rates earned and
paid as of year-end 2022 and 2021.
The yield on earning assets was 3.91% in 2022 and 3.65% in 2021. The rate paid
on interest bearing liabilities was 0.95% in 2022 and 0.57% in 2021. This
resulted in a decrease in our net interest spread to 2.96% in 2022, as compared
to 3.08% in 2021.
As Table 3 illustrates, net interest margin, which is interest income less
interest expense divided by average earning assets, was 3.19% in 2022 as
compared to 3.22% in 2021. Net interest margins are presented on a
tax-equivalent basis. In 2022, the yield on earning assets increased by 0.26%
and the rate paid on interest bearing liabilities increased by 0.38%. Yields
increased for a majority of interest earning assets and interest bearing
liabilities during 2022, mainly as a result of the current high interest rate
environment. The yield on loans decreased from 4.49% in 2021 to 4.41% in 2022
mainly due to fewer loan fees earned due to the discontinuation of the SBA PPP
program. The securities portfolio yield increased to 2.99% in 2022 as compared
to 2.61% in 2021. The increase was mainly the result of the elevated rate
environment impacting variable rate securities. The average rate paid on
short-term borrowings increased 2.48% from 0.34% in 2021 to 2.82% in 2022 due to
higher interest rates paid on a significantly higher overnight borrowing
balance. The rate paid on savings, NOW, money market, and interest checking
accounts increased 0.41% from 0.23% to 0.64% and the average rate paid on time
deposits decreased 0.18% from 0.93% to 0.75%. Interest income exempt from
federal tax was $3,771,000 in 2022 and $3,743,000 in 2021. Interest income
exempt from federal tax increased due to the origination of tax-exempt loans.
Tax-exempt income has been adjusted to a tax-equivalent basis using an
incremental rate of 21%.
The decrease in net interest margin at December 31, 2022 compared to December
31, 2021 was primarily due to decreased SBA PPP loan fees and the effect on the
yields on total loans and increased yields on deposits and borrowings in 2022,
as compared to 2021. Fully tax equivalent net interest income increased by
$569,000 or 1.5% to $39,369,000 at December 31, 2022 compared to $38,800,000 at
December 31, 2021 . During 2022, the Federal Reserve increased the federal-funds
rate by 4.25%, resulting in a target range of 4.25% - 4.50%. The Corporation
could experience a decrease in net interest income if market rates remain static
or continue to increase, as the Corporation's net interest income continues to
be liability sensitive. To negate the potential impact of a decreasing net
interest margin, the Corporation will continue to focus on attracting organic
loan growth and lower cost core deposits such as checking, savings, and money
market accounts, thereby further reducing its dependence on higher priced
certificates of deposit and short-term borrowings. The Corporation is actively
monitoring and restructuring its portfolios to become more asset sensitive,
which will allow for better performance in a static or rates-up environment. The
Corporation will continue to evaluate the potential impact of short-term rate
fluctuations in 2023, as well as the slope and position of the yield curve.
Table 4 sets forth changes in interest income and interest expense for the
periods indicated for each category of interest earning assets and interest
bearing liabilities. Information is provided on changes attributable to (i)
changes in volume (changes in average volume multiplied by prior rate); (ii)
changes in rate (changes in average rate multiplied by prior average volume);
and, (iii) changes in rate and volume (changes in average volume multiplied by
changes in average rate).
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In 2022, the increase in net interest income on a fully tax equivalent basis of$569,000 resulted from an increase in volume of$3,137,000 and a decrease of$2,568,000 due to changes in rate.
Table 4 - Rate/Volume Analysis
(Dollars in thousands)
2022 COMPARED TO 2021
VOLUME RATE NET
Interest Income:
Loans, Net $ 3,154 $ (602) $ 2,552
Taxable Securities 315 1,494 1,809
Tax-Exempt Securities (488) 357 (131)
Restricted Investment in Bank Stocks 91 77 168
Other (67) 3 (64)
Total Interest Income $ 3,005 $ 1,329 $ 4,334 Interest Expense
Savings, NOW and Money Markets
(167) (303) (470)
Securities Sold U/A to Repurchase 2 131 133
Short-Term Borrowings 218 1,490 1,708
Long-Term Borrowings (196) 7 (189)
Subordinated Debentures - (3) (3)
Total Interest Expense (132) 3,897 3,765
Net Interest Income $ 3,137 $ (2,568) $ 569
The change in interest due to both volume and rate has been allocated to change
due to volume and change due to rate in proportion to the absolute value of the
change in each. Balances on non-accrual loans are included for computational
purposes. Interest income on non-accrual loans is not included.
PROVISION FOR LOAN LOSSES
For the year endedDecember 31, 2022 , the provision for loan losses resulted in a credit balance of$264,000 as compared to$860,000 expense for the year endedDecember 31, 2021 . The decrease in the provision for loan losses in 2022 as compared to 2021 resulted from excess balances exceeding the required allowance for loan losses that were returned to the provision, along with the Corporation's analysis of the current loan portfolio, including historic losses, past-due trends, current economic conditions, loan portfolio growth, and other relevant factors. The provision for loan losses for the year endedDecember 31, 2022 is also reflective of management's assessment of the continued risk associated with the uncertainty surrounding geopolitical and economic concerns. Charge-off and recovery activity in the allowance for loan losses resulted in net charge-offs of$142,000 and$113,000 for the years endedDecember 31, 2022 and 2021, respectively. See Allowance for Loan Losses on page 35 for further discussion. Gross charge-offs amounted to$206,000 atDecember 31, 2022 , as compared to$158,000 atDecember 31, 2021 . The increased level of charge-offs for the year endedDecember 31, 2022 was mainly due to a charge-off in the amount of$148,000 that was completed during the third quarter of 2022 on a commercial and industrial loan to a residential home builder. The business has ceased operations as a result of financial difficulties; however, this is not suggestive of a regional industry issue. This charge-off contributed to the increased balance of net charge-offs in 2022 over 2021 but was not indicative of a significant change in asset quality in the overall loan portfolio. See Table 11 - Analysis of Allowance for Loan Losses for further details.
The allowance for loan losses as a percentage of average loans outstanding was
1.03% as of
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On a quarterly basis, management performs, and the Corporation's Audit Committee and the Board of Directors review a detailed analysis of the adequacy of the allowance for loan losses. This analysis includes an evaluation of credit risk concentration, delinquency trends, past loss experience, current economic conditions, composition of the loan portfolio, classified loans and other relevant factors. The Corporation will continue to monitor its allowance for loan losses and make future adjustments to the allowance through the provision for loan losses as conditions warrant. Although the Corporation believes that the allowance for loan losses is adequate to provide for losses inherent in the loan portfolio, there can be no assurance that future losses will not exceed the estimated amounts or that additional provisions will not be required in the future. The Corporation is subject to periodic regulatory examination by thePennsylvania Department of Banking and Securities and theFDIC . As part of the examination, the regulators will assess the adequacy of the Corporation's allowance for loan losses and may include factors not considered by the Corporation. In the event that a regulatory examination results in a conclusion that the Corporation's allowance for loan losses is not adequate, the Corporation may be required to increase its provision for loan losses.
NON-INTEREST INCOME
Non-interest income is derived primarily from service charges and fees, ATM fees and debit card income, trust department revenue, increases in the cash surrender value of bank owned life insurance, gains on sales of mortgage loans and other miscellaneous income. In addition, net securities gains and losses also impact total non-interest income. Table 5 provides the yearly non-interest income by category, along with the amount, dollar changes, and percentage of change comparing the last two years.
Non-interest income through
During 2022, net securities (losses) gains decreased$1,169,000 to a net loss of$846,000 . The decrease was due to the Corporation recognizing$726,000 in net losses on the sales of debt and equity securities in 2022. The Corporation also recognized$120,000 in net losses on held equity securities in 2022 due to market valuation fluctuations, as compared to recognizing$319,000 in net gains on held equity securities in 2021. Gains on sales of mortgage loans amounted to a net loss of$7,000 in 2022 as compared to providing income of$980,000 in 2021. The decrease in net (losses) gains on sales of mortgage loans in 2022 was due to a low number of individual loans sold in 2022 along with many of the loans sold in 2022 being sold at a loss. These factors were due to the current rate environment and fewer loans being originated with the intent to sell in 2022. The Corporation continues to service the majority of mortgages which are sold. This servicing income provides an additional source of non-interest income on an ongoing basis. Service charges and fees increased by$279,000 or 14.6% in 2022 as compared to 2021. The increase was due to increased overdraft fees on DDA accounts in 2022 as a result of more accounts in overdraft status. ATM fees and debit card income decreased by$37,000 or 1.7% in 2022 as compared to 2021 due to decreased ATM surcharge fees as the result of decreased transaction volume in 2022. Other income, consisting primarily of safe deposit box rentals, income from the sale of retail non-deposit investment products, and miscellaneous fees, decreased$44,000 , or 13.9% in 2022 as compared to 2021 as the Corporation recognized less annuity income from the sale of retail non-deposit investments in 2022. 28 Table of Contents
Table 5 - Non-Interest Income
(Dollars in thousands) 2022/2021
Increase/(Decrease)
2022 Amount % 2021
Trust department $ 975 $ (33) (3.3) $ 1,008
Service charges and fees 2,193 279 14.6 1,914
Increase in cash surrender value of life
insurance 597 (1) (0.2) 598
ATM fees and debit card income 2,146 (37) (1.7) 2,183
Net (losses) gains on sales of mortgage
loans (7) (987) (100.7) 980
Other 273 (44) (13.9) 317
Subtotal 6,177 (823) (11.8) 7,000
Net securities (losses) gains (846) (1,169) (361.9) 323
Total $ 5,331 $ (1,992) (27.2) $ 7,323
NON-INTEREST EXPENSE
Total non-interest expense amounted to $26,777,000 , an increase of $423,000 , or
1.6% in 2022. Expenses associated with employees (salaries and employee
benefits) continue to be the largest non-interest expenditure. Salaries and
employee benefits amounted to $14,554,000 or 54.4% of total non-interest expense
in 2022 and $14,148,000 or 53.7% in 2021. Salaries and employee benefits
increased $406,000 , or 2.9% in 2022. The increase in 2022 was due to normal
merit increases and new hires, along with an increase in medical insurance costs
in 2022. The number of full-time equivalent employees was 201 as of December 31,
2022 and 198 as of December 31, 2021 .
