See accompanying notes to unaudited consolidated financial statements.
See accompanying notes to unaudited consolidated financial statements.
See accompanying notes to unaudited consolidated financial statements.
See accompanying notes to unaudited consolidated financial statements.
See accompanying notes to unaudited consolidated financial statements.
MIDDLEFIELD BANC CORP.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The consolidated financial statements of Middlefield Banc Corp. ("Company") include its bank subsidiary, The Middlefield Banking Company (“MBC” or “Middlefield Bank”), and a nonbank asset resolution subsidiary EMORECO, Inc. The consolidated financial statements also include the accounts of MBC’s subsidiaries, Middlefield Investments, Inc. (MI) and Middlefield Insurance Services. All significant inter-company items have been eliminated.
In the first quarter of 2022, MBC established a wholly owned subsidiary named Middlefield Insurance Services (MIS), headquartered in Middlefield, Ohio. This operating subsidiary exists to offer retail and business customers a variety of insurance services, including home, renter’s, automobile, pet, identity theft, travel, and professional liability insurance. At March 31, 2022, MIS’s assets consist of a cash account, a prepaid asset, and an accounts receivable. All significant inter-company items have been eliminated between MBC and this subsidiary.
The unaudited condensed consolidated financial statements have been prepared in conformity with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles (“GAAP”) for complete financial statements. The financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Form 10-K for the year ended December 31, 2021. The interim consolidated financial statements include all adjustments (consisting of only ordinary recurring items) that, in the opinion of management, are necessary for a fair presentation of the financial position and results of operations for the periods presented. The results of operations for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for an entire year.
In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts and liabilities as of the balance sheet date and revenues and expenses for the period. Actual results could differ from those estimates.
Recently Issued Accounting Pronouncements
In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments, which changes the impairment model for most financial assets. This Update is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The underlying premise of the Update is that financial assets measured at amortized cost should be presented at the net amount expected to be collected through an allowance for credit losses that is deducted from the amortized cost basis. The allowance for credit losses should reflect management’s current estimate of credit losses that are expected to occur over the remaining life of a financial asset. The income statement will be affected by the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period. With certain exceptions, transition to the new requirements will be through a cumulative-effect adjustment to opening retained earnings as of the beginning of the first reporting period in which the guidance is adopted. This Update is effective for SEC filers that are eligible to be smaller reporting companies, non-SEC filers, and all other companies, to fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. We expect to recognize a one-time cumulative-effect adjustment to the allowance for loan losses as of the beginning of the first reporting period in which the new standard is effective but cannot yet determine the magnitude of any such one-time adjustment or the overall impact of the new guidance on the consolidated financial statements. Management will continue to monitor model output throughout the deferral period.
CECL Adoption The Company continues to monitor the opportunity to early adopt ASC Topic 326, which replaces the current incurred loss approach for measuring credit losses with an expected loss model ("CECL"). CECL applies to financial assets subject to credit losses and measured at amortized cost and certain off-balance-sheet credit exposures, which include, but are not limited to, loans, leases, held-to-maturity securities, loan commitments, and financial guarantees. Expected results of adoption are challenging to foreshadow due to the evolving macroeconomic landscape. Early adoption of CECL is unlikely.
In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment. To simplify the subsequent measurement of goodwill, the FASB eliminated Step 2 from the goodwill impairment test. In computing the implied fair value of goodwill under Step 2, an entity had to perform procedures to determine the fair value at the impairment testing date of its assets and liabilities (including unrecognized assets and liabilities) following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Instead, under the amendments in this Update, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The Update is effective for smaller reporting companies and all other entities for fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. This Update is not expected to have a significant impact on the Company’s financial statements.
In November 2019, the FASB issued ASU 2019-11, Codification Improvements to Topic 326, Financial Instruments – Credit Losses, to clarify its new credit impairment guidance in ASC 326, based on implementation issues raised by stakeholders. This Update clarified, among other things, that expected recoveries are to be included in the allowance for credit losses for these financial assets; an accounting policy election can be made to adjust the effective interest rate for existing troubled debt restructurings based on the prepayment assumptions instead of the prepayment assumptions applicable immediately prior to the restructuring event; and extends the practical expedient to exclude accrued interest receivable from all additional relevant disclosures involving amortized cost basis. For entities that have not yet adopted ASU 2016-13 as of November 26, 2019, the effective dates for ASU 2019-11 are the same as the effective dates and transition requirements in ASU 2016-13. For entities that have adopted ASU 2016-13, ASU 2019-11 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company qualifies as a smaller reporting company and does not expect to early adopt these ASUs.
In January 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, March 2020, to provide temporary optional expedients and exceptions to the U.S. GAAP guidance on contract modifications and hedge accounting to ease the financial reporting burdens of the expected market transition from LIBOR and other interbank offered rates to alternative reference rates, such as the Secured Overnight Financing Rate. Entities can elect not to apply certain modification accounting requirements to contracts affected by what the guidance calls “reference rate reform” if certain criteria are met. An entity that makes this election would not have to remeasure the contracts at the modification date or reassess a previous accounting determination. Also, entities can elect various optional expedients that would allow them to continue applying hedge accounting for hedging relationships affected by reference rate reform if certain criteria are met, and can make a one-time election to sell and/or reclassify held-to-maturity debt securities that reference an interest rate affected by reference rate reform. The amendments in this ASU are effective for all entities upon issuance through December 31, 2022. It is too early to predict whether a new rate index replacement and the adoption of the ASU will have a material impact on the Company’s financial statements.
In March 2022, the FASB issued ASU 2022-02, Financial Instruments—Credit Losses (Topic 326) - Troubled Debt Restructurings (TDR) and Vintage Disclosures to update the TDR guidance and required vintage disclosures in ASC 326, based on implementation issues raised by stakeholders. The amendments in this Update eliminate the accounting guidance for TDRs by creditors in Subtopic 310-40, Receivables—Troubled Debt Restructurings by Creditors, while enhancing disclosure requirements for certain loan refinancings and restructurings by creditors when a borrower is experiencing financial difficulty. Specifically, rather than applying the recognition and measurement guidance for TDRs, an entity must apply the loan refinancing and restructuring guidance in paragraphs 310-20-35-9 through 35-11 to determine whether a modification results in a new loan or a continuation of an existing loan. For public business entities, the amendments in this Update require that an entity disclose current-period gross write-offs by year of origination for financing receivables and net investments in leases within the scope of Subtopic 326-20, Financial Instruments—Credit Losses—Measured at Amortized Cost. The amendments in this ASU are effective for all entities upon adoption of ASU 2016-13.
Reclassification of Comparative Amounts
Certain comparative amounts for prior years have been reclassified to conform to current-year presentations. Such reclassifications did not affect net income or retained earnings.
NOTE 2 – REVENUE RECOGNITION
Per ASC Topic 606, Revenue from Contracts with Customers (Topic 606), management determined that the primary sources of revenue, which emanate from interest income on loans and investments, along with noninterest revenue resulting from investment security gains, gains and losses on loans, and BOLI income, are not within the scope of ASC 606. These revenue sources cumulatively comprise 90.4% of the total revenue of the Company.
The main types of revenue within the scope of the standard are as follows:
Service charges on deposit accounts – The Company has contracts with its deposit customers where fees are charged if the account balance falls below predetermined levels defined as compensating balances. These agreements can be canceled at any time by either the Company or the deposit customer. Revenue from these transactions is recognized monthly as the Company has an unconditional right to the fee consideration. The Company also has transaction fees related to specific customer requests or activities that include overdraft fees, online banking fees, and other transaction fees. All of these fees are attributable to specific performance obligations of the Company where the revenue is recognized at a defined point in time, which is the completion of the requested service/transaction.
Net gains (losses) on sale of other real estate owned (“OREO”) – Gains and losses are recognized after the property sale when the buyer obtains control of the real estate and all of the performance obligations of the Company have been satisfied. Evidence of the buyer obtaining control of the asset includes the transfer of the property title, physical possession of the asset, and the buyer securing control of the risks and rewards related to the asset. In situations where the Company agrees to provide financing to facilitate the sale, additional analysis is performed to ensure that the contract for sale identifies the buyer and seller, the asset to be transferred, and the payment terms, that the contract has an actual commercial substance and that amounts due from the buyer are reasonable. In situations where financing terms are not reflective of current market terms, the transaction price is discounted, impacting the gain/loss and the carrying value of the asset. Gains and losses on the sale of OREO are reported in the Consolidated Statement of Income.
