10-Q 1 mbcn20240331_10q.htm FORM 10-Q mbcn20240331_10q.htm
0000836147 Middlefield Banc Corp. false --12-31 Q1 2024 0 0 25,000,000 25,000,000 9,946,454 9,930,704 8,067,144 8,095,252 1,879,310 1,835,452 43,858 0.20 95,364 0.20 0 0 21.0 20.1 1.7 false false false false Not within scope of ASC 606 All amounts are net of tax. Amounts in parentheses indicate debits to AOCI. Transfers between hierarchy levels are based on the availability of sufficient observable inputs to meet Level II versus Level II criteria. 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Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

  

For the quarterly period ended March 31, 2024

or

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

  

For the transition period from ___________ to ___________

 

Commission File Number 001-36613

 

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Middlefield Banc Corp.

(Exact Name of Registrant as Specified in its Charter)

 

Ohio

 

34-1585111

State or Other Jurisdiction of

 

I.R.S. Employer Identification No.

Incorporation or Organization

  
   

15985 East High Street, Middlefield, Ohio

 

44062-0035

Address of Principal Executive Offices

 

Zip Code

 

 

440-632-1666

 

Registrant’s Telephone Number, Including Area Code

 

   

Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

 

Securities Registered Pursuant to Section 12(b) of the Act:

 

Title of Each Class

Trading Symbol(s)

Name of Each Exchange on Which Registered

Common Stock, Without Par Value

MBCN

The NASDAQ Stock Market, LLC

(NASDAQ Capital Market)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes ☒     No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes ☒    No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ☐

Accelerated filer ☐

Non-accelerated filer ☒  

Smaller reporting company 

Emerging growth company  

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.     ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes     No ☒ 

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Outstanding at May 14, 2024: 8,067,144

 

 

 
 

 MIDDLEFIELD BANC CORP.

INDEX

 

Part 1 – Financial Information

 

Item 1.

Financial Statements (unaudited)

 

 

Consolidated Balance Sheet

3

 

Consolidated Statement of Income

4

 

Consolidated Statement of Comprehensive Income

5

 

Consolidated Statement of Changes in Stockholders’ Equity

6

 

Consolidated Statement of Cash Flows

7

 

Notes to Unaudited Consolidated Financial Statements

8

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

22

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

31

Item 4.

Controls and Procedures

32

PART II – Other Information

32

Item 1.

Legal Proceedings

32

Item 1a.

Risk Factors

32

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

33

Item 3.

Defaults Upon Senior Securities

33

Item 4.

Mine Safety Disclosures

33

Item 5.

Other information

33

Item 6.

Exhibits

34

Signatures

37

Exhibit 31.1

 

Exhibit 31.2

 

Exhibit 32

 

 

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED BALANCE SHEET

(Dollar amounts in thousands, except share data)

(Unaudited)

 

  

March 31,

  

December 31,

 
  

2024

  

2023

 
         

ASSETS

        

Cash and due from banks

 $44,816  $56,397 

Federal funds sold

  1,438   4,439 

Cash and cash equivalents

  46,254   60,836 

Investment securities available for sale, at fair value

  167,890   170,779 

Other investments

  907   955 

Loans:

        

Commercial real estate:

        

Owner occupied

  178,543   183,545 

Non-owner occupied

  398,845   401,580 

Multifamily

  81,691   82,506 

Residential real estate

  331,480   328,854 

Commercial and industrial

  227,433   221,508 

Home equity lines of credit

  129,287   127,818 

Construction and other

  135,716   125,105 

Consumer installment

  7,131   7,214 

Total loans

  1,490,126   1,478,130 

Less: allowance for credit losses

  21,069   21,693 

Net loans

  1,469,057   1,456,437 

Premises and equipment, net

  21,035   21,339 

Goodwill

  36,356   36,356 

Core deposit intangibles

  6,384   6,642 

Bank-owned life insurance

  34,575   34,349 

Accrued interest receivable and other assets

  34,210   35,190 

TOTAL ASSETS

 $1,816,668  $1,822,883 

LIABILITIES

        

Deposits:

        

Noninterest-bearing demand

 $390,185  $401,384 

Interest-bearing demand

  209,015   205,582 

Money market

  318,823   274,682 

Savings

  196,721   210,639 

Time

  332,165   334,315 

Total deposits

  1,446,909   1,426,602 

Federal Home Loan Bank advances

  137,000   163,000 

Other borrowings

  11,812   11,862 

Accrued interest payable and other liabilities

  15,372   15,738 

TOTAL LIABILITIES

  1,611,093   1,617,202 

STOCKHOLDERS' EQUITY

        

Common stock, no par value; 25,000,000 shares authorized, 9,946,454 and 9,930,704 shares issued; 8,067,144 and 8,095,252 shares outstanding

  161,823   161,388 

Retained earnings

  102,791   100,237 

Accumulated other comprehensive loss

  (18,130)  (16,090)

Treasury stock, at cost; 1,879,310 and 1,835,452 shares

  (40,909)  (39,854)

TOTAL STOCKHOLDERS' EQUITY

  205,575   205,681 

TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY

 $1,816,668  $1,822,883 

 

See accompanying notes to unaudited consolidated financial statements.

