NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 – BASIS OF PRESENTATION AND NATURE OF OPERATIONS
Basis of Presentation
The Consolidated Financial Statements include the accounts of The Community Financial Corporation and its wholly-owned subsidiary, Community Bank of the Chesapeake (the “Bank”), (collectively, the “Company”), included herein are unaudited.
The Consolidated Financial Statements reflect all adjustments consisting only of normal recurring accruals that, in the opinion of management, are necessary to present fairly the Company’s financial condition, results of operations, and cash flows for the periods presented. Certain information and note disclosures normally included in Consolidated Financial Statements prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP") have been condensed or omitted pursuant to the rules and regulations of the SEC. Management believes that the included disclosures are adequate to make the information presented not misleading. The balances as of December 31, 2021 have been derived from audited Consolidated Financial Statements. The Company’s accounting policies are disclosed in the 2021 Annual Report included in Note 1, as well as the adoption of the new Current Expected Credit Loss ("CECL") accounting standard that is described below. The results of operations for the three months March 31, 2022 are not necessarily indicative of the results of operations to be expected for the remainder of the year or any other period.
These Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and notes included in the Company’s 2021 Annual Report on Form 10-K.
Reclassification
Certain items in prior Consolidated Financial Statements have been reclassified to conform to the current presentation.
Nature of Operations
The Company provides financial services to individuals and businesses through its offices in Southern Maryland, and Fredericksburg, Virginia. Its primary deposit products are demand, savings and time deposits, and its primary lending products are commercial and residential mortgage loans, commercial loans, construction and land development loans, home equity and second mortgages and commercial equipment loans.
Use of Estimates
The preparation of Consolidated 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 disclosure of contingent assets and liabilities as of the date of the Consolidated Financial Statements and the reported amount of income and expenses during the reporting periods. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for credit losses ("ACL"), real estate acquired in the settlement of loans ("OREO"), fair value of financial instruments, fair value of assets acquired and liabilities assumed in a business combination, evaluating other-than-temporary-impairment ("OTTI") of investment securities and valuation of deferred tax assets.
New Accounting Policy
Allowance for Credit Losses
On January 1, 2022, the Company adopted ASU 2016-13 "Financial Instruments - Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments, which replaced the incurred loss methodology for determining the provision for credit losses and ACL with the CECL methodology. The measurement of expected credit losses under the CECL methodology applies to financial assets subject to credit losses and measured at amortized cost, and certain off-balance sheet credit exposures. This includes, but is not limited to, loans, leases, held-to-maturity securities, loan commitments, and financial guarantees. In addition, ASU 2016-13 made changes to the accounting for available-for-sale ("AFS") debt securities. Credit-related impairments of AFS debt securities are now recognized through an allowance for credit loss rather than a write-down of the securities amortized cost basis when management does not intend to sell or believes that it is not likely that they will be required to sell the securities prior to recovery of the securities amortized cost basis.
We adopted ASU 2016-13 using the modified retrospective method. Results for reporting periods beginning after January 1, 2022 are presented under ASU 2016-13 while prior period amounts continue to be reported in accordance with previously applicable GAAP. At adoption, the Company did not hold Held to Maturity ("HTM") investment debt securities.
The following table shows the impact of the Company's adoption of ASC 326:
| | | | | | | | | | | | | | | | | | | | |
| | January 1, 2022 |
(dollars in thousands) | | As Reported Under ASC 326 | | Pre-ASC 326 Adoption | | Impact of ASC 326 Adoption |
Portfolio Loans: | | | | | | |
Commercial real estate | | $ | 1,113,793 | | | $ | 1,115,485 | | | (1,692) | |
Residential first mortgages | | 92,710 | | | 91,120 | | | 1,590 | |
Residential rentals | | 194,911 | | | 195,035 | | | (124) | |
Construction and land development | | 35,502 | | | 35,590 | | | (88) | |
Home equity and second mortgages | | 25,661 | | | 25,638 | | | 23 | |
Commercial loans | | 50,512 | | | 50,574 | | | (62) | |
Consumer loans | | 3,015 | | | 3,002 | | | 13 | |
Commercial equipment | | 62,706 | | | 62,499 | | | 207 | |
Gross Portfolio Loans | | 1,578,810 | | | 1,578,943 | | | (133) | |
Adjustments: | | | | | | |
Net deferred costs | | — | | | (133) | | | 133 | |
Allowance for credit losses | | (20,913) | | | (18,417) | | | (2,496) | |
Net Portfolio Loans | | 1,557,897 | | | 1,560,393 | | | (2,496) | |
| | | | | | |
U.S. Small Business Administration ("SBA") Paycheck Protection Program ("PPP") loans | | 26,398 | | | 27,276 | | | (878) | |
Net deferred fees | | — | | | (878) | | | 878 | |
Net U.S. SBA PPP Loans | | 26,398 | | | 26,398 | | | — | |
Total Net Loans | | $ | 1,584,295 | | | $ | 1,586,791 | | | $ | (2,496) | |
| | | | | | |
Liabilities: Reserve for Unfunded Commitments | | $ | 268 | | | $ | 51 | | | $ | 217 | |
Loans that the Company has the intent and ability to hold for the foreseeable future, or until maturity or payoff, are reported at their outstanding unpaid principal balances, adjusted for the allowance for credit losses and any deferred fees or premiums. Interest income is accrued on the unpaid principal balance. Loan origination fees and premiums, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the interest method.
Loans purchased with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered credit deteriorated. Evidence of credit quality deterioration as of the purchase date may include statistics such as internal risk grade, past due and nonaccrual status, recent borrower credit scores and recent loan-to-value (“LTV”) percentages. At December 31, 2021, the Bank had purchased credit-deteriorated (“PCD”) loans from the County First acquisition PCD loans with an unpaid principal balances of $1.4 million and a carrying values of $1.1 million. At the adoption of ASC 326, management evaluated the remaining unamortized discount on the PCD loans and determined that approximately $8,000 of the discount was credit
related and reclassified into the ACL. The non-credit component of the discount will be recognized in interest income over the remaining life of the loan.
The Company considers a loan to be past due or delinquent when the terms of the contractual obligation are not met by the borrower. Loans are reviewed on a regular basis and are placed on non-accrual status when, in the opinion of management, the collection of additional interest is doubtful. The accrual of interest on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless the credit is well secured and in the process of collection. Non-accrual loans include certain loans that are current with all loan payments and are placed on non-accrual status due to customer operating results and cash flows. Non-accrual loans are evaluated for impairment on a loan-by-loan basis in accordance with the Company’s impairment methodology.
Consumer loans, excluding credit card loans, are typically charged-off no later than 90 days past due. Credit card loans are typically charged-off no later than 180 days past due. Mortgage and commercial loans are fully or partially charged-off when in management’s judgment all reasonable efforts to return a loan to performing status have occurred. In all cases, loans are placed on non-accrual or charged-off at an earlier date if collection of principal or interest is considered doubtful.
All interest accrued but not collected from loans that are placed on non-accrual or charged-off is reversed against interest income. The interest on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual status. Loans are returned to accrual status when all principal and interest amounts contractually due are brought current and future payments are reasonably assured.
TDRs are loans that have been modified to provide for a reduction or a delay in the payment of either interest or principal because of deterioration in the financial condition of the borrower. A loan extended or renewed at a stated interest rate equal to the current interest rate for new debt with similar risk is not considered a TDR. Once an obligation has been classified as a TDR it continues to be considered a TDR until paid in full or until the debt is refinanced and considered unimpaired. All TDRs are assessed on a loan-by-loan basis. The Company does not participate in any specific government or Company-sponsored loan modification programs. All restructured loan agreements are individual contracts negotiated with a borrower.
Allowance for Credit Losses - Loans
The ACL is an estimate of the expected credit losses for loans held for investment and off-balance sheet exposures. ASU 2016-13 replaced the incurred loss model that recognized losses when it became probable that a credit losses had occurred, with a model that immediately recognizes a credit loss expected to occur over the lifetime of a financial asset whether originated or purchased. Loan losses are charged against the ACL when management believes the loan is uncollectible. Subsequent recoveries, if any, are credited to the ACL. Management believes the ACL in accordance with U.S. GAAP and in compliance with appropriate regulatory guidelines.
The ACL includes quantitative estimates of losses for collectively and individually evaluated loans. As more fully described below, the model-based quantitative estimate for collectively evaluated loans is determined using the probability of default (PD) and loss given default (LGD) at the segment level and applied at the loan level against the expected exposure at default (EAD). Qualitative adjustments to the quantitative estimate may be made using information not considered in the quantitative model.
The Bank uses a range of data to estimate expected credit losses under CECL, including information about past events, current conditions, and reasonable and supportable forecasts relevant to assessing the collectability of the cash flows of the loans. Historical loss experience serves as the foundation for our estimated credit losses. Adjustments to our historical loss experience are made for differences in current loan portfolio segment credit risk characteristics such as the impact of changing unemployment rates, changes in U.S. Treasury yields, portfolio concentrations, the volume of classified loans, and other prevailing economic conditions and factors that may affect the borrower’s ability to repay, or reduce the estimated value of underlying collateral. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available.
The ACL is measured on a collective basis when similar risk characteristics exist. Generally, collectively assessed loans are grouped by loan type code or product type codes and assigned to a corresponding portfolio segment. Portfolio segments may be further subdivided into similar risk profile groupings based on interest rate structure, types of collateral or other terms and characteristics.
The probability of default (“PD”) calculation analyzes the historical loan portfolio over the given look back period to identify, by segment, loans that have defaulted. A default is defined as a loan that has moved to past due 90 days and greater, nonaccrual status, or experienced a charge-off during the period. The model observes loans over a 12-month window, detecting any events previously defined. This information is then used by the model to calculate annual iterative count-based PD rates for each segment. This process is then repeated for all dates within the historical data range. These averaged PD’s are used for a 12-month straight-line reversion to the historical mean. The historical data used to calculate this input dates was captured from mid-2006 through the most recent quarter end.
The Company utilizes reasonable and supportable forecasts of future economic conditions when estimating the ACL on loans. The model’s calculation also includes a 12-month forecasted PD based on a regression model that compared the Company’s historical loan data to
various national economic metrics during the same periods. The results showed the Company’s past losses having a high rate of correlation to national unemployment rates for fixed rate loans and the 10-Year U.S. Treasury for adjustable rate loans. The model uses this information, along with the most recently published Wall Street Journal survey of sixty economists’ forecasts predicting unemployment rates out over the next four quarters to estimate the PD for the forward-looking 12-month period. These data are also used to predict loan losses at different levels of stress, including a baseline, low, high and adverse economic conditions. After the forecast period, PD rates revert to the historical mean straight line over a 12-month period for the entire data set.
The loss given default (“LGD”) calculation is based on actual losses (charge-offs, net recoveries) at a loan level experienced over the entire look-back period aggregated for each loan segment. The aggregate loss is divided by the exposure at default to determine an LGD rate. Defaults occurring during the look-back period are included in the denominator, whether a loss occurred or not and exposure at default is determined by the loan balance immediately preceding the default event. When the Company's data are insufficient. an industry index is used.
The exposure at default (“EAD”) calculation projects future expected balances to apply PD and LGD assumptions through the creation of monthly cash flow schedules. These are derived based on current contractual terms (balance, interest rate, payment structure), adjusted for expected voluntary prepayments. The contractual terms exclude expected extensions, renewals and modifications unless either of the following applies: management has the reasonable expectation that a loan will be restructured, or the extension or renewal option are included in the borrower contract.
On a quarterly basis, the Company uses internal portfolio credit data, such as levels of non-accrual loans, classified assets and concentrations of credit along with other external information not used in the quantitative calculation to determine qualitative adjustments.
Loans that do not share the same common risk characteristics with other loans are individually assessed. Such loans include non-accrual loans, TDRs, loans classified as substandard or worse, loans that are greater than 89 days delinquent and any other loan identified by management determines for individual assessment. Reserves on individually assessed loans are measured on a loan-by loan basis. Generally, consumer loans, including credit cards, are not individually assessed as the Bank's policy is to charge-off credit card loans when they become 180 days delinquent and other consumer loans when they are more than 90 days delinquent.
The methodology used in the estimation of the ACL, which is performed at least quarterly, is designed to be responsive to changes in portfolio credit quality and forecasted economic conditions. Changes are reflected in the pool-based allowance and in reserves assigned on an individual basis as collectibility is updated with new information. Our portfolio loss ratios have been closely monitored. The review of the appropriateness of the ACL is performed by executive management and is presented to the Credit Risk Committee and the Audit Committee. The committees report to the Board as part of Board's quarterly review of our regulatory reporting and consolidated financial statements.
The calculation of the ACL excludes accrued interest receivable balances because these balances are reversed in a timely manner against previously recognized interest income when a loan is placed on non-accrual status.
Allowance for Credit Losses - AFS Debt securities
As described above, the Company does not presently hold any HTM debt securities and therefore is not presently required to apply a CECL methodology for an HTM investment portfolio.
The impairment model for AFS debt securities differs from the CECL approach utilized by HTM debt securities because AFS debt securities are measured at fair value rather than amortized cost. Although ASU No. 2016-13 replaced the legacy other-than-temporary impairment (“OTTI”) model with a credit loss model, it retained the fundamental nature of the legacy OTTI model for AFS securities. One notable change from the legacy OTTI model is when evaluating whether credit loss exists, an entity may no longer consider the length of time fair value has been less than amortized cost. For AFS debt securities in an unrealized loss position, the Company first assesses whether it intends to sell, or it is more likely than not that it will be required to sell the security before recovery of its amortized cost basis. If either criterion is met, the security’s amortized cost basis is written down to fair value through income. For AFS debt securities that do not meet the aforementioned criteria, the Company evaluates whether the decline in fair value has resulted from credit losses or other factors.