Revenue from investment services – The Company earns investment services revenue through its servicing partnership with LPL Financial. The performance obligation to investment management customers is satisfied over time, and therefore, revenue is recognized over time. The Company generally receives trailing investment services revenue in arrears and recognizes the revenue when the monthly statement is received.
The following table depicts the disaggregation of revenue derived from contracts with customers to represent the nature, amount, timing, and uncertainty of revenue and cash flows:
|
|
For the Three Months Ended March 31, |
|
Noninterest Income |
|
2022 |
|
|
2021 |
|
(Dollar amounts in thousands) |
|
|
|
|
|
|
|
|
Service charges on deposit accounts: |
|
|
|
|
|
|
|
|
Overdraft fees |
|
$ |
201 |
|
|
$ |
168 |
|
ATM banking fees |
|
|
309 |
|
|
|
312 |
|
Service charges and other fees |
|
|
404 |
|
|
|
307 |
|
Gain (loss) on equity securities (a) |
|
|
33 |
|
|
|
81 |
|
Earnings on bank-owned life insurance (a) |
|
|
106 |
|
|
|
226 |
|
Gain on sale of loans (a) |
|
|
3 |
|
|
|
592 |
|
Revenue from investment services |
|
|
141 |
|
|
|
127 |
|
Other income |
|
|
206 |
|
|
|
405 |
|
Total noninterest income |
|
$ |
1,403 |
|
|
$ |
2,218 |
|
|
|
|
|
|
|
|
|
|
Net loss on other real estate owned (b) |
|
$ |
8 |
|
|
$ |
46 |
|
(a) Not within scope of ASC 606 |
(b) Recognized within noninterest expense |
NOTE 3 - STOCK-BASED COMPENSATION
The Company had no non-vested stock options outstanding as of March 31, 2022, and 2021.
There was no stock option activity during the three months ended March 31, 2022.
The following table presents the activity during the three months ended March 31, 2022, related to awards of restricted stock:
| | | | | | Weighted- | |
| | | | | | average | |
| | | | | | Grant Date Fair | |
| | Units | | | Value Per Unit | |
| | | | | | | | |
Nonvested at January 1, 2022 | | | 76,933 | | | $ | 23.01 | |
Granted | | | 25,414 | | | | 24.80 | |
Vested | | | (13,524 | ) | | | 25.52 | |
Nonvested at March 31, 2022 | | | 88,823 | | | $ | 23.01 | |
| | | | | | | | |
Expected to vest as of March 31, 2022 | | | 54,124 | | | $ | 24.05 | |
The Company recognizes restricted stock forfeitures in the period they occur.
Share-based compensation expense of $117,000 and $0 was recognized for the three-month periods ended March 31, 2022, and 2021, respectively. Vesting of shares under the plan is contingent on a combination of the service period and a market condition tied to the total shareholder return on the Company’s stock. The award recipient must maintain service with Middlefield Banc Corp. and its affiliates until the third anniversary of the award to satisfy the service condition. In addition, the market condition will be met if the average total shareholder annual return (“TSR”) on Middlefield Banc Corp. stock for the three subsequent years meets target for 2021 and 2022. The target TSR is 10%, capped at 125% of target, and reduced proportionally between 0% and 10%. A change in market conditions leads to adjustments to the probability of the market condition achievement, which results in changes in the liability and the compensation expense. Since the shares of restricted stock are historically paid out at the vesting date in a combination of shares and cash, the Company has recorded a liability related to this plan which totals $503,000 and $581,000 on March 31, 2022, and 2021, respectively. When the shares vest, the amount distributed in shares is transferred to common stock and the remainder is distributed in cash.
Total unrecognized stock compensation cost related to nonvested share-based compensation on restricted stock as of March 31, 2022 totals $887,000, of which $345,000 is estimated for the rest of 2022, $357,000 for 2023, $164,000 for 2024, and $20,000 for 2025.
NOTE 4 - EARNINGS PER SHARE
The Company provides a dual presentation of basic and diluted earnings per share. Basic earnings per share is calculated by dividing net income by the average shares outstanding. Diluted earnings per share adds the dilutive effects of stock options and restricted stock to average shares outstanding.
The following table sets forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings-per-share computation.
|
|
For the Three |
|
|
|
Months Ended |
|
|
|
March 31, |
|
|
|
2022 |
|
|
2021 |
|
|
|
|
|
|
|
|
|
|
Weighted-average common shares issued |
|
|
7,338,283 |
|
|
|
7,315,574 |
|
|
|
|
|
|
|
|
|
|
Average treasury stock shares |
|
|
(1,459,258 |
) |
|
|
(951,442 |
) |
|
|
|
|
|
|
|
|
|
Weighted-average common shares and common stock equivalents used to calculate basic earnings per share |
|
|
5,879,025 |
|
|
|
6,364,132 |
|
|
|
|
|
|
|
|
|
|
Additional common stock equivalents (stock options and restricted stock) used to calculate diluted earnings per share |
|
|
10,811 |
|
|
|
14,361 |
|
|
|
|
|
|
|
|
|
|
Weighted-average common shares and common stock equivalents used to calculate diluted earnings per share |
|
|
5,889,836 |
|
|
|
6,378,493 |
|
Outstanding on March 31, 2022, were 76,601 shares of restricted stock, 65,790 shares of which were anti-dilutive. There were no options to purchase shares of common stock outstanding as of March 31, 2022.
Outstanding on March 31, 2021, were 97,500 shares of restricted stock, 89,069 shares of which were anti-dilutive. There were no options to purchase shares of common stock outstanding as of March 31, 2021.
When shares recognized as equity are repurchased, the amount of the consideration paid, which includes directly attributable costs, is recognized as a deduction from equity. Repurchased shares are classified as treasury shares and are presented in the treasury share reserve. The reserve for the Company’s treasury shares comprises the cost of the Company’s shares held by the Company. As of March 31, 2022, the Company held 1,473,961 of the Company’s shares, which is an increase of 32,150 from the 1,441,811 shares held as of December 31, 2021.
NOTE 5 - FAIR VALUE MEASUREMENTS
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. GAAP establishes a fair value hierarchy that prioritizes the use of inputs used in valuation methodologies into the following levels:
Level I: | Quoted prices are available in active markets for identical assets or liabilities as of the reported date. |
Level II: | Pricing inputs are other than the quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these assets and liabilities includes items for which quoted prices are available but traded less frequently and items that are fair-valued using other financial instruments, the parameters of which can be directly observed. |
Level III: | Assets and liabilities that have little to no pricing observability as of the reported date. These items do not have two-way markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation. |
This hierarchy requires the use of observable market data when available.