 

 

 

 MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF INCOME

(Dollar amounts in thousands, except per share data)

(Unaudited)

 

   

Three Months Ended

 
   

March 31,

 
   

2024

   

2023

 

INTEREST AND DIVIDEND INCOME

               

Interest and fees on loans

  $ 22,395     $ 18,275  

Interest-earning deposits in other institutions

    437       250  

Federal funds sold

    152       253  

Investment securities:

               

Taxable interest

    467       458  

Tax-exempt interest

    972       980  

Dividends on stock

    189       88  

Total interest and dividend income

    24,612       20,304  
                 

INTEREST EXPENSE

               

Deposits

    7,466       2,990  

Short-term borrowings

    1,993       653  

Other borrowings

    184       155  

Total interest expense

    9,643       3,798  
                 

NET INTEREST INCOME

    14,969       16,506  
                 

(Recovery of) Provision for credit losses

    (136 )     507  
                 

NET INTEREST INCOME AFTER (RECOVERY OF) PROVISION FOR CREDIT LOSSES

    15,105       15,999  
                 

NONINTEREST INCOME

               

Service charges on deposit accounts

    909       987  

Loss on equity securities

    (52 )     (138 )

Gain on other real estate owned

    -       2  

Earnings on bank-owned life insurance

    227       200  

Gain on sale of loans

    10       23  

Revenue from investment services

    204       186  

Gross rental income

    67       102  

Other income

    431       318  

Total noninterest income

    1,796       1,680  
                 

NONINTEREST EXPENSE

               

Salaries and employee benefits

    6,333       5,852  

Occupancy expense

    552       696  

Equipment expense

    240       317  

Data processing and information technology costs

    1,249       1,070  

Ohio state franchise tax

    397       385  

Federal deposit insurance expense

    251       120  

Professional fees

    558       538  

Advertising expense

    419       486  

Software amortization expense

    22       26  

Core deposit intangible amortization

    258       265  

Gross other real estate owned expenses

    99       132  

Merger-related costs

    -       245  

Other expense

    1,587       1,662  

Total noninterest expense

    11,965       11,794  
                 

Income before income taxes

    4,936       5,885  

Income taxes

    769       989  
                 

NET INCOME

  $ 4,167     $ 4,896  
                 

EARNINGS PER SHARE

               

Basic

  $ 0.52     $ 0.60  

Diluted

  $ 0.51     $ 0.60  

 

See accompanying notes to unaudited consolidated financial statements.

 

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF COMPREHENSIVE (LOSS) INCOME

(Dollar amounts in thousands)

(Unaudited)

 

   

Three Months Ended

 
   

March 31,

 
   

2024

   

2023

 
                 

Net income

  $ 4,167     $ 4,896  
                 

Other comprehensive (loss) income:

               

Unrealized holding (loss) gain on securities available for sale

    (2,582 )     3,659  

Tax effect

    542       (768 )
                 

Total other comprehensive (loss) income

    (2,040 )     2,891  
                 

Comprehensive income

  $ 2,127     $ 7,787  

 

See accompanying notes to unaudited consolidated financial statements.

 

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY

(Dollar amounts in thousands, except share and per share data)

(Unaudited)

 

              

Accumulated

         
              

Other

      

Total

 
  

Common Stock

  

Retained

  

Comprehensive

  

Treasury

  

Stockholders'

 
  

Shares

  

Amount

  

Earnings

  

Loss

  

Stock

  

Equity

 
                         

Balance, December 31, 2023

  9,930,704  $161,388  $100,237  $(16,090) $(39,854) $205,681 
                         

Net income

          4,167           4,167 

Other comprehensive loss

            (2,040)     (2,040)

Stock-based compensation, net

  15,750   435            435 

Common shares repurchased (43,858)

               (1,055)  (1,055)

Cash dividends ($0.20 per share)

          (1,613)          (1,613)
                         

Balance, March 31, 2024

  9,946,454  $161,823  $102,791  $(18,130) $(40,909) $205,575 

 

              

Accumulated

         
              

Other

      

Total

 
  

Common Stock

  

Retained

  

Comprehensive

  

Treasury

  

Stockholders'

 
  

Shares

  

Amount

  

Earnings

  

(Loss) Income

  