In making this assessment, management considers the extent to which fair value is less than amortized cost, any changes to the rating of the security by a rating agency, and adverse conditions specifically related to the security, among other factors. If this assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security are compared to the amortized cost basis of the security. If the present value of cash flows expected to be collected is less than the amortized cost basis, a credit loss exists and a corresponding allowance for credit losses is recorded. Any impairment that has not been recorded through an allowance for credit losses is recognized in other comprehensive income. Changes in the allowance for credit losses are recorded as a provision for (or reversal of) credit losses. Losses are charged against the allowance when management believes the uncollectibility of an AFS security is confirmed or when either of the criteria regarding intent or requirement to sell is met. Any impairment not recorded through an allowance for credit loss is recognized in other comprehensive income as a noncredit-related impairment. As of March 31, 2022, the Company determined that the
unrealized loss positions in AFS securities were not the result of credit losses, and therefore, an allowance for credit losses was not recorded. See Note 2 Investment Securities for more information.
Management has made a policy election to exclude accrued interest from the amortized cost basis of AFS debt securities and report accrued interest separately in accrued interest and other assets in the consolidated balance sheets. AFS debt securities are placed on non- accrual status when management no longer expects to receive all contractual amounts due, which is generally at 90 days past due. Accrued interest receivable is reversed against interest income when a security is placed on non-accrual status. Accordingly, the Company does not recognize an allowance for credit loss against accrued interest receivable. The majority of AFS debt securities as of March 31, 2022 and December 31, 2021 were issued by Government Sponsored Enterprises (“GSEs”) and U.S. agencies. As such, an allowance for credit losses is not considered necessary.
Collateral Dependent Financial Assets
Loans that do not share risk characteristics are evaluated on an individual basis. For collateral dependent financial assets where the Company has determined that foreclosure of the collateral is probable, or where the borrower is experiencing financial difficulty and the Company expects repayment of the financial asset to be provided substantially through the operation or sale of the collateral, the ACL is measured based on the difference between the fair value of the collateral and the amortized cost basis of the asset as of the measurement date. When repayment is expected to be from the operation of the collateral, expected credit losses are calculated as the amount by which the amortized cost basis of the financial asset exceeds the NPV from the operation of the collateral. When repayment is expected to be from the sale of the collateral, expected credit losses are calculated as the amount by which the amortized costs basis of the financial asset exceeds the fair value of the underlying collateral less estimated cost to sell. The ACL may be zero if the fair value of the collateral at the measurement date exceeds the amortized cost basis of the financial asset. Subsequent changes to the fair value of collateral, for which an ACL was previously recognized, will be reported as a provision (recovery) for credit losses.
The Bank uses the practical expedient and uses the fair value of the collateral, net of estimated selling costs, to determine the expected credit loss for most individually assessed collateral dependent loans .
Loan Commitments and Allowance for Credit Losses on Off-Balance Sheet Credit Exposure
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 a reserve for unfunded commitments (“RUC”) on off-balance sheet credit exposures through a charge to provision for credit loss expense in the Company’s consolidated statements of operations. The RUC on off-balance sheet credit exposures is estimated by loan segment at each balance sheet date under the CECL model using the same methodologies as portfolio loans, taking into consideration the likelihood that funding will occur, and is included in Other Liabilities on the Company’s consolidated balance sheets.
See Note 1 – Summary of Significant Accounting Policies included in the Company’s 2021 Annual Report on Form 10-K for a list of policies in effect as of December 31, 2021.
Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”)
Adopted New Accounting Standard
ASU 2016-13 – Financial Instruments – Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments. ASU 2016-13 significantly changes how entities will measure credit losses for most financial assets and certain other instruments that are not measured at fair value through net income. The standard replaced the existing “incurred loss” approach with an “expected loss” model. The new model, referred to as the current expected credit loss (“CECL”) model, applies to (1) financial assets subject to credit losses and measured at amortized cost, and (2) certain off-balance sheet credit exposures. This includes, but is not limited to, loans, leases, HTM securities, loan commitments, and financial guarantees. Credit losses relating to AFS debt securities will be recorded through an allowance for credit losses. The ASU also simplifies the accounting model for Purchase Credit Impaired (“PCI”) debt securities and loans. ASU 2016-13 also expands the disclosure requirements regarding an entity’s assumptions, models, and methods for estimating the allowance for loan and lease losses. In addition, entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by the year of origination. Entities will apply the standard’s provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (i.e., modified retrospective approach).
In December 2019, the FASB issued ASU No 2019-10, Financial Instruments - Credit Losses (Topic 326). This update amends the effective date of ASU 2016-13 for certain entities, including smaller reporting companies until fiscal years beginning after December 15, 2022, including interim periods within those fiscal periods. Early adoption was permitted. The FASB has issued other ASUs that clarify items related to ASU 2016-13. The Company adopted this guidance effective January 1, 2022.
The Company's estimates are derived using one-year reasonable and supportable economic forecasts with subsequent one-year reversion to the historical mean loss rates. For loans that share similar risk characteristics and are collectively assessed, the Company uses a probability of default/loss given default cash flow method to determine the expected losses at the loan level. Loans that do not share similar risk characteristics are evaluated on an individual basis. Based on forecasted economic conditions and portfolio balances as of January 1, 2022, we recognized an increase to the opening allowance for credit losses of $2.5 million. The increase is primarily related to the change in methodology from estimating losses incurred as of the balance sheet date to estimating lifetime credit losses required by the CECL standard.
The impact of adoption was not significant to the Bank's regulatory capital. The Bank did not elect to phase-in, over a three-year period, the standard's initial impact on regulatory capital as permitted by the regulatory transition rules.
ASU 2019-05 - Financial Instruments-Credit Losses (Topic 326). In May 2019, the FASB issued ASU No. 2019-05. This ASU allows entities to irrevocably elect, upon adoption of ASU 2016-13, the fair value option for financial instruments that (1) were previously recorded at amortized cost and (2) are within the scope of ASC 326-20 if the instruments are eligible for the fair value option under ASC 825-10. The fair value option election does not apply to HTM debt securities. Entities are required to make this election on an instrument-by-instrument basis. The Company adopted ASU 2019-05 concurrently upon adoption of ASU 2016-13. The adoption of CECL did not have a material effect on available-for-sale securities, which are predominantly composed of mortgage-backed securities issued by government sponsored entities and U.S. agencies and U.S. government obligations.
Pending adoption
ASU 2020-04 - Reference Rate Reform (Topic 848). In March 2020, the FASB issued guidance to provide temporary optional guidance to ease the potential burden in accounting for reference rate reform. The amendments are effective as of March 12, 2020 through December 31, 2022. The Company does not expect these amendments to have a material effect on its Consolidated Financial Statements.
ASU Update 2022-02 Financial Instruments-Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures. ASU Update 2022-02 eliminates the TDR recognition and measurement guidance and, instead required that an entity evaluate whether the modification represents a new loan or a continuation of an existing loan. The amendments enhance existing disclosure requirements and introduce new requirements related to certain modifications of receivables made to borrowers experiencing financial difficulty. In addition, ASU Update 2022-02 requires that an entity disclosure current-period gross write-offs by year of origination for financing receivables and net investment in leases. Entities have the option to apply a modified retrospective transition method for TDRs. The disclosure amendments in the Update 2022-02 will be applied prospectively. The amendments are effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. The Company does not expect these amendments to have a material effect on its Consolidated Financial Statements.
NOTE 2 – INVESTMENT SECURITIES
Amortized cost and fair values of investment securities at March 31, 2022 and December 31, 2021 are summarized as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | March 31, 2022 |
(dollars in thousands) | | Amortized Cost | | Gross Unrealized Gains | | Gross Unrealized Losses | | Estimated Fair Value |
AFS Securities | | | | | | | | |
Asset-backed securities issued by GSEs and U.S. Agencies | | | | | | | | |
Residential Mortgage Backed Securities ("MBS") | | $ | 127,828 | | | $ | 172 | | | $ | 6,480 | | | $ | 121,520 | |
Residential Collateralized Mortgage Obligations ("CMOs") | | 197,548 | | | 85 | | | 7,834 | | | 189,799 | |
U.S. Agency | | 14,488 | | | — | | | 1,078 | | | 13,410 | |
Asset-backed securities ("ABSs") issued by Others: | | | | | | | | |
Residential CMOs | | 199 | | | 3 | | | 3 | | | 199 | |
Student Loan Trust ABSs | | 54,425 | | | 147 | | | 1,103 | | | 53,469 | |
| | | | | | | | |
Municipal bonds | | 98,889 | | | 16 | | | 8,078 | | | 90,827 | |
Corporate bonds | | 3,000 | | | — | | | 40 | | | 2,960 | |
U.S. government obligations | | 36,805 | | | — | | | 1,462 | | | 35,343 | |
Total AFS Securities | | $ | 533,182 | | | $ | 423 | | | $ | 26,078 | | | $ | 507,527 | |
| | | | | | | | |
Equity securities carried at fair value through income | | | | | | | | |
CRA investment fund | | $ | 4,562 | | | $ | — | | | $ | — | | | $ | 4,562 | |
| | | | | | | | |
Non-marketable equity securities | | | | | | | | |
Other equity securities | | $ | 207 | | | $ | — | | | $ | — | | | $ | 207 | |
| | | | | | | | |
Total Investment Securities | | $ | 537,951 | | | $ | 423 | | | $ | 26,078 | | | $ | 512,296 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | December 31, 2021 |
(dollars in thousands) | | Amortized Cost | | Gross Unrealized Gains | | Gross Unrealized Losses | | Estimated Fair Value |
AFS Securities | | | | | | | | |
Asset-backed securities issued by GSEs and U.S. Agencies | | | | | | | | |
Residential MBS | | $ | 121,125 | | | $ | 1,057 | | | $ | 2,266 | | | $ | 119,916 | |
Residential CMOs | | 198,780 | | | 710 | | | 2,367 | | | 197,123 | |
U.S. Agency | | 14,433 | | | 11 | | | 140 | | | 14,304 | |
Asset-backed securities issued by Others: | | | | | | | | |
Residential CMOs | | 220 | | | 5 | | | 4 | | | 221 | |
Student Loan Trust ABSs | | 56,422 | | | 438 | | | 286 | | | 56,574 | |
| | | | | | | | |
Municipal bonds | | 92,556 | | | 1,169 | | | 884 | | | 92,841 | |
| | | | | | | | |
U.S. government obligations | | 16,942 | | | — | | | 82 | | | 16,860 | |
Total AFS Securities | | $ | 500,478 | | | $ | 3,390 | | | $ | 6,029 | | | $ | 497,839 | |
| | | | | | | | |
Equity securities carried at fair value through income | | | | | | | | |
CRA investment fund | | $ | 4,772 | | | $ | — | | | $ | — | | | $ | 4,772 | |
| | | | | | | | |
Non-marketable equity securities | | | | | | | | |
Other equity securities | | $ | 207 | | | $ | — | | | $ | — | | | $ | 207 | |
| | | | | | | | |
Total Investment Securities | | $ | 505,457 | | | $ | 3,390 | | | $ | 6,029 | | | $ | 502,818 | |
The Company elected to exclude accrued interest receivable (“AIR”) from the amortized cost basis of debt securities disclosed throughout this footnote. AFS debt securities, AIR totaled $1.2 million and $1.1 million as of March 31, 2022, and December 31, 2021, respectively. AIR is included in the “accrued interest receivable” line item on the Company’s consolidated statements of condition.
At March 31, 2022 and December 31, 2021 securities with an amortized cost of $55.0 million and $50.9 million were pledged to secure certain customer deposits.
During the quarter ended March 31, 2022, the Company did not sell any securities. During the year ended December 31, 2021, the Company recognized net gains of $0.6 million on the sale of AFS securities with aggregate carrying values of $11.9 million.
The Company does not believe that the AFS debt securities that were in an unrealized loss position as of March 31, 2022, which were comprised of 295 individual securities, represent a credit loss impairment. As of March 31, 2022, and December 31, 2021, the gross unrealized loss positions were primarily related to mortgage-backed securities issued by U.S. government agencies or U.S. government sponsored enterprises. These securities carry the explicit and/or implicit guarantee of the U.S. government, are widely recognized as “risk free,” and have a long history of zero credit loss. The Company also performed credit review on municipal bonds issued by States and Political Subdivisions and asset backed securities issued by Student Loan Trust. Total gross unrealized losses were primarily attributable to changes in interest rates, relative to when the investment securities were purchased, and not due to the credit quality of the investment securities. The Company does not intend to sell the investment securities that were in an unrealized loss position, and it is not more likely than not that the Company will be required to sell the investment securities before recovery of their amortized cost basis, which may be at maturity. Management believes that the securities will either recover in market value or be paid off as agreed.