The following tables present the assets measured on a recurring basis on the Consolidated Balance Sheet at their fair value by level within the fair value hierarchy. Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
| | | | | | March 31, 2022 | | | | | |
(Dollar amounts in thousands) | | Level I | | | Level II | | | Level III | | | Total | |
Assets measured on a recurring basis: | | | | | | | | | | | | | | | | |
Subordinated debt | | $ | - | | | $ | 21,902 | | | $ | 10,080 | | | $ | 31,982 | |
Obligations of states and political subdivisions | | | - | | | | 133,998 | | | | - | | | | 133,998 | |
Mortgage-backed securities in government-sponsored entities | | | - | | | | 9,236 | | | | - | | | | 9,236 | |
Total debt securities | | | - | | | | 165,136 | | | | 10,080 | | | | 175,216 | |
Equity securities in financial institutions | | | 851 | | | | - | | | | - | | | | 851 | |
Total | | $ | 851 | | | $ | 165,136 | | | $ | 10,080 | | | $ | 176,067 | |
| | | | | | December 31, 2021 | | | | | |
(Dollar amounts in thousands) | | Level I | | | Level II | | | Level III | | | Total | |
Assets measured on a recurring basis: | | | | | | | | | | | | | | | | |
Subordinated debt | | $ | - | | | $ | 20,337 | | | $ | 12,200 | | | $ | 32,537 | |
Obligations of states and political subdivisions | | | - | | | | 127,345 | | | | - | | | | 127,345 | |
Mortgage-backed securities in government-sponsored entities | | | - | | | | 10,317 | | | | - | | | | 10,317 | |
Total debt securities | | | - | | | | 157,999 | | | | 12,200 | | | | 170,199 | |
Equity securities in financial institutions | | | 818 | | | | - | | | | - | | | | 818 | |
Total | | $ | 818 | | | $ | 157,999 | | | $ | 12,200 | | | $ | 171,017 | |
Investment Securities Available for Sale - The Company obtains fair values from an independent pricing service which represent quoted prices for similar assets, fair values determined by pricing models using a market approach that considers observable market data, such as interest rate volatilities, LIBOR yield curve, credit spreads and prices from market makers and live trading systems (Level II). Level III securities are assets whose fair value cannot be determined by using observable measures. The inputs to the valuation methodology of these securities are unobservable and significant to the fair value measurement. Currently, this category includes certain subordinated debt investments that are valued based on the discounted cash flow approach assuming a yield curve of similarly structured instruments.
While the Company believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of specific financial instruments could result in a different estimate of fair value at the reporting date. Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in a sales transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective period-ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments following the respective reporting dates may be different from the amounts reported at each period-end.
Equity Securities - Equity securities that are traded on a national securities exchange are valued at their last reported sales price as of the measurement date. Equity securities traded in the over-the-counter (“OTC”) markets, and listed securities for which no sale was reported on that date are generally valued at their last reported “bid” price if held long and last reported “ask” price if sold short. To the extent equity securities are actively traded, and valuation adjustments are not applied, they are categorized in Level I of the fair value hierarchy.
The following table presents the fair value reconciliation of Level 3 assets measured at fair value on a recurring basis.
(Dollar amounts in thousands) | | | | |
| | Subordinated debt | |
Balance as of January 1, 2021 | | $ | 12,200 | |
Transfers out of Level III (1) | | | (2,250 | ) |
Net unrealized holding gain on available-for-sale investment securities | | | 130 | |
Balance as of March 31, 2022 | | $ | 10,080 | |
| (1) | Transfers between hierarchy levels are based on the availability of sufficient observable inputs to meet Level II versus Level II criteria. The level designation of each financial instrument is reassessed at the end of each period. |
The following tables present the assets measured on a non-recurring basis on the Consolidated Balance Sheet at their fair value by level within the fair value hierarchy. Collateral-dependent impaired loans are carried at fair value if they have been charged down to fair value or if a specific valuation allowance has been established. A new cost basis is set at the time a property is initially recorded in OREO. OREO properties are carried at fair value if a devaluation has been taken to the property’s value after the initial measurement. No such devaluation occurred during the three months ended March 31, 2022.
| | | | | | March 31, 2022 | | | | | |
(Dollar amounts in thousands) | | Level I | | | Level II | | | Level III | | | Total | |
Assets measured on a non-recurring basis: | | | | | | | | | | | | | | | | |
Impaired loans | | $ | - | | | $ | - | | | $ | 4,269 | | | $ | 4,269 | |
| | | | | | December 31, 2021 | | | | | |
(Dollar amounts in thousands) | | Level I | | | Level II | | | Level III | | | Total | |
Assets measured on a non-recurring basis: | | | | | | | | | | | | | | | | |
Impaired loans | | $ | - | | | $ | - | | | $ | 4,162 | | | $ | 4,162 | |
Impaired Loans – The Company has measured impairment on collateral-dependent impaired loans generally based on the fair value of the loan’s collateral. Fair value is usually determined based upon independent third-party appraisals of the properties. In some cases, management may adjust the appraised value due to the age of the appraisal, changes in market conditions or observable deterioration of the property since the appraisal was completed. Additionally, management makes estimates about expected costs to sell the property, which are also included in the net realizable value. If the fair value of the collateral-dependent loan is less than the carrying amount of the loan, a specific reserve for the loan is made in the allowance for loan losses, or a charge-off is taken to reduce the loan to the fair value of the collateral (less estimated selling costs) and the loan is included in the above table as a Level III measurement. If the fair value of the collateral exceeds the carrying amount of the loan, then the loan is not included in the above table as it is not currently being carried at its fair value. The fair values in the above table exclude estimated selling costs of $901,000 as of March 31, 2022, and December 31, 2021.
Other Real Estate Owned (OREO) – OREO is carried at the lower of cost or fair value, which is measured at the date of foreclosure. If the fair value of the collateral exceeds the carrying amount of the loan, no charge-off or adjustment is necessary. The loan is not considered to be carried at fair value, and is therefore not included in the above table. If the fair value of the collateral is less than the carrying amount of the loan, management will charge the loan down to its estimated realizable value. The fair value of OREO is based on the appraised value of the property, which is generally unadjusted by management and is based on comparable sales for similar properties in the same geographic region as the subject property and is included in the above table as a Level II measurement. In some cases, management may adjust the appraised value due to the age of the appraisal, changes in market conditions, or observable deterioration of the property since the appraisal was completed. In these cases, the loans are categorized in the above table as a Level III measurement since these adjustments are considered to be unobservable inputs. Income and expenses from operations and further declines in the fair value of the collateral after foreclosure are included in net expenses from OREO.
The following tables present additional quantitative information about assets measured at fair value on a non-recurring basis and for which the Company uses Level III inputs to determine fair value:
| | Quantitative Information about Level III Fair Value Measurements | |
(Dollar amounts in thousands) | | | | | | Range (Weighted | |
| | Fair Value Estimate | | Valuation Techniques | | Unobservable Input | | Average) | |
March 31, 2022 | | | | | | | | | | | | | |
Impaired loans | | $ | 4,269 | | Appraisal of collateral (1) | | Appraisal adjustments (2) | | 25.0% | to | 72.2% | (36.6%) | |
| | Quantitative Information about Level III Fair Value Measurements | |
(Dollar amounts in thousands) | | | | | | | | | Range (Weighted | |
| | Fair Value Estimate | | Valuation Techniques | | Unobservable Input | | Average) | |
December 31, 2021 | | | | | | | | | | | | | |
Impaired loans | | $ | 4,162 | | Appraisal of collateral (1) | | Appraisal adjustments (2) | | 25.0% | to | 72.2% | (36.6%) | |
| (1) | Fair value is generally determined through independent appraisals of the underlying collateral, which typically include various level III inputs that are not identifiable, less any associated allowance. |
| (2) | Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range and weighted average of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal. |
The estimated fair value of the Company’s financial instruments not recorded at fair value on a recurring basis is as follows:
| | March 31, 2022 | |
| | Carrying | | | | | | | | | | | | | | | Total | |
| | Value | | | Level I | | | Level II | | | Level III | | | Fair Value | |
| | (Dollar amounts in thousands) | |
Financial assets: | | | | | | | | | | | | | | | | | | | | |
Loans held for sale | | $ | 9 | | | $ | - | | | $ | 9 | | | $ | - | | | $ | 9 | |
Net loans | | | 963,228 | | | | - | | | | - | | | | 948,327 | | | | 948,327 | |
| | | | | | | | | | | | | | | | | | | | |
Financial liabilities: | | | | | | | | | | | | | | | | | | | | |
Deposits | | $ | 1,167,172 | | | $ | 975,852 | | | $ | - | | | $ | 189,807 | | | $ | 1,165,659 | |
Other borrowings | | | - | | | | - | | | | - | | | | - | | | | - | |
| | December 31, 2021 | |
| | Carrying | | | | | | | | | | | | | | | Total | |
| | Value | | | Level I | | | Level II | | | Level III | | | Fair Value | |
| | (Dollar amounts in thousands) | |
Financial assets: | | | | | | | | | | | | | | | | | | | | |
Loans held for sale | | $ | 1,051 | | | $ | - | | | $ | 1,051 | | | $ | - | | | $ | 1,051 | |
Net loans | | | 967,349 | | | | - | | | | - | | | | 961,645 | | | | 961,645 | |
| | | | | | | | | | | | | | | | | | | | |
Financial liabilities: | | | | | | | | | | | | | | | | | | | | |
Deposits | | $ | 1,166,610 | | | $ | 967,885 | | | $ | - | | | $ | 199,503 | | | $ | 1,167,388 | |
Other borrowings | | | 12,901 | | | | - | | | | - | | | | 12,901 | | | | 12,901 | |
Included within other borrowings is an $8.3 million note payable, which matures in December 2037. These borrowings were used to form a special purpose entity (“Entity”) to issue $8.0 million of floating rate, obligated mandatorily redeemable securities. The rate adjusts quarterly, equal to LIBOR plus 1.67%. The borrowing is a floating rate instrument, and any difference between the cost and fair value is insignificant.