Net occupancy expense increased $51,000 , or 2.7% in 2022 as compared to 2021.
Net furniture and equipment and computer expense increased $297,000 , or 16.6% in
2022 compared to 2021. The increase in 2022 was due to the implementation of
several new software programs in 2022 to increase data security and efficiency.
Professional services increased $220,000 , or 21.0% in 2022 as compared to 2021.
The higher expense in 2022 was mainly due to an increase in consulting expense
as the result of strategic planning and consulting services associated with
implementing new internal software systems contracts along with normal increases
in annual audit expenses.
Pennsylvania shares tax expense increased $36,000 , or 3.0% in 2022 as compared
to 2021. FDIC insurance expense increased $67,000 , or 15.8% in 2022 as compared
to 2021. FDIC insurance expense varies with changes in net asset size, risk
ratings, and FDIC derived assessment rates.
ATM and debit card fees expense decreased $192,000 , or 17.6% in 2022 as compared
to 2021 due to negotiations of new internal systems contracts resulting in some
lower fees and vendor relationship credits that were applied to the expenses
related to those systems. Data processing fees decreased $285,000 , or 23.8% in
2022 as compared to 2021. This decrease was also the result of the negotiations
of new systems contracts.
Advertising expense decreased $18,000 , or 4.4% in 2022 as compared to 2021.
Other non-interest expense decreased $156,000 , or 4.9% in 2022 as compared to
2021. This decrease was due to a reduction in the provision for unfunded loan
commitments along with less amortization expense related to a limited
partnership that was fully amortized at the beginning of 2022.
The overall level of non-interest expense remains low, relative to the
Corporation's peers (community banks from $1 billion to $3 billion in assets).
The Corporation's total non-interest expense was 2.04% of average assets in 2022
and 2.06% in 2021, which places the Corporation among the leaders in its peer
financial institution categories in controlling non-interest expense.
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Table 6 - Non-Interest Expense
(Dollars in thousands) 2022/2021
Increase/(Decrease)
2022 Amount % 2021
Salaries and employee benefits$ 14,554 $ 406 2.9$ 14,148 Occupancy, net 1,936 51 2.7 1,885 Furniture and equipment 594 24 4.2 570 Computer expense 1,493 273 22.4 1,220 Professional services 1,270 220 21.0 1,050 Pennsylvania shares tax 1,238 36 3.0 1,202 FDIC Insurance 490 67 15.8 423 ATM and debit card fees 899 (192) (17.6) 1,091 Data processing fees 915 (285) (23.8) 1,200
Foreclosed assets held for resale - (3) (100.0)
3 Advertising 389 (18) (4.4) 407 Other 2,999 (156) (4.9) 3,155 Total$ 26,777 $ 423 1.6$ 26,354 INCOME TAX EXPENSE
Income tax expense for the year endedDecember 31, 2022 , was$2,294,000 as compared to$2,321,000 for the year endedDecember 31, 2021 . The effective income tax rate was 14.1% in 2022 and 13.6% in 2021. The increase in the effective tax rate for 2022 was due to slightly lower tax-exempt income and fewer tax credits recognized. The Corporation recognized$249,000 and$405,000 of tax credits from low-income housing partnerships for the years endedDecember 31, 2022 and 2021, respectively.
FINANCIAL CONDITION
GENERAL
Total assets increased to
Total debt securities available-for-sale decreased
Net loans increased in 2022 from
The cash surrender value of bank owned life insurance totaled$25,389,000 atDecember 31, 2022 , an increase of$597,000 or 2.4% from 2021. This increase represents tax-free income included in non-interest income on the consolidated statements of income. Investments in low-income housing partnerships were$3,763,000 at year-end 2022, an increase of 145.9% from year-end 2021. The Corporation became a limited partner in a new real estate venture during 2021 with an initial investment of$435,000 . In 2022, capital contributions in the combined amount of$2,458,000 were made in relation to the new real estate venture. Investing in low-income housing real estate ventures enables the Corporation to recognize tax credits and satisfy Community Reinvestment Act initiatives. As ofDecember 31, 2022 , total deposits amounted to$993,499,000 , a decrease of 7.8% from 2021. The decrease is due to decreases in both non-interest and interest bearing deposits, primarily due to a$70,297,000 decrease in municipal deposits. Core deposits, which include demand deposits and interest bearing demand deposits (NOWs), money market accounts, savings accounts, and time deposits of individuals, continue to be the Corporation's most significant
source of funds.
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The Corporation continues to maintain and manage its asset growth. The
Corporation's strong equity capital position provides an opportunity to further
leverage its asset growth. Short and long-term borrowings increased in 2022 by
$116,041,000 , mainly due to an increase in net loans and a decrease in total
deposits causing an increase in short-term borrowings.
Total stockholders' equity decreased to $120,386,000 at December 31, 2022 , a
decrease of $28,169,000 , primarily due to a decrease in the market value of the
securities portfolio resulting in an accumulated other comprehensive loss
position.
SEGMENT REPORTING
Currently, management measures the performance and allocates the resources of the Corporation as a single segment.
EARNING ASSETS
Earning assets are defined as those assets that produce interest income. By maintaining a healthy asset utilization rate, i.e., the volume of earning assets as a percentage of total assets, the Corporation maximizes income. The earning asset ratio (average interest earning assets divided by average total assets) equaled 93.8% for 2022 compared to 94.2% for 2021. This indicates that the management of earning assets is a priority and non-earning assets, primarily cash and due from banks, fixed assets and other assets, are maintained at minimal levels. The primary earning assets are loans and securities.
SECURITIES
The Corporation uses securities to not only generate interest and dividend revenue, but also to help manage interest rate risk and to provide liquidity to meet operating cash needs.
The securities portfolio consists of debt securities available-for-sale. No securities were established in a trading account. Debt securities available-for-sale decreased$64,472,000 or 14.7% to$373,444,000 in 2022. AtDecember 31, 2022 , the net unrealized loss, net of the tax effect, on these securities was$29,558,000 and was included in stockholders' equity as accumulated other comprehensive (loss) income. Table 7 provides data on the fair value of the Corporation's securities portfolio on the dates indicated. The vast majority of security purchases are allocated as available-for-sale. This provides the Corporation with increased flexibility should there be a need or desire to liquidate a security. The securities portfolio includes,U.S. treasuries,U.S. government corporations and agencies, corporate debt obligations, mortgage-backed securities, asset-backed securities, and obligations of state and political subdivisions, both tax-exempt and taxable. Debt securities available-for-sale may be sold as part of the overall asset and liability management process. Realized gains and losses are reflected in the results of operations on the Corporation's Consolidated Statements of Income. As ofDecember 31, 2022 , the securities portfolio does not contain any off-balance sheet derivatives or trust preferred investments. 31 Table of Contents Table 7 - Securities (Dollars in thousands) Available-For-Sale December 31, 2022 December 31, 2021 U.S. Treasury securities $ 6,801 $ 7,729
U. S. Government corporations and agencies 142,855 122,487 Other mortgage-backed debt securities 33,688 39,550 Obligations of state and political subdivisions 110,689
186,176
Asset-backed securities 36,418 36,542
Corporate debt securities 42,993 45,432
Total $ 373,444 $ 437,916
The amortized cost and fair value of securities, by contractual maturity, are
shown below at December 31, 2022 . Expected maturities will differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
Table 8 - Securities Maturity Table
(Dollars in thousands)
Debt Securities Available-For-Sale
U.S. Government Other Obligations
Corporations & Mortgage of State Asset Corporate
U.S. Treasury Agencies Backed Debt & Political Backed Debt
Securities Obligations1 Securities1 Subdivisions Securities Securities
Within 1 Year:
Amortized cost $ - $ - $ 2,006 $ 1,939 $ - $ 5,032
Fair value - - 1,935 1,928 - 5,066
1 - 5 Years:
Amortized cost 2,886 678 6,471 18,634 - 7,593
Fair value 2,542 670 6,194 17,820 - 7,563
5 - 10 Years:
Amortized cost 4,967 16,994 1,097 26,479 - 33,213
Fair value 4,259 17,098 1,064 23,605 - 30,364
After 10 Years:
Amortized cost - 140,027 27,193 78,124 37,526 -
Fair value - 125,087 24,495 67,336 36,418 -
Total:
Amortized cost $ 7,853 $ 157,699 $ 36,767 $ 125,176 $ 37,526 $ 45,838
Fair value 6,801 142,855 33,688 110,689 36,418 42,993
1Mortgage-backed and asset-backed securities are allocated for maturity reporting at their original maturity date.