Stock

  

Equity

 
                         

Balance, December 31, 2022

  9,916,466  $161,029  $94,154  $(22,144) $(35,348) $197,691 
                         

Net income

          4,896           4,896 

Other comprehensive income

            2,891      2,891 

Cumulative impact of ASC 326 adoption (CECL)

          (4,421)          (4,421)

Stock-based compensation, net

  7,779   219               219 

Common shares repurchased (95,364)

               (4,506)  (4,506)

Cash dividends ($0.20 per share)

          (1,605)          (1,605)
                         

Balance, March 31, 2023

  9,924,245  $161,248  $93,024  $(19,253) $(39,854) $195,165 

 

See accompanying notes to unaudited consolidated financial statements.

 

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF CASH FLOWS

(Dollar amounts in thousands)

(Unaudited)

 

   

For the Three Months Ended

 
   

March 31,

 
   

2024

   

2023

 

OPERATING ACTIVITIES

               

Net income

  $ 4,167     $ 4,896  

Adjustments to reconcile net income to net cash provided by operating activities:

               

(Recovery of) provision for credit losses

    (136 )     507  

Loss on equity securities

    52       138  

Software amortization expense

    22       26  

Amortization of premium and discount on investment securities, net

    140       150  

Amortization of core deposit intangibles

    258       265  

Depreciation, amortization, and accretion, net

    97       193  

Stock-based compensation, net

    -       30  

Origination of loans held for sale

    (629 )     1,494  

Proceeds from sale of loans held for sale

    639       (1,575 )

Gain on sale of loans held for sale

    (10 )     (23 )

Earnings on bank-owned life insurance

    (227 )     (200 )

Deferred income tax (benefit)

    447       (381 )

Gains on other real estate owned

    -       (2 )

(Increase) decrease in accrued interest receivable

    (131 )     25  

Increase in accrued interest payable

    3,495       230  

Other, net

    (2,745 )     665  

Net cash provided by operating activities

    5,439       6,438  
                 

INVESTING ACTIVITIES

               

Investment securities available for sale:

               

Proceeds from repayments and maturities

    167       871  

Purchases

    -       (2,000 )

Purchase of other investments

    (4 )     -  

Increase in loans, net

    (12,184 )     (29,763 )

Proceeds from the sale of other real estate owned

    -       31  

Purchase of premises and equipment

    (92 )     (263 )

Purchase of restricted stock

    -       (1,687 )

Redemption of restricted stock

    503       1,793  

Net cash used in investing activities

    (11,610 )     (31,018 )
                 

FINANCING ACTIVITIES

               

Net increase in deposits

    20,307       23,588  

Net (decrease) increase in short-term borrowings

    (26,000 )     20,000  

Repayment of other borrowings

    (50 )     (49 )

Repurchase of common shares

    (1,055 )     (4,506 )

Cash dividends

    (1,613 )     (1,605 )

Net cash (used in) provided by financing activities

    (8,411 )     37,428  
                 

(Decrease) increase in cash and cash equivalents

    (14,582 )     12,848  
                 

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD

    60,836       53,809  
                 

CASH AND CASH EQUIVALENTS AT END OF PERIOD

  $ 46,254     $ 66,657  
                 
    For the Three Months Ended  
    March 31,  
    2024     2023  

SUPPLEMENTAL INFORMATION

               

Cash paid during the year for:

               

Interest on deposits and borrowings

  $ 6,148     $ 3,568  

Income taxes

    1,890       -  

 

See accompanying notes to unaudited consolidated financial statements.

 

 

MIDDLEFIELD BANC CORP.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Principles of Consolidation and Basis of Presentation

 

The consolidated financial statements of Middlefield Banc Corp. ("Company") include its bank subsidiary, The Middlefield Banking Company (“MBC” or “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 MB Insurance Services (“MIS”). All significant inter-company items have been eliminated.

 

On March 13, 2019, MBC established MI as an operating subsidiary to hold and manage an investment portfolio. On  March 31, 2024, MI’s assets consist of a cash account, investments, and related accrued interest accounts. MI may only hold and manage investments and may not engage in any other activity without prior approval of the Ohio Division of Financial Institutions. In the first quarter of 2022, MBC established MIS as an operating subsidiary to offer retail and business customers various insurance services, including home, renters, automobile, pet, identity theft, travel, and professional liability insurance. On March 31, 2024, MIS assets consist of a cash account, a prepaid asset, and an accounts receivable. As a result of the bank merger of Liberty National Bank and MBC on December 1, 2022, Middlefield Banc Corp. acquired a 100% ownership interest in LBSI Insurance, LLC (“LBSI”), a wholly owned financial subsidiary of Liberty National Bank. LBSI did not operate after the merger, and its existence ended January 19, 2024. All significant intercompany items have been eliminated between MBC and these subsidiaries.