In addition to the financial instruments included in the above tables, cash and cash equivalents, bank-owned life insurance, Federal Home Loan Bank stock, accrued interest receivable, and accrued interest payable, are carried at cost, which approximates the fair value of the instruments.
NOTE 6 – ACCUMULATED OTHER COMPREHENSIVE INCOME
The following table presents the changes in accumulated other comprehensive income (“AOCI”) by component and net of tax for the three-month ended March 31, 2022, and 2021, respectively:
(Dollars in thousands) | | Unrealized gains/(losses) on available-for-sale securities (a) | |
Balance as of December 31, 2021 | | $ | 3,462 | |
Other comprehensive loss | | | (10,136 | ) |
Balance at March 31, 2022 | | $ | (6,674 | ) |
| | | | |
Balance as of December 31, 2020 | | $ | 4,284 | |
Other comprehensive loss | | | (1,367 | ) |
Balance at March 31, 2021 | | $ | 2,917 | |
| (a) | All amounts are net of tax. Amounts in parentheses indicate debits to AOCI. |
There were no other reclassifications of amounts from accumulated other comprehensive income for the three months ended March 31, 2022, and 2021.
NOTE 7 – INVESTMENT AND EQUITY SECURITIES
The amortized cost and fair values of investment securities available for sale are as follows:
| | March 31, 2022 | |
| | | | | | Gross | | | Gross | | | | | |
| | Amortized | | | Unrealized | | | Unrealized | | | Fair | |
(Dollar amounts in thousands) | | Cost | | | Gains | | | Losses | | | Value | |
| | | | | | | | | | | | | | | | |
Subordinated debt | | $ | 32,300 | | | $ | 275 | | | $ | (593 | ) | | $ | 31,982 | |
Obligations of states and political subdivisions: | | | | | | | | | | | | | | | | |
Taxable | | | 500 | | | | 1 | | | | - | | | | 501 | |
Tax-exempt | | | 141,361 | | | | 798 | | | | (8,662 | ) | | | 133,497 | |
Mortgage-backed securities in government-sponsored entities | | | 9,504 | | | | 37 | | | | (305 | ) | | | 9,236 | |
Total | | $ | 183,665 | | | $ | 1,111 | | | $ | (9,560 | ) | | $ | 175,216 | |
| | December 31, 2021 | |
| | | | | | Gross | | | Gross | | | | | |
| | Amortized | | | Unrealized | | | Unrealized | | | Fair | |
(Dollar amounts in thousands) | | Cost | | | Gains | | | Losses | | | Value | |
| | | | | | | | | | | | | | | | |
Subordinated debt | | $ | 32,300 | | | $ | 356 | | | $ | (119 | ) | | $ | 32,537 | |
Obligations of states and political subdivisions: | | | | | | | | | | | | | | | | |
Taxable | | | 500 | | | | 2 | | | | - | | | | 502 | |
Tax-exempt | | | 122,877 | | | | 4,307 | | | | (341 | ) | | | 126,843 | |
Mortgage-backed securities in government-sponsored entities | | | 10,140 | | | | 257 | | | | (80 | ) | | | 10,317 | |
Total | | $ | 165,817 | | | $ | 4,922 | | | $ | (540 | ) | | $ | 170,199 | |
Equity securities totaled $851,000 and $818,000 at March 31, 2022 and December 31, 2021, respectively.
The Company recognized a net gain on equity investments of $33,000 and $81,000 for the three months ended March 31, 2022, and 2021, respectively. No net gains on sold equity securities were realized from sales during these periods.
The amortized cost and fair value of debt securities on March 31, 2022, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
| | Amortized | | | Fair | |
(Dollar amounts in thousands) | | Cost | | | Value | |
| | | | | | | | |
Due in one year or less | | $ | 556 | | | $ | 568 | |
Due after one year through five years | | | 2,265 | | | | 2,287 | |
Due after five years through ten years | | | 40,073 | | | | 39,800 | |
Due after ten years | | | 140,771 | | | | 132,561 | |
Total | | $ | 183,665 | | | $ | 175,216 | |
There were no securities sold during the three months ended March 31, 2022, and 2021, respectively.
Investment securities with an approximate carrying value of $75.8 million and $77.1 million on March 31, 2022, and December 31, 2021, respectively, were pledged to secure deposits and for other purposes as required by law.
The following table shows the Company’s gross unrealized losses and fair value, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position.
| | March 31, 2022 | |
| | Less than Twelve Months | | | Twelve Months or Greater | | | Total | |
| | | | | | Gross | | | | | | | Gross | | | | | | | Gross | |
| | Fair | | | Unrealized | | | Fair | | | Unrealized | | | Fair | | | Unrealized | |
(Dollar amounts in thousands) | | Value | | | Losses | | | Value | | | Losses | | | Value | | | Losses | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Subordinated debt | | $ | 13,157 | | | $ | (543 | ) | | $ | 1,299 | | | $ | (50 | ) | | $ | 14,456 | | | $ | (593 | ) |
Obligations of states and political subdivisions: | | | | | | | | | | | | | | | | | | | | | | | | |
Tax-exempt | | | 76,809 | | | | (8,535 | ) | | | 1,086 | | | | (127 | ) | | | 77,895 | | | | (8,662 | ) |
Mortgage-backed securities in government-sponsored entities | | | 4,897 | | | | (107 | ) | | | 1,831 | | | | (198 | ) | | | 6,728 | | | | (305 | ) |
Total | | $ | 94,863 | | | $ | (9,185 | ) | | $ | 4,216 | | | $ | (375 | ) | | $ | 99,079 | | | $ | (9,560 | ) |
| | December 31, 2021 | |
| | Less than Twelve Months | | | Twelve Months or Greater | | | Total | |
| | | | | | Gross | | | | | | | Gross | | | | | | | Gross | |
| | Fair | | | Unrealized | | | Fair | | | Unrealized | | | Fair | | | Unrealized | |
(Dollar amounts in thousands) | | Value | | | Losses | | | Value | | | Losses | | | Value | | | Losses | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Subordinated debt | | $ | 9,150 | | | $ | (100 | ) | | $ | 731 | | | $ | (19 | ) | | $ | 9,881 | | | $ | (119 | ) |
Obligations of states and political subdivisions: | | | | | | | | | | | | | | | | | | | | | | | | |
Tax-exempt | | | 24,273 | | | | (341 | ) | | | - | | | | - | | | | 24,273 | | | | (341 | ) |
Mortgage-backed securities in government-sponsored entities | | | - | | | | - | | | | 1,980 | | | $ | (80 | ) | | | 1,980 | | | | (80 | ) |
Total | | $ | 33,423 | | | $ | (441 | ) | | $ | 2,711 | | | $ | (99 | ) | | $ | 36,134 | | | $ | (540 | ) |
There were 99 securities in an unrealized loss position for less than twelve months and six securities in an unrealized loss position for twelve months or greater on March 31, 2022.
Every quarter, the Company assesses whether there have been any events or economic circumstances indicating that a security with an unrealized loss has suffered other-than-temporary impairment (“OTTI”). A debt security is considered impaired if the fair value is less than its amortized cost basis at the reporting date. The Company assesses whether the unrealized loss is other than temporary.