Marketable equity securities consist of common stock investments in other commercial banks and bank holding companies. AtDecember 31, 2022 and 2021, the Corporation had$1,699,000 and$1,962,000 , respectively, in equity securities recorded at fair value, a decrease of$263,000 or 13.4%. 32 Table of Contents LOANS
Total loans increased to$858,469,000 as ofDecember 31, 2022 , compared to a balance of$752,841,000 as ofDecember 31, 2021 . Table 9 provides data relating to the composition of the Corporation's loan portfolio on the dates indicated. Total loans increased$105,628,000 , or 14.0% in 2022 compared to an increase of$32,231,000 , or 4.5% in 2021. Steady demand for borrowing by businesses accounted for the 14.0% increase in the loan portfolio fromDecember 31, 2021 toDecember 31, 2022 . Overall, the Commercial and Industrial portfolio (which includes tax-free Commercial and Industrial loans) increased$4,473,000 or 5.4% from$82,526,000 atDecember 31, 2021 to$86,999,000 atDecember 31, 2022 . The increase in the Commercial and Industrial portfolio during the year endedDecember 31, 2022 was attributable to the portion of the Commercial and Industrial portfolio excluding SBA PPP loans which increased$9,254,000 during the year endedDecember 31, 2022 , mainly resulting from$17,072,000 in new loan originations for the year endedDecember 31, 2022 and an increase in utilization of existing Commercial and Industrial lines of credit of$5,067,000 , offset by loan payoffs of$6,238,000 and regular principal payments and other typical fluctuations in the Commercial and Industrial portfolio during the year endedDecember 31, 2022 . This was offset by a reduction of$4,781,000 in the portion of the Commercial and Industrial portfolio attributable to SBA PPP loans, the balance of which decreased from$4,894,000 atDecember 31, 2021 to$113,000 atDecember 31, 2022 , as a result of loan forgiveness. TheCommercial Real Estate portfolio (which includes tax-freeCommercial Real Estate loans) increased$89,895,000 or 17.2% from$521,654,000 atDecember 31, 2021 to$611,549,000 atDecember 31, 2022 . The increase is mainly attributable to new loan originations of$162,459,000 for the year endedDecember 31, 2022 , offset by loan payoffs of$58,616,000 and a decrease in utilization of existingCommercial Real Estate lines of credit of$11,778,000 , along with regular principal payments and other typical amortization in theCommercial Real Estate portfolio during the year endedDecember 31, 2022 .Residential Real Estate loans increased$11,123,000 or 7.8% from$143,383,000 atDecember 31, 2021 to$154,506,000 atDecember 31, 2022 . The increase was mainly the result of$34,329,000 in new loan originations and an increase in utilization of existingResidential Real Estate (Home Equity) lines of credit of$2,644,000 , offset by net loans sold of$3,410,000 , loan payoffs of$16,121,000 (of which$4,734,000 was refinanced with the Bank during the year endedDecember 31, 2022 with new refinanced loan balances included in the new loan origination total), and regular principal payments and other typical amortization in theResidential Real Estate portfolio during the year endedDecember 31, 2022 . Net loans sold for the year endedDecember 31, 2022 consisted of total loans sold during the year endedDecember 31, 2022 of$5,685,000 , offset with loans opened and sold in the same quarter during each quarter of 2022 which amounted to$2,275,000 . The Corporation continues to originate and sell certain long-term fixed rate residential mortgage loans, which conform to secondary market requirements, when the market pricing is favorable. The Corporation derives ongoing income from the servicing of mortgages sold in the secondary market. The Corporation continues its efforts to lend to creditworthy borrowers. Management believes that the loan portfolio is well diversified. The total commercial portfolio was$698,548,000 atDecember 31, 2022 . Of total loans,$611,549,000 or 71.3% were secured by commercial real estate, primarily lessors of residential buildings and dwellings and lessors of non-residential buildings. The Corporation continues to monitor these portfolios.
All loan relationships in excess of
Overall, the portfolio risk profile as measured by loan grade is considered low risk, as$836,405,000 or 97.5% of gross loans are graded Pass;$634,000 or 0.1% are graded Special Mention;$20,301,000 or 2.4% are graded Substandard; and$0 are graded Doubtful. The rating is intended to represent the best assessment of risk available at a given point in time, based upon a review of the borrower's financial statements, credit analysis, payment history with the Bank, credit history and lender knowledge of the borrower. See Note 3 - Loans and Allowance for Loan Losses for risk grading tables.
Overall, non-pass grades decreased to
33
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compared to$796,000 as ofDecember 31, 2021 .Commercial Real Estate non-pass grades decreased to$19,415,000 as ofDecember 31, 2022 as compared to$22,346,000 as ofDecember 31, 2021 .Residential Real Estate and Consumer non-pass grades decreased to$795,000 as ofDecember 31, 2022 , as compared to$1,595,000 as ofDecember 31, 2021 . The decrease inCommercial Real Estate non-pass grades fromDecember 31, 2021 toDecember 31, 2022 is attributable to various fluctuations that transpired in theCommercial Real Estate non-pass grade portfolio throughout 2022. A payoff was completed during the second quarter of 2022 on a Substandard non-accrual loan to a contractor specializing in modular construction that carried a balance of$1,000,000 atDecember 31, 2021 . Additionally, four loans to the owners/operators of an indoor family entertainment complex that were classified as Substandard and carried an aggregate balance of$753,000 atDecember 31, 2021 and one loan to the owner/operator of a multi-unit apartment building that was classified as Special Mention and carried a balance of$729,000 as ofDecember 31, 2021 were upgraded to pass-grade status during the year endedDecember 31, 2022 . There were also$750,000 in principal payments/paydowns made during the fourth quarter of 2022 on a non-performing loan to a student housing holding company that was classified as Substandard at bothDecember 31, 2021 andDecember 31, 2022 .
The Corporation continues to internally underwrite each of its loans to comply with prescribed policies and approval levels established by its Board of Directors.
The classes of the Corporation's loan portfolio net of unearned discount and net deferred loan fees and costs are summarized in Table 9.
Table 9 - Loans
(Dollars in thousands) December 31,
2022 2021 2020 2019 2018
Commercial and Industrial $ 86,999 $ 82,526 $ 91,875 $ 86,712 $ 92,220
Commercial Real Estate 611,549 521,654 466,728 395,801 348,476
Residential Real Estate 154,506 143,383 156,983 159,350 159,741
Consumer 5,415 5,278 5,024 5,869 5,955
Total Loans $ 858,469 $ 752,841 $ 720,610 $ 647,732 $ 606,392 The Corporation's maturity and interest rate sensitivity information related to the loan portfolio is summarized in Table 10.
Table 10 - Loan Maturity and Interest Sensitivity
Loans by Maturity
December 31, 2022
(Dollars in thousands) One Year After One Year After
and Less Through Five Years Five Years Total
Commercial and Industrial $ 11,262 $ 33,338 $ 42,399 $ 86,999
Commercial Real Estate 37,651 137,547 436,351 611,549
Residential Real Estate 8,703 33,942 111,861 154,506
Consumer 1,682 3,113 620 5,415
Total $ 59,298 $ 207,940 $ 591,231 $ 858,469
The above data represents the amount of loans receivable at December 31, 2022
which, based on remaining scheduled repayments of principal, are due in the
periods indicated.
