Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain matters discussed in this Form 10-Q may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to our financial condition, results of operations, plans, objectives, future performance or business. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by use of the words “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook” or similar expressions or future or conditional verbs such as “may,” “will,” “should,” “would” and “could.” Forward-looking statements include statements with respect to our beliefs, plans, objectives, goals, expectations, assumptions and statements about, among other things, expectations of the business environment in which we operate, projections of future performance or financial items, perceived opportunities in the market, potential future credit experience, and statements regarding our mission and vision. These forward-looking statements are based upon current management expectations and may, therefore, involve risks and uncertainties. Our actual results, performance, or achievements may differ materially from those suggested, expressed, or implied by forward- looking statements as a result of a wide variety or range of factors including, but not limited to:
● potential adverse impacts to economic conditions in our local market areas, other markets where the Company has lending relationships, or other aspects of the Company’s business operations or financial markets, including, without limitation, as a result of employment levels, labor shortages and the effects of inflation, a potential recession or slowed economic growth caused by increasing political instability from acts of war including Russia’s invasion of Ukraine, as well as increasing oil prices and supply chain disruptions, and any governmental or societal responses to the novel coronavirus disease 2019 (“COVID-19”) pandemic, including the possibility of new COVID-19 variants;
● expected revenues, cost savings, synergies and other benefits from our recent acquisition of Pacific Enterprise Bancorp (the “PEB Merger”) might not be realized within the expected time frames or at all and costs or difficulties relating to integration matters, including but not limited to client and employee retention, might be greater than expected;
● the credit risks of lending activities, including changes in the level and trend of loan delinquencies and write-offs and changes in our allowance for loan losses and provision for loan losses;
● changes in economic conditions in general and in California, Colorado, New Mexico and Washington specifically, including as a result of employment levels and labor shortages, and the effects of inflation, a potential recession or slowed economic growth caused by increasing oil prices and supply chain disruptions;
● changes in the levels of general interest rates and the relative differences between short and long-term interest rates, loan and deposit interest rates;
● the future of the London Interbank Offered Rate (“LIBOR”), and the transition away from LIBOR toward new interest rate benchmarks;
● our net interest margin and funding sources;
● fluctuations in the demand for loans and the number of unsold homes, land and other properties;
● fluctuations in real estate values in our market areas;
● secondary market conditions for loans and our ability to sell loans in the secondary market;
● results of examinations of us by regulatory authorities and the possibility that any such regulatory authority may, among other things, limit our business activities, require us to change our business mix, increase our allowance for loan losses, write-down asset values or increase our capital levels, affect our ability to borrow funds or maintain or increase deposits;
● risks related to our acquisition strategy, including our ability to identify future suitable acquisition candidates, exposure to potential asset and credit quality risks and unknown or contingent liabilities, the need for capital to finance such transactions, our ability to obtain required regulatory approvals and possible failures in realizing the anticipated benefits from acquisitions;
● challenges arising from attempts to expand into new geographic markets, products, or services;
● future goodwill impairment due to changes in our business, market conditions, or other factors;
● legislative or regulatory changes that adversely affect our business, including changes in banking, securities and tax law, in regulatory policies and principles, or the interpretation of regulatory capital or other rules, and other governmental initiatives affecting the financial services industry;
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● our ability to attract and retain deposits;
● our ability to control operating costs and expenses;
● the use of estimates in determining fair value of certain of our assets and liabilities, which estimates may prove to be incorrect and result in significant changes in valuation;
● difficulties in reducing risk associated with the loans and securities on our balance sheet;
● staffing fluctuations in response to product demand or the implementation of corporate strategies that affect our work force and potential associated charges;
● the effectiveness of our risk management framework;
● disruptions, security breaches, or other adverse events, failures or interruptions in, or attacks on, our information technology systems or on the third-party vendors who perform several of our critical processing functions, which could expose us to litigation or reputational harm;
● an inability to keep pace with the rate of technological advances;
● our ability to retain key members of our senior management team and our ability to attract, motivate and retain qualified personnel;
● costs and effects of litigation, including settlements and judgments;
● our ability to implement our business strategies and manage our growth;
● liquidity issues, including our ability to borrow funds or raise additional capital, if necessary;
● the loss of our large loan and deposit relationships;
● increased competitive pressures among financial services companies;
● changes in consumer spending, borrowing and savings habits;
● the availability of resources to address changes in laws, rules, or regulations or to respond to regulatory actions;
● our ability to pay dividends on our common stock;
● the quality and composition of our securities portfolio and the impact of any adverse changes in the securities markets;
● inability of key third-party providers to perform their obligations to us;
● statements with respect to our intentions regarding disclosure and other changes resulting from the Jumpstart Our Business Startups Act of 2012 (“JOBS Act”);
● changes in accounting principles, policies or guidelines and practices, as may be adopted by the financial institution regulatory agencies, the Public Company Accounting Oversight Board or the Financial Accounting Standards Board;
● the effects of climate change, severe weather events, natural disasters, pandemics, epidemics and other public health crises, acts of war or terrorism, and other external events on our business;
● other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing, products and services; and
● other risks described elsewhere in this Form 10-Q and other filings with the Securities and Exchange Commission (“SEC”), including our Annual Report on Form 10-K for the year ended December 31, 2021 (“2021 Annual Report”).
In light of these risks, uncertainties and assumptions, the forward-looking statements discussed in this report might not occur, and you should not put undue reliance on any forward-looking statements. Moreover, you should treat these statements as speaking only as of the date they are made and based only on information then actually known to us. We do not undertake and specifically disclaim any obligation to revise any forward- looking statements included in this report or the reasons why actual results could differ from those contained in such statements, whether as a result of new information or to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements. These risks could cause our actual results for 2022 and beyond to differ materially from those expressed in any forward-looking statements by, or on behalf of us and could negatively affect our consolidated financial condition and consolidated results of operations as well as our stock price performance.
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Executive Overview
General. BayCom is a bank holding company headquartered in Walnut Creek, California. BayCom’s wholly owned banking subsidiary, United Business Bank, provides a broad range of financial services to businesses and business owners as well as individuals through its network of 34 full-service branches, with 16 locations in California, two in Washington, five in Central New Mexico and 11 in Colorado. The Company’s business activities generally are limited to passive investment activities and oversight of its investment in the Bank. Accordingly, the information set forth in this report, including consolidated financial statements and related data, relate primarily to the Bank.
Our principal objective is to continue to increase shareholder value and generate consistent earnings growth by expanding our commercial banking franchise through both strategic acquisitions and organic growth. Since 2010, we have expanded our geographic footprint through 10 strategic acquisitions. We believe our strategy of selectively acquiring and integrating community banks has provided us with economies of scale and improved our overall franchise efficiency. Looking forward, we expect to continue to pursue strategic acquisitions and believe our targeted market areas present us with many and varied acquisition opportunities. We are also focused on continuing to grow organically and believe the metropolitan and community markets in which we operate currently provide meaningful opportunities to expand our commercial client base and increase both interest-earning assets and market share. We believe our geographic footprint, which now includes the San Francisco Bay area, the metropolitan markets of Los Angeles, California, Seattle, Washington, and Denver, Colorado, and community markets including Albuquerque, New Mexico, and Custer, Delta, and Grand counties, Colorado, provides us with access to low cost, stable core deposits in community markets that we can use to fund commercial loan growth. We strive to provide an enhanced banking experience for our clients by providing them with a comprehensive suite of sophisticated banking products and services tailored to meet their needs, while delivering the high-quality, relationship-based client service of a community bank. At September 30, 2022, the Company had approximately $2.5 billion in total assets, $2.0 billion in total loans, $2.1 billion in total deposits and $314.4 million in shareholders’ equity.
We continue to focus on growing our commercial loan portfolios through acquisitions as well as organic growth. At September 30, 2022, our $2.0 billion total loan portfolio included $299.4 million, or 15.0 %, of acquired loans (all of which were recorded to their estimated fair values at the time of acquisition), and the remaining $1.7 billion, or 85.0%, consisted of loans we originated.
The profitability of our operations depends primarily on our net interest income after provision for loan losses, which is the difference between interest earned on interest earning assets and interest paid on interest bearing liabilities less provision for loan losses. Our net income is also affected by other factors, including the provision for credit losses on loans, noninterest income and noninterest expense.
On February 1, 2022, the Company completed its acquisition of Pacific Enterprise Bancorp (“PEB”), which was headquartered in Irvine, California. Pursuant to an Agreement and Plan of Merger, dated September 7, 2021 (the “Merger Agreement”), by and between BayCom and PEB. Under the terms of the Merger Agreement, PEB merged with and into BayCom (the “Merger”), with BayCom as the surviving corporation in the Merger. Immediately following the Merger, Pacific Enterprise Bank, a wholly-owned subsidiary of PEB, merged with and into United Business Bank, a wholly-owned subsidiary of BayCom (the “Bank Merger”), with United Business Bank as the surviving bank in the Bank Merger. For additional information regarding the PEB Merger, see “Note 3 – Acquisitions” contained in the Notes to Condensed Consolidated Financial Statements included in “Item 1. Financial Information” of Part I this report.
Set forth below is a discussion of the primary factors affecting our results of operations:
Net interest income. Net interest income represents interest income less interest expense. We generate interest income from interest and fees received on interest earning assets, including loans and investment securities and dividends on Federal Home Loan Bank of San Francisco (“FHLB”) and Federal Reserve Bank of San Francisco (“FRB”) stock we own. We incur interest expense from interest paid on interest bearing liabilities, including interest bearing deposits and borrowings. To evaluate net interest income, we measure and monitor: (i) yields on our loans and other interest earning assets; (ii) the costs of our deposits and other funding sources; (iii) our net interest margin; and (iv) the regulatory risk weighting associated with the assets. Net interest margin is calculated as the annualized net interest income divided by average interest earning assets. Because noninterest bearing sources of funds, such as noninterest bearing deposits and
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shareholders’ equity, also fund interest earning assets, net interest margin includes the benefit of these noninterest bearing sources.