AFS Securities
Gross unrealized losses and estimated fair value by length of time that individual AFS securities have been in a continuous unrealized loss position at March 31, 2022, and December 31, 2021 were as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
March 31, 2022 | | Less Than 12 Months | | More Than 12 Months | | Total |
(dollars in thousands) | | Fair Value | | Unrealized Loss | | Fair Value | | Unrealized Loss | | Fair Value | | Unrealized Losses |
Asset-backed securities issued by GSEs and U.S. Agencies | | $ | 190,094 | | | $ | 10,820 | | | $ | 106,161 | | | $ | 4,572 | | | $ | 296,255 | | | $ | 15,392 | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
Asset-backed securities issued by Others | | — | | | — | | | 44 | | | 3 | | | 44 | | | 3 | |
Student Loan Trust ABSs | | 17,882 | | | 716 | | | 24,890 | | | 387 | | | 42,772 | | | 1,103 | |
Municipal bonds | | 56,379 | | | 5,774 | | | 33,041 | | | 2,304 | | | 89,420 | | | 8,078 | |
Corporate bonds | | 2,960 | | | 40 | | | — | | | — | | | 2,960 | | | 40 | |
U.S. government obligations | | 25,896 | | | 959 | | | 9,447 | | | 503 | | | 35,343 | | | 1,462 | |
| | $ | 293,211 | | | $ | 18,309 | | | $ | 173,583 | | | $ | 7,769 | | | $ | 466,794 | | | $ | 26,078 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
December 31, 2021 | | Less Than 12 Months | | More Than 12 Months | | Total |
(dollars in thousands) | | Fair Value | | Unrealized Loss | | Fair Value | | Unrealized Loss | | Fair Value | | Unrealized Losses |
Asset-backed securities issued by GSEs and U.S. Agencies | | $ | 205,891 | | | $ | 3,997 | | | $ | 41,327 | | | $ | 776 | | | $ | 247,218 | | | $ | 4,773 | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
Asset-backed securities issued by Others | | — | | | — | | | 57 | | | 4 | | | 57 | | | 4 | |
Student Loan Trust ABSs | | 21,640 | | | 281 | | | 2,226 | | | 5 | | | 23,866 | | | 286 | |
Municipal bonds | | 47,314 | | | 776 | | | 6,696 | | | 108 | | | 54,010 | | | 884 | |
| | | | | | | | | | | | |
U.S. government obligations | | 14,860 | | | 82 | | | 1,999 | | | — | | | 16,859 | | | 82 | |
| | $ | 289,705 | | | $ | 5,136 | | | $ | 52,305 | | | $ | 893 | | | $ | 342,010 | | | $ | 6,029 | |
Maturities
The amortized cost and estimated fair value of debt securities at March 31, 2022, and December 31, 2021 by contractual maturity, are shown below. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call premiums or prepayment penalties.
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | March 31, 2022 | | December 31, 2021 |
(dollars in thousands) | | Amortized Cost | | Estimated Fair Value | | Amortized Cost | | Estimated Fair Value |
Within one year | | $ | 36,359 | | | $ | 34,610 | | | $ | 36,859 | | | $ | 36,665 | |
Over one year through five years | | 146,286 | | | 139,247 | | | 121,308 | | | 120,668 | |
Over five years through ten years | | 196,631 | | | 187,170 | | | 191,166 | | | 190,158 | |
After ten years | | 153,906 | | | 146,500 | | | 151,145 | | | 150,348 | |
Total AFS securities | | $ | 533,182 | | | $ | 507,527 | | | $ | 500,478 | | | $ | 497,839 | |
NOTE 3 – LOANS
Portfolio loans, net of deferred costs and fees, are summarized by type as follows at March 31, 2022:
| | | | | | | | | | | | | | |
| | March 31, 2022 |
(dollars in thousands) | | Total | | % of Total Loans |
Portfolio Loans: | | | | |
Commercial real estate | | $ | 1,177,761 | | | 72.28 | % |
Residential first mortgages | | 86,416 | | | 5.30 | % |
Residential rentals | | 191,065 | | | 11.73 | % |
Construction and land development | | 30,649 | | | 1.88 | % |
Home equity and second mortgages | | 26,445 | | | 1.62 | % |
Commercial loans | | 48,948 | | | 3.00 | % |
Consumer loans | | 3,592 | | | 0.22 | % |
Commercial equipment | | 64,662 | | | 3.97 | % |
| | | | |
| | | | |
Total portfolio loans (1) | | 1,629,538 | | | 100.00 | % |
Less: Allowance for Credit Losses | | (21,382) | | | (1.31) | % |
Total net portfolio loans | | 1,608,156 | | | |
U.S. SBA PPP loans (1) | | 15,279 | | | |
Total net loans | | $ | 1,623,435 | | | |
| | | | |
Portfolio loans are summarized by type as follows at December 31, 2021: | | | | |
Portfolio Loans: | | December 31, 2021 |
Commercial real estate | | $ | 1,115,485 | | | 70.66 | % |
Residential first mortgages | | 91,120 | | | 5.77 | % |
Residential rentals | | 195,035 | | | 12.35 | % |
Construction and land development | | 35,590 | | | 2.25 | % |
Home equity and second mortgages | | 25,638 | | | 1.62 | % |
Commercial loans | | 50,574 | | | 3.20 | % |
Consumer loans | | 3,002 | | | 0.19 | % |
Commercial equipment | | 62,499 | | | 3.96 | % |
Gross portfolio loans (1) | | 1,578,943 | | | 100.00 | % |
Adjustments: | | | | |
Net deferred costs | | (133) | | | (0.01) | % |
Allowance for loan losses | | (18,417) | | | (1.17) | % |
| | (18,550) | | | |
Net portfolio loans | | 1,560,393 | | | |
| | | | |
Gross U.S. SBA PPP loans (1) | | 27,276 | | | |
Net deferred fees | | (878) | | | |
Net U.S. SBA PPP Loans | | 26,398 | | | |
Total net loans | | $ | 1,586,791 | | | |
| | | | |
Total gross loans | | $ | 1,606,219 | | | |
(1)Excludes accrued interest receivable of $4.2 million and $4.5 million, at March 31, 2022 and December 31, 2021, respectively.
The Company has segregated its loans into portfolio loans and U.S. SBA PPP loans at December 31, 2021.
Deferred Costs/Fees
Portfolio net deferred costs of $0.2 million at March 31, 2022 included deferred fees paid by customers of $4.2 million offset by deferred costs of $4.0 million. Deferred loan costs include premiums paid for the purchase of residential first mortgages and deferred loan origination costs in accordance with ASC 310-20. Net deferred loan costs of $0.1 million at December 31, 2021 included deferred fees paid by customers of $4.1 million offset by deferred costs of $4.0 million.
U.S. SBA PPP loan net deferred fees of $0.5 million at March 31, 2022 included deferred fees paid by the U.S. SBA of $0.5 million partially offset by deferred costs of $41,000. U.S. SBA PPP net deferred loan fees of $0.9 million at December 31, 2021 included deferred fees paid by the SBA of $1.0 million offset by deferred costs of $0.1 million. The net deferred fees are being amortized as a component of interest income through the contractual maturity date of each U.S. SBA PPP loan. Net deferred fees include fees (deferred fees) paid to participant banks for each U.S. SBA PPP loan underwritten and funded net of costs incurred to underwrite the loans (deferred costs). Net deferred fees will be recognized in income when the U.S. SBA PPP loan is forgiven or paid.
Risk Characteristics of Portfolio Segments
Concentrations of Credit - Loans are primarily made within the Company’s operating footprint of Southern Maryland and the greater Fredericksburg area of Virginia. Real estate loans can be affected by the condition of the local real estate market. Commercial and industrial loans can be affected by the local economic conditions. The commercial loan portfolio has business loans secured by real estate and real estate development loans. At March 31, 2022 and December 31, 2021, the Company had no loans outstanding with foreign entities.
The Company manages its credit products and exposure to credit losses (credit risk) by the following specific portfolio segments (classes), which are levels at which the Company develops and documents its allowance for loan loss methodology. These segments are:
Commercial Real Estate (“CRE”)
Commercial and other real estate projects include office, medical and professional buildings, retail locations, churches, other special purpose buildings and commercial construction. Commercial construction balances were 6.7% and 6.5% of the CRE portfolio at March 31, 2022 and December 31, 2021, respectively. The Bank offers both fixed-rate and adjustable-rate loans under these product lines. The primary security on a commercial real estate loan is the real property and the leases that produce income for the real property. Loans secured by commercial real estate are generally limited to 80% of the lower of the appraised value or sales price at origination and have an initial contractual loan payment period ranging from three to 20 years.
Because payments on loans secured by such properties are often dependent on the successful operation or management of the properties, repayment of such loans may be subject to adverse conditions in the real estate market or the economy.
Residential First Mortgages
Residential first mortgage loans are generally long-term (10 to 30 years) amortizing loans. The Bank’s residential portfolio has both fixed-rate and adjustable-rate residential first mortgages.
The annual and lifetime limitations on interest rate adjustments may constrain interest rate increases on these loans. There are also credit risks resulting from potential increased costs to the borrower as a result of repricing of adjustable-rate mortgage loans. During periods of rising interest rates, the risk of default on adjustable-rate mortgage loans may increase due to the upward adjustment of interest cost to the borrower. The Bank’s adjustable rate residential first mortgage portfolio was $15.1 million or 0.9% of total portfolio loans of $1.6 billion at March 31, 2022 compared to $18.9 million or 1.2% of total gross portfolio loans of $1.6 billion at December 31, 2021.
The Bank generally retains the right to service loans sold for a payment based upon a percentage (generally 0.25% of the outstanding loan balance). As of March 31, 2022 and December 31, 2021, the Bank serviced $21.4 million and $20.9 million, respectively, in residential mortgage loans for others.
Residential Rentals
Residential rental mortgage loans are amortizing long-term loans. Loans secured by residential rental properties are generally limited to 80% of the lower of the appraised value or sales price at origination and have an initial contractual loan payment period ranging from three to 20 years. During periods of rising interest rates, the risk of default on adjustable-rate mortgage loans may increase due to the upward adjustment of interest cost to the borrower.
Loans secured by residential rental properties involve greater risks than 1-4 family residential mortgage loans. Although, there are similar risk characteristics shared with commercial real estate loans, the balances for the loans secured by residential rental properties are generally smaller. Payments on loans secured by residential rental properties are dependent on the successful operation of the properties; and repayment of these loans may be subject to adverse conditions in the rental real estate market or the economy than similar owner-occupied properties.
Construction and Land Development
The Bank offers loans for the construction of residential dwellings. These loans are secured by the real estate under construction as well as by guarantees of the principals involved. In addition, the Bank offers loans to acquire and develop land. Construction and Land Development loans are dependent on the successful completion of the underlying project, or the borrowers guarantee to repay the loan. As such, they are subject to the risks of the project including changing prices and interest rates. The repayment of these loans is also dependent on the borrower’s ability to successfully manage the construction and development activities.
Home Equity and Second Mortgage Loans
The Bank maintains a portfolio of home equity and second mortgage loans. These products contain a higher risk of default than residential first mortgages as in the event of foreclosure, the first mortgage would need to be paid off prior to collection of the second mortgage.
Commercial Loans
Commercial loans including lines of credit are short-term loans (5 years or less) that are secured by the equipment financed, the guarantees of the borrower, and other collateral. These loans are dependent on the success of the underlying business or the strength of the guarantor.
Consumer Loans
Consumer loans consist of loans secured by automobiles, boats, recreational vehicles and trucks. The Bank also makes home improvement loans and offers both secured and unsecured personal lines of credit and credit card loans. The repayment of these loans is dependent on the continued financial stability of the customer.
Commercial Equipment Loans
These loans consist primarily of fixed-rate, short-term loans collateralized by a commercial customer’s equipment or secured by real property, accounts receivable, or other security as determined by the Bank. Commercial loans are of higher risk and these loans are dependent on the success of the underlying business or the strength of the guarantor.
U.S. SBA PPP Loans
U.S. SBA PPP loans are fully guaranteed by the Small Business Administration and the Bank's ACL does not include an allowance for U.S. SBA PPP loans. Management believes all U.S. SBA PPP loans were underwritten in accordance with the program's guidelines.
Loans
Non-accrual loans as of March 31, 2022 and December 31, 2021 were as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | March 31, 2022 | | |
(dollars in thousands) | | Nonaccrual with No Allowance for Credit Losses | | Nonaccrual with Allowance for Credit Losses | | Total Nonaccrual Loans | | | | | | |
Commercial real estate | | $ | 4,899 | | | $ | 89 | | | $ | 4,988 | | | | | | | |
Residential first mortgages | | 736 | | | — | | | 736 | | | | | | | |
Residential rentals | | 672 | | | — | | | 672 | | | | | | | |
| | | | | | | | | | | | |
Home equity and second mortgages | | 377 | | | — | | | 377 | | | | | | | |
Commercial loans | | — | | | 25 | | | 25 | | | | | | | |
| | | | | | | | | | | | |
Commercial equipment | | 500 | | | 166 | | | 666 | | | | | | | |
| | | | | | | | | | | | |
U.S. SBA PPP | | 1 | | | — | | | 1 | | | | | | | |
Total | | $ | 7,185 | | | $ | 280 | | | $ | 7,465 | | | | | | | |
| | | | | | | | | | | | |
Interest Income on Nonaccrual Loans | | $ | 40 | | | $ | — | | | $ | 40 | | | | | | | |
| | | | | | | | | | | | | | | | | | | | |
| | December 31, 2021 |
(dollars in thousands) | | Non-accrual Delinquent Loans | | Non-accrual Current Loans | | Total Non-accrual Loans |
Commercial real estate | | $ | — | | | $ | 4,890 | | | $ | 4,890 | |
Residential first mortgages | | 450 | | | — | | | 450 | |
Residential rentals | | 252 | | | 690 | | | 942 | |
| | | | | | |
Home equity and second mortgages | | 202 | | | 399 | | | 601 | |
| | | | | | |
| | | | | | |
Commercial equipment | | — | | | 691 | | | 691 | |
U.S. SBA PPP loans | | 57 | | | — | | | 57 | |
| | $ | 961 | | | $ | 6,670 | | | $ | 7,631 | |
Non-accrual loans decreased $0.2 million from $7.6 million or 0.48% of total loans at December 31, 2021 to $7.5 million or 0.45% of total loans at March 31, 2022. Loans can be current but classified as non-accrual due to customer operating results or payment history. All interest accrued but not collected from loans that are placed on non-accrual or charged-off is reversed against interest income. In accordance with the Company’s policy, such interest income is recognized on a cash basis or cost-recovery method, until qualifying for return to accrual status.