 

The unaudited consolidated financial statements have been prepared in conformity with the instructions to Form 10-Q and Article 10 of Regulation SX. 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, 2023. The interim consolidated financial statements include all adjustments (consisting of only normal 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 a full year.

 

The Company’s significant accounting policies involve the more significant judgments and assumptions used in the preparation of the consolidated financial statements as of March 31, 2024. However, the Company has identified critical accounting policies, and an understanding of these policies is necessary to understand the Company’s financial statements. These policies relate to determining the adequacy of the allowance for credit losses for the investment securities held for sale, loan portfolios, and unfunded commitments.

 

Investments 

 

Management determines the appropriate classification of investment securities at the time of purchase and re-evaluates such designation as of each balance sheet date.

 

Investment securities classified as available for sale are those securities that the Bank intends to hold for an indefinite period of time but not necessarily to maturity. Securities available for sale are carried at fair value. Any decision to sell a security classified as available for sale would be based on various factors, including significant movements in interest rates, changes in the maturity mix of the Bank’s assets and liabilities, liquidity needs, regulatory capital considerations, and other similar factors. Unrealized gains or losses are reported as increases or decreases in other comprehensive income (loss), net of the deferred tax effect. Realized gains or losses, determined on the basis of the cost of the specific securities sold, are included in earnings. Premiums and discounts are recognized in interest income using the interest method over the terms of the securities.

 

Investment securities classified as held to maturity are those securities the Bank has both the intent and ability to hold to maturity regardless of changes in market conditions, liquidity needs, or changes in general economic conditions. These securities are carried at cost, adjusted for the amortization of premium and accretion of discount, and computed by a method that approximates the interest method over the terms of the securities. As of  March 31, 2024, the Company did not hold any held-to-maturity securities.

 

Equity securities, which are included in other investments on the Consolidated Balance Sheet, are measured at fair value with changes in fair value recognized in net income.

 

The Bank adopted ASU No. 2016-13, Financial Instruments - Credit Loses - Topic (326): Measurement of Credit Losses on Financial Instruments ("ASU 2016-13"), effective January 1, 2023. The Bank measures expected credit losses on available-for-sale investment securities when the Bank intends to sell, or when it is more likely than not that it will be required to sell, the security before recovery of its amortized cost basis. If either of the criteria regarding intent or requirement to sell is met, the security's amortized cost basis is written down to fair value through income. For available for sale investment securities that do not meet the aforementioned criteria, the Bank evaluates whether the decline in fair value has resulted from credit losses or other factors. In making this assessment, the Bank 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 evaluation 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 an allowance for credit losses is recorded for the credit loss, equal to the amount that the fair value is less than the amortized cost basis. Economic forecast data is used to calculate the present value of expected cash flows. The Bank obtains its forecast data through a subscription to a widely recognized and relied-upon company that publishes various forecast scenarios. Management evaluates the various scenarios to determine a reasonable and supportable scenario and uses a single scenario in the model. Any impairment that has not been recorded through an allowance for credit losses is recognized in other comprehensive income.

 

The allowance for credit losses is included within investment securities available for sale on the Consolidated Balance Sheet. Changes in the allowance for credit losses are recorded within the provision for credit losses on the Consolidated Statement of Income. Losses are charged against the allowance when the Bank believes the collectability of an available-for-sale security is in jeopardy or when either of the criteria regarding intent or requirement to sell is met.

 

8

 

Accrued interest receivable on available-for-sale investment securities totaled $1.6 million on  March 31, 2024, and is included within accrued interest receivable and other assets on the Consolidated Balance Sheet. This amount is excluded from the estimate of expected credit losses. Available for sale investment securities are typically classified as nonaccrual when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about the further collectability of principal or interest. When available for sale investment securities are placed on nonaccrual status, unpaid interest credited to income is reversed.

 

Loans

 

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at their outstanding unpaid principal balances, net of unearned income, which includes net deferred loan fees and costs and unamortized premiums and discounts. Accrued interest receivable is included within accrued interest receivable and other assets on the Consolidated Balance Sheet. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loans’ yield (interest income). The Bank amortizes these amounts over the contractual life of the loan. Premiums and discounts on purchased loans are amortized as adjustments to interest income using the effective yield method. Interest income is primarily recognized on an accrual basis according to formulas in written contracts, such as loan agreements.

 

The loan portfolio is segmented into commercial and consumer loans. Commercial loans consist of the following classes: commercial construction, commercial and industrial loans, and commercial real estate loans. Consumer loans consist of the following classes: residential real estate loans, home equity loans, and consumer loans.