Changes in market interest rates, the slope of the yield curve, and interest we earn on interest earning assets or pay on interest bearing liabilities, as well as the volume and types of interest earning assets, interest bearing and noninterest bearing liabilities and shareholders’ equity, usually have the largest impact on changes in our net interest spread, net interest margin and net interest income during a reporting period. Since March 2022, in response to inflation, the Federal Open Market Committee (“FOMC”) of the Board of Governors of the Federal Reserve System (“Federal Reserve”) has increased the target range for the federal funds rate by 300 basis points, including 150 basis points during the third quarter of 2022, to a range of 3.00% to 3.25% as of September 30, 2022. In November 2022, the FOMC increased the target range for the federal funds rate another 75 basis points to a range of 3.75% to 4.00%. The increase in the average yield on interest-earning assets during the current year reflects the lagging benefit of variable rate interest-earnings assets beginning to reprice higher. We believe our balance sheet is structured to enhance our net interest margin if the FOMC continues to raise the targeted federal funds rate in an effort to curb inflation, which appears likely based on recent Federal Reserve communications and interest rate forecasts.
Noninterest income. Noninterest income consists of, among other things: (i) service charges on loans and deposits; (ii) gain on sale of loans; and (iii) other noninterest income. Gain on sale of loans includes income (or losses) from the sale of the guaranteed portion of Small Business Administration (“SBA”) loans, capitalized loan servicing rights and other related income.
Provision for loan losses. We established an allowance for loan losses by charging amounts to loan provision at a level required to reflect estimated credit losses in the loan portfolio. Management considers many factors including historical experience, types and amounts of the portfolio and adverse situations that may affect borrowers’ ability to repay, among other factors. See “Critical Accounting Policies and Estimates - Allowance for loan loss” for a description of the manner in which the provision for loan losses is established.
Noninterest expense. Noninterest expense includes, among other things: (i) salaries and related benefits; (ii) occupancy and equipment expense; (iii) data processing; (iv) Federal Deposit Insurance Corporation (“FDIC”) and state assessments; (v) outside and professional services; (vi) other general and administrative expenses, including amortization of intangible assets. Salaries and related benefits include compensation, employee benefits and employment tax expenses for our personnel. Occupancy expense includes depreciation expense on our owned properties, lease expense on our leased properties and other occupancy-related expenses. Data processing expense includes data fees paid to our third-party data processing system provider and other data service providers. FDIC and state assessments expense represents the assessments that we pay to the FDIC for deposit insurance and other regulatory costs to various states. Outside and professional fees include legal, accounting, consulting and other outsourcing arrangements. Amortization of intangibles represents the amortization of our core deposit intangible from various acquisitions. Other general and administrative expenses include expenses associated with travel, meals, training, supplies and postage. Noninterest expenses generally increase as we grow our business. Noninterest expenses have increased significantly over the past few years as we have grown through acquisitions and organically, and as we have built out our operational infrastructure.
Critical Accounting Policies and Estimates
Our consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). The JOBS Act permits us an extended transition period for complying with new or revised accounting standards affecting public companies. We have elected to take advantage of this extended transition period, which means that the condensed consolidated financial statements included in this Form 10-Q report, as well as any financial statements that we file in the future, will not be subject to all new or revised accounting standards generally applicable to public companies for the transition period for so long as we remain an emerging growth company or until we affirmatively and irrevocably opt out of the extended transition period under the JOBS Act. The following represent our critical accounting policies:
Allowance for loan losses . The allowance for loan losses is evaluated on a regular basis by management. Periodically, we charge current earnings with provisions for estimated probable losses of loans receivable. The provision
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or adjustment takes into consideration the adequacy of the total allowance for loan losses giving due consideration to specifically identified problem loans, the financial condition of the borrowers, fair value of the underlying collateral, recourse provisions, prevailing economic conditions, and other factors. Additional consideration is given to our historical loan loss experience relative to our loan portfolio concentrations related to industry, collateral and geography. Our evaluation of the allowance for loan losses is inherently subjective and requires estimates that are susceptible to significant change as additional or new information becomes available. In addition, regulatory examiners may require additional allowances based on their judgments of the information regarding problem loans and credit risk available to them at the time of their examinations.
Generally, the allowance for loan losses consists of various components including a component for specifically identified weaknesses as a result of individual loans being impaired, a component for general non- specific weakness related to historical experience, economic conditions and other factors that indicate probable loss in the loan portfolio. Loans determined to be impaired are individually evaluated by management for specific risk of loss.
In situations where, for economic or legal reasons related to a borrower’s financial difficulties, we grant a concession to the borrower that we would not otherwise consider, the related loan is classified as a troubled debt restructuring, or TDR. We measure any loss on the TDR in accordance with the guidance concerning impaired loans set forth above. Additionally, TDRs are generally placed on nonaccrual status at the time of restructuring and included in impaired loans. These loans are returned to accrual status after the borrower demonstrates performance with the modified terms for a sustained period of time (generally six months) and has the capacity to continue to perform in accordance with the modified terms of the restructured debt.
Estimated expected cash flows related to purchased credit impaired loans . Loans purchased with evidence of credit deterioration since origination for which it is probable that all contractually required payments will not be collected are accounted for under Accounting Standards Codification (“ASC”) 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. In situations where such purchase credit impaired (“PCI”) loans have similar risk characteristics, loans may be aggregated into pools to estimate cash flows. A pool is accounted for as a single asset with a single interest rate, cumulative loss rate and cash flow expectation.
The cash flows expected over the life of the PCI loan or pool are estimated using an internal cash flow model that projects cash flows and calculates the carrying values of the pools, book yields, effective interest income and impairment, if any, based on pool level events. Assumptions as to default rates, loss severity and prepayment speeds are utilized to calculate the expected cash flows.
Expected cash flows at the acquisition date in excess of the fair value of loans are considered to be accretable yield, which is recognized as interest income over the life of the loan or pool using a level yield method if the timing and amounts of the future cash flows of the pool are reasonably estimable. Subsequent to the acquisition date, any increase in cash flow over those expected at purchase date in excess of fair value is recorded as interest income prospectively. Any subsequent decreases in cash flow over those expected at purchase date are recognized by recording an allowance for loan losses. Any disposals of loans, including sales of loans, payments in full or foreclosures result in the removal of the loan from the loan pool at the carrying amount.
Business combinations . We apply the acquisition method of accounting for business combinations. Under the acquisition method, the acquiring entity in a business combination recognizes all of the identifiable assets acquired and liabilities assumed at their acquisition date fair values. Management utilizes prevailing valuation techniques appropriate for the asset or liability being measured in determining these fair values. Any excess of the purchase price over amounts allocated to assets acquired, including identifiable intangible assets, and liabilities assumed is recorded as goodwill. Where amounts allocated to assets acquired and liabilities assumed is greater than the purchase price, a bargain purchase gain is recognized. Acquisition related costs are expensed as incurred unless they are directly attributable to the issuance of the Company’s common stock in a business combination.
Loan sales and servicing of financial assets . Periodically, we sell loans and retain the servicing rights. The gain or loss on sale of loans depends in part on the previous carrying amount of the financial assets involved in the transfer, allocated between the assets sold and the retained interests based on their relative fair value at the date of transfer. All
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servicing assets and liabilities are initially measured at fair value. In addition, we amortize servicing rights in proportion to and over the period of the estimated net servicing income or loss and assess the rights for impairment.
Income taxes . Deferred income taxes are computed using the asset and liability method, which recognizes a liability or asset representing the tax effects, based on current tax law, of future deductible or taxable amounts attributable to events that have been recognized in the financial statements. A valuation allowance is established to reduce the deferred tax asset to the level at which it is “more likely than not” that the tax asset or benefits will be realized. Realization of tax benefits of deductible temporary differences and operating loss carry forwards depends on having sufficient taxable income of an appropriate character within the carry forward periods.
We recognize that the tax effects from an uncertain tax position can be recognized in the financial statements only if, based on its merits, the position is more likely than not to be sustained on audit by the taxing authorities. Interest and penalties related to uncertain tax positions are recorded as part of income tax expense.
Goodwill. Goodwill, which has resulted from a number of our acquisitions, is reviewed for impairment annually, or between annual assessments if a triggering event occurs or circumstances change that would more likely than not result in the fair value of a reporting unit being below its carrying amount. We make a qualitative assessment whether it is more likely than not that the fair value of a reporting unit where goodwill is assigned is less than its carrying amount. Such indicators may include, among others: a significant adverse change in legal factors or in the general business climate; significant decline in the Company’s stock price and market capitalization; unanticipated competition; and an adverse action or assessment by a regulator. Any adverse changes in these factors could have a significant impact on the recoverability of goodwill and could have a material impact on our financial condition and results of operations. As of September 30, 2022, the Company concluded that the goodwill of the Company’s reporting unit, the Bank, is not more likely than not to be impaired.
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BayCom’s Response to COVID-19
The Company maintains its commitment to supporting its community and clients during the COVID-19 pandemic and remains focused on keeping its employees safe and the Bank running effectively to serve its clients. As of September 30, 2022, all Bank branches were open with normal hours. The Bank will continue to monitor branch access and occupancy levels in relation to cases and close contact scenarios and follow governmental restrictions and public health authority guidelines.
Comparison of Financial Condition at September 30, 2022 and December 31, 2021
Total assets. Total assets increased $183.8 million, or 7.8%, to $2.5 billion at September 30, 2022, from $2.4 billion at December 31, 2021. The increase primarily was due to loans receivable, net, increasing $329.7 million as a result of the PEB Merger and new loan originations, partially offset by loan repayments and sales during the period. In addition, other assets increased $13.4 million or 44.8% and right-of-use assets (“ROU”) increased $3.7 million or 30.9%, partially offset by cash and cash equivalent decreasing $155.0 million or 40.8% and investment securities available-for-sale decreasing $7.2 million, or 4.1%.
Cash and cash equivalents. Cash and cash equivalents decreased $155.0 million, or 40.8%, to $224.7 million, at September 30, 2022, from $379.7 million at December 31, 2021. The decrease primarily was due to $166.0 million decrease in federal funds sold and interest bearing balances in banks during nine months ended September 30, 2022, which was used to fund new loan originations and the managed run-off of higher cost time deposits.
Securities. Investment securities, all of which are classified as available-for-sale, decreased $7.2 million, or 4.1%, to $167.2 million at September 30, 2022 from $174.4 million at December 31, 2021. The decrease primarily was due to fair value adjustments related to unrealized losses on investment securities available-for-sale of $23.2 million and the routine amortization and repayment of investment principal balances and securities called and matured, partially offset by the purchase of $25.7 million of investment securities during the nine months ended September 30, 2022.