At December 31, 2021, there were $6.7 million (87%) of non-accrual loans were current with all payments of principal and interest with no impairment and $1.0 million (13%) of non-accrual loans were delinquent with specific valuation reserves of $0.3 million.
Loan delinquency (total past due) increased $0.2 million from $1.4 million, or 0.09% of loans, at December 31, 2021 to $1.6 million, or 0.10% of loans, at March 31, 2022.
Non-accrual loans at March 31, 2022 and December 31, 2021 included no delinquent TDRs. Non-accrual loans on which the recognition of interest has been discontinued, which did not have a specific allowance for impairment, amounted to $7.2 million and $7.4 million at March 31, 2022 and December 31, 2021, respectively. Interest due but not recognized on these balances at March 31, 2022 and December 31, 2021 was $0.1 million and $0.1 million, respectively. Non-accrual loans with a specific allowance for impairment amounted to $0.3 million and $0.3 million at March 31, 2022 and December 31, 2021, respectively. Interest due but not recognized on these balances at March 31, 2022 and December 31, 2021 was $2,000 and $1,000, respectively.
The Company considers a loan to be past due or delinquent when the terms of the contractual obligation are not met by the borrower. PCI loans are included as a single category in the table below as management believes there is a lower likelihood of aggregate loss related to these loan pools. Additionally, PCI loans are discounted to allow for the accretion of income on a level yield basis over the life of the loan based on expected cash flows. Regardless of payment status, as long as cash flows can be reasonably estimated, the associated discount on these loan pools results in income recognition. An analysis of days past due ("DPD") loans as of March 31, 2022 and December 31, 2021 were as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | March 31, 2022 |
(dollars in thousands) | | 31-60 DPD | | 61-89 DPD | | 90 DPD and Still Accruing | | Current | | Non-Accrual | | Total Loans | | Current Non-Accrual |
Commercial real estate | | $ | — | | | $ | — | | | $ | — | | | $ | 1,172,773 | | | $ | 4,988 | | | $ | 1,177,761 | | | $ | 4,516 | |
Residential first mortgages | | — | | | — | | | — | | | 85,680 | | | 736 | | | 86,416 | | | 276 | |
Residential rentals | | 281 | | | — | | | — | | | 190,112 | | | 672 | | | 191,065 | | | 672 | |
Construction and land development | | 51 | | | — | | | — | | | 30,598 | | | — | | | 30,649 | | | — | |
Home equity and second mortgages | | — | | | — | | | — | | | 26,068 | | | 377 | | | 26,445 | | | 95 | |
Commercial loans | | 30 | | | — | | | — | | | 48,893 | | | 25 | | | 48,948 | | | 25 | |
Consumer loans | | 1 | | | 15 | | | 20 | | | 3,556 | | | — | | | 3,592 | | | — | |
Commercial equipment | | — | | | — | | | — | | | 63,996 | | | 666 | | | 64,662 | | | 666 | |
| | | | | | | | | | | | | | |
U.S. SBA PPP | | — | | | 8 | | | — | | | 15,270 | | | 1 | | | 15,279 | | | — | |
Total Loans | | $ | 363 | | | $ | 23 | | | $ | 20 | | | $ | 1,636,946 | | | $ | 7,465 | | | $ | 1,644,817 | | | $ | 6,250 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | December 31, 2021 |
(dollars in thousands) | | 31-60 Days | | 61-89 Days | | 90 or Greater Days | | Total Past Due | | PCI Loans | | Current | | Total Loan Receivables |
Commercial real estate | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | 1,116 | | | $ | 1,114,369 | | | $ | 1,115,485 | |
Residential first mortgages | | — | | | 277 | | | 450 | | | 727 | | | — | | | 90,393 | | | 91,120 | |
Residential rentals | | — | | | 42 | | | 252 | | | 294 | | | — | | | 194,741 | | | 195,035 | |
Construction and land development | | — | | | — | | | — | | | — | | | — | | | 35,590 | | | 35,590 | |
Home equity and second mortgages | | 200 | | | — | | | 202 | | | 402 | | | — | | | 25,236 | | | 25,638 | |
Commercial loans | | — | | | — | | | — | | | — | | | — | | | 50,574 | | | 50,574 | |
Consumer loans | | — | | | — | | | — | | | — | | | — | | | 3,002 | | | 3,002 | |
Commercial equipment | | — | | | — | | | — | | | — | | | — | | | 62,499 | | | 62,499 | |
Total portfolio loans | | $ | 200 | | | $ | 319 | | | $ | 904 | | | $ | 1,423 | | | $ | 1,116 | | | $ | 1,576,404 | | | $ | 1,578,943 | |
| | | | | | | | | | | | | | |
U.S. SBA PPP loans | | $ | 9 | | | $ | 40 | | | $ | 57 | | | $ | 106 | | | $ | — | | | $ | 27,170 | | | $ | 27,276 | |
There were no loans that were past due 90 days or greater accruing interest at December 31, 2021.
Allowance for Credit Losses ("ACL")
The following tables detail activity in the ACL at and for the three months ended March 31, 2022 and 2021, respectively. An allocation of the allowance to one category of loans does not prevent the Company from using that allowance to absorb losses in a different category.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Three Months Ended | | March 31, 2022 |
(dollars in thousands) | | Beginning Balance | | Impact of ASC 326 Adoption | | Charge-offs | | Recoveries | | Provisions | | Ending Balance |
Commercial real estate | | $ | 13,095 | | | $ | 3,734 | | | $ | — | | | $ | — | | | $ | 484 | | | $ | 17,313 | |
Residential first mortgages | | 1,002 | | | (679) | | | — | | | — | | | (39) | | | 284 | |
Residential rentals | | 2,175 | | | (586) | | | — | | | — | | | (43) | | | 1,546 | |
Construction and land development | | 260 | | | (82) | | | — | | | — | | | (41) | | | 137 | |
Home equity and second mortgages | | 274 | | | (86) | | | — | | | — | | | (10) | | | 178 | |
Commercial loans | | 582 | | | (290) | | | — | | | 1 | | | 26 | | | 319 | |
Consumer loans | | 58 | | | 2 | | | — | | | — | | | 13 | | | 73 | |
Commercial equipment | | 971 | | | 483 | | | — | | | 18 | | | 60 | | | 1,532 | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | $ | 18,417 | | | $ | 2,496 | | | $ | — | | | $ | 19 | | | $ | 450 | | | $ | 21,382 | |
| | | | | | | | | | | | |
| | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
_______________________________________
**There is no allowance for loan loss on the SBA PPP portfolios. A more detailed rollforward schedule will be presented if an allowance is required.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Three Months Ended | | March 31, 2021 |
(dollars in thousands) | | Beginning Balance | | Charge-offs | | Recoveries | | Provisions | | Ending Balance |
Commercial real estate | | $ | 13,744 | | | $ | (1,247) | | | $ | 1 | | | $ | 787 | | | $ | 13,285 | |
Residential first mortgages | | 1,305 | | | (142) | | | — | | | (139) | | | 1,024 | |
Residential rentals | | 1,413 | | | (46) | | | — | | | (6) | | | 1,361 | |
Construction and land development | | 401 | | | — | | | — | | | (36) | | | 365 | |
Home equity and second mortgages | | 261 | | | — | | | 1 | | | 1 | | | 263 | |
Commercial loans | | 1,222 | | | (50) | | | 5 | | | (165) | | | 1,012 | |
Consumer loans | | 20 | | | — | | | — | | | 9 | | | 29 | |
Commercial equipment | | 1,058 | | | — | | | 15 | | | (156) | | | 917 | |
| | $ | 19,424 | | | $ | (1,485) | | | $ | 22 | | | $ | 295 | | | $ | 18,256 | |
| | | | | | | | | | |
Purchase Credit Impaired** | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| | | | | | | | | | |
| | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
_______________________________________
**There is no allowance for loan loss on the PCI or the SBA PPP portfolios. A more detailed rollforward schedule will be presented if an allowance is required.
The following table presents the amortized cost basis of collateral-dependent loans by class of loans.
| | | | | | | | | | | | | | | | | | |
| | March 31, 2022 | | |
(dollars in thousands) | | Business/Other Assets | | Real Estate | | | | |
Commercial real estate | | $ | — | | | $ | 4,987 | | | | | |
Residential first mortgages | | — | | | 1,149 | | | | | |
Residential rentals | | — | | | 672 | | | | | |
| | | | | | | | |
Home equity and second mortgages | | — | | | 376 | | | | | |
Commercial loans | | 25 | | | — | | | | | |
| | | | | | | | |
Commercial equipment | | 1,109 | | | — | | | | | |
| | | | | | | | |
| | | | | | | | |
Total | | $ | 1,134 | | | $ | 7,184 | | | | | |
Credit Quality Indicators
Credit quality indicators as of March 31, 2022 were as follows:
Credit Risk Profile by Internally Assigned Grade
The risk category of loans by class of loans is as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Term Loans by Origination Year | | | | |
(dollars in thousands) | | Prior | | 2018 | | 2019 | | 2020 | | 2021 | | 2022 | | Revolving Loans | | Total |
| | | | | | | | | | | | | | | | |
Commercial Real Estate |
Pass | | $ | 367,685 | | | $ | 77,563 | | | $ | 122,999 | | | $ | 196,400 | | | $ | 281,702 | | | $ | 111,430 | | | $ | — | | | $ | 1,157,779 | |
Watch | | — | | | 4,253 | | | — | | | 5,564 | | | — | | | 7,012 | | | — | | | 16,829 | |
Special Mention | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Substandard | | 3,153 | | | — | | | — | | | — | | | — | | | — | | | — | | | 3,153 | |
Total | | $ | 370,838 | | | $ | 81,816 | | | $ | 122,999 | | | $ | 201,964 | | | $ | 281,702 | | | $ | 118,442 | | | $ | — | | | $ | 1,177,761 | |
| | | | | | | | | | | | | | | | |
Residential Rentals |
Pass | | $ | 47,557 | | | $ | 4,788 | | | $ | 23,584 | | | $ | 44,156 | | | $ | 67,567 | | | $ | 2,741 | | | $ | — | | | $ | 190,393 | |
Watch | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Special Mention | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Substandard | | 672 | | | — | | | — | | | — | | | — | | | — | | | — | | | 672 | |
Total | | $ | 48,229 | | | $ | 4,788 | | | $ | 23,584 | | | $ | 44,156 | | | $ | 67,567 | | | $ | 2,741 | | | $ | — | | | $ | 191,065 | |
| | | | | | | | | | | | | | | | |
Construction and Land Development |
Pass | | $ | 8,560 | | | $ | 10,797 | | | $ | 6,642 | | | $ | 1,669 | | | $ | 2,968 | | | $ | 13 | | | $ | — | | | $ | 30,649 | |
Watch | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Special Mention | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Substandard | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Total | | $ | 8,560 | | | $ | 10,797 | | | $ | 6,642 | | | $ | 1,669 | | | $ | 2,968 | | | $ | 13 | | | $ | — | | | $ | 30,649 | |
| | | | | | | | | | | | | | | | |
Commercial Loans |
Pass | | $ | 27,484 | | | $ | 6,331 | | | $ | 5,006 | | | $ | 1,848 | | | $ | 6,865 | | | $ | 1,414 | | | $ | — | | | $ | 48,948 | |
Watch | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Special Mention | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Substandard | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Total | | $ | 27,484 | | | $ | 6,331 | | | $ | 5,006 | | | $ | 1,848 | | | $ | 6,865 | | | $ | 1,414 | | | $ | — | | | $ | 48,948 | |
| | | | | | | | | | | | | | | | |
Commercial Equipment |
Pass | | $ | 10,247 | | | $ | 6,330 | | | $ | 18,746 | | | $ | 9,076 | | | $ | 15,259 | | | $ | 4,623 | | | $ | — | | | $ | 64,281 | |
Watch | | 30 | | | 185 | | | — | | | — | | | — | | | — | | | — | | | 215 | |