34
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Loans by Repricing
December 31, 2022
(Dollars in thousands) One Year After One Year After
and Less Through Five Years Five Years Total
Commercial and Industrial $ 30,808 $ 43,861 $ 12,330 $ 86,999
Commercial Real Estate 83,905 517,849 9,795 611,549
Residential Real Estate 17,624 31,161 105,721 154,506
Consumer 2,533 2,856 26 5,415
Total $ 134,870 $ 595,727 $ 127,872 $ 858,469
Loans with a fixed interest rate $ 24,727 $ 72,265 $ 112,155 $ 209,147
Loans with a variable interest rate 110,143 523,462 15,717 649,322
Total $ 134,870 $ 595,727 $ 127,872 $ 858,469
The above data represents the amount of loans receivable at December 31, 2022
which are due or have the opportunity to reprice in the periods indicated, based
on remaining scheduled repayments of principal for fixed rate loans or date of
next repricing opportunity for variable rate loans. The fixed and variable
portions of the amounts of loans receivable due or repricing in the periods
indicated are also summarized above.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses constitutes the amount available to absorb losses within the loan portfolio. As ofDecember 31, 2022 , the allowance for loan losses was$8,274,000 as compared to$8,680,000 as ofDecember 31, 2021 . The allowance for loan losses is established through a provision for loan losses charged to expenses. Loans are charged against the allowance for possible loan losses when management believes that the collectability of the principal is unlikely. The risk characteristics of the loan portfolio are managed through various control processes, including credit evaluations of individual borrowers, periodic reviews, and diversification by industry. Risk is further mitigated through the application of lending procedures such as the holding of adequate collateral and the establishment of contractual guarantees. Management performs a quarterly analysis to determine the adequacy of the allowance for loan losses. The methodology in determining adequacy incorporates specific and general allocations together with a risk/loss analysis on various segments of the portfolio according to an internal loan review process. This assessment results in an allocated allowance. Management maintains its loan review and loan classification standards consistent with those of its regulatory supervisory authority. Management considers, based upon its methodology, that the allowance for loan losses is adequate to cover foreseeable future losses. However, there can be no assurance that the allowance for loan losses will be adequate to cover significant losses, if any, that might be incurred in the future. On a quarterly basis, management evaluates the qualitative factors utilized in the calculation of the Corporation's allowance for loan losses and various adjustments are made to these factors as deemed necessary at the time of evaluation. The uncertain economic climate has played a large role in the qualitative factor adjustments that have been implemented throughout 2021 and 2022. Qualitative factors remained unchanged during the first quarter of 2021, as the economy and unemployment levels showed marked improvement over the prior quarter. During the second quarter of 2021, the qualitative factors related to the local/regional economy were decreased by one basis point across all loan segments, as the economy and job growth in the Company's market areas demonstrated marked improvement over the prior quarter, and the qualitative factor related to collateral values was increased by one basis point for both theCommercial Real Estate andResidential Real Estate portfolio segments due to an artificial increase in market values in the real estate sector as individuals' willingness to pay above-average market prices has sparked uncertainty surrounding collateral values in the real estate market. Qualitative factors remained unchanged during the third quarter of 2021. During the fourth quarter of 2021, the qualitative factors related to external factors/conditions were increased by one basis point across all loan segments due to increased inflation rates, as well as elevated unemployment levels (although improved from 2020 and early 2021) and the uncertainty of how broad the changes implemented by theFederal Reserve would be. The qualitative factors related to collateral values were also increased by one basis point across all loan segments during the fourth quarter of 2021, as collateral values continued to artificially increase as individuals were willing to pay above-average market prices in all 35
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sectors. During the first quarter of 2022, the qualitative factors related to the local/regional economy were increased by one basis point across all loan segments due to ongoing economic uncertainty resulting from supply chain disruptions caused by the COVID-19 pandemic, conflicts in foreign countries causing inflationary pressures due to reductions/disruptions in the production of the commodities controlled by these countries, increased interest rates, and the overall inflation rate continuing to rise. During the second quarter of 2022, the qualitative factors remained unchanged. During the third quarter of 2022, the qualitative factors related to the management and review systems components were each decreased by two basis points across all loan segments due to consistency and experience within the Company's management and satisfactory exam results related to the Company's loan review process. During the fourth quarter of 2022, the qualitative factor related to collateral values was decreased by one basis point in the Commercial and Industrial, Tax Free, and Consumer portfolio segments and decreased by two basis points in theCommercial Real Estate andResidential Real Estate portfolio segments, as the artificial increase in market rates related to equipment, commodities, and real estate have begun to subside. The qualitative factor related to delinquency trends was also decreased by one basis point in the Commercial and Industrial,Commercial Real Estate , andResidential Real Estate portfolio segments, as the Corporation's levels of past due loans, non-accrual loans, and charge-offs have been lower in these portfolios in the last two years than in previous years. Modifications granted in compliance with Section 4013 of the CARES Act were highest in theCommercial Real Estate portfolio segment, the long-term effects of which are still very unclear, as there is still uncertainty related to the lagging economic effects of the COVID-19 pandemic, especially in relation to this segment of the Corporation's loan portfolio. Table 11 contains an analysis of the allowance for loan losses indicating charge-offs and recoveries by year. In 2022 and 2021, net charge-offs as a percentage of average loans was 0.02%, respectively. Net charge-offs amounted to$142,000 in 2022 and$113,000 in 2021. Net charge-offs were higher in 2022 than in 2021, mainly due to a charge-off in the amount of$148,000 that was completed during the third quarter of 2022 on a commercial and industrial loan to a residential construction company. The business has ceased operations as a result of financial difficulties. For the year endedDecember 31, 2022 , the provision for loan losses resulted in a credit balance of$264,000 , as compared to$860,000 expense for the year endedDecember 31, 2021 . The net effect of the credit balance of the provision and net charge-offs resulted in the year-end allowance for loan losses of$8,274,000 of which 8.5% was attributed to the Commercial and Industrial component, 71.7% attributed to theCommercial Real Estate component, 18.8% attributed to theResidential Real Estate component, 1.0% attributed to the Consumer component, and 0% being the unallocated component (refer to the activity in Note 3 - Loans and Allowance for Loan Losses on page 74.) The Corporation determined that the provision for loan losses made during 2022 was sufficient to maintain the allowance for loan losses at a level necessary for the probable losses inherent in the loan portfolio as ofDecember 31, 2022 . 36
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Table 11 - Analysis of Allowance for Loan Losses
(Dollars in thousands) Years Ended
As of and for the nine months ended: 2022 2021 2020
2019 2018 Beginning balance$ 8,680 $ 7,933 $ 7,005 $ 6,745 $ 7,487 Charge-offs: Commercial and Industrial 158 13 90 - 18 Commercial Real Estate 3 29 141 64 783 Residential Real Estate 12 80 33 69 181 Consumer 33 36 37 71 57 206 158 301 204 1,039 Recoveries: Commercial and Industrial 3 - 14 6 31 Commercial Real Estate 40 30 - - 60 Residential Real Estate 16 4 8 2 - Consumer 5 11 7 6 6 64 45 29 14 97 Net charge-offs 142 113 272 190 942 Additions (credited) charged to operations (264) 860 1,200 450 200 Balance at end of period$ 8,274 $ 8,680 $ 7,933 $ 7,005 $ 6,745 Ratio of net charge-offs during the period to average loans outstanding 0.02 % 0.02 % 0.04 % 0.03 % 0.16 % during the period Allowance for loan losses to average 1.03 % 1.18 % 1.16 % 1.13 % 1.15 % loans outstanding during the period It is the policy of management and the Corporation's Board of Directors to make a provision for both identified and unidentified losses inherent in its loan portfolio. A provision for loan losses is charged to operations based upon an evaluation of the potential losses in the loan portfolio. This evaluation takes into account such factors as portfolio concentrations, delinquency trends, trends of non-accrual and classified loans, economic conditions, and other relevant factors. The loan review process, which is conducted quarterly, is an integral part of the Bank's evaluation of the loan portfolio. A detailed quarterly analysis to determine the adequacy of the Corporation's allowance for loan losses is reviewed by the Board of Directors. With the Bank's manageable level of net charge-offs and the additions to the reserve from the credit balance of the provision, the allowance for loan losses as a percentage of average loans amounted to 1.03% in 2022 and 1.18% in 2021. Table 12 sets forth the allocation of the Bank's allowance for loan losses by loan category and the percentage of loans in each category to the total allowance for loan losses at the dates indicated. The portion of the allowance for loan losses allocated to each loan category does not represent the total available for future losses that may occur within the loan category, since the total loan loss allowance is a valuation reserve applicable to the entire loan portfolio. 37 Table of Contents
Table 12 - Allocation of Allowance for Loan Losses
(Dollars in thousands)
December 31,
2022 %* 2021 %* 2020 %* 2019 %* 2018 %*
Commercial and $ 704 8.5 $ 681 8.8 $ 787 10.8 $ 634 9.7 $ 724 11.7
Industrial
Commercial 5,932 71.7 5,408 70.1 4,762 65.4 4,116 63.0 3,700 59.8
Real Estate
Residential 1,557 18.8 1,539 20.0 1,643 22.5
1,665 25.5 1,650 26.6
Real Estate
Consumer 81 1.0 84 1.1 94 1.3 114 1.8 117 1.9
Unallocated - N/A 968 N/A 647 N/A 476 N/A 554 N/A
$ 8,274 100.0 $ 8,680 100.0 $ 7,933 100.0 $ 7,005 100.0 $ 6,745 100.0
*Percentage of allocation in each category to total allocations in the Allowance for Loan Loss Analysis, excluding unallocated.