Loans receivable, net. We originate a wide variety of loans with a focus on commercial real estate (“CRE”) loans and commercial and industrial loans. Loans receivable, net of allowance for loan losses, increased $329.7 million, or 20.0%, to $2.0 billion at September 30, 2022 from $1.7 billion at December 31, 2021. The increase was due to $412.9 million of net loans acquired from PEB and $364.0 million of new loan originations, partially offset by $409.2 million of loan repayments, including $130.8 million in Paycheck Protection Program (“PPP”) loan repayments, and $33.4 million in loan sales.
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The following table provides information about our loan portfolio by type of loan, with PCI loans presented as a separate balance, at the dates presented .
September 30,
December 31,
% Change
2022
2021
(Dollars in thousands)
Commercial and industrial (1)
$
215,351
$
229,871
(6.3)
%
Real estate:
Residential
87,795
116,656
(24.7)
Multifamily residential
261,339
206,960
26.3
Owner occupied CRE
627,917
393,978
59.4
Non-owner occupied CRE
760,213
688,600
10.4
Construction and land
8,171
13,371
(38.9)
Total real estate
1,745,435
1,419,565
23.0
Consumer
4,294
5,138
(16.4)
PCI loans
30,144
12,219
146.7
Total Loans
1,995,224
1,666,793
19.7
Net deferred loan fees
(258)
(1,903)
(86.5)
Allowance for loan losses
(18,050)
(17,700)
2.0
Loans, net
$
1,976,916
$
1,647,190
20.0
%
(1) Includes $35.4 million and $69.6 million of PPP loans as of September 30, 2022 and December 31, 2021, respectively.
The following table shows as of September 30, 2022, the geographic distribution of our loan portfolio by type of loan in dollar amounts and percentages:
San Francisco Bay
Total in State of
Area (1)
Other California
California
All Other States (2)
Total
% of
% of
% of
% of
% of
Total in
Total in
Total in
Total in
Total in
Amount
Category
Amount
Category
Amount
Category
Amount
Category
Amount
Category
(Dollars in thousands)
September 30, 2022
Commercial and industrial
$
48,726
7.4
%
$
120,491
13.0
%
$
169,217
10.7
%
$
50,297
12.0
%
$
219,514
11.0
%
Real estate:
Residential
17,781
2.7
27,622
3.0
45,403
2.9
43,499
10.4
88,902
4.5
Multifamily residential
60,072
9.2
138,405
15.0
198,477
12.6
65,724
15.7
264,201
13.2
Owner occupied CRE
232,545
35.5
357,061
38.7
589,606
37.4
55,382
13.3
644,988
32.3
Non-owner occupied CRE
294,660
45.0
269,661
29.2
564,321
35.8
196,773
47.1
761,094
38.1
Construction and land
—
0.0
8,723
0.9
8,723
0.6
3,508
0.8
12,231
0.6
Total real estate
605,058
801,472
1,406,530
364,886
1,771,416
Consumer
390
0.1
%
1,679
0.2
%
2,069
0.1
%
2,225
0.4
%
4,294
0.1
%
Total loans
$
654,174
$
923,642
$
1,577,816
$
417,408
$
1,995,224
December 31, 2021
Commercial and industrial
$
80,457
13.6
%
$
68,586
11.8
%
$
149,043
12.7
%
$
81,134
16.3
%
$
230,177
13.8
%
Real estate:
Residential
23,135
3.9
42,218
7.3
$
65,353
5.6
53,070
10.7
118,423
7.1
Multifamily residential
66,425
11.3
80,328
13.8
146,753
12.5
60,207
12.1
206,960
12.4
Owner occupied CRE
185,046
31.4
143,122
24.6
328,168
28.0
65,810
13.3
393,978
23.6
Non-owner occupied CRE
233,587
39.6
243,358
41.9
476,945
40.8
221,801
44.7
698,746
41.9
Construction and land
889
0.2
1,310
0.2
2,199
0.2
11,172
2.2
13,371
0.8
Total real estate
$
509,082
$
510,336
$
1,019,418
$
412,060
$
1,431,478
Consumer
13
0.0
%
1,703
0.3
%
1,716
0.1
%
3,422
0.7
%
5,138
0.3
%
Total loans
$
589,552
$
580,625
$
1,170,177
$
496,616
$
1,666,793
(1) Includes Alameda, Contra Costa, Solano, Sonoma, Marin, San Francisco, San Joaquin, San Mateo and Santa Clara counties.
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(2) Includes loans located primarily in the states of Colorado, New Mexico and Washington. At September 30, 2022, loans in Colorado, New Mexico and Washington totaled $94.5 million, $53.1 million and $88.4 million, respectively. At December 31, 2021, loans in Colorado, New Mexico and Washington totaled $123.2 million, $69.5 million and $86.6 million, respectively.
Nonperforming assets and nonaccrual loans. Nonperforming assets consists of nonaccrual loans, accruing loans that are 90 days or more past due and other real estate owned (“OREO”). Nonperforming assets increased $12.8 million, or 185.2%, to $19.7 million at September 30, 2022 from $6.9 million at December 31, 2021, primarily due to a $9.5 million increase in nonaccrual loans and $3.3 million increase in accruing loans 90 days and more past due. The increase in nonperforming loans was primarily due to a $5.1 million multi-family real estate loan which was placed on nonaccrual status during the current quarter, a $1.7 million participation interest in a shared national credit, which was restructured as a TDR and placed on non-accrual during the first quarter of 2022 and $3.3 million in accruing SBA guaranteed PPP loans which were 90 days or more past due and in the process of forgiveness at September 30, 2022. At September 30, 2022, the Bank had participation interests in two other shared national credit loans totaling $3.5 million, both of which were performing in accordance with their payment terms as of that date. Subsequent to quarter-end the $1.7 million participation interest in the shared national credit was repaid with no additional charge-offs required.
The Company had nonperforming loans, consisting of nonaccrual loans and accruing loans that are 90 days or more past due, totaling $19.7 million, or 0.99% of total loans, of which $862,000 were guaranteed by governmental agencies at September 30, 2022, compared to $6.9 million or 0.41% of total loans, of which $822,000 were guaranteed by governmental agencies at December 31, 2021. Included in nonperforming loans at September 30, 2022 and December 31, 2021, were $7.2 million and $1.6 million, respectively, of TDR loans.
At September 30, 2022 and December 31, 2021, nonaccrual loans included $19,000 and $113,000 of loans 30-89 days past due and $7.0 million and $2.5 million of loans less than 30 days past due, respectively. At September 30, 2022, the $7.0 million of loans less than 30 days past due was comprised of 20 loans all of which were placed on nonaccrual due to concerns over the financial condition of the borrowers. There were 21 loans totaling $3.3 million in accruing SBA guaranteed PPP loans which matured, are 90 days or more past due, and are in the process of forgiveness at September 30, 2022. There were no other loans that were 90 days or more past due and still accruing at December 31, 2021.
In general, loans are placed on nonaccrual status after being contractually delinquent for more than 90 days, or earlier, if management believes full collection of future principal and interest on a timely basis is unlikely. When a loan is placed on nonaccrual status, all interest accrued but not received is charged against interest income. When the ability to fully collect nonaccrual loan principal is in doubt, cash payments received are applied against the principal balance of the loan until such time as full collection of the remaining recorded balance is expected. Generally, loans with temporarily impaired values and loans to borrowers experiencing financial difficulties are placed on nonaccrual status even though the borrowers continue to repay the loans as scheduled. Such loans are categorized as performing nonaccrual loans and are reflected in nonperforming assets. Interest received on such loans is recognized as interest income when received. A nonaccrual loan is restored to an accrual basis when principal and interest payments are paid current, and full payment of principal and interest is probable. Loans that are well secured and in the process of collection will remain on accrual status .
Purchased loans acquired in a business combination are recorded at estimated fair value on their purchase date, without a carryover of the related allowance for loan and lease losses. These acquired loans are segregated into three types: pass rated loans with no discount attributable to credit quality, non-impaired loans with a discount attributable at least in part to credit quality, and impaired loans with evidence of significant credit deterioration .
● Pass rated loans (typically performing loans) are accounted for in accordance with ASC Topic 310-20 “Nonrefundable Fees and Other Costs” as these loans do not have evidence of credit deterioration since origination.
● Non-impaired loans (typically performing substandard loans) are accounted for in accordance with ASC Topic 310-30 if they display at least some level of credit deterioration since origination.
● Impaired loans (typically substandard loans on nonaccrual status) are accounted for in accordance with ASC Topic 310-30 as they display significant credit deterioration since origination.
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For pass rated loans (non-purchased credit-impaired loans), the difference between the estimated fair value of the loans and the principal outstanding is accreted over the remaining life of the loans.
In accordance with ASC Topic 310-30, for both purchased non-impaired loans (performing substandard loans) and purchased credit-impaired loans, the loans are pooled by loan type and the difference between contractually required payments at acquisition and the cash flows expected to be collected is referred to as the non-accretable difference. Further, any excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable yield and is recognized into interest income over the remaining life of the loan pools when there is a reasonable expectation about the amount and timing of such cash flows .
Troubled debt restructured loans. Troubled debt restructured loans, or TDR loans, which are accounted for under ASC Topic 310-40, are loans which have renegotiated loan terms to assist borrowers who are unable to meet the original terms of their loans. Such modifications to loan terms may include a below market interest rate, a reduction in principal, or a longer term to maturity . TDR loans as of September 30, 2022 totaled $8.0 million, of which $759,000 were accruing and performing according to their restructuring terms. TDR loans as of December 31, 2021 totaled $3.9 million, of which $765,000 were accruing and performing according to their restructuring terms. The accruing TDR loans are not considered nonperforming assets as they continue to accrue interest despite being considered impaired due to the restructured status. The related allowance for loan losses on TDR loans totaled $282,000 and $259,000 at September 30, 2022 and December 31, 2021, respectively.
The following table sets forth the nonperforming loans, nonperforming assets and TDR loans as of the dates indicated:
September 30,
December 31,
2022
2021
(Dollars in thousands)
Loans accounted for on a nonaccrual basis:
Commercial and industrial
$
2,620
$
753
Real estate:
Residential
2,126
1,587
Multifamily residential
5,354
200
Owner occupied CRE
5,895
3,990
Non-owner occupied CRE
374
322
Construction and land
—
36
Total real estate
13,749
6,135
Consumer
—
—
Total nonaccrual loans
16,369
6,888
Accruing loans 90 days or more past due
3,315
—
Total nonperforming loans (1)
19,684
6,888
Real estate owned
21
21
Total nonperforming assets (2)
$
19,705
$
6,909
Troubled debt restructurings – performing
759
805
PCI loans
$
30,144
$
12,219
Nonperforming assets to total assets (2)
0.78
%
0.29
%
Nonperforming loans to total loans (2)
0.99
%
0.41
%
(1)
Includes $7.2 million and $1.6 million of nonaccrual TDR loans at September 30, 2022 and December 31, 2021, respectively. Excludes the performing (accruing) TDR loans which are set forth separately in the table.