OTTI losses are recognized in earnings when the Company has the intent to sell the debt security, or it is more likely than not that it will be required to sell the debt security before recovery of its amortized cost basis. However, even if the Company does not expect to sell a debt security, it must evaluate expected cash flows to be received and determine if a credit loss has occurred.
An unrealized loss is generally deemed to be other than temporary, and a credit loss is considered to exist if the present value of the expected future cash flows is less than the amortized cost basis of the debt security. As a result, the credit loss of an OTTI is recorded as a component of investment securities gains (losses) in the accompanying Consolidated Statement of Income, while the remaining portion of the impairment loss is recognized in other comprehensive income, provided the Company does not intend to sell the underlying debt security, and it is “more likely than not” that the Company will not have to sell the debt security before recovery.
Debt securities issued by U.S. government agencies, U.S. government-sponsored enterprises, and state and political subdivisions accounted for 82% of the total available-for-sale portfolio as of March 31, 2022, and no credit losses are expected, given the explicit and implicit guarantees provided by the U.S. federal government and the lack of prolonged unrealized loss positions within the obligations of the state and political subdivisions security portfolio. The Company considers the following factors in determining whether a credit loss exists and the period over which the debt security is expected to recover:
| • | The length of time and the extent to which the fair value has been less than the amortized cost basis; |
| • | Changes in the near-term prospects of the underlying collateral of a security, such as changes in default rates, loss severity given default, and significant changes in prepayment assumptions; |
| • | The level of cash flows generated from the underlying collateral supporting the principal and interest payments of the debt securities; and |
| • | Any adverse change to the credit conditions and liquidity of the issuer, taking into consideration the latest information available about the overall financial condition of the issuer, credit ratings, recent legislation and government actions affecting the issuer’s industry, and actions taken by the issuer to deal with the present economic climate. |
For the three months ended March 31, 2022, and 2021, there were no available-for-sale debt securities with an unrealized loss that suffered OTTI. Management does not believe any individual unrealized loss as of March 31, 2022, or December 31, 2021, represented OTTI. The unrealized losses on debt securities are primarily the result of interest rate changes. These conditions will not prohibit the Company from receiving its contractual principal and interest payments on these debt securities. The fair value of these debt securities is expected to recover as payments are received on these securities, and they approach maturity. Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss will be recognized in net income in the period the other-than-temporary impairment is identified.
NOTE 8 - LOANS AND RELATED ALLOWANCE FOR LOAN AND LEASE LOSSES
The Company’s primary business activity is with customers located within its local Northeastern Ohio trade area, eastern Geauga County, and contiguous counties. The Company also serves the central Ohio market with offices in Dublin, Plain City, Powell, Sunbury, and Westerville, Ohio. Commercial, residential, consumer, and agricultural loans are granted. Although the Company has a diversified loan portfolio, loans outstanding to individuals and businesses are dependent upon the local economic conditions in the Company’s immediate trade area.
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff generally are reported at their outstanding unpaid principal balances net of the allowance for loan and lease losses (ALLL). Interest income is recognized on the accrual method. The accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions, the borrower’s financial condition is such that the collection of interest is doubtful. Interest payments received on nonaccrual loans are applied against the unpaid principal balance until accrual status is restored.
Loan origination fees and certain direct loan origination costs are deferred with the net amount amortized over the contractual life of the loan as an adjustment of the related loan’s yield.
The following tables summarize the primary segments of the loan portfolio and ALLL (in thousands):
March 31, 2022 | |
Impairment Evaluation | |
| | Individually | | | Collectively | | | Total Loans | |
Loans: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 716 | | | $ | 112,874 | | | $ | 113,590 | |
Non-owner occupied | | | 5,213 | | | | 288,532 | | | | 293,745 | |
Multifamily | | | - | | | | 29,385 | | | | 29,385 | |
Residential real estate | | | 996 | | | | 243,751 | | | | 244,747 | |
Commercial and industrial | | | 630 | | | | 131,053 | | | | 131,683 | |
Home equity lines of credit | | | 249 | | | | 106,051 | | | | 106,300 | |
Construction and other | | | - | | | | 50,152 | | | | 50,152 | |
Consumer installment | | | - | | | | 8,118 | | | | 8,118 | |
Total | | $ | 7,804 | | | $ | 969,916 | | | $ | 977,720 | |
December 31, 2021 | |
Impairment Evaluation | |
| | Individually | | | Collectively | | | Total Loans | |
Loans: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 731 | | | $ | 110,739 | | | $ | 111,470 | |
Non-owner occupied | | | 5,297 | | | | 278,321 | | | | 283,618 | |
Multifamily | | | - | | | | 31,189 | | | | 31,189 | |
Residential real estate | | | 1,104 | | | | 238,985 | | | | 240,089 | |
Commercial and industrial | | | 587 | | | | 148,225 | | | | 148,812 | |
Home equity lines of credit | | | 250 | | | | 104,105 | | | | 104,355 | |
Construction and other | | | - | | | | 54,148 | | | | 54,148 | |
Consumer installment | | | - | | | | 8,010 | | | | 8,010 | |
Total | | $ | 7,969 | | | $ | 973,722 | | | $ | 981,691 | |
The amounts above include net deferred loan origination fees of $2.8 million and $3.6 million on March 31, 2022, and December 31, 2021, respectively. The net deferred loan origination fees on March 31, 2022, and December 31, 2021, include $602,000 and $1.3 million, respectively, of unearned deferred fees from PPP loans.
March 31, 2022 | |
Ending Allowance Balance by Impairment Evaluation: | |
| | Individually Evaluated for Impairment | | | Collectively Evaluated for Impairment | | | Total Allocation | |
Loans: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 10 | | | $ | 1,755 | | | $ | 1,765 | |
Non-owner occupied | | | 623 | | | | 7,049 | | | | 7,672 | |
Multifamily | | | - | | | | 419 | | | | 419 | |
Residential real estate | | | 14 | | | | 1,787 | | | | 1,801 | |
Commercial and industrial | | | 56 | | | | 848 | | | | 904 | |
Home equity lines of credit | | | 14 | | | | 1,341 | | | | 1,355 | |
Construction and other | | | - | | | | 558 | | | | 558 | |
Consumer installment | | | - | | | | 18 | | | | 18 | |
Total | | $ | 717 | | | $ | 13,775 | | | $ | 14,492 | |
December 31, 2021 | |
Ending Allowance Balance by Impairment Evaluation: | |
| | Individually Evaluated for Impairment | | | Collectively Evaluated for Impairment | | | Total Allocation | |
Loans: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 10 | | | $ | 1,826 | | | $ | 1,836 | |
Non-owner occupied | | | 655 | | | | 6,776 | | | | 7,431 | |
Multifamily | | | - | | | | 454 | | | | 454 | |
Residential real estate | | | 17 | | | | 1,723 | | | | 1,740 | |
Commercial and industrial | | | 42 | | | | 840 | | | | 882 | |
Home equity lines of credit | | | 16 | | | | 1,436 | | | | 1,452 | |
Construction and other | | | - | | | | 533 | | | | 533 | |
Consumer installment | | | - | | | | 14 | | | | 14 | |
Total | | $ | 740 | | | $ | 13,602 | | | $ | 14,342 | |
The Company’s loan portfolio is segmented to a level that allows management to monitor risk and performance. The portfolio is segmented into Commercial Real Estate (“CRE”) which is further segmented into Owner Occupied (“CRE OO”), Non-owner Occupied (“CRE NOO”), and Multifamily Residential, Residential Real Estate (“RRE”), Commercial and Industrial (“C&I”), Home Equity Lines of Credit (“HELOC”), Construction and Other (“Construction”), and Consumer Installment Loans. The commercial real estate loan segments consist of loans made to finance the activities of commercial real estate owners and operators. The residential real estate and HELOC loan segments consist of loans made to finance the activities of residential homeowners. The C&I loan segment consists of loans made to finance the activities of commercial customers. Although PPP loans are included with C&I loans, the nature of PPP loans differs considerably from the rest of the category. Loans funded through the PPP program are fully guaranteed by the U.S. government. This guarantee exists at the inception of the loans and throughout the lives of the loans and was not entered into separately and apart from the loans. The consumer loan segment consists primarily of installment loans and overdraft lines of credit connected with customer deposit accounts. The slight increases in the allowance for loan loss for the CRE, RRE, Construction, C&I, and consumer installment portfolios, were partially offset by a slight decrease in the allowance for HELOC‘s.