 

For all classes of loans, the accrual of interest is discontinued when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about further collectability of principal or interest, even though the loan is currently performing. A loan may remain on accrual status if it is in the process of collection and is either guaranteed or well secured. When a loan is placed on nonaccrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against the allowance for credit losses. Interest received on nonaccrual loans generally is either applied against the principal or reported as interest income on a cash basis, according to management’s judgment as to the collectability of principal. Generally, loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time, and the ultimate collectability of the total contractual principal and interest is no longer in doubt. The past-due status of all classes of loans is determined based on contractual due dates for loan payments.

 

The Bank adopted ASU 2016-13, effective January 1, 2023. Upon adoption, the reserve for credit losses on loans increased by $5.4 million. The guidance applies an expected-loss methodology, recognizing current expected credit losses for the remaining life of the asset at the time of origination or acquisition.  The allowance for credit losses ("ACL") is a valuation reserve established and maintained by charges against income and is deducted from the amortized cost basis of loans to present the net amount expected to be collected on the loans. Loans, or portions thereof, are charged off against the ACL when they are deemed uncollectible. Expected recoveries do not exceed the aggregate of amounts previously charged-off and expected to be charged-off.

 

The ACL is an estimate of expected credit losses, measured over the contractual life of a loan, that considers our historical loss experience, current conditions, and forecasts of future economic conditions. Determination of an appropriate ACL is inherently subjective and may have significant changes from period to period.

 

Management uses a discounted cash flow ("DCF") model to calculate the present value of the expected cash flows for pools of loans that share similar risk characteristics and compares the results of this calculation to the amortized cost basis to determine its ACL balance.

 

The contractual term used in projecting the cash flows of a loan is based on the maturity date of a loan and is adjusted for prepayment or curtailment assumptions, which may shorten that contractual time period. Options to extend are considered by management in determining the contractual term.

 

The key inputs to the DCF model are (1) probability of default, (2) loss given default, (3) prepayment and curtailment rates, (4) reasonable and supportable economic forecasts, (5) forecast reversion period, (6) expected recoveries on charged off loans, and (7) discount rate.

 

Probability of Default ("PD")

In order to incorporate economic factors into forecasting within the DCF model, management elected to use the Loss Driver method to generate the PD rate inputs. The Loss Driver method analyzes how one or more economic factors change the default rate using statistical regression analysis. Management selected economic factors that have strong correlations to historical default rates.

 

Loss Given Default ("LGD")

Management elected to use the Frye Jacobs parameter for determining the LGD input, which is an estimation technique that derives an LGD input from segment-specific risk curves that correlate LGD with PD.

 

Prepayment and Curtailment Rates

Prepayment Rates: Loan-level transaction data is used to calculate semi-annual prepayment rates. These semi-annual rates are annualized, and the average of the annualized rates is used in the DCF calculation for fixed payments or term loans. Rates are calculated for each pool.

 

Curtailment Rates: Loan-level transaction data is used to calculate annual curtailment rates using available historical loan-level data. The average of the historical rates is used in the DCF model for interest-only payment or line-of-credit type loans. Rates are calculated for each pool.

 

Reasonable and Supportable Forecasts

The forecast data used in the DCF model is obtained via a subscription to a widely recognized and relied-upon company that publishes various forecast scenarios. Management evaluates the various scenarios to determine a reasonable and supportable forecast.

 

Forecast Reversion Period

Management uses forecasts to predict how economic factors will perform and has determined to use a four-quarter forecast period as well as an eight-quarter straight-line reversion period to historical averages (also commonly referred to as the mean reversion period).

 

Expected Recoveries on Charged-off Loans

Management performs an analysis to estimate recoveries that could be reasonably expected based on historical experience in order to account for expected recoveries on loans that have already been fully charged off and are not included in the ACL calculation.

 

9

 

Discount Rate

The effective interest rate of the underlying loans of the Company serves as the discount rate applied to the expected periodic cash flows. Management adjusts the effective interest rate used to discount expected cash flows to incorporate expected prepayments.

 

Individual Evaluation

Management evaluates individual instruments for expected credit losses when those instruments do not share similar risk characteristics with instruments evaluated using a collective (pooled) basis. These instruments will not be included in the collective analyses. The individual analysis will establish a specific reserve for instruments in scope.

 

The allowance for credit losses is measured on a collective (pool) basis when similar risk characteristics exist. 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 CRE loan segments consist of loans made to finance the activities of CRE owners and operators and certain agricultural loans. The RRE 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 and certain agricultural loans. The consumer loan segment consists primarily of installment loans and overdraft lines of credit connected with customer deposit accounts.