(2) PCI and performing TDR loans are neither included in nonperforming loans above nor are they included in the numerators used to calculate this ratio.
Loans under ASC Topic 310-30 are considered performing and are not included in nonperforming assets in the table above. At September 30, 2022 and December 31, 2021 we had no credit impaired loans under ASC Topic 310-30 that were 90 days past due and still accruing.
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Interest foregone on nonaccrual loans was approximately $230,000 and $388,000 for the three and nine months ended September 30, 2022 and $61,000 and $157,500 for the three and nine months ended September 30, 2021, respectively, none of which was included in interest income.
Allowance for loan losses. The allowance for loan losses is maintained to cover losses that are estimated in accordance with GAAP. It is our estimate of loan losses inherent in our loan portfolio at each balance sheet date. Our methodology for analyzing the allowance for loan losses consists of general and specific components. For the general component, we stratify the loan portfolio into homogeneous groups of loans that possess similar loss potential characteristics and apply a loss ratio to these groups of loans to estimate the credit losses in the loan portfolio. We use both historical loss ratios and qualitative loss factors assigned to major loan collateral types to establish general component loss allocations. Qualitative loss factors are based on management’s judgment of company, market, industry or business specific data and external economic indicators, which may not yet be reflected in the historical loss ratios, and that could impact our specific loan portfolios. Management and the Board of Directors sets and adjusts qualitative loss factors by regularly reviewing changes in underlying loan composition and the seasonality of specific portfolios. Management and the Board of Directors also considers credit quality and trends relating to delinquency, nonperforming and classified loans within our loan portfolio when evaluating qualitative loss factors. Additionally, management and the Board of Directors adjusts qualitative factors to account for the potential impact of external economic factors, including the unemployment rate, vacancy, capitalization rates, commodity prices and other pertinent economic data specific to our primary market area and lending portfolios.
For the specific component, the allowance for loan losses is established for impaired loans. Management evaluates current information and events regarding a borrower’s ability to repay its obligations and considers a loan to be impaired when the ultimate collectability of amounts due, according to the contractual terms of the loan agreement, is in doubt. If an impaired loan is collateral-dependent, the fair value of the collateral, less the estimated cost to sell, is used to determine the amount of impairment. If an impaired loan is not collateral-dependent, the impairment amount is determined using the negative difference, if any, between the estimated discounted cash flows and the loan amount due. For impaired loans, the amount of the impairment can be adjusted, based on current data, until such time as the actual basis is established by acquisition of the collateral or until the basis is collected. Impairment losses are reflected in the allowance for loan losses through a charge to the provision for credit losses. Subsequent recoveries are credited to the allowance for loan losses. Cash receipts for accruing loans are applied to principal and interest under the contractual terms of the loan agreement. Cash receipts on impaired loans for which the accrual of interest has been discontinued are applied first to principal.
At September 30, 2022, the Company’s allowance for loan losses was $18.1 million, or 0.90% of total loans, compared to $17.7 million, or 1.06% of total loans, at December 31, 2021. The decline in the allowance for loan losses as a percentage of total loans outstanding at September 30, 2022, as compared to December 31, 2021, was mostly due to the Company’s acquisition of PEB and related acquisition accounting on those loans, as the acquired loans were recorded at their estimate fair value at acquisition and no allowance for loan losses is recorded for acquired loans. Based on our review of the appropriateness of the allowance for loan losses at September 30, 2022, the Company recorded a provision for loan losses of $3.8 million for the nine months ended September 30, 2022, compared to $30,000 reversal of provision for the nine months ended September 30, 2021. The provision for loan losses for the nine months ended September 30, 2022 primarily was due to $3.5 million in net charge-offs during the nine months ended September 30, 2022, coupled with new loan production and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate loan losses. We recorded net charge-offs of $944,000 and $3.5 million for the three and nine months ended September 30, 2022, respectively, compared to $177,000 and $170,000 net charge-off for the three months and nine months ended September 30, 2021, respectively.
The Company, based on information received from the lead lender during the current quarter with respect to the expected sale price of collateral securing a $4.5 million participation interest in the national shared credit discussed above, charged off $3.2 million which accounted for the bulk of the charge-offs during the nine months ended September 30, 2022. Subsequent to quarter-end the collateral was sold and the Company received final settlement from the lead lender, with no additional charge-offs required by the Company.
The calculation of the allowance for loan losses at September 30, 2022 and December 31, 2021 excludes the balance of PPP loans held in portfolio as of those dates as PPP loans are fully guaranteed by the SBA and management
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expects that the great majority of PPP borrowers will seek full or partial forgiveness of their loan obligations from the SBA within a short time frame, which in turn will reimburse the Bank for the amount forgiven .
In accordance with acquisition accounting, loans acquired from acquisitions were recorded at their estimated fair value, which resulted in a net discount to the loans contractual amounts. Credit discounts are included in the determination of fair value and as a result, no allowance for loan losses is recorded for acquired loans at the acquisition date. However, the allowance for loan loss includes an estimate for credit deterioration of acquired loans that occurs after the date of acquisition, which is included in the loan loss provision in the period that the deterioration occurred. The discount recorded on the acquired loans is not reflected in the allowance for loan losses or related allowance coverage ratios. As of September 30, 2022 , acquired loans net of their discount, totaled $229.4 million and the remaining net discount on these acquired loans was $480,000, compared to $51.3 million of acquired loans and $2.1 million of net discounts at December 31 , 2021 . The net discount includes a credit discount based on estimated losses in the acquired loans partially offset a premium, if any, based market interest rates on the date of acquisition. The decrease in the net discount on acquired loans from December 31, 2021 was due to a net premium on the PEB loans given the higher yielding portfolio compared to current market interest rates.
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The following table shows certain credit ratios at and for the periods indicated and each component of the ratio’s calculations:
Nine months ended September 30,
2022
2021
(Dollars in thousands)
Allowance for loan losses as a percentage of total loans outstanding at period end
0.90
%
1.05
%
Allowance for loan losses
$
18,050
$
17,300
Total loans outstanding
1,994,966
1,640,836
Non-accrual loans as a percentage of total loans outstanding at period end
0.82
%
0.44
%
Total non-accrual loans
$
16,369
$
7,292
Total loans outstanding
1,994,966
1,640,836
Allowance for loan losses as a percentage of non-accrual loans at period end
110.27
%
237.25
%
Allowance for loan losses
$
18,050
$
17,300
Total non-accrual loans
16,369
7,292
Net charge-offs/(recoveries) during period to average loans outstanding:
Commercial and industrial:
1.21
%
0.05
%
Net charge-offs
$
3,461
$
173
Average loans outstanding
285,935
318,409
Construction and land:
—
%
(0.02)
%
Net recoveries
$
—
$
(4)
Average loans outstanding
18,206
18,283
Commercial estate:
—
%
—
%
Net charge-offs
$
1
$
1
Average loans outstanding
1,577,751
1,138,864
Residential:
0.01
%
—
%
Net charge-offs
$
6
$
—
Average loans outstanding
89,228
141,540
Consumer:
0.29
%
—
%
Net charge-offs
$
6
$
—
Average loans outstanding
2,085
3,531
Total loans:
0.18
%
0.01
%
Total net charge-offs
$
3,474
$
170
Total average loans outstanding
1,973,205
1,620,627
As of September 30, 2022, the Company identified $20.5 million in impaired loans, inclusive of $19.7 million of nonperforming loans and $759,000 of performing (accruing) TDR loans. Of these impaired loans, only $1.2 million had a specific allowance of $998,000 as of September 30, 2022. As of December 31, 2021, the Company identified $7.7 million in impaired loans, inclusive of $6.9 million of nonperforming loans and $765,000 of performing (accruing) TDR loans. Of these impaired loans, only $1.1 million had a specific allowance of $931,000 as of December 31, 2021.
Management considers the allowance for loan losses at September 30, 2022 to be adequate to cover losses inherent in the loan portfolio based on the assessment of the above-mentioned factors affecting the loan portfolio. While management believes the estimates and assumptions used in its determination of the adequacy of the allowance are reasonable, there can be no assurance that such estimates and assumptions will not be proven incorrect in the future, or that the actual amount of future losses will not exceed the amount of the established allowance for loan losses or that any increased allowance for loan losses that may be required will not adversely impact our financial condition and results of operations. A further decline in national and local economic conditions as a result the effects of inflation, a potential recession or slowed economic growth, and any governmental or societal responses to the COVID- 19 pandemic, among other factors, could result in a material increase in the allowance for loan losses and may adversely affect the Company’s financial condition and results of operations. In addition, the determination of the amount of our allowance for loan losses is subject to review by bank regulators, as part of the routine examination process, which may result in additions to our provision for loan losses based upon their judgment of information available to them at the time of their examination.
Deposits. Deposits are our primary source of funding and consist of core deposits from the communities served by our branch and office locations. We offer a variety of deposit accounts with a competitive range of interest rates and
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terms to both consumers and businesses. Deposits include interest bearing and noninterest bearing demand accounts, savings, money market, certificates of deposit and individual retirement accounts. These accounts earn interest at rates established by management based on competitive market factors, management’s desire to increase certain product types or maturities, and in keeping with our asset/liability, liquidity and profitability objectives. Competitive products, competitive pricing and high touch client service are important to attracting and retaining these deposits.
Total deposits increased $130.2 million, or 6.6%, to $2.1 billion at September 30, 2022 from $2.0 billion at December 31, 2021. The increase in deposits was primarily attributable to the $376.7 million of deposits acquired in the PEB Merger. At September 30, 2022, noninterest bearing demand deposits totaled $813.5 million or 38.5% of total deposits, compared to $710.1 million or 35.8% of total deposits at December 31, 2021.
The following table sets forth the dollar amount of deposits in the various types of deposit programs offer at the dates indicated.