Management evaluates individual loans in the commercial segments for possible impairment based on guidelines established by the Board of Directors. Loans are considered to be impaired when, based on current information and events, the Company will probably be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in evaluating impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall concerning the principal and interest owed. The Company does not separately evaluate individual consumer and residential mortgage loans for impairment, unless such loans are part of a larger relationship that is impaired, or the loan was modified in a troubled debt restructuring.
Once the determination has been made that a loan is impaired, the decision of whether a specific allocation of the allowance is necessary is measured by comparing the recorded investment in the loan to the fair value of the loan using one of the following methods: (a) the present value of expected future cash flows discounted at the loan’s effective interest rate; (b) the loan’s observable market price; or (c) the fair value of the collateral less selling costs. The method is selected on a loan-by-loan basis. The evaluation of the need and amount of a specific allocation of the allowance and whether a loan can be removed from impairment status is made quarterly. The Company’s policy for recognizing interest income on impaired loans does not differ from its overall policy for interest recognition.
The following tables present impaired loans by class, segregated by those for which a specific allowance was required and those for which a specific allowance was not necessary (in thousands):
March 31, 2022 | |
Impaired Loans | |
| | | | | | Unpaid | | | | | |
| | Recorded | | | Principal | | | Related | |
| | Investment | | | Balance | | | Allowance | |
With no related allowance recorded: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Non-owner occupied | | $ | 1,374 | | | $ | 1,546 | | | $ | - | |
Residential real estate | | | 713 | | | | 771 | | | | - | |
Commercial and industrial | | | 421 | | | | 508 | | | | - | |
Home equity lines of credit | | | 42 | | | | 42 | | | | - | |
Total | | $ | 2,550 | | | $ | 2,867 | | | $ | - | |
| | | | | | | | | | | | |
With an allowance recorded: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 716 | | | $ | 716 | | | $ | 10 | |
Non-owner occupied | | | 3,839 | | | | 4,377 | | | | 623 | |
Residential real estate | | | 283 | | | | 283 | | | | 14 | |
Commercial and industrial | | | 209 | | | | 224 | | | | 56 | |
Home equity lines of credit | | | 207 | | | | 207 | | | | 14 | |
Total | | $ | 5,254 | | | $ | 5,807 | | | $ | 717 | |
| | | | | | | | | | | | |
Total: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 716 | | | $ | 716 | | | $ | 10 | |
Non-owner occupied | | | 5,213 | | | | 5,923 | | | | 623 | |
Residential real estate | | | 996 | | | | 1,054 | | | | 14 | |
Commercial and industrial | | | 630 | | | | 732 | | | | 56 | |
Home equity lines of credit | | | 249 | | | | 249 | | | | 14 | |
Total | | $ | 7,804 | | | $ | 8,674 | | | $ | 717 | |
December 31, 2021 | |
Impaired Loans | |
| | | | | | Unpaid | | | | | |
| | Recorded | | | Principal | | | Related | |
| | Investment | | | Balance | | | Allowance | |
With no related allowance recorded: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Non-owner occupied | | $ | 1,547 | | | $ | 1,802 | | | $ | - | |
Residential real estate | | | 820 | | | | 874 | | | | - | |
Commercial and industrial | | | 370 | | | | 538 | | | | - | |
Home equity lines of credit | | | 7 | | | | 7 | | | | - | |
Total | | $ | 2,744 | | | $ | 3,221 | | | $ | - | |
| | | | | | | | | | | | |
With an allowance recorded: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 731 | | | $ | 731 | | | $ | 10 | |
Non-owner occupied | | | 3,750 | | | | 4,277 | | | | 655 | |
Residential real estate | | | 284 | | | | 284 | | | | 17 | |
Commercial and industrial | | | 217 | | | | 230 | | | | 42 | |
Home equity lines of credit | | | 243 | | | | 243 | | | | 16 | |
Total | | $ | 5,225 | | | $ | 5,765 | | | $ | 740 | |
| | | | | | | | | | | | |
Total: | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | |
Owner occupied | | $ | 731 | | | $ | 731 | | | $ | 10 | |
Non-owner occupied | | | 5,297 | | | | 6,079 | | | | 655 | |
Residential real estate | | | 1,104 | | | | 1,158 | | | | 17 | |
Commercial and industrial | | | 587 | | | | 768 | | | | 42 | |
Home equity lines of credit | | | 250 | | | | 250 | | | | 16 | |
Total | | $ | 7,969 | | | $ | 8,986 | | | $ | 740 | |
The tables above include troubled debt restructuring totaling $2.4 million and $2.6 million as of March 31, 2022, and December 31, 2021, respectively. The amounts allocated within the allowance for losses for these troubled debt restructurings were $159,000 and $150,000 on March 31, 2022, and December 31, 2021, respectively.
The following tables present the average balance and interest income by class, recognized on impaired loans (in thousands):
| | For the Three Months Ended March 31, 2022 | | | For the Three Months Ended March 31, 2021 | |
| | Average Recorded Investment | | | Interest Income Recognized | | | Average Recorded Investment | | | Interest Income Recognized | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 724 | | | $ | 11 | | | $ | 1,542 | | | $ | 16 | |
Non-owner occupied | | | 5,255 | | | | 58 | | | | 4,490 | | | | 44 | |
Residential real estate | | | 1,050 | | | | 12 | | | | 1,278 | | | | 11 | |
Commercial and industrial | | | 609 | | | | 14 | | | | 920 | | | | 7 | |
Home equity lines of credit | | | 250 | | | | 3 | | | | 243 | | | | 2 | |
Total | | $ | 7,888 | | | $ | 98 | | | $ | 8,473 | | | $ | 80 | |
Management uses a nine-point internal risk-rating system to monitor the credit quality of the overall loan portfolio. The first five categories are considered not criticized and are aggregated as Pass rated. The criticized rating categories utilized by management generally follow bank regulatory definitions. The Special Mention category includes assets that are currently protected but have potential weaknesses, resulting in undue and unwarranted credit risk, but not to the point of justifying a Substandard classification. Loans in the Substandard category have well-defined weaknesses that jeopardize the liquidation of the debt and have a distinct possibility that some loss will be sustained if the weaknesses are not corrected. The majority of loans greater than 90 days past due are considered Substandard. Any portion of a loan that has been charged off is placed in the Loss category.
To help ensure that risk ratings are accurate and reflect the present and future capacity of borrowers to repay a loan as agreed, the Company has a structured loan rating process with several layers of internal and external oversight. Generally, consumer and residential mortgage loans are included in the Pass categories unless a specific action, such as payment delinquency, bankruptcy, repossession, or death, occurs to raise awareness of a possible credit quality event. The Company’s Commercial Loan Officers are responsible for the timely and accurate risk rating of the loans in their portfolios at origination and on an ongoing basis. The Credit Department performs an annual review of all commercial relationships with loan balances of $750,000 or greater. Confirmation of the appropriate risk grade is included in the review on an ongoing basis. The Company engages an external consultant to conduct loan reviews on a semiannual basis. Detailed reviews, including resolutions plans, are performed on loans classified as Substandard every quarter. Loans in the Special Mention and Substandard categories that are collectively evaluated for impairment are given separate consideration in determining the allowance.
The primary risk of commercial and industrial loans is related to deterioration in the cash flow of the business that may result in the liquidation of the business assets securing the loan. C&I loans are, by nature, secured by less substantial collateral than real estate secured loans. The primary risk of real estate construction loans is potential delays and disputes during the completion process. The primary risk of residential real estate loans is current economic uncertainties. The primary risk of commercial real estate loans is the loss of income of the owner or occupier of the property and the inability of the market to sustain rent levels. Consumer installment loans historically have experienced higher delinquency rates. Consumer installments are typically secured by less substantial collateral than other types of credits.