Special Mention | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Substandard | | — | | | — | | | 166 | | | — | | | — | | | — | | | — | | | 166 | |
Total | | $ | 10,277 | | | $ | 6,515 | | | $ | 18,912 | | | $ | 9,076 | | | $ | 15,259 | | | $ | 4,623 | | | $ | — | | | $ | 64,662 | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
Total loans by risk category | | $ | 465,388 | | | $ | 110,247 | | | $ | 177,143 | | | $ | 258,713 | | | $ | 374,361 | | | $ | 127,233 | | | $ | — | | | $ | 1,513,085 | |
Loans evaluated by performance category are as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Term Loans by Origination Year | | | | |
(dollars in thousands) | | Prior | | 2018 | | 2019 | | 2020 | | 2021 | | 2022 | | Revolving Loans | | Total |
| | | | | | | | | | | | | | | | |
Residential First Mortgages |
Performing | | $ | 44,141 | | | $ | 4,112 | | | $ | 20,427 | | | $ | 8,958 | | | $ | 6,052 | | | $ | 1,990 | | | $ | — | | | $ | 85,680 | |
Non-performing | | 182 | | | — | | | 554 | | | — | | | — | | | — | | | — | | | 736 | |
Total | | $ | 44,323 | | | $ | 4,112 | | | $ | 20,981 | | | $ | 8,958 | | | $ | 6,052 | | | $ | 1,990 | | | $ | — | | | $ | 86,416 | |
| | | | | | | | | | | | | | | | |
Home Equity and Second Mortgages |
Performing | | $ | 17,581 | | | $ | 1,295 | | | $ | 1,150 | | | $ | 2,120 | | | $ | 3,078 | | | $ | 844 | | | $ | — | | | $ | 26,068 | |
Non-performing | | 377 | | | — | | | — | | | — | | | — | | | — | | | — | | | 377 | |
Total | | $ | 17,958 | | | $ | 1,295 | | | $ | 1,150 | | | $ | 2,120 | | | $ | 3,078 | | | $ | 844 | | | $ | — | | | $ | 26,445 | |
| | | | | | | | | | | | | | | | |
Consumer Loans |
Performing | | $ | 66 | | | $ | 4 | | | $ | 167 | | | $ | 183 | | | $ | 798 | | | $ | 291 | | | $ | 2,063 | | | $ | 3,572 | |
Non-performing | | — | | | | | — | | | | | | | | | 20 | | | 20 | |
Total | | $ | 66 | | | $ | 4 | | | $ | 167 | | | $ | 183 | | | $ | 798 | | | $ | 291 | | | $ | 2,083 | | | $ | 3,592 | |
| | | | | | | | | | | | | | | | |
U.S. SBA PPP Loans |
Performing | | $ | — | | | $ | — | | | $ | — | | | $ | 1,137 | | | $ | 14,141 | | | $ | — | | | $ | — | | | $ | 15,278 | |
Non-performing | | — | | | — | | | — | | | 1 | | | — | | | — | | | — | | | 1 | |
Total | | $ | — | | | $ | — | | | $ | — | | | $ | 1,138 | | | $ | 14,141 | | | $ | — | | | $ | — | | | $ | 15,279 | |
| | | | | | | | | | | | | | | | |
Total loans evaluated by performing status | | $ | 62,347 | | | $ | 5,411 | | | $ | 22,298 | | | $ | 12,399 | | | $ | 24,069 | | | $ | 3,125 | | | $ | 2,083 | | | $ | 131,732 | |
| | | | | | | | | | | | | | | | |
Total Recorded Investment | | $ | 527,735 | | | $ | 115,658 | | | $ | 199,441 | | | $ | 271,112 | | | $ | 398,430 | | | $ | 130,358 | | | $ | 2,083 | | | $ | 1,644,817 | |
Credit quality indicators as of December 31, 2021 were as follows:
| | | | | | | | | | | | | | | | | | | | |
| | Commercial Real Estate | | Construction and Land Development | | Residential Rentals |
(dollars in thousands) | | 12/31/2021 | | 12/31/2021 | | 12/31/2021 |
Unrated | | $ | — | | | $ | — | | | $ | — | |
Pass | | 1,111,857 | | | 35,590 | | | 194,093 | |
Special mention | | — | | | — | | | — | |
Substandard | | 3,628 | | | — | | | 942 | |
Doubtful | | — | | | — | | | — | |
Loss | | — | | | — | | | — | |
Total | | $ | 1,115,485 | | | $ | 35,590 | | | $ | 195,035 | |
| | | | | | | | | | | | | | | | | | | | |
| | Commercial Loans | | Commercial Equipment | | Total Commercial Portfolios |
(dollars in thousands) | | 12/31/2021 | | 12/31/2021 | | 12/31/2021 |
Unrated | | $ | — | | | $ | — | | | $ | — | |
Pass | | 50,574 | | | 62,326 | | | 1,454,440 | |
Special mention | | — | | | — | | | — | |
Substandard | | — | | | 173 | | | 4,743 | |
Doubtful | | — | | | — | | | — | |
Loss | | — | | | — | | | — | |
Total | | $ | 50,574 | | | $ | 62,499 | | | $ | 1,459,183 | |
| | | | | | | | | | | | | | | | | | | | |
| | Non-Commercial Portfolios ** | | U.S. SBA PPP Loans | | Total Loans Portfolios |
(dollars in thousands) | | 12/31/2021 | | 12/31/2021 | | 12/31/2021 |
Unrated | | $ | 100,403 | | | $ | 27,276 | | | $ | 127,679 | |
Pass | | 18,889 | | | — | | | 1,473,329 | |
Special mention | | — | | | — | | | — | |
Substandard | | 468 | | | — | | | 5,211 | |
Doubtful | | — | | | — | | | — | |
Loss | | — | | | — | | | — | |
Total | | $ | 119,760 | | | $ | 27,276 | | | $ | 1,606,219 | |
_______________________________________
**Non-commercial portfolios are generally evaluated based on payment activity but may be risk graded if part of a larger commercial relationship or are credit impaired (e.g. non-accrual loans, TDRs).
Credit Risk Profile Based on Payment Activity | | | | | | | | | | | | | | | | | | | | |
| | Residential First Mortgages | | Home Equity and Second Mortgages | | Consumer Loans |
(dollars in thousands) | | 12/31/2021 | | 12/31/2021 | | 12/31/2021 |
Performing | | $ | 90,670 | | | $ | 25,436 | | | $ | 3,002 | |
Nonperforming | | 450 | | | 202 | | | — | |
Total | | $ | 91,120 | | | $ | 25,638 | | | $ | 3,002 | |
A risk-grading scale is used to assign grades to commercial relationships, which include commercial real estate, residential rentals, construction and land development, commercial loans and commercial equipment loans. Loans are graded at inception, annually thereafter when financial statements are received and at other times when there is an indication that a credit may have weakened or improved. At December 31, 2020 and prior, only commercial loan relationships with an aggregate exposure to the Bank of $1,000,000 or greater were subject to being risk rated. During the quarter ended March 31, 2021, the Bank's policy was amended to risk rate all commercial loan relationships.
Home equity and second mortgages and consumer loans are evaluated for creditworthiness in underwriting and are monitored based on borrower payment history. Residential first mortgages are evaluated for creditworthiness during credit due diligence before being purchased. Residential first mortgages, home equity and second mortgages and consumer loans are classified as unrated unless they are part of a larger commercial relationship that requires grading or are TDRs or nonperforming loans with an Other Assets Especially Mentioned ("OAEM") or higher risk rating due to a delinquency payment history.
The overall quality of the Bank’s loan portfolio is assessed using the Bank’s risk-grading scale, the level and trends of net charge-offs, nonperforming loans and delinquencies, the performance of TDRs and the general economic conditions in the Company’s geographical market. This review process is assisted by frequent internal reporting of loan production, loan quality, concentrations of credit, loan delinquencies and nonperforming and potential problem loans. Credit quality indicators and allowance factors are adjusted based on management’s judgment during the monthly and quarterly review process. Loans subject to risk ratings are graded on a scale of one to ten. The Company considers loans rated substandard, doubtful and loss as classified assets for regulatory and financial reporting.
Ratings 1 thru 6 - Pass
Ratings 1 thru 6 have asset risks ranging from excellent-low to adequate. The specific rating assigned considers customer history of earnings, cash flows, liquidity, leverage, capitalization, consistency of debt service coverage, the nature and extent of customer relationship and other relevant specific business factors such as the stability of the industry or market area, changes to management, litigation or unexpected events that could have an impact on risks.
Rating 7 - OAEM (Other Assets Especially Mentioned) – Special Mention
These credits, while protected by the financial strength of the borrowers, guarantors or collateral, have reduced quality due to economic conditions, less than adequate earnings performance or other factors which require the lending officer to direct more than normal attention to the credit. Financing alternatives may be limited and/or command higher risk interest rates. OAEM loans relationships are reviewed at least quarterly.
Rating 8 - Substandard
Substandard assets are assets that are inadequately protected by the sound worth or paying capacity of the borrower or of the collateral pledged. Substandard loans are the first adversely classified loans on the Bank's watchlist. These assets have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the possibility that the Bank will sustain some loss if the deficiencies are not corrected. Loss potential, while existing in the aggregate amount of substandard assets, does not have to exist in individual assets classified substandard. The loans may have a delinquent history or combination of weak collateral, weak guarantor strength or operating losses. When a loan is assigned to this category the Bank may estimate a specific reserve in the loan loss allowance analysis. These assets listed may include assets with histories of repossessions or some that are non-performing bankruptcies. These relationships will be reviewed at least quarterly.
Rating 9 - Doubtful
Doubtful assets have many of the same characteristics of Substandard with the exception that the Bank has determined that loss is not only possible but is probable and the risk is close to certain that loss will occur. When a loan is assigned to this category the Bank will identify the probable loss and the loan will receive a specific reserve in the loan loss allowance analysis. These relationships will be reviewed at least quarterly.
Rating 10 – Loss
Once an asset is identified as a definite loss to the Bank, it will receive the classification of “loss.” There may be some future potential recovery; however, it is more practical to write off the loan at the time of classification. Losses will be taken in the period in which they are determined to be non-collectable.
TDRs included in the impaired loan schedules above, as of March 31, 2022 and December 31, 2021 were as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | March 31, 2022 | | December 31, 2021 |
(dollars in thousands) | | Number of Loans | | Recorded Investments | | Number of Loans | | Recorded Investments |
Commercial real estate | | — | | | $ | — | | | — | | | $ | — | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
Commercial equipment | | 1 | | | 442 | | | 1 | | | 447 | |
| | | | | | | | |
| | | | | | | | |
Total TDRs | | 1 | | | $ | 442 | | | 1 | | | $ | 447 | |
Less: TDRs included in non-accrual loans | | — | | | — | | | — | | | — | |
Total accrual TDR loans | | 1 | | | $ | 442 | | | 1 | | | $ | 447 | |
The Company had no specific reserves on TDRs at March 31, 2022 and at December 31, 2021. During the year ended December 31, 2021, TDR disposals, which included payoffs and refinancing, included three loans totaling $0.1 million. TDR loan principal curtailment was $5,000 for the quarter ended March 31, 2022 and $19,000 for the year ended December 31, 2021. There were no TDRs added during the three months ended March 31, 2022 or the year ended December 31, 2021.