NON-PERFORMING ASSETS
Table 13 details the Corporation's non-performing assets and impaired loans as of the dates indicated. Generally, a loan is classified as non-accrual and the accrual of interest on such a loan is discontinued when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about further collectability of principal or interest. A loan may remain on accrual status if it is in the process of collection and is either guaranteed or well secured. When a loan is placed on non-accrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against current period income. A modification of a loan constitutes a TDR when a borrower is experiencing financial difficulty and the modification constitutes a concession that the Corporation would not otherwise consider. Modifications to loans classified as TDRs generally include reductions in contractual interest rates, principal deferments and extensions of maturity dates at a stated interest rate lower than the current market for a new loan with similar risk characteristics. While unusual, there may be instances of loan principal forgiveness. Any loan modifications made in response to the COVID-19 pandemic are not considered TDRs as long as the criteria set forth in Section 4013 of the CARES Act are met. Foreclosed assets held for resale represent property acquired through foreclosure, or considered to be an in-substance foreclosure. Total non-performing assets amounted to$5,359,000 as ofDecember 31, 2022 , as compared to$7,066,000 as ofDecember 31, 2021 . The economy continues to be unstable. Inflation has receded but remains at a very high level. The war betweenUkraine andRussia is continuing to cause worldwide turmoil. The unemployment rate remains at a low level, but the labor force participation rate also remains at a low level. The need for workers has driven wages up in most sectors. Inflation is causing extreme concerns in all areas of the economy. The war abroad and its effects on various commodities continues to have a negative impact on inflation. Values of new and used homes and automobiles have leveled off. TheFederal Reserve has raised interest rates to not recently seen levels with a commitment for additional increases throughout the coming year until inflation falls back in line with its established guidelines. These forces have had a direct effect on the Corporation's non-performing assets. The Corporation is closely monitoring itsCommercial Real Estate portfolio because of the current uncertain economic environment. Non-accrual loans totaled$5,051,000 as ofDecember 31, 2022 as compared to$7,066,000 as ofDecember 31, 2021 . There were no foreclosed assets held for resale as ofDecember 31, 2022 orDecember 31, 2021 . There were three loans past-due 90 days or more and still accruing interest as ofDecember 31, 2022 which carried an aggregate balance of$308,000 , compared toDecember 31, 2021 when there were no loans past-due 90 days or more and still accruing interest. The loans past-due 90 days or more and still accruing interest as ofDecember 31, 2022 consisted of one commercial real estate loan and two residential real estate loans, all of which were well-secured and in the process of collection. Non-performing assets to total loans was 0.62% as ofDecember 31, 2022 compared to 0.94% atDecember 31, 2021 . Non-performing assets to total assets was 0.40% as ofDecember 31, 2022 compared to 0.54% atDecember 31, 2021 . The allowance for loan losses to total non-performing assets was 154.39% as ofDecember 31, 2022 as compared to 122.84% as ofDecember 31, 2021 . Additional detail can be found in Table 13 - Non-Performing Assets and Impaired 38
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Loans and the Loans Receivable on Non-Accrual Status table in Note 3 - Loans and Allowance for Loan Losses. Asset quality is a priority and the Corporation retains a full-time loan review officer to closely track and monitor overall loan quality, along with a full-time loan workout department to manage collection and liquidation efforts. Performing substandard loans which are not deemed to be impaired have characteristics that cause management to have doubts regarding the ability of the borrower to perform under present loan repayment terms and which may result in reporting these loans as non-performing loans in the future. Performing substandard loans not deemed to be impaired amounted to$10,776,000 atDecember 31, 2022 and$10,463,000 atDecember 31, 2021 . Impaired loans were$11,207,000 atDecember 31, 2022 and$13,673,000 atDecember 31, 2021 . The largest impaired loan relationship atDecember 31, 2022 consisted of a performing loan to a student housing holding company, which was classified as a TDR. The loan is secured by commercial real estate and carried a balance of$2,797,000 atDecember 31, 2022 , net of$943,000 that had been charged-off to date, compared toDecember 31, 2021 when the loan carried a balance of$2,864,000 , net of$943,000 that had been charged-off to date. The second largest impaired loan relationship atDecember 31, 2022 consisted of a non-performing loan to a student housing holding company which is secured by commercial real estate. AtDecember 31, 2022 , the loan carried a balance of$2,340,000 , net of$1,989,000 that had been charged off to date, compared toDecember 31, 2021 when the loan carried a balance of$3,090,000 , net of$1,989,000 that had been charged-off to date. The third largest impaired loan relationship atDecember 31, 2022 consisted of five non-performing loans to a plastic processing company focused on non-post-consumer recycling. Three loans are classified in the Commercial and Industrial portfolio and modified as TDRs and two loans are secured by commercial real estate. The loans carried an aggregate balance of$1,084,000 as ofDecember 31, 2022 , compared toDecember 31, 2021 when the loans carried an aggregate balance of$1,176,000 . The Corporation estimates impairment based on its analysis of the cash flows or collateral estimated at fair value less cost to sell. For collateral dependent loans, the estimated appraisal or other qualitative adjustments and cost to sell percentages are determined based on the market area in which the real estate securing the loan is located, among other factors, and therefore, can differ from one loan to another. Of the$11,207,000 in impaired loans atDecember 31, 2022 , none were located outside the Corporation's primary market area. The outstanding recorded investment of loans categorized as TDRs as ofDecember 31, 2022 andDecember 31, 2021 was$7,480,000 and$8,020,000 , respectively. The decrease in TDRs atDecember 31, 2022 as compared toDecember 31, 2021 is mainly attributable to regular principal payments and paydowns on existing TDRs that were completed during the year endedDecember 31, 2022 . Of the thirty restructured loans atDecember 31, 2022 , four loans were classified in the Commercial and Industrial portfolio, twenty-five loans were classified in theCommercial Real Estate portfolio, and one loan was classified in theResidential Real Estate portfolio. TDRs atDecember 31, 2022 consisted of ten term modifications beyond the original stated term, three interest rate modifications, and sixteen payment modifications. AtDecember 31, 2022 , there was also one troubled debt restructuring that experienced all three types of modification-payment, rate, and term. TDRs are separately evaluated for impairment disclosures, and if necessary, a specific allocation is established. As ofDecember 31, 2022 and 2021, there were no specific allocations attributable to the TDRs. There were no unfunded commitments on TDRs atDecember 31, 2022 and 2021. AtDecember 31, 2022 , three commercial and industrial loans classified as TDRs with a combined recorded investment of$664,000 , and five commercial real estate loans classified as TDRs with a combined recorded investment of$684,000 were not in compliance with the terms of their restructure, compared toDecember 31, 2021 when three commercial and industrial loans classified as TDRs with a combined recorded investment of$708,000 , ten commercial real estate loans classified as TDRs with a combined recorded investment of$590,000 , and one residential real estate loan classified as a TDR with a recorded investment of$14,000 were not in compliance with the terms of their restructure. Of the loans that were modified as TDRs within the twelve months precedingDecember 31, 2022 , no loans experienced payment defaults during the year endedDecember 31, 2022 . Three commercial real estate loans totaling$285,000 that were modified as TDRs within the twelve months precedingDecember 31, 2021 experienced payment defaults during the year endedDecember 31, 2021 . 39
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The Corporation's non-accrual loan valuation procedure for any loans greater than$250,000 requires an appraisal to be obtained and reviewed annually at year end, unless the Board of Directors waives such requirement for a specific loan, in favor of obtaining a Certificate of Inspection instead, defined as an internal evaluation completed by the Corporation. A quarterly collateral evaluation is performed which may include a site visit, property pictures and discussions with realtors and other similar business professionals to ascertain current values. For non-accrual loans less than$250,000 upon classification and typically at year end, the Corporation completes a Certificate of Inspection, which includes the results of an onsite inspection, and may consider value indicators such as insured values, tax assessed values, recent sales comparisons and a review of the previous evaluations. Improving loan quality is a priority. The Corporation actively works with borrowers to resolve credit problems and will continue its close monitoring efforts in 2023. Excluding the assets disclosed in Table 13 - Non-Performing Assets and Impaired Loans and the Troubled Debt Restructurings section in Note 3 - Loans and Allowance for Loan Losses, management is not aware of any information about borrowers' possible credit problems which cause serious doubt as to their ability to comply with present loan repayment terms. In addition, regulatory authorities, as an integral part of their examinations, periodically review the allowance for possible loan losses. They may require additions to allowances based upon their judgments about information available to them at the time of examination. The economic climate remains in a very frail state. The war betweenUkraine andRussia has exacerbated the difficulties in the national and state economy and experts at all levels are attempting to calculate the intermediate or long term affects. The Corporation may experience difficulties collecting payments on time from its borrowers, and certain types of loans may need to be modified, which could cause a rise in the level of impaired loans, non-performing assets, charge-offs, and delinquencies. Should such metrics increase, additions to the balance of the Corporation's allowance for loan losses could be required. The extent of the impact of these stressors on the Corporation's operational and financial performance will depend on certain developments including inflationary controls enacted, the labor force, supply bottlenecks, the longevity of the war, and the effectiveness in controlling the lingering effects of the COVID-19 outbreak, etc. and the after-effects of these factors. These factors may not immediately impact the Corporation's operational and financial performance, as the effects of these factors may lag into the future. The Corporation is also susceptible to the impact of economic and fiscal policy factors that may evolve in the post-pandemic environment. A concentration of credit exists when the total amount of loans to borrowers, who are engaged in similar activities that are similarly impacted by economic or other conditions, exceed 10% of total loans. As ofDecember 31, 2022 and 2021 management is of the opinion that there were no loan concentrations exceeding 10% of total loans. 40 Table of Contents
Table 13 - Non-Performing Assets and Impaired Loans
(Dollars in thousands) December 31,
2022 2021
Non-performing assets
Non-accrual loans $ 5,051 $ 7,066 Foreclosed assets held for resale -
-
Loans past-due 90 days or more and still accruing interest 308
-
Total non-performing assets$ 5,359 $
7,066 Impaired loans Non-accrual loans$ 5,051 $ 7,066 Accruing TDRs 6,156 6,607 Total impaired loans 11,207 13,673
Allocated allowance for loan losses -
-
Net investment in impaired loans$ 11,207 $
13,673
Impaired loans with a valuation allowance $ - $
-
Impaired loans without a valuation allowance 11,207
13,673
Total impaired loans$ 11,207 $
13,673
Allocated valuation allowance as a percent of impaired loans - % - % Impaired loans to total loans 1.31 % 1.81 % Non-performing assets to total loans 0.62 % 0.94 % Non-performing assets to total assets 0.40 % 0.54 % Allowance for loan losses to impaired loans 73.83 % 63.48 % Allowance for loan losses to total non-performing assets 154.39 %
122.84 %
Real estate mortgages comprise 89.2% of the loan portfolio as ofDecember 31, 2022 , as compared to 88.3% as ofDecember 31, 2021 . Real estate mortgages consist of both residential and commercial real estate loans. The real estate loan portfolio is well diversified in terms of borrowers, collateral, interest rates, and maturities. Also, the residential real estate loan portfolio is largely comprised of fixed rate mortgages. The real estate loans are concentrated primarily in the Corporation's market area and are subject to risks associated with the local economy. The commercial real estate loans typically reprice approximately every three to five years and are also concentrated in the Corporation's market area. The Corporation's loss exposure on its impaired loans continues to be mitigated by collateral positions on these loans. The allocated allowance for loan losses associated with impaired loans is generally computed based upon the related collateral value of the loans. The collateral values are determined by recent appraisals or Certificates of Inspection, but are generally discounted by management based on historical dispositions, changes in market conditions since the last valuation and management's expertise and knowledge of the borrower and the borrower's business.