The following tables present the classes of the loan portfolio summarized by the aggregate Pass and the criticized categories of Special Mention, Substandard and Doubtful within the internal risk-rating system (in thousands):
| | | | | | Special | | | | | | | | | | | Total | |
March 31, 2022 | | Pass | | | Mention | | | Substandard | | | Doubtful | | | Loans | |
| | | | | | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 106,422 | | | $ | 2,373 | | | $ | 4,795 | | | $ | - | | | $ | 113,590 | |
Non-owner occupied | | | 241,133 | | | | 2,978 | | | | 49,634 | | | | - | | | | 293,745 | |
Multifamily | | | 29,385 | | | | - | | | | - | | | | - | | | | 29,385 | |
Residential real estate | | | 242,397 | | | | - | | | | 2,350 | | | | - | | | | 244,747 | |
Commercial and industrial | | | 124,823 | | | | 3,556 | | | | 3,304 | | | | - | | | | 131,683 | |
Home equity lines of credit | | | 105,182 | | | | - | | | | 1,118 | | | | - | | | | 106,300 | |
Construction and other | | | 39,823 | | | | 339 | | | | 9,990 | | | | - | | | | 50,152 | |
Consumer installment | | | 8,114 | | | | - | | | | 4 | | | | - | | | | 8,118 | |
Total | | $ | 897,279 | | | $ | 9,246 | | | $ | 71,195 | | | $ | - | | | $ | 977,720 | |
| | | | | | Special | | | | | | | | | | | Total | |
December 31, 2021 | | Pass | | | Mention | | | Substandard | | | Doubtful | | | Loans | |
| | | | | | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 104,217 | | | $ | 2,400 | | | $ | 4,853 | | | $ | - | | | $ | 111,470 | |
Non-owner occupied | | | 230,672 | | | | 3,038 | | | | 49,908 | | | | - | | | | 283,618 | |
Multifamily | | | 31,189 | | | | - | | | | - | | | | - | | | | 31,189 | |
Residential real estate | | | 237,132 | | | | - | | | | 2,957 | | | | - | | | | 240,089 | |
Commercial and industrial | | | 143,911 | | | | 2,748 | | | | 2,153 | | | | - | | | | 148,812 | |
Home equity lines of credit | | | 103,296 | | | | - | | | | 1,059 | | | | - | | | | 104,355 | |
Construction and other | | | 53,807 | | | | 341 | | | | - | | | | - | | | | 54,148 | |
Consumer installment | | | 8,005 | | | | - | | | | 5 | | | | - | | | | 8,010 | |
Total | | $ | 912,229 | | | $ | 8,527 | | | $ | 60,935 | | | $ | - | | | $ | 981,691 | |
Management further monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due.
Nonperforming assets are nonaccrual loans, including nonaccrual troubled debt restructurings (“TDR”), loans 90 days or more past due, other real estate owned, and repossessed assets. A loan is classified as nonaccrual when, in the opinion of management, there are serious doubts about the collectability of interest and principal. Accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions, the borrower’s financial condition is such that collection of principal and interest is doubtful. Payments received on nonaccrual loans are applied against the principal balance.
The following tables present the aging of the recorded investment in past-due loans by class of loans (in thousands):
| | | | | | 30-59 Days | | | 60-89 Days | | | 90 Days+ | | | Total | | | Total | |
March 31, 2022 | | Current | | | Past Due | | | Past Due | | | Past Due | | | Past Due | | | Loans | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 113,458 | | | $ | - | | | $ | 132 | | | $ | - | | | $ | 132 | | | $ | 113,590 | |
Non-owner occupied | | | 293,276 | | | | 96 | | | | - | | | | 373 | | | | 469 | | | | 293,745 | |
Multifamily | | | 29,385 | | | | - | | | | - | | | | - | | | | - | | | | 29,385 | |
Residential real estate | | | 243,784 | | | | 636 | | | | 3 | | | | 324 | | | | 963 | | | | 244,747 | |
Commercial and industrial | | | 131,002 | | | | 568 | | | | 33 | | | | 80 | | | | 681 | | | | 131,683 | |
Home equity lines of credit | | | 106,082 | | | | 150 | | | | - | | | | 68 | | | | 218 | | | | 106,300 | |
Construction and other | | | 50,152 | | | | - | | | | - | | | | - | | | | - | | | | 50,152 | |
Consumer installment | | | 8,081 | | | | 33 | | | | 4 | | | | - | | | | 37 | | | | 8,118 | |
Total | | $ | 975,220 | | | $ | 1,483 | | | $ | 172 | | | $ | 845 | | | $ | 2,500 | | | $ | 977,720 | |
| | | | | | 30-59 Days | | | 60-89 Days | | | 90 Days+ | | | Total | | | Total | |
December 31, 2021 | | Current | | | Past Due | | | Past Due | | | Past Due | | | Past Due | | | Loans | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 111,257 | | | $ | 81 | | | $ | 132 | | | $ | - | | | $ | 213 | | | $ | 111,470 | |
Non-owner occupied | | | 282,365 | | | | 880 | | | | - | | | | 373 | | | | 1,253 | | | | 283,618 | |
Multifamily | | | 31,189 | | | | - | | | | - | | | | - | | | | - | | | | 31,189 | |
Residential real estate | | | 238,483 | | | | 1,187 | | | | - | | | | 419 | | | | 1,606 | | | | 240,089 | |
Commercial and industrial | | | 148,437 | | | | 112 | | | | - | | | | 263 | | | | 375 | | | | 148,812 | |
Home equity lines of credit | | | 104,316 | | | | - | | | | 39 | | | | - | | | | 39 | | | | 104,355 | |
Construction and other | | | 54,148 | | | | - | | | | - | | | | - | | | | - | | | | 54,148 | |
Consumer installment | | | 7,799 | | | | 16 | | | | 19 | | | | 176 | | | | 211 | | | | 8,010 | |
Total | | $ | 977,994 | | | $ | 2,276 | | | $ | 190 | | | $ | 1,231 | | | $ | 3,697 | | | $ | 981,691 | |
The following tables present the recorded investment in nonaccrual loans and loans past due over 89 days and still on accrual by class of loans (in thousands):
March 31, 2022 | | Nonaccrual | | | 90+ Days Past Due and Accruing | |
| | | | | | | | |
Commercial real estate: | | | | | | | | |
Owner occupied | | $ | 78 | | | $ | - | |
Non-owner occupied | | | 2,388 | | | | - | |
Residential real estate | | | 1,539 | | | | - | |
Commercial and industrial | | | 313 | | | | - | |
Home equity lines of credit | | | 220 | | | | - | |
Consumer installment | | | 190 | | | | - | |
Total | | $ | 4,728 | | | $ | - | |
December 31, 2021 | | Nonaccrual | | | 90+ Days Past Due and Accruing | |
| | | | | | | | |
Commercial real estate: | | | | | | | | |
Owner occupied | | $ | 81 | | | $ | - | |
Non-owner occupied | | | 2,442 | | | | - | |
Residential real estate | | | 1,577 | | | | - | |
Commercial and industrial | | | 456 | | | | - | |
Home equity lines of credit | | | 121 | | | | - | |
Consumer installment | | | 182 | | | | - | |
Total | | $ | 4,859 | | | $ | - | |
Interest income that would have been recorded had these loans not been placed on nonaccrual status was $64,000 and $124,000 for the three months ended March 31, 2022, and March 31, 2021, respectively.
An ALLL is maintained to absorb losses from the loan portfolio. The ALLL is based on management’s continuing evaluation of the risk characteristics and credit quality of the loan portfolio, assessment of current economic conditions, diversification and size of the portfolio, adequacy of collateral, past and anticipated loss experience, and the amount of nonperforming loans.
The Company’s methodology for determining the ALLL is based on the requirements of ASC Section 310-10-35 for loans individually evaluated for impairment (discussed above) and ASC Subtopic 450-20 for loans collectively evaluated for impairment, as well as the Interagency Policy Statement on the Allowance for Loan and Lease Losses and other bank regulatory guidance. The total of the two components represents the Company’s ALLL. Management also performs impairment analyses on TDRs, which may result in specific reserves.