Prior to adoption of CECL
Impaired Loans and Troubled Debt Restructures (“TDRs”)
Impaired loans, including TDRs, at March 31, 2021 and at December 31, 2021 were as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | March 31, 2021 |
(dollars in thousands) | | Unpaid Contractual Principal Balance | | Recorded Investment With No Allowance | | Recorded Investment With Allowance | | Total Recorded Investment | | Related Allowance | | Quarter Average Recorded Investment | | Quarter Interest Income Recognized | | YTD Average Recorded Investment | | YTD Interest Income Recognized |
Commercial real estate | | $ | 12,029 | | | $ | 5,641 | | | $ | 6,290 | | | $ | 11,931 | | | $ | 854 | | | $ | 11,937 | | | $ | 110 | | | $ | 11,937 | | | $ | 110 | |
Residential first mortgages | | 794 | | | 751 | | | — | | | 751 | | | — | | | 756 | | | 11 | | | 756 | | | 11 | |
Residential rentals | | 741 | | | 736 | | | — | | | 736 | | | — | | | 744 | | | 10 | | | 744 | | | 10 | |
| | | | | | | | | | | | | | | | | | |
Home equity and second mortgages | | 666 | | | 651 | | | — | | | 651 | | | — | | | 657 | | | 4 | | | 657 | | | 4 | |
Commercial loans | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
| | | | | | | | | | | | | | | | | | |
Commercial equipment | | 559 | | | 507 | | | 37 | | | 544 | | | 37 | | | 565 | | | 12 | | | 565 | | | 12 | |
Total | | $ | 14,789 | | | $ | 8,286 | | | $ | 6,327 | | | $ | 14,613 | | | $ | 891 | | | $ | 14,659 | | | $ | 147 | | | $ | 14,659 | | | $ | 147 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | December 31, 2021 |
(dollars in thousands) | | Unpaid Contractual Principal Balance | | Recorded Investment With No Allowance | | Recorded Investment With Allowance | | Total Recorded Investment | | Related Allowance | | YTD Average Recorded Investment | | YTD Interest Income Recognized |
Commercial real estate | | $ | 4,994 | | | $ | 4,797 | | | $ | 93 | | | $ | 4,890 | | | $ | 93 | | | $ | 4,866 | | | $ | 254 | |
Residential first mortgages | | 879 | | | 866 | | | — | | | 866 | | | — | | | 874 | | | 32 | |
Residential rentals | | 982 | | | 942 | | | — | | | 942 | | | — | | | 959 | | | 48 | |
| | | | | | | | | | | | | | |
Home equity and second mortgages | | 626 | | | 601 | | | — | | | 601 | | | — | | | 604 | | | 14 | |
Commercial loans | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
| | | | | | | | | | | | | | |
Commercial equipment | | 1,200 | | | 1,022 | | | 173 | | | 1,195 | | | 173 | | | 2,184 | | | 99 | |
Total | | $ | 8,681 | | | $ | 8,228 | | | $ | 266 | | | $ | 8,494 | | | $ | 266 | | | $ | 9,487 | | | $ | 447 | |
The following tables detail loan receivable and allowance balances disaggregated on the basis of the Company’s impairment methodology at March 31, 2021 and December 31, 2021.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | December 31, 2021 | | March 31, 2021 |
(dollars in thousands) | | Ending balance: individually evaluated for impairment | | Ending balance: collectively evaluated for impairment | | Purchase Credit Impaired | | Total | | Ending balance: individually evaluated for impairment | | Ending balance: collectively evaluated for impairment | | Purchase Credit Impaired | | Total |
Loan Receivables: | | | | | | | | | | | | | | | | |
Commercial real estate | | $ | 4,890 | | | $ | 1,109,479 | | | $ | 1,116 | | | $ | 1,115,485 | | | $ | 11,931 | | | $ | 1,067,630 | | | $ | 1,550 | | | $ | 1,081,111 | |
Residential first mortgages | | 866 | | | 90,254 | | | — | | | 91,120 | | | 751 | | | 115,052 | | | — | | | 115,803 | |
Residential rentals | | 942 | | | 194,093 | | | — | | | 195,035 | | | 736 | | | 136,786 | | | — | | | 137,522 | |
Construction and land development | | — | | | 35,590 | | | — | | | 35,590 | | | — | | | 38,446 | | | — | | | 38,446 | |
Home equity and second mortgages | | 601 | | | 25,037 | | | — | | | 25,638 | | | 651 | | | 28,309 | | | 403 | | | 29,363 | |
Commercial loans | | — | | | 50,574 | | | — | | | 50,574 | | | — | | | 42,689 | | | — | | | 42,689 | |
Consumer loans | | — | | | 3,002 | | | — | | | 3,002 | | | — | | | 1,415 | | | — | | | 1,415 | |
Commercial equipment | | 1,195 | | | 61,304 | | | — | | | 62,499 | | | 544 | | | 60,290 | | | — | | | 60,834 | |
| | $ | 8,494 | | | $ | 1,569,333 | | | $ | 1,116 | | | $ | 1,578,943 | | | $ | 14,613 | | | $ | 1,490,617 | | | $ | 1,953 | | | $ | 1,507,183 | |
Allowance for loan losses: | | | | | | | | | | | | | | | | |
Commercial real estate | | $ | 93 | | | $ | 13,002 | | | $ | — | | | $ | 13,095 | | | $ | 854 | | | $ | 12,431 | | | $ | — | | | $ | 13,285 | |
Residential first mortgages | | — | | | 1,002 | | | — | | | 1,002 | | | — | | | 1,024 | | | — | | | 1,024 | |
Residential rentals | | — | | | 2,175 | | | — | | | 2,175 | | | — | | | 1,361 | | | — | | | 1,361 | |
Construction and land development | | — | | | 260 | | | — | | | 260 | | | — | | | 365 | | | — | | | 365 | |
Home equity and second mortgages | | — | | | 274 | | | — | | | 274 | | | — | | | 263 | | | — | | | 263 | |
Commercial loans | | — | | | 582 | | | — | | | 582 | | | — | | | 1,012 | | | — | | | 1,012 | |
Consumer loans | | — | | | 58 | | | — | | | 58 | | | — | | | 29 | | | — | | | 29 | |
Commercial equipment | | 173 | | | 798 | | | — | | | 971 | | | 37 | | | 880 | | | — | | | 917 | |
| | $ | 266 | | | $ | 18,151 | | | $ | — | | | $ | 18,417 | | | $ | 891 | | | $ | 17,365 | | | $ | — | | | $ | 18,256 | |
Purchased Credit-Impaired Loans and Acquired Loans ("PCI")
Determining the fair value of the PCI loans at the time of acquisition required the Company to estimate cash flows expected to result from those loans and to discount those cash flows at appropriate rates of interest considering prepayment assumptions. For such loans, the excess of cash flows expected at acquisition over the estimated fair value is recognized as interest income over the remaining lives of the loans and is called accretable yield. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition reflects the impact of estimated credit losses and is called the nonaccretable difference. In accordance with GAAP, there was no carryover of a previously established allowance for loan losses from acquisition.
A summary of changes in the accretable yield for PCI loans for the three months ended March 31, 2021 and the year ended December 31, 2021 follows:
| | | | | | | | | | | | | | | | |
| | Three Months Ended March 31, | | | | Year Ended |
(dollars in thousands) | | 2021 | | | | December 31, 2021 |
Accretable yield, beginning of period | | $ | 342 | | | | | $ | 342 | |
Additions | | — | | | | | — | |
Accretion | | (31) | | | | | (117) | |
Reclassification from nonaccretable difference | | — | | | | | 43 | |
Other changes, net | | — | | | | | 55 | |
Accretable yield, end of period | | $ | 311 | | | | | $ | 323 | |
At December 31, 2021 acquired performing loans, which totaled $41.1 million, included a $0.8 million net acquisition accounting fair market value adjustment, representing a 1.25% discount; and PCI loans which totaled $1.1 million, included a $0.3 million adjustment, representing a 14.95% discount.
During the three months ended March 31, 2021 there was $0.1 million of accretion interest.
Accounting standards require a periodic recast of the expected cash flows on the PCI loan portfolio. The recast was performed during the fourth quarter of 2021 which resulted in a reclassification of $0.5 million, from the credit (nonaccretable) portion of the discount to the liquidity (accretable) portion of the discount.
The following is a summary of acquired and non-acquired loans as of December 31, 2021:
| | | | | | | | | | | | | | |
BY ACQUIRED AND NON-ACQUIRED | | December 31, 2021 | | % |
Acquired loans - performing | | $ | 41,066 | | | 2.56 | % |
Acquired loans - purchase credit impaired ("PCI") | | 1,116 | | | 0.07 | % |
Total acquired loans | | 42,182 | | | 2.63 | % |
U.S. SBA PPP loans | | 27,276 | | | 1.70 | % |
Non-acquired loans** | | 1,536,761 | | | 95.67 | % |
Gross loans | | 1,606,219 | | | |
Net deferred fees | | (1,011) | | | (0.06) | % |
Total loans, net of deferred fees | | $ | 1,605,208 | | | |
______________________________
**Non-acquired loans include loans transferred from acquired pools following release of acquisition accounting FMV adjustments.
NOTE 4 – GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill and other intangible assets are presented in the tables below.
| | | | | | | | | | | | | | |
(dollars in thousands) | | As of March 31, 2022 | | As of December 31, 2021 |
| | | | |
Goodwill | | $ | 10,835 | | | $ | 10,835 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | As of March 31, 2022 | | As of December 31, 2021 |
(dollars in thousands) | | Gross Carrying Amount | | Accumulated Amortization | | Net Intangible Assets | | Gross Carrying Amount | | Accumulated Amortization | | Net Intangible Assets |
| | | | | | | | | | | | |
Core deposit intangible | | $ | 3,590 | | | $ | (2,666) | | | $ | 924 | | | $ | 3,590 | | | $ | (2,558) | | | $ | 1,032 | |
The estimated aggregate future amortization expense for intangible assets remaining as of March 31, 2022 is as follows:
| | | | | | | | |
(dollars in thousands) | | |
| | |
Remainder of 2022 | | $ | 290 | |
2023 | | 302 | |
2024 | | 205 | |
2025 | | 109 | |
2026 | | 18 | |
| | |
| | $ | 924 | |
As of March 31, 2022, the Company did not have impairment to goodwill or core deposit intangibles ("CDI"). At March 31, 2022 the Company had goodwill of $10.8 million or 5.61% of equity and CDI of $0.9 million or 0.48% of equity.
Management performed its annual analysis of goodwill and CDI during the fourth quarter of 2021 and concluded that there was no impairment at December 31, 2021. At March 31, 2022, management's analysis concluded that there were no changes in the Company's financial statements or operations subsequent to the fourth quarter 2021 annual analyses that would indicate that it was more likely than not that goodwill or CDI was impaired.
NOTE 5 – OTHER REAL ESTATE OWNED (“OREO”)
OREO assets are presented net of the valuation allowance. The Company considers OREO as classified assets for regulatory and financial reporting. OREO carrying amounts reflect management’s estimate of the realizable value of these properties incorporating current appraised values, local real estate market conditions and related costs. An analysis of activity follows.
| | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended March 31, | | Years Ended December 31, |
(dollars in thousands) | | 2022 | | 2021 | | 2021 |
Balance at beginning of year | | $ | — | | | $ | 3,109 | | | $ | 3,109 | |
Additions of underlying property | | — | | | — | | | — | |
Disposals of underlying property | | — | | | (600) | | | (1,722) | |
Valuation allowance | | — | | | (180) | | | (1,387) | |
Balance at end of period | | $ | — | | | $ | 2,329 | | | $ | — | |
Expenses applicable to OREO assets included the following.
| | | | | | | | | | | | | | |
| | Three Months Ended March 31, |
(dollars in thousands) | | 2022 | | 2021 |
| | | | |
Valuation allowance | | $ | — | | | $ | 180 | |
Losses (gains) on dispositions | | — | | | (22) | |
Operating expenses | | 6 | | | 23 | |
| | $ | 6 | | | $ | 181 | |
The Company had $0.4 million impaired loans secured by residential real estate for which formal foreclosure proceedings were in process as of March 31, 2022 and December 31, 2021.
NOTE 6 – DEPOSITS
Deposits consist of the following:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
(dollars in thousands) | | March 31, 2022 | | December 31, 2021 |
| Balance | | % | | Balance | | % |
Noninterest-bearing demand | | $ | 644,385 | | | 30.75 | % | | $ | 445,778 | | | 21.68 | % |
Interest-bearing: | | | | | | | | |
Demand | | 618,869 | | | 29.54 | % | | 790,481 | | | 38.45 | % |
Money market deposits | | 387,700 | | | 18.51 | % | | 372,717 | | | 18.13 | % |
Savings | | 124,038 | | | 5.92 | % | | 119,767 | | | 5.82 | % |
Certificates of deposit | | 320,091 | | | 15.28 | % | | 327,421 | | | 15.92 | % |
Total interest-bearing | | 1,450,698 | | | 69.25 | % | | 1,610,386 | | | 78.32 | % |
| | | | | | | | |
Total Deposits | | $ | 2,095,083 | | | 100.00 | % | | $ | 2,056,164 | | | 100.00 | % |
The aggregate amount of certificates of deposit that exceed the FDIC insurance limit of $250,000 at March 31, 2022 and December 31, 2021 was $56.6 million and $57.6 million, respectively.
The Company monitors all customer deposit concentrations at or above 2% of total deposits. At March 31, 2022, the Bank had two customer deposit relationships that exceeded 2% of total deposits, totaling $308.7 million which represented 14.7% of total deposits. At December 31, 2021, the Bank had two customer deposit relationships that exceeded 2% of total deposits, totaling $335.6 million which represented 16.3% of total deposits. These concentrations were with local municipal agencies.
NOTE 7 – LEASE COMMITMENTS & CONTINGENCIES
Operating Leases
The Company's, operating lease agreements are primarily for leases of branches and office space. All of these leases are classified as operating leases, and therefore, were previously not recognized on the Company’s consolidated balance sheet. Topic 842 requires operating lease agreements to be recognized on the consolidated balance sheet as a right-of-use-asset with a corresponding lease liability.
The table below details the Right of Use asset (net of accumulated amortization), lease liability and other information related to the Company's operating leases:
| | | | | | | | | | | | | | |
(dollars in thousands) | | March 31, 2022 | | December 31, 2021 |
Operating Leases | | | | |
Operating lease right of use asset, net | | $ | 6,033 | | | $ | 6,124 | |
Operating lease liability | | $ | 6,266 | | | $ | 6,343 | |
Weighted average remaining lease term | | 16.53 years | | 17.21 years |
Weighted average discount rate | | 3.51 | % | | 3.51 | % |
Remaining lease term - min | | 5.5 years | | 6.3 years |
Remaining lease term - max | | 22.0 years | | 23.0 years |
The table below details the Company's lease cost, which is included in occupancy expense in the Unaudited Consolidated Statements of Income.
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended March 31, | | |
(dollars in thousands) | | 2022 | | 2021 | | | | |
| | | | | | | | |
Operating lease cost | | $ | 146 | | | $ | 197 | | | | | |
| | | | | | | | |
Cash paid for lease liability | | $ | 131 | | | $ | 176 | | | | | |
A maturity analysis of operating lease liabilities and reconciliation of the undiscounted cash flows to the total operating lease liability is as follows:
| | | | | | | | |
(dollars in thousands) | | As of March 31, 2022 |
| | |
Lease payments due: | | |
Within one year | | $ | 532 | |
After one but within two years | | 539 | |
After two but within three years | | 547 | |
After three but within four years | | 588 | |
After four but within five years | | 595 | |
After five years | | 5,677 | |
Total undiscounted cash flows | | $ | 8,478 | |
Discount on cash flows | | 2,212 | |
Total lease liability | | $ | 6,266 | |
NOTE 8 – GUARANTEED PREFERRED BENEFICIAL INTEREST IN JUNIOR SUBORDINATED DEBENTURES (“TRUPs”)
On June 15, 2005, Tri-County Capital Trust II (“Capital Trust II”), a Delaware business trust formed, funded and wholly-owned by the Company, issued $5.0 million of variable-rate capital securities in a private pooled transaction. The variable rate is based on the 90-day LIBOR rate plus 1.70%. The Trust used the proceeds from this issuance, along with the $0.2 million for Capital Trust II’s common securities, to purchase $5.2 million of the Company’s junior subordinated debentures. The interest rate on the debentures and the trust preferred securities is variable and adjusts quarterly. These capital securities qualify as Tier I capital and are presented in the Consolidated Balance Sheets as “Guaranteed Preferred Beneficial Interests in Junior Subordinated Debentures.” Both the capital securities of Capital Trust II and the junior subordinated debentures are scheduled to mature on June 15, 2035, unless called by the Company.