DEPOSITS, OTHER BORROWED FUNDS AND SUBORDINATED DEBT
Consumer and commercial retail deposits are attracted primarily by the Corporation's eighteen full service office locations, one loan production office, and through its internet banking presence. The Corporation offers a broad selection of deposit products and continually evaluates its interest rates and fees on deposit products. The Corporation regularly reviews competing financial institutions' interest rates, especially when establishing interest rates on certificates of deposit. Deposits decreased by$84,470,000 , or 7.8% for the year endingDecember 31, 2022 as compared toDecember 31, 2021 . The decrease in deposits in 2022 can be attributed to decreases in non-interest bearing, interest bearing, savings and time deposits. The decrease in deposits was mainly the result of a$70,297,000 decrease in municipal deposits and other normal fluctuations in deposits during 2022. 41 Table of Contents
The following schedule reflects the remaining maturities of time deposits and
other time open deposits of
(Dollars in thousands) Time Other Time Open
Deposits Deposits
?$100,000 ?$100,000
Less than or equal to 3 months $ 6,487 $ 855
Over 3 months through 6 months 8,558 -
Over 6 months through 12 months 21,976 -
Over 12 months 19,831 -
$ 56,852 $ 855
Total borrowings were $178,418,000 as of December 31, 2022 , compared to
$62,377,000 at December 31, 2021 . During 2022, long-term borrowings decreased
from $35,000,000 to $25,000,000 . The decrease in long-term borrowings in 2022
was the result of the maturity of one individual term note with FHLB.
Short-term debt increased from $27,377,000 in 2022 to $153,418,000 as of
December 31, 2022 as a result of decreased deposit balances and growth in the
loan portfolio. Short-term borrowings are comprised of federal funds purchased,
securities sold under agreements to repurchase, Federal Discount Window and
short-term borrowings from FHLB. Short-term borrowings from FHLB are commonly
used to offset seasonal fluctuations in deposits.
In connection with FHLB borrowings, Federal Discount Window, and securities sold under agreements to repurchase, the Corporation maintains certain eligible assets as collateral.
The following table shows information about the Corporation's short-term
borrowings as of
Table 14 - Short-Term Borrowings
(Dollars in thousands)
2022
Maximum
Period End Average Month End Average
Balance Balance Balance Rate
Federal funds purchased $ - $ 13 $ - - %Securities sold under agreements to repurchase 20,368 26,825
30,868 0.84 %
Federal Discount Window - 3 - 2.78 %
Federal Home Loan Bank 133,050 60,719 133,050 2.82 %
$ 153,418 $ 87,560 $ 163,918 2.21 %
(Dollars in thousands)
2021
Maximum
Period End Average Month End Average
Balance Balance Balance Rate
Federal funds purchased $ - $ - $ - 0.36 %Securities sold under agreements to repurchase 27,377 26,352
29,853 0.35 %
Federal Discount Window - - - 0.36 %
Federal Home Loan Bank - 553 770 0.34 %
$ 27,377 $ 26,905 $ 30,623 0.35 %
On December 10, 2020 , the Corporation issued $25,000,000 aggregate principal
amount of Subordinated Notes due December 31, 2030 (the "2020 Notes"). The 2020
Notes are intended to be treated as Tier 2 capital for regulatory capital
purposes. The 2020 Notes bear a fixed interest rate of 4.375% per year for the
first five years and then float based on a benchmark rate (as defined).
42
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CAPITAL STRENGTH
Normal increases in capital are generated by net income, less cash dividends
paid out. Also, the net unrealized gains or losses on debt securities
available-for-sale, net of taxes, referred to as accumulated other comprehensive
(loss) income, may increase or decrease total equity capital. The total net
decrease in capital was $28,169,000 in 2022 after an increase of $4,313,000 in
2021. The decrease in equity capital in 2022 was due to a decrease in
accumulated other comprehensive (loss) income of $37,146,000 in 2022 as a result
of market fluctuations in the securities portfolio offset by the retention of
$7,334,000 in earnings and the issuance of new shares through the Corporation's
Dividend Reinvestment Program ("DRIP") amounting to $1,643,000 .
The Corporation had 231,611 and 231,612 shares of common stock as of
Return on average equity ("ROE") is computed by dividing net income by average stockholders' equity. This ratio was 10.75% for 2022 and 9.93% for 2021.
Adequate capitalization of banks and bank holding companies is required and monitored by regulatory authorities. Table 15 reflects risk-based capital ratios and the leverage ratio for the Bank. The Bank's leverage ratio was 10.38% atDecember 31, 2022 and 10.14% atDecember 31, 2021 . The Bank has consistently maintained regulatory capital ratios at or above the "well capitalized" standards. To be categorized as "well capitalized", the Bank must maintain minimum tier 1 risk-based capital, common equity tier 1 risk based capital, total risk-based capital and tier 1 leverage ratios of 8.0%, 6.5%, 10.0% and 5.0%, respectively. For additional information on capital ratios, see Note 13 - Regulatory Matters. The risk-based capital calculation assigns various levels of risk to different categories of bank assets, requiring higher levels of capital for assets with more risk. Also measured in the risk-based capital ratio is credit risk exposure associated with off-balance sheet contracts and commitments. Table 15 - Capital Ratios AtDecember 31, 2022 , the Bank met the definition of a "well-capitalized" institution under the regulatory framework for prompt corrective action and the minimum capital requirements under Basel III. The following table presents the Bank's capital ratios as ofDecember 31, 2022 andDecember 31, 2021 : To Be Well Capitalized Under Prompt December 31, December 31, Corrective Action 2022 2021 Regulations Tier 1 leverage ratio (to average assets) 10.38 % 10.14 % 5.00 % Common Equity Tier 1 capital ratio (to risk-weighted assets) 15.24 % 15.52 % 6.50 % Tier 1 risk-based capital ratio (to risk-weighted assets) 15.24 % 15.52 % 8.00 % Total risk-based capital ratio 16.15 % 16.57 % 10.00 % Under the final capital rules that became effective onJanuary 1, 2015 , there was a requirement for a common equity tier 1 capital conservation buffer of 2.5% of risk-weighted assets which is in addition to the other minimum risk-based capital standards in the rule. Institutions that do not maintain this required capital buffer will become subject to progressively more stringent limitations on the percentage of earnings that can be paid out in dividends or used for stock repurchases and on the payment of discretionary bonuses to senior executive management. The capital buffer requirement was phased in over three years beginning in 2016. The capital buffer requirement effectively raises the minimum required common equity tier 1 capital ratio to 7.0%, the tier 1 capital ratio to 8.5%, and the total capital ratio to 10.5% on a fully phased-in basis onJanuary 1, 2019 . As ofDecember 31, 2022 , the Bank meets all capital adequacy requirements under the Basel III Capital Rules on a fully phased-in basis. The Corporation's capital ratios are not materially different than those of the Bank. 43 Table of Contents LIQUIDITY MANAGEMENT The Corporation's objective is to maintain adequate liquidity to meet funding needs at a reasonable cost and provide contingency plans to meet unanticipated funding needs or a loss of funding sources, while minimizing interest rate risk. Adequate liquidity is needed to provide the funding requirements of depositors' withdrawals, loan growth, and other operational needs.