Loans that are collectively evaluated for impairment are analyzed with general allowances being made as deemed appropriate. For general allowances, historical loss trends are used in the estimation of losses in the current portfolio. These historical loss amounts are modified by other qualitative factors.
The classes described above, which are based on the purpose code assigned to each loan, provide the starting point for the ALLL analysis. Management tracks the historical net charge-off activity at the call code level. The historical charge-off factor was calculated using the last twelve consecutive historical quarters.
Management has identified several additional qualitative factors that it uses to supplement the historical charge-off factor because these factors are likely to cause estimated credit losses associated with the existing loan pools to differ from historical loss experience. The additional factors are evaluated quarterly and updated using information obtained from internal, regulatory, and governmental sources. These qualitative factors include national and local economic trends and conditions; levels of and trends in delinquency rates and nonaccrual loans; trends in volumes and terms of loans; effects of changes in lending policies; experience, ability, and depth of lending staff; the value of underlying collateral; and concentrations of credit from a loan type, industry, and geographic standpoint.
Management reviews the loan portfolio quarterly using a defined, consistently applied process to make appropriate and timely adjustments to the ALLL. When information confirms all or part of specific loans to be uncollectible, these amounts are promptly charged off against the ALLL.
The following tables summarize the ALLL within the primary segments of the loan portfolio and the activity within those segments (in thousands):
| | For the three months ended March 31, 2022 | |
| | Allowance for Loan and Lease Losses | |
| | Balance | | | | | | | | | | | | | | | Balance | |
| | December 31, 2021 | | | Charge-offs | | | Recoveries | | | Provision | | | March 31, 2022 | |
Loans: | | | | | | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 1,836 | | | $ | - | | | $ | 1 | | | $ | (72 | ) | | $ | 1,765 | |
Non-owner occupied | | | 7,431 | | | | - | | | | - | | | | 241 | | | | 7,672 | |
Multifamily | | | 454 | | | | - | | | | - | | | | (35 | ) | | | 419 | |
Residential real estate | | | 1,740 | | | | - | | | | 27 | | | | 34 | | | | 1,801 | |
Commercial and industrial | | | 882 | | | | (30 | ) | | | 149 | | | | (97 | ) | | | 904 | |
Home equity lines of credit | | | 1,452 | | | | (25 | ) | | | - | | | | (72 | ) | | | 1,355 | |
Construction and other | | | 533 | | | | - | | | | - | | | | 25 | | | | 558 | |
Consumer installment | | | 14 | | | | (6 | ) | | | 34 | | | | (24 | ) | | | 18 | |
Total | | $ | 14,342 | | | $ | (61 | ) | | $ | 211 | | | $ | - | | | $ | 14,492 | |
| | For the three months ended March 31, 2021 | |
| | Allowance for Loan and Lease Losses | |
| | Balance | | | | | | | | | | | | | | | Balance | |
| | December 31, 2019 | | | Charge-offs | | | Recoveries | | | Provision | | | March 31, 2021 | |
Loans: | | | | | | | | | | | | | | | | | | | | |
Commercial real estate: | | | | | | | | | | | | | | | | | | | | |
Owner occupied | | $ | 1,342 | | | $ | - | | | $ | 1 | | | $ | 84 | | | $ | 1,427 | |
Non-owner occupied | | | 6,817 | | | | - | | | | - | | | | 431 | | | | 7,248 | |
Multifamily | | | 461 | | | | - | | | | - | | | | 27 | | | | 488 | |
Residential real estate | | | 1,683 | | | | (27 | ) | | | 2 | | | | 89 | | | | 1,747 | |
Commercial and industrial | | | 1,353 | | | | - | | | | 19 | | | | 68 | | | | 1,440 | |
Home equity lines of credit | | | 1,405 | | | | - | | | | 8 | | | | (83 | ) | | | 1,330 | |
Construction and other | | | 378 | | | | - | | | | 6 | | | | 40 | | | | 424 | |
Consumer installment | | | 20 | | | | (74 | ) | | | 28 | | | | 44 | | | | 18 | |
Total | | $ | 13,459 | | | $ | (101 | ) | | $ | 64 | | | $ | 700 | | | $ | 14,122 | |
The provision fluctuations during the three-month period ended March 31, 2022 allocated to:
| ● | Non-owner occupied commercial real estate portfolios are due to increased loan volume. |
| ● | Commercial and industrial loans are due to a decrease in outstanding balances as PPP loans receive forgiveness. |
The provision fluctuations during the three-month period ended March 31, 2021 allocated to:
| ● | Owner occupied commercial real estate portfolios are due to an increase in substandard rate credits related to the hospitality industry. |
| ● | commercial and industrial loans due to the allocation required for the PPP loans. |
| ● | home equity lines of credit are due to a decrease in outstanding balances. |
TDR describes loans on which the bank has granted concessions for reasons related to the customer’s financial difficulties. Such concessions may include one or more of the following:
| ● | reduction in the interest rate to below-market rates |
| ● | extension of repayment requirements beyond normal terms |
| ● | reduction of the principal amount owed |
| ● | reduction of accrued interest due |
| ● | acceptance of other assets in full or partial payment of a debt |
In each case, the concession is made due to deterioration in the borrower’s financial condition, and the new terms are less stringent than those required on a new loan with similar risk.
The following tables summarize troubled debt restructurings that did not meet the exemption criteria above (in thousands):
| | For the Three Months Ended | |
| | March 31, 2022 | |
| | Number of Contracts | | | Pre-Modification | | | Post-Modification | |
Troubled Debt Restructurings | | Term Modification | | | Other | | | Total | | | Outstanding Recorded Investment | | | Outstanding Recorded Investment | |
Commercial and industrial | | | 1 | | | | - | | | | 1 | | | $ | 25 | | | $ | 25 | |
| | For the Three Months Ended | |
| | March 31, 2021 | |
| | Number of Contracts | | | Pre-Modification | | | Post-Modification | |
Troubled Debt Restructurings | | Term Modification | | | Other | | | Total | | | Outstanding Recorded Investment | | | Outstanding Recorded Investment | |
Commercial and industrial | | | 1 | | | | - | | | | 1 | | | $ | 20 | | | $ | 20 | |
There were no subsequent defaults of troubled debt restructurings for the three-month periods ended March 31, 2022, and March 31, 2021.
NOTE 9 – COMMITMENTS AND CONTINGENCIES
Cannabis Industry
We provide deposit services to customers that are licensed by the State of Ohio to do business in (or are related to) the Medical Marijuana Control Program as growers, processors, and dispensaries. Medical Marijuana businesses are regulated by the Ohio Department of Commerce and legal in the State of Ohio, although it is not legal at the federal level. The U.S. Department of the Treasury’s Financial Crimes Enforcement Network (“FinCEN”) published guidelines in 2014 for financial institutions servicing state-legal cannabis business. A financial institution that provides services to cannabis-related businesses can comply with Bank Secrecy Act (“BSA”) disclosure standards by following the FinCEN guidelines. We maintain written policies and procedures related to the acceptance of such businesses and the monitoring and maintenance of such business accounts. We conduct a significant due diligence review of the cannabis business before the business is accepted, including confirmation that it is appropriately licensed by the State of Ohio. Throughout the relationship, we continue monitoring the relationship, including site visits, to ensure that the business continues to meet our requirements, including maintenance of required licenses and periodic financial reviews.
While we believe we are operating in compliance with the FinCEN guidelines, there can be no assurance that federal enforcement guidelines will not change. Federal prosecutors have significant discretion, and there can be no assurance that the federal prosecutors will not choose to enforce the federal laws governing cannabis strictly. Any change in the Federal government’s enforcement position could cause us to cease providing banking services to the cannabis industry immediately. We are upfront with our customers regarding the fact that we may have to terminate our relationship if a change occurs with the Federal government’s position and that the termination may come with little or no notice.
As of March 31, 2022, and December 31, 2021, deposit balances from cannabis customers were approximately $9.4 million and $12.7 million, or 0.8% and 1.1% of total deposits, respectively.