On July 22, 2004, Tri-County Capital Trust I (“Capital Trust I”), a Delaware business trust formed, funded and wholly owned by the Company, issued $7.0 million of variable-rate capital securities in a private pooled transaction. The variable rate is based on the 90-day LIBOR rate plus 2.60%. The Trust used the proceeds from this issuance, along with the Company’s $0.2 million capital contribution for Capital Trust I’s common securities, to purchase $7.2 million of the Company’s junior subordinated debentures. The interest rate on the debentures and the trust preferred securities is variable and adjusts quarterly. These debentures qualify as Tier I capital and are presented in the Consolidated Balance Sheets as “Guaranteed Preferred Beneficial Interests in Junior Subordinated Debentures.” Both the capital securities of Capital Trust I and the junior subordinated debentures are scheduled to mature on July 22, 2034, unless called by the Company.
NOTE 9 – SUBORDINATED NOTES
On October 14, 2020, the Company issued and sold $20.0 million in aggregate principal amount of its 4.75% Fixed to Floating Rate Subordinated Notes due 2030 (the "Notes"). The Notes were sold by the Company in a private offering. The Notes mature on October 15, 2030 and bear interest at a fixed rate of 4.75% to October 14, 2025. From October 15, 2025 to the maturity date or early redemption date, the interest rate will reset quarterly to the three-month Secured Overnight Financing Rate ("SOFR") plus 458 basis points. The Company may redeem the Notes at any time after October 14, 2025, and at any time in whole, but not in part, upon the occurrence of certain events. Any redemption of the Notes will be subject to prior regulatory approval. The Company incurred debt issuance costs for placement fees, legal and other out-of-pocket expenses of approximately $0.6 million, which are being amortized over the life of the Notes. The Company recognized amortization expense of $14,000 and $58,000 for the quarters ended March 31, 2022 and 2021, respectively.
NOTE 10 – REGULATORY CAPITAL
The Bank’s primary regulator is the Federal Deposit Insurance Corporation (“FDIC”). The Bank is subject to regulation, supervision and regular examination by the Maryland Commissioner of Financial Regulation (the “Commissioner”) and the FDIC. The Company is subject to regulation, examination and supervision by the Federal Reserve Board under the Bank Holding Company Act of 1956, as amended (the “BHCA”).
The Company and Bank are subject to the Basel III Capital Rules which establish a comprehensive capital framework for U.S. banking organizations. The rules implement the Basel Committee’s “Basel III” framework for strengthening international capital standards as well as certain provisions of the Dodd-Frank Act. The Basel III Capital Rules define the components of capital and address other issues affecting the numerator in banking institutions’ regulatory capital ratios. The Basel III Capital Rules also address risk weights and other issues affecting the denominator in banking institutions’ regulatory capital ratios.
The rules include a common equity Tier 1 capital to risk-weighted assets minimum ratio of 4.50%, a minimum ratio of Tier 1 capital to risk-weighted assets of 6.0%, require a minimum ratio (“Min. Ratio”) of Total Capital to risk-weighted assets of 8.0%, and require a minimum Tier 1 leverage ratio of 4.0%. A capital conservation buffer (“CCB”) is also established above the regulatory minimum capital requirements. The rules revised the definition and calculation of Tier 1 capital, Total Capital, and risk-weighted assets.
As of March 31, 2022, and December 31, 2021, the Company and Bank were well-capitalized under the regulatory framework for prompt corrective action ("PCA") under the new Basel III Capital Rules. Management believes, as of March 31, 2022 and December 31, 2021, that the Company and the Bank met all capital adequacy requirements to which they were subject. The Company’s and the Bank’s actual regulatory capital amounts and ratios are presented in the following table.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Regulatory Capital and Ratios | | | | The Company | | The Bank |
(dollars in thousands) | | | | March 31, 2022 | | December 31, 2021 | | March 31, 2022 | | December 31, 2021 |
Common equity | | | | $ | 193,140 | | | $ | 208,133 | | | $ | 222,753 | | | $ | 236,561 | |
Goodwill | | | | (10,835) | | | (10,835) | | | (10,835) | | | (10,835) | |
Core deposit intangible (net of deferred tax liability) | | | | (685) | | | (766) | | | (685) | | | (766) | |
AOCI losses | | | | 18,969 | | | 1,952 | | | 18,969 | | | 1,952 | |
Common Equity Tier 1 Capital | | | | 200,589 | | | 198,484 | | | 230,202 | | | 226,912 | |
TRUPs | | | | 12,000 | | | 12,000 | | | — | | | — | |
Tier 1 Capital | | | | 212,589 | | | 210,484 | | | 230,202 | | | 226,912 | |
Allowable reserve for credit losses and other Tier 2 adjustments | | | | 21,619 | | | 18,468 | | | 21,619 | | | 18,468 | |
Subordinated notes | | | | 19,524 | | | 19,510 | | | — | | | — | |
Tier 2 Capital | | | | $ | 253,732 | | | $ | 248,462 | | | $ | 251,821 | | | $ | 245,380 | |
| | | | | | | | | | |
Risk-Weighted Assets ("RWA") | | | | $ | 1,731,539 | | | $ | 1,665,296 | | | $ | 1,729,914 | | | $ | 1,663,831 | |
Average Assets ("AA") | | | | $ | 2,319,531 | | | $ | 2,281,210 | | | $ | 2,317,923 | | | $ | 2,279,835 | |
Regulatory Minimum Ratio + CCB (1) | | | | | | | | | | |
Common Tier 1 Capital to RWA | | 7.00 | % | | 11.58 | % | | 11.92 | % | | 13.31 | % | | 13.64 | % |
Tier 1 Capital to RWA | | 8.50 | | | 12.28 | | | 12.64 | | | 13.31 | | | 13.64 | |
Tier 2 Capital to RWA | | 10.50 | | | 14.65 | | | 14.92 | | | 14.56 | | | 14.75 | |
Tier 1 Capital to AA (Leverage) (2) | | n/a | | 9.17 | | | 9.23 | | | 9.93 | | | 9.95 | |
____________________________________
(1)The regulatory minimum capital ratio ("Min. Ratio") + the capital conservation buffer ("CCB").
(2)Tier 1 Capital to AA (Leverage) has no capital conservation buffer defined. The PCA well capitalized is defined as 5.00%.
Dividends paid by the Company are substantially funded from dividends received from the Bank. Federal and holding company regulations, as well as Maryland law, impose certain restrictions on capital distributions, including dividend payments and share repurchases. These restrictions generally require advanced approval from the Bank's regulator for payment of dividends in excess of the sum of net income for the current calendar year and the retained net income of the prior two calendar years.
NOTE 11 – FAIR VALUE MEASUREMENTS
The Company adopted FASB ASC Topic 820, “Fair Value Measurements” and FASB ASC Topic 825, “The Fair Value Option for Financial Assets and Financial Liabilities”, which provides a framework for measuring and disclosing fair value under U.S. GAAP. FASB ASC Topic 820 requires disclosures about the fair value of assets and liabilities recognized in the balance sheet in periods subsequent to initial recognition, whether the measurements are made on a recurring basis (for example, AFS investment securities) or on a nonrecurring basis (for example, impaired loans).
FASB ASC Topic 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. FASB ASC Topic 820 also establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.
The Company utilizes fair value measurements to record fair value adjustments to certain assets and to determine fair value disclosures. AFS securities are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis such as loans held for investment and certain other assets. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.
Under FASB ASC Topic 820, the Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded, and the reliability of the assumptions used to determine the fair value. These hierarchy levels are:
Level 1 inputs - Unadjusted quoted prices in active markets for identical assets or liabilities that the entity has the ability to access at the measurement date.
Level 2 inputs - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets and liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.
Level 3 inputs - Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.
Transfers between levels of the fair value hierarchy are recognized on the actual date of the event or circumstances that caused the transfer, which generally coincides with the Company’s quarterly valuation process. Intra-quarter transfers in and out of level 3 assets and liabilities recorded at fair value on a recurring basis are disclosed. There were no such transfers during the quarter ended March 31, 2022 or the year ended December 31, 2021.
Following is a description of valuation methodologies used for assets and liabilities recorded at fair value:
Securities Available for Sale
AFS investment securities are recorded at fair value on a recurring basis. Standard inputs include quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage-backed securities issued by government sponsored entities (“GSEs”), municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.
Equity Securities Carried at Fair Value Through Income
Equity securities carried at fair value through income are recorded at fair value on a recurring basis. Standard inputs include quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 equity securities include those traded on an active exchange, such as the New York Stock Exchange. Level 2 equity securities include mutual funds with asset-backed securities issued by government sponsored entities (“GSEs”) as the underlying investment supporting the fund. Equity securities classified as Level 3 include mutual funds with asset-backed securities in less liquid markets.
Loans held for sale
The Company has elected to carry loans held for sale at fair value. This election reduces certain timing differences in the Consolidated Statement of Income and better aligns with the management of the portfolio from a business perspective. Fair value is derived from secondary market quotations for similar instruments. Gains and losses on sales of residential mortgage loans are recorded as a component of noninterest income in the Consolidated Statements of Income. As such, loans subjected to fair value adjustments are classified as Level 2 valuation
Loans Receivable
The Company does not record loans at fair value on a recurring basis; however, from time to time, a loan is considered impaired and an allowance for loan loss is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan are considered impaired. Management estimates the fair value of impaired loans using one of several methods, including the collateral value, market value of similar debt, or discounted cash flows. Impaired loans not requiring a specific allowance are those for which the fair value of expected repayments or collateral exceed the recorded investment in such loans. At March 31, 2022 and December 31, 2021, substantially all of the impaired loans were evaluated based upon the fair value of the collateral.
In accordance with FASB ASC 820, impaired loans where an allowance is established based on the fair value of collateral (loans with impairment) require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price (e.g., contracted sales price), the Company records the loan as nonrecurring Level 2. When the fair value of the impaired loan is derived from an appraisal, the Company records the loan as nonrecurring Level 3. Fair value is re-assessed at least quarterly or more frequently when circumstances occur that indicate a change in the fair value. The fair values of impaired loans that are not measured based on collateral values are measured using discounted cash flows and considered to be Level 3 inputs.
Other Real Estate Owned ("OREO")
OREO is adjusted for fair value upon transfer of the loans to foreclosed assets. Subsequently, OREO is reported at the lower of carrying value or fair value. Fair value is based on independent market prices, appraised value of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price (e.g., contracted sales price), the Company records the foreclosed asset as nonrecurring Level 2. When the fair value is derived from an appraisal, the Company records the foreclosed asset at nonrecurring Level 3.
Mortgage Banking Derivatives
The mortgage banking derivative comprises interest rate lock commitments for residential loans to be sold on a best-efforts basis. The significant unobservable input used in the fair value measurement of the Bank's interest rate lock commitments is the pull-through rate, which represents the percentage of loans currently in a lock position which management estimates will ultimately close. The pull-through rate is estimated based on mortgage banking activity in 2021. All interest rate lock commitments are considered to be Level 3.