 

Historical credit loss experience is the basis for the estimation of expected credit losses. We apply historical loss rates to pools of loans with similar risk characteristics. After consideration of the historic loss calculation, management applies qualitative adjustments to reflect the current conditions and reasonable and supportable forecasts not already reflected in the historical loss information at the balance sheet date. The qualitative adjustments for current conditions are based upon 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, concentrations of credit from a loan type, industry, and/or geographic standpoint. These modified historical loss rates are multiplied by the outstanding principal balance of each loan to calculate a required reserve.

 

The Bank has elected to exclude accrued interest receivable from the measurement of its ACL. When a loan is placed on nonaccrual status, any outstanding accrued interest is reversed against interest income.

 

The ACL calculation for individual loans begins with the use of normal credit review procedures to identify whether a loan no longer shares similar risk characteristics with other pooled loans and should, therefore, be individually assessed. Beginning in the third quarter of 2023, the Bank automatically considers all nonaccrual loans greater than $250,000 for individual analysis. Additional identification of loans to be individually evaluated is accomplished through the Bank’s normal loan review, criticized asset review, and portfolio management processes. The Bank previously evaluated all commercial loans greater than $150,000 for individual analysis that met the following criteria: 1) when it is determined that foreclosure is probable, 2) substandard, doubtful, and nonperforming loans when repayment is expected to be provided substantially through the operation or sale of the collateral, and 3) when it is determined by management that a loan does not share similar risk characteristics with other loans. Specific reserves are established based on the following three acceptable methods for measuring the ACL: 1) the present value of expected future cash flows discounted at the loan’s original effective interest rate, 2) the loan’s observable market price, or 3) the fair value of the collateral when the loan is collateral dependent. Management considers a financial asset as collateral dependent when the debtor is experiencing financial difficulty and repayment is expected to be provided substantially through the sale or operation of the collateral, based on management's assessment as of the reporting date. Measurement of the expected credit losses on collateral-dependent loans is based on the fair value of the collateral, less any costs to sell. A specific reserve is established or a charge-off is taken if the fair value of the loan is less than the loan balance. Large groups of smaller-balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Bank does not separately identify individual residential real estate loans, home equity loans, and consumer loans for impairment disclosures.

 

The Bank adopted ASU No. 2016-13 effective January 1, 2023. Upon adoption, the reserve for credit losses for unfunded commitments increased by $622,000. The Bank estimates expected credit losses over the contractual period in which the Bank is exposed to credit risk via a contractual obligation to extend credit unless that obligation is unconditionally cancellable by the Bank. The allowance for credit losses on off-balance sheet credit exposures is included in accrued interest payable and other liabilities on the balance sheet and adjusted through provision for credit losses. The estimate includes consideration of the likelihood that funding will occur and an estimate of expected credit losses on commitments expected to be funded over its estimated life, consistent with the estimation process on the loan portfolio.

 

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.

 

Accounting Pronouncements Adopted in 2024

 

In  March 2023, the FASB issued ASU 2023-02, Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method. The amendments allow entities to elect to account for qualifying tax equity investments using the proportional amortization method, regardless of the program giving rise to the related tax credits. This method of accounting had been available only for qualifying investments in qualified affordable housing projects. The guidance also requires certain disclosures regarding an entity’s tax equity investments. On January 1, 2024, the Bank adopted ASU 2023-03. This ASU did not have a significant impact on the Bank’s financial statements.

 

Recent Accounting Pronouncements

 

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 (SOFR). 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. ASU 2022-06, Reference Rate Reform (Topic 848): Deferral of the Sunset Date of Topic 848 Issued  December 2022, which was issued in  December 2022, extended the period of time entities can utilize the reference rate reform relief guidance under ASU 2020-04 from  December 31, 2022 to  December 31, 2024. The ASUs are not expected to have a significant impact on the Bank’s financial statements.

 

10

 

In  June 2022, the FASB issued ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions. The amendment clarifies that a contractual restriction on the sale of an equity security is not considered part of the unit account of the equity security and is not considered in measuring its fair value. The ASU clarifies that an entity cannot, as a separate unit of account, recognize and measure a contractual sale restriction. The ASU also requires certain disclosures for equity securities subject to contractual sale restrictions. The amendments in this ASU are effective for all entities for fiscal years beginning after  December 15, 2024. This ASU is not expected to have a significant impact on the Company’s financial statements.

 

In November 2023, the FASB issued ASU 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures. The ASU requires enhanced disclosures about significant segment expenses for public entities reporting segment information under ASC Topic 280. The amendments include required disclosure of significant segment expenses regularly reviewed by the chief operating decision maker, description of the composition of other segment items, and title and position of the chief operating decision maker. Additionally, the ASU requires public entities to provide all annual disclosures under Topic 280 in interim periods. The ASU also requires that public entities with a single reportable segment provide all the disclosures required by this amendment and existing disclosure requirements in Topic 820. The amendments in this ASU are effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. The Company has a single reportable segment. This ASU is not expected to have a significant impact on the Company's financial statements.