September 30,
December 31,
2022
2021
% Change
(Dollars in thousands)
Noninterest bearing demand deposits
$
813,510
$
710,137
14.6
%
NOW accounts and savings
463,039
484,847
(4.5)
Money market
614,414
568,094
8.2
Time deposits
224,488
222,161
1.0
Total
$
2,115,451
$
1,985,239
6.6
%
Borrowings. Although deposits are our primary source of funds, we may from time to time utilize borrowings as a cost effective source of funds when they can be invested at a positive interest rate spread, for additional capacity to fund loan demand, or to meet our asset/liability management goals. We are a member of and may obtain advances from the FHLB of San Francisco, which is part of the Federal Home Loan Bank System. The eleven regional Federal Home Loan Banks provide a central credit facility for their member institutions. These advances are provided upon the security of certain of our mortgage loans and mortgage-backed securities. These advances may be made pursuant to several different credit programs, each of which has its own interest rate, range of maturities and call features.
At September 30, 2022 and December 31, 2021, we had the ability to borrow up to $484.6 million and $483.1 million, respectively, from the FHLB of San Francisco. In addition to the availability of liquidity from the FHLB of San Francisco, the Bank maintained a short-term borrowing line of credit with the FRB of San Francisco, with available credit capacity of $35.4 million and $135.6 million as of September 30, 2022 and December 31, 2021, respectively, based on loans that qualify as collateral for the FRB line of credit. At both September 30, 2022 and December 31, 2021, there were no FHLB advances or FRB borrowings outstanding.
We may also utilize Fed Funds purchased from correspondent banks as a source of short-term funding. At both September 30, 2022 and December 31, 2021, we had a total of $65.0 million in federal funds line available from third-party financial institutions and no balances outstanding at these dates.
At both September 30, 2022 and December 31, 2021, the Company had outstanding junior subordinated debt, net of market-to-market, related to junior subordinated deferrable interest debentures assumed in connection with its previous acquisitions totaling $8.5 million and $8.4 million, respectively.
At September 30, 2022, the Company had outstanding subordinated debt, net of costs to issue, totaling $63.7 million compared to $63.5 million at December 31, 2021.
We are required to provide collateral for certain local agency deposits. At both September 30, 2022 and December 31, 2021, the FHLB of San Francisco had issued a letters of credit on behalf of the Bank totaling $42.0 million as collateral for local agency deposits.
Shareholders’ equity. Shareholders’ equity increased $51.8 million, to $314.4 million at September 30, 2022 from $262.6 million at December 31, 2021. The increase in shareholders’ equity primarily was due to issuance of stock
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related to our acquisition of PEB and net income, partially offset by the repurchase of $13.5 million of common stock and $2.0 million of cash dividends. In addition, shareholder’s equity was adversely impacted by increasing unrealized losses on available for sale securities reflecting the increase in market interest rates during the year, resulting in a $16.5 million increase in accumulated other comprehensive loss, net of tax from December 31, 2021. During the nine months ended September 30, 2022, the Company repurchased a total of 668,755 shares of its common stock at a total cost of $13.5 million, or $19.15 per share, leaving 73,777 shares available for future purchases under the current stock repurchase plan. For additional information see Part II, Item 2, “Unregistered Sales of Equity Securities and Use of Proceeds”.
Comparison of Results of Operations for the Three and Nine Months Ended September 30, 2022 and 2021
Earnings summary. Net income was $7.2 million for the three months ended September 30, 2022, compared to $5.4 million for the three months ended September 30, 2021, an increase of $1.8 million or 33.6%. The increase was the result of a $7.0 million increase in net interest income, partially offset by a $717,000 increase in provision for loan losses, a $1.3 million decrease in noninterest income, a $2.2 million increase in noninterest expense and a $970,000 increase in provision for income taxes. Diluted earnings per share were $0.54 for the three months ended September 30, 2022, compared to diluted earnings per share of $0.51 for the three months ended September 30, 2021.
Net income was $18.9 million for the nine months ended September 30, 2022, compared to $15.3 million for the nine months ended September 30, 2021, an increase of $3.7 million, or 24.1%, primarily as a result of a $16.6 million increase in net interest income and $466,000 increase in noninterest income, partially offset by a $3.9 million increase in provision for loan losses, a $8.3 million increase in noninterest expense and a $1.3 million increase in provision for income taxes. Diluted earnings per share were $1.44 for the nine months ended September 30, 2022, compared to diluted earnings per share of $1.39 for the nine months ended September 30, 2021.
Our efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income before provision for loan losses and noninterest income, was 58.60% and 62.49% for the three and nine months ended September 30, 2022, compared to 63.82% and 66.40% for the three and nine months ended September 30, 2021. The improvement in the efficiency ratio during the three and nine months ended September 30, 2022 compared to the same period in 2021 was due to higher revenues.
Interest income. Interest income for the three months ended September 30, 2022 was $27.1 million, compared to $20.0 million for the three months ended September 30, 2021, an increase of $7.2 million or 35.9%. The increase in interest income between the periods reflects increases in interest income on loans and, to a lesser extent, investment securities available-for-sale due to increases in the average balances of and yields earned on these portfolios, partially offset by lower recognition of deferred loan fee income from SBA loan forgiveness related to PPP loans.
Interest income on loans, including fees, increased $5.6 million, or 30.1%, to $24.0 million for the three months ended September 30, 2022, compared to $18.5 million for the three months ended September 30, 2021, primarily due to a $388.8 million increase in average loan balance and a 23 basis point increase in the average yield. The average yield on loans, including the accretion of the net discount and deferred PPP loan fees recognized for the three months ended September 30, 2022 was 4.73%, compared to 4.50% for the same period in 2021. Interest income on loans for three months ended September 30, 2022 and 2021 included $63,000 and $338,000, respectively, in accretion of the net discount on acquired loans and revenue from purchase credit impaired loans in excess of discounts. The remaining net discount on these acquired loans was $480,000 and $2.3 million at September 30, 2022 and September 30, 2021, respectively. Interest income on loans for three months ended September 30, 2022 and 2021 included $161,000 and $1.1 million, respectively, in fees earned related to PPP loans. As of September 30, 2022, total unrecognized fees on PPP loans were $227,000. Interest income on loans for the three months ended September 30, 2022 and 2021, included $195,000 and $57,000, respectively, in fees related to prepayment penalties.
For the three months ended September 30, 2022, average PPP loans were $50.1 million and the average yield, including fees, was 2.28%. The impact of PPP loans on loan yields will change during any period based on the volume of prepayments or amounts forgiven by the SBA as certain criteria are met, but will cease completely after the maturity of the loans. Approximately two-thirds of the PPP loans are set to mature by the end of 2022, while the remaining loans have a five-year maturity date.
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Interest income on investment securities available-for-sale increased $478,000, or 44.3%, to $1.6 million during the three months ended September 30, 2022, compared to $1.1 million for the three months ended September 30, 2021, primarily due to higher average yields earned on investment securities available-for-sale and by a $53.0 million increase in the average balance of investment securities available-for-sale. The average yield on investment securities available-for-sale increased 12 basis point to 3.27% for the three months ended September 30, 2022 compared to 3.15% for the three months ended September 30, 2021.
Interest income on federal funds sold and interest-bearing balances in banks increased $1.1 million, or 550.2%, to $1.3 million during the three months ended September 30, 2022, compared to $198,000 for the three months ended September 30, 2021, primarily due to higher average yields earned on federal funds sold and interest-bearing balances in banks, partially offset by a $206.8 million decrease in the average balance of federal funds sold and interest-bearing balances in banks. The average yield on federal funds sold and interest-bearing balances in banks increased 200 basis point to 2.18% for the three months ended September 30, 2022 compared to 0.18% for the three months ended September 30, 2021.
Interest income for the nine months ended September 30, 2022 was $77.6 million, compared to $60.2 million for the nine months ended September 30, 2021, an increase of $17.3 million or 28.8%. The increase in interest income between the periods reflects increases in interest income on loans and, to a lesser extent, investment securities available-for-sale and federal funds sold and interest bearing balances in banks due to increases in the average balance of and yields earned on loans and investment securities available-for-sale, as well as an increase in the yield earned on federal funds sold and interest bearing balances in banks, partially offset by lower recognition of deferred loan fee income from SBA loan forgiveness related to PPP loans.
Interest income on loans, including fees, increased $13.6 million, or 24.1%, as a result of a $356.2 million increase in the average loan balance and a seven basis point increase in the average loan yield. The average yield on loans, including the accretion of the net discount and deferred PPP loan fees recognized for the nine months ended September 30, 2022 was 4.74%, compared to 4.67% for the nine months ended September 30, 2021. Interest income on loans for the nine ended September 30, 2022 and 2021 included $1.5 million and $1.4 million, respectively, in accretion of the net discount on acquired loans and revenue from purchase credit impaired loans in excess of discounts. Interest income for the nine months ended September 30, 2022 included $1.7 million in fees earned related to PPP loans compared to $2.1 million during the same period in 2021. Interest income on loans for the nine months ended September 30, 2022 and 2021, included $916,000 and $771,000, respectively, in fees related to prepayment penalties.
Interest income on investment securities available-for-sale increased $1.8 million, or 65.2%, to $4.5 million during the nine months ended September 30, 2022, compared to $2.7 million for the nine months ended September 30, 2021, primarily due a $66.1 million increase in the average balance of investment securities available-for-sale, as well as a higher average yields earned on investment securities available-for-sale. The average yield on investment securities available-for-sale increased 20 basis point to 3.21% for the nine months ended September 30, 2022 compared to 3.01% for the nine months ended September 30, 2021.
Interest income on federal funds sold and interest-bearing balances in banks increased $1.8 million, or 380.7%, to $2.3 million during the nine months ended September 30, 2022, compared to $479,000 for the nine months ended September 30, 2021, primarily due to higher average yields earned on federal funds sold and interest-bearing balances in banks, partially offset by a $74.2 million decrease in the average balance of federal funds sold and interest-bearing balances in banks. The average yield on interest-bearing deposits in banks increased 75 basis point to 0.91% for the nine months ended September 30, 2022 compared to 0.16% for the nine months ended September 30, 2021.
Interest expense. Interest expense increased $191,000, or 8.6%, to $2.4 million for the three months ended September 30, 2022 compared to $2.2 million for the three months ended September 30, 2021. The increase was due to the $98.1 million increase in the average balance of deposits primarily related to the PEB Merger. Total average interest bearing liabilities increased $98.4 million, or 7.32%, to $1.4 billion for the three months ended September 30, 2022, compared to $1.3 billion for the three months ended September 30, 2021. The average rate paid on interest bearing liabilities for both three months ended September 30, 2022, and 2021 was 0.66%.