Sources of liquidity are as follows:
? Growth in the core deposit base;
? Proceeds from sales or maturities of securities;
? Payments received on loans and mortgage-backed and asset-backed securities;
? Overnight correspondent bank borrowings on various credit lines, notes, etc.,
with various levels of capacity;
? Securities sold under agreements to repurchase; and
? Brokered CDs.
AtDecember 31, 2022 , the Corporation had$495,974,000 in available borrowing capacity at FHLB (inclusive of the outstanding balances of FHLB long-term notes, FHLB short-term borrowings and irrevocable standby letters of credit issued by FHLB); the maximum borrowing capacity at ACBB was$15,000,000 and the maximum borrowing capacity of the Federal Discount Window was$2,235,000 . The Corporation enters into "Repurchase Agreements" in which it agrees to sell securities subject to an obligation to repurchase the same or similar securities. Because the agreement both entitles and obligates the Corporation to repurchase the assets, the Corporation may transfer legal control of the securities while still retaining effective control. As a result, the repurchase agreements are accounted for as collateralized financing agreements (secured borrowings) and act as an additional source of liquidity. Securities sold under agreements to repurchase were$20,368,000 atDecember 31, 2022 . Asset liquidity is provided by securities maturing in one year or less, other short-term investments, federal funds sold, and cash and due from banks. The liquidity is augmented by repayment of loans and cash flows from mortgage-backed and asset-backed securities. Liability liquidity is accomplished primarily by maintaining a core deposit base, acquired by attracting new deposits and retaining maturing deposits. Also, short-term borrowings provide funds to meet liquidity needs. Net cash flows provided by operating activities were$16,528,000 and$15,255,000 as ofDecember 31, 2022 andDecember 31, 2021 , respectively. Net income amounted to$14,024,000 for the year endedDecember 31, 2022 and$14,688,000 for the year endedDecember 31, 2021 . The (credit) provision for loan losses resulted in a credit balance of$264,000 for the year endedDecember 31, 2022 and a provision balance of$860,000 for the year endedDecember 31, 2021 . During the years endedDecember 31, 2022 and 2021, net premium amortization on securities amounted to$3,008,000 and$2,930,000 , respectively. Net losses on sales of mortgage loans were$7,000 as ofDecember 31, 2022 , compared to net gains on sales of mortgage loans of$980,000 as ofDecember 31, 2021 . Originations of mortgage loans originated for resale exceeded proceeds (including gains) from sales of mortgage loans originated for resale by$2,168,000 and$1,404,000 for the years endedDecember 31, 2022 and 2021, respectively. Net securities losses were$846,000 for the year endedDecember 31, 2022 , compared to net securities gains of$323,000 for the year endedDecember 31, 2021 . Accrued interest payable increased by$312,000 during the year endedDecember 31, 2022 and decreased by$154,000 during the year endedDecember 31, 2021 . Other assets increased by$342,000 and$1,554,000 during the years endedDecember 31, 2022 and 2021, respectively. Other liabilities increased by$321,000 during the year endedDecember 31, 2022 , compared to an increase of$305,000 during the year endedDecember 31, 2021 . Investing activities used cash of$93,634,000 and$111,345,000 during the years endedDecember 31, 2022 and 2021, respectively. Net activity in the available-for-sale securities portfolio (including proceeds from sale, maturities, and redemptions, net against purchases) provided cash of$19,295,000 during the year endedDecember 31, 2022 and used cash of$80,814,000 during the year endedDecember 31, 2021 . Net change in restricted investment in bank stocks 44 Table of Contents used cash of$5,217,000 during the year endedDecember 31, 2022 and provided cash of$328,000 during the year endedDecember 31, 2021 . Net cash used to originate loans amounted to$103,609,000 and$29,960,000 during the years endedDecember 31, 2022 and 2021, respectively. Purchase of premises and equipment used cash of$1,892,000 and$492,000 during the years endedDecember 31, 2022 and 2021, respectively. Purchase of investment in real estate ventures used cash of$2,458,000 and$435,000 during the years endedDecember 31, 2022 and 2021, respectively. Financing activities provided cash of$26,506,000 and$133,248,000 during the years endedDecember 31, 2022 and 2021, respectively. Deposits decreased by$87,470,000 during the year endedDecember 31, 2022 and increased by$140,481,000 during the year endedDecember 31, 2021 . Short-term borrowings increased by$126,041,000 during the year endedDecember 31, 2022 and increased by$7,883,000 during the year endedDecember 31, 2021 . Repayment of long-term borrowings amounted to$10,000,000 for both the years endedDecember 31, 2022 and 2021, respectively. Dividends paid amounted to$6,690,000 for the year endedDecember 31, 2022 , compared to$6,617,000 for the year endedDecember 31, 2021 . Managing liquidity remains an important segment of asset/liability management. The overall liquidity position of the Corporation is maintained by an active asset/liability management committee. The Corporation believes that its core deposit base is stable even in periods of changing interest rates. Liquidity and funds management are governed by policies and measured on a monthly basis. These measurements indicate that liquidity generally remains stable and exceeds the Corporation's minimum defined levels of adequacy. Other than the trends of continued competitive pressures and volatile interest rates, there are no known demands, commitments, events or uncertainties that will result in, or that are reasonably likely to result in, liquidity increasing or decreasing in any material way. Given our financial strength, we expect to be able to maintain adequate liquidity as we manage through the current environment, utilizing current funding options and possibly utilizing new options.
Table 16 represents scheduled maturities of the Corporation's contractual
obligations by time remaining until maturity as of
Table 16 - Contractual Obligations
(Dollars in thousands)
Less than 1 - 3 4 -5 Over
December 31, 2022 1 Year Years Years 5 Years Total
Time deposits $ 99,132 $ 55,511 $ 11,457 $ - $ 166,100
Securities sold under agreement
to repurchase 20,368 - - - 20,368
Short-term borrowings 133,050 - - - 133,050
Long-term borrowings 3,000 20,000 - 2,000 25,000
Subordinated debentures - - - 25,000 25,000
Operating lease obligations 175 280 294 2,474 3,223
Financing lease obligations 7 - - - 7
$ 255,732 $ 75,791 $ 11,751 $ 29,474 $ 372,748 Off-Balance Sheet Arrangements
The Corporation is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and, to a lesser extent, standby letters of credit. AtDecember 31, 2022 , the Corporation had outstanding unfunded commitments to extend credit of$121,938,000 and outstanding standby letters of credit of$5,596,000 . 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. Please refer to Note 14 - Financial Instruments with Off-Balance Sheet Risk and Concentrations of Credit Risk for a discussion of the nature, business purpose, and importance of the Corporation's off-balance sheet arrangements. 45 Table of Contents MARKET RISK Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to changes in interest rates, exchange rates and equity prices. The Corporation's market risk is composed primarily of interest rate risk. The Corporation's interest rate risk results from timing differences in the repricing of assets, liabilities, off-balance sheet instruments, and changes in relationships between rate indices and the potential exercise of explicit or embedded options. Increases in the level of interest rates also may adversely affect the fair value of the Corporation's securities and other earning assets. Generally, the fair value of fixed-rate instruments fluctuates inversely with changes in interest rates. As a result, increases in interest rates could result in decreases in the fair value of the Corporation's interest-earning assets, which could adversely affect the Corporation's results of operations if sold, or, in the case of interest-earning assets classified as available-for-sale, the Corporation's stockholders' equity, if retained. Under FASB Accounting Standards Codification ("ASC") 320-10, Investments -Debt Securities , changes in the unrealized gains and losses, net of taxes, on debt securities classified as available-for-sale are reflected in the Corporation's stockholders' equity. The Corporation does not own any trading assets.
Asset/Liability Management
The principal objective of asset/liability management is to manage the sensitivity of the net interest margin to potential movements in interest rates and to enhance profitability through returns from managed levels of interest rate risk. The Corporation actively manages the interest rate sensitivity of its assets and liabilities. Table 17 presents an interest sensitivity analysis of assets and liabilities as ofDecember 31, 2022 . Several techniques are used for measuring interest rate sensitivity. Interest rate risk arises from the mismatches in the repricing of assets and liabilities within a given time period, referred to as a rate sensitivity gap. If more assets than liabilities mature or reprice within the time frame, the Corporation is asset sensitive. This position would contribute positively to net interest income in a rising rate environment. Conversely, if more liabilities mature or reprice, the Corporation is liability sensitive. This position would contribute positively to net interest income in a falling rate environment. Limitations of interest rate sensitivity gap analysis as illustrated in Table 17 include: a) assets and liabilities which contractually reprice within the same period may not, in fact, reprice at the same time or to the same extent; b) changes in market interest rates do not affect all assets and liabilities to the same extent or at the same time, and c) interest rate sensitivity gaps reflect the Corporation's position on a single day (December 31, 2022 in the case of the following schedule) while the Corporation continually adjusts its interest sensitivity throughout the year. The Corporation's cumulative gap at one year indicates the Corporation is liability sensitive atDecember 31, 2022 .