 

In December 2023, the FASB issued ASU 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures. The amendments require entities to disclose specific categories in the rate reconciliation and provide additional information for material reconciling items. The ASU also requires the disclosure of income taxes paid disaggregated by jurisdiction. The amendments in this ASU are effective for public business entities for annual periods beginning after  December 15, 2024. This ASU is not expected to have a significant impact on the Company’s financial statements.

 

In March 2024, the FASB issued ASU 2024-01, Compensation Stock Compensation (Topic 718).  The ASU amended the guidance in ASC 718 to add an example showing how to apply the scope guidance to determine whether profits interest and similar awards should be accounted for as share-based payment arrangements.  The guidance is effective for fiscal years beginning after December 15, 2024, and interim periods within those fiscal years.  The Company is currently evaluating the impact of this new guidance on its financial statements.

 

 

NOTE 2 REVENUE RECOGNITION

 

Following 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 equity security gains (losses), gains on the sale of loans, rental income, and BOLI income, are not within the scope of ASC 606. For the three months ended March 31, 2024, these revenue sources cumulatively comprise 94.2% of the total revenue of the Company.

 

The main types of noninterest income within the scope of the standard are as follows:

 

Service charges on deposit accounts – The Company has contracts with its deposit customers whereby 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.

 

Revenue from investment services – The Company earns investment services revenue through its referral agreement 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 with referral revenue is received.

 

Miscellaneous fee income – Fees earned on other services, such as ATM surcharge fees, money order fees, and check fees, are recognized at the time of the event or the applicable billing cycle.

 

The following table depicts the disaggregation of revenue derived from contracts with customers to depict the nature, amount, timing, and uncertainty of revenue and cash flows:

 

  

For the Three Months Ended March 31,

 

Noninterest Income

 

2024

  

2023

 

(Dollar amounts in thousands)

        

Service charges on deposit accounts:

        

Overdraft fees

 $250  $246 

ATM banking fees

  439   472 

Service charges and other fees

  220   269 

Loss on equity securities ⁽ª⁾

  (52)  (138)

Gain on sale of other real estate owned ⁽ª⁾

  -   2 

Earnings on bank-owned life insurance ⁽ª⁾

  227   200 

Gain on sale of loans ⁽ª⁾

  10   23 

Revenue from investment services

  204   186 

Miscellaneous fee income

  93   86 

Gross rental income ⁽ª⁾

  67   102 

Other income

  338   232 

Total noninterest income

 $1,796  $1,680 

 

(a) Not within scope of ASC 606

 

11

 
 

NOTE 3 - 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 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,

 
  

2024

  

2023

 
         

Weighted-average common shares outstanding

  9,941,596   9,921,529 
         

Average treasury stock shares

  (1,850,393)  (1,782,758)
         

Weighted-average common shares and common stock equivalents used to calculate basic earnings per share

  8,091,203   8,138,771 
         

Additional common stock equivalents (stock options and restricted stock) used to calculate diluted earnings per share

  5,114   13,858 
         

Weighted-average common shares and common stock equivalents used to calculate diluted earnings per share

  8,096,317   8,152,629 

 

On March 31, 2024, there were 38,836 shares of restricted stock, 33,722 shares of which were anti-dilutive.

 

On March 31, 2023, there were 70,219 shares of restricted stock, 56,361 shares of which were anti-dilutive.

 

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, 2024, the Company held 1,879,310 of the Company’s shares, which is an increase of 43,858 from the 1,835,452 shares held as of March 31, 2023.

 

 

 

NOTE 4 - ACCUMULATED OTHER COMPREHENSIVE (LOSS) INCOME

 

The following table presents the changes in accumulated other comprehensive (loss) income (“AOCI”) by component, net of tax, for the three months ended March 31, 2024, and 2023, respectively:

 

(Dollars in thousands)

 Unrealized (losses)/gains on securities available-for-sale(a) 

Balance as of December 31, 2023

 $(16,090)

Other comprehensive loss

  (2,040)

Balance as of March 31, 2024

 $(18,130)

 

(Dollars in thousands)

 Unrealized (losses)/gains on securities available-for-sale(a) 

Balance as of December 31, 2022

 $(22,144)

Other comprehensive income

  2,891 

Balance as of March 31, 2023

 $(19,253)

 

 

(a)

All amounts are net of tax.

 

There were no other reclassifications of amounts from AOCI for the three months ended March 31, 2024, and 2023.

 

 

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 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.

 

12

 

This hierarchy requires the use of observable market data when available.