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Interest expense on deposits increased $147,000, or 11.9%, to $1.4 million for the three months ended September 30, 2022 compared to $1.2 million for the three months ended September 30, 2021. The increase primarily was due to a $98.1 million increase in the average balance of deposits, with average balances increasing in all interest bearing deposit categories. The average balance of deposits totaled $1.4 billion for the three months ended September 30, 2022, compared to $1.3 billion for the same quarter a year ago, respectively. The average rate paid on interest bearing deposits decreased by one basis point to 0.40% for the three months ended September 30, 2022, compared to 0.39% for the three months ended September 30, 2021. The overall average cost of deposits for both the three months ended September 30, 2022 and 2021 was 0.25%. The average balance of noninterest bearing deposits increased $67.2 million, or 9.2%, to $801.9 million for the three months ended September 30, 2022 compared to $734.6 million for the same period in 2021.
Interest expense on borrowings increased $43,000 or 2.0%, to $1.0 million for the three months ended September 30, 2022, compared to $981,000 for the three months ended September 30, 2021. The average balance of borrowings outstanding increased $252,000 to $72.1 million during the three months ended September 30, 2022, compared to $71.8 million during the three months ended September 30, 2021. The average cost of borrowings increased to 5.64% for the three months ended September 30, 2022, compared to 5.42% for the three months ended September 30, 2021.
Interest expense increased $695,000, or 10.5%, to $7.3 million for the nine months ended September 30, 2022 compared to $6.6 million for the nine months ended September 30, 2021. The increase primarily was due to a $225.6 million increase in the average balance of interest bearing deposits. Total average interest bearing liabilities increased $223.5 million, or 17.2%, to $1.5 billion for the nine months ended September 30, 2022, compared to $1.3 billion for the nine months ended September 30, 2021. The average rate paid on interest bearing liabilities decreased by four basis points to 0.64% for the nine months ended September 30, 2022, compared to 0.68% for the nine months ended September 30, 2021.
Interest expense on deposits increased $636,000, or 17.3%, to $4.3 million for the nine months ended September 30, 2022 compared to $3.7 million for the nine months ended September 30, 2021. The increase primarily was due to a $132.3 million increase in the average balance of and a six basis point increase in the cost of money market accounts. The average balance of interest bearing deposits increased $225.6 million, with the average balance increasing in all interest bearing deposit categories. The average rate paid on interest bearing deposits remained unchanged at 0.40% for both the nine months ended September 30, 2022 and September 30, 2021, primarily reflecting a 21 basis point decline in the average rate paid on time deposits to 0.75% during the nine months ended September 30, 2022 compared to 0.96% during the nine months ended September 30, 2021 offset by the increase in the rate paid on money market accounts. The average balance of noninterest bearing deposits increased $62.3 million, or 8.6%, to $783.3 million for the nine months ended September 30, 2022 compared to $721.0 million for the same period in 2021.
Interest expense on borrowings was $3.0 million for both the nine months ended September 30, 2022 and 2021. The average balance of borrowings outstanding decreased $2.1 million to $72.0 million for the nine months ended September 30, 2022, compared to $74.1 million for the nine months ended September 30, 2021. The average cost of borrowings increased to 5.58% for the nine months ended September 30, 2022, compared to 5.32% for the nine months ended September 30, 2021.
Net interest income and net interest margin. Net interest income increased $7.0 million, or 39.4%, to $24.7 million for the three months ended September 30, 2022, compared to $17.7 million for the three months ended September 30, 2021 and increased $16.6 million, or 31.0%, to $70.2 million for the nine months ended September 30, 2022, compared to $53.6 million for the nine months ended September 30, 2021. The increase in net interest income primarily was due to increases in interest income on loans and, to a lesser extent, investment securities available-for-sale due to increases in the average balances of these portfolios, partially offset by lower recognition of deferred loan fee income from SBA loan forgiveness related to PPP loans.
The average yield on interest earning assets for the three months ended September 30, 2022 was 4.38%, an 81 basis point increase from 3.57% for the three months ended September 30, 2021, primarily due to higher market interest rates, while the average cost of interest bearing liabilities was 0.66% for both the three months ended September 30, 2022 and 2021. The average yield on interest earning assets for the nine months ended September 30, 2022 was 4.12%, a 40 basis point increase from 3.72% for the nine months ended September 30, 2021, primarily due to higher market
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interest rates, while the average cost of interest bearing liabilities for the nine months ended September 30, 2022 decreased to 0.64%, or three four points, from 0.68% for the nine months ended September 30, 2021.
The annualized net interest margin for the three and nine months ended September 30, 2022 was 3.99% and 3.73%, compared to 3.17% and 3.31% for three and nine months ended September 30, 2021, respectively. The comparable period over period increases in net interest margin primarily reflect an improved mix of interest-earning assets, including increased balances of higher yielding loans and investment securities available for sale. During these periods, the recognition of deferred loan fees related to PPP loans and accretion on acquired loans, also had a positive impact on the net interest margin. PPP loans are originated at an interest rate of 1%, although the effective yield is higher as a result of the origination fees paid to us by the SBA. The average yield on PPP loans for the three and nine months ended September 30, 2022 was 2.28% and 3.93%, including the recognition of deferred fees, resulting in a positive impact to the net interest margin of three basis points and 10 basis points during the three and nine months ended September 30, 2022, respectively, compared to 4.52% with a positive impact of 20 basis points and 4.90% with 21 basis points during the comparable periods in 2021, respectively. The impact of PPP loans on net interest margin will change during any period based on the volume of prepayments or amounts forgiven by the SBA as certain criteria are net, but will cease completely after the maturity of the loans. Accretion of acquisition accounting discounts on loans and the recognition of revenue from acquired loans in excess of discounts increased our net interest margin by one and eight basis points during the three and nine months ended September 30, 2022 and 12 and 19 basis points during the three and nine months ended September 30, 2021, respectively.
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Average Balances, Interest and Average Yields/Cost. The following table presents, for the periods indicated, information about (i) average balances, the total dollar amount of interest income from interest earning assets and the resultant average yields; (ii) average balances, the total dollar amount of interest expense on interest bearing liabilities and the resultant average yields; (iii) net interest income; (iv) the interest rate spread; and (v) the net interest margin. Nonaccruing loans have been included in the table as loans carrying a zero yield. Yields have been calculated on a pre-tax basis. Loan yields include the effect of amortization or accretion of deferred loan fees/costs and purchase accounting premiums/discounts to interest and fees on loans.
Three months ended September 30,
2022
2021
Annualized
Annualized
Average
Average
Average
Average
Balance(1)
Interest
Yield/Cost
Balance(1)
Interest
Yield/Cost
(Dollars in thousands)
Interest earning assets
Federal funds sold and interest bearing balances in banks
$
234,627
$
1,287
2.18
%
$
441,440
$
198
0.18
%
Investments securities available-for-sale
188,739
1,555
3.27
%
135,721
1,077
3.15
%
FHLB Stock
10,679
160
5.93
%
8,385
125
5.93
%
FRB Stock
9,592
125
5.19
%
7,634
112
5.84
%
Total loans
2,015,790
24,010
4.73
%
1,626,946
18,451
4.50
%
Total interest earning assets
2,459,427
27,137
4.38
%
2,220,126
19,963
3.57
%
Noninterest earning assets
135,399
142,666
Total average assets
$
2,594,826
$
2,362,792
Interest bearing liabilities
Savings
$
126,923
44
0.14
%
$
121,928
41
0.13
%
NOW accounts
335,037
80
0.10
%
329,518
75
0.09
%
Money market
645,340
750
0.46
%
592,229
601
0.40
%
Time deposits
262,234
513
0.78
%
227,731
523
0.91
%
Total interest bearing deposit accounts
1,369,534
1,387
0.40
%
1,271,406
1,240
0.39
%
Subordinated debt, net
63,644
896
5.58
%
63,473
895
5.59
%
Junior subordinated debentures, net
8,452
129
6.08
%
8,371
86
4.06
%
Total interest bearing liabilities
1,441,630
2,412
0.66
%
1,343,250
2,221
0.66
%
Noninterest bearing deposits
801,871
734,641
Other noninterest bearing liabilities
28,941
28,499
Noninterest bearing liabilities
830,812
763,140
Total average liabilities
2,272,442
2,106,390
Average equity
322,384
256,402
Total average liabilities and equity
$
2,594,826
$
2,362,792
Net interest income
$
24,725
$
17,742
Interest rate spread (2)
3.72
%
2.91
%
Net interest margin (3)
3.99
%
3.17
%
Ratio of average interest earning assets to average interest bearing liabilities
170.60
%
165.28
%
(1) Average balances are computed using average daily balances.
(2) Interest rate spread is calculated as the average rate earned on interest earning assets minus the average rate paid on interest bearing liabilities.
(3) Net interest margin is calculated as net interest income divided by total average interest earning assets.
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Nine months ended September 30,
2022
2021
Annualized
Annualized
Average
Average
Average
Average
Balance (1)
Interest
Yield/Cost
Balance(1)
Interest
Yield/Cost
(Dollars in thousands)
Interest earning assets
Federal funds sold and interest bearing balances in banks
$
337,565
$
2,303
0.91
%
$
411,811
$
479
0.16
%
Investments securities available-for-sale
186,799
4,483
3.21
%
120,734
2,714
3.01
%
FHLB Stock
10,418
467
5.99
%
8,136
346
5.69
%
FRB Stock
8,998
387
5.75
%
7,624
341
5.98
%
Total loans
1,970,850
69,921
4.74
%
1,614,608
56,348
4.67
%
Total interest earning assets
2,514,630
77,561
4.12
%
2,162,913
60,228
3.72
%
Noninterest earning assets
140,575
141,084
Total average assets
$
2,655,205
$
2,303,997
Interest bearing liabilities
Savings
$
125,829
130
0.14
%
$
118,326
123
0.14
%
NOW accounts
346,230
246
0.09
%
313,775
211
0.09
%
Money market
694,599
2,321
0.45
%
562,263
1,660
0.39
%
Time deposits
286,500
1,613
0.75
%
233,208
1,680
0.96
%
Total deposit accounts
1,453,158
4,310
0.40
%
1,227,572
3,674
0.40
%
Subordinated debt, net
63,601
2,687
5.65
%
63,431
2,686
5.66
%
Junior subordinated debentures, net
8,431
319
5.06
%
8,351
261
4.17
%
Other borrowings
—
—
—
%
2,308
—
—
%
Total interest bearing liabilities
1,525,190
7,316
0.64
%
1,301,662
6,621
0.68
%
Noninterest bearing deposits
783,293
720,999
Other noninterest bearing liabilities
29,158
26,290
Noninterest bearing liabilities
812,451
747,289
Total average liabilities
2,337,641
2,048,951
Average equity
317,564
255,046
Total average liabilities and equity
$
2,655,205
$
2,303,997
Net interest income
$
70,245
$
53,607
Interest rate spread (2)
3.48
%
3.04
%
Net interest margin (3)
3.73
%
3.31
%
Ratio of average interest earning assets to average interest bearing liabilities
164.87
%
166.17
%
(1) Average balances are computed using average daily balances.