Table 17 - Interest Rate Sensitivity Analysis
(Dollars in thousands)
December 31, 2022
One 1 - 5 Beyond Not Rate
Year Years 5 Years Sensitive Total
Assets $ 143,737 $ 480,432 $ 645,263 $ 59,762 $ 1,329,194 Liabilities/Stockholders' Equity 527,544 181,078 472,780
147,792 1,329,194
Interest Rate Sensitivity Gap $ (383,807) $ 299,354 $ 172,483 $ (88,030)
Cumulative Gap $ (383,807) $ (84,453) $ 88,030 -
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Earnings at Risk
The Bank's Asset/Liability Committee ("ALCO") is responsible for reviewing the
interest rate sensitivity position and establishing policies to monitor and
limit exposure to interest rate risk. The guidelines established by ALCO are
reviewed by the Corporation's Board of Directors. The Corporation recognizes
that more sophisticated tools exist for measuring the interest rate risk in the
balance sheet beyond interest rate sensitivity gap. Although the Corporation
continues to measure its interest rate sensitivity gap, the Corporation utilizes
additional modeling for interest rate risk in the overall balance sheet.
Earnings at risk and economic values at risk are analyzed.
Earnings simulation modeling addresses earnings at risk and net present value
estimation addresses economic value at risk. While each of these interest rate
risk measurements has limitations, taken together they represent a reasonably
comprehensive view of the magnitude of interest rate risk to the Corporation.
Earnings Simulation Modeling
The Corporation's net income is affected by changes in the level of interest rates. Net income is also subject to changes in the shape of the yield curve. For example, a flattening of the yield curve would result in a decline in earnings due to the compression of earning asset yields and increased liability rates, while a steepening would result in increased earnings as earning asset and liability yields widen. Earnings simulation modeling is the primary mechanism used in assessing the impact of changes in interest rates on net interest income. The model reflects management's assumptions related to asset yields and rates paid on liabilities, deposit sensitivity, size and composition of the balance sheet. The assumptions are based on what management believes at that time to be the most likely interest rate environment. Earnings at risk is the change in net interest income from a base case scenario under various scenarios of rate shock increases and decreases in the interest rate earnings simulation model. Table 18 presents an analysis of the changes in net interest income and net present value of the balance sheet resulting from various immediate shock increases or decreases in the level of interest rates, such as two percentage points (200 basis points) in the level of interest rates. The calculated estimates of change in net interest income and net present value of the balance sheet are compared to current limits approved by ALCO and the Board of Directors. The earnings simulation model projects net interest income would decrease 13.12%, 25.38% and 36.53% in the 100, 200 and 300 basis point increasing rate scenarios presented. In addition, the earnings simulation model projects net interest income would increase 10.96% and 19.00% in the 100 and 200 basis point decreasing rate scenarios presented, respectively. All of these forecasts are within the Corporation's one year policy guidelines, aside from the 200 basis point immediate increase scenario at (25.38)% vs. the policy limit of (20.00)% and the 300 basis point immediate increase scenario at (36.53)% vs. the policy limit of (25.00)%. The analysis and model used to quantify the sensitivity of net interest income becomes less reliable in a decreasing rate scenario given the current interest rate environment with federal funds trading in the 425 - 450 basis point range and many deposit accounts still lagging at markedly lower rates. Results of the decreasing basis point declining scenarios are affected by the fact that many of the Corporation's interest-bearing liabilities are at rates below 1% and therefore likely may not decline 100 or more basis points. However, the Corporation's interest-sensitive assets are able to decline by these amounts. For the years endedDecember 31, 2022 and 2021, the cost of interest-bearing liabilities averaged 0.95% and 0.57%, respectively, and the yield on average interest-earning assets, on a fully taxable equivalent basis, averaged 3.91% and 3.65%, respectively.
Net Present Value Estimation
The net present value measures economic value at risk and is used for helping to determine levels of risk at a point in time present in the balance sheet that might not be taken into account in the earnings simulation model. The net present value of the balance sheet is defined as the discounted present value of asset cash flows minus the discounted present value of liability cash flows. AtDecember 31, 2022 , net present value is projected to decrease 3.99%, 10.65%, and 19.17% in the 100, 200 and 300 basis point immediate increase scenarios, respectively. Additionally, the 100 and 47
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200 basis point immediate decreases in rates are estimated to affect net present value with a decrease of 1.60% and 13.45%, respectively. All scenarios presented are within the Corporation's policy limits. The computation of the effects of hypothetical interest rate changes are based on many assumptions. They should not be relied upon solely as being indicative of actual results, since the computations do not account for actions management could undertake in response to changes in interest rates.
Table 18 - Effect of Change in Interest Rates
Projected Change
Effect on Net Interest Income
1-Year Net Income Simulation Projection
+300 bp Shock vs. Stable Rate (36.53) %
+200 bp Shock vs. Stable Rate (25.38) %
+100 bp Shock vs. Stable Rate (13.12) %
Flat rate
-100 bp Shock vs. Stable Rate 10.96 %
-200 bp Shock vs. Stable Rate 19.00 %
Effect on Net Present Value of Balance Sheet
Static Net Present Value Change
+300 bp Shock vs. Stable Rate (19.17) %
+200 bp Shock vs. Stable Rate (10.65) %
+100 bp Shock vs. Stable Rate (3.99) %
Flat rate
-100 bp Shock vs. Stable Rate (1.60) %
-200 bp Shock vs. Stable Rate (13.45) %
Table 19 shows the quarterly results of operations for the Corporation for the
years ended
Table 19 - Quarterly Results of Operations (Unaudited)
(Dollars in thousands, except per share data)
Three Months Ended
2022 March 31 June 30 September 30 December 31
Interest income $ 10,629 $ 11,111 $ 11,897 $ 12,776
Interest expense 1,173 1,330 2,378 4,032
Net interest income 9,456 9,781 9,519 8,744Provision (credit) for loan losses 219 218
219 (920)
Non-interest income 1,389 1,514 1,493 935
Non-interest expense 6,516 6,595 6,711 6,955Income before income tax expense 4,110 4,482
4,082 3,644
Income tax expense 567 660 578 489
Net income $ 3,543 $ 3,822 $ 3,504 $ 3,155 Basic and diluted earnings per share$ 0.60 $ 0.64 $
0.58 $ 0.53
48
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(Dollars in thousands, except per share data)
Three Months Ended
2021 March 31 June 30 September 30 December 31
Interest income $ 10,275 $ 10,259 $ 10,716 $ 10,798
Interest expense 1,305 1,288 1,283 1,272
Net interest income 8,970 8,971 9,433 9,526
Provision for loan losses 135 135 185 405
Non-interest income 1,875 1,865 1,697 1,886
Non-interest expense 6,197 6,547 6,267 7,343Income before income tax expense 4,513 4,154
4,678 3,664
Income tax expense 635 549 655 482
Net income $ 3,878 $ 3,605 $ 4,023 $ 3,182 Basic and diluted earnings per share$ 0.66 $ 0.61 $
0.68
Critical Accounting Estimates
The Corporation has chosen accounting policies that it believes are appropriate to accurately and fairly report its operating results and financial position, and the Corporation has applied those policies in a consistent manner. The preparation of financial statements in conformity with accounting principles generally accepted inthe United States of America require that the Corporation make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are based on historical or other factors believed to be reasonable under the circumstances. The Corporation evaluates these estimates and assumptions on an ongoing basis and may retain outside consultants, lawyers and actuaries to assist in its evaluation. These estimates, assumptions and judgments are based on information available as of the date of the consolidated financial statements; accordingly, as this information changes, the consolidated financial statements could reflect different estimates, assumptions and judgments. The Corporation considers three accounting policies to be critical because they involve the most significant judgments and estimates used in preparation of its consolidated financial statements. The three policies are the determination of other-than-temporary impairment of securities, the determination of the allowance for loan losses, and the assessment of goodwill for possible impairment. Other-Than-Temporary Impairment of Securities. Valuations for the securities portfolio are determined using quoted market prices, where available. If quoted market prices are not available, securities valuation is based on pricing models, quotes for similar securities, and observable yield curves and spreads. In addition to valuation, management must assess whether there are any declines in value below the carrying value of the securities that should be considered other than temporary or otherwise require an adjustment in carrying value and recognition of the loss in the Corporation's Consolidated Statements of Income. Allowance for Loan Losses. The allowance for loan losses represents management's estimate of probable credit losses inherent in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the Corporation's Consolidated Balance Sheets.Goodwill .Goodwill represents the excess purchase consideration over the fair value of net assets acquired in connection with acquisitions.Goodwill is not amortized but is periodically evaluated for impairment. Impairment testing is performed using either a qualitative or quantitative approach. The Corporation has selectedDecember 31 as the date to perform the annual goodwill impairment test. Additionally, a goodwill impairment evaluation is performed on an interim basis when events or circumstances indicate impairment potentially exists. 49
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not required.
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