 

The following tables present the assets measured at fair value on a recurring basis on the Consolidated Balance Sheet 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, 2024

     

(Dollar amounts in thousands)

 

Level I

  

Level II

  

Level III

  

Total

 

Assets measured on a recurring basis:

                

Subordinated debt

 $-  $25,186  $6,581  $31,767 

Obligations of states and political subdivisions

  -   130,103   -   130,103 

Mortgage-backed securities in government-sponsored entities

  -   6,020   -   6,020 

Total investment securities available for sale

  -   161,309   6,581   167,890 

Equity securities

  776   -   -   776 

Total

 $776  $161,309  $6,581  $168,666 

 

      

December 31, 2023

     

(Dollar amounts in thousands)

 

Level I

  

Level II

  

Level III

  

Total

 

Assets measured on a recurring basis:

                

Subordinated debt

 $-  $23,118  $8,801  $31,919 

Obligations of states and political subdivisions

  -   132,542   -   132,542 

Mortgage-backed securities in government-sponsored entities

  -   6,318   -   6,318 

Private-label mortgage-backed securities

  -   -   -   - 

Total investment securities available for sale

  -   161,978   8,801   170,779 

Equity securities

  814   -   -   814 

Total

 $814  $161,978  $8,801  $171,593 

 

Investment Securities Available for Sale

An independent pricing service provides the Company fair values determined by pricing models using a market approach that considers observable market data, such as interest rate volatilities, benchmarked 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 III assets measured at fair value on a recurring basis.

 

  

Subordinated debt

 

(Dollar amounts in thousands)

 

March 31, 2024

  

December 31, 2023

 

Beginning of year

 $8,801  $8,737 

Purchases, sales, settlements:

        

Purchases

  -   1,000 

Transfers out of Level III (1)

  (2,250)  (1,000)

Net change in unrealized loss on investment securities available-for-sale

  30   64 

Balance at end of period

 $6,581  $8,801 

 

 

(1)

Transfers between hierarchy levels are based on the availability of sufficient observable inputs to meet Level II versus Level III criteria. The level designation of each financial instrument is reassessed at the end of each period.

 

13

 

The following table presents the assets measured at fair value on a non-recurring basis on the Consolidated Balance Sheet by level within the fair value hierarchy.

 

      

March 31, 2024

     

(Dollar amounts in thousands)

 

Level I

  

Level II

  

Level III

  

Total

 

Assets measured on a non-recurring basis:

                

Collateral-dependent loans

 $-  $-  $3,321  $3,321 

 

      

December 31, 2023

     

(Dollar amounts in thousands)

 

Level I

  

Level II

  

Level III

  

Total

 

Assets measured on a non-recurring basis:

                

Collateral-dependent loans

 $-  $-  $3,361  $3,361 

 

Collateral-Dependent Loans – The Company has measured impairment on collateral-dependent individually analyzed loans generally based on the fair value of the loan’s collateral. Fair value is generally determined based on 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 credit 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 in the period in which the adjustment is recorded. 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 preceding tables include selling costs of $883,000 and $843,000 on  March 31, 2024, and  December 31, 2023, respectively.

 

The following table presents 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)

          
  

Fair Value Estimate

 

Valuation Techniques

Unobservable Input

 

Range (Weighted Average)

 

March 31, 2024

          

Collateral-dependent loans

 $3,321 

Appraisal of collateral (1)

Appraisal adjustments (2)

  21.0%

 

  

Quantitative Information about Level III Fair Value Measurements

 

(Dollar amounts in thousands)

          
  

Fair Value Estimate

 

Valuation Techniques

Unobservable Input

 

Range (Weighted Average)

 

December 31, 2023

          

Collateral-dependent loans

 $3,361 

Appraisal of collateral (1)

Appraisal adjustments (2)

  20.1%

 

 

(1)

Fair value is generally determined through independent appraisals of the underlying collateral, which generally 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, 2024

 
  

Carrying

              

Total

 
  

Value

  

Level I

  

Level II

  

Level III

  

Fair Value

 
  

(Dollar amounts in thousands)

 

Financial assets:

                    

Net loans

 $1,469,057  $-  $-  $1,391,216  $1,391,216 

Mortgage servicing rights

  1,589         2,701   2,701 
                     

Financial liabilities:

                    

Non-maturing deposits

 $1,114,744  $1,114,744  $-  $-  $1,114,744 

Time deposits

  332,165   -   -   329,023   329,023 

Other borrowings

  11,812   -   -   11,812   11,812 

 

  

December 31, 2023

 
  

Carrying

              

Total

 
  

Value

  

Level I

  

Level II

  

Level III

  

Fair Value

 
  

(Dollar amounts in thousands)

 

Financial assets:

             &#