Assets and Liabilities Recorded at Fair Value on a Recurring Basis
The tables below present the recorded amount of assets as of March 31, 2022 and December 31, 2021 measured at fair value on a recurring basis.
| | | | | | | | | | | | | | | | | | | | | | | | | | |
(dollars in thousands) | | March 31, 2022 |
Description of Asset | | Fair Value | | Level 1 | | Level 2 | | Level 3 |
AFS securities | | | | | | | | |
Asset-backed securities issued by GSEs and U.S. Agencies | | | | | | | | |
MBS | | $ | 121,520 | | | $ | — | | | $ | 121,520 | | | $ | — | |
CMOs | | 189,799 | | | — | | | 189,799 | | | — | |
U.S. Agency | | 13,410 | | | — | | | 13,410 | | | — | |
Asset-backed securities issued by Others: | | | | | | | | |
Residential CMOs | | 199 | | | — | | | 199 | | | — | |
Student Loan Trust ABSs | | 53,469 | | | — | | | 53,469 | | | — | |
| | | | | | | | |
Municipal bonds | | 90,827 | | | — | | | 90,827 | | | — | |
Corporate bonds | | 2,960 | | | — | | | 2,960 | | | — | |
U.S. government obligations | | 35,343 | | | — | | | 35,343 | | | — | |
Total AFS securities | | $ | 507,527 | | | $ | — | | | $ | 507,527 | | | $ | — | |
| | | | | | | | |
Equity securities carried at fair value through income | | | | | | | | |
CRA investment fund | | $ | 4,562 | | | $ | — | | | $ | 4,562 | | | $ | — | |
| | | | | | | | |
Non-marketable equity securities | | | | | | | | |
Other equity securities | | $ | 207 | | | $ | — | | | $ | 207 | | | $ | — | |
| | | | | | | | |
Loans held for sale | | $ | 373 | | | $ | — | | | $ | 373 | | | $ | — | |
| | | | | | | | |
Mortgage banking derivative | | | | | | | | |
Interest rate lock commitments | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
(dollars in thousands) | | December 31, 2021 |
Description of Asset | | Fair Value | | Level 1 | | Level 2 | | Level 3 |
AFS securities | | | | | | | | |
Asset-backed securities issued by GSEs and U.S. Agencies | | | | | | | | |
MBS | | $ | 119,916 | | | $ | — | | | $ | 119,916 | | | $ | — | |
CMOs | | 197,123 | | | — | | | 197,123 | | | — | |
U.S. Agency | | 14,304 | | | — | | | 14,304 | | | — | |
Asset-backed securities issued by others: | | | | | | | | |
Residential CMOs | | 221 | | | — | | | 221 | | | — | |
Student Loan Trust ABSs | | 56,574 | | | — | | | 56,574 | | | — | |
| | | | | | | | |
Municipal bonds | | 92,841 | | | — | | | 92,841 | | | — | |
| | | | | | | | |
U.S. government obligations | | 16,860 | | | — | | | 16,860 | | | — | |
Total AFS securities | | $ | 497,839 | | | $ | — | | | $ | 497,839 | | | $ | — | |
| | | | | | | | |
Equity securities carried at fair value through income | | | | | | | | |
CRA investment fund | | $ | 4,772 | | | $ | — | | | $ | 4,772 | | | $ | — | |
| | | | | | | | |
Non-marketable equity securities | | | | | | | | |
Other equity securities | | $ | 207 | | | $ | — | | | $ | 207 | | | $ | — | |
| | | | | | | | |
Mortgage banking derivative | | | | | | | | |
Interest rate lock commitments | | $ | 28 | | | $ | — | | | $ | — | | | $ | 28 | |
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
The Company may be required to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. GAAP. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period. Assets measured at fair value on a nonrecurring basis as of March 31, 2022 and December 31, 2021 were included in the tables below.
| | | | | | | | | | | | | | | | | | | | | | | | | | |
(dollars in thousands) | | March 31, 2022 |
Description of Asset | | Fair Value | | Level 1 | | Level 2 | | Level 3 |
Individually assessed loans | | | | | | | | |
Commercial real estate | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Commercial loans | | — | | | — | | | — | | | — | |
Commercial equipment | | 427 | | | — | | | — | | | 427 | |
Total loans with impairment | | $ | 427 | | | $ | — | | | $ | — | | | $ | 427 | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
(dollars in thousands) | | December 31, 2021 |
Description of Asset | | Fair Value | | Level 1 | | Level 2 | | Level 3 |
Loans with impairment | | | | | | | | |
Commercial real estate | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Commercial loans | | — | | | — | | | — | | | — | |
Commercial equipment | | — | | | — | | | — | | | — | |
Total loans with impairment | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Premises and equipment held for sale | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Other real estate owned | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Loans with impairment had unpaid principal balances of $0.7 million and $0.3 million at March 31, 2022 and December 31, 2021, respectively.
The following tables provide information describing the unobservable inputs used in Level 3 fair value measurements at March 31, 2022 and December 31, 2021.
| | | | | | | | | | | | | | | | | | | | | | | | | | |
March 31, 2022 | | Fair Value | | Valuation Technique | | Unobservable Inputs | | Range (Weighted Average) |
(dollars in thousands) |
Description of Asset |
Loans with impairment | | $ | 427 | | | Third party appraisals and in-house real estate evaluations of fair value | | Management discount for property type, selling costs and current market conditions | | 0% - 50% - 40% |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
December 31, 2021 | | Fair Value | | Valuation Technique | | Unobservable Inputs | | Range (Weighted Average) |
(dollars in thousands) |
Description of Asset |
| | | | | | | | |
Interest rate lock commitments | | $ | 28 | | | Freddie Mac pricing of loans with comparable terms | | Pull-through rate | | 0% - 100% - 75% |
| | | | | | | | |
| | | | | | | | |
NOTE 12 – FAIR VALUE OF FINANCIAL INSTRUMENTS
Financial instruments require disclosure of fair value information, whether or not recognized in the consolidated balance sheets, when it is practical to estimate the fair value. A financial instrument is defined as cash, evidence of an ownership interest in an entity or a contractual obligation which requires the exchange of cash. Certain items are specifically excluded from the financial instrument fair value disclosure requirements, including the Company’s common stock, OREO, premises and equipment and other assets and liabilities.
The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. Therefore, any aggregate unrealized gains or losses should not be interpreted as a forecast of future earnings or cash flows. Furthermore, the fair values disclosed should not be interpreted as the aggregate current value of the Company.
The Company’s estimated fair values of financial instruments are presented in the following tables.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
March 31, 2022 | | Carrying Amount | | Fair Value | | Fair Value Measurements |
Description of Asset (dollars in thousands) | | | | Level 1 | | Level 2 | | Level 3 |
Assets | | | | | | | | | | |
Investment securities - AFS | | $ | 507,527 | | | $ | 507,527 | | | $ | — | | | $ | 507,527 | | | $ | — | |
| | | | | | | | | | |
Equity securities carried at fair value through income | | 4,562 | | | 4,562 | | | — | | | 4,562 | | | — | |
Non-marketable equity securities in other financial institutions | | 207 | | | 207 | | | — | | | 207 | | | — | |
FHLB Stock | | 1,685 | | | 1,685 | | | — | | | 1,685 | | | — | |
Loans held for sale | | 373 | | | 373 | | | — | | | 373 | | | — | |
Net loans receivable | | 1,623,435 | | | 1,581,251 | | | — | | | — | | | 1,581,251 | |
Accrued interest receivable | | 5,389 | | | 5,389 | | | — | | | 5,389 | | | — | |
Investment in BOLI | | 39,145 | | | 39,145 | | | — | | | 39,145 | | | — | |
Mortgage banking derivatives | | — | | | — | | | — | | | — | | | — | |
| | | | | | | | | | |
Liabilities | | | | | | | | | | |
Savings, NOW and money market accounts | | $ | 1,774,992 | | | $ | 1,774,992 | | | $ | — | | | $ | 1,774,992 | | | $ | — | |
Time deposits | | 320,091 | | | 320,447 | | | — | | | 320,447 | | | — | |
| | | | | | | | | | |
Long-term debt | | 12,213 | | | 12,235 | | | — | | | 12,235 | | | — | |
TRUPs | | 12,000 | | | 12,049 | | | — | | | 12,049 | | | — | |
Subordinated notes | | 19,524 | | | 20,478 | | | — | | | 20,478 | | | — | |
See the Company’s methodologies disclosed in Note 21 of the Company’s 2021 Form 10-K for the fair value methodologies used as of December 31, 2021:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
December 31, 2021 | | Carrying Amount | | Fair Value | | Fair Value Measurements |
Description of Asset (dollars in thousands) | | | | Level 1 | | Level 2 | | Level 3 |
Assets | | | | | | | | | | |
Investment securities - AFS | | $ | 497,839 | | | $ | 497,839 | | | $ | — | | | $ | 497,839 | | | $ | — | |
| | | | | | | | | | |
Equity securities carried at fair value through income | | 4,772 | | | 4,772 | | | — | | | 4,772 | | | — | |
Non-marketable equity securities in other financial institutions | | 207 | | | 207 | | | — | | | 207 | | | — | |
FHLB Stock | | 1,472 | | | 1,472 | | | — | | | 1,472 | | | — | |
| | | | | | | | | | |
Net loans receivable | | 1,586,791 | | | 1,578,032 | | | — | | | — | | | 1,578,032 | |
Accrued interest receivable | | 5,588 | | | 5,588 | | | — | | | 5,588 | | | — | |
Investment in BOLI | | 38,932 | | | 38,932 | | | — | | | 38,932 | | | — | |
Mortgage ranking derivatives | | 28 | | | 28 | | | — | | | — | | | 28 | |
| | | | | | | | | | |
Liabilities | | | | | | | | | | |
Savings, NOW and money market accounts | | $ | 1,728,743 | | | $ | 1,728,743 | | | $ | — | | | $ | 1,728,743 | | | $ | — | |
Time deposits | | 327,421 | | | 328,083 | | | — | | | 328,083 | | | — | |
| | | | | | | | | | |
Long-term debt | | 12,231 | | | 12,391 | | | — | | | 12,391 | | | — | |
TRUPs | | 12,000 | | | 11,589 | | | — | | | 11,589 | | | — | |
Subordinated notes | | 19,510 | | | 20,979 | | | — | | | 20,979 | | | — | |
At March 31, 2022 and December 31, 2021, the Company had outstanding loan commitments and standby letters of credit with customers of $68.8 million and $64.4 million, respectively, and $23.7 million and $22.0 million, respectively. Additionally, at March 31, 2022 and December 31, 2021, customers had $222.6 million and $241.7 million, respectively, available and unused on lines of credit, which include lines of credit for commercial customers, home equity loans as well as builder and construction lines. Based on the short-term lives of these instruments, the Company does not believe that the fair value of these instruments differs significantly from their carrying values.
The fair value estimates presented herein are based on pertinent information available to management as of March 31, 2022 and December 31, 2021. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these Consolidated Financial Statements since that date and, therefore, current estimates of fair value may differ significantly from the amounts presented herein.
NOTE 13 – ACCUMULATED OTHER COMPREHENSIVE INCOME/LOSS ("AOCI"/"AOCL")
The following table presents the changes in each component of accumulated other comprehensive gain, net of tax, for the three months ended March 31, 2022 and 2021.
| | | | | | | | | | | | | | | | | | |
| | Three Months Ended March 31, 2022 | | Three Months Ended March 31, 2021 | | | | |
(dollars in thousands) | Net Unrealized Gains And Losses | | Net Unrealized Gains And Losses | | | | |
Beginning of period | | $ | (1,952) | | | $ | 4,504 | | | | | |
Other comprehensive losses, net of tax before reclassifications | | (17,017) | | | (3,253) | | | | | |
Amounts reclassified from accumulated other comprehensive gain | | — | | | 433 | | | | | |
Net other comprehensive losses | | (17,017) | | | (2,820) | | | | | |
| | | | | | | | |
End of period | | $ | (18,969) | | | $ | 1,684 | | | | | |
As of the three months ended March 31, 2022 and March 31, 2021, reclassification adjustments were due to the gain on sale of AFS investment securities of $0.0 million and $0.6 million, respectively.
NOTE 14 – EARNINGS PER SHARE (“EPS”)
Basic earnings per common share represent income available to common shareholders, divided by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued. Potential common shares that may have been issued by the Company related to outstanding unvested restricted stock unit and performance stock unit awards were determined using the treasury stock method
and included in the calculation of dilutive common stock equivalents. The Company has not granted any stock options since 2007 and all outstanding options expired on July 17, 2017.
As of March 31, 2022, and 2021, there were no unvested restricted stock and performance stock unit awards which were excluded from the calculation as their effect would be anti-dilutive. Basic and diluted earnings per share have been computed based on weighted-average common and common equivalent shares outstanding as follows:
| | | | | | | | | | | | | | | | | | |
(dollars in thousands, except per share amounts) | | Three Months Ended March 31, | | |
2022 | | 2021 | | | | |
| | | | | | | | |
Net Income | | $ | 6,288 | | | $ | 6,299 | | | | | |
| | | | | | | | |
Average number of common shares outstanding | | 5,688,221 | | | 5,888,250 | | | | | |
Dilutive effect of common stock equivalents | | 10,817 | | | 9,448 | | | | | |
Average number of shares used to calculate diluted EPS | | 5,699,038 | | | 5,897,698 | | | | | |
| | | | | | | | |
Anti-dilutive shares | | — | | | — | | | | | |
| | | | | | | | |
Earnings Per Common Share | | | | | | | | |
Basic | | $ | 1.11 | | | $ | 1.07 | | | | | |
Diluted | | $ | 1.10 | | | $ | 1.07 | | | | | |
NOTE 15 – INCOME TAXES
The Company files a consolidated federal income tax return with its subsidiaries. Deferred tax assets and liabilities are determined using the liability (or balance sheet) method which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities. If it is more likely than not that some portion or the entire deferred tax asset will not be realized, deferred tax assets will be reduced by a valuation allowance. It is the Company’s policy to recognize accrued interest and penalties related to unrecognized tax benefits as a component of tax expense.
| | | | | | | | | | | | | | | | | | |
(dollars in thousands) | | Three Months Ended March 31, | | |
2022 | | 2021 | | | | |
Current income tax expense | | $ | 1,927 | | | $ | 1,895 | | | | | |
Deferred income tax expense | | 206 | | | 232 | | | | | |
Income tax expense as reported | | $ | 2,133 | | | $ | 2,127 | | | | | |
| | | | | | | | |
Effective tax rate | | 25.3 | % | | 25.2 | % | | | | |
Net deferred tax assets totaled $15.5 million at March 31, 2022 and $9.0 million at December 31, 2021. No valuation allowance for deferred tax assets was recorded at March 31, 2022 as management believes it is more likely than not that deferred tax assets will be realized against deferred tax liabilities and projected future taxable income.
The effective tax rate differed from the statutory federal and state income rates during 2022 and 2021 primarily due to the effect of tax-exempt loans, life insurance policies, the income tax effects associated with stock-based compensation and certain non-deductible expenses for state income taxes. The Company’s consolidated effective tax rate is expected to be between 25.00% and 26.06% in 2022.