(2) Interest rate spread is calculated as the average rate earned on interest earning assets minus the average rate paid on interest bearing liabilities.
(3) Net interest margin is calculated as net interest income divided by total average interest earning assets.
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Rate/Volume Analysis. Increases and decreases in interest income and interest expense result from changes in average balances (volume) of interest earning assets and interest bearing liabilities, as well as changes in weighted average interest rates. The following table sets forth the effects of changing rates and volumes on our net interest income during the periods shown. Information is provided with respect to (i) effects on interest income attributable to changes in volume (changes in volume multiplied by prior rate) and (ii) effects on interest income attributable to changes in rate (changes in rate multiplied by prior volume). Changes applicable to both volume and rate have been allocated to volume.
Three months ended September 30,
Nine months ended September 30,
2022 compared to 2021
2022 compared to 2021
Increase/(Decrease)
Increase/(Decrease)
Attributable to
Attributable to
Rate
Volume
Total
Rate
Volume
Total
(Dollars in thousands)
(Dollars in thousands)
Interest earning assets
Federal funds sold and interest bearing balances in banks
$
1,181
$
(92)
$
1,089
$
1,937
$
(113)
$
1,824
Investments available-for-sale
62
416
478
744
1,025
1,769
FHLB stock and FRB stock
(14)
62
48
21
146
167
Total loans
1,198
4,361
5,559
1,618
11,955
13,573
Total interest income
2,427
4,747
7,174
4,320
13,013
17,333
Interest bearing liabilities
Savings
1
2
3
3
4
7
NOW accounts
4
1
5
24
11
35
Money market accounts
96
53
149
373
288
661
Time deposits
(88)
78
(10)
(502)
435
(67)
Total deposit accounts
13
134
147
(102)
738
636
Subordinated debt, net
1
—
1
1
—
1
Junior subordinated debentures, net
42
1
43
58
—
58
Total interest expense
56
135
191
(43)
738
695
Net interest income
$
2,371
$
4,612
$
6,983
$
4,363
$
12,275
$
16,638
Provision for loan losses. We recorded a $1.2 million and $3.8 million provision for loan losses for the three and nine months ended September 30, 2022, respectively, compared to a $477,000 provision for loan losses and $30,000 reversal of the provision for loan losses for the three and nine months ended September 30, 2021, respectively. We had net charge-offs on loans of $944,000 and $3.5 million for the three and nine months ended September 30, 2022, compared to $177,000 and $170,000 net charge-offs on loans for the three and nine months ended September 30, 2021, respectively. The provision for loan losses in the third quarter of 2022 was primarily due to $944,000 in net charge-offs during the current quarter, coupled with new loan production and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate loan losses. The Company, based on information received from the lead lender during the current quarter with respect to the expected sale price of collateral securing a $4.5 million participation interest in a national shared credit, charged off $750,000, which was in addition to the $2.4 million charged off on this same national shared credit in the prior quarter. Subsequent to quarter-end the collateral was sold and the Company received final settlement from the lead lender, with no additional charge-offs required.
Noninterest income. Noninterest income decreased $1.3 million, or 31.5%, to $2.7 million for the three months ended September 30, 2022 compared to $4.0 million for the three months ended September 30, 2021. The decrease in noninterest income primarily was due to a $898,000 decrease in gain on sale of loans due to a decrease in the volume and premiums on SBA loans (guaranteed portion) sold and a $589,000 decrease in income from our investment in a Small Business Investment Company (“SBIC”) fund. During the three months ended September 30, 2022, the Company sold $18.3 million of SBA loans (guaranteed portion), resulting in a gain on sale of $1.3 million, compared to the sale of $20.3 million of SBA loans (guaranteed portion) resulting in a gain on sale of $2.2 million during the three months ended September 30, 2021. Partially offsetting these decreases in noninterest income was a $206,000 increase in service charges and other loan fees.
Noninterest income increased $466,000, or 5.4%, to $9.2 million for the nine months ended September 30, 2022 compared to $8.7 million for the nine months ended September 30, 2021. The increase in noninterest income primarily
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was due to the $1.6 million bargain purchase gain related to the PEB Merger, as well as increases of $346,000 in service charges and other fees, $247,000 in loan servicing and other loan fees and $65,000 in other income and fees. These increases were partially offset by a $991,000 decrease in gain on sale of loans due to a decrease in the volume of loans sold and decrease in premiums realized and a $866,000 decrease in income from our investment in a SBIC fund. During the nine months ended September 30, 2022, the Company sold $33.4 million of SBA loans (guaranteed portion), resulting in a gain on sale of $2.7 million, compared to the sale of $36.0 million of SBA loans (guaranteed portion) resulting in a gain on sale of $3.8 million during the nine months ended September 30, 2021.
The following table presents the key components of noninterest income for the periods indicated:
Three months ended September 30,
2022
2021
$ Change
% Change
(Dollars in thousands)
Gain on sale of loans
$
1,278
$
2,176
$
(898)
(41.3)
%
Service charges and other fees
817
611
206
33.7
%
Loan servicing and other loan fees
488
458
30
6.6
%
(Loss) income on investment in SBIC fund
(63)
526
(589)
112.0
%
Other income and fees
224
236
(12)
(5.1)
%
Total noninterest income
$
2,744
$
4,007
$
(1,263)
(31.5)
%
Nine months ended September 30,
2022
2021
$ Change
% Change
(Dollars in thousands)
Gain on sale of loans
$
2,714
$
3,705
$
(991)
(26.7)
%
Service charges and other fees
2,165
1,819
346
19.0
%
Loan servicing and other loan fees
1,670
1,423
247
17.4
%
Income on investment in SBIC fund
155
1,021
(866)
(84.8)
%
Bargain purchase gain
1,665
—
1,665
100.0
%
Other income and fees
796
731
65
8.9
%
Total noninterest income
$
9,165
$
8,699
$
466
5.4
%
Noninterest expense. Noninterest expense increased $2.2 million, or 16.0%, to $16.1 million for the three months ended September 30, 2022 compared to $13.9 million for the three months ended September 30, 2021. The increase primarily was due to a $2.0 million increase in salaries and employee benefits as a result of an increase in the number of full-time equivalent employees, primarily reflecting the recent acquisition of PEB in February, 2022, and to a lesser extent, increases in occupancy and equipment expense of $98,000 as a result of revaluing the right-of-use asset for the renewal of two lease agreements and increased utilities and lease related expenses , increases in data processing fees of $80,000 and other noninterest expenses of $37,000.
Noninterest expense for the nine months ended September 30, 2022 increased $8.3 million, or 19.9%, to $49.6 million from $41.4 million in the same period in 2021. Noninterest expense for the nine months ended September 30, 2022 included $3.1 million of nonrecurring acquisition-related expenses associated with the PEB Merger recorded in the first quarter of 2022, which were comprised of $556,000 in salary and employee benefits, $1.1 million in data processing expenses, $724,000 in professional and legal fees, $375,000 in occupancy and equipment expense and $347,000 other expenses.
Excluding acquisition-related expense, noninterest expense for the nine months ended September 30, 2022 increased $5.2 million compared to the nine months ended September 30, 2021 primarily as a result of a $4.0 million increase in salary and employee benefits due to increase in the number of full-time equivalent employees due to the PEB Merger and open positions that were filled this quarter, as well as increases in salaries and wages due to upward market pressure on wages. In addition, occupancy costs increased $403,000 primarily due to the PEB Merger, revaluing the right-of-use asset for the renewal of two lease agreements and increased utilities and lease related expenses. D ata processing expenses increased $194,000 due to higher transaction activity, and other noninterest expense increased $544,000 reflecting increased operating expenses as businesses reopened from COVID-19 related closures.
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The following table details the components of noninterest expense for the periods indicated:
Three months ended September 30,
2022
2021
$ Change
% Change
(Dollars in thousands)
Salaries and related benefits
$
10,164
$
8,163
$
2,001
24.5
%
Occupancy and equipment
2,043
1,945
98
5.0
%
Data processing
1,562
1,482
80
5.4
%
Other
2,327
2,290
37
1.6
%
Total noninterest expense
$
16,096
$
13,880
$
2,216
16.0
%
Nine months ended September 30,
2022
2021
$ Change
% Change
(Dollars in thousands)
Salaries and employee benefits
$
29,751
$
25,158
$
4,593
18.3
%
Occupancy and equipment
6,388
5,610
778
13.9
%
Data processing
5,502
4,235
1,267
29.9
%
Other
7,986
6,371
1,615
25.3
%
Total noninterest expense
$
49,627
$
41,374
$
8,253
19.9
%
Income taxes. The provision for income taxes increased $970,000, or 49.0%, to $3.0 million for the three months ended September 30, 2022 compared to $2.0 million for the three months ended September 30, 2021. For the nine months ended September 30, 2022, income tax expense increased $1.3 million, or 23.0%, to $7.0 million, compared to $5.7 million for the nine months ended September 30, 2021. The Company’s effective tax rate was 29.0% and 27.1% for three and nine months ended September 30, 2022 compared to 26.8% and 27.2% for the three and nine months ended September 30, 2021, respectively. The effective tax rate was higher for the third quarter of 2022 compared to the same quarter a year ago due to accrual for non-deductible compensation expenses that were not present in 2021. The effective tax rate was lower for the nine months ended September 30, 2022 compared to the same period a year ago primarily due to the non-taxable bargain purchase gain in the first quarter 2022.
Liquidity and Capital Resources
Planning for our normal business liquidity needs, both expected and unexpected, is done on a daily and short-term basis through the cash management function. On a longer-term basis, it is accomplished through the budget and strategic planning functions, with support from internal asset/liability management software model projections.
Management maintains a liquidity position that it believes will adequately provide funding for loan demand and deposit run off that may occur in the normal course of business. We rely on a number of different sources in order to meet our potential liquidity demands. Our primary sources of funds are deposits, escrow and custodial deposits, principal and interest payments on loans and proceeds from sale of loans. During the nine months ended September 30, 2022, the Bank sold $33.4 million in loans and loan participation interests and received $409.2 million in principal loan repayments. While maturities and scheduled amortization of loans are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by market interest rates, economic conditions, and competition.
Recently, the Bank’s liquidity has been positively impacted by an increase in deposit levels. During the nine months ended September 30, 2022, deposits increased by $130.2 million, primarily due to the closing of the PEB Merger. Liquid assets in the form of cash and cash equivalents, time deposits in banks, and investment securities available for sale totaled $394.4 million at September 30, 2022. Management believes that our security portfolio is of high quality and the securities would therefore be marketable. Securities purchased during the three and nine months ended September 30, 2022, totaled $1.0 million and $25.7 million, respectively, and securities repayments, maturities and sales in the period were $3.7 million and $9.2 million, respectively. Certificates of deposit scheduled to mature in one year or less at September 30, 2022, totaled $158.9 million. It is management’s policy to manage deposit rates that are competitive with other local financial institutions. Based on this management strategy, we believe that most of our maturing certificates of deposit will remain with us.
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In addition to these primary sources of funds, management has several secondary sources available to meet potential funding requirements. As of September 30, 2022 , the Bank had an available borrowing capacity of $ 484.6 million with the FHLB of San Francisco and $35.4 million with the FRB of San Francisco, with no borrowings outstanding at that date. Federal Funds lines with available commitments totaling $65.0 million with four correspondent banks. There were no amounts outstanding under these facilities at September 30, 2022 and December 31, 2021 . Subject to market conditions, we expect to utilize these borrowing facilities from time to time in the future to fund loan originations and deposit withdrawals, to satisfy other financial commitments, repay maturing debt and to take advantage of investment opportunities to the extent feasible.
Liquidity management is both a daily and long-term function of the Company’s management. Excess liquidity is generally invested in short-term investments, such as overnight deposits and federal funds. On a longer-term basis, a strategy is maintained of investing in various lending products and investment securities, including U.S. Government obligations and U.S. agency securities. We use our sources of funds primarily to meet our ongoing commitments, pay maturing deposits and fund withdrawals, and to fund loan commitments. Loan commitments and letters of credit were $102.7 million, including $7.9 million of undisbursed construction and development loan commitments, at September 30, 2022. For information regarding our commitments, see “Note 18 – Commitments and Contingencies” of the Notes to Condensed Consolidated Financial Statements included in “Item 1. Financial Information” of Part I of this report.
Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. Net cash provided by operating activities for the nine months ended September 30, 2022 was $23.8 million, compared to $5.4 million provided by operating activities for the nine months ended September 30, 2021. During the nine months ended September 30, 2022, net cash provided by investing activities was $82.6 million, which consisted primarily of net change in loans receivable, compared to $13.2 million of cash used in investing activities for the nine months ended September 30, 2021. Net cash used in financing activities for the nine months ended September 30, 2022 was $261.4 million, which was comprised primarily of net change in deposits, compared to $152.9 million provided by financing activities during the nine months ended September 30, 2021. Management believes the capital sources are adequate to meet all reasonably foreseeable short-term and long-term cash requirements and there has not been a material change in our liquidity and capital resources since the information disclosed in our 2021 Annual Form 10-K other than set forth above. We are not aware of any reasonably likely material changes in the mix and relative cost of such resources.
The Company is a separate legal entity from the Bank and must provide for its own liquidity. At September 30, 2022, the Company, on an unconsolidated basis, had liquid assets of $25.5 million. In addition to its operating expenses, the Company is responsible for paying any dividends declared, if any, to its shareholders, funds paid for Company stock repurchases, and payments on trust-preferred securities and subordinated notes held at the Company level. The Company has the ability to receive dividends or capital distributions from the Bank, although there are regulatory restrictions on the ability of the Bank to pay dividends.
On August 18, 2022, the Company announced that its Board of Directors declared a quarterly cash dividend of $0.05 per share on the Company’s outstanding common stock, payable on October 14, 2022 to shareholders of record as of the close of business on September 16, 2022. The Company expects to continue to pay quarterly cash dividends on its common stock subject to the Board of Director’s discretion to modify or terminate this practice at any time and for any reason without prior notice. Assuming continued payment of the cash dividend at this rate of $0.05 per share, our average total dividend paid each quarter would be approximately $658,000 based on the number of our current outstanding shares (which assumes no increases or decreases in the number of shares, except in connection with the anticipated vesting of currently outstanding equity awards). The dividends, if any, we may pay may be limited as more fully discussed under “Business – Supervision and Regulation – BayCom Corp – Dividends” and “– Regulatory Capital Requirements” contained in “Part I. Item 1. Business” of the 2021 Annual Report.
From time to time, our Board of Directors has authorized stock repurchase plans. In general, stock repurchase plans allow us to proactively manage our capital position and return excess capital to shareholders. Shares purchased under such plans may also provide us with shares of common stock necessary to satisfy obligations related to stock compensation awards. In December 2021, the Company’s board of directors approved its fifth stock repurchase program pursuant to which the Company was authorized to repurchase up to 747,000 shares, or approximately 7.0%, of its outstanding common stock, of which 73,777 shares remained available for repurchase at September 30, 2022. In October 2022, our Board of
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Directors approved a sixth stock repurchase program to commence following completion of the fifth stock repurchase program for the repurchase of up to 645,000 shares, or approximately 5.0% of the Company’s outstanding common stock, over a one year period through open market purchases, privately-negotiated transactions, or otherwise in compliance with Rule 10b-18 under the Securities Exchange Act of 1934. This repurchase program may be suspended, terminated or modified at any time for any reason, including market conditions, the cost of repurchasing shares, the availability of alternative investment opportunities, liquidity, and other factors deemed appropriate. The sixth stock repurchase program does not obligate the Company to purchase any particular number of shares. For additional information on the Company’s stock repurchases, see “Item 2. Unregistered Sales of Equity Securities and Use of Proceeds” contained in Part II of this report.
Regulatory Capital
The Bank, as a state-chartered, federally insured commercial bank, and member of the Board of Governors of the Federal Reserve System is subject to capital requirements established by the Federal Reserve. The Federal Reserve requires the Bank to maintain capital adequacy that generally parallels the FDIC requirements. The capital adequacy requirements are quantitative measures established by regulation that require the Bank to maintain minimum amounts and ratios of capital. The FDIC requires the Bank to maintain minimum ratios of Total Capital, Tier 1 Capital, and Common Equity Tier 1 Capital to risk-weighted assets as well as Tier 1 Leverage Capital to average assets. Consistent with our goal to operate a sound and profitable organization, our policy is for the Bank to maintain “Well Capitalized” status under the Federal Reserve regulations. Based on capital levels at September 30, 2022 and December 31, 2021, the Bank was considered to be Well Capitalized.
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The table below shows the capital ratios under the Basel III capital framework as of the dates indicated:
At September 30, 2022
At December 31, 2021
Amount
Ratio
Amount
Ratio
(Dollars in thousands)
Leverage Ratio
BayCom Corp
$
283,016
11.44
%
$
213,787
9.60
%
Minimum requirement for “Well Capitalized”
123,748
5.00
%
111,349
5.00
%
Minimum regulatory requirement
98,998
4.00
%
89,079
4.00
%
United Business Bank
327,231
12.90
%
250,624
10.87
%
Minimum requirement for “Well Capitalized”
126,851
5.00
%
115,295
5.00
%
Minimum regulatory requirement
101,481
4.00
%
92,236
4.00
%
Common Equity Tier 1 Ratio
BayCom Corp
283,016
13.84
%
213,787
12.31
%
Minimum requirement for “Well Capitalized”
132,899
6.50
%
112,856
6.50
%
Minimum regulatory requirement
92,007
4.50
%
78,131
4.50
%
United Business Bank
327,231
16.16
%
250,624
14.60
%
Minimum requirement for “Well Capitalized”
131,634
6.50
%
111,543
6.50
%
Minimum regulatory requirement
91,131
4.50
%
77,222
4.50
%
Tier 1 Risk-Based Capital Ratio
BayCom Corp
292,501
14.31
%
223,272
12.86
%
Minimum requirement for “Well Capitalized”
163,568
8.00
%
138,900
8.00
%
Minimum regulatory requirement
122,676
6.00
%
104,175
6.00
%
United Business Bank
327,231
16.16
%
250,624
14.60
%
Minimum requirement for “Well Capitalized”
162,011
8.00
%
137,283
8.00
%
Minimum regulatory requirement
121,509
6.00
%
102,962
6.00
%
Total Risk-Based Capital Ratio
BayCom Corp
375,866
18.38
%
306,287
17.64
%
Minimum requirement for “Well Capitalized”
204,460
10.00
%
173,625
10.00
%
Minimum regulatory requirement
163,568
8.00
%
138,900
8.00
%
United Business Bank
345,596
17.07
%
268,639
15.65
%
Minimum requirement for “Well Capitalized”
202,514
10.00
%
171,604
10.00
%
Minimum regulatory requirement
162,011
8.00
%
137,283
8.00
%
In addition to the minimum capital ratios, the Bank has to maintain a capital conservation buffer consisting of additional Common Equity Tier 1 capital greater than 2.5% above the required minimum levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses based on percentages of eligible retained income that could be utilized for such actions. At September 30, 2022, the Bank’s Common Equity Tier 1 capital exceeded the required capital conservation buffer.
For a bank holding company with less than $3.0 billion in assets, the capital guidelines apply on a bank only basis and the Federal Reserve expects the holding company’s subsidiary banks to be Well Capitalized under the prompt corrective action regulations. If the Company was subject to regulatory guidelines for bank holding companies with $3.0 billion or more in assets, at September 30, 2022, the Company would have exceeded all regulatory capital requirements.
For additional information, see “Item 1. Business — Supervision and Regulation — United Business Bank — Capital Requirements” and Note 19, “Regulatory Matters” in the Notes to the Consolidated Financial Statements, included in “Item 8. Financial Statements and Supplementary Data” in the 2021 Annual Report